Edgar Filing: LPL Financial Holdings Inc.

LPLA 2012.06.30 10-Q

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)



x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2012



o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission File Number: 001-34963

LPL Financial Holdings Inc.

(Exact name of registrant as specified in its charter)



Delaware	20-3717839
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)

75 State Street, Boston, MA 02109

(Address of Principal Executive Offices) (Zip Code)

(617) 423-3644

(Registrant’s telephone number, including area code)

LPL Investment Holdings Inc.

One Beacon Street, Boston, MA 02108

(Former name, Former address)

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. x Yes o No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). x Yes o No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):



Large accelerated filer x	Accelerated filer o	Non-accelerated filer o	Smaller reporting company o
		(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o Yes x No

The number of shares of Common Stock, par value $0.001 per share, outstanding as of July 17, 2012 was 111,069,074.

TABLE OF CONTENTS



Item Number	Page

PART I — FINANCIAL INFORMATION

1. Financial Statements

Condensed Consolidated Statements of Income (unaudited)	1

Condensed Consolidated Statements of Comprehensive Income (unaudited)	2

Condensed Consolidated Statements of Financial Condition (unaudited)	3

Condensed Consolidated Statements of Stockholders’ Equity (unaudited)	4

Condensed Consolidated Statements of Cash Flows (unaudited)	5

Notes to Condensed Consolidated Financial Statements (unaudited)	7

2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	25

3. Quantitative and Qualitative Disclosures About Market Risk	52

4. Controls and Procedures	55

PART II — OTHER INFORMATION	56

1. Legal Proceedings	56

1A. Risk Factors	56

2. Unregistered Sales of Equity Securities and Use of Proceeds	56

3. Defaults Upon Senior Securities	56

4. Mine Safety Disclosures	56

5. Other Information	56

6. Exhibits	56

SIGNATURES	58

WHERE YOU CAN FIND MORE INFORMATION

We file annual, quarterly and current reports, proxy statements and other information required by the Securities Exchange Act of 1934, as amended (the “Exchange Act”), with the Securities and Exchange Commission (the "SEC"). You may read and copy any document we file with the SEC at the SEC’s public reference room located at 100 F Street, N.E., Washington, D.C. 20549, U.S.A. Please call the SEC at 1-800-SEC-0330 for further information on the public reference room. Our SEC filings are also available to the public from the SEC’s internet site at http://www.sec.gov.

On our Internet website, http://www.lpl.com, we post the following filings as soon as reasonably practicable after they are electronically filed with or furnished to the SEC: our annual reports on Form 10-K, our proxy statements, our quarterly reports on Form 10-Q, our current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act. Hard copies of all such filings are available free of charge by request via email (investor.relations@lpl.com), telephone (617) 897-4574, or mail (LPL Financial Investor Relations at 75 State Street, 24th Floor, Boston, MA 02109). The information contained or incorporated on our website is not a part of this Quarterly Report on Form 10-Q.

When we use the terms “LPLFH”, “we”, “us”, “our”, the “firm” and the "Company," we mean LPL Financial Holdings Inc., a Delaware corporation, and its consolidated subsidiaries, taken as a whole, unless the context otherwise indicates.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

Statements in Item 2 - “Management's Discussion and Analysis of Financial Condition and Results of Operations” and other sections of this Quarterly Report on Form 10-Q regarding the Company's future financial and operating results, growth, business strategy, projected costs, plans, liquidity and ability and plans to pay future dividends, as well as any other statements that are not purely historical, constitute forward-looking statements. These forward-looking statements are based on the Company's historical performance and its plans, estimates and expectations as of August 1, 2012. The words “anticipates,” “believes,” “expects,” “may,” “plans,” “predicts,” “will” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. Forward-looking statements are not guarantees that the future results, plans or expectations expressed or implied by the Company will be achieved. Matters subject to forward-looking statements involve known and unknown risks and uncertainties, including economic, legislative, regulatory, competitive and other factors, which may cause actual financial or operating results, levels of activity, or the timing of events, to be materially different than those expressed or implied by forward-looking statements. Important factors that could cause or contribute to such differences include: changes in general economic and financial market conditions; fluctuations in the value of assets under management; effects of competition in the financial services industry; changes in the number of the Company's financial advisors and institutions, and their ability to market effectively financial products and services; the Company's success in integrating the operations of acquired businesses; the effect of current, pending and future legislation, regulation and regulatory actions; and the other factors set forth in Part I, “Item 1A. Risk Factors” in the Company's 2011 Annual Report on Form 10-K. For example, the Company may be unable to successfully integrate the systems and operations related to our acquisitions of Concord Wealth Management, Fortigent Holdings Company, Inc. and Veritat Advisors Inc. and realize the expected synergies from these transactions. Except as required by law, the Company specifically disclaims any obligation to update any forward-looking statements as a result of developments occurring after the date of this quarterly report, even if its estimates change, and you should not rely on those statements as representing the Company's views as of any date subsequent to the date of this quarterly report.

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Income

(Unaudited)

(Dollars in thousands, except per share data)



	Three Months Ended June 30,				Six Months Ended June 30,
	2012		2011		2012		2011
REVENUES:
Commissions	$	447,243	$	459,882	$	910,896	$	911,759
Advisory fees	268,192		264,289		519,173		508,376
Asset-based fees	102,784		90,504		200,025		180,327
Transaction and other fees	78,894		68,755		153,466		142,504
Interest income, net of interest expense	4,800		5,110		9,510		10,252
Other	5,930		5,456		16,546		14,647
Total net revenues	907,843		893,996		1,809,616		1,767,865
EXPENSES:
Commissions and advisory fees	620,582		624,687		1,237,974		1,219,365
Compensation and benefits	93,034		81,410		182,046		165,552
Promotional	26,122		14,789		42,953		34,325
Depreciation and amortization	17,412		18,407		34,587		36,572
Professional services	18,199		12,489		31,320		22,653
Occupancy and equipment	14,007		12,394		28,504		27,919
Brokerage, clearing and exchange	9,554		9,401		19,069		19,050
Communications and data processing	9,797		8,906		18,696		17,588
Regulatory fees and expenses	6,891		6,372		14,437		12,944
Restructuring charges	2,057		4,814		3,751		5,351
Other	9,441		6,694		16,113		13,183
Total operating expenses	827,096		800,363		1,629,450		1,574,502
Non-operating interest expense	13,439		18,154		29,471		36,326
Loss on extinguishment of debt	—		—		16,524		—
Total expenses	840,535		818,517		1,675,445		1,610,828
INCOME BEFORE PROVISION FOR INCOME TAXES	67,308		75,479		134,171		157,037
PROVISION FOR INCOME TAXES	27,806		29,972		53,490		62,531
NET INCOME	$	39,502	$	45,507	$	80,681	$	94,506
EARNINGS PER SHARE (Note 12):
Basic	$	0.36	$	0.41	$	0.73	$	0.86
Diluted	$	0.35	$	0.40	$	0.72	$	0.82

See notes to unaudited condensed consolidated financial statements.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Comprehensive Income

(Unaudited)

(Dollars in thousands)



	Three Months Ended June 30,				Six Months Ended June 30,
	2012		2011		2012		2011
NET INCOME	$	39,502	$	45,507	$	80,681	$	94,506
Other comprehensive income, net of tax:
Unrealized gain on interest rate swaps, net of tax expense of $273 and $879 for the three months ended June 30, 2012 and 2011, and $527 and $1,700 for the six months ended June 30, 2012 and 2011, respectively	441		1,420		850		2,745
Total other comprehensive income, net of tax	441		1,420		850		2,745
TOTAL COMPREHENSIVE INCOME	$	39,943	$	46,927	$	81,531	$	97,251

See notes to unaudited condensed consolidated financial statements.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Financial Condition

(Unaudited)

(Dollars in thousands, except par value)



	June 30, 2012			December 31, 2011
ASSETS
Cash and cash equivalents	$	481,056		$	720,772
Cash and securities segregated under federal and other regulations	321,937			382,905
Receivables from:
Clients, net of allowance of $575 at June 30, 2012 and $716 at December 31, 2011	293,028			301,292
Product sponsors, broker-dealers and clearing organizations	131,649			143,493
Others, net of allowance of $8,373 at June 30, 2012 and $8,833 at December 31, 2011	200,382			187,408
Securities owned:
Trading — at fair value	6,857			6,290
Held-to-maturity	10,154			11,167
Securities borrowed	10,128			7,890
Income taxes receivable	6,906			—
Fixed assets, net of accumulated depreciation and amortization of $319,342 at June 30, 2012 and $305,143 at December 31, 2011	109,171			91,317
Debt issuance costs, net of accumulated amortization of $2,661 at June 30, 2012 and $19,197 at December 31, 2011	23,497			18,620
Goodwill	1,362,153			1,334,086
Intangible assets, net of accumulated amortization of $217,919 at June 30, 2012 and $198,139 at December 31, 2011	523,290			537,670
Other assets	119,203			73,416
Total assets	$	3,599,411		$	3,816,326
LIABILITIES AND STOCKHOLDERS’ EQUITY
LIABILITIES:
Drafts payable	$	149,930		$	187,575
Payables to clients	404,860			456,719
Payables to broker-dealers and clearing organizations	35,653			34,755
Accrued commissions and advisory fees payable	97,968			109,715
Accounts payable and accrued liabilities	169,461			161,937
Income taxes payable	—			906
Unearned revenue	58,778			59,537
Senior secured credit facilities	1,339,275			1,332,668
Deferred income taxes — net	124,083			127,766
Total liabilities	2,380,008			2,471,578
STOCKHOLDERS’ EQUITY:
Common stock, $.001 par value; 600,000,000 shares authorized; 115,329,081 shares issued at June 30, 2012 and 110,531,939 shares issued at December 31, 2011	115			110
Additional paid-in capital	1,209,293			1,137,723
Treasury stock, at cost — 4,322,512 shares at June 30, 2012 and 2,617,629 shares at December 31, 2011	(144,931		)	(89,037		)
Accumulated other comprehensive loss	—			(850		)
Retained earnings	154,926			296,802
Total stockholders’ equity	1,219,403			1,344,748
Total liabilities and stockholders’ equity	$	3,599,411		$	3,816,326

See notes to unaudited condensed consolidated financial statements.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Stockholders’ Equity

(Unaudited)

(Amounts in thousands)



				Additional Paid-In Capital							Accumulated Other Comprehensive Loss			Retained Earnings			Total Stockholders' Equity
	Common Stock						Treasury Stock
	Shares	Amount					Shares	Amount
BALANCE — December 31, 2010	108,715	$	109	$	1,051,722		—	$	—		$	(4,496	)	$	126,420		$	1,173,755
Net income and other comprehensive income, net of tax expense											2,745			94,506			97,251
Treasury stock purchases							2,284	(79,568		)							(79,568		)
Stock option exercises and other	1,410	1		6,971													6,972
Share-based compensation				9,199													9,199
Excess tax benefits from share-based compensation				55,847													55,847
BALANCE — June 30, 2011	110,125	$	110	$	1,123,739		2,284	$	(79,568	)	$	(1,751	)	$	220,926		$	1,263,456

BALANCE — December 31, 2011	110,532	$	110	$	1,137,723		2,618	$	(89,037	)	$	(850	)	$	296,802		$	1,344,748
Net income and other comprehensive income, net of tax expense											850			80,681			81,531
Issuance of common stock to settle restricted stock units (Note 11)	2,823	3		(3		)											—
Treasury stock purchases (Note 11)							1,705	(55,894		)							(55,894		)
Cash dividends on common stock														(222,557		)	(222,557		)
Stock option exercises and other	1,952	2		11,097													11,099
Share-based compensation	22			12,072													12,072
Excess tax benefits from share-based compensation				48,404													48,404
BALANCE — June 30, 2012	115,329	$	115	$	1,209,293		4,323	$	(144,931	)	$	—		$	154,926		$	1,219,403

See notes to unaudited condensed consolidated financial statements.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows

(Unaudited)

(Dollars in thousands)



	Six Months Ended June 30,
	2012			2011
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income	$	80,681		$	94,506
Adjustments to reconcile net income to net cash provided by operating activities:
Noncash items:
Depreciation and amortization	34,587			36,572
Amortization of debt issuance costs	2,349			2,546
Share-based compensation	12,072			9,199
Excess tax benefits related to share-based compensation	(48,404		)	(55,847		)
Provision for bad debts	488			799
Deferred income tax provision	(6,241		)	(5,952		)
Impairment of intangible assets	—			1,716
Loss on extinguishment of debt	16,524			—
Loan forgiveness	751			756
Other	768			659
Changes in operating assets and liabilities:
Cash and securities segregated under federal and other regulations	60,968			147,746
Receivables from clients	8,405			(17,135		)
Receivables from product sponsors, broker-dealers and clearing organizations	11,844			42,987
Receivables from others	(10,806		)	(18,675		)
Securities owned	(574		)	(231		)
Securities borrowed	(2,238		)	(3,159		)
Other assets	(41,215		)	(17,397		)
Drafts payable	(37,645		)	(44,702		)
Payables to clients	(51,859		)	31,519
Payables to broker-dealers and clearing organizations	898			(1,931		)
Accrued commissions and advisory fees payable	(11,747		)	(19,072		)
Accounts payable and accrued liabilities	(3,326		)	(27,476		)
Income taxes receivable/payable	40,592			181,828
Unearned revenue	(759		)	10,460
Net cash provided by operating activities	$	56,113		$	349,716

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows - (Continued)

(Unaudited)

(Dollars in thousands)



	Six Months Ended June 30,
	2012			2011
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures	$	(18,793	)	$	(12,500	)
Purchase of securities classified as held-to-maturity	(2,015		)	(3,782		)
Proceeds from maturity of securities classified as held-to-maturity	3,000			1,650
Deposits of restricted cash	(9,964		)	(3,040		)
Release of restricted cash	6,800			18,546
Acquisitions (Note 3)	(38,766		)	(37,184		)
Net cash used in investing activities	(59,738		)	(36,310		)
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of senior secured credit facilities	(1,343,393		)	(46,986		)
Proceeds from senior secured credit facilities	1,330,681			—
Payment of debt issuance costs	(4,431		)	—
Repurchase of common stock	(55,894		)	(66,976		)
Dividends on common stock	(222,557		)	—
Excess tax benefits related to share-based compensation	48,404			55,847
Proceeds from stock options and warrants exercised	11,099			6,972
Net cash used in financing activities	(236,091		)	(51,143		)
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS	(239,716		)	262,263
CASH AND CASH EQUIVALENTS — Beginning of period	720,772			419,208
CASH AND CASH EQUIVALENTS — End of period	$	481,056		$	681,471
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid	$	29,570		$	36,362
Income taxes paid	$	17,765		$	29,870
NONCASH DISCLOSURES:
Capital expenditures purchased through short-term credit	$	1,994		$	3,506
Fixed assets acquired under build-to-suit lease	$	5,599		$	—
Unrealized gain on interest rate swaps, net of tax expense	$	850		$	2,745
Discount on proceeds from senior secured credit facilities recorded as debt issuance costs	$	19,319		$	—
Pending settlement of treasury stock purchases	$	—		$	12,592

See notes to unaudited condensed consolidated financial statements.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

1. Organization and Description of the Company

LPL Financial Holdings Inc. (“LPLFH”), formerly known as LPL Investment Holdings Inc., a Delaware holding corporation, together with its consolidated subsidiaries (collectively, the “Company”) provides an integrated platform of brokerage and investment advisory services to independent financial advisors and financial advisors at financial institutions (collectively “advisors”) in the United States of America. Through its custody and clearing platform, the Company provides access to diversified financial products and services enabling its advisors to offer independent financial advice and brokerage services, using integrated technology, to retail investors (their “clients”).

2. Summary of Significant Accounting Policies

Basis of Presentation — Quarterly Reporting — The unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). These unaudited condensed consolidated financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair statement of the results for the interim periods presented. These adjustments are of a normal recurring nature. The Company’s results for any interim period are not necessarily indicative of results for a full year or any other interim period. Certain reclassifications were made to previously reported amounts in the unaudited condensed consolidated financial statements and notes thereto to make them consistent with the current period presentation.

The unaudited condensed consolidated financial statements do not include all information and notes necessary for a complete presentation of financial position, results of income, comprehensive income and cash flows in conformity with generally accepted accounting principles in the United States of America (“GAAP”). Accordingly, these financial statements should be read in conjunction with the Company’s audited consolidated financial statements and the related notes for the year ended December 31, 2011, contained in the Company’s Annual Report on Form 10-K as filed with the SEC. The Company has evaluated subsequent events up to and including the date these unaudited condensed consolidated financial statements were issued.

Consolidation — These unaudited condensed consolidated financial statements include the accounts of LPLFH and its subsidiaries. Intercompany transactions and balances have been eliminated. Equity investments in which the Company exercises significant influence but does not exercise control and is not the primary beneficiary are accounted for using the equity method.

Comprehensive Income — In accordance with Accounting Standards Update No. 2011-05, Comprehensive Income — Presentation of Comprehensive Income, adopted in the first quarter of 2012, the Company presents its unaudited condensed consolidated statements of comprehensive income separately and immediately following its unaudited condensed consolidated statements of income. The Company’s comprehensive income is composed of net income and the effective portion of the unrealized gains on financial derivatives in cash flow hedge relationships, net of related tax effects.

Use of Estimates — The preparation of the unaudited condensed consolidated financial statements in conformity with GAAP requires the Company to make estimates and judgments that affect the reported amounts of assets and liabilities, revenue and expenses and related disclosures of contingent assets and liabilities. On an on-going basis, the Company evaluates estimates, including those related to revenue and related expense recognition, asset impairment, valuation of accounts receivable, valuation of financial derivatives, contingencies and litigation, valuation and recognition of share-based payments, dividends and income taxes. These accounting policies are stated in the notes to the audited consolidated financial statements for the year ended December 31, 2011, contained in the Annual Report on Form 10-K as filed with the SEC. These estimates are based on the information that is currently available and on various other assumptions that the Company believes to be reasonable under the circumstances. Actual results could vary from these estimates under different assumptions or conditions and the differences may be material to the unaudited condensed consolidated financial statements.

Reportable Segment — The Company’s internal reporting is organized into three service channels; Independent Advisor Services, Institution Services and Custom Clearing Services, which are designed to enhance the services provided to its advisors and financial institutions. These service channels qualify as individual operating segments, but are aggregated and viewed as one single reportable segment due to their similar economic

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

characteristics, products and services, production and distribution process, regulatory environment and quantitative thresholds.

Fair Value of Financial Instruments — The Company’s financial assets and liabilities are carried at fair value or at amounts that, because of their short-term nature, approximate current fair value, with the exception of its indebtedness. The Company carries its indebtedness at amortized cost. The Company measures the implied fair value of its debt instruments using trading levels obtained from a third-party service provider. Accordingly, the debt instruments qualify as Level 2 fair value measurements. See Note 5 for additional detail regarding the Company’s fair value measurements. As of June 30, 2012, the carrying amount and fair value of the Company’s indebtedness was approximately $1,339.3 million and $1,306.8 million, respectively. As of December 31, 2011, the carrying amount and fair value was approximately $1,332.7 million and $1,328.2 million, respectively.

Recently Issued Accounting Pronouncements — There were no recently issued accounting pronouncements or changes in accounting pronouncements as compared to the recent accounting pronouncements described in the Company’s 2011 Annual Report on Form 10-K, that are of significance, or potential significance to the Company.

3. Acquisitions

The Company completed several acquisitions in 2011 and 2012, including National Retirement Partners, Inc. ("NRP"), Concord Capital Partners ("Concord") and Fortigent Holdings Company, Inc. The pro forma results of operations and the results of operations for acquisitions since the acquisition dates have not been separately disclosed because the effects were not significant enough to the consolidated financial statements, individually or in the aggregate. See Note 3 in the 2011 Annual Report on Form 10-K for further discussion of the NRP and Concord acquisitions.

Each of the purchase prices for NRP and Concord included initial cash payments, as well as future payment considerations. In accordance with the acquisition agreements, the former owners have the right to receive certain future payments contingent upon reaching certain revenue-based and gross margin-based milestones. These contingent consideration liabilities are measured at fair value on a quarterly basis based on progress towards the defined milestones (see Note 5).

Fortigent Holdings Company, Inc.

On April 23, 2012, the Company acquired all of the outstanding common stock of Fortigent Holdings Company, Inc. and its wholly owned subsidiaries Fortigent, LLC, Fortigent Reporting Company, LLC, and Fortigent Strategies Company, LLC (together, "Fortigent"). Fortigent is a leading provider of high net worth solutions and consulting services to registered investment advisors, banks, and trust companies. This strategic acquisition further enhances the Company's capabilities and offers an extension of the Company's existing services for wealth management advisors.

The Company paid $38.8 million at the closing of the transaction, net of cash acquired. As of June 30, 2012, $9.9 million remains in an escrow account to be paid to former shareholders of Fortigent in accordance with the terms of the stock purchase agreement. Such amount has been classified by the Company as restricted cash and is included in other assets on the unaudited condensed consolidated statements of financial condition. Goodwill resulting from this business combination is largely attributable to the existing workforce of Fortigent and synergies expected to arise after the Company's acquisition of Fortigent. The Company cumulatively incurred transaction costs associated with its acquisition of Fortigent totaling $1.2 million; $0.7 million of which were recorded during the six months ended June 30, 2012, and are included in other expenses in the unaudited condensed consolidated statements of income.

The Company is in the process of finalizing the purchase allocation; therefore, the provisional measures of goodwill, intangibles and fixed assets are subject to change.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

Set forth below is a reconciliation of assets acquired and liabilities assumed during the six months ended June 30, 2012 (in thousands):



	Total
Goodwill	$	28,067
Accounts receivable	3,548
Other assets	2,310
Intangibles	5,400
Fixed assets(1)	6,275
Accounts payable and accrued liabilities	(6,834		)
Net assets acquired	$	38,766

________________________________


(1)	Fixed assets acquired from Fortigent relate primarily to internally developed software, which is being amortized over 5 years.

Set forth below is supplemental cash flow information in connection with the Fortigent acquisition for the six months ended June 30, 2012 (in thousands):



Cash payments, net of cash acquired	$	28,866
Cash held in escrow	9,900
Total purchase price	$	38,766

The Company preliminarily allocated the estimated purchase price for intangibles to specific amortizable intangible asset categories as follows (dollars in thousands):



	Weighted Average Amortization Period (in years)	Amount Assigned
Client relationships	9.4	$	4,200
Trade names	10.0	1,200
Total intangible assets acquired from Fortigent		$	5,400

4. Restructuring

Consolidation of UVEST Financial Services Group, Inc.

On March 14, 2011, the Company committed to a corporate restructuring plan to consolidate the operations of UVEST Financial Services Group, Inc. ("UVEST") with LPL Financial LLC ("LPL Financial"). The restructuring plan was effected to enhance the Company’s service offering, while also generating efficiencies. In connection with the consolidation, certain registered representatives associated with UVEST moved to LPL Financial through a transfer of their licenses. The Company completed the transfers in December 2011. Following the transfer of registered representatives and client accounts to LPL Financial, all registered representatives and client accounts are associated with LPL Financial and all of the Company’s securities business is done through a single broker-dealer. UVEST has withdrawn its registration with the Financial Industry Regulatory Authority ("FINRA") effective July 16, 2012 and is no longer subject to net capital filing requirements.

The Company estimates total expenditures associated with the initiative to be approximately $31.6 million over the course of the restructuring plan. These expenditures are comprised of advisor retention and related benefits, contract penalties, technology costs, non-cash charges for the impairment of intangible assets resulting from advisor attrition and other expenses principally relating to the conversion and transfer of registered representatives and client accounts from UVEST to LPL Financial.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

The following table summarizes the balance of accrued expenses and the changes in the accrued amounts as of and for the six months ended June 30, 2012 (in thousands):



	Accrued Balance at December 31, 2011		Costs Incurred		Payments			Non-cash			Accrued Balance at June 30, 2012		Cumulative Costs Incurred to Date		Total Expected Restructuring Costs(1)
Conversion and transfer costs	$	1,076	$	2,676	$	(3,736	)	$	—		$	16	$	11,854	$	14,690
Contract penalties	8,832		—		(8,271		)	—			561		8,642		8,642
Advisor retention and related benefits	250		649		(192		)	(457		)	250		1,438		5,513
Asset impairments	—		—		—			—			—		2,776		2,776
Total	$	10,158	$	3,325	$	(12,199	)	$	(457	)	$	827	$	24,710	$	31,621

________________________________

(1)

At June 30, 2012, total expected restructuring costs exclude approximately $12.0 million of internally developed software related to the corporate restructuring initiative that is being capitalized over a useful life ranging from three to five years, with expense being recorded as depreciation and amortization within the unaudited condensed consolidated statements of income. As of June 30, 2012, approximately $13.5 million has been spent on development activities of which approximately $10.7 million has been capitalized, with the remainder included in costs incurred. The Company anticipates capitalizing an additional $1.3 million of internally developed software in the remainder of 2012.

5. Fair Value Measurements

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. Inputs used to measure fair value are prioritized within a three-level fair value hierarchy. This hierarchy requires entities to maximize the use of observable inputs and minimize the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:


•	Level 1 — Quoted prices in active markets for identical assets or liabilities.


•	Level 2 — Observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.


•	Level 3 — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. This includes certain pricing models, discounted cash flow methodologies and similar techniques that use significant unobservable inputs.

There have been no transfers of assets or liabilities between fair value measurement classifications during the six months ended June 30, 2012.

The Company’s fair value measurements are evaluated within the fair value hierarchy, based on the nature of inputs used to determine the fair value at the measurement date. At June 30, 2012, the Company had the following financial assets and liabilities that are measured at fair value on a recurring basis:

Cash Equivalents — The Company’s cash equivalents include money market funds, which are short term in nature with readily determinable values derived from active markets.

Securities Owned and Securities Sold, But Not Yet Purchased — The Company’s trading securities consist of house account model portfolios for the purpose of benchmarking the performance of its fee based advisory platforms and temporary positions resulting from the processing of client transactions. Examples of these securities include money market funds, U.S. treasuries, mutual funds, certificates of deposit, traded equity securities and debt securities.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

The Company uses prices obtained from independent third-party pricing services to measure the fair value of its trading securities. Prices received from the pricing services are validated using various methods including comparison to prices received from additional pricing services, comparison to available quoted market prices and review of other relevant market data including implied yields of major categories of securities. In general, these quoted prices are derived from active markets for identical assets or liabilities. When quoted prices in active markets for identical assets and liabilities are not available, the quoted prices are based on similar assets and liabilities or inputs other than the quoted prices that are observable, either directly or indirectly. For certificates of deposit and treasury securities, the Company utilizes market-based inputs including observable market interest rates that correspond to the remaining maturities or the next interest reset dates. At June 30, 2012, the Company did not adjust prices received from the independent third-party pricing services. Securities sold, but not yet purchased are included in accounts payable and accrued liabilities in the unaudited condensed consolidated statements of financial position.

Other Assets — The Company’s other assets include deferred compensation plan assets that are invested in money market funds and mutual funds which are actively traded and valued based on quoted market prices in active markets.

Contingent Consideration Liabilities — The contingent consideration liabilities, which are included in accounts payable and accrued liabilities in the unaudited condensed consolidated statements of financial position, result from the Company's acquisitions of NRP and Concord.

Interest Rate Swap — The Company’s interest rate swap, which matured on June 30, 2012, was not traded on a market exchange; therefore, the fair value was determined using models which included assumptions about the London Interbank Offered Rate (“LIBOR”) yield curve at interim reporting dates as well as counterparty credit risk and the Company’s own non-performance risk. Accordingly, the Company has classified the interest rate swap as a Level 2 measurement within the fair value hierarchy. At December 31, 2011, the interest rate swap is included in accounts payable and accrued liabilities in the unaudited condensed consolidated statements of financial position.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

The following table summarizes the Company’s financial assets and financial liabilities measured at fair value on a recurring basis at June 30, 2012 (in thousands):



	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Fair Value Measurements
At June 30, 2012:
Assets
Cash equivalents	$	298,152	$	—	$	—	$	298,152
Securities owned — trading:
Money market funds	493		—		—		493
Mutual funds	5,284		—		—		5,284
Equity securities	46		—		—		46
Debt securities	—		134		—		134
U.S. treasury obligations	900		—		—		900
Total securities owned — trading	6,723		134		—		6,857
Other assets	26,657		—		—		26,657
Total assets at fair value	$	331,532	$	134	$	—	$	331,666
Liabilities
Securities sold, but not yet purchased:
Equity securities	$	263	$	—	$	—	$	263
Debt securities	—		126		—		126
Certificates of deposit	—		25		—		25
Total securities sold, but not yet purchased	263		151		—		414
Contingent consideration liabilities	—		—		16,813		16,813
Total liabilities at fair value	$	263	$	151	$	16,813	$	17,227

Changes in Level 3 Recurring Fair Value Measurements

The contingent consideration liabilities, which result from the Company's acquisitions of NRP and Concord, represent future amounts the Company may be required to pay upon the achievement of certain finance milestones. The contingent consideration is recorded at its estimated fair value with any changes in fair value recognized in earnings. The fair value measurement is based on significant inputs unobservable in the market and thus represents a Level 3 measurement.

The fair value of the contingent consideration is determined using financial forecasts, which estimate the probability and timing of certain revenue and gross margin milestones being reached, and discounting the associated cash payments to their present value using a risk-adjusted rate of return. At each reporting date, or whenever there are significant changes in underlying key assumptions, a review of these assumptions is performed and the contingent consideration liability is updated to its estimated fair value. If there are no significant changes in the assumptions, the quarterly determination of the fair value of contingent consideration reflects the accretion of interest for the passage of time. Changes in the fair value of the contingent consideration obligation may result from changes in the terms of the contingent payments, changes in discount periods and rates, and changes in probability assumptions with respect to the timing and likelihood of achieving the certain financial targets. Actual progress toward achieving the financial targets for the remaining measurement periods may be different than the Company's expectations of future performance. Failure to meet current expectations of progress may reduce the probability of achieving the targets and may result in a reduction of the fair value of the contingent consideration liability.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

Set forth below is a reconciliation of the contingent consideration for the six months ended June 30, 2012 (in thousands):



Fair value at December 31, 2011	$	16,104
Change in estimated fair value of contingent consideration liabilities	709
Fair value at June 30, 2012	$	16,813

The following table summarizes the Company’s financial assets and financial liabilities measured at fair value on a recurring basis at December 31, 2011 (in thousands):



	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Fair Value Measurements
At December 31, 2011:
Assets
Cash equivalents	$	575,243	$	—	$	—	$	575,243
Securities owned — trading:
Money market funds	262		—		—		262
Mutual funds	4,966		—		—		4,966
Equity securities	47		—		—		47
Debt securities	—		115		—		115
Certificates of deposit	900		—		—		900
Total securities owned — trading	6,175		115		—		6,290
Other assets	21,400		—		—		21,400
Total assets at fair value	$	602,818	$	115	$	—	$	602,933
Liabilities
Securities sold, but not yet purchased:
Equity securities	$	134	$	—	$	—	$	134
Debt securities	—		2		—		2
Certificates of deposit	—		25		—		25
Total securities sold, but not yet purchased	134		27		—		161
Contingent consideration liabilities	—		—		16,104		16,104
Interest rate swap	—		1,377		—		1,377
Total liabilities at fair value	$	134	$	1,404	$	16,104	$	17,642

6. Held-to-Maturity Securities

The Company holds certain investments in securities including U.S. government notes, which are recorded at amortized cost because the Company has both the intent and the ability to hold these investments to maturity. Interest income is accrued as earned. Premiums and discounts are amortized using a method that approximates the effective yield method over the term of the security and are recorded as an adjustment to the investment yield. The Company discloses the fair value of its securities held-to-maturity using quoted prices in active markets, which is a Level 1 fair value measurement.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

The amortized cost, gross unrealized gains and fair value of securities held-to-maturity were as follows (in thousands):



	Amortized Cost		Gross Unrealized (Losses)/Gains			Fair Value
At June 30, 2012:
U.S. government notes	$	10,154	$	(1	)	$	10,153

At December 31, 2011:
U.S. government notes	$	11,167	$	27		$	11,194

At June 30, 2012, the held-to-maturity securities were scheduled to mature as follows (in thousands):



	Within 1 Year			1-3 Years		Total
U.S. government notes — at amortized cost	$	9,148	—	$	1,006	$	10,154
U.S. government notes — at fair value	$	9,147		$	1,006	$	10,153

7. Goodwill and Intangible Assets

A summary of the activity in goodwill is presented below (in thousands):



Balance at December 31, 2011	$	1,334,086
Acquisition of Fortigent (Note 3)	28,067		(1	)
Balance at June 30, 2012	$	1,362,153

________________________________


(1)	This is a provisional amount and is subject to change (see Note 3).

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

The components of intangible assets as of June 30, 2012 and December 31, 2011 are as follows (dollars in thousands):



	Weighted Average Life Remaining (in years)	Gross Carrying Value		Accumulated Amortization			Net Carrying Value
At June 30, 2012:
Definite-lived intangible assets:
Advisor and financial institution relationships	13.3	$	450,164	$	(145,079	)	$	305,085
Product sponsor relationships	13.5	230,916		(69,970		)	160,946
Client relationships	11.6	19,110		(2,850		)	16,260
Trade names	9.8	1,200		(20		)	1,180
Total definite-lived intangible assets		$	701,390	$	(217,919	)	$	483,471
Indefinite-lived intangible assets:
Trademark and trade name							39,819
Total intangible assets							$	523,290

At December 31, 2011:
Definite-lived intangible assets:
Advisor and financial institution relationships	13.7	$	450,164	$	(132,503	)	$	317,661
Product sponsor relationships	14.0	230,916		(63,710		)	167,206
Client relationships	12.9	14,910		(1,926		)	12,984
Total definite-lived intangible assets		$	695,990	$	(198,139	)	$	497,851
Indefinite-lived intangible assets:
Trademark and trade name							39,819
Total intangible assets							$	537,670

Total amortization expense of intangible assets was $10.0 million and $9.7 million for the three months ended June 30, 2012 and 2011, respectively, and $19.8 million and $19.2 million for the six months ended June 30, 2012 and 2011, respectively. Amortization expense for each of the fiscal years ended December 31, 2012 through 2016 and thereafter is estimated as follows (in thousands):



2012 - remainder	$	19,762
2013	39,006
2014	38,680
2015	37,774
2016	37,619
Thereafter	310,630
Total	$	483,471

8. Income Taxes

The Company’s effective income tax rate differs from the federal corporate tax rate of 35.0%, primarily as a result of state taxes, settlement contingencies and expenses that are not deductible for tax purposes. These items resulted in effective tax rates of 41.3% and 39.7% for the three months ended June 30, 2012 and 2011, respectively, and 39.9% and 39.8% for the six months ended June 30, 2012 and 2011, respectively. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

9. Indebtedness

Senior Secured Credit Facilities — On March 29, 2012, the Company entered into a Credit Agreement (the “Credit Agreement”) with its wholly owned subsidiary, LPL Holdings, Inc., the other Credit Parties signatory thereto, the Several Lenders signatory thereto, and Bank of America, N.A. as Administrative Agent, Collateral Agent, Letter of Credit Issuer, and Swingline Lender. The Credit Agreement refinanced and replaced the Company’s Third Amended and Restated Credit Agreement, dated as of May 24, 2010 (the "Original Credit Agreement").

Pursuant to the Credit Agreement, the Company established a Term Loan A of $735.0 million maturing on March 29, 2017 (the "Term Loan A"), a Term Loan B of $615.0 million maturing on March 29, 2019 (the "Term Loan B") and a revolving credit facility with borrowing capacity of $250.0 million maturing on March 29, 2017 (the "Revolving Credit Facility"). In connection with the Credit Agreement, the Company incurred $23.7 million in costs that are capitalized as debt issuance costs in the unaudited condensed consolidated statements of financial condition.

The Revolving Credit Facility was undrawn at closing. The Revolving Credit Facility is currently being used to support the issuance of $31.3 million of irrevocable letters of credit for the construction of the Company's future San Diego office building, the Company's subsidiary The Private Trust Company N.A. ("PTC") and other items.

Quarterly repayments of the principal for Term Loan A will total 5.0% per year for years one and two, and 10.0% per year for years three, four, and five, with the remaining principal due upon maturity. Quarterly repayments of the principal for Term Loan B will total 1.0% per year with the remaining principal due upon maturity. Any outstanding principal under the Revolving Credit Facility will be due upon maturity.

Borrowings under the Credit Agreement bear interest at a base rate equal to either one, two, three, six, nine or twelve-month LIBOR (the "Eurodollar Rate") plus the applicable margin, or an alternative base rate (“ABR”) plus the applicable margin. The ABR is equal to the greatest of (a) the prime rate in effect on such day, (b) the effective federal funds rate in effect on such day plus 0.50%, (c) the Eurodollar Rate plus 1.00% and (d) solely in the case of Term Loan B, 2.00%. The Credit Agreement subjects the Company to certain financial and non-financial covenants. As of June 30, 2012, the Company was in compliance with such covenants. The Company may voluntarily repay outstanding loans under its Credit Agreement at any time without premium or penalty, other than customary breakage costs with respect to LIBOR loans and with the exception of certain repricing transactions in respect of the Term Loan B consummated before March 29, 2013, which will be subject to a premium of 1.0% of the principal amount of Term Loan B subject to such repricing transaction.

The applicable margin for borrowings with respect to the (a) Term Loan A is currently 1.50% for base rate borrowings and 2.50% for LIBOR borrowings; and (b) Term Loan B is currently 2.00% for base rate borrowings and 3.00% for LIBOR borrowings. The LIBOR Rate with respect to the Term Loan B shall in no event be less than 1.00%. The applicable margin for borrowings under the Revolving Credit Facility is currently 1.50% for base rate borrowings and 2.50% for LIBOR borrowings with a commitment fee of 0.50%. Except for the letters of credit described above, there were no outstanding balances on the Revolving Credit Facility at June 30, 2012.

On March 29, 2012, the Company used proceeds from borrowings under the Credit Agreement to repay all outstanding principal borrowings under the Original Credit Agreement. Accordingly, in the first quarter of 2012, the Company accelerated the recognition of $16.5 million of debt issuance costs related to borrowings under the Original Credit Agreement, which has been recorded as loss on extinguishment of debt within the unaudited condensed consolidated statements of income. Prior to the repayment, the Original Credit Agreement consisted of three term loan tranches: a $302.5 million term loan facility with a maturity of June 18, 2013 (the "2013 Term Loans"), a $476.9 million term loan facility with a maturity of June 25, 2015 (the "2015 Term Loans") and a $553.2 million term loan facility with a maturity of June 28, 2017 (the "2017 Term Loans"). The Original Credit Agreement also subjected the Company to certain financial and non-financial covenants. As of June 30, 2012 and December 31, 2011, the Company was in compliance with all such covenants.

The Original Credit Agreement included a revolving credit facility of $163.5 million, which had a maturity date of June 28, 2013, with a commitment fee of 0.75%. Borrowings were priced at LIBOR + 3.50%. Such facility had no outstanding balance at December 31, 2011 and has been replaced by the Revolving Credit Facility.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

The applicable margin for borrowings under the Original Credit Agreement with respect to the (a) 2013 Term Loans was 0.75% for base rate borrowings and 1.75% for LIBOR borrowings, (b) 2015 Term Loans was 1.75% for base rate borrowings and 2.75% for LIBOR borrowings, and (c) 2017 Term Loans was 2.75% for base rate borrowings and 3.75% for LIBOR borrowings. The LIBOR Rate with respect to the 2015 Term Loans and the 2017 Term Loans had a floor of 1.50%.

Bank Loans Payable — The Company maintains three uncommitted lines of credit. Two of the lines have an unspecified limit, and are primarily dependent on the Company’s ability to provide sufficient collateral. The other line has a $150.0 million limit and allows for both collateralized and uncollateralized borrowings. Certain lines were utilized in 2012 and 2011; however, there were no balances outstanding at June 30, 2012 or December 31, 2011.

The Company’s outstanding borrowings were as follows (dollars in thousands):



		June 30, 2012					December 31, 2011
	Maturity	Balance		Interest Rate			Balance		Interest Rate
Senior secured term loans:
Hedged with an interest rate swap(1)	6/28/2013	$	—				$	65,000	2.33	%	(4)
Unhedged:
2013 Term Loans	6/28/2013	—					237,489		2.05	%	(5)
2015 Term Loans	6/25/2015	—					476,935		4.25	%	(6)
2017 Term Loans	6/28/2017	—					553,244		5.25	%	(7)
Term Loan A	3/29/2017	725,813		2.75	%	(2)	—
Term Loan B	3/29/2019	613,462		4.00	%	(3)	—
Total borrowings		1,339,275					1,332,668
Less current borrowings (maturities within 12 months)		42,900					13,971
Long-term borrowings — net of current portion		$	1,296,375				$	1,318,697

____________


(1)	The Company had an interest rate swap with a notional balance of $65.0 million, that matured on June 30, 2012.


(2)	As of June 30, 2012, the variable interest rate for Term Loan A is based on the one-month LIBOR of 0.25%, plus the applicable interest rate margin of 2.50%.


(3)	As of June 30, 2012, the variable interest rate for Term Loan B is based on the greater of the one-month LIBOR of 0.25% or 1.00%, plus the applicable interest rate margin of 3.00%.


(4)	As of December 31, 2011, the variable interest rate for the hedged portion of the 2013 Term Loans is based on the three-month LIBOR of 0.58%, plus the applicable interest rate margin of 1.75%.


(5)	As of December 31, 2011, the variable interest rate for the unhedged portion of the 2013 Term Loans is based on the one-month LIBOR of 0.30%, plus the applicable interest rate margin of 1.75%.


(6)	As of December 31, 2011, the variable interest rate for the unhedged portion of the 2015 Term Loans is based on the greater of the one-month LIBOR of 0.30% or 1.50%, plus the applicable interest rate margin of 2.75%.


(7)	As of December 31, 2011, the variable interest rate for the unhedged portion of the 2017 Term Loans is based on the greater of the one-month LIBOR of 0.30% or 1.50%, plus the applicable interest rate margin of 3.75%.

The combined average balance outstanding in the revolving and uncommitted line of credit facilities was approximately $0.3 million and six thousand dollars for the three months ended June 30, 2012 and 2011, respectively, and $0.2 million and six thousand dollars for the six months ended June 30, 2012 and 2011,

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

respectively. The weighted-average interest rate was 1.70% and 0.82% for the three months ended June 30, 2012 and 2011, respectively, and 1.56% and 1.16% for the six months ended June 30, 2012, and 2011, respectively.

The minimum calendar year payments and maturities of the senior secured borrowings as of June 30, 2012 are as follows (in thousands):



2012 — remainder	$	21,450
2013	42,900
2014	70,463
2015	79,650
2016	79,650
Thereafter	1,045,162
Total	$	1,339,275

10. Commitments and Contingencies

Leases — The Company leases certain office space and equipment under various operating leases. These leases are generally subject to scheduled base rent and maintenance cost increases, which are recognized on a straight-line basis over the period of the leases.

Service Contracts — The Company is party to certain long-term contracts for systems and services that enable back office trade processing and clearing for its product and service offerings.

Future minimum payments under leases, lease commitments and other noncancellable contractual obligations with remaining terms greater than one year as of June 30, 2012, are as follows (in thousands):



2012 - remainder	$	12,875
2013	27,984
2014	28,358
2015	27,355
2016	27,203
Thereafter	264,729
Total(1)	$	388,504

____________


(1)	Minimum payments have not been reduced by minimum sublease rental income of $5.4 million due in the future under noncancellable subleases.

Included in the schedule of future minimum payments above is a fifteen-year lease commitment that was executed in December 2011 for the Company's future San Diego office building with a lease commencement date of May 1, 2014. Future minimum payments for this lease commitment are $9.6 million, $14.8 million, $15.4 million and $236.8 million for the years 2014, 2015, 2016 and thereafter, respectively.

Total rental expense for all operating leases was approximately $4.8 million and $4.5 million for the three months ended June 30, 2012 and 2011, respectively, and $9.1 million and $8.6 million for the six months ended June 30, 2012, and 2011, respectively.

Guarantees — The Company occasionally enters into certain types of contracts that contingently require it to indemnify certain parties against third-party claims. The terms of these obligations vary and, because a maximum obligation is not explicitly stated, the Company has determined that it is not possible to make an estimate of the amount that it could be obligated to pay under such contracts.

The Company’s subsidiary, LPL Financial, provides guarantees to securities clearing houses and exchanges under their standard membership agreements, which require a member to guarantee the performance of other members. Under these agreements, if a member becomes unable to satisfy its obligations to the clearing houses and exchanges, all other members would be required to meet any shortfall. The Company’s liability under these

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

arrangements is not quantifiable and may exceed the cash and securities it has posted as collateral. However, the potential requirement for the Company to make payments under these agreements is remote. Accordingly, no liability has been recognized for these transactions.

Loan Commitments — From time to time, LPL Financial makes loans to its advisors which may be forgivable, primarily to newly signed advisors to assist in the transition process. Due to timing differences, LPL Financial may make commitments to issue such loans prior to actually funding them. These commitments are generally contingent upon certain events occurring, including but not limited to the advisor joining LPL Financial. LPL Financial had no significant unfunded commitments at June 30, 2012.

Litigation — The Company has been named as a defendant in various legal actions, substantially all of which are arbitrations. In view of the inherent difficulty of predicting the outcome of such matters, particularly in cases in which claimants seek substantial or indeterminate damages, the Company cannot predict with certainty what the eventual loss or range of loss related to such matters will be. The Company recognizes a legal liability when it believes it is probable a liability has occurred and the amount can be reasonably estimated. If some amount within a range of loss appears at the time to be a better estimate than any other amount within the range, the Company accrues that amount. When no amount within the range is a better estimate than any other amount, however, the Company accrues the minimum amount in the range.

The Company records legal reserves and related insurance recoveries for significant or unusual cases on a gross basis.

The Company is subject to and maintains insurance coverage for claims and lawsuits in the ordinary course of business, such as customer complaints or disclosures about risks with securities purchased, as well as various arbitrations and other litigation matters. With respect to these matters, the estimated losses on the majority of pending matters are less than the applicable deductibles of the insurance policies, and matters with estimated losses in excess of the applicable deductibles are not, in the aggregate, material.

Defense costs are expensed as incurred and classified as professional services within the unaudited condensed consolidated statements of income. When there is indemnification or insurance, the Company may engage in defense of settlement and subsequently seek reimbursement for such matters. In connection with various acquisitions, and pursuant to the purchase and sale agreements, the Company has received third-party indemnification for certain legal proceedings and claims. Some of these matters have been defended and paid directly by the indemnifying party.

The Company believes, based on the information available at this time, after consultation with counsel, consideration of insurance, if any, and indemnifications provided by the third-party indemnitors, that the outcomes of any legal proceedings will not have a material adverse impact on the unaudited condensed consolidated statements of financial condition, income, comprehensive income or cash flows.

Regulatory — On July 20, 2012, the Internal Revenue Service (the “IRS”) issued a Notice of Proposed Adjustment (the “Notice”) asserting that the Company is subject to a penalty with respect to an alleged untimely deposit of withholding taxes related to wages paid upon exercise of certain non-qualified stock options in connection with the Company's initial public offering in 2010. At this time, the Company is unable to provide a reasonable estimate of the potential range of ultimate liability because: (i) this matter is still in the early stages of discussion, (ii) the Company may dispute one or more legal positions asserted by the IRS and (iii) the defenses available to the Company will be dependent on the facts and circumstances of the transactions at issue. The Company plans to defend its position through applicable IRS and judicial procedures, as appropriate. Although the final resolution of the proposed adjustment is uncertain, the Company believes that the outcome will not be material to its financial position, but any penalty paid in connection with the Notice could have a material effect on the results of operations for the particular period.

Other Commitments — As of June 30, 2012, LPL Financial had received collateral primarily in connection with client margin loans with a market value of approximately $343.5 million, which it can sell or re-pledge. Of this amount, approximately $44.4 million has been pledged or sold as of June 30, 2012; $21.2 million was pledged with client-owned securities to the Options Clearing Corporation ("OCC") as collateral to secure client obligations related

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

to options positions, and $23.2 million was loaned to the National Securities Clearing Corporation ("NSCC") through participation in its Stock Borrow Program. Additionally, approximately $144.3 million are held at banks in connection with unutilized secured margin lines of credit; these securities may be used as collateral for loans from these banks. The remainder of $154.8 million has not been re-pledged or sold, and as of June 30, 2012 there are no restrictions that materially limit the Company's ability to re-pledge or sell the remaining $299.1 million of client collateral.

As of December 31, 2011, LPL Financial had received collateral primarily in connection with client margin loans with a market value of approximately $350.2 million, which it can sell or repledge. Of this amount, approximately $32.7 million has been pledged or sold as of December 31, 2011; $18.4 million was pledged with client-owned securities to the OCC as collateral to secure client obligations related to options positions, and $14.3 million was loaned to the NSCC through participation in its Stock Borrow Program. Additionally, approximately $145.0 million are held at banks in connection with unutilized secured margin lines of credit; these securities may be used as collateral for loans from these banks. The remainder of $172.5 million had not been re-pledged or sold, and as of December 31, 2011 there are no restrictions that materially limited the Company's ability to re-pledge or sell the remaining $317.5 million of client collateral.

Trading securities on the unaudited condensed consolidated statements of financial condition includes $0.9 million and $0.9 million pledged to clearing organizations at June 30, 2012 and December 31, 2011, respectively.

LPL Financial provides brokerage, clearing and custody services on a fully disclosed basis; offers its investment advisory programs and platforms; and provides technology and additional processing and related services to the advisors of the broker-dealer subsidiary of a large global insurance company and their clients under a multi-year agreement. Termination fees may be payable by a terminating or breaching party depending on the specific cause of termination.

11. Stockholders' Equity

Share-Based Compensation

Certain employees, advisors, officers and directors participate in various stock option plans. In addition, certain financial institutions participate in a warrant plan. Stock options and warrants generally vest in equal increments over a three- to five-year period and expire on the tenth anniversary following the date of grant.

The Company recognizes share-based compensation expense related to employee stock option awards based on the grant date fair value over the requisite service period of the award, which generally equals the vesting period. The Company recognized share-based compensation related to the vesting of employee stock option awards of $4.3 million and $3.3 million during the three months ended June 30, 2012 and 2011, respectively, and $8.5 million and $7.1 million during the six months ended June 30, 2012 and 2011, respectively, which is included in compensation and benefits on the unaudited condensed consolidated statements of income. As of June 30, 2012, total unrecognized compensation cost related to non-vested share-based compensation arrangements granted was $45.6 million, which is expected to be recognized over a weighted-average period of 3.60 years.

The Company recognizes share-based compensation expense for stock options and warrants awarded to its advisors and financial institutions based on the fair value of the awards at each interim reporting period. The Company recognized share-based compensation of $0.4 million and $0.9 million during the three months ended June 30, 2012 and 2011, respectively, and $2.8 million and $1.9 million during the six months ended June 30, 2012 and 2011, respectively, related to the vesting of stock options and warrants awarded to its advisors and financial institutions, which is classified within commissions and advisory fee expense on the unaudited condensed consolidated statements of income. As of June 30, 2012, total unrecognized compensation cost related to non-vested share-based compensation arrangements granted was $14.6 million for advisors and financial institutions, which is expected to be recognized over a weighted-average period of 3.38 years.

On May 8, 2012, the Company awarded 22,092 shares of common stock in conjunction with the acquisition of Fortigent, at a price of $33.95 per share, which resulted in share-based compensation expense of $0.8 million during the second quarter of 2012.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

2008 Nonqualified Deferred Compensation Plan

On November 19, 2008, the Company established an unfunded, unsecured deferred compensation plan to permit employees and former employees who held non-qualified stock options issued under the 2005 Stock Option Plan for Incentive Stock Options and 2005 Stock Option Plan for Non-qualified Stock Options that were to expire in 2009 and 2010, to receive stock units under the 2008 Nonqualified Deferred Compensation Plan ("Deferred Compensation Plan"). On February 22, 2012, the Company distributed 1,673,556 shares, net of shares withheld to satisfy withholding tax requirements, pursuant to the terms of the Deferred Compensation Plan. Distributions to participants were made in the form of whole shares of common stock equal to the number of stock units allocated to the participant's account, with fractional shares paid out in cash. Participants authorized the Company to withhold shares from their distribution of common stock to satisfy their withholding tax obligations. Accordingly on February 22, 2012, the Company repurchased 1,149,896 shares and paid $37.5 million of cash consideration related to tax withholdings. The repurchase of shares was executed under the share repurchase program approved by the Board of Directors on August 16, 2011.

Special Dividend

On March 30, 2012, the Company's Board of Directors approved a special dividend of $2.00 per share to common stockholders. The dividend of $222.6 million was paid on May 25, 2012 to stockholders of record as of May 15, 2012.

Share Repurchase Program

On August 16, 2011, the Board of Directors approved a share repurchase program pursuant to which the Company may repurchase up to $70.0 million of its outstanding shares of common stock through August 31, 2012. The purchases are effected in open market transactions with the timing of purchases and the amount of stock purchased determined at the discretion of the Company's management. During the six months ended June 30, 2012, the Company repurchased 1.7 million shares of common stock at a weighted-average price of $32.78 per share for an aggregate purchase price of $55.9 million. As of June 30, 2012, the Company had repurchased 2.0 million shares of common stock at a weighted-average price of $32.05 per share for an aggregate purchase price of $64.9 million under this share repurchase program.

On May 25, 2012, the Board of Directors approved a share repurchase program pursuant to which the Company may repurchase an additional $75.0 million of its outstanding shares of common stock. There is no expiration date for this share repurchase program. The purchases may be effected in open market or privately negotiated transactions with the timing of purchases and the amount of stock purchased, generally determined at the discretion of the Company's management. As of June 30, 2012, the Company had made no repurchases of shares of common stock under this share repurchase program.

12. Earnings Per Share

Prior to February 22, 2012, the Company was required to calculate earnings per share using the two-class method by allocating a portion of its earnings to employees who held stock units containing non-forfeitable rights to dividends or dividend equivalents under its Deferred Compensation Plan. Basic earnings per share was computed by dividing income less earnings attributable to employees that held stock units under the Deferred Compensation Plan by the basic weighted average number of shares outstanding. Diluted earnings per share was computed in a manner similar to basic earnings per share, except the weighted average number of shares outstanding is increased to include the dilutive effect of outstanding stock options, warrants and other stock-based awards. After the distribution of shares on February 22, 2012 pursuant to the Deferred Compensation Plan, the two-class method was no longer applicable.

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

A reconciliation of the income used to compute basic and diluted earnings per share for the three and six months ended June 30, 2012 and 2011 is as follows (in thousands):



	For the Three Months Ended June 30,					For the Six Months Ended June 30,
	2012		2011			2012		2011
Basic earnings per share:
Net income, as reported	$	39,502	$	45,507		$	80,681	$	94,506
Allocation of undistributed earnings to stock units	—		(582		)	—		(1,212		)
Net income, for computing basic earnings per share	$	39,502	$	44,925		$	80,681	$	93,294
Diluted earnings per share:
Net income, as reported	$	39,502	$	45,507		$	80,681	$	94,506
Allocation of undistributed earnings to stock units	—		(561		)	—		(1,167		)
Net income, for computing diluted earnings per share	$	39,502	$	44,946		$	80,681	$	93,339

A reconciliation of the weighted average number of shares outstanding used to compute basic and diluted earnings per share for the three and six months ended June 30, 2012 and 2011 is as follows (in thousands):



	For the Three Months Ended June 30,		For the Six Months Ended June 30,
	2012	2011	2012	2011
Basic weighted average number of shares outstanding	110,820	109,055	109,888	108,932
Dilutive common share equivalents	2,014	4,095	2,791	4,223
Diluted weighted average number of shares outstanding(1)	112,834	113,150	112,679	113,155

________________________________


(1)	Included within the weighted average share count for the three and six months ended June 30, 2012, are approximately 850,000 shares resulting from the distribution pursuant to the Deferred Compensation Plan (see Note 11) that were not included in the weighted average share count for the three and six months ended June 30, 2011.

Basic and diluted earnings per share for the three and six months ended June 30, 2012 and 2011 are as follows:



	For the Three Months Ended June 30,				For the Six Months Ended June 30,
	2012		2011		2012		2011
Basic earnings per share	$	0.36	$	0.41	$	0.73	$	0.86
Diluted earnings per share	$	0.35	$	0.40	$	0.72	$	0.82

The computation of diluted earnings per share excluded stock options and warrants to purchase 3,796,356 shares and 2,975,485 shares for the three months ended June 30, 2012 and 2011, respectively, and 3,558,814 shares and 3,181,435 shares for the six months ended June 30, 2012 and 2011, respectively, because the effect would have been anti-dilutive.

13. Related Party Transactions

One of the Company’s majority stockholders owns a minority interest in Artisan Partners Limited Partnership (“Artisan”), which pays fees in exchange for product distribution and record-keeping services. During the six months ended June 30, 2012 and 2011, the Company earned $1.7 million and $1.5 million, respectively, in fees from Artisan. Additionally, as of June 30, 2012 and December 31, 2011, Artisan owed the Company $0.9 million and $0.7 million, respectively, which is included in receivables from product sponsors, broker-dealers and clearing

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

organizations on the unaudited condensed consolidated statements of financial condition.

American Beacon Advisor, Inc. (“American Beacon”), a company majority-owned by one of the Company’s majority stockholders, pays fees in exchange for product distribution and record-keeping services. During the six months ended June 30, 2012, the Company earned $0.2 million in fees from American Beacon. At June 30, 2012, American Beacon owed the Company $0.2 million, which is included in receivables from product sponsors, broker-dealers and clearing organizations on the unaudited condensed consolidated statements of financial condition

One of the Company’s majority stockholders owns a minority interest in XOJET, Inc. (“XOJET”), which provides chartered aircraft services. The Company paid $0.5 million and $1.0 million to XOJET during the six months ended June 30, 2012 and 2011, respectively.

Aplifi, Inc. ("Aplifi"), a privately held technology company in which the Company holds an equity interest, provides software licensing for annuity order entry and compliance. The Company paid $0.5 million and $1.0 million to Aplifi for such services during the six months ended June 30, 2012 and 2011, respectively.

An immediate family member of one of the Company’s executive officers, is an executive officer of CresaPartners LLC (“CresaPartners”). CresaPartners provides the Company and its subsidiaries real estate advisory, transaction and project management services. The Company paid $0.1 million and $0.3 million to CresaPartners during the six months ended June 30, 2012 and 2011, respectively.

One of the Company's stockholders, TPG Capital ("TPG") provided the Company with consulting services. During the six months ended June 30, 2012, the Company paid $0.2 million to TPG.

14. Net Capital and Regulatory Requirements

The Company’s registered broker-dealers are subject to the SEC’s Uniform Net Capital Rule (Rule 15c3-1 under the Exchange Act), which requires the maintenance of minimum net capital, as defined. Net capital is calculated for each broker-dealer subsidiary individually. Excess net capital of one broker-dealer subsidiary may not be used to offset a net capital deficiency of another broker-dealer subsidiary. Net capital and the related net capital requirement may fluctuate on a daily basis.

Net capital and net capital requirements for the Company’s broker-dealer subsidiaries as of June 30, 2012 are presented in the following table (in thousands):



	Net Capital		Minimum Net Capital Required		Excess Net Capital
LPL Financial LLC	$	124,777	$	6,042	$	118,735
UVEST Financial Services Group, Inc.	$	20,661	$	281	$	20,380

LPL Financial is a clearing broker-dealer and UVEST is an introducing broker-dealer. In connection with the Company's 2011 initiative to consolidate UVEST with LPL Financial, UVEST has withdrawn its registration with FINRA effective July 16, 2012, and is no longer subject to net capital filing requirements. PTC is also subject to various regulatory capital requirements. Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s unaudited condensed consolidated financial statements.

As of June 30, 2012 and December 31, 2011, LPL Financial, UVEST and PTC have met all capital adequacy requirements to which they are subject.

The Company operates in a highly regulated industry. Applicable laws and regulations restrict permissible activities and investments. These policies require compliance with various financial and customer-related regulations. The consequences of noncompliance can include substantial monetary and non-monetary sanctions. In addition, the Company is also subject to comprehensive examinations and supervision by various governmental and self-regulatory agencies. These regulatory agencies generally have broad discretion to prescribe greater limitations on the operations of a regulated entity for the protection of investors or public interest. Furthermore,

LPL FINANCIAL HOLDINGS INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

where the agencies determine that such operations are unsafe or unsound, fail to comply with applicable law, or are otherwise inconsistent with the laws and regulations or with the supervisory policies, greater restrictions may be imposed.

15. Financial Instruments with Off-Balance-Sheet Credit Risk and Concentrations of Credit Risk

LPL Financial’s client securities activities are transacted on either a cash or margin basis. In margin transactions, LPL Financial extends credit to the advisor's client, subject to various regulatory and internal margin requirements, collateralized by cash and securities in the client’s account. As clients write options contracts or sell securities short, LPL Financial may incur losses if the clients do not fulfill their obligations and the collateral in the clients’ accounts is not sufficient to fully cover losses that clients may incur from these strategies. To control this risk, LPL Financial monitors margin levels daily and clients are required to deposit additional collateral, or reduce positions, when necessary.

LPL Financial is obligated to settle transactions with brokers and other financial institutions even if its advisor's clients fail to meet their obligation to LPL Financial. Clients are required to complete their transactions on the settlement date, generally three business days after the trade date. If clients do not fulfill their contractual obligations, LPL Financial may incur losses. In addition, the Company occasionally enters into certain types of contracts to fulfill its sale of when, as, and if issued securities. When, as, and if issued securities have been authorized but are contingent upon the actual issuance of the security. LPL Financial has established procedures to reduce this risk by generally requiring that clients deposit cash and/or securities into their account prior to placing an order.

LPL Financial may at times hold equity securities on both a long and short basis that are recorded on the unaudited condensed consolidated statements of financial condition at market value. While long inventory positions represent LPL Financial’s ownership of securities, short inventory positions represent obligations of LPL Financial to deliver specified securities at a contracted price, which may differ from market prices prevailing at the time of completion of the transaction. Accordingly, both long and short inventory positions may result in losses or gains to LPL Financial as market values of securities fluctuate. To mitigate the risk of losses, long and short positions are marked-to-market daily and are continuously monitored by LPL Financial.

16. Subsequent Events

On July 10, 2012, the Company acquired all of the outstanding common stock of Veritat Advisors, Inc. ("Veritat"). The Company paid $5.1 million at the closing of the transaction. The Company may be required to pay future consideration to the former Veritat shareholders that is contingent upon the achievement of certain assets under management milestones and employee retention. The maximum amount of contingent payments is $14.9 million over the next five years. Veritat is a registered investment advisory firm that developed and utilizes a proprietary online financial planning platform designed to support advisors who serve the mass market. This strategic acquisition will enhance the technological capabilities of the Company's recent initiative intended to serve the mass market by increasing the flexibility of its service offering.

On July 30, 2012, the Board of Directors declared a cash dividend of $0.12 per share on the Company's outstanding common stock to be paid on August 30, 2012 to all stockholders of record on August 15, 2012.

******

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

We provide an integrated platform of brokerage and investment advisory services to over 13,100 independent financial advisors and financial advisors at financial institutions (our "advisors") across the country, enabling them to successfully service their retail investors (their "clients") with objective, conflict-free financial advice. In addition, we support approximately 4,500 financial advisors who are affiliated and licensed with insurance companies with customized clearing, advisory platforms and technology solutions. Our singular focus is to provide our advisors with the front-, middle- and back-office support they need to serve the large and growing market for independent investment advice, particularly in the mass affluent market. We believe we are the only company that offers advisors the unique combination of an integrated technology platform, comprehensive self-clearing services and full open-architecture access to leading financial products, all delivered in an environment unencumbered by conflicts from product manufacturing, underwriting or market making.

For over 20 years we have served the independent advisor market. We currently support the largest independent advisor base and we believe we have the fourth largest overall advisor base in the United States based on the information available as of the date this Quarterly Report on Form 10-Q has been issued. Through our advisors, we are also one of the largest distributors of financial products in the United States. Our scale is a substantial competitive advantage and enables us to more effectively attract and retain advisors. Our unique model allows us to invest more resources in our advisors, increasing their revenues and creating a virtuous cycle of growth. We currently have approximately 2,900 employees with headquarters in Boston, Charlotte and San Diego.

Our Sources of Revenue

Our revenues are derived primarily from fees and commissions from products and advisory services offered by our advisors to their clients, a substantial portion of which we pay out to our advisors, as well as fees we receive from our advisors for use of our technology, custody and clearing platforms. We also generate asset-based fees through the distribution of financial products for a broad range of product manufacturers. Under our self-clearing platform, we custody the majority of client assets invested in these financial products, which includes providing statements, transaction processing and ongoing account management. In return for these services, mutual funds, insurance companies, banks and other financial product manufacturers pay us fees based on asset levels or number of accounts managed. We also earn interest from margin loans made to our advisors’ clients.

We track recurring revenue, a characterization of net revenue and statistical measure, which we define to include our revenues from asset-based fees, advisory fees, trailing commissions, cash sweep programs and certain other fees that are based upon accounts and advisors. Because certain recurring revenues are associated with asset balances, they will fluctuate depending on the market value of the asset balances and current interest rates. Accordingly, recurring revenue can be negatively impacted by adverse external market conditions. However, recurring revenue is meaningful to us despite these fluctuations because it is not based on transaction volumes or other activity-based fees, which are more difficult to predict, particularly in declining or volatile markets.

The table below summarizes the sources of our revenue, the primary drivers of each revenue source and the percentage of each revenue source that represents recurring revenue, a characterization of revenue and a statistical measure:



			For the Six Months Ended June 30, 2012
	Sources of Revenue	Primary Drivers	Total (millions)	% of Total Net Revenue	% Recurring
Advisor-driven revenue with ~85%-90% payout ratio	Commissions	- Transactions - Brokerage asset levels	$911	50%	38%
Advisor-driven revenue with ~85%-90% payout ratio	Advisory Fees	- Advisory asset levels	$519	29%	98%
Attachment revenue retained by us	Asset-Based Fees - Cash Sweep Fees - Sponsorship Fees - Record Keeping	- Cash balances - Interest rates - Number of accounts - Client asset levels	$200	11%	100%
	Transaction and Other Fees - Transactions - Client (Investor) Accounts - Advisor Seat and Technology	- Client activity - Number of clients - Number of advisors - Number of accounts - Premium technology subscribers	$154	9%	64%
	Interest and Other Revenue	- Margin accounts - Marketing re-allowance fees	$26	1%	44%
	Total Net Revenue		$1,810	100%	64%
	Total Recurring Revenue		$1,161	64%


•	Commissions and Advisory Fees. Commissions and advisory fees both represent advisor-generated revenue, generally 85-90% of which is paid to advisors.

Commissions. Transaction-based commission revenues primarily represent gross commissions generated by our advisors, primarily from commissions earned on the sale of various financial products such as variable and fixed annuities, mutual funds, general securities, fixed income, alternative investments and insurance. The levels of transaction based commissions can vary from period to period based on the overall economic environment, number of trading days in the reporting period and investment activity of our advisors' clients. We also earn trailing commission revenues (a commission that is paid over time, such as 12(b)-1 fees) on mutual funds and variable annuities held by clients of our advisors. Trailing commissions are recurring in nature and are earned based on the current market value of investment holdings.

Advisory Fees. Advisory fee revenues represent fees charged on our corporate Registered Investment Advisor ("RIA") platform to clients of our advisors based on the value of advisory assets. Advisory fees are typically billed to clients quarterly, in advance, and are recognized as revenue ratably during the quarter. The value of the assets in the advisory account on the billing date determines the amount billed, and accordingly, the revenues earned in the following three month period. The majority of our accounts are billed using values as of the last business day of the calendar quarter. In addition, we support independent Registered Investment Advisors ("Independent RIA") who conduct their advisory business through separate entities by establishing their own RIA pursuant to the Investment Advisers Act of 1940, rather than using our corporate registered RIA. The assets held under these investment advisory accounts custodied with LPL Financial LLC (“LPL Financial”) are included in our advisory and brokerage assets and advisory assets under management metrics. The fee-based production generated by the Independent RIA is earned by the

advisor, and accordingly not included in our advisory fee revenue. However, there are administrative fees charged to Independent RIAs including custody and clearing and trading fees, based on the value of assets within these advisory accounts. Furthermore, we support certain financial advisors with customized clearing and advisory platforms and charge fees to these advisors based on the value of assets within these advisory accounts.

•

Asset-Based Fees. Asset-based fees are comprised of fees from cash sweep programs, our sponsorship programs with financial product manufacturers, and omnibus processing and networking services. Pursuant to contractual arrangements, uninvested cash balances in our advisors’ client accounts are swept into either insured deposit accounts at various banks or third-party money market funds, for which we receive fees, including administrative and record-keeping fees based on account type and the invested balances. In addition, we receive fees from certain financial product manufacturers in connection with sponsorship programs that support our marketing and sales-force education and training efforts. Our omnibus and networking fees represent fees paid to us in exchange for administrative and record-keeping services that we provide to clients of our advisors. Omnibus fees, paid to us by mutual fund manufacturers, are correlated to assets serviced while networking fees, paid to us by mutual fund and annuity product manufacturers, are correlated to the number of positions we administer.

•

Transaction and Other Fees. Revenues earned from transaction and other fees primarily consist of transaction fees and ticket charges, subscription fees, Individual Retirement Account ("IRA") custodian fees, contract and license fees, conference fees and other client account fees. We charge fees to our advisors and their clients for executing transactions in brokerage and fee-based advisory accounts. We earn subscription fees for various services provided to our advisors and on IRA custodial services that we provide for their client accounts. We charge monthly administrative fees to our advisors. We charge fees to financial product manufacturers for participating in our training and marketing conferences. In addition, we host certain advisor conferences that serve as training, sales and marketing events. During the reporting periods that these conferences are held we anticipate higher transaction and other fees resulting from the collection of revenues from sponsors and advisors, in comparison to other periods.


•	Other Revenue. Other revenue includes marketing re-allowance fees from certain financial product manufacturers as well as interest income from client margin accounts and cash equivalents, net of operating interest expense, and other items.

Our Operating Expenses

•

Production Expenses. Production expenses are comprised of the following: base payout amounts that are earned by and paid out to advisors based on commissions and advisory fees earned on each client's account (collectively, commissions and advisory fees earned are referred to as gross dealer concessions, or "GDC"); bonuses earned by advisors based on the levels of commissions and advisory fees they produce; the recognition of share-based compensation expense from stock options and warrants granted to advisors and financial institutions based on the fair value of the awards at each interim reporting period; a mark-to-market gain or loss on amounts designated by advisors as deferred commissions in a non-qualified deferred compensation plan at each interim reporting period; and brokerage, clearing and exchange fees. Our production payout ratio is calculated as production expenses excluding brokerage, clearing and exchange fees, divided by commissions and advisory revenues.

We characterize production payout, which includes all production expenses except brokerage, clearing and exchange fees, as either GDC sensitive or non-GDC sensitive. Base payout amounts and production bonuses earned by and paid to advisors are GDC sensitive because they are variable and highly correlated to the level of our commissions and advisory revenues in a particular reporting period. Non-GDC sensitive payout is correlated to market movement in addition to the value of our stock. Non-GDC sensitive payout includes share-based compensation expense from stock options and warrants granted to advisors and financial institutions based on the fair value of the awards at each interim reporting period, and mark-to-market gains or losses on amounts designated by advisors as deferred commissions in a non-qualified deferred compensation plan.

The following table is presented as an illustration of how the aforementioned production expenses impact our payout ratio for the six months ended June 30, 2012:



Base payout rate	84.26	%
Production based bonuses	2.08	%
GDC sensitive payout	86.34	%
Non-GDC sensitive payout	0.23	%
Total Payout Ratio	86.57	%

________________________________

See Results of Operations for the three and six months ended June 30, 2012 and comparative 2011 periods' analyses of production payout ratio.


•	Compensation and Benefits Expense. Compensation and benefits expense includes salaries and wages and related employee benefits and taxes for our employees (including share-based compensation), as well as compensation for temporary employees and consultants.

•

General and Administrative Expenses. General and administrative expenses include promotional fees, occupancy and equipment, communications and data processing, regulatory fees, travel and entertainment, professional services and other expenses. We host certain advisor conferences that serve as training, sales and marketing events. During the reporting periods that these conferences are held, we anticipate higher general and administrative expenses in comparison to other periods.


•	Depreciation and Amortization Expense. Depreciation and amortization expense represents the benefits received for using long-lived assets. Those assets represent significant intangible assets established through our acquisitions, as well as fixed assets which include internally developed software, hardware, leasehold improvements and other equipment.

•

Restructuring Charges. Restructuring charges represent expenses incurred as a result of our 2011 consolidation of UVEST Financial Services Group, Inc. ("UVEST") and our 2009 consolidation of Mutual Service Corporation (“MSC”), Associated Financial Group, Inc. (“AFG”), Associated Securities Corp. (“Associated”), Associated Planners Investment Advisory, Inc. (“APIA”) and Waterstone Financial Group, Inc. (“WFG”) (MSC, AFG, Associated, APIA and WFG, are collectively referred to herein as the “Affiliated Entities”).

How We Evaluate Our Business

We focus on several business and key financial metrics in evaluating the success of our business relationships and our resulting financial position and operating performance. Our key metrics as of and for the three and six months ended June 30, 2012 and 2011 are as follows:



	As of June 30,
	2012		2011		% Change

Business Metrics (unaudited)
Advisors(1)	13,185		12,660		4.1	%
Advisory and brokerage assets (in billions)(2)	$	353.0	$	340.8	3.6	%
Advisory assets under management (in billions)(3)	$	111.4	$	103.2	7.9	%
Net new advisory assets (in billions)(4)	$	5.3	$	6.8	(22.1	)%
Insured cash account balances (in billions)(3)	$	14.6	$	13.2	10.6	%
Money market account balances (in billions)(3)	$	8.5	$	8.2	3.7	%



	For the Three Months Ended June 30,						For the Six Months Ended June 30,
	2012			2011			2012			2011

Financial Metrics (unaudited)
Revenue growth from prior period	1.5		%	13.1		%	2.4		%	15.3		%
Recurring revenue as a % of net revenue(5)	65.3		%	62.4		%	64.2		%	61.3		%
Net income (in millions)	$	39.5		$	45.5		$	80.7		$	94.5
Earnings per share (diluted)	$	0.35	<