Good morning. My name is DeeDee, and I will be your conference operator today. I would like to welcome everyone to the Virtus Investment Partners Quarterly Conference Call. The slide presentation for this call is available in the Investor Relations section of the Virtus website, www.virtus.com. This call is being recorded and will be available for replay on the Virtus website. At this time, all participants are in a listen-only mode. After the speaker's remarks, there will be a question-and-answer period, and instructions will follow at that time. I will now turn the conference over to your host, Sean Rourke.
Thank you, and good morning, everyone. On behalf of Virtus Investment Partners, I would like to welcome you to the discussion of our operating and financial results for the third quarter of 2023. Our speakers today are George Aylward, President and CEO, and Mike Angerthal, Chief Financial Officer. Following the prepared remarks, we'll have a Q&A period. Before we begin, please note the disclosures on page 2 of the slide presentation. Certain matters discussed on this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, and as such, are subject to known and unknown risks and uncertainties, including, but not limited to, those factors set forth in today's news release and discussed in our SEC filings. These risks and uncertainties may cause actual results to differ materially from those discussed in the statements.
In addition to results presented on a GAAP basis, we use certain non-GAAP measures to evaluate our financial results. Our non-GAAP financial measures are not substitutes for GAAP financial results and should be read in conjunction with the GAAP results. Reconciliations of these non-GAAP financial measures, the applicable GAAP measures, are included in today's news release and financial supplement, which are available on our website. Now I'd like to turn the call over to George. George?
Thank you, Sean. Good morning, everyone. I'll start with an overview of the results we reported earlier today before turning it over to Mike to provide the detail. In the third quarter, we continued to operate in a challenging and volatile environment, and the key highlights of our results included higher retail sales and positive net flows in retail separate accounts, global funds and ETFs, increased net earnings and operating margin, higher return of capital, including our sixth consecutive annual dividend increase, investments in the growth of the business, including in a CLO and in an affiliate, attractive investment performance across strategies and products, both long term and year to date, and repayment of debt, ending the quarter with a well-positioned balance sheet and modest net leverage. Turning now to the review of the results.
Total assets under management decreased 3% to $163 billion, primarily due to market impact in addition to net outflows in retail funds. Sales were $5.8 billion, with a 16% increase in retail sales, more than offset by a decline in institutional, which had a large mandate in the prior quarter. In retail, open-end fund sales increased 5%, with sequentially higher alternatives, fixed income, and domestic equity, and retail separate account sales were significantly higher, up 37%, due to strength in SMID Cap. Net outflows were $1.5 billion, down from break even last quarter. By product, institutional had net outflows of $0.4 billion, compared with net inflows of $2.2 billion last quarter, which included a large mandate.
This business is inherently variable on a quarterly basis, but has generated organic growth year to date and in each of the last three calendar years, with contributions across affiliates, strategies, and geographies. Retail separate accounts generated positive net flows of $0.3 billion and were positive for the year-to-date period. We continue to build out additional strategies and capabilities in retail separate accounts, where we continue to see meaningful growth opportunities. Open-end fund net outflows of $1.5 billion improved from $2.2 billion in the second quarter, with a favorable net flow trend across most strategies, and notably in alternatives, with AlphaSimplex generating positive net flows since they joined us in April. SMID Cap and Global Equities again generated positive net flows, and we are seeing particularly strong traction in Mid Cap at Kayne.
Within open-end funds, ETFs again generated positive net flows, and we continue to see opportunities to further broaden the product lineup with additional actively managed fixed income funds as well as other distinctive strategies. We also saw positive net flows in global funds, where we continue to expand that product set. In terms of what we're seeing in October, the trend for retail open-end funds remains similar to the third quarter. For institutional, the pipeline remains strong, with won but not funded mandates exceeding known redemptions. As always, though, the timing of institutional fundings and redemptions is very difficult to predict and can be lumpy from quarter to quarter, especially in this volatile market in which we are seeing a longer funding cycle. Our third quarter financial results reflected higher average AUM levels and our ongoing management of expenses.
The operating margin was 33.9, up sequentially from 32.3, due to higher investment management fees and relatively unchanged costs. This demonstrates the leverageability of the business, as was also illustrated by a 78% incremental margin. Earnings per share as adjusted of $6.21, increased 14% from $5.43 in the second quarter due to higher revenues and stable expenses, as well as higher interest income, largely related to a CLO we issued in 2022. Turning now to capital. During the quarter, we invested in the growth of the business, repaid debt and increased capital return. In August, we announced a 15% increase in our quarterly dividend, which we have raised annually for six consecutive years.
We also repurchased over 74,000 shares for $15 million, up from $10 million in the prior quarter, as repurchases were attractive given the valuation. We also continued to invest in the growth of the business, including $26 million to sponsor a new CLO issued by Seix, and $21 million to increase our ownership in SGA, reflecting equity purchases that were part of the original transaction intended to facilitate succession. We ended the quarter in modest net debt position after repaying $20 million of our credit facility, and we continue to generate significant cash flow, providing ongoing opportunities to invest in the growth of the business, return capital to shareholders. With that, I'll turn the call over to Mike. Mike?
Thank you, George. Good morning, everyone. Starting with our results on Slide 7, Assets Under Management. At September 30, assets under management were $162.5 billion, down 3% from $168.3 billion at June 30, due to $3.6 billion of unfavorable market impact and net outflows of $1.5 billion. Average assets in the quarter increased 3% to $167.9 billion, with ending assets under management 3% lower than the quarter's average. Our assets under management represent a broad range of product and asset classes.
By product, institutional and retail separate accounts continue to grow as a percentage of our assets, with institutional now 37% of AUM, up from 32% a year ago, and retail separate accounts at 24% of AUM, up from 23%, while U.S. retail funds represented 29% of AUM, down from 34%. We are also well represented within asset classes. In equities, between international and domestic, and within domestic, nearly evenly split among small, mid, and large cap strategies, and fixed income, well diversified across duration, credit quality, and geography. We also continue to have compelling long-term relative investment performance across products and strategies. As of September thirtieth, approximately 65% of institutional assets and 84% of retail separate account assets were outperforming their benchmarks over five years.
For our rated mutual funds, 80% outperformed the median of their peer groups over the 5-year period. In addition, approximately 74% of rated fund assets had four or five stars, up from 62% last quarter, and 89% were in three, four, or five-star funds. We had 39 funds that were rated four or five stars, including 11 with AUM of $1 billion or more. I would also note that our managers performed well year-to-date in challenging markets, with 67% and 89% of institutional and retail separate accounts AUM, respectively, beating benchmarks for the period, and 73% of mutual funds AUM outperforming the median performance of the peer group. Turning to Slide 8, Asset Flows. Total sales of $5.8 billion declined from $7.6 billion due to institutional, which included a large mandate last quarter, while retail sales increased 16%.
By product, institutional sales of $1.3 billion included the issuance of a $300 million CLO and were down from $3.7 billion last quarter. Retail separate account sales of $1.8 billion increased 37% from $1.3 billion, largely due to SMID Cap. Fund sales of $2.7 billion increased 5% from $2.6 billion, with higher sales in alternatives, fixed income, domestic equity, and multi-asset. Total net outflows were $1.5 billion, which compared with break-even net flows in the prior quarter, with net outflows largely driven by U.S. retail funds. Reviewing by product, institutional net outflows of $0.4 billion compared with positive net flows of $2.2 billion in the prior quarter, as flows will fluctuate depending on the timing of client actions.
Over the past four quarters, institutional has generated a 5% organic growth rate, with flows well diversified across affiliates, strategies, and geographies. In retail separate accounts, positive net flows of $0.3 billion improved from modest net outflows in the prior quarter, and both the intermediary sold and private client channels generated positive net flows. For open-end funds, net outflows improved to $1.5 billion from $2.1 billion in the second quarter. The net outflows were primarily due to U.S. retail funds, as both ETFs and global funds continued to generate positive net flows. Within open-end funds, both small-mid-cap and global equity generated positive net flows, and net flows improved in alternatives, fixed income, and domestic equity strategies. Turning to Slide 9.
Investment management fees as adjusted of $177.4 million increased $6.3 million, or 4%, reflecting the sequential increase in average assets under management. The average fee rate of 42 basis points was relatively unchanged, declining slightly from 42.2 in the prior quarter. The modest decline reflected the full quarter impact of the large institutional funding in the second quarter, mostly offset by our higher average open-end fund fee rate. Performance fees in the quarter of $0.6 million, compared with $0.3 million in the second quarter. And looking ahead, we continue to expect the average fee rate to be in a range of 42-44 basis points, though, given the current environment, we would expect to be at the low end of the range in the fourth quarter.
As always, the fee rate will be impacted by markets and the mix of assets. Slide 10 shows the 5-quarter trend in employment expenses. Total employment expenses, as adjusted of $98.8 million, increased 3% sequentially. The modest increase reflected higher incentive compensation due to affiliate profitability, stronger retail sales, and higher non-cash performance-based stock compensation. As a percentage of revenues, employment expenses were 50.1%, down modestly from 50.3% of revenues last quarter. Looking ahead, we continue to expect employment expenses to be in the range of 49%-51% of revenues, albeit at the high end of the range for the fourth quarter, given current market levels. As always, it will be variable based on market performance, in particular, as well as profits and sales. Turning to Slide 11.
Other operating expenses as adjusted, were $30.1 million, down $1.6 million, or 5% from the second quarter. Excluding the $0.9 million of annual board grants in the prior quarter, other operating expenses declined 2% sequentially, reflecting continued management of discretionary expenditures. Looking ahead, we would anticipate that other operating expenses as adjusted, will be in a quarterly range of $30 million-$32 million, down modestly from the previous range. Slide 12 illustrates the trend in earnings. Operating income as adjusted of $67 million, increased by $5.4 million, or 9% sequentially, due to higher average assets under management and flat operating expenses. The operating margin as adjusted of 33.9%, compared with 32.3% in the second quarter.
With respect to certain non-operating items, other expenses as adjusted improved by $0.9 million, reflecting lower unrealized losses on investments. Total net interest income increased by $1.5 million, primarily reflecting interest income on the CLO issued late last year. Net income as adjusted of $6.21 per diluted share increased 14% from $5.43 in the second quarter. Regarding GAAP results, net income per share of $4.19, compared with $4.10 per share in the second quarter, and included a $0.67 expense for fair value adjustments to affiliate non-controlling interests, and $0.37 of acquisition, integration, and restructuring costs. Slide 13 shows the trend of our capital, liquidity, and select balance sheet items. We ended the quarter with net debt of $84 million, representing net leverage of 0.3x.
Our strong balance sheet supported continued balanced capital management in the quarter, including investments in growth, return of capital, and debt repayment. Investments in growth during the quarter included $26 million to sponsor a new CLO, as well as a $21 million investment to increase our ownership in SGA to 75%. In August, we announced a 15% increase in our quarterly dividend to $1.90 per share, and over the past six years, we have increased the dividend by over 300%. We also repurchased 74,015 shares during the quarter for $15 million, up from $10 million in the prior quarter. We continued to pay down our revolving credit facility, repaying $20 million in the quarter. We have adequate levels of working capital and modest leverage, providing meaningful financial flexibility to repay debt, invest in the business, and return capital.
I would also note, as a reminder, that our intangible assets continued to provide a cash tax benefit, which grew with the acquisition of AlphaSimplex earlier this year and with the increase in our ownership of SGA. At current tax rates, we estimate the tax attributes could provide a cash tax benefit of approximately $19 million per year over the next 10 years. With that, let me turn the call back over to George. George?
Thanks, Mike. So we'll now take your questions. DeeDee, would you open up the lines, please?
Thank you. As a reminder, to ask a question, please press star one one on your telephone and wait for your name to be announced. To withdraw your question, please press star one one again. Please stand by while we compile the Q&A roster. Our first question comes from Michael Cyprys of Morgan Stanley. Please proceed.
Hey, good morning. I was hoping you could talk about the international distribution efforts, how that is progressing. Maybe you can elaborate on how much that's already contributing, just in terms of AUM and flows, and maybe talk about some of the steps you anticipate taking as you look out over the next 12 months or so with respect to international distribution efforts. And then the other question would be just around the pipeline. If you wouldn't mind just giving a little bit more color on the institutional pipeline, what you're seeing there, how you'd characterize it now versus, like, last quarter.
Sure, sure. On the first, so we're very pleased with the traction and the outcomes from our non-U.S. institutional distribution team. And as we've said before, they've really done a great job in terms of getting familiar with all the capabilities that we've had, and very early on, from the very beginning, very quickly starting to create some opportunities. As we've said before, the reason we think the non-U.S. is a great growth opportunity for us is because until a few years ago, a large number of our managers were really relatively unknown outside the U.S. So we've had traction outside the U.S. for a few years. It's now grown to about 17 or 18% of our AUM.
It continues to be a very active part of our pipeline, and we think we have a lot of opportunities. Generally, what we've seen over the last few years is, you know, obviously a lot of increased activity. I think in a few quarters, we've commented, you know, the amount that is actually coming from the non-U.S. client base as opposed to the U.S. client base, and how pleased we've been that it has been more broadly split between various affiliates as well as strategies, right? And, you know, so to dovetail that into the pipeline, then I'll ask Mike to talk a little bit more about the non-U.S. distribution.
In terms of the pipeline, the reason we, you know, what we like about the pipeline is not always necessarily in terms of the sheer dollars, but in terms of the diversity of that. So we continue to see a pipeline that has diversity of equity strategies, of non-correlated strategies, of fixed income strategies. So we think that's great. We did make some comments, you know, in institutional is always going to be lumpy in its nature in terms of when money comes in and when money goes out, particularly as clients are looking to either rebalance their portfolios, et cetera. And we did comment that we are starting to see a little bit more of a longer funding cycle.
I don't think it's unusual in this type of a market, but it just kind of makes the predictability of that, you know, just a little more challenging. Mike, comments on the institutional team?
Yeah, I think, you know, George laid out pretty well. When we look at, you know, recent fundings and the expansion of the international business, we're certainly getting strong contributions from the global team, not only the team in Europe, but the team in Singapore and Asia. And that the pipeline is comprised of opportunities from each of those areas, and it's across affiliates and across those geographies. And, you know, we do have significant contributions in the pipeline from those teams and gives us, you know, gives us confidence over the long term.
Any quarter can certainly have different results, but when we look at each of the last three years, as well as trailing 12 months and year to date, we continue to be excited about the pipeline of opportunities and about what that team is contributing and the activities that they have upcoming with many of our affiliates.
Great, thanks. And then just a question on your ETF platform. I was hoping you might be able to speak to, you know, how you guys are thinking about continuing to build that out. Any thoughts around mutual fund to ETF conversions, as well as scope for launching some new active ETFs, as we've seen others start to have some success with that across the industry?
Yeah, and we definitely, you know, as we sort of look at, you know, how our retail investors increasingly want to access capabilities. Obviously, the growth is really gonna be in the retail separate accounts and the ETFs. You know, open-end funds as a product category, you know, has, you know, various challenges in terms of, you know, where it is in terms of its trajectory, and is currently, you know, apparently the preferred source of, you know, funding when you need to move money into cash. So ETFs, again, we have positive flows in ETFs. We've been, you know, thoughtfully putting out our capabilities on the ETF side. So it's a small part of our business, but it is definitely growing. It's also where we have a lot of our focus for new offerings.
You know, to your specific comment, and I think we referenced it in our prepared remarks, you know, we're in the process of expanding our actively managed fixed income strategies in particular. So we've had several. We've actually expect to expand that and expand those capabilities, as well as in some of our other non-correlated strategies. So as we look at that space, you know, for us, it will generally be more of the actively managed, differentiated, and those products that are attractive, you know, in the ETF wrapper, you know, which is, you know, attractive for a lot of reasons. And increasingly, we're, we're seeing a lot of those reasons really relate to the tax efficiency of that.
I think that's kind of similar to the retail separate accounts, where—which again, has been a very strong part of our business, but we continue to see that as an area to sort of expand our area of success, which has been, you know, overweight, you know, equity types of capabilities. And we've continued to develop and launch other types of retail separate accounts, because, again, they're a very attractive access point for a lot of what we're seeing in the growth of the retail market.
Great. Thank you. And if I could just squeeze one more question in here, just on the-
Sure.
-expense side. Just curious what it would take to bring the comp ratio below 49%, below that low end of the range. What you would need to see for that to happen as you look out on a, maybe a multi-year basis? And then just on the GNA side, non-comp, maybe you could just talk about some of the actions that you guys are taking that enabled you to bring down the range and just how you think about that pace of growth going forward.
Look, a couple comments, and Mike will add to that. So, you know, in terms of the expense ratio, you know, generally, the biggest driver is actually the revenue impact as opposed to the, the employment expense, impact. Because most of-- we have a high percentage of variable employment costs, and they'll vary, as Mike stated, you know, in terms of profitability, in terms of sales, in terms of other kinds of, metrics. So a lot of times the, the volatility you see in the metric is really gonna be driven by, you know. We had that period where there was just really, strong market trajectory, and then that ratio was going down, and it was really not about the expense line, it was actually about the revenue line.
So we continue to think that variable expenses are, you know, a benefit to have, and it will be impacted based upon that. Mike, you want to comment on the employment, and then-
Yeah. I think just generally speaking, on the expense side, you know, we were pleased this quarter to have incremental margins of above 75%. We've really always said the business is leverageable, and you see that in those incremental margins that emerged this quarter. I think on the employment side, you know, as George said, there's a significant amount of variability in the compensation structure, which will, you know, vary based on profitability and sales, and then certainly the biggest driver will be markets. So, that's something that we'll continue to provide information on if we get to the lower end or below that range in the market environments.
I think on other operating, you know, we've been focused on the discretionary expenditures for the last year and a half, really trying to offset the impacts that we've seen from inflationary pressure from our service providers and vendors. We've consolidated significant middle office systems and platforms that have enabled us to maintain our other operating in a pretty tight range. I think two quarters in a row, we've modestly reduced that range. We'll continue to focus on ways to drive efficiency in our operating expenses to increase the leverageability and provide a strong platform for growth.
Great. Thanks for taking my questions.
Yep. Thank you.
Thank you. This concludes our question and answer session. I would like to turn the conference back over to Mr. Aylward.
Great. Thank you. And again, as always, I want to thank everyone for joining us today, and certainly encourage you to give us a call if there are any other further questions. Thank you very much.
That concludes today's call. Thank you for participating, and you may now disconnect.