Company Quick10K Filing
Quick10K
Diamond Hill Investment Group
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$155.70 4 $547
10-K 2018-12-31 Annual: 2018-12-31
10-Q 2018-09-30 Quarter: 2018-09-30
10-Q 2018-06-30 Quarter: 2018-06-30
10-Q 2018-03-31 Quarter: 2018-03-31
10-K 2017-12-31 Annual: 2017-12-31
10-Q 2017-09-30 Quarter: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-K 2016-12-31 Annual: 2016-12-31
10-Q 2016-09-30 Quarter: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-K 2015-12-31 Annual: 2015-12-31
8-K 2019-02-22 Officers, Exhibits
8-K 2019-02-21 Earnings, Exhibits
8-K 2019-02-04 Other Events
8-K 2019-01-03 Other Events
8-K 2018-12-04 Other Events
8-K 2018-11-02 Other Events
8-K 2018-10-30 Earnings, Exhibits
8-K 2018-10-02 Other Events
8-K 2018-09-25 Other Events, Exhibits
8-K 2018-09-05 Other Events
8-K 2018-08-02 Other Events
8-K 2018-08-01 Earnings, Exhibits
8-K 2018-07-05 Other Events
8-K 2018-06-08 Officers
8-K 2018-05-31 Other Events
8-K 2018-05-17 Other Events, Exhibits
8-K 2018-04-19 Officers
8-K 2018-04-03 Other Events
8-K 2018-03-02 Other Events
8-K 2018-02-02 Other Events
8-K 2018-01-03 Other Events
AMP Ameriprise Financial
IVZ Invesco
AMG Affiliated Managers Group
LAZ Lazard
NOAH Noah Holdings
HLNE Hamilton Lane
PJT PJT Partners
WHG Westwood Holdings
HNNA Hennessy Advisors
MN Manning & Napier
DHIL 2018-12-31
Part I
Item 1. Business
Item 1A. Risk Factors
Item 1B. Unresolved Staff Comments
Item 2. Properties
Item 3. Legal Proceedings
Item 4. Mine Safety Disclosures
Part II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6. Selected Financial Data
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Item 8. Financial Statements and Supplementary Data
Note 1 Business and Organization
Note 2 Significant Accounting Policies
Note 3 Investments
Note 4 Fair Value Measurements
Note 5 Capital Stock
Note 6 Compensation Plans
Note 7 Operating Leases
Note 8 Income Taxes
Note 9 Earnings per Share
Note 10 Commitments and Contingencies
Note 11 Sale of Beacon Hill
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures
Item 9A. Controls and Procedures
Item 9B. Other Information
Part III
Item 10. Directors, Executive Officers and Corporate Governance
Item 11. Executive Compensation
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13. Certain Relationships and Related Transactions, and Director Independence
Item 14. Principal Accounting Fees and Services
Part IV
Item 15. Exhibits, Financial Statement Schedules
Item 16. Form 10-K Summary
EX-10.4 dhil-20181231xexx104.htm
EX-21.1 dhil-20181231xexx211.htm
EX-23.1 dhil-20181231xexx231.htm
EX-31.1 dhil-20181231xexx311.htm
EX-31.2 dhil-20181231xexx312.htm
EX-32.1 dhil-20181231xexx321.htm

Diamond Hill Investment Group Earnings 2018-12-31

DHIL 10K Annual Report

Balance SheetIncome StatementCash Flow

10-K 1 dhil-20181231x10k.htm 10-K Document

 
United States
Securities and Exchange Commission
Washington, D.C. 20549
 
 
Form 10-K
 
 
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2018
Commission file number 000-24498
 
 

diamondhillinvgroup4ca01a09.jpg

DIAMOND HILL INVESTMENT GROUP, INC.

(Exact name of registrant as specified in its charter)
 
 
Ohio
 
65-0190407
(State of
incorporation)
 
(I.R.S. Employer
Identification No.)
325 John H. McConnell Blvd., Suite 200,
Columbus, Ohio 43215
 
43215
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (614) 255-3333
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
 
Name of each exchange on which registered
Common shares, no par value
 
The NASDAQ Stock Market LLC
Securities registered pursuant to Section 12(g) of the Act: None
 
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.     Yes  ¨    No  x
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  ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes  x    No  ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K  x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
 
¨
  
Accelerated filer
 
x
 
 
 
 
 
 
 
Non-accelerated filer
 
¨
  
Smaller reporting company
 
¨
 
 
 
 
 
 
 
Emerging growth company
 
¨
 
 
 
 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
Aggregate market value of the registrant’s common shares (the only common equity of the registrant) held by non-affiliates of the registrant, based on the closing price of $194.43 on June 30, 2018 on the NASDAQ Global Select Market was $648,693,724. Calculation of holdings by non-affiliates is based upon the assumption, for these purposes only, that the registrant’s executive officers and directors are affiliates.
The number of shares outstanding of the issuer’s common stock, as of February 20, 2019, is 3,500,730 shares.
Documents Incorporated by Reference
Portions of the registrant’s definitive proxy statement for the 2019 Annual Meeting of Shareholders to be filed pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended, are incorporated by reference into Part III of this Annual Report on Form 10-K.
 




Diamond Hill Investment Group, Inc.
Form 10-K
For the Fiscal Year Ended December 31, 2018
Index
 
Required Information
Page
 
 
 
 
 
 
 
 

2


PART I
Item 1.
Business
Forward-Looking Statements
Throughout this Annual Report on Form 10-K, Diamond Hill Investment Group, Inc. (”Diamond Hill”) may make forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including, but not limited to, statements regarding anticipated operating results, prospects and levels of assets under management, technological developments, economic trends (including interest rates and market volatility), expected transactions and similar matters. The words “believe,” “expect,” “anticipate,” “target,” “project,” “estimate,” “should,” “hope,” “seek,” “plan,” “intend,” variations of such words and similar expressions identify such forward-looking statements, which speak only as of the date made. While we believe that the assumptions underlying our forward-looking statements are reasonable, investors are cautioned that any of the assumptions could prove to be inaccurate and, accordingly, our actual results and experiences could differ materially from the anticipated results or other expectations expressed in our forward-looking statements. Factors that could cause such actual results or experiences to differ from results discussed in the forward-looking statements include, but are not limited to: the adverse effect from a decline in the securities markets; a decline in the performance of our products; changes in interest rates; changes in national and local economic and political conditions; the continuing economic uncertainty in various parts of the world; changes in government policy and regulation, including monetary policy; changes in our ability to attract or retain key employees; unforeseen costs and other effects related to legal proceedings or investigations of governmental and self-regulatory organizations; and other risks identified from time-to-time in other public documents on file with the U. S. Securities and Exchange Commission (“SEC”), including those discussed below in Item 1A. Throughout this Annual Report on Form 10-K, when we use the terms the “Company,” “management,” “we,” “us,” and “our,” we mean Diamond Hill and its subsidiaries.
Overview
Diamond Hill, an Ohio corporation organized in April 1990, derives its consolidated revenue and net income from investment advisory and fund administration services provided by its wholly owned subsidiary, Diamond Hill Capital Management, Inc. (“DHCM”). DHCM is a registered investment adviser under the Investment Advisers Act of 1940. DHCM sponsors, distributes, and provides investment advisory and related services to clients through Diamond Hill Funds (the “Funds”), institutional accounts, an exchange traded fund, and private investment funds. In July of 2016, the Company sold two former wholly owned operating subsidiaries, Beacon Hill Fund Services, Inc. (“BHFS”) and BHIL Distributors, Inc. (“BHIL” and collectively “Beacon Hill”). Until its sale, Beacon Hill provided fund administration and statutory underwriting services.
The Company’s primary objective is to fulfill our fiduciary duty to our clients. Our secondary objective is to grow the intrinsic value of the Company in order to achieve an adequate long-term return for our shareholders.
Investment Advisory Activities
Clients
The Company provides investment advisory services to a broad range of clients, including corporations, mutual funds, retirement plans, public pension funds, endowments, foundations, financial institutions and high net worth individuals. We strive to expand our client base by attracting new clients and earning additional business from existing clients.
Investment Philosophy
We believe intrinsic value is independent of market price and that competitive long-term returns can be achieved by identifying meaningful differences between the two. We believe we can identify those market opportunities with a bottom-up, intrinsic value-focused approach to active investment management. As a result, our investment strategy is driven by individual security decisions rather than by a macro-economic focus.
Investment Process
DHCM’s equity investment process begins with fundamental research focusing on estimating a company’s intrinsic value independent of its current stock price. Bottom-up analysis, described in further detail below, is of primary importance in estimating the intrinsic value of an individual company. Our research analysts also evaluate each company within the context of sector and industry secular trends. A five-year discounted cash flow analysis is the primary methodology we use to determine whether there is a discrepancy between the current market price and DHCM’s estimate of intrinsic value. The key factors in determining the intrinsic value through are normalized earnings and earnings growth rate, payout ratio and dividends, terminal earnings multiple, and required rate of return. We will invest when we believe that we can make informed judgments about, and

3


estimates of, those cash flows and when our estimate of intrinsic value provides a margin of safety relative to the current market price. We assign the highest portfolio weights where we have the highest conviction. Within stated diversification constraints, we are willing to take outsized positions in our highest conviction ideas. Benchmark weights are not a consideration.
DHCM also applies an intrinsic value philosophy and process to the analysis of fixed income securities. For our Short Duration Total Return and Core Bond strategies, our investment process is driven by security selection, sector allocation, yield curve positioning, and duration management in concert with overall portfolio management. We seek to generate excess return through the selection of undervalued securities and spread sectors that offer incremental yield and total return in comparison to the index. The hallmark of our process is the selection of individual issues with an emphasis on identifying undervalued securities. Individual securities are selected following a risk/reward evaluation of interest rate and credit risk, and an examination of the complex and technical structure of the security. We only purchase those securities that we identify as undervalued and offer a strong total return profile relative to similar securities.
For our Corporate Credit and High Yield strategies, we leverage the industry analysis conducted by our research team to identify attractive corporate bonds. We seek to invest in bonds of companies with improving return on invested capital and stable or improving competitive positions. We work closely with our research team to understand the fundamental economic drivers of the business and to assess whether there is adequate financial strength and flexibility to meet ongoing commitments. Our research analysts consider debt instruments as part of their analysis. After the credit research is complete, our portfolio managers determine whether a security is attractive on a yield basis relative to asset and interest coverage and relative to other securities with comparable risk. We will only own the bonds of a company that we can analyze and value.
DHCM believes that many investors’ short-term focus hinders their long-term results, which creates market inefficiencies and therefore opportunities. In addition, the size and complexity of the fixed income markets also creates inefficiencies. We believe that we can exploit these market anomalies/inefficiencies by possessing a long-term investment temperament and practicing a consistent and repeatable intrinsic value-focused approach to investing.
Investment Advisory Fees
The Company’s principal source of revenue is investment advisory fee income earned from managing client accounts under investment advisory and sub-advisory agreements. The fees earned depend on the type of investment strategy, account size and servicing requirements. Revenues depend on the total value and composition of assets under management (“AUM”). Accordingly, net cash flows from clients, market fluctuations in client portfolios, and the composition of AUM impact our revenues and results of operations. We also have certain agreements which allow us to earn variable rate fees in the event that investment returns exceed targeted amounts during a measurement period.
Investment Strategies
The Company offers several traditional and alternative investment strategies, which are all based on the same intrinsic value philosophy. As of December 31, 2018, we offered the following representative investment strategies to our clients:
1.
Small Cap - Pursues long-term capital appreciation by investing in a portfolio of primarily small capitalization U.S. equity securities.
2.
Small-Mid Cap - Pursues long-term capital appreciation by investing in a portfolio of primarily small and medium capitalization U.S. equity securities.
3.
Mid Cap - Pursues long-term capital appreciation by investing in a portfolio of primarily medium capitalization U.S. equity securities.
4.
Large Cap - Pursues long-term capital appreciation by investing in a portfolio of primarily large capitalization U.S. equity securities.
5.
All Cap Select - Pursues long-term capital appreciation by investing in a concentrated portfolio of primarily U.S. equity securities across a broad range of market capitalizations.
6.
Global - Pursues long-term capital appreciation by investing in U.S. and foreign equity securities across a broad range of market capitalizations including up to 20% exposure to emerging markets.
7.
Long-Short - Pursues long-term capital appreciation by investing long and selling short primarily U.S. equity securities across a broad range of market capitalizations.
8.
Research Opportunities - Pursues long-term capital appreciation by investing long and selling short U.S. equity securities across a broad range of market capitalizations, as well as by investing up to 40% in international equity securities and up to 20% in fixed income securities.

4


9.
Financial Long-Short - Pursues long-term capital appreciation by investing long and selling short primarily U.S. financial services equity securities across a broad range of market capitalizations.
10.
Valuation-Weighted 500 - Pursues long-term capital appreciation by investing in large capitalization U.S. equity securities that seek to track the price and total return of the Diamond Hill Valuation-Weighted 500 Index.
11.
Short Duration Total Return - Pursues maximization of total return consistent with the preservation of capital by investing in high, medium, and low-grade fixed income securities.
12.
Core Bond - Pursues maximization of total return consistent with the preservation of capital by investing in a diversified portfolio of intermediate and long-term fixed income securities.
13.
Corporate Credit - Pursues high current income, preservation of capital, and total return over a five-year time horizon by investing primarily in corporate bonds across the credit spectrum.
14.
High Yield - Pursues high current income with the opportunity for capital appreciation by investing primarily in below-investment grade corporate bonds.
Investment Results
The Company believes that one of the most important characteristics exhibited by the best investment firms is excellent investment returns for their clients over a long period of time. We are pleased that during our history as an investment advisory firm, we have delivered what we believe are strong long-term investment returns for our clients. Investment returns have been a key driver in the long-term success we have achieved in growing AUM.
As of December 31, 2018, the since-inception returns for most of our strategies exceeded their respective benchmark returns. Our Mid Cap strategy reached its five-year track record at the end of 2018 and we launched the Diamond Hill Global Fund in January 2018. As always, we remain focused on five-year periods to evaluate our results.


5


The following is a summary of the investment returns for each of our Funds as of December 31, 2018, relative to its respective passive benchmark.
 
 

As of December 31, 2018
 
Inception
 
1 Year
 
3 Year
 
5 Year
 
10 Year
 
Since Inception
Diamond Hill Small Cap Fund
12/29/2000
 
(14.88
)%
 
2.62
%
 
1.81
%
 
9.94
%
 
9.39
%
Russell 2000 Index

 
(11.01
)%
 
7.36
%
 
4.41
%
 
11.97
%
 
7.29
%
Diamond Hill Small-Mid Cap Fund
12/30/2005
 
(12.56
)%
 
3.93
%
 
4.07
%
 
12.88
%
 
7.58
%
Russell 2500 Index

 
(10.00
)%
 
7.32
%
 
5.15
%
 
13.15
%
 
7.50
%
Diamond Hill Mid Cap Fund
12/31/2013
 
(10.31
)%
 
5.51
%
 
5.01
%
 
 NA

 
5.01
%
Russell Midcap Index
 
 
(9.06
)%
 
7.04
%
 
6.26
%
 
 NA

 
6.26
%
Diamond Hill Large Cap Fund
6/29/2001
 
(9.63
)%
 
7.61
%
 
6.47
%
 
11.97
%
 
7.81
%
Russell 1000 Index

 
(4.78
)%
 
9.09
%
 
8.21
%
 
13.28
%
 
6.50
%
Diamond Hill All Cap Select Fund
12/30/2005
 
(12.02
)%
 
5.09
%
 
5.06
%
 
11.59
%
 
7.07
%
Russell 3000 Index

 
(5.24
)%
 
8.97
%
 
7.91
%
 
13.18
%
 
7.72
%
Diamond Hill Long-Short Fund
6/30/2000
 
(7.04
)%
 
2.89
%
 
2.93
%
 
6.59
%
 
6.12
%
60% Russell 1000 Index / 40% ICE BofAML U.S. T-Bill 0-3 Mo Index

 
(1.92
)%
 
5.93
%
 
5.25
%
 
8.17
%
 
4.01
%
Diamond Hill Research Opportunities Fund
3/31/2009
 
(12.86
)%
 
2.77
%
 
2.02
%
 
 NA

 
10.46
%
75% Russell 3000 Index / 25% ICE BofAML U.S. T-Bill 0-3 Mo Index
 
 
(3.31
)%
 
7.05
%
 
6.16
%
 
 NA

 
11.25
%
Diamond Hill Global Fund
12/31/2013
 
(14.66
)%
 
6.89
%
 
3.47
%
 
 NA

 
3.46
%
Morningstart Global Markets Index
 
 
(9.82
)%
 
6.53%

 
4.25%

 
 NA

 
4.25
%
Diamond Hill Financial Long-Short Fund
8/1/1997
 
(17.60
)%
 
3.17
%
 
2.62
%
 
9.73
%
 
6.44
%
80% Russell 3000 Financials Index / 20% ICE BofAML U.S. T-Bill 0-3 Mo Index

 
(6.24
)%
 
7.54
%
 
6.84
%
 
9.47
%
 
5.05
%
Diamond Hill Short Duration Total Return Fund
7/5/2016
 
3.18
 %
 
 NA

 
 NA

 
 NA

 
3.52
%
Bloomberg Barclays U.S. 1-3 Yr. Gov./Credit Index
 
 
1.60
 %
 
 NA

 
 NA

 
 NA

 
0.80
%
Diamond Hill Core Bond Fund
7/5/2016
 
1.59
 %
 
 NA

 
 NA

 
 NA

 
1.41
%
Bloomberg Barclays U.S. Aggregate Index
 
 
0.01
 %
 
 NA

 
 NA

 
 NA

 
0.09
%
Diamond Hill Corporate Credit Fund
9/30/2002
 
0.64
 %
 
6.80
%
 
4.83
%
 
8.84
%
 
6.86
%
ICE BofAML U.S. Corporate & High Yield Index

 
(2.21
)%
 
4.04
%
 
3.40
%
 
7.01
%
 
5.72
%
Diamond Hill High Yield Fund
12/4/2014
 
1.16
 %
 
8.57
%
 
 NA

 
 NA

 
6.40
%
ICE BofAML U.S. High Yield Index
 
 
(2.26
)%
 
7.27
%
 
 NA

 
 NA

 
3.93
%
________________________
-
Fund returns are Class I shares net of fees
-
Index returns do not reflect any fees
Assets Under Management
The following tables show AUM by product and investment objective, as well as net client cash flows, for the past five years ended December 31, 2018:

 
Assets Under Management
As of December 31,
(in millions)
2018
 
2017
 
2016
 
2015
 
2014
Proprietary funds
$
13,440

 
$
15,974

 
$
13,618

 
$
11,505

 
$
9,863

Sub-advised funds
1,358

 
1,518

 
1,445

 
665

 
665

Institutional accounts
4,310

 
4,825

 
4,318

 
4,671

 
5,128

Total AUM
$
19,108

 
$
22,317

 
$
19,381

 
$
16,841

 
$
15,656

 

6


 
Assets Under Management
by Investment Strategy
As of December 31,
(in millions)
2018
 
2017
 
2016
 
2015
 
2014
Small Cap
$
1,048

 
$
1,525

 
$
1,843

 
$
1,703

 
$
1,575

Small-Mid Cap
2,770

 
3,528

 
3,329

 
2,070

 
1,279

Mid Cap
143

 
130

 
59

 
18

 
16

Large Cap
9,637

 
10,867

 
8,497

 
7,547

 
7,926

All Cap Select
432

 
444

 
402

 
544

 
430

Long-Short
3,767

 
4,980

 
4,613

 
4,597

 
4,179

Global/International
18

 
6

 
2

 
1

 
2

Short Duration Fixed Income
579

 
313

 
197

 

 

Core Fixed Income
55

 
44

 
40

 

 

Long Duration Fixed Income
52

 

 

 

 

Corporate Credit
757

 
668

 
549

 
351

 
249

High Yield
54

 
31

 
32

 
10

 

  (Less: Investments in affiliated funds)(a)
(204
)
 
(219
)
 
(182
)
 

 

Total AUM
$
19,108

 
$
22,317

 
$
19,381

 
$
16,841

 
$
15,656

(a) Certain of the Funds own shares of the Diamond Hill Short Duration Total Return Fund. The Company reduces its total AUM by these investments held in this affiliated fund.
 
Change in Assets Under Management
For the Year Ended December 31,
(in millions)
2018
 
2017
 
2016
 
2015
 
2014
AUM at beginning of the year
$
22,317

 
$
19,381

 
$
16,841

 
$
15,656

 
$
12,186

Net cash inflows (outflows)

 

 

 

 

proprietary funds
(978
)
 
843

 
548

 
1,916

 
1,618

sub-advised funds
(25
)
 
(164
)
 
639

 
(6
)
 
166

institutional accounts
(99
)
 
(254
)
 
(1,023
)
 
(443
)
 
478


(1,102
)
 
425

 
164

 
1,467

 
2,262

Net market appreciation/(depreciation) and income
(2,107
)
 
2,511

 
2,376

 
(282
)
 
1,208

Increase (decrease) during the year
(3,209
)
 
2,936

 
2,540

 
1,185

 
3,470

AUM at end of the year
$
19,108

 
$
22,317

 
$
19,381

 
$
16,841

 
$
15,656

Capacity
The Company’s primary goal is to fulfill our fiduciary duty to clients. We understand that our ability to retain and grow assets as a firm has been, and will be, driven primarily by delivering attractive long-term investment results to our clients. When we have determined that the size of any of our strategies hinders our ability to add value over a passive alternative, we have closed those strategies to new clients and we will continue to do so, which will impact our ability to grow AUM. We have prioritized, and will continue to prioritize, investment results over asset accumulation. Currently, the Long-Short, Small Cap, and Small-Mid Cap strategies are closed to new investors.
We estimate capacity of $25 - 35 billion for our existing equity strategies ($17.6 billion as of December 31, 2018) and capacity of at least $40 billion for our existing fixed income strategies ($1.5 billion as of December 31, 2018).  Determining our AUM capacity requires evaluating each of our investment strategies and estimating individual strategy capacity, given market capitalization and concentration constraints as well as investment objectives.  Total firm capacity is not simply a sum of the individual strategies and is affected by overlap between strategies.  With the development of new products or strategies, our firm level capacity could increase.
Distribution Channels
The Company’s investment advisory services are distributed through multiple channels. Our institutional sales efforts include building relationships with institutional consultants and also establishing direct relationships with institutional clients. Our sales efforts for the Funds include wholesaling to third-party financial intermediaries, including independent registered investment

7


advisers, brokers, financial planners, and wealth advisers, who utilize the Funds in investment programs they construct for their clients.
AUM by Channel
Below is a summary of our AUM by distribution channel for the five years ended December 31, 2018:
 
 
AUM by Distribution Channel
As of December 31,
(in millions)
2018
 
2017
 
2016
 
2015
 
2014
Proprietary funds:
 
 
 
 
 
 
 
 
 
Registered investment advisers
$
3,243

 
$
4,010

 
$
3,508

 
$
2,723

 
$
2,363

Independent broker/dealers
2,900

 
3,581

 
2,922

 
2,329

 
1,862

Wirehouse broker/dealers
2,319

 
2,660

 
2,011

 
1,963

 
1,760

Banks
2,672

 
3,456

 
3,175

 
2,735

 
2,176

Defined contribution
1,904

 
1,840

 
1,535

 
1,218

 
1,232

Other
402

 
427

 
467

 
537

 
470

Total proprietary funds
13,440

 
15,974

 
13,618

 
11,505

 
9,863

Sub-advised funds
1,358

 
1,518

 
1,445

 
665

 
665

Institutional accounts:
 
 
 
 
 
 
 
 
 
Institutional consultant
2,122

 
2,357

 
2,074

 
2,370

 
2,681

Financial intermediary
1,506

 
1,691

 
1,358

 
1,474

 
1,573

Direct
682

 
777

 
886

 
827

 
874

Total institutional accounts
4,310

 
4,825

 
4,318

 
4,671

 
5,128

Total AUM
$
19,108

 
$
22,317

 
$
19,381

 
$
16,841

 
$
15,656

Growth Strategy
The Company’s growth strategy will remain focused on achieving excellent investment results in all our strategies and providing the highest level of client service. We will continue to focus on the development of distribution channels to enable us to offer our various investment strategies to a broad array of clients. We seek to continue to grow our AUM through our proprietary funds, institutional accounts, and sub-advised funds. We have a targeted strategic business plan to further penetrate our existing distribution channels. Our business development efforts are focused on expanding the institutional consultant channel and plan sponsor network on the institutional side, as well as our intermediary network on the fund side.
Fund Administration Activities
The Company provides fund administration services to the Funds. Fund administration services are broadly defined in our administration agreements with the Funds as portfolio and regulatory compliance, treasury and financial oversight, oversight of back-office service providers such as the custodian, fund accountant, and transfer agent, and general business management and governance of the mutual fund complex. Prior to the sale of Beacon Hill, the Company also provided fund administration services to other third party mutual fund companies and investment advisers.
Competition
Competition in the area of investment management is intense, and our competitors include investment management firms, broker-dealers, banks and insurance companies, some of whom offer various investment alternatives, including passive index strategies. Many competitors are better known than the Company, offer a broader range of investment products and have more offices, employees and business development representatives. We compete primarily on the basis of philosophy, performance and client service.

8


Regulation
The Company and our business are subject to various federal, state and foreign laws and regulations. As a matter of public policy, regulatory bodies are charged with safeguarding the integrity of the securities and other financial markets and with protecting the interests of participants in those markets, including investment advisory clients and shareholders of investment funds. Under these laws and regulations, agencies that regulate investment advisers have broad administrative powers, including the power to limit, restrict or prohibit an investment adviser from carrying on its business in the event the adviser fails to comply with such laws and regulations. Possible sanctions that may be imposed include civil and criminal liability, the suspension of individual employees, limitations on engaging in certain lines of business for specified periods of time, revocation of investment adviser, broker/dealer, and other registrations, censures and fines.
DHCM is registered with the SEC under the Investment Advisers Act of 1940 (the “Advisers Act”) and operates in a highly regulated environment. The Advisers Act imposes numerous obligations on registered investment advisers, including fiduciary duties, recordkeeping requirements, operational requirements and disclosure obligations. All of the Funds are registered with the SEC under the Investment Company Act of 1940 and are required to make notice filings with all states where the Funds are offered for sale. Virtually all aspects of our investment advisory and fund administration business are subject to various federal and state laws and regulations.

DHCM is a “fiduciary” under the Employee Retirement Income Security Act of 1974 (“ERISA”) with respect to benefit plan clients and, therefore, is subject to ERISA regulations. ERISA and applicable provisions of the Internal Revenue Code impose certain duties on persons who are fiduciaries, prohibit certain transactions involving ERISA plan clients, and provide monetary penalties for violations of these prohibitions. The U.S. Department of Labor, which administers ERISA, has been increasingly active in proposing and adopting regulations affecting the asset management industry.
The Company’s trading activities for client accounts are regulated under the Securities Exchange Act of 1934 (the “Exchange Act”), including laws governing trading on inside information, market manipulation and a broad number of trading requirements (e.g., volume limitations, reporting obligations) and market regulation policies in the United States.
The preceding descriptions of the regulatory and statutory provisions applicable to us are not complete and are qualified in their entirety by reference to their respective statutory or regulatory provisions. Failure to comply with these requirements could have a material adverse effect on our business.
Contractual Relationships with the Funds
The Company is highly dependent on our contractual relationships with the Funds. In the event any of our advisory or administration agreements with the Funds was terminated, not renewed, or amended to reduce fees, we would be materially and adversely affected. We generated approximately 79%, 80% and 74% of our 2018, 2017 and 2016 revenues, respectively, from our advisory and administrative contracts with the Funds. We consider our relationship with the Funds and their board of trustees to be good, and have no reason to believe that these advisory or administration contracts will not be renewed in the future; however, there is no assurance that the Funds will choose to continue their relationships with the Company. Please see Item 1A for risk factors regarding this relationship.
Employees
As of December 31, 2018, the Company employed 125 full-time equivalent employees. As of December 31, 2017, the number of full-time equivalent employees was 118. We believe that our relationship with our employees is good. Our employee count has grown year-over-year and we expect that general trend to continue.

SEC Filings
The Company maintains an Internet website at www.diamond-hill.com. Our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports that we file or furnish pursuant to Section 13(a) or 15(d) of the Exchange Act, are made available free of charge, on or through our website, as soon as reasonably practicable after such material is electronically filed with, or furnished to, the SEC. These filings are also available on the Commission’s web-site at http://www.sec.gov free of charge.


9


ITEM 1A.
Risk Factors
Our future results of operations, financial condition, and liquidity, and the market price of our common shares are subject to various risks, including those mentioned below and those that are discussed from time-to-time in our other periodic filings with the SEC. Investors should carefully consider these risks, along with the other information contained in this Annual Report on Form 10-K, before making an investment decision regarding our common shares. There may be additional risks of which we are currently unaware, or which we currently consider immaterial. The occurrence of any of these risks could have a material adverse effect on our financial condition, results of operations, and liquidity, and the value of our common shares. Please see “Forward Looking Statements” within Item 1 of Part I of this Form 10-K. We assume no obligation to update any forward looking statements as a result of new information, future events or other factors.
Poor investment results of our products could affect our ability to attract new clients or reduce the amount of assets under management, potentially negatively impacting revenue and net income.
If we fail to deliver acceptable investment results for our clients, both in the short and long term, we will likely experience diminished investor interest and a decreased level of AUM. Adverse opinions of the funds we advise published by third parties, including rating agencies and industry analysts, could also decrease our AUM and our revenues.
Investment funds are assessed and rated by independent third parties, including rating agencies, industry analysts and publications. Investors can be influenced by such ratings. If any of the funds we advise receives an adverse report, it could negatively influence the amount of money invested into the fund and increase withdrawals from the fund reducing our AUM and our revenue.
Our success depends on our key personnel, and our financial performance could be negatively affected by the loss of their services.
Our success depends on highly skilled personnel, including portfolio managers, research analysts, and management, many of whom have specialized expertise and extensive experience in the investment management industry. Financial services professionals are in high demand, and we face significant competition for qualified employees. Our employees do not have employment contracts and generally can terminate their employment at any time. We cannot assure that we will be able to retain or replace key personnel. In order to retain or replace our key personnel, we may be required to increase compensation, which would decrease net income. The loss of key personnel could damage our reputation and make it more difficult to retain and attract new employees and clients. A loss of client assets resulting from the departure of key personnel may materially decrease our revenues and net income.
Our AUM, which impacts revenue, is subject to significant fluctuations.
A large majority of our revenue is calculated as a percentage of AUM or is related to the general performance of the equity securities market. A decline in securities prices or in the sale of investment products, or an increase in fund redemptions, generally would reduce revenue and net income. Financial market declines would generally negatively impact the level of our AUM and consequently our revenue and net income. A recession or other economic or political events, both in the United States as well as globally, could also adversely impact our revenue, if such events led to a decreased demand for products, a higher redemption rate, or a decline in securities prices.
Our investment results and/or the growth in our AUM may be constrained if appropriate investment opportunities are not available or if we close certain of our portfolios to new investors.
Our ability to deliver strong investment results depends in large part on our ability to identify appropriate investment opportunities in which to invest client assets. If we are unable to identify sufficient investment opportunities for existing and new client assets on a timely basis, our investment results could be adversely affected. The risk that appropriate investment opportunities may be unavailable is influenced by a number of factors, including general market conditions, and is likely to increase if our AUM increases rapidly. In addition, if we determine that sufficient investment opportunities are not available for a portfolio strategy, or we believe that it is necessary in order to continue to produce attractive returns from a portfolio, we will consider closing the portfolio to new investors. As of December 31, 2018, we have closed three investment strategies to new investors. If we misjudge the point at which it would be optimal to close a portfolio, the investment results of the portfolio could be negatively impacted.

10


Our investment approach may underperform other investment approaches during certain market conditions.
Our investment strategies are best suited for investors with long-term investment horizons.  Our investment strategies may not perform well during certain periods of time, including during periods when the market is more narrowly focused on growth-oriented stocks. 
Additionally, since we apply the same intrinsic value investment process across all of our strategies, utilizing the same analyst team, and due to overlap in many of our investment strategies, we could have common positions and industry concentrations across many of our strategies at the same time.  As such, factors leading one of our investment strategies to underperform may lead other strategies to underperform at the same time.
We are subject to substantial competition in all aspects of our business.
Our investment products compete against a number of investment products and services from:
asset management firms;
mutual fund companies;
commercial banks and thrift institutions;
insurance companies;
exchange traded funds;
hedge funds; and
brokerage and investment banking firms.
Many of our competitors have substantially greater resources than we have and may operate in more markets or offer a broader range of products, including passively managed or “index” products. Some of these institutions operate in a different regulatory environment, which may give them certain competitive advantages in the investment products and portfolio structures that they offer. We compete with other providers of investment services primarily based upon our philosophy, performance and client service. Some institutions have a broad array of products and distribution channels that make it more difficult for us to compete with them. If current or potential customers decide to use one of our competitors, we could face a significant decline in market share, AUM, revenues, and net income. If we are required to lower our fees in order to remain competitive, our net income could be significantly reduced because some of our expenses are fixed, especially over shorter periods of time, and our expenses may not decrease in proportion to the decrease in revenues. Additionally, over the past several years, investors have generally shown a preference for passive investment products, such as index and exchange traded funds, over actively managed strategies. If this trend continues, our AUM may be negatively impacted.
Market and competitive pressures in recent years have created a trend towards lower management fees in the asset management industry and there can be no assurance that we will be able to maintain our current fee structure. As a result, a shift in our AUM from higher to lower fee generating clients and strategies would result in a decrease in profitability even if our AUM increases or remains unchanged.
The loss of access to or increased fees required by third-party distribution sources to market our portfolios and access our client base could adversely affect our results of operations.
Our ability to attract additional AUM is dependent on our relationship with third-party financial intermediaries. We compensate some of these intermediaries for access to investors and for various marketing services provided. These distribution sources and client bases may not continue to be accessible to us for reasonable terms, or at all. If such access is restricted or eliminated, it could have an adverse effect on our results of operations. Fees paid to financial intermediaries for investor access and marketing services have generally increased in recent years. If such fee increases continue, refusal to pay them could restrict our access to those client bases while paying them could adversely affect our profitability.
A significant portion of the Company’s revenues are based on advisory and administrative agreements with the Funds that are subject to termination without cause and on short notice.
The Company is very dependent on our contractual relationships with the Funds. If our advisory or administration agreements with the Funds were terminated, not renewed, or amended to reduce fees, we would be materially and adversely affected. Generally, these agreements are terminable by either party upon 60 days’ written notice without penalty. The agreements are subject to annual approval by either (i) the board of trustees of the Funds or (ii) a vote of the majority of the outstanding voting securities of each Fund. The agreements automatically terminate in the event of their assignment by either the Company or the Fund. We generated approximately 79%, 80%, and 74% of our 2018, 2017 and 2016 revenues, respectively, from our advisory and administrative contracts with the Funds, including 26%, 21%, and 12% from the advisory contracts with the Diamond Hill Long-Short Fund, the Diamond Hill Large Cap Fund, and the Diamond Hill Small-Mid Cap Fund, respectively, during 2018.

11


The loss of the Diamond Hill Long-Short Fund, the Diamond Hill Large Cap Fund, or the Diamond Hill Small-Mid Cap Fund contracts would have a material adverse effect on the Company. We consider our relationship with the Funds and their board of trustees to be good, and we have no reason to believe that these advisory or administration contracts will not be renewed in the future; however, there can be no assurance that the Funds will choose to continue their relationships with us.
Our investment income and asset levels may be negatively impacted by fluctuations in our investment portfolio.
We currently have a substantial portion of our assets invested in Company-sponsored investments. All of these investments are subject to market risk and our non-operating investment income could be adversely affected by adverse market performance. Fluctuations in investment income are expected to occur in the future.
Changes in tax laws and unanticipated tax obligations could have an adverse impact on our financial condition, results of operations and cash flow.
We are subject to federal, state and local income taxes in the United States. Tax authorities may disagree with certain positions we have taken or implement changes in tax policy, which may result in the assessment of additional taxes. We regularly assess the appropriateness of our tax positions and reporting. We cannot provide assurance, however, that we will accurately predict the outcomes of audits, and the actual outcomes of these audits could be unfavorable.
Unauthorized disclosure of sensitive or confidential client or customer information, whether through a breach of our computer systems or otherwise, or other breaches in the security of our systems could severely harm our business.
As part of our business, we collect, process and transmit sensitive and confidential information about our clients and employees, as well as proprietary information about our business. We have policies and procedures pursuant to which we take numerous security measures to prevent cyber-attacks of various kinds as well as fraudulent and inadvertent activity by persons who have been granted access to such confidential information. Nevertheless, our systems, like all technology systems, remain vulnerable to unauthorized access, which can result in theft or corruption of information. In addition, we share information with third parties upon whom we rely for various functions. The systems of such third parties also are vulnerable to cyber threats. Attacks can come from unrelated third parties through the internet, from access to hardware removed from our premises or those of third parties or from employees acting intentionally or inadvertently.
Cyber incidents can involve deliberate attacks designed to corrupt our information systems and make them unusable by us to operate our business; thefts of information used by the perpetrators for gain in numerous ways; or inadvertent releases of information by employees or third parties with whom we do business.
Cyber-attacks that corrupt our information systems and make them unusable by us could impair our ability to trade securities in our clients’ accounts. Corruption of the systems of our third-party vendors could impact the Company to the same extent as corruption of our own systems. If information about our employees is intentionally stolen or inadvertently made public, that information could be used to commit identity theft, obtain credit in an employee’s name or steal from an employee. If information about our business is obtained by unauthorized persons, whether through intentional attacks or inadvertent releases of information, it could be used to harm our competitive position.
Whether information is corrupted, stolen or inadvertently disclosed, and regardless of the nature of the information, whether it be proprietary information or personal information about clients or employees, the results could be multiple and materially harmful to us.
Our reputation could be harmed, resulting in the loss of clients, vendors and employees or making payments or concessions to such persons to maintain our relationships with them.
Our inability to operate our business fully, even if temporarily, and thus fulfill contracts with clients or vendors could result in terminations of contracts and loss of revenue.
Harm suffered by clients or vendors whose contracts we have breached, or by clients, vendors or employees whose information is compromised, could result in costly litigation against us.
Our need to focus attention on remediation of a cyber problem could take our attention away from the operation of our business, resulting in lost revenue.
We could incur costs to repair systems made inoperable by a cyber-attack and to make changes to our systems to reduce future cyber threats. Those changes could include obtaining additional technologies as well as employing additional personnel and training employees.

12


The interruption of our business or theft of proprietary information could harm our ability to compete.
All of the above potential results of a cyber incident could have a material adverse effect on the Company’s business, financial condition and results of operations.
Operational risks may disrupt our business, result in losses or limit our growth.
We are dependent on the capacity and reliability of the communications, information and technology systems supporting our operations, whether developed, owned and operated by the Company or by third parties. Operational risks such as trading or operational errors, interruption of our financial, accounting, trading, compliance and other data processing systems, the loss of data contained in the systems, or compromised systems due to cyber-attack, could result in a disruption of our business, liability to clients, regulatory intervention or reputational damage, and thus adversely affect our business.
Our business is subject to substantial governmental regulation, which can change frequently and may increase costs of compliance; reduce revenue; result in fines, penalties and lawsuits for noncompliance; and adversely affect our results of operations and financial condition.
Our business is subject to a variety of federal securities laws, including the Investment Advisers Act of 1940, the Investment Company Act of 1940, the Securities Exchange Act of 1934, the Sarbanes-Oxley Act of 2002, and the U.S. PATRIOT Act of 2001 and the Dodd-Frank Wall Street Reform and Consumer Protection Act. In addition, we are subject to significant regulation and oversight by the SEC. Changes in legal, regulatory, accounting, tax and compliance requirements could have a significant effect on our operations and results, including but not limited to increased expenses and reduced investor interest in certain funds and other investment products we offer. We continually monitor legislative, tax, regulatory, accounting, and compliance developments that could impact our business. We and our directors, officers and employees could be subject to lawsuits or regulatory proceedings for violations of such laws and regulations, which could result in the payment of fines or penalties and cause reputational harm to us. Such harm could negatively affect our financial condition and results of operations, as well as divert management’s attention from operations.
We continue to seek to understand, evaluate and, when possible, manage and control these and other business risks.
Trading in our common shares is limited, which may adversely affect the time and the price at which you can sell your shares of the Company.
Although our common shares are listed on the NASDAQ Global Select Market, the shares are held by a relatively small number of shareholders, and trading in our common shares is not active. The spread between the bid and the asked prices is often wide. As a result, you may not be able to sell your shares on short notice, and the sale of a large number of shares at one time could temporarily depress the market price. In addition, certain shareholders, including certain directors and officers of the Company, own a significant number of shares. The sale of a large number of shares by any such individual could temporarily depress the market price of our shares.

ITEM 1B.
Unresolved Staff Comments
None.

ITEM 2.
Properties
The Company leases office space at one location in Columbus, Ohio.
The Company does not own any real estate or interests in real estate.

ITEM 3.
Legal Proceedings
From time to time, the Company is party to ordinary routine litigation that is incidental to its business. There are currently no such matters pending that the Company believes could have a material adverse effect on its consolidated financial statements.

ITEM 4.
Mine Safety Disclosures
Not applicable.

13


PART II
ITEM 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
The following performance graph compares the total shareholder return of an investment in our common shares to that of the Russell Microcap® Index, and to a peer group index of publicly traded asset management firms for the five-year period ended on December 31, 2018. The graph assumes that the value of the investment in our common shares and each index was $100 on December 31, 2013. Total return includes reinvestment of all dividends. The Russell Microcap® Index makes up less than 3% of the U.S. equity market and is a market-value-weighted index of the smallest 1,000 securities in the small-cap Russell 2000® Index plus the next 1,000 smallest securities. Peer Group returns are weighted by the market capitalization of each firm at the beginning of the measurement period. The historical information set forth below is not necessarily indicative of future performance. We do not make or endorse any predictions as to future stock performance.

chart-21455319918957efafea02.jpg
 
12/31/2013
 
12/31/2014
 
12/31/2015
 
12/31/2016
 
12/31/2017
 
12/31/2018
Cumulative 5 Year Total Return
Diamond Hill Investment Group, Inc.
$100
 
$120
 
$168
 
$193
 
$195
 
$148
48
 %
Russell Microcap® Index
$100
 
$104
 
$98
 
$118
 
$134
 
$116
16
 %
Peer Group*
$100
 
$97
 
$74
 
$70
 
$87
 
$60
(40
)%

* The Peer Group is based upon all publicly traded asset managers with market cap of less than $5 billion excluding (i) firms whose primary business is hedge fund or private equity, and (ii) firms with multiple lines of business. The following companies are included in the Peer Group: Alliance Bernstein Holding L.P.; Artisan Partners Asset Management Inc.; Cohen & Steers, Inc.; Eaton Vance Corp.; Federated Investors, Inc.; GAMCO Investors, Inc.; Hennessy Advisors, Inc.; Legg Mason, Inc.; Manning & Napier, Inc.; Pzena Investment Management, Inc.; Teton Advisors, Inc.; U.S. Global Investors, Inc.; Virtus Investment Partners, Inc.; Waddell & Reed Financial, Inc.; Wisdomtree Investments, Inc.; and Westwood Holdings Group, Inc.

14


The Company’s common shares trade on the NASDAQ Global Select Market under the symbol DHIL. The following table sets forth the high and low sales prices during each quarter of 2018 and 2017:
 
 
2018
 
2017
 
High
Price
 
Low
Price
 
Dividend
Per Share
 
High
Price
 
Low
Price
 
Dividend
Per Share
Quarter ended:
 
 
 
 
 
 
 
 
 
 
 
March 31
$
215.48

 
$
198.91

 
$

 
$
210.95

 
$
183.60

 
$

June 30
$
203.54

 
$
189.30

 
$

 
$
207.40

 
$
188.34

 
$

September 30
$
197.40

 
$
162.70

 
$

 
$
214.66

 
$
188.71

 
$

December 31
$
177.08

 
$
141.10

 
$
8.00

 
$
217.83

 
$
204.87

 
$
7.00

Due to the relatively low trading volume of our shares, bid/ask spreads can be wide at times and, therefore, quoted prices may not be indicative of the price a shareholder may receive in an actual transaction. During the years ended December 31, 2018 and 2017, approximately 2,472,251 and 2,697,958, respectively, of our common shares were traded. The dividends indicated above were special dividends. We have not paid regular quarterly dividends in the past, and have no present intention of paying regular quarterly dividends in the future. The approximate number of record holders of our common shares at December 31, 2018 was 225, although we believe that the number of beneficial owners of our common shares is substantially greater.
Purchases of Equity Securities by the Issuer and Affiliated Purchasers
The following table sets forth information regarding our repurchase program of our common shares and shares withheld for tax payments due upon vesting of employee restricted stock units and restricted stock awards which vested during the fourth quarter of fiscal year 2018:
 
Period
Total Number of Shares Purchased for Employee Tax Withholdings(a)
 
Total Number
of Shares 
Purchased
as part of Publicly
Announced Program
(b)
 
Average Price
Paid Per Share Purchased Under the Program
 
Purchase Price of Shares
Purchased
Under the Program
 
Aggregate Purchase Price Yet To Be Purchased Under the Program
October 1, 2018 through
October 31, 2018
1,954

 
22,744

 
$
168.52

 
3,833,444

 
46,166,556

November 1, 2018 through
November 30, 2018

 

 
$

 

 
46,166,556

December 1, 2018 through
December 31, 2018

 
22,726

 
$
149.39

 
3,395,805

 
42,770,751

Total
1,954

 
45,470

 


 
7,229,249

 
42,770,751

(a)
The Company regularly withholds shares for tax payments due upon employee Restricted Stock vestings. During the quarter ended December 31, 2018, the Company purchased 1,954 shares for employee tax withholdings at an average price paid per share of $165.39.
(b)
The Company’s current share repurchase program was announced on September 25, 2018. The Board of Directors of the Company authorized management to repurchase up to $50,000,000 of the Company’s common shares in the open market and in private transactions in accordance with applicable securities laws. The Company’s share repurchase program will expire in September 2020. The Company’s previous program, announced on August 9, 2007, was terminated effective with the adoption of the current program.
The Company has entered into a Rule 10b5-1 repurchase plan in connection with its current repurchase program.  This plan is intended to qualify for the safe harbor under Rule 10b5-1 of the Securities Exchange Act of 1934.  A Rule 10b5-1 plan allows a company to purchase its shares at times when it would not ordinarily be in the market due to its trading policies or the possession of material nonpublic information. Purchases may be made in the open market or through privately negotiated transactions.  Purchases in the open market will be made in compliance with Rule 10b-18 under the Exchange Act. Because the repurchases under the 10b5-1 plan will be subject to specified parameters and certain price, timing and volume restraints specified in the plan, there is no guarantee as to the exact number of shares that will be repurchased, or that there will be any repurchases at all pursuant to the plan.
For the year ended December 31, 2018, the Company repurchased 45,470 of the Company’s common shares. From January 1, 2019 through February 21, 2019, the Company repurchased an additional 24,990 common shares.

15


ITEM 6.
Selected Financial Data
The following selected financial data should be read in conjunction with our Consolidated Financial Statements and related notes and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in this Annual Report on Form 10-K. 
 
For the Years Ended December 31,
(in thousands, except per share data)
2018
 
2017
 
2016
 
2015
 
2014
Income Statement Data:
 
 
 
 
 
 
 
 
 
Total revenues
$
145,628

 
$
145,202

 
$
136,103

 
$
124,426

 
$
104,559

Compensation and related costs
53,854

 
54,856

 
52,265

 
47,951

 
43,892

Other expenses
20,518

 
23,345

 
20,769

 
17,755

 
13,207

Total expenses
74,372

 
78,201

 
73,034

 
65,706

 
57,099

Net operating income
71,256

 
67,001

 
63,069

 
58,720

 
47,460

Operating profit margin
49
%
 
46
%
 
46
%
 
47
%
 
45
%
Investment income (loss), net
(6,273
)
 
14,018

 
7,517

 
(737
)
 
2,906

Income tax expense
(18,669
)
 
(29,417
)
 
(26,668
)
 
(20,909
)
 
(18,785
)
Net income
46,314

 
51,602

 
46,594

 
37,074

 
31,581

Net income attributable to common shareholders
47,376

 
49,989

 
46,052

 
37,074

 
31,581

Per Share Information:
 
 
 
 
 
 
 
 
 
Basic earnings
$
13.49

 
$
14.49

 
$
13.52

 
$
11.31

 
$
9.88

Diluted earnings
13.48

 
14.48

 
13.49

 
11.03

 
9.67

Cash dividend declared
8.00

 
7.00

 
6.00

 
5.00

 
4.00

Weighted Average Shares Outstanding
 
 
 
 
 
 
 
 
 
Basic
3,512

 
3,449

 
3,407

 
3,278

 
3,196

Diluted
3,515

 
3,452

 
3,413

 
3,360

 
3,266

 
At December 31,
 
2018
 
2017
 
2016
 
2015
 
2014
Balance Sheet Data (in thousands):
 
 
 
 
 
 
 
 
 
Total cash and corporate investments held directly by DHCM
$
196,545

 
$
171,339

 
$
136,290

 
$
109,966

 
$
81,205

Total assets
325,728

 
250,388

 
199,718

 
145,187

 
107,708

Total liabilities
67,472

 
57,868

 
46,653

 
39,873

 
33,389

Redeemable noncontrolling interest
62,680

 
20,076

 
13,841

 

 

Shareholders equity
195,576

 
172,444

 
139,224

 
105,314

 
74,319

Book value per share
$
55.89

 
$
49.69

 
$
40.81

 
$
30.84

 
$
22.40

Assets Under Management (in millions)
$
19,108

 
$
22,317

 
$
19,381

 
$
16,841

 
$
15,656

Net Client Inflows (Outflows) (in millions)
(1,102
)
 
425

 
164

 
1,467

 
2,262


ITEM 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
In this Item 7, we discuss and analyze the Company’s consolidated results of operations for the past three fiscal years and other factors that may affect future financial performance. This discussion should be read in conjunction with our Consolidated Financial Statements, Notes to Consolidated Financial Statements, and Selected Financial Data contained in this Annual Report on Form 10-K.

16


Business Environment
The performance of the U.S. equity market, as well as the U.S. fixed income and international equity markets, may have a meaningful impact on our operations and financial position. After finishing 2017 with all major indices at all-time highs, U.S. equity markets declined in 2018. For the Russell 1000 Index, it was the first decline since 2008. The outperformance of growth over value was once again a major theme through the first three quarters of 2018, although value regained some ground in the fourth quarter. For 2018, the Russell 1000 Index was down nearly 5% while the Russell 1000 Value Index was down over 8%.
In the fixed income markets, the Federal Reserve raised the federal funds rate 25 basis points each quarter of 2018. For the first 10 months of 2018, long-term Treasury rates moved higher with the federal funds rate, although not to the same extent so the yield curve flattened. During the last two months of 2018, volatility spiked, long-term Treasury rates declined and credit spreads widened dramatically. To engineer a soft landing of the economy, the Federal Reserve tightened financial conditions. Shortly after the hike in federal funds rates on December 19, 2018, the Federal Reserve concluded that financial conditions were too tight with inflation contained and inflation expectations having declined markedly in the fourth quarter. In the last two weeks of 2018, expectations for further declines in federal funds rates declined in part based on the deliberate shift in Federal Reserve communications.
The general market-wide trend toward passive management persisted in 2018. We continue to believe that our strategies will outperform their respective passive benchmarks over a full market cycle, supported by a shared commitment to our intrinsic value-based investment philosophy, long-term perspective, disciplined approach, and alignment with our clients’ interests.  As of December 31, 2018, the since-inception returns for most of our strategies exceeded their respective benchmark returns.
Corporate tax reform through the enactment of the Tax Cuts and Jobs Act of 2017 (the “Tax Act”) on December 22, 2017 benefited U.S. companies throughout 2018. Repatriation of cash held overseas increased during 2018, allowing companies to utilize such cash for share repurchases, acquisitions and investment. Lower tax rates also boosted earnings growth. However, this one-time benefit to earnings growth from tax reform will not repeat in 2019 and we believe that for many companies the after-tax impact on returns will largely decline over time. Our research team continues to evaluate the impact of tax reform from the Tax Act on a company-by-company basis and updates our estimates of intrinsic value accordingly.
The potential impact of macroeconomic factors is one of the many issues that we consider when assessing a potential investment. As always, bottom-up analysis is of primary importance in our estimate of the intrinsic value of an individual company, which includes both valuation and business fundamentals.
In 2018, global trade and tariffs took on new importance.  During 2018, the U.S. government and China imposed tariffs impacting certain products imported from such countries. The size of these recently implemented tariffs is small relative to the total economy, but larger and wider tariffs could be applied in the future, and, for certain companies, the impact is already meaningful. We continually assess the influence of these tariffs and global economic conditions on a company-by-company basis. While we believe that the various parties will eventually come to an agreement on trade, the timing is quite uncertain.
Low inflation and low interest rates along with high corporate profit margins and steady economic growth have driven strong equity market returns since the 2008 recession. The high valuations that resulted made it challenging for us to find investment opportunities, but a broad range of businesses are becoming more attractive after the sell-off in equity markets during the fourth quarter of 2018. Discounts to intrinsic value have widened, and although we continue to be attracted to higher-quality businesses at this point in the economic cycle, we are incrementally spending more time analyzing cyclical businesses whose valuations seem to largely reflect a near-term recession. As always, we remain focused on assessing risk, which we define as the permanent loss of capital.
Despite the normalization in the Federal Reserve’s monetary policy and concern that it could push the economy into a recession, most economic indicators continue to show strength and suggest healthy near-term growth. Following the sell-off in equity markets during the fourth quarter of 2018, price/earnings (“PE”) multiples are near historical averages. We anticipate that decent economic growth and an average starting point for PE multiples will support equity markets over the next five years. However, returns could be held back if historically high corporate profit margins and below-average interest rates revert toward long-term averages. Together, these factors suggest to us that mid- to high- single digit annualized percentage gains are a reasonable expectation for equity market performance over the next five years.
We expect volatility in the fixed income markets to remain elevated for the foreseeable future, as is typical later in the economic cycle. As such, we believe strong fundamental analysis and a focus on long-term company and collateral performance are the keys to security selection in our fixed income strategies.
We believe we can achieve better-than-market returns over the next five years through active portfolio management, and our primary focus is always on achieving value-added results for our clients. Our intrinsic value investment philosophy is shared by

17


all of our portfolio managers and research analysts, allowing us to apply our investment discipline consistently across all of our strategies.
Key Financial Performance Indicators
There are a variety of key performance indicators the Company monitors in order to evaluate our business results. The following table presents the results of certain key performance indicators over the past three fiscal years:
 
For the Years Ended December 31,
 
2018
 
2017
 
2016
Ending AUM (in millions)
$
19,108

 
$
22,317

 
$
19,381

Average AUM (in millions)
21,950

 
20,876

 
17,780

Net cash inflows (outflows) (in millions)
(1,102
)
 
425

 
164

 
 
 
 
 
 
Total Revenue (in thousands)
145,628

 
145,202

 
136,103

Total Expenses (in thousands)
74,371

 
78,201

 
73,034

Average Advisory Fee Rate, excluding variable rate fees(a)
0.61
%
 
0.64
%
 
0.64
%
Operating Profit Margin
49
%
 
46
%
 
46
%
Operating Profit Margin, as adjusted(b)
47
%
 
48
%
 
48
%
(a) Average advisory fee rates, including variable rate fees, were 0.62%, 0.64% and 0.68% for fiscal years 2018, 2017, and 2016, respectively.
(b) Operating profit margin, as adjusted, is a non-GAAP (as defined below) performance measure. See Use of Supplemental Data as Non-GAAP Performance Measure section within this Annual Report on Form 10-K.
Assets Under Management
Our revenue is derived primarily from investment advisory and administration fees. Investment advisory and administration fees paid to the Company are generally based on the value of the investment portfolios we manage and fluctuate with changes in the total value of the AUM. Substantially all of our AUM (92.3%) is valued based on readily available market quotations. AUM in our fixed income strategies (7.7%) is valued using evaluated prices from independent third-party providers. Fees are recognized in the period that the Company manages these assets.
Our revenues are highly dependent on both the value and composition of AUM. The following is a summary of our AUM by product, investment objective, and a roll-forward of the change in AUM for the years ended December 31, 2018, 2017, and 2016:
 
 
Assets Under Management
As of December 31,
(in millions)
2018
 
2017
 
2016
Proprietary funds
$
13,440


$
15,974


$
13,618

Sub-advised funds
1,358


1,518


1,445

Institutional accounts
4,310


4,825


4,318

Total AUM
$
19,108

 
$
22,317

 
$
19,381

 

18


 
Assets Under Management
by Investment Strategy
As of December 31,
(in millions)
2018
 
2017
 
2016
Small Cap
$
1,048

 
$
1,525

 
$
1,843

Small-Mid Cap
2,770

 
3,528

 
3,329

Mid Cap
143

 
130

 
59

Large Cap
9,637

 
10,867

 
8,497

All Cap Select
432

 
444

 
402

Long-Short
3,767

 
4,980

 
4,613

Global/International
18

 
6

 
2

Short Duration Fixed Income
579

 
313

 
197

Core Fixed Income
55

 
44

 
40

Long Duration Fixed Income
52

 

 

Corporate Credit
757

 
668

 
549

High Yield
54

 
31

 
32

  (Less: Investments in affiliated funds) (a)
(204
)
 
(219
)
 
(182
)
Total AUM
$
19,108

 
$
22,317

 
$
19,381

(a) Certain of the Funds own shares of the Diamond Hill Short Duration Total Return Fund. The Company reduces its total AUM by these investments held in this affiliated fund.

 
Change in Assets Under Management
For the Year Ended December 31,
(in millions)
2018
 
2017
 
2016
AUM at beginning of the year
$
22,317

 
$
19,381

 
$
16,841

Net cash inflows (outflows)
 
 
 
 
 
proprietary funds
(978
)
 
843

 
548

sub-advised funds
(25
)
 
(164
)
 
639

institutional accounts
(99
)
 
(254
)
 
(1,023
)
 
(1,102
)
 
425

 
164

Net market appreciation (depreciation) and income
(2,107
)
 
2,511

 
2,376

Increase (decrease) during the year
(3,209
)
 
2,936

 
2,540

AUM at end of the year
$
19,108

 
$
22,317

 
$
19,381

Consolidated Results of Operations
The following is a discussion of our consolidated results of operations.

(in thousands, except per share amounts and percentages)
2018

2017

% Change

2017

2016

% Change
Total revenue
$
145,628

 
$
145,202

 
—%
 
$
145,202

 
$
136,103

 
7%
Net operating income
$
71,256

 
$
67,001


6%

$
67,001

 
$
63,069


6%
Net income attributable to common shareholders
$
47,376

 
$
49,989


(5)%

$
49,989

 
$
46,052


9%
Earnings per share attributable to common shareholders (Diluted)
$
13.48

 
$
14.48


(7)%

$
14.48

 
$
13.49


7%
Operating profit margin
49
%
 
46
%

NM

46
%
 
46
%

NM
Operating profit margin, as adjusted(a)
47
%
 
48
%
 
NM
 
48
%
 
48
%
 
NM
(a) Operating profit margin, as adjusted, is a non-GAAP (as defined below) performance measure. See Use of Supplemental Data as Non-GAAP Performance Measure section within this Annual Report on Form 10-K.

19


Year Ended December 31, 2018 compared with Year Ended December 31, 2017
The Company generated net income attributable to common shareholders of $47.4 million ($13.48 per diluted share) for the year ended December 31, 2018, compared with net income attributable to common shareholders of $50.0 million ($14.48 per diluted share) for the year ended December 31, 2017. Revenue increased $0.4 million period over period primarily due to an increase in average AUM partially offset by a reduction in the administration fee rates paid by the Funds. Operating expenses decreased by $3.8 million primarily related to a decrease in compensation and related costs and general and administrative expenses.
The Company recorded a non-operating loss of $6.3 million in 2018 due to market depreciation from our investments compared to non-operating income of $14.0 million in 2017 due to market appreciation and dividend income from our investments.
Income tax expense decreased $10.7 million from 2017 to 2018 due to the reduction of the effective tax rate from 36.3% to 28.7%. The reduction was primarily due to the impact of the Tax Act, which reduced our corporate income tax rate from 35% to 21% year over year. The effective tax rate of 28.7% differed from the federal statutory tax rate of 21% due primarily to additional income tax expense recorded for the state and local jurisdictions in which we do business.
Operating profit margin was 49% for 2018 and 46% for 2017. Operating profit margin, as adjusted, was 47% for 2018 and 48% for 2017. Operating profit margin, as adjusted, is a non-GAAP (as defined below) performance measure. See Use of Supplemental Data as Non-GAAP Performance Measure section within this Annual Report on Form 10-K. We expect that our operating margin will fluctuate, sometimes substantially, from year-to-year based on various factors, including revenues; investment results; employee performance; staffing levels; development of investment strategies, products, or channels; and industry comparisons.
Year Ended December 31, 2017 compared with Year Ended December 31, 2016
The Company generated net income attributable to common shareholders of $50.0 million ($14.48 per diluted share) for the year ended December 31, 2017, compared with net income attributable to common shareholders of $46.1 million ($13.49 per diluted share) for the year ended December 31, 2016. Revenue increased $9.1 million period over period primarily due to a 17% increase in average AUM year over year, partially offset by $6.4 million in variable rate fees recognized on the early termination of a variable rate fee contract in 2016 compared to $0.2 million in 2017. Operating expenses year-over-year increased $5.2 million, primarily related to increases in compensation and related expenses and general and administrative expenses.
The Company recorded non-operating income of $14.0 million in 2017 due to market appreciation and dividend income from our investment portfolio compared to non-operating income of $10.2 million in 2016 due to $7.5 million in market appreciation and dividend income from our investment portfolio and a $2.7 million gain on the sale of Beacon Hill.
Income tax expense increased $2.7 million from 2016 to 2017 due to the overall increase in income before taxes. Due to the Tax Act, which reduced our corporate income tax rate from 35% to 21% year over year, the Company recorded tax expense of $3.6 million resulting from the re-measurement of the Company’s net deferred tax assets as of December 31, 2017. This additional tax expense in 2017 was partially offset by $2.4 million of excess tax benefits on restricted stock units and restricted stock awards and $0.4 million of tax benefits on dividends paid on restricted stock awards.
Operating profit margin was 46% for both 2017 and 2016. Operating profit margin, as adjusted, was 48% for both 2017 and 2016. See Use of Supplemental Data as Non-GAAP Performance Measure section within this Annual Report on Form 10-K.
Revenue 
(in thousands, except percentages)
2018
 
2017
 
% Change
 
2017
 
2016
 
% Change
Investment advisory
$
135,318

 
$
132,688

 
2%
 
$
132,688

 
$
121,645

 
9%
Mutual fund administration, net
10,310

 
12,514

 
(18)%
 
12,514

 
14,458

 
(13)%
Total
145,628

 
145,202

 
—%
 
145,202

 
136,103

 
7%
Revenue for the Year Ended December 31, 2018 compared with Year Ended December 31, 2017
As a percent of total annual revenues for 2018 and 2017, investment advisory fees accounted for 93% and 91%, respectively, and mutual fund administration fees made up the remaining 7% and 9%, respectively.
Investment Advisory Fees. Investment advisory fees increased by $2.6 million, or 2%, from the year ended December 31, 2017 to the year ended December 31, 2018. Investment advisory fees are calculated as a percentage of the market value of client accounts at contractual fee rates, which vary by investment product. The increase in investment advisory fees was driven

20


by an increase of 5% in average AUM year-over-year and an increase in variable rate fees recognized from $0.2 million in 2017 to $1.4 million in 2018. This was partially offset by a reduction in the average advisory fee rate (excluding variable rate fees) from 0.64% in 2017 to 0.61% in 2018.
Mutual Fund Administration Fees. Mutual fund administration fees decreased $2.2 million, or 18%, from the year ended December 31, 2017 to the year ended December 31, 2018. Mutual fund administration fees are calculated as a percentage of average Funds’ AUM. The decrease was due to reductions in the administration fee rates received from the Funds and an increase in shareholder servicing expenses and required shareholder mailings that DHCM pays on behalf of the Funds. This was partially offset by the 5% increase in average Funds’ AUM in 2018. The table below summarizes the decreases in the administration fee rates during the periods indicated:
 
Class A & C
 
Class I
 
Class Y
1/1/2017 - 5/31/2017
0.24%
 
0.19%
 
0.09%
6/1/2017 - 2/27/2018
0.23%
 
0.18%
 
0.08%
2/28/2018 - 12/31/2018
0.21%
 
0.17%
 
0.05%
Revenue for the Year Ended December 31, 2017 compared with Year Ended December 31, 2016
As a percent of total annual revenues for 2017 and 2016, investment advisory fees accounted for 91% and 89%, respectively, and mutual fund administration fees made up the remaining 9% and 11%, respectively.
Investment Advisory Fees. Investment advisory fees increased by $11.0 million, or 9%, from the year ended December 31, 2016 to the year ended December 31, 2017. Investment advisory fees are calculated as a percentage of the market value of client accounts at contractual fee rates, which vary by investment product. The increase in investment advisory fees was driven by an increase of 17% in average AUM year-over-year, partially offset by $6.4 million in variable rate fees recognized on the early termination of variable rate fee contracts in 2016 compared to $0.2 million in 2017. The average advisory fee rate (excluding variable rate fees) in both 2017 and 2016 was 0.64%.
Mutual Fund Administration Fees. Mutual fund administration fees decreased $1.9 million, or 13%, from the year ended December 31, 2016 to the year ended December 31, 2017. Mutual fund administration fees include administration fees received from the Funds, which are calculated as a percentage of average Funds’ AUM. Mutual fund administration fees for the year ended December 31, 2016 included Beacon Hill administration fees of $2.5 million, which were absent in 2017. Absent Beacon Hill revenue, mutual fund administration fees related to the Funds increased $0.6 million period over period. This increase is primarily driven by a 20% increase in average Funds’ AUM from the year ended December 31, 2016 to the year ended December 31, 2017, partially offset by a decrease of two basis points in the net administration fee rate from 0.10% for the year ended December 31, 2016 to 0.08% for the year ended December 31, 2017. The decrease in the net administration fee rate was due to the following fee reductions that occurred during the periods indicated:
 
Class A & C
 
Class I
 
Class Y
1/1/2016 - 7/31/2016
0.24%
 
0.20%
 
0.10%
8/1/2016 - 12/31/2016
0.24%
 
0.19%
 
0.09%
1/1/2017 - 5/31/2017
0.24%
 
0.19%
 
0.09%
6/1/2017 - 12/31/2017
0.23%
 
0.18%
 
0.08%
Expenses
(in thousands, except percentages)
2018
 
2017
 
% Change
 
2017
 
2016
 
% Change
Compensation and related costs(a)
$
53,854

 
$
54,856

 
(2)%
 
$
54,856

 
$
52,265

 
5%
General and administrative
11,649

 
14,037

 
(17)%
 
14,037

 
12,622

 
11%
Sales and marketing
5,243

 
4,994

 
5%
 
4,994

 
4,263

 
17%
Mutual fund administration
3,626

 
4,313

 
(16)%
 
4,313

 
3,884

 
11%
Total
74,372

 
78,200

 
(5)%
 
78,200

 
73,034

 
7%
(a) Included in compensation and related costs is deferred compensation benefit of $2.1 million for the year ended December 31, 2018 and deferred compensation expense of $2.4 million and $1.8 million for the years ended December 31, 2017 and 2016, respectively. See Use of Supplemental Data as Non-GAAP Performance Measure section within this Annual Report on Form 10K for additional information.

21


Expenses for the Year Ended December 31, 2018 compared with Year Ended December 31, 2017
Compensation and Related Costs. Employee compensation and benefits decreased by $1.0 million, or 2%, from the year ended December 31, 2017 to the year ended December 31, 2018, due to a decrease of $4.5 million in deferred compensation expense and a decrease of $0.4 million in restricted stock expense. The decrease was partially offset by increases of $2.8 million in salary and related benefits and $1.1 million in incentive compensation. We had 120 average full-time equivalent employees for 2018, compared to 114 for 2017. Incentive compensation expense can fluctuate significantly period-over-period as we evaluate incentive compensation by reviewing investment performance, individual performance, Company performance and other factors.
General and Administrative. General and administrative expenses decreased by $2.4 million, or 17%, from the year ended December 31, 2017 to the year ended December 31, 2018. This decrease is primarily due to a decrease in charitable donations of $2.7 million and a decrease of $0.7 million of consulting expense due to bringing more business functions in-house. The decrease was partially offset by increases in investment research expenses of $0.5 million, depreciation expense of $0.3 million and information technology expense of $0.2 million.
Sales and Marketing. Sales and marketing expenses increased by $0.2 million, or 5%, from the year ended December 31, 2017 to the year ended December 31, 2018. This increase was primarily due to additional payments made to third party financial intermediaries related to the sale of our proprietary funds. For each of the years ended December 31, 2018 and 2017, approximately 65% of sales and marketing expense is related to revenue sharing payments made to third party financial intermediaries.
Mutual Fund Administration. Mutual fund administration expenses decreased by $0.7 million, or 16%, from the year ended December 31, 2017 to the year ended December 31, 2018. Mutual fund administration expenses consist of both variable and fixed expenses. The variable expenses are based on Fund AUM and the number of shareholder accounts. The decrease was primarily due to a reduction in outsourced administrative services for the Funds which was brought in-house during 2018.
Expenses for the Year Ended December 31, 2017 compared with Year Ended December 31, 2016
Compensation and Related Costs. Employee compensation and benefits increased by $2.6 million, or 5%, from the year ended December 31, 2016 to the year ended December 31, 2017, due to increases of $2.8 million in incentive compensation during fiscal year 2017, $0.5 million in deferred compensation expense and $0.3 million in restricted stock expense. These increases were offset by a decrease of $1.0 million in salaries and related benefits due to the sale of Beacon Hill in 2016. Incentive compensation expense can fluctuate significantly period over period as we evaluate incentive compensation by reviewing investment performance, individual performance, Company performance and other factors.
General and Administrative. General and administrative expenses increased by $1.4 million, or 11%, from the year ended December 31, 2016 to the year ended December 31, 2017. This increase is primarily due to an increase in information technology consulting expense of $0.7 million, primarily to enhance our enterprise data management and customer relationship management software, an increase in investment research expenses of $0.5 million, and an increase in depreciation expense of $0.2 million.
Sales and Marketing. Sales and marketing expenses increased by $0.7 million, or 17%, from the year ended December 31, 2016 to the year ended December 31, 2017. This increase was primarily due to additional payments made to third party financial intermediaries related to the sale of our proprietary funds. For the years ended December 31, 2017 and 2016, approximately 65% and 63%, respectively, of sales and marketing expense was related to revenue sharing payments made to third party financial intermediaries.
Mutual Fund Administration. Mutual fund administration expenses increased by $0.4 million, or 11%, from the year ended December 31, 2016 to the year ended December 31, 2017. Mutual fund administration expenses consist of both variable and fixed expenses. The variable expenses are based on Fund AUM and the number of shareholder accounts. The increase was primarily due to the 20% increase in average Funds’ AUM from the year ended 2016 to the year ended 2017.
Liquidity and Capital Resources
Sources of Liquidity
Our current financial condition is highly liquid, with a significant amount of our assets comprised of cash and cash equivalents, investments, accounts receivable, direct investments in consolidated funds and other current assets. Our main source of liquidity is cash flows from operating activities, which are generated from investment advisory and mutual fund administration fees. Cash and cash equivalents, investments held directly by DHCM, accounts receivable, and other current assets represented

22


$216.5 million and $196.4 million of total assets as of December 31, 2018 and 2017, respectively. We believe these sources of liquidity, as well as our continuing cash flows from operating activities, will be sufficient to meet our current and future operating needs for the next 12 months.

Uses of Liquidity
In line with the Company’s primary objective to fulfill our fiduciary duty to clients and secondary objective to achieve an adequate long-term return for shareholders, we anticipate our main uses of cash will be for operating expenses and seed capital to fund new and existing investment strategies.
Our Board of Directors and management regularly review various factors to determine whether we have capital in excess of that required for the business and the appropriate use of any excess capital. The factors considered include our investment opportunities, capital needed for investment strategies, risks, and future dividend and capital gain tax rates. On September 25, 2018, the Company announced that our Board of Directors authorized management to repurchase the Company’s common shares having an aggregate purchase price up to $50.0 million. During 2018, the Company repurchased 45,470 common shares totaling $7.2 million under the program. The authority to repurchase shares will be exercised from time to time as market conditions warrant and is subject to regulatory considerations. Evaluating management’s stewardship of capital for shareholders is a central part of our investment discipline that we practice for our clients. We hold ourselves to the same standard.
While 2018 was the eleventh consecutive year that the Company has paid a special dividend, there can be no assurance that we will pay a dividend in the future. We have paid out special dividends totaling $21.00 per share from 2016 through 2018. The 2018, 2017, and 2016 special dividends reduced shareholders’ equity by $28.1 million, $24.3 million, and $20.5 million, respectively.
Working Capital
As of December 31, 2018, the Company had working capital of approximately $181.0 million, compared to $162.5 million at December 31, 2017. Working capital includes cash, accounts receivable, investments, direct investments in Consolidated Funds, and other current assets of DHCM, net of accounts payable and accrued expenses, accrued incentive compensation, deferred compensation and other current liabilities of DHCM.
The Company has no debt, and we believe our available working capital is sufficient to cover current expenses and presently anticipated capital expenditures.
Below is a summary of investments as of December 31, 2018 and 2017:
 
As of December 31,
 
2018
 
2017
Corporate Investments:
 
 
 
Diamond Hill Core Bond Fund
$
37,197,134

 
$
30,529,852

Diamond Hill High Yield Fund
25,931,879

 
14,200,885

Diamond Hill Mid Cap Fund
15,035,251

 
19,270,451

Diamond Hill Research Opportunities Fund
12,912,291

 
15,409,571

Diamond Hill Valuation-Weighted 500 ETF
11,497,699

 
12,096,719

Diamond Hill Global Fund
8,482,790

 

Diamond Hill Global Fund, L.P.

 
2,055,196

Diamond Hill International Equity Fund, L.P.
1,057,445

 
1,173,870

Total Corporate Investments
112,114,489

 
94,736,544

Deferred Compensation Plan Investments in the Funds
22,387,874

 
20,480,790

Total investments held by DHCM
134,502,363

 
115,217,334

Redeemable noncontrolling interest in Consolidated Funds
68,985,854

 
23,258,688

Total investments
$
203,488,217

 
$
138,476,022


23


Cash Flow Analysis
Cash Flows from Operating Activities
The Company’s cash flows from operating activities are calculated by adjusting net income to reflect other significant operating sources and uses of cash, certain significant non-cash items such as share-based compensation, and timing differences in the cash settlement of operating assets and liabilities. We expect that cash flows provided by operating activities will continue to serve as our primary source of working capital in the near future.
For the year ended December 31, 2018, net cash provided by operating activities totaled $28.1 million. The changes in net cash provided by operating activities were primarily driven by net income of $46.3 million, the add back of share-based compensation of $8.9 million and depreciation of $1.2 million, and the effect of non-cash items and timing differences in the cash settlement of assets and liabilities of $23.9 million. These cash inflows were partially offset by the net change in securities held in the underlying investment portfolios of our Consolidated Funds of $52.2 million. Absent the operating cash flows of the Consolidated Funds, cash flow from operations would have been approximately $79.9 million (see “Supplemental Consolidated Cash Flow Statement” below). We expect that cash flows provided by operating activities will continue to serve as our primary source of working capital in the near future.

For the year ended December 31, 2017, net cash provided by operating activities totaled $60.9 million. The changes in net cash provided by operating activities were primarily driven by net income of $51.6 million and the add back of share-based compensation of $8.6 million and depreciation of $0.9 million, and the effect of non-cash items and timing differences in the cash settlement of assets and liabilities of $5.4 million. These cash inflows were partially offset by the net change in securities held in our Consolidated Funds underlying investment portfolios of $5.5 million. Absent the operating cash flows of the Consolidated Funds, cash flow from operations would have been approximately $64.3 million.
For the year ended December 31, 2016, net cash provided by operating activities totaled $20.1 million. The changes in net cash provided by operating activities were primarily driven by net income of $46.6 million, the add back of share-based compensation of $8.2 million and depreciation of $0.7 million, and the effect of noncash items and timing differences in the cash settlement of assets and liabilities of $6.2 million. These cash inflows were significantly offset by the net change in securities held in our Consolidated Funds underlying investment portfolios of $41.7 million. Absent the operating cash flows of the Consolidated Funds, cash flow from operations would have been approximately $60.7 million.

Cash Flows from Investing Activities
The Company’s cash flows from investing activities consist primarily of capital expenditures and purchases and redemptions in our investment portfolio.
Cash flows used in investing activities totaled $4.3 million for the year ended December 31, 2018. The Company purchased corporate investments of $6.3 million and made $0.8 million of property and equipment purchases during the period. These cash outflows were partially offset by redemptions of corporate investments of $2.4 million and $0.5 million of proceeds from the scheduled collection of the promissory note received from the sale of Beacon Hill.
Cash flows used in investing activities totaled $18.6 million for the year ended December 31, 2017. The Company purchased corporate investments of $21.0 million and made $1.1 million of property and equipment purchases during the period. These cash outflows were partially offset by redemptions of corporate investments of $2.6 million and $1.0 million of proceeds from the scheduled collection of the promissory note received from the sale of Beacon Hill.
Cash flows used in investing activities totaled $5.7 million for the year ended December 31, 2016. The Company purchased corporate investments of $26.0 million and made $0.5 million of property and equipment purchases during the period. This cash outflow was partially offset by redemptions of corporate investments of $19.5 million and net proceeds received of $1.2 million from the sale of Beacon Hill.
Cash Flows from Financing Activities
The Company’s cash flows from financing activities consist primarily of the payment of special dividends, the repurchase of its common shares, shares withheld related to employee tax withholding and distributions to, or contributions from, redeemable noncontrolling interest holders.
For the year ended December 31, 2018, net cash used by financing activities totaled $16.0 million, consisting of the payment of special dividends of $28.1 million, the repurchase of the Company’s common shares of $7.2 million, and the value of shares withheld related to employee tax withholding of $1.9 million. These financing outflows were partially offset by net subscriptions received from redeemable noncontrolling interest holders of $21.2 million.

24



For the year ended December 31, 2017, net cash used by financing activities totaled $23.0 million, consisting of the payment of special dividends of $24.3 million and the value of shares withheld related to employee tax withholding of $5.0 million. These financing outflows were partially offset by net subscriptions received from redeemable noncontrolling interest holders of $6.3 million.

For the year ended December 31, 2016, net cash used by financing activities totaled $14.6 million, consisting of the payment of special dividends of $20.5 million and the value of shares withheld related to employee tax withholding of $10.0 million. These financing outflows were partially offset by net subscriptions received from redeemable noncontrolling interest holders of $9.6 million, excess income tax benefit from share-based compensation of $4.9 million, and income tax benefit from dividends paid on restricted stock of $1.4 million.
Supplemental Consolidated Cash Flow Statement
On January 1, 2016, the Company implemented the new consolidation accounting guidance that resulted in the consolidation of the Company’s exchange traded fund (“ETF”), the Diamond Hill Core Bond Fund, the Diamond Hill High Yield Fund, and the Diamond Hill Global Fund (collectively the “Consolidated Funds”) in which we have controlling interests. Our consolidated balance sheet now reflects the investments and other assets and liabilities of the Consolidated Funds, as well as redeemable noncontrolling interests for the portion of the Consolidated Funds that are held by third party investors. Although we can redeem our net interest in the Consolidated Funds at any time, we cannot directly access or sell the assets held by the Consolidated Funds to obtain cash for general operations. Additionally, the assets of the Consolidated Funds are not available to general creditors.
The following table summarizes the condensed cash flows for the year ended December 31, 2018, that are attributable to Diamond Hill Investment Group, Inc. and to the Consolidated Funds, and the related eliminations required in preparing the consolidated financial statements.
 
Year Ended December 31, 2018
 
Cash flow attributable to Diamond Hill Investment Group, Inc.
 
Cash flow attributable to Consolidated Funds
 
Eliminations
 
As reported on the Consolidated Statement of Cash Flows
Cash flows from Operating Activities:
 
 
 
 
 
 
 
Net Income
$
47,375,829

 
$
(2,677,977
)
 
$
1,616,536

 
$
46,314,388

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

Depreciation
1,159,380

 

 

 
1,159,380

Share-based compensation
8,896,610

 

 

 
8,896,610

Net (gains)/losses on investments
13,235,941

 
2,677,977

 
(1,616,536
)
 
14,297,382

Net change in securities held by Consolidated Funds

 
(52,168,968
)
 

 
(52,168,968
)
Other changes in assets and liabilities
9,202,427

 
429,372

 

 
9,631,799

Net cash provided by (used in) operating activities
79,870,187

 
(51,739,596
)
 

 
28,130,591

Net cash used in investing activities
(34,792,725
)
 

 
30,531,828

 
(4,260,897
)
Net cash provided by (used in) financing activities
(37,249,511
)
 
51,739,596

 
(30,531,828
)
 
(16,041,743
)
Net change during the period
7,827,951

 

 

 
7,827,951

Cash and cash equivalents at beginning of year
76,602,108

 

 

 
76,602,108

Cash and cash equivalents at end of year
$
84,430,059

 
$

 
$

 
$
84,430,059


25


Selected Quarterly Information
Our unaudited quarterly results of operations for the years ended December 31, 2018 and 2017 are summarized below:
 
At or For the Quarter Ended
 
2018
 
2017
(in thousands, except per share data)
12/31
 
09/30
 
06/30
 
03/31
 
12/31
 
09/30
 
06/30
 
03/31
Assets under management
(in millions)
$
19,108

 
$
22,629

 
$
21,827

 
$
21,929

 
$
22,317

 
$
21,455

 
$
20,924

 
$
20,333

Total revenue
34,446

 
37,471

 
35,928

 
37,782

 
37,753

 
36,772

 
35,543

 
35,134

Total operating expenses
14,659

 
20,556

 
19,578

 
19,578

 
19,443

 
19,884

 
19,576

 
19,298

Operating income
19,787

 
16,915


16,350

 
18,204

 
18,310

 
16,888

 
15,967

 
15,836

Investment income, net
(13,488
)
 
5,210

 
3,565

 
(1,559
)
 
4,439

 
2,768

 
3,025

 
3,786

Income before taxes
$
6,299

 
$
22,125

 
$
19,915

 
$
16,645

 
$
22,749

 
$
19,656

 
$
18,992

 
$
19,622

Income tax expense
$
(4,223
)
 
$
(5,727
)
 
$
(5,017
)
 
$
(3,702
)
 
$
(10,398
)
 
$
(6,498
)
 
$
(6,025
)
 
$
(6,496
)
Net income
$
2,076

 
$
16,398

 
$
14,898

 
$
12,943

 
$
12,351

 
$
13,158

 
$
12,967

 
$
13,126

Net income attributable to common shareholders
$
4,809

 
$
15,208

 
$
14,370

 
$
12,989

 
$
11,895

 
$
12,699

 
$
12,638

 
$
12,757

Diluted EPS
$
1.37

 
$
4.31

 
$
4.08

 
$
3.72

 
$
3.43

 
$
3.67

 
$
3.66

 
$
3.71

Diluted weighted shares outstanding
3,514

 
3,532

 
3,520

 
3,492

 
3,471

 
3,461

 
3,449

 
3,435


Contractual Obligations
The following table presents a summary of the Company’s future obligations under the terms of operating leases and lease commitments, other contractual purchase obligations, and deferred compensation obligations at December 31, 2018. Other purchase obligations include contractual amounts that will be due for the purchase of services to be used in our operations, such as mutual fund sub-administration and investment related research software. These obligations may be cancelable at earlier times than those indicated and, under certain conditions, may involve termination fees. Because these obligations are primarily of a normal recurring nature, we expect to fund them from future cash flows from operations. The deferred compensation obligations includes compensation that will be paid out in future years and which will be funded by the related deferred compensation investments currently held on our consolidated balance sheets (see Note 6 to the consolidated financial statements). The information presented does not include operating expenses or capital expenditures that will be committed in the normal course of operations in 2019 and future years:
 
 
 
 
Payments Due by Period
(in thousands)
Total
 
2019
 
2020
 
2021
 
2022
 
2023
 
Thereafter
Operating lease obligations
$
3,853

 
$
586

 
$
615

 
$
624

 
$
624

 
$
624

 
$
780

Purchase obligations
5,170

 
3,807

 
1,340

 
21

 
2

 

 

Deferred compensation obligations
22,387

 
1,678

 
2,870

 
2,056

 
2,278

 
2,700

 
10,805

Total
$
31,410

 
$
6,071

 
$
4,825

 
$
2,701

 
$
2,904

 
$
3,324

 
$
11,585


26


Use of Supplemental Data as Non-GAAP Performance Measures
As supplemental information, we are providing performance measures that are based on methodologies other than U.S. generally accepted accounting principles (“non-GAAP”). We believe the non-GAAP measures below are useful measures of our core business activities, are important metrics in estimating the value of an asset management business and may enable more appropriate comparison to our peers. These non-GAAP measures should not be a substitute for financial measures calculated in accordance with U.S. generally accepted accounting principles (“GAAP”) and may be calculated differently by other companies. The following schedule reconciles GAAP measures to non-GAAP measures for the years ended December 31, 2018, 2017, and 2016, respectively.
 
Year Ended December 31,
(in thousands, except percentages and per share data)
2018
 
2017
 
2016
Total revenue
$
145,628


$
145,202

 
$
136,103







 
 
Net operating income, GAAP basis
$
71,256


$
67,001

 
$
63,069

Non-GAAP adjustments:



 
 
Gains (losses) on deferred compensation plan investments, net(1)
(2,122
)

2,382

 
1,837

Net operating income, as adjusted, non-GAAP basis(2)
69,134


69,383