Notes to Consolidated Financial Statements (unaudited)
Note 1 Business and Organization
Diamond Hill Investment Group, Inc., an Ohio corporation (“DHIL” and, collectively with its subsidiaries, the “Company”), derives its consolidated revenues and net income from investment advisory and fund administration services provided by its wholly-owned subsidiary, Diamond Hill Capital Management, Inc., an Ohio corporation (“DHCM”).
DHCM is a registered investment adviser. DHCM is the investment adviser and administrator for the Diamond Hill Funds (the “Funds”), a series of open-end mutual funds. DHCM also provides investment advisory services to Diamond Hill Micro Cap Fund, LP (“DHMF”), a private fund, separately managed accounts, collective investment trusts, other pooled vehicles including sub-advised funds, and model delivery programs.
Note 2 Significant Accounting Policies
Basis of Presentation
The accompanying unaudited, condensed, and consolidated financial statements of the Company as of March 31, 2023 and December 31, 2022, and for the three-month periods ended March 31, 2023 and 2022, have been prepared in accordance with United States generally accepted accounting principles (“GAAP”), the instructions to Form 10-Q, and Article 10 of Securities and Exchange Commission (the “SEC”) Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of Company management (“management”), all adjustments (consisting of normal recurring accruals) considered necessary for a fair statement of the financial condition and results of operations as of the dates, and for the interim periods, presented, have been included. These unaudited, condensed, and consolidated financial statements and footnotes should be read in conjunction with the audited consolidated financial statements of the Company included in its Annual Report on Form 10-K for the fiscal year ended December 31, 2022 (the “2022 Form 10-K”), as filed with the SEC.
Operating results for the three-month period ended March 31, 2023, are not necessarily indicative of the results the Company may expect for the full fiscal year ending December 31, 2023, or any subsequent period.
For further information regarding the risks to the Company’s business, refer to the consolidated financial statements and notes thereto in the 2022 Form 10-K, including “Part I – Item 1A. – Risk Factors” of the 2022 Form 10-K, the “Cautionary Note Regarding Forward-Looking Statements” in “Part I – Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this Quarterly Report on Form 10-Q for the fiscal quarter ended March 31, 2023 (this “Form 10-Q”), and “Part II – Item 1A. – Risk Factors” of this Quarterly Report on Form 10-Q.
Use of Estimates
The preparation of the condensed consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements as well as the reported amounts of revenue and expense during the reporting period. Estimates have been prepared based on the most current and best available information, but actual results could differ materially from those estimates.
Reclassification
Certain prior period amounts and disclosures may have been reclassified to conform to the current period’s financial presentation.
Principles of Consolidation
The accompanying consolidated financial statements include the operations of DHIL and its controlled subsidiaries. All inter-company transactions and balances have been eliminated in consolidation.
DHCM holds certain investments in the Funds and DHMF for general corporate investment purposes, to provide seed capital for newly formed strategies, or to add capital to existing strategies. The Funds are organized in a series fund structure in which there are multiple mutual funds within one trust (the “Trust”). The Trust is an open-end investment company registered under the Investment Company Act of 1940, as amended (the “1940 Act”). Each individual Fund represents a separate share class of
a legal entity organized under the Trust. DHMF is organized as a Delaware limited partnership and is exempt from registration under the 1940 Act.
DHIL consolidates all subsidiaries and certain investments in which it has a controlling interest. The Company is generally deemed to have a controlling interest when it owns the majority of the voting interest of a voting rights entity (“VRE”) or are deemed to be the primary beneficiary of a variable interest entity (“VIE”). A VIE is an entity that lacks sufficient equity to finance its activities, or any entity whose equity holders do not have defined power to direct the activities of the entity normally associated with an equity investment. The Company’s analysis to determine whether an entity is a VIE or a VRE involves judgment and considers several factors, including an entity’s legal organization, equity structure, the rights of the investment holders, the Company’s ownership interest in the entity, and the Company’s contractual involvement with the entity. The Company continually reviews and reconsiders its VIE or VRE conclusions upon the occurrence of certain events, such as changes to its ownership interest, or amendments to contract documents.
The Company performs its consolidation analysis at the individual Fund level and has concluded that the Funds are VREs because the structure of the Funds is such that the shareholders are deemed to have the power through voting rights to direct the activities that most significantly impact each Fund’s economic performance. To the extent material, the Funds are consolidated if Company ownership, directly or indirectly, represents a majority interest (greater than 50%). The Company records redeemable noncontrolling interests in consolidated investments for which the Company’s ownership is less than 100%. The Company de-consolidated the Diamond Hill Large Cap Concentrated Fund during the year ended December 31, 2022, as the Company’s ownership declined to less than 50% during 2022. As of December 31, 2022 and March 31, 2023, the Company has consolidated the Diamond Hill International Fund. During the three months ended March 31, 2022, the Company consolidated the Diamond Hill International Fund as well as the Diamond Hill Large Cap Concentrated Fund (the “Consolidated Funds”).
DHCM is the investment manager of DHMF and is the managing member of Diamond Hill Fund GP, LLC (the “General Partner”), which is the general partner of DHMF. DHCM is wholly owned by, and consolidated with, the Company. Further, DHCM, through its control of the General Partner, has the power to direct DHMF’s economic activities and the right to receive investment advisory fees from DHMF that may be significant. DHMF commenced operations on June 1, 2021, and its underlying assets consist primarily of marketable securities.
The Company concluded DHMF was a VIE given that: (i) DHCM has disproportionately less voting interest than economic interest, and (ii) DHMF’s limited partners have full power to remove the General Partner (which is controlled by the Company) due to the existence of substantive kick-out rights. In addition, substantially all of DHMF’s activities are conducted on behalf of the General Partner, which has disproportionately few voting rights. The Company concluded it is not the primary beneficiary of DHMF as it lacks the power to control DHMF, since DHMF’s limited partners have single-party kick-out rights and can unilaterally remove the General Partner without cause. DHCM’s investments in DHMF are reported as a component of the Company’s investment portfolio and valued at DHCM’s respective share of DHMF’s net income or loss.
Gains and losses attributable to changes in the value of DHCM’s interests in DHMF are included in the Company’s reported investment income. The Company’s exposure to loss as a result of its involvement with DHMF is limited to the amount of its investment. DHCM is not obligated to provide, and has not provided, financial or other support to DHMF, except for its investments to date and its contractually provided investment advisory responsibilities. The Company has not provided liquidity arrangements, guarantees, or other commitments to support DHMF’s operations, and DHMF’s creditors and interest holders have no recourse to the general credit of the Company.
Redeemable Noncontrolling Interest
Redeemable noncontrolling interest represents third-party interests in the Consolidated Funds. This interest is redeemable at the option of the investors, and therefore, is not treated as permanent equity. Redeemable noncontrolling interest is recorded at redemption value, which approximates the fair value each reporting period.
Segment Information
Management has determined that the Company operates in a single business segment, which is providing investment advisory and related services to clients through pooled vehicles, including the Funds and DHMF, collective investment trusts, separately managed accounts, model delivery programs, and other pooled vehicles including sub-advised funds. Therefore, the Company does not present disclosures relating to operating segments in annual or interim financial statements.
Cash and Cash Equivalents
Cash and cash equivalents include demand deposits and money market mutual funds held by DHCM. The Company considers all highly liquid temporary cash instruments with an original maturity of three months or less to be cash equivalents. The Company places its cash on deposit with financial institutions in the United States, which are insured by the Federal Deposit Insurance Corporation ("FDIC") up to $250,000. The Company's credit risk in the event of failure of these financial institutions is represented by the difference between the FDIC limit and the total amounts on deposit. Management monitors the financial institutions’ creditworthiness in conjunction with balances on deposit to minimize risk. The Company from time to time may have amounts on deposit in excess of the insured limits. As of March 31, 2023, the Company had $1.7 million and $38.6 million in demand deposits and money market mutual funds, respectively. As of December 31, 2022, the Company had $2.8 million and $60.4 million in demand deposits and money market mutual funds, respectively.
Accounts Receivable
The Company records accounts receivable when they are due and presents them on the balance sheet net of any allowance for doubtful accounts. Accounts receivable are written off when they are determined to be uncollectible. Any allowance for doubtful accounts is estimated based on the Company’s historical losses, existing conditions in the industry, and the financial stability of the individual or entity that owes the receivable. No allowance for doubtful accounts was deemed necessary at either March 31, 2023, or December 31, 2022. Accounts receivable from the Funds were $8.9 million as of March 31, 2023, and $9.3 million as of December 31, 2022.
Investments
Management determines the appropriate classification of its investments at the time of purchase and re-evaluates its determination for each reporting period.
Company sponsored investments, where the Company has neither the control nor the ability to exercise significant influence, as well as securities held in the Consolidated Fund, are measured at fair value based on quoted market prices. Unrealized gains and losses are recorded as investment income (loss) in the Company’s consolidated statements of income.
Investments classified as equity method investments represent investments in which the Company owns 20% to 50% of the outstanding voting interests in the entity or where it is determined that the Company is able to exercise significant influence but not control over the investments. When using the equity method, the Company recognizes its respective share of the investee’s net income or loss for the period, which is recorded as investment income (loss) in the Company’s consolidated statements of income.
Property and Equipment
Property and equipment, consisting of leasehold improvements, right-of-use lease assets, computer equipment, capitalized software, furniture, and fixtures, are carried at cost less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated lives of the assets.
Implementation costs incurred to develop or obtain internal-use software, including hosting arrangements, are capitalized and expensed on a straight-line basis over either the estimated useful life of the respective software or the term of the hosting arrangement.
Property and equipment is tested for impairment when there is an indication that the carrying amount of an asset may not be recoverable. When an asset is determined to not be recoverable, the impairment loss is measured based on the excess, if any, of the carrying value of the asset over its fair value.
Revenue Recognition – General
The Company recognizes revenue when it satisfies performance obligations under the terms of a contract with a client. The Company earns substantially all of its revenue from DHCM investment advisory and fund administration contracts. Investment advisory and administration fees, generally calculated as a percentage of assets under management (“AUM”), are recorded as revenue as services are performed. In addition to fixed fees based on a percentage of AUM, certain client accounts also provide periodic performance-based fees.
Revenue earned during the three months ended March 31, 2023 and 2022 under contracts with clients include:
| | | | | | | | | | | | | | | | | |
| Three Months Ended March 31, 2023 |
| Investment advisory | | Mutual fund administration, net | | Total revenue |
Diamond Hill Funds | $ | 21,383,543 | | | $ | 1,948,044 | | | $ | 23,331,587 | |
Separately managed accounts | 6,264,361 | | | — | | | 6,264,361 | |
| | | | | |
Other pooled vehicles | 2,131,681 | | | — | | | 2,131,681 | |
Model delivery | 1,361,753 | | | — | | | 1,361,753 | |
Collective investment trusts | 901,121 | | | — | | | 901,121 | |
| $ | 32,042,459 | | | $ | 1,948,044 | | | $ | 33,990,503 | |
| | | | | | | | | | | | | | | | | |
| Three Months Ended March 31, 2022 |
| Investment advisory | | Mutual fund administration, net | | Total revenue |
Diamond Hill Funds | $ | 27,254,928 | | | $ | 2,977,500 | | | $ | 30,232,428 | |
Separately managed accounts | 7,192,290 | | | — | | | 7,192,290 | |
| | | | | |
Other pooled vehicles | 2,569,009 | | | — | | | 2,569,009 | |
Model delivery | 1,717,164 | | | — | | | 1,717,164 | |
Collective investment trusts | 545,495 | | | — | | | 545,495 | |
| $ | 39,278,886 | | | $ | 2,977,500 | | | $ | 42,256,386 | |
Revenue Recognition – Investment Advisory Fees
DHCM’s investment advisory contracts with clients have a single performance obligation because the contracted services are not separately identifiable from other obligations in the contracts, and therefore, are not distinct. All obligations to provide investment advisory services are satisfied over time by DHCM.
The fees DHCM receives for its services under its investment advisory contracts are based on AUM, which changes based on the value of securities held under each investment advisory contract. These fees are thereby constrained and represent variable consideration, and they are excluded from revenue until the AUM on which DHCM’s client is billed is no longer subject to market fluctuations.
DHCM also provides its strategy model portfolios and related services to sponsors of model delivery programs. For its services, DHCM is paid a model delivery fee by the program sponsor at a pre-determined rate based on the amount of assets under advisement (“AUA”) in the program.
Revenue Recognition – Performance-Based Fees
DHCM manages certain client accounts that pay performance-based fees. These fees are calculated based on client investment results over rolling five-year periods. The Company records performance-based fees when it is probable that a significant reversal of the revenue will not occur. The Company did not record any performance-based fees during the three-month period ended March 31, 2023 or the three-month period ended March 31, 2022. After the initial five-year contract measurement term, the performance-based fee is calculated annually based on the client investment results over the recently completed five-year period. The table below shows AUM subject to performance-based fees and the amount of performance-based fees that would be recognized based upon investment results as of March 31, 2023:
| | | | | | | | | | | |
| As of March 31, 2023 |
| AUM subject to performance-based fees | | Unearned performance-based fees |
Contractual Measurement Period Ending: | | | |
Quarter Ending September 30, 2023 | $ | 451,836,353 | | | $ | 547,410 | |
Total | $ | 451,836,353 | | | $ | 547,410 | |
The contractual end date highlights the time remaining until the performance-based fees are scheduled to be earned. The amount of performance-based fees that would be recognized based upon investments results as of March 31, 2023 will increase or decrease based on future client investment results through the contractual period end.
Revenue Recognition – Mutual Fund Administration
DHCM has an administrative and transfer agency services agreement with the Funds under which DHCM performs certain services for each Fund. These services include performance obligations, such as mutual fund administration, fund accounting, transfer agency, and other related functions. These services are performed concurrently under DHCM’s agreement with the Funds, all performance obligations to provide these administrative services are satisfied over time, and the Company recognizes the related revenue as time progresses. Each Fund pays DHCM a fee for performing these services, which is calculated using an annual rate multiplied by the average daily net assets of each respective Fund share class. These fees are thereby constrained and represent variable consideration, and are excluded from revenue until the AUM on which DHCM bills the Funds is no longer subject to market fluctuations.
The Funds have selected and contractually engaged certain vendors to fulfill various services to benefit the Funds’ shareholders or to satisfy regulatory requirements of the Funds. These services include, among others, required shareholder mailings, federal and state registrations, and legal and audit services. In fulfilling a portion of its role under the administrative and transfer agency services agreement with the Funds, DHCM acts as agent and pays for these services on behalf of the Funds. Each vendor is independently responsible for fulfillment of the services it has been engaged to provide and negotiates its fees and terms directly with the Funds’ management and board of trustees. Each year, the Funds’ board of trustees reviews the fee that each Fund pays to DHCM, and specifically considers the contractual expenses that DHCM pays on behalf of the Funds. As a result, DHCM is not involved in the delivery or pricing of these services, and bears no risk related to these services. Revenue has been recorded net of these Fund-related expenses.
Mutual fund administration gross and net revenue are summarized below:
| | | | | | | | | | | | | | | | | |
| | | Three Months Ended March 31, |
| | | | | 2023 | | 2022 |
Mutual fund administration: | | | | | | | |
Administration revenue, gross | | | | | $ | 5,416,875 | | | $ | 6,940,172 | |
Fund related expense | | | | | (3,468,831) | | | (3,962,672) | |
Mutual fund administration revenue, net | | | | | $ | 1,948,044 | | | $ | 2,977,500 | |
Income Taxes
The Company accounts for current and deferred income taxes through an asset and liability approach. Deferred tax assets are recognized for deductible temporary differences, and deferred tax liabilities are recognized for taxable temporary differences. Deferred tax assets are reduced by a valuation allowance when it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.
The Company is subject to examination by federal and applicable state and local jurisdictions for various tax periods. The Company’s income tax positions are based on research and interpretations of the income tax laws and rulings in each of the jurisdictions in which it does business. Due to the subjectivity of interpretations of laws and rulings in each jurisdiction, the differences and interplay in tax laws among those jurisdictions, and the inherent uncertainty in estimating the final resolution of complex tax audit matters, the Company’s estimates of income tax liabilities may differ materially from actual payments or assessments. The Company regularly assesses its positions with regard to tax exposures and records liabilities for these uncertain tax positions and related interest and penalties, if any, according to the principles of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 740, Income Taxes. The Company records interest and penalties within income tax expense on the income statement. See Note 8.
Earnings Per Share
Basic and diluted earnings per share are computed by dividing net income attributable to common shareholders by the weighted average number of common shares outstanding for the period, which includes unvested restricted shares. See Note 9.
Recently Adopted Accounting Guidance
The Company did not adopt any new accounting guidance during the three months ended March 31, 2023, that had a material effect on its financial position or results of operations.
Newly Issued But Not Yet Adopted Accounting Guidance
The Company has considered all newly issued accounting guidance that is applicable to its operations and the preparation of its consolidated financial statements, including those it has not yet adopted. The Company does not believe that any such guidance had, or will have, a material effect on its financial position or results of operations.
Note 3 Investments
The following table summarizes the carrying value of the Company’s investments as of March 31, 2023, and December 31, 2022:
| | | | | | | | | | | |
| As of |
| March 31, 2023 | | December 31, 2022 |
Fair value investments: | | | |
Securities held in Consolidated Funds(a) | $ | 60,973,177 | | | $ | 54,740,993 | |
Company sponsored investments | 68,301,102 | | | 66,828,910 | |
Company sponsored equity method investments | 25,510,684 | | | 24,105,808 | |
Total Investments | $ | 154,784,963 | | | $ | 145,675,711 | |
(a) Of the securities held in the Consolidated Funds as of March 31, 2023, the Company directly held $40.4 million and noncontrolling shareholders held $20.6 million. Of the securities held in the Consolidated Funds as of December 31, 2022, the Company directly held $37.5 million and noncontrolling shareholders held $17.2 million.
As of March 31, 2023 and December 31, 2022, the Company has consolidated the Diamond Hill International Fund.
The components of net investment income (loss) are as follows:
| | | | | | | | | | | | | | | | | |
| | | Three Months Ended March 31, |
| | | | | 2023 | | 2022 |
Realized gains | | | | | $ | 819,135 | | | $ | 1,443,747 | |
Change in unrealized gains / losses | | | | | 5,808,171 | | | (9,750,856) | |
Dividends | | | | | 1,509,288 | | | 767,885 | |
| | | | | | | |
Other | | | | | (53,856) | | | (53,033) | |
Investment income (loss), net | | | | | $ | 8,082,738 | | | $ | (7,592,257) | |
Company-Sponsored Equity Method Investments
As of March 31, 2023, the Company’s equity method investments consisted of DHMF and the Diamond Hill Large Cap Concentrated Fund, and the Company’s ownership percentage in each of these investments was 86% and 47%, respectively. The Company’s ownership in DHMF and the Diamond Hill Large Cap Concentrated Fund includes $4.8 million of deferred compensation plan investments.
The following table includes the condensed summary financial information from the Company’s equity method investments as of and for the three-month period ended March 31, 2023:
| | | | | | | | | |
| | | |
| | | As of |
| | | March 31, 2023 |
Total assets | | | $ | 40,440,588 | |
Total liabilities | | | 34,936 | |
Net assets | | | 40,405,652 | |
DHCM’s portion of net assets | | | $ | 25,510,684 | |
| | | |
| | | For the Three Months Ended |
| | | March 31, 2023 |
Investment income | | | $ | 172,185 | |
Expenses | | | 54,759 | |
Net realized gains | | | 4,977 | |
Change in unrealized gains / losses | | | 592,126 | |
Net income | | | 714,529 | |
DHCM’s portion of net income | | | $ | 660,571 | |
The Company’s investments at March 31, 2023 include its interest in DHMF, an unconsolidated VIE, as the Company is not deemed the primary beneficiary. The Company’s maximum risk of loss related to its involvement with DHMF is limited to the carrying value of its investment which was $14.5 million as of March 31, 2023.
Note 4 Fair Value Measurements
The Company determines the fair value of its cash equivalents and certain investments using the following broad levels listed below:
Level 1 - Unadjusted quoted prices for identical instruments in active markets.
Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-driven valuations in which all significant inputs are observable.
Level 3 - Valuations derived from techniques in which significant inputs are unobservable. The Company does not value any investments using Level 3 inputs.
These levels are not necessarily indicative of the risk or liquidity associated with investments.
The following table summarizes investments that are recognized in the Company’s consolidated balance sheet using fair value measurements (excluding investments classified as equity method investments) determined based upon the differing levels as of March 31, 2023:
| | | | | | | | | | | | | | |
| Level 1 | Level 2 | Level 3 | Total |
Cash equivalents | $ | 38,627,607 | | — | | — | | $ | 38,627,607 | |
Fair value investments: | | | | |
Securities held in Consolidated Funds(a) | $ | 24,564,417 | | $ | 36,408,760 | | — | | $ | 60,973,177 | |
Company-sponsored investments | $ | 68,301,102 | | — | | — | | $ | 68,301,102 | |
(a) Of the securities held in the Consolidated Funds as of March 31, 2023, the Company directly held $40.4 million and noncontrolling shareholders held $20.6 million.
Changes to fair values of the investments are recorded in the Company’s consolidated statements of income as investment income (loss), net.
Note 5 Line of Credit
The Company has a committed Line of Credit Agreement (the “Credit Agreement”) with a commercial bank that matures on December 14, 2023, which permits the Company to borrow up to $25.0 million. Borrowings under the Credit Agreement bear interest at a rate equal to the Secured Overnight Financing Rate plus 1.10%. The Company pays a commitment fee on the unused portion of the facility, accruing at a rate per annum of 0.10%.
The proceeds of the Credit Agreement may be used by the Company for ongoing working capital needs, to seed new and existing investment strategies, and for other general corporate purposes. The Credit Agreement contains customary representations, warranties, and covenants.
The Company did not borrow under the Credit Agreement during the three months ended March 31, 2023, and no borrowings were outstanding as of March 31, 2023.
Note 6 Compensation Plans
Share-Based Payment Transactions
The Company maintains the shareholder-approved Diamond Hill Investment Group, Inc. 2022 Equity and Cash Incentive Plan (the “2022 Plan”), which authorizes the issuance of 300,000 common shares of DHIL stock in various forms of equity awards. As of March 31, 2023, there were 243,580 common shares available for grants under the 2022 Plan. Previously, the Company issued equity awards under the Diamond Hill Investment Group, Inc. 2014 Equity and Cash Incentive Plan (the “2014 Plan”). There are no longer any common shares available for issuance under the 2014 Plan, although grants previously made under the 2014 Plan remain issued and outstanding.
Restricted stock grants represent common shares issued and outstanding upon grant subject to vesting restrictions. The Company issues restricted stock grants that cliff vest after five years to all new employees upon hire and additional awards annually to key employees in the form of three-year graded vesting stock grants.
Restricted stock grants are valued based upon the fair market value of the common shares on the applicable grant date. The restricted stock grants are recorded as deferred compensation in the equity section of the balance sheet on the grant date and then recognized as compensation expense on a straight-line basis over the vesting period of the respective grant. The Company’s policy is to adjust compensation expense for forfeitures as they occur.
The following table represents a roll-forward of outstanding restricted stock and related activity for the three months ended March 31, 2023:
| | | | | | | | | | | |
| Shares | | Weighted-Average Grant Date Price per Share |
Outstanding restricted stock as of December 31, 2022 | 219,459 | | | $ | 165.62 | |
Grants issued | 49,099 | | | 191.47 | |
Grants vested | (14,000) | | | 211.83 | |
Grants forfeited | — | | | — | |
Total outstanding restricted stock as of March 31, 2023 | 254,558 | | | $ | 168.06 | |
Total deferred equity compensation related to unvested restricted stock was $23.6 million as of March 31, 2023. The recognition of compensation expense related to deferred compensation over the remaining vesting periods is as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Nine Months Remaining In | | | | | | | | | | | | |
2023 | | 2024 | | 2025 | | 2026 | | 2027 | | Thereafter | | Total |
$ | 9,035,909 | | | $ | 8,786,455 | | | $ | 4,524,579 | | | $ | 1,085,868 | | | $ | 135,745 | | | — | | | $ | 23,568,556 | |
Employee Stock Purchase Plan
Under the Diamond Hill Investment Group, Inc. Employee Stock Purchase Plan (the “ESPP”), eligible employees may purchase shares of DHIL common stock at 85% of the fair market value on the last day of each offering period. Each offering period is approximately three months, which coincides with the Company’s fiscal quarters. During the three-month period ended March 31, 2023, ESPP participants purchased 1,963 shares of common stock for $0.3 million, and the Company recorded $0.1 million of share-based payment expense related to these purchases. During the three-month period ended March 31, 2022, ESPP participants purchased 2,335 shares of common stock for $0.4 million and the Company recorded $0.1 million of share-based payment expense related to these purchases.
Stock Grant Transactions
The following table represents common shares issued as part of the Company's incentive compensation program during the three-month periods ended March 31, 2023, and 2022:
| | | | | | | | | | | |
| Shares Issued | | Grant Date Value |
March 31, 2023 | — | | | — | |
March 31, 2022 | 2,743 | | | $ | 487,870 | |
401(k) Plan
The Company sponsors a 401(k) plan in which all employees are eligible to participate. Employees may contribute a portion of their compensation subject to certain limits based on federal tax laws. The Company matches employee contributions equal to 250.0% of the first 6.0% of an employee’s compensation contributed to the plan. The Company settles the 401(k) plan matching contributions in cash or common shares of the Company based on the election of the employees.
Deferred Compensation Plans
The Company offers two deferred compensation plans: the Diamond Hill Fixed Term Deferred Compensation Plan and the Diamond Hill Variable Term Deferred Compensation Plan (together, the “DC Plans”). Under the DC Plans, participants may elect to voluntarily defer, for a minimum of five years, certain incentive compensation that the Company then contributes into the DC Plans. Participants are responsible for designating investment options for the assets they contribute, and the distribution paid to each participant reflects any gains or losses on the assets realized in connection with the DC Plans. Assets held in the DC Plans are included in the Company’s investment portfolio, and the associated obligation to participants is included in deferred compensation liability. Deferred compensation liability was $31.2 million and $30.7 million as of March 31, 2023 and December 31, 2022, respectively.
Note 7 Operating Lease
The Company currently leases office space of approximately 37,829 square feet at a single location.
As of March 31, 2023, the carrying value of this right-of-use asset, which is included in property and equipment, was approximately $1.0 million net of deferred rent on the consolidated balance sheets. As of March 31, 2023, the carrying value of the lease liability was approximately $1.2 million, which is included in accounts payable and accrued expenses on the consolidated balance sheets.
The following table summarizes the total lease and operating expenses for the three-month periods ended March 31, 2023 and 2022:
| | | | | | | | | | | |
| March 31, 2023 | | March 31, 2022 |
Three Months Ended | $ | 206,077 | | | $ | 204,953 | |
| | | |
The approximate future minimum lease payments under the operating lease are as follows:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Future Minimum Lease Payments |
Nine Months Remaining In | | | | | | | | | | | | |
2023 | | 2024 | | 2025 | | 2026 | | 2027 | | | | Total |
$ | 468,134 | | | $ | 624,179 | | | $ | 156,045 | | | — | | | — | | | | | $ | 1,248,358 | |
Note 8 Income Taxes
The Company has determined its interim tax provision projecting an estimated annual effective tax rate.
A reconciliation of the statutory federal tax rate to the Company’s effective income tax rate is as follows:
| | | | | | | | | | | |
| Three Months Ended March 31, |
| 2023 | | 2022 |
Statutory U.S. federal income tax rate | 21.0 | % | | 21.0 | % |
State and local income taxes, net of federal benefit | 4.8 | % | | 4.6 | % |
Internal revenue code section 162 limitations | 1.5 | % | | 1.3 | % |
Other | 0.6 | % | | (0.9) | % |
Unconsolidated effective income tax rate | 27.9 | % | | 26.0 | % |
Impact attributable to redeemable noncontrolling interest(a) | (2.0) | % | | 1.9 | % |
Effective income tax rate | 25.9 | % | | 27.9 | % |
(a) The provision for income taxes includes the impact of the operations of the Consolidated Funds, which are not subject to federal income taxes. Accordingly, a portion of the Company’s earnings are not subject to corporate tax levels.
The Company’s actual effective tax rate for the fiscal year ending December 31, 2023 could be materially different from the projected rate as of March 31, 2023.
The net temporary differences incurred to date will reverse in future periods as the Company generates taxable earnings. The Company believes that it is more likely than not that the results of future operations will generate sufficient taxable income to realize the net deferred tax assets recorded. The Company records a valuation allowance when it is more likely than not that some or all of the deferred tax assets will not be realized. As of March 31, 2023 and December 31, 2022, no valuation allowance was deemed necessary.
FASB ASC 740, Income Taxes, prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken, or expected to be taken, in a tax return, and also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. The Company recognizes tax benefits related to positions taken, or expected to be taken, on its tax returns, only if the positions are more likely than not sustainable. Once this threshold has been met, the Company’s measurement of its expected tax benefits is recognized in its financial statements. The Company did not record an accrual for tax-related uncertainties or unrecognized tax positions as of March 31, 2023 or December 31, 2022.
The Company did not recognize any interest and penalties during the three months ended March 31, 2023.
Note 9 Earnings Per Share
The Company’s common shares outstanding consist of all shares issued and outstanding, including unvested restricted shares. Basic and diluted earnings per share (“EPS”) are calculated under the two-class method. The following table sets forth the computation for basic and diluted EPS:
| | | | | | | | | | | | | | | | | |
| | | Three Months Ended March 31, |
| | | | | 2023 | | 2022 |
Net Income | | | | | $ | 14,103,047 | | | $ | 8,275,016 | |
Less: Net (income) loss attributable to redeemable noncontrolling interest | | | | | (1,395,495) | | | 854,936 | |
Net income attributable to common shareholders | | | | | $ | 12,707,552 | | | $ | 9,129,952 | |
| | | | | | | |
Weighted average number of outstanding shares - Basic | | | | | 3,025,094 | | | 3,185,930 | |
Weighted average number of outstanding shares - Diluted | | | | | 3,025,094 | | | 3,185,930 | |
| | | | | | | |
Earnings per share attributable to common shareholders | | | | | | | |
Basic | | | | | $ | 4.20 | | | $ | 2.87 | |
Diluted | | | | | $ | 4.20 | | | $ | 2.87 | |
Note 10 Commitments and Contingencies
The Company indemnifies its directors, officers, and certain employees for certain liabilities that may arise from the performance of their duties to the Company. From time to time, the Company may be involved in legal matters incidental to its business. There are currently no such legal matters pending that the Company believes will have a material adverse effect on its consolidated financial statements. However, litigation involves an element of uncertainty, and future developments could cause legal actions or claims to have a material adverse effect on the Company’s financial condition, results of operations, and liquidity.
Additionally, in the normal course of business, the Company enters into agreements that contain a variety of representations and warranties and that provide general indemnification obligations. Certain agreements do not contain any limits on the Company’s liability and could involve future claims that may be made against the Company that have not yet occurred. Therefore, it is not possible to estimate the Company’s potential liability under these indemnities. Further, the Company maintains insurance policies that may provide full or partial coverage against certain of these liabilities.
Note 11 Subsequent Events
On May 10, 2023, DHIL’s board of directors (“Board”) approved a quarterly cash dividend of $1.50 per share, payable on June 16, 2023, to shareholders of record as of June 1, 2023. This dividend is expected to reduce shareholders’ equity by approximately $4.5 million.