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EX-31.1 - EXHIBIT 31.1 - ALLIANCEBERNSTEIN L.P.a93016exhibit311.htm
EX-32.2 - EXHIBIT 32.2 - ALLIANCEBERNSTEIN L.P.a93016exhibit322.htm
EX-32.1 - EXHIBIT 32.1 - ALLIANCEBERNSTEIN L.P.a93016exhibit321.htm
EX-31.2 - EXHIBIT 31.2 - ALLIANCEBERNSTEIN L.P.a93016exhibit312.htm

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC  20549
FORM 10-Q
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2016
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                         to
Commission File No.  000-29961
ALLIANCEBERNSTEIN L.P.
(Exact name of registrant as specified in its charter)
Delaware
 
13-4064930
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
1345 Avenue of the Americas, New York, NY  10105
(Address of principal executive offices)
(Zip Code)
(212) 969-1000
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes
x
 
No
o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes
x

 
No
o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See definition of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o
 
Accelerated filer o
 
 
 
Non-accelerated filer x (Do not check if a smaller reporting company)
 
Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes
o
 
No
x
 
The number of units of limited partnership interest outstanding as of September 30, 2016 was 267,058,919.




ALLIANCEBERNSTEIN L.P.
Index to Form 10-Q

 
 
Page
 
 
 
 
Part I
 
 
 
 
 
FINANCIAL INFORMATION
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
Part II
 
 
 
 
 
OTHER INFORMATION
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.
 
 
 




Part I
FINANCIAL INFORMATION
Item 1. Financial Statements
ALLIANCEBERNSTEIN L.P.
AND SUBSIDIARIES
Condensed Consolidated Statements of Financial Condition
(in thousands, except unit amounts)
 
September 30,
2016
 
December 31,
2015
 
(unaudited)
 
 
ASSETS
 
 
 
Cash and cash equivalents
$
795,547

 
$
541,483

Cash and securities segregated, at fair value (cost: $491,907 and $565,264)
492,022

 
565,274

Receivables, net:
 

 
 

Brokers and dealers
328,668

 
411,174

Brokerage clients
1,513,830

 
1,328,406

Fees
252,525

 
257,091

Investments:
 

 
 

Long-term incentive compensation-related
67,507

 
78,154

Other
421,881

 
591,646

Assets of consolidated variable interest entities:
 
 
 
   Cash and cash equivalents
42,615

 

   Investments
205,104

 

   Other assets
41,553

 

Furniture, equipment and leasehold improvements, net
159,759

 
160,360

Goodwill
3,076,700

 
3,044,807

Intangible assets, net
126,428

 
145,710

Deferred sales commissions, net
69,635

 
99,070

Other assets
253,244

 
210,546

Total assets
$
7,847,018

 
$
7,433,721

 
 
 
 
LIABILITIES, REDEEMABLE NON-CONTROLLING INTEREST AND CAPITAL
 

 
 

Liabilities:
 

 
 

Payables:
 

 
 

Brokers and dealers
$
214,036

 
$
191,990

Securities sold not yet purchased
29,216

 
16,097

Brokerage clients
1,851,989

 
1,715,096

AB mutual funds
138,851

 
137,886

Accounts payable and accrued expenses
499,852

 
507,449

Liabilities of consolidated variable interest entities
55,268

 

Accrued compensation and benefits
576,319

 
253,079

Debt
386,952

 
581,700

Total liabilities
3,752,483

 
3,403,297

 
 
 
 
Commitments and contingencies (See Note 12)


 


 
 
 
 
Redeemable non-controlling interest
139,798

 
13,203


1


 
 
 
 
Capital:
 

 
 

General Partner
39,800

 
40,498

Limited partners: 267,058,919 and 272,301,827 units issued and outstanding
4,024,884

 
4,091,433

Receivables from affiliates
(13,566
)
 
(14,498
)
AB Holding Units held for long-term incentive compensation plans
(32,334
)
 
(29,332
)
Accumulated other comprehensive loss
(94,596
)
 
(95,353
)
Partners’ capital attributable to AB Unitholders
3,924,188

 
3,992,748

Non-redeemable non-controlling interests in consolidated entities
30,549

 
24,473

Total capital
3,954,737

 
4,017,221

Total liabilities, redeemable non-controlling interest and capital
$
7,847,018

 
$
7,433,721

 
See Accompanying Notes to Condensed Consolidated Financial Statements.

2


ALLIANCEBERNSTEIN L.P.
AND SUBSIDIARIES
Condensed Consolidated Statements of Income
(in thousands, except per unit amounts)
(unaudited)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Revenues:
 
 
 
 
 
 
 
Investment advisory and services fees
$
489,393

 
$
486,286

 
$
1,417,856

 
$
1,496,198

Bernstein research services
110,885

 
127,065

 
352,403

 
375,021

Distribution revenues
97,625

 
105,365

 
287,638

 
326,399

Dividend and interest income
7,876

 
5,459

 
22,943

 
16,220

Investment gains (losses)
17,606

 
(10,326
)
 
85,469

 
5,555

Other revenues
26,272

 
25,647

 
82,229

 
76,660

Total revenues
749,657

 
739,496

 
2,248,538

 
2,296,053

Less: Interest expense
2,066

 
803

 
6,015

 
2,052

Net revenues
747,591

 
738,693

 
2,242,523

 
2,294,001

 
 
 
 
 
 
 
 
Expenses:
 

 
 

 
 

 
 

Employee compensation and benefits
316,737

 
317,560

 
927,997

 
981,527

Promotion and servicing:
 

 
 

 
 

 
 

Distribution-related payments
95,844

 
96,690

 
276,188

 
299,654

Amortization of deferred sales commissions
9,787

 
12,359

 
31,606

 
37,471

Other
47,205

 
52,789

 
156,763

 
167,508

General and administrative:
 

 
 

 
 

 
 

General and administrative
106,504

 
107,996

 
322,184

 
323,421

Real estate (credits) charges
(140
)
 
1,682

 
24,645

 
1,219

Contingent payment arrangements
(21,129
)
 
443

 
(20,423
)
 
1,328

Interest on borrowings
1,009

 
712

 
3,293

 
2,302

Amortization of intangible assets
6,465

 
6,411

 
19,344

 
19,384

Total expenses
562,282

 
596,642

 
1,741,597

 
1,833,814

 
 
 
 
 
 
 
 
Operating income
185,309

 
142,051

 
500,926

 
460,187

 
 
 
 
 
 
 
 
Income taxes
11,578

 
11,814

 
37,315

 
34,775

 
 
 
 
 
 
 
 
Net income
173,731

 
130,237

 
463,611

 
425,412

 
 
 
 
 
 
 
 
Net income (loss) of consolidated entities attributable to non-controlling interests
15,696

 
(3,071
)
 
14,791

 
4,879

 
 
 
 
 
 
 
 
Net income attributable to AB Unitholders
$
158,035

 
$
133,308

 
$
448,820

 
$
420,533

 
 
 
 
 
 
 
 
Net income per AB Unit:
 

 
 

 
 

 
 

Basic
$
0.58

 
$
0.49

 
$
1.65

 
$
1.53

Diluted
$
0.58

 
$
0.48

 
$
1.64

 
$
1.52


See Accompanying Notes to Condensed Consolidated Financial Statements.

3


ALLIANCEBERNSTEIN L.P.
AND SUBSIDIARIES
Condensed Consolidated Statements of Comprehensive Income
(in thousands)
(unaudited)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
 
 
 
 
 
 
 
Net income
$
173,731

 
$
130,237

 
$
463,611

 
$
425,412

Other comprehensive income (loss):
 

 
 

 
 
 
 
 Foreign currency translation adjustment, before reclassification and tax
437

 
(7,161
)
 
539

 
(11,838
)
Less: reclassification adjustment for (losses) gains included in net income upon liquidation
(6
)
 

 
(6
)
 
1,542

Foreign currency translation adjustments, before tax
443

 
(7,161
)
 
545

 
(13,380
)
Income tax expense

 

 

 

Foreign currency translation adjustments, net of tax
443

 
(7,161
)
 
545

 
(13,380
)
Unrealized gains (losses) on investments:
 

 
 

 
 
 
 
Unrealized gains (losses) arising during period
12

 
(11
)
 
(7
)
 
(352
)
Less: reclassification adjustment for (losses) gains included in net income
(7
)
 
1,270

 
(10
)
 
1,270

Change in unrealized gains (losses) on investments
19

 
(1,281
)
 
3

 
(1,622
)
Income tax (expense) benefit
(8
)
 
420

 
(5
)
 
700

Unrealized gains (losses) on investments, net of tax
11

 
(861
)
 
(2
)
 
(922
)
Changes in employee benefit related items:
 

 
 

 
 
 
 
Amortization of prior service cost
6

 

 
87

 

Recognized actuarial gain
244

 
251

 
202

 
726

Changes in employee benefit related items
250

 
251

 
289

 
726

Income tax benefit (expense)
24

 
(22
)
 
(51
)
 
(87
)
Employee benefit related items, net of tax
274

 
229

 
238

 
639

Other comprehensive income (loss)
728

 
(7,793
)
 
781

 
(13,663
)
Less: Comprehensive income (loss) in consolidated entities attributable to non-controlling interests
15,725

 
(3,109
)
 
14,815

 
4,782

Comprehensive income attributable to AB Unitholders
$
158,734

 
$
125,553

 
$
449,577

 
$
406,967

 
See Accompanying Notes to Condensed Consolidated Financial Statements.


4



ALLIANCEBERNSTEIN L.P. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
 
Nine Months Ended September 30,
 
2016
 
2015
Cash flows from operating activities:
 
 
 
Net income
$
463,611

 
$
425,412

 
 
 
 
Adjustments to reconcile net income to net cash provided by operating activities:
 

 
 

Amortization of deferred sales commissions
31,606

 
37,471

Non-cash long-term incentive compensation expense
6,530

 
12,122

Depreciation and other amortization
44,010

 
42,388

Unrealized (gains) losses on investments
(27,659
)
 
37,438

Unrealized (gains) on investments of consolidated variable interest entities
(16,675
)
 

Other, net
8,099

 
(11,067
)
Changes in assets and liabilities:
 

 
 

Consolidation of cash and cash equivalents of consolidated variable interest entities, net
8,512

 

Decrease in segregated cash and securities
73,252

 
94,693

(Increase) in receivables
(206,052
)
 
(1,574
)
Decrease in investments
184,655

 
38,959

(Increase) in investments of consolidated variable interest entities
(34,576
)
 

(Increase) in deferred sales commissions
(2,171
)
 
(27,862
)
(Increase) in other assets
(40,933
)
 
(64,041
)
(Increase) in other assets and liabilities of consolidated variable interest entities
(1,791
)
 

Increase (decrease) in payables
268,937

 
(125,494
)
Increase (decrease) in accounts payable and accrued expenses
59,950

 
(10,234
)
Increase in accrued compensation and benefits
322,600

 
356,083

Net cash provided by operating activities
1,141,905

 
804,294

 
 
 
 
Cash flows from investing activities:
 

 
 

Purchases of investments

 
(86
)
Proceeds from sales of investments
191

 
4,189

Purchases of furniture, equipment and leasehold improvements
(28,318
)
 
(17,084
)
Proceeds from sales of furniture, equipment and leasehold improvements
14

 
36

Purchase of business, net of cash acquired
(20,541
)
 

Net cash used in investing activities
(48,654
)
 
(12,945
)
 
 
 
 
Cash flows from financing activities:
 

 
 

(Repayment) of commercial paper, net
(197,064
)
 
(132,843
)
(Decrease) increase in overdrafts payable
(74,837
)
 
17,781

Distributions to General Partner and Unitholders
(400,441
)
 
(461,956
)
Capital contributions from (to) non-controlling interests in consolidated entities
364

 
(10,159
)
Redemptions of non-controlling interests of consolidated VIEs, net
(39,527
)
 

Capital contributions from affiliates
439

 
214

Payments of contingent payment arrangements/purchase of shares
(1,693
)
 
(4,820
)
Additional investments by AB Holding with proceeds from exercise of compensatory options to buy AB Holding Units
2,371

 
8,979

Purchases of AB Holding Units to fund long-term incentive compensation plan awards, net
(128,778
)
 
(99,590
)
Purchases of AB Units
(359
)
 
(802
)
Other
(19
)
 
(20
)
Net cash used in financing activities
(839,544
)
 
(683,216
)

5


 
 
 
 
 
 
 
 
Effect of exchange rate changes on cash and cash equivalents
7,155

 
(8,925
)
 
 
 
 
Net increase in cash and cash equivalents
260,862

 
99,208

Cash and cash equivalents as of beginning of the period
577,300

 
555,503

Cash and cash equivalents as of end of the period
$
838,162

 
$
654,711

 
 
 
 
See Accompanying Notes to Condensed Consolidated Financial Statements.

6


ALLIANCEBERNSTEIN L.P.
AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2016
(unaudited)

The words “we” and “our” refer collectively to AllianceBernstein L.P. and its subsidiaries (“AB”), or to their officers and employees. Similarly, the word “company” refers to AB. These statements should be read in conjunction with AB’s audited consolidated financial statements included in AB’s Form 10-K for the year ended December 31, 2015.

1. Business Description Organization and Basis of Presentation

Business Description

We provide research, diversified investment management and related services globally to a broad range of clients. Our principal services include:

Institutional Services – servicing our institutional clients, including private and public pension plans, foundations and endowments, insurance companies, central banks and governments worldwide, and affiliates such as AXA and its subsidiaries, by means of separately-managed accounts, sub-advisory relationships, structured products, collective investment trusts, mutual funds, hedge funds and other investment vehicles.

Retail Services – servicing our retail clients, primarily by means of retail mutual funds sponsored by AB or an affiliated company, sub-advisory relationships with mutual funds sponsored by third parties, separately-managed account programs sponsored by financial intermediaries worldwide and other investment vehicles.

Private Wealth Management Services – servicing our private clients, including high-net-worth individuals and families, trusts and estates, charitable foundations, partnerships, private and family corporations, and other entities, by means of separately-managed accounts, hedge funds, mutual funds and other investment vehicles.

Bernstein Research Services – servicing institutional investors, such as pension fund, hedge fund and mutual fund managers, seeking high-quality fundamental research, quantitative services and brokerage-related services in equities and listed options.

We also provide distribution, shareholder servicing, transfer agency services and administrative services to the mutual funds we sponsor.
 
Our high-quality, in-depth research is the foundation of our business.  Our research disciplines include economic, fundamental equity, fixed income and quantitative research.  In addition, we have experts focused on multi-asset strategies, wealth management and alternative investments.

We provide a broad range of investment services with expertise in:

Actively-managed equity strategies, with global and regional portfolios across capitalization ranges and investment strategies, including value, growth and core equities;

Actively-managed traditional and unconstrained fixed income strategies, including taxable and tax-exempt strategies;

Passive management, including index and enhanced index strategies;

Alternative investments, including hedge funds, fund of funds and private equity (e.g., direct real estate investing); and

Multi-asset solutions and services, including dynamic asset allocation, customized target-date funds and target-risk funds.

Our services span various investment disciplines, including market capitalization (e.g., large-, mid- and small-cap equities), term (e.g., long-, intermediate- and short-duration debt securities), and geographic location (e.g., U.S., international, global, emerging markets, regional and local), in major markets around the world.

7



Organization

As of September 30, 2016, AXA, a société anonyme organized under the laws of France and the holding company for the AXA Group, a worldwide leader in financial protection, through certain of its subsidiaries (“AXA and its subsidiaries”), owns approximately 1.5% of the issued and outstanding units representing assignments of beneficial ownership of limited partnership interests in AllianceBernstein Holding L.P. (“AB Holding Units”).

As of September 30, 2016, the ownership structure of AB, expressed as a percentage of general and limited partnership interests, is as follows:

AXA and its subsidiaries
63.6
%
AB Holding
35.1

Unaffiliated holders
1.3

 
100.0
%

AllianceBernstein Corporation (an indirect wholly-owned subsidiary of AXA, “General Partner”) is the general partner of both AllianceBernstein Holding L.P. (“AB Holding”) and AB. AllianceBernstein Corporation owns 100,000 general partnership units in AB Holding and a 1% general partnership interest in AB. Including both the general partnership and limited partnership interests in AB Holding and AB, AXA and its subsidiaries had an approximate 64.2% economic interest in AB as of September 30, 2016.

Basis of Presentation

The interim condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”). In the opinion of management, all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the interim results, have been made. The preparation of the condensed consolidated financial statements requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the interim reporting periods. Actual results could differ from those estimates. The condensed consolidated statement of financial condition as of December 31, 2015 was derived from audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America (“GAAP”).

The condensed consolidated financial statements include AB and its majority-owned and/or controlled subsidiaries, and the consolidated entities that are considered to be variable interest entities ("VIEs") and for which AB is considered the primary beneficiary. Non-controlling interests on the condensed consolidated statements of financial condition includes the portion of consolidated company-sponsored investment funds in which we do not have direct equity ownership. All significant inter-company transactions and balances among the consolidated entities have been eliminated.

Revision

During the third quarter of 2016, management determined that the frequency with which we settle our U.S. inter-company payable balances with foreign subsidiaries over the past several years created deemed dividends under Section 956 of the U.S. Internal Revenue Code of 1986, as amended ("Section 956"). In the past, we funded our foreign subsidiaries as they required cash for their operations rather than pre-fund them each quarter, thereby reducing the inter-company balance to zero on a quarterly basis, as required by Section 956. As a result, we have been understating our income tax provision and income tax liability since 2010. We evaluated the aggregate effects of this error in our income tax provision and income tax liability to our previously issued financial statements in accordance with SEC Staff Accounting Bulletins No. 99 and No. 108 and, based upon quantitative and qualitative factors, have determined that the error was not material to our previously issued financial statements. However, the cumulative effect of this error would be material to our third quarter 2016 financial results if recorded as an out-of-period adjustment in the third quarter of 2016. Accordingly, we have revised our previously issued financial statements that are included in this Form 10-Q.

In regard to our revision to correct previously issued financial statements, we recorded a cumulative adjustment to our January 1, 2012 partners' capital account and revised our consolidated statements of financial condition and consolidated statements of income from 2012 through the second quarter of 2016. As a result, we have established an income tax liability, including

8


interest and potential penalties, of $45.6 million as of September 30, 2016. As of December 31, 2015, the cumulative impact of the revision on partners’ capital in the condensed consolidated statement of financial condition was $37.7 million. We revised our income tax provision, net income attributable to AB Unitholders, and basic and diluted net income per AB Unit reported in prior periods in the condensed consolidated statements of income. The tables below reflect the revisions to these line items for the three months and nine months ended September 30, 2015 presented in this Form 10-Q, as well as the six months ended June 30, 2016, which impacted the financial results for the nine months ended September 30, 2016. Other periods that have been revised, including the three months ended June 30, 2016, will appear in our future annual and quarterly filings.

 
 
Three Months Ended September 30, 2015
 
 
As Reported
 
Adjustment
 
As Revised
 
 
(in thousands, except per unit amounts)
 
 
 
 
 
 
 
Income taxes
 
$
10,146

 
$
1,668

 
$
11,814

Net income attributable to AB Unitholders
 
134,976

 
(1,668
)
 
133,308

Basic net income per AB Unit
 
0.49

 

 
0.49

Diluted net income per AB Unit
 
0.49

 
(0.01
)
 
0.48


 
 
Nine Months Ended September 30, 2015
 
 
As Reported
 
Adjustment
 
As Revised
 
 
(in thousands, except per unit amounts)
 
 
 
 
 
 
 
Income taxes
 
$
29,769

 
$
5,006

 
$
34,775

Net income attributable to AB Unitholders
 
425,539

 
(5,006
)
 
420,533

Basic net income per AB Unit
 
1.55

 
(0.02
)
 
1.53

Diluted net income per AB Unit
 
1.54

 
(0.02
)
 
1.52


 
 
Six Months Ended June 30, 2016
 
 
As Reported
 
Adjustment
 
As Revised
 
 
(in thousands, except per unit amounts)
 
 
 
 
 
 
 
Income taxes
 
$
20,452

 
$
5,285

 
$
25,737

Net income attributable to AB Unitholders
 
296,070

 
(5,285
)
 
290,785

Basic net income per AB Unit
 
1.08

 
(0.02
)
 
1.06

Diluted net income per AB Unit
 
1.08

 
(0.02
)
 
1.06


We provide income taxes on the undistributed earnings of non-U.S. corporate subsidiaries except to the extent that such earnings are permanently invested outside the United States. As a result of the deemed dividend adjustment discussed above, the accumulated undistributed earnings of non-U.S. corporate subsidiaries permanently invested outside the U.S. of $892.0 million as of December 31, 2015 will decrease significantly as of December 31, 2016.

2.
Significant Accounting Policies

Recently Adopted Accounting Pronouncements

In February 2015, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2015-02, Consolidation – Amendments to the Consolidation Analysis ("ASU 2015-02"), which provides a new consolidation standard for evaluating: (i) limited partnerships and similar entities for consolidation, (ii) how decision maker or service provider fees affect the consolidation analysis, (iii) how interest held by related parties affect the consolidation analysis and (iv) how the consolidation analysis applies to certain investment funds. We adopted ASU 2015-02 using the modified retrospective method with an effective adoption date of January 1, 2016, which did not require the restatement of prior-year periods. The adoption of ASU 2015-02 resulted in the consolidation of certain investment funds that were not previously consolidated. These funds became consolidated VIEs because we are considered the party with both (i) the power to direct the activities of the VIE that most significantly impact its economic performance and (ii) the obligation to absorb losses of

9


the entity or the right to receive benefits from the entity that could potentially be significant to the VIE. See Consolidation of VIEs below.

In April 2015, the FASB issued ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs. This standard requires debt issuance costs be presented in the balance sheet as a direct deduction from the carrying value of the associated debt liability, consistent with the presentation of a debt discount. We adopted this standard on January 1, 2016 on a retrospective basis, which required the restatement of prior periods. The adoption of this standard did not have a material impact on our financial condition or results of operations.

In May 2015, the FASB issued ASU 2015-07, Fair Value Measurement : Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent). This standard removes the requirement to categorize within the fair value hierarchy all investments for which fair value is measured using the net asset value ("NAV") per share practical expedient. We adopted this standard on January 1, 2016 on a retrospective basis, which required the restatement of prior-period disclosures. The adoption of this standard did not have a material impact on our financial condition or results of operations.

Accounting Pronouncements Not Yet Adopted

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers. The amendment is effective retrospectively for fiscal years (and interim reporting periods within those years) beginning after December 15, 2017. Management currently is evaluating the impact that the adoption of this standard will have on our consolidated financial statements. We expect to have this evaluation completed in the fourth quarter of 2016.

In January 2016, the FASB issued ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities. The amendment addresses certain aspects of recognition, measurement, presentation and disclosure of financial instruments and is effective for fiscal years (and interim periods within those years) beginning after December 15, 2017. The amendment will result in a cumulative-effect adjustment to the balance sheet as of the beginning of the fiscal year of adoption, except for one provision relating to equity securities without readily determinable fair values, which provision will be applied prospectively. The amendment is not expected to have a material impact on our financial condition or results of operations.

In February 2016, the FASB issued ASU 2016-02, Leases. The amendment requires recognition of lease assets and lease liabilities on the statement of financial condition and disclosure of key information about leasing arrangements. Specifically, this guidance requires an operating lease lessee to recognize on the statement of financial condition a liability to make lease payments and a right-of-use asset representing its right to use the underlying asset for the lease term. However, for leases with a term of twelve months or less, a lessee is permitted to make an accounting policy election not to recognize lease assets and lease liabilities. The amendment is effective for fiscal years (and interim periods within those years) beginning after December 15, 2018 and requires lessees to recognize and measure leases at the beginning of the earliest period presented in the financial statements using a modified retrospective approach. Management currently is evaluating the impact that the adoption of this standard will have on our consolidated financial statements.

In March 2016, the FASB issued ASU 2016-07, Investments - Equity Method and Joint Ventures: Simplifying the Transition to the Equity Method of Accounting. The amendment eliminates the current requirement for a retroactive adjustment and instead requires that the investor add the cost of acquiring the additional interest in the investee to the current basis of the investor's previously held interest and adopt the equity method of accounting as of the date the investment becomes qualified for equity method accounting. Additionally, the amendment requires that an entity that has an available-for-sale equity security that becomes qualified for the equity method of accounting recognize through earnings the unrealized holding gain or loss in accumulated other comprehensive income at the date the investment becomes qualified for use of the equity method. The amendment is effective for fiscal years (and interim periods within those years) beginning after December 15, 2016 and should be applied prospectively as of the effective date of increases in the level of ownership interest or degree of influence that result in the adoption of the equity method. The amendment is not expected to have a material impact on our financial condition or results of operations.

In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting. The amendment includes provisions intended to simplify various aspects related to how share-based payments are accounted for and presented in the financial statements, including income tax effects of share-based payments, minimum statutory tax withholding requirements and forfeitures. The amendment is effective for fiscal years (and interim periods within those years) beginning after December 15, 2016 and may be applied using various transition approaches (prospective, retrospective and modified retrospective). The amendment is not expected to have a material impact on our financial condition or results of operations.


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In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230). The amendment is intended to reduce diversity in practice in how certain transactions are classified in the statement of cash flows. The amendment is effective for fiscal years (and interim periods within those years) beginning after December 15, 2017 and should be applied using a retrospective transition method. The amendment is not expected to have a material impact on our financial condition or results or operations.

Consolidation of VIEs
As discussed above, we adopted ASU 2015-02 effective January 1, 2016.
For legal entities evaluated for consolidation, we first determine whether the fees we receive and the interests we hold qualify as a variable interest in the entity, including an evaluation of fees paid to us as a decision maker or service provider to the entity being evaluated. Fees received by us are not variable interests if (i) the fees are compensation for services provided and are commensurate with the level of effort required to provide those services, (ii) the service arrangement includes only terms, conditions or amounts that are customarily present in arrangements for similar services negotiated at arm’s length, and (iii) our other economic interests in the entity held directly and indirectly through our related parties, as well as economic interests held by related parties under common control, would not absorb more than an insignificant amount of the entity’s losses or receive more than an insignificant amount of the entity’s benefits.
For those entities in which we have a variable interest, we perform an analysis to determine whether the entity is a VIE by considering whether the entity’s equity investment at risk is insufficient, whether the investors lack decision making rights proportional to their ownership percentage of the entity, and whether the investors lack the obligation to absorb an entity’s expected losses or the right to receive an entity’s expected income.
A VIE must be consolidated by its primary beneficiary, which generally is defined as the party that has a controlling financial interest in the VIE. We are deemed to have a controlling financial interest in a VIE if we have (i) the power to direct the activities of the VIE that most significantly affect the VIE's economic performance and (ii) the obligation to absorb losses of the VIE or the right to receive income from the VIE that could potentially be significant to the VIE. For purposes of evaluating (ii) above, fees paid to us as a decision maker or service provider are excluded if the fees are compensation for services provided commensurate with the level of effort required to be performed and the arrangement includes only customary terms, conditions or amounts present in arrangements for similar services negotiated at arm’s length. The primary beneficiary evaluation generally is performed qualitatively based on all facts and circumstances, as well as quantitatively, as appropriate.
If we have a variable interest in an entity that is determined not to be a VIE, the entity is then evaluated for consolidation under the voting interest entity (“VOE”) model. For limited partnerships and similar entities, we are deemed to have a controlling financial interest in a VOE, and would be required to consolidate the entity, if we own a majority of the entity’s kick-out rights through voting limited partnership interests and limited partners do not hold substantive participating rights (or other rights that would indicate that we do not control the entity). For entities other than limited partnerships, we are deemed to have a controlling financial interest in a VOE if we own a majority voting interest in the entity.
The analysis performed regarding the determination of variable interests held, whether entities are VIEs or VOEs, and whether we have a controlling financial interest in such entities requires the exercise of judgment. The analysis is updated continuously as circumstances change or new entities are formed.
As a result of the adoption of ASU 2015-02, effective January 1, 2016, we consolidated three investment funds that were classified as VIEs in which we have a controlling financial interest. Ownership interests not held by us relating to these consolidated VIEs are included in redeemable non-controlling interest on the condensed consolidated statement of financial condition. In addition, effective January 1, 2016, we reclassified our consolidated private equity fund as a consolidated VIE, which had been consolidated as of December 31, 2015 under previous accounting guidance due to our controlling financial interest of a VOE. Ownership interests not held by us relating to this consolidated VIE, which is a closed-end fund, are included in non-controlling interest on the condensed consolidated statement of financial condition.
During the nine months ended September 30, 2016, subsequent to the initial adoption of ASU 2015-02, we consolidated two additional investment funds that were classified as VIEs in which we have a controlling interest and deconsolidated a VIE of which we were no longer the primary beneficiary. The table below illustrates the summary balance sheet amounts related to these VIEs at their consolidation dates:

11


 
 
January 1, 2016
 
Nine Months Ended September 30, 2016
 
 
ASU 2015-02 Adoption
 
VIEs Consolidated
 
VIEs De-consolidated
 
 
 
 
 
 
 
Cash and cash equivalents
 
$
35,817

 
$
21,435

 
$
(12,923
)
Investments
 
215,175

 
40,417

 
(125,636
)
Other assets
 
13,871

 
23,473

 
(59,684
)
Total assets
 
$
264,863

 
$
85,325

 
$
(198,243
)
 
 
 
 
 
 
 
Liabilities
 
$
14,012

 
$
41,245

 
$
(60,332
)
Redeemable non-controlling interest
 
250,851

 
44,080

 
(137,911
)
Total liabilities and redeemable non-controlling interest
 
$
264,863

 
$
85,325

 
$
(198,243
)
As of September 30, 2016, the net assets of company-sponsored investment products that are non-consolidated VIEs are approximately $43.0 billion, and our maximum risk of loss is our investment of $11.6 million in these VIEs and advisory fee receivables from these VIEs, which are not material.
3.
Long-term Incentive Compensation Plans

We maintain several unfunded, non-qualified long-term incentive compensation plans, under which we grant annual awards to employees, generally in the fourth quarter, and to members of the Board of Directors, who are not employed by us or any of our affiliates ("Eligible Directors").

We fund our restricted AB Holding Unit awards either by purchasing AB Holding Units on the open market or purchasing newly-issued AB Holding Units from AB Holding, and then keeping all of these AB Holding Units in a consolidated rabbi trust until delivering them or retiring them. In accordance with the Amended and Restated Agreement of Limited Partnership of AB (“AB Partnership Agreement”), when AB purchases newly-issued AB Holding Units from AB Holding, AB Holding is required to use the proceeds it receives from AB to purchase the equivalent number of newly-issued AB Units, thus increasing its percentage ownership interest in AB. AB Holding Units held in the consolidated rabbi trust are corporate assets in the name of the trust and are available to the general creditors of AB.

During the three and nine months ended September 30, 2016, we purchased 2.0 million and 5.8 million AB Holding Units for $45.2 million and $129.2 million, respectively (on a trade date basis). These amounts reflect open-market purchases of 2.0 million and 5.7 million AB Holding Units for $45.1 million and $127.1 million, respectively, with the remainder relating to purchases of AB Holding Units from employees to allow them to fulfill statutory tax withholding requirements at the time of delivery of long-term incentive compensation awards. During the three and nine months ended September 30, 2015, we purchased 3.0 million and 3.8 million AB Holding Units for $82.1 million and $103.4 million, respectively (on a trade date basis). These amounts reflected open-market purchases of 3.0 million and 3.7 million AB Holding Units for $82.1 million and $101.1 million, respectively, with the remainder relating to purchases of AB Holding Units from employees to allow them to fulfill statutory tax withholding requirements at the time of delivery of long-term incentive compensation awards. Purchases of AB Holding Units reflected on the consolidated statements of cash flows are net of AB Holding Unit purchases by employees as part of a distribution reinvestment election.

Each quarter, we implement plans to repurchase AB Holding Units pursuant to Rule 10b5-1 under the Securities Exchange Act of 1934, as amended (“Exchange Act”). A Rule 10b5-1 plan allows a company to repurchase its shares at times when it otherwise might be prevented from doing so because of self-imposed trading blackout periods or because it possesses material non-public information. Each broker we select has the authority under the terms and limitations specified in the plan to repurchase AB Holding Units on our behalf in accordance with the terms of the plan. Repurchases are subject to regulations promulgated by the SEC as well as certain price, market volume and timing constraints specified in the plan. The plan adopted during the third quarter of 2016 expired at the close of business on October 25, 2016. We may adopt additional Rule 10b5-1 plans in the future to engage in open-market purchases of AB Holding Units to help fund anticipated obligations under our incentive compensation award program and for other corporate purposes.


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During the first nine months of 2016 and 2015, we granted to employees and Eligible Directors 0.7 million and 0.3 million restricted AB Holding Unit awards, respectively. We used AB Holding Units repurchased during the period and newly-issued AB Holding Units to fund these awards.

During the first nine months of 2016 and 2015, AB Holding issued 0.1 million and 0.5 million AB Holding Units, respectively, upon exercise of options to buy AB Holding Units. AB Holding used the proceeds of $2.4 million and $9.0 million, respectively, received from employees as payment in cash for the exercise price to purchase the equivalent number of newly-issued AB Units.

4.
Cash Distributions

AB is required to distribute all of its Available Cash Flow, as defined in the AB Partnership Agreement, to its Unitholders and to the General Partner. Available Cash Flow can be summarized as the cash flow received by AB from operations minus such amounts as the General Partner determines, in its sole discretion, should be retained by AB for use in its business, or plus such amounts as the General Partner determines, in its sole discretion, should be released from previously retained cash flow.

Typically, Available Cash Flow has been the adjusted diluted net income per unit for the quarter multiplied by the number of general and limited partnership interests at the end of the quarter. In future periods, management anticipates that Available Cash Flow will be based on adjusted diluted net income per unit, unless management determines that one or more non-GAAP adjustments that are made for adjusted net income should not be made with respect to the Available Cash Flow calculation.

On October 26, 2016, the General Partner declared a distribution of $0.51 per AB Unit, representing a distribution of Available Cash Flow for the three months ended September 30, 2016. The General Partner, as a result of its 1% general partnership interest, is entitled to receive 1% of each distribution. The distribution is payable on November 17, 2016 to holders of record on November 7, 2016.


13



5.
Real Estate Charges

During 2010, we performed a comprehensive review of our real estate requirements in New York in connection with our workforce reductions, which commenced in 2008. As a result, during 2010 we decided to sub-lease over 380,000 square feet in New York (all of this space has been sublet) and consolidate our New York-based employees into two office locations from three. During the third quarter of 2012, in an effort to further reduce our global real estate footprint, we completed a comprehensive review of our worldwide office locations and began implementing a global space consolidation plan. As a result, we decided to sub-lease approximately 510,000 square feet of office space (all of this space has been sublet), more than 70% of which is New York office space (in addition to the 380,000 square foot space reduction in 2010), with the remainder consisting of office space in England, Australia and various U.S. locations.

During the first nine months of 2016, we recorded pre-tax real estate charges of $24.6 million, resulting from new charges of $26.7 million relating to the further consolidation of office space at our New York offices, offset by changes in estimates related to previously recorded real estate charges of $2.1 million.

The activity in the liability account relating to our 2010 and 2012 office space consolidation initiatives for the following periods is as follows:
 
 
Nine Months Ended
September 30, 2016
 
Twelve Months Ended
December 31, 2015
 
(in thousands)
 
 
 
 
Balance as of beginning of period
$
116,064

 
$
148,429

Expense (credit) incurred
(426
)
 
2,258

Payments made
(18,928
)
 
(38,920
)
Interest accretion
3,217

 
4,297

Balance as of end of period
$
99,927

 
$
116,064


6.
Net Income per Unit

Basic net income per unit is derived by reducing net income for the 1% general partnership interest and dividing the remaining 99% by the basic weighted average number of units outstanding for each period. Diluted net income per unit is derived by reducing net income for the 1% general partnership interest and dividing the remaining 99% by the total of the diluted weighted average number of units outstanding for each period.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands, except per unit amounts)
 
 
 
 
 
 
 
 
Net income attributable to AB Unitholders
$
158,035

 
$
133,308

 
$
448,820

 
$
420,533

 
 
 
 
 
 
 
 
Weighted average units outstanding – basic
268,133

 
271,911

 
269,896

 
272,530

Dilutive effect of compensatory options to buy AB Holding Units
590

 
970

 
554

 
1,113

Weighted average units outstanding – diluted
268,723

 
272,881

 
270,450

 
273,643

Basic net income per AB Unit
$
0.58

 
$
0.49

 
$
1.65

 
$
1.53

Diluted net income per AB Unit
$
0.58

 
$
0.48

 
$
1.64

 
$
1.52


For the three and nine months ended September 30, 2016, we excluded 2,873,106 options from the diluted net income per unit computation due to their anti-dilutive effect. For the three and nine months ended September 30, 2015, we excluded

14


2,771,250 and 2,383,589 options, respectively, from the diluted net income per unit computation due to their anti-dilutive effect.
 
7.
Cash and Securities Segregated Under Federal Regulations and Other Requirements

As of September 30, 2016 and December 31, 2015, $0.4 billion and $0.5 billion, respectively, of U.S. Treasury Bills were segregated in a special reserve bank custody account for the exclusive benefit of our brokerage customers under Rule 15c3-3 of the Exchange Act.

One of our subsidiaries, which serves as the distributor of our U.S. mutual funds, maintains several special bank accounts for the exclusive benefit of customers. As of September 30, 2016 and December 31, 2015, $47.5 million and $55.4 million, respectively, of cash was segregated in these bank accounts.


8.
Investments

Investments consist of:
 
 
 
 
September 30,
2016
 
December 31,
2015
 
(in thousands)
 
 
 
 
Available-for-sale
$
228

 
$
364

Trading:
 

 
 

Long-term incentive compensation-related
50,095

 
59,150

U.S. Treasury Bills
29,922

 
24,942

Seed capital
269,078

 
406,322

Equities
16,793

 
43,584

Exchange-traded options
3,549

 
5,910

Investments in limited partnership hedge funds:
 

 
 

Long-term incentive compensation-related
17,412

 
19,004

Seed capital
22,850

 
20,082

Consolidated private equity fund

 
23,897

Private equity
36,412

 
48,761

Investments held by consolidated VIEs
205,104

 

Time deposits
35,311

 
9,906

Other
7,738

 
7,878

Total investments
$
694,492

 
$
669,800


Total investments related to long-term incentive compensation obligations of $67.5 million and $78.2 million as of September 30, 2016 and December 31, 2015, respectively, consist of company-sponsored mutual funds and hedge funds. For long-term incentive compensation awards granted before 2009, we typically made investments in our services that were notionally elected by plan participants and maintained them (and continue to maintain them) in a consolidated rabbi trust or separate custodial account. The rabbi trust and custodial account enable us to hold such investments separate from our other assets for the purpose of settling our obligations to participants. The investments held in the rabbi trust and custodial account remain available to the general creditors of AB.

The underlying investments of the hedge funds in which we invest include long and short positions in equity securities, fixed income securities (including various agency and non-agency asset-based securities), currencies, commodities and derivatives (including various swaps and forward contracts). These investments are valued at quoted market prices or, where quoted market prices are not available, are fair valued based on the pricing policies and procedures of the underlying funds.

U.S. Treasury Bills, the majority of which are pledged as collateral with clearing organizations, are held in our investment account. These clearing organizations have the ability by contract or custom to sell or re-pledge this collateral.


15


We allocate seed capital to our investment teams to help develop new products and services for our clients. The seed capital trading investments are equity and fixed income products, primarily in the form of separately-managed account portfolios, U.S. mutual funds, Luxembourg funds, Japanese investment trust management funds or Delaware business trusts. We also may allocate seed capital to investments in private equity funds, such as our consolidated venture capital fund, which holds technology, media, telecommunications, healthcare and clean-tech investments, and a third-party venture capital fund that invests in communications, consumer, digital media, healthcare and information technology markets. As of September 30, 2016 and December 31, 2015, our seed capital investments were $401.0 million and $478.0 million, respectively.

Our consolidated venture capital fund, previously consolidated under the voting interest entity model, is considered a consolidated VIE effective January 1, 2016 upon the adoption of ASU 2015-02.

Trading securities also include long positions in corporate equities, an exchange-traded fund and long exchange-traded options traded through our options desk.

The portion of trading gains (losses) for the three and nine months ended September 30, 2016 and 2015 related to trading securities held as of September 30, 2016 and 2015 were as follows:

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
 
 
 
 
 
 
 
 
Net gains (losses) recognized during the period
$
9,052

 
$
(31,965
)
 
$
17,678

 
$
(26,613
)
Less: net gains (losses) recognized during the period on trading securities sold during the period
1,411

 
1,059

 
(11,285
)
 
7,612

Unrealized gains (losses) recognized during the period on trading securities held
$
7,641

 
$
(33,024
)
 
$
28,963

 
$
(34,225
)

9.
Derivative Instruments

We enter into various futures, forwards, options and swaps to economically hedge certain seed capital investments.  Also, we have currency forwards that economically hedge certain balance sheet exposures. In addition, our options desk trades long and short exchange-traded equity options. We do not hold any derivatives designated in a formal hedge relationship under Accounting Standards Codification (“ASC”) 815-10, Derivatives and Hedging.

The notional value and fair value as of September 30, 2016 and December 31, 2015 for derivative instruments (excluding derivative instruments relating to our options desk trading activities and consolidated VIEs discussed below) not designated as hedging instruments were as follows:


16


 
 
 
Fair Value
 
Notional Value
 
Asset Derivatives
 
Liability Derivatives
 
(in thousands)
September 30, 2016:
 
 
 
 
 
Exchange-traded futures
$
91,229

 
$
1,197

 
$
600

Currency forwards
137,224

 
3,275

 
3,437

Interest rate swaps
42,608

 
798

 
1,664

Credit default swaps
46,165

 
1,421

 
903

Total return swaps
85,572

 
253

 
446

Total derivatives
$
402,798

 
$
6,944

 
$
7,050

 
 
 
 
 
 
December 31, 2015:
 
 
 
 
 
Exchange-traded futures
$
160,755

 
$
1,539

 
$
2,651

Currency forwards
262,873

 
4,604

 
4,077

Interest rate swaps
65,484

 
2,945

 
3,745

Credit default swaps
29,421

 
2,089

 
774

Option swaps
24

 
9

 
2

Total return swaps
146,001

 
1,402

 
972

Total derivatives
$
664,558

 
$
12,588

 
$
12,221


As of September 30, 2016 and December 31, 2015, the derivative assets and liabilities are included in both receivables and payables to brokers and dealers on our condensed consolidated statements of financial condition.

The gains and losses for derivative instruments (excluding our options desk trading activities) for the three and nine months ended September 30, 2016 and 2015 recognized in investment gains (losses) in the condensed consolidated statements of income were as follows:

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
 
 
 
 
 
 
 
 
Exchange-traded futures
$
(4,975
)
 
$
16,683

 
$
(2,542
)
 
$
13,124

Currency forwards
(641
)
 
5,900

 
(2,461
)
 
8,058

Interest rate swaps
(251
)
 
(438
)
 
(2,182
)
 
(768
)
Credit default swaps
(352
)
 
422

 
(958
)
 
207

Options swaps
(157
)
 
80

 
(70
)
 
59

Total return swaps
(1,666
)
 
1,086

 
(8,438
)
 
(529
)
Net (losses) gains on derivative instruments
$
(8,042
)
 
$
23,733

 
$
(16,651
)
 
$
20,151


We may be exposed to credit-related losses in the event of nonperformance by counterparties to derivative financial instruments. We minimize our counterparty exposure through a credit review and approval process. In addition, we have executed various collateral arrangements with counterparties to the over-the-counter derivative transactions that require both pledging and accepting collateral in the form of cash. As of September 30, 2016 and December 31, 2015, we held $0.8 million and $1.5 million, respectively, of cash collateral payable to trade counterparties. This obligation to return cash is reported in payables to brokers and dealers in our condensed consolidated statements of financial condition.

Although notional amount is the most commonly used measure of volume in the derivative market, it is not used as a measure of credit risk. Generally, the current credit exposure of our derivative contracts is limited to the net positive estimated fair value of derivative contracts at the reporting date after taking into consideration the existence of netting agreements and any collateral received. A derivative with positive value (a derivative asset) indicates existence of credit risk because the counterparty would owe us if the contract were closed. Alternatively, a derivative contract with negative value (a derivative

17


liability) indicates we would owe money to the counterparty if the contract were closed. Generally, if there is more than one derivative transaction with a single counterparty, a master netting arrangement exists with respect to derivative transactions with that counterparty to provide for aggregate net settlement.

Certain of our standardized contracts for over-the-counter derivative transactions (“ISDA Master Agreements”) contain credit risk related contingent provisions pertaining to each counterparty’s credit rating. In some ISDA Master Agreements, if the counterparty’s credit rating, or in some agreements, our assets under management (“AUM”), falls below a specified threshold, either a default or a termination event permitting the counterparty to terminate the ISDA Master Agreement would be triggered. In all agreements that provide for collateralization, various levels of collateralization of net liability positions are applicable, depending on the credit rating of the counterparty. As of September 30, 2016 and December 31, 2015, we delivered $5.1 million and $12.8 million, respectively, of cash collateral into brokerage accounts. We report this cash collateral in cash and cash equivalents in our condensed consolidated statements of financial condition.

As of September 30, 2016 and December 31, 2015, we held $3.5 million and $5.9 million, respectively, of long exchange-traded equity options, which are classified as trading investments and included in other investments on our condensed consolidated statements of financial condition. In addition, as of both September 30, 2016 and December 31, 2015, we held $4.3 million and $0.8 million, respectively, of short exchange-traded equity options, which are included in securities sold not yet purchased on our condensed consolidated statements of financial condition. Our options desk provides our clients with equity derivative strategies and execution for exchange-traded options on single stocks, exchange-traded funds and indices. While predominately agency-based, the options desk may commit capital to facilitate a client’s transaction. Our options desk hedges the risks associated with this activity by taking offsetting positions in equities. For the three and nine months ended September 30, 2016, we recognized $10.9 million and $27.6 million, respectively, of losses on equity options activity. For the three and nine months ended September 30, 2015, we recognized $14.1 million and $54.5 million, respectively, of losses on equity options activity. These losses are recognized in investment gains (losses) in the condensed consolidated statements of income.

As of September 30, 2016, our consolidated VIEs held $0.3 million (net) of futures, forwards and swaps within their portfolios. For the three and nine months ended September 30, 2016, we recognized $2.0 million of losses and $0.7 million of gains, respectively, on these derivative positions. These gains are recognized in investment gains (losses) in the condensed consolidated statements of income. As of September 30, 2016, the consolidated VIEs held $0.4 million of cash collateral payable to trade counterparties. This obligation to return cash is reported in the liabilities of consolidated VIEs in our condensed consolidated statements of financial condition. As of September 30, 2016, the consolidated VIEs delivered $3.0 million of cash collateral into brokerage accounts. The consolidated VIEs report this cash collateral in the consolidated VIEs cash and cash equivalents in our condensed consolidated statements of financial condition.

18




10.
Offsetting Assets and Liabilities

Offsetting of assets as of September 30, 2016 and December 31, 2015 was as follows:
 
 
Gross Amounts of Recognized Assets
 
Gross Amounts Offset in the Statement of Financial Position
 
Net Amounts of Assets Presented in the Statement of Financial Position
 
Financial
Instruments
 
Cash
Collateral
Received
 
Net
Amount
 
(in thousands)
September 30, 2016:
 
 
 
 
 
 
 
 
 
 
 
Securities borrowed
$
42,761

 
$

 
$
42,761

 
$

 
$
(42,761
)
 
$

Derivatives
$
6,944

 
$

 
$
6,944

 
$

 
$
(810
)
 
$
6,134

Derivatives held by consolidated VIEs
$
3,968

 
$

 
$
3,968

 
$

 
$
(393
)
 
$
3,575

Long exchange-traded options
$
3,549

 
$

 
$
3,549

 
$

 
$

 
$
3,549

December 31, 2015:
 

 
 

 
 

 
 

 
 

 
 

Securities borrowed
$
75,274

 
$

 
$
75,274

 
$

 
$
(75,274
)
 
$

Derivatives
$
12,588

 
$

 
$
12,588

 
$

 
$
(1,518
)
 
$
11,070

Long exchange-traded options
$
5,910

 
$

 
$
5,910

 
$

 
$

 
$
5,910


Offsetting of liabilities as of September 30, 2016 and December 31, 2015 was as follows:
 
Gross Amounts of Recognized Liabilities
 
Gross Amounts Offset in the Statement of Financial Position
 
Net Amounts of Liabilities Presented in the Statement of Financial Position
 
Financial
Instruments
 
Cash
Collateral
Pledged
 
Net Amount
 
(in thousands)
September 30, 2016:
 
 
 
 
 
 
 
 
 
 
 
Securities loaned
$
4,690

 
$

 
$
4,690

 
$

 
$
(4,690
)
 
$

Derivatives
$
7,050

 
$

 
$
7,050

 
$

 
$
(5,092
)
 
$
1,958

Derivatives held by consolidated VIEs
$
4,238

 
$

 
$
4,238

 
$

 
$
(3,016
)
 
$
1,222

Short exchange-traded options
$
4,321

 
$

 
$
4,321

 
$

 
$

 
$
4,321

December 31, 2015:
 

 
 

 
 

 
 

 
 

 
 

Securities loaned
$
9,518

 
$

 
$
9,518

 
$

 
$
(9,518
)
 
$

Derivatives
$
12,221

 
$

 
$
12,221

 
$

 
$
(12,221
)
 
$

Short exchange-traded options
$
843

 
$

 
$
843

 
$

 
$

 
$
843


Cash collateral, whether pledged or received on derivative instruments, is not considered material and, accordingly, is not disclosed by counterparty.

19



11.
Fair Value

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., the “exit price”) in an orderly transaction between market participants at the measurement date. The three broad levels of fair value hierarchy are as follows:

•    Level 1 – Quoted prices in active markets are available for identical assets or liabilities as of the reported date.

Level 2 – Quoted prices in markets that are not active or other pricing inputs that are either directly or indirectly observable as of the reported date.

Level 3 –  Prices or valuation techniques that are both significant to the fair value measurement and unobservable as of the reported date. These financial instruments do not have two-way markets and are measured using management’s best estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation.
Assets and Liabilities Measured at Fair Value on a Recurring Basis

Valuation of our financial instruments by pricing observability levels as of September 30, 2016 and December 31, 2015 was as follows (in thousands):

20


 
Level 1
 
Level 2
 
Level 3
 
Total
September 30, 2016:
 
 
 
 
 
 
 
Money markets
$
240,634

 
$

 
$

 
$
240,634

U.S. Treasury Bills

 
474,401

 

 
474,401

Available-for-sale
 

 
 

 
 

 


Equity securities
114

 

 

 
114

Fixed income securities
114

 

 

 
114

Trading
 

 
 

 
 

 


Equity securities
202,063

 
900

 
109

 
203,072

Fixed income securities
132,162

 
684

 

 
132,846

Long exchange-traded options
3,549

 

 

 
3,549

Derivatives
1,197

 
5,747

 

 
6,944

Private equity

 

 
4,831

 
4,831

Consolidated VIEs
 
 
 
 
 
 
 
  Investments
28,751

 
173,512

 
2,759

 
205,022

  Derivatives
87

 
3,791

 

 
3,878

Total assets measured at fair value
$
608,671


$
659,035


$
7,699


$
1,275,405

 
 
 
 
 
 
 
 
Securities sold not yet purchased
 

 
 

 
 

 
 

Short equities – corporate
$
24,895

 
$

 
$

 
$
24,895

Short exchange-traded options
4,321

 

 

 
4,321

Derivatives
600

 
6,450

 

 
7,050

Consolidated VIEs - derivatives
46

 
4,192

 

 
4,238

Contingent payment arrangements

 

 
18,017

 
18,017

Total liabilities measured at fair value
$
29,862


$
10,642


$
18,017


$
58,521

 
 
 
 
 
 
 
 
December 31, 2015:
 
 
 
 
 
 
 
Money markets
$
116,445

 
$

 
$

 
$
116,445

U.S. Treasury Bills

 
485,121

 

 
485,121

Available-for-sale
 

 
 

 
 

 


Equity securities
181

 

 

 
181

Fixed income securities
183

 

 

 
183

Trading
 

 
 

 
 

 


Equity securities
325,248

 
874

 
113

 
326,235

Fixed income securities
180,194

 
2,582

 

 
182,776

Long exchange-traded options
5,910

 

 

 
5,910

Derivatives
1,539

 
11,049

 

 
12,588

Private equity
14,305

 

 
16,035

 
30,340

Total assets measured at fair value
$
644,005


$
499,626


$
16,148


$
1,159,779

 
 
 
 
 
 
 
 
Securities sold not yet purchased
 

 
 

 
 

 
 

Short equities – corporate
$
15,254

 
$

 
$

 
$
15,254

Short exchange-traded options
843

 

 

 
843

Derivatives
2,651

 
9,570

 

 
12,221

Contingent payment arrangements

 

 
31,399

 
31,399

Total liabilities measured at fair value
$
18,748


$
9,570


$
31,399


$
59,717



21


Included in Note 8, Investments, but excluded in the above fair value table, are the following investments:
•    Limited partnership hedge funds, which are recorded using the equity method of accounting;
One private equity investment ($10.2 million as of December 31, 2015; sold in the first quarter of 2016), which is recorded using the cost method of accounting;
Other investments, which primarily include miscellaneous investments recorded using the cost or equity method of accounting and long-term deposits; and
One private equity investment ($31.6 million and $32.0 million as of September 30, 2016 and December 31, 2015, respectively) which is measured at fair value using NAV (or its equivalent) as a practical expedient.

We provide below a description of the fair value methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy:

Money markets: We invest excess cash in various money market funds that are valued based on quoted prices in active markets; these are included in Level 1 of the valuation hierarchy.

Treasury Bills: We hold U.S. Treasury Bills, which are primarily segregated in a special reserve bank custody account as required by Rule 15c3-3 of the Exchange Act. These securities are valued based on quoted yields in secondary markets and are included in Level 2 of the valuation hierarchy.

Equity and fixed income securities: Our equity and fixed income securities consist principally of company-sponsored mutual funds with NAVs and various separately-managed portfolios consisting primarily of equity and fixed income securities with quoted prices in active markets, which are included in Level 1 of the valuation hierarchy. In addition, some securities are valued based on observable inputs from recognized pricing vendors, which are included in Level 2 of the valuation hierarchy.

Derivatives: We hold exchange-traded futures with counterparties that are included in Level 1 of the valuation hierarchy. In addition, we also hold currency forward contracts, interest rate swaps, credit default swaps, option swaps and total return swaps with counterparties that are valued based on observable inputs from recognized pricing vendors, which are included in Level 2 of the valuation hierarchy.

•    Options: We hold long exchange-traded options that are included in Level 1 of the valuation hierarchy.

Private equity: As of December 31, 2015, private equity investments include the investments of our consolidated venture capital fund and our investment in a private equity energy fund. As of September 30, 2016, the consolidated venture capital fund is classified as a consolidated VIE (see Note 2) and is discussed separately below; our investment in a private equity energy fund remains. Generally, the valuation of private equity investments requires significant management judgment due to the absence of quoted market prices, inherent lack of liquidity and the long-term nature of such investments. Private equity investments are valued initially at cost. The carrying values of private equity investments are adjusted either up or down from cost to reflect expected exit values as evidenced by financing and sale transactions with third parties, or when determination of a valuation adjustment is confirmed through ongoing review in accordance with our valuation policies and procedures. A variety of factors are reviewed and monitored to assess positive and negative changes in valuation, including current operating performance and future expectations of investee companies, industry valuations of comparable public companies, changes in market outlooks, and the third party financing environment over time. In determining valuation adjustments resulting from the investment review process, particular emphasis is placed on current company performance and market conditions. For these reasons, which make the fair value of private equity investments unobservable, equity investments are included in Level 3 of the valuation hierarchy. If private equity investments become publicly traded, they are included in Level 1 of the valuation hierarchy; provided, however, if they contain trading restrictions, publicly-traded equity investments are included in Level 2 of the valuation hierarchy until the trading restrictions expire.

Securities sold not yet purchased: Securities sold not yet purchased, primarily reflecting short positions in equities and exchange-traded options, are included in Level 1 of the valuation hierarchy.

Contingent payment arrangements: Contingent payment arrangements relate to contingent payment liabilities associated with acquisitions in 2010, 2013, 2014 and 2016. At each reporting date, we estimate the fair values of the contingent

22


consideration expected to be paid based upon probability-weighted AUM and revenue projections, using unobservable market data inputs, which are included in Level 3 of the valuation hierarchy.
Consolidated VIEs: During the third quarter of 2016, we deconsolidated a VIE that was consolidated during the first six months of 2016 and consolidated two new VIEs. Currently, four of our consolidated VIEs are open-end Luxembourg funds investing in (i) high yield debt issued by U.S. corporations and related derivatives, (ii) fixed income securities issued by Asia-Pacific issuers and related derivatives, and (iii) equity securities, including common and preferred stocks, convertible securities, depositary receipts and securities of real estate investment trusts; currencies and currency-related instruments; pooled investment vehicles; and financial derivative instruments, such as options, futures, forwards, swaps and commodity index-related instruments. In addition, our venture capital fund, which is classified as a consolidated VIE effective January 1, 2016, holds both private equity investments as well as private equity investments that became publicly-traded. The investments and derivatives held by the consolidated VIEs are included in Levels 1, 2 and 3 of the valuation hierarchy. If private equity investments become publicly traded, they are included in Level 1 of the valuation hierarchy; provided, however, if they contain trading restrictions, publicly-traded equity investments are included in Level 2 of the valuation hierarchy until the trading restrictions expire. During the third quarter of 2016, one of our private securities went public and, due to a trading restriction period, $23.6 million was transferred from a Level 3 to a Level 2 classification.
 
The change in carrying value associated with Level 3 financial instruments carried at fair value, classified as private equity investments, trading equity securities and investments held by our consolidated VIEs, is as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
 
 
 
 
 
 
 
 
Balance as of beginning of period
$
16,651

 
$
20,139

 
$
16,148

 
$
27,813

Transfer out
(23,566
)
 

 
(23,566
)
 
(26
)
Activity related to consolidated VIEs
14,611

 

 
16,790

 

Purchases

 

 

 
198

Sales

 

 

 
(14,178
)
Realized gains (losses), net

 

 

 
1,983

Unrealized gains (losses), net
3

 
(3,394
)
 
(1,673
)
 
955

Balance as of end of period
$
7,699

 
$
16,745

 
$
7,699

 
$
16,745


Transfers into and out of all levels of the fair value hierarchy are reflected at end-of-period fair values. Realized and unrealized gains and losses on Level 3 financial instruments are recorded in investment gains and losses in the condensed consolidated statements of income.
Also, as of September 30, 2016, our three consolidated VIEs that are open-end Luxembourg funds hold $2.8 million of investments that are classified as Level 3. They primarily consist of corporate bonds that are vendor priced with no ratings available, bank loans, non-agency collateralized mortgage obligations and asset-backed securities. The remainder of the activity related to consolidated VIEs pertains to our consolidated venture capital fund.
In addition, as of September 30, 2016 and December 31, 2015, we have an investment in a private equity fund focused exclusively on the energy sector (fair value of $4.8 million and $6.5 million, respectively) that is classified as Level 3. This investment’s valuation is based on a market approach, considering recent transactions in the fund and the industry.

23



Quantitative information about private equity Level 3 fair value measurements as of December 31, 2015 was as follows:
 
Fair Value
 
Valuation Technique
 
Unobservable Input
 
Range
 
(in thousands)
 
 
 
 
 
 
 
 
Private Equity as of December 31, 2015:
 
 
 
 
 
 
 
Technology, Media and Telecommunications
$
9,527

 
Market comparable transactions
 
Revenue multiple
 
2.5 - 4.8

 
 
 
 
 
Marketability discount
 
30
%
The significant unobservable inputs used in the fair value measurement of the reporting entities’ venture capital securities in the Technology, Media and Telecommunications areas are enterprise value to revenue multiples and a discount to account for liquidity and various risk factors. Significant increases (decreases) in the enterprise value to revenue multiple inputs in isolation would result in a significantly higher (lower) fair value measurement. Significant increases (decreases) in the discount would result in a significantly lower (higher) fair value measurement.
The change in carrying value associated with Level 3 financial instruments carried at fair value, classified as contingent payment arrangements, is as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
 
 
 
 
 
 
 
 
Balance as of beginning of period
$
30,861

 
$
42,032

 
$
31,399

 
$
42,436

Additions
11,893

 

 
11,893

 

Accretion
354

 
443

 
1,060

 
1,328

Changes in estimates
(21,483
)
 

 
(21,483
)
 

Payments
(3,608
)
 
(3,658
)
 
(4,852
)
 
(4,947
)
Balance as of end of period
$
18,017

 
$
38,817

 
$
18,017