Federated Hermes Inc (FHI) 2001 Q1 法說會逐字稿

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Ladies and gentlemen thank you for standing by, and welcome to the Federated Investors quarterly earnings conference call. At this time, all participants are in a listen only mode, and later we will conduct a question and answer session with instructions to be given at that time. If anyone should require assistance during the conference, please do press 0 then star. Also as a reminder, this conference is being recorded. I would now like to turn the conference over to our host, Senior Vice President Mr. Ray Hanley. Please go ahead.

Thank you for joining us. We planned today to have about a 20-minute presentation, and as mentioned, we will then open it up for your questions. By way of safe harbor, let me say that this discussion may include forward-looking statements, and actual results could vary materially. For discussion of the factors, which could cause actual results to vary from these forward-looking statements, see the section titled risk factors in the company's registration statement and in the annual report on Form 10-K for the year ended December 31, 2000, on file with the Securities and Exchange 2 Commission. Leading today's discussion will be Chris Donahue Federated's Chief Executive Officer, Tom Donahue Federated's Chief Financial Officer. Also with us, are Dennis McAuley and Rich Novak from the corporate finance group, and with that, I'll turn it over to Chris to talk about another quarter of growth for Federated.

Welcome to the analysts, media representatives, and to our fellow shareholders, who have joined us today on this call or who are listening by way of the Internet. Thanks for joining us today. We always like to tell the story of Federated. Our strategy remains focused on growth by offering a broad mix of products diversified across and within asset classes and distributed through a multi-channel, intermediary focused distribution system. Through this strategy, we believe that Federated can continue to produce growth, even as market conditions change and investor preferences shift. Recent results illustrate the effectiveness of this strategy. In many ways, the story of the first quarter has similar themes to the prior quarter and to prior cycles we have experienced over the years. While the equity markets have been challenging, conditions in the 3 bond and money markets have been and remain favorable for growth. Federated is well positioned to benefit from these growth opportunities, and our first quarter results demonstrate that we have been successful at navigating changing market conditions, while continuing to produce growth. At quarter end, managed assets had grown to 146.4 billion, which is up 5% for the quarter and 17% for a full year period. This growth is right in line with the 18% compound annual growth in managed assets we've experienced over the last 5 years through all sorts of market conditions. Growth in money market and bond fund assets and in managed separate accounts, more than offset the decrease in equity fund assets that was driven primarily by market depreciation and the value of those assets. Now importantly, revenue increased as compared to the first quarter of 2000 and to the prior quarter. While it may seem a bit like ancient history today, during Q1 of 2000, equity fund sales and portfolio asset values were at record highs. Over the last year, despite 1.3 billion in net sales, the market value of our equity managed funds decreased by 5.2 billion or 22%. However, our growth in money market funds, 4 bond funds, and separate accounts, has more than offset this decrease demonstrating again the value of our franchise for all seasons. Now against a backdrop of difficult market conditions, first quarter equity fund flows were negative 70 million. It is worth noting that we experienced about 200 million in net negative flows from our index fund products, meaning that we have positive flows in our actively managed equity fund. Among our actively managed equity products during the first quarter, we have had positive flows in value and growth products, and negative flows in international and equity income, which is primarily the utility area. On the bond side, the first quarter showed strong gross and net sales. Net sales were positive in corporates, governments, high yield, blended, and municipals, while mortgage products continued a long trend of negative flows. Our High Yield Trust and High Income Bond Funds were among the top 5 products sold during Q1. We also had strong sales of our Federated Bond Fund, Ultrashort Fund, Limited Term Fund, and the Total Return Bond Fund. Data for the first couple of weeks of April is sketchy and very difficult to rely on, but they do show a slight net redemption in both stock and bond funds, which frankly, is 5 not really unexpected around this tax season. Our money market funds have, of course, successfully navigated the tax season, and I'll comment a little more on this in a minute. From a performance standpoint, as of year end for the funds rated by Morningstar, 73% of our assets were in funds rated 3, 4, and 5 stars with more than half of that total in 4 and 5 star funds. We have 50 funds rated 4 or 5 stars at year end. We continue to make substantial progress in improving the performance record of our Growth Funds. After producing simply outstanding results in 1999, these funds hit a speed bump in performance in 2000 that saw these near-term records fall. In the first quarter, however, these funds have for the most part improved their performance back up to middle of the pack. In addition, we have equity funds that are in the top quintal for year-to-date performance including our Capital Appreciation Fund, our Stock And Bond Fund, and not surprisingly our Market Opportunity Fund, which is a mid-cap value product. With the closing of the Kaufmann transaction this week, our total managed assets stood at $153 billion. Equity assets climbed to 22 billion with the addition of the Federated 6 Kaufmann Fund, Bond Fund assets are at about 15 billion, while money funds have continued to increase, averaging just about 108 billion during the first 3 weeks of April, and separate accounts are just over 6 billion. Money market funds continue to benefit from the combination of excellent cash management service and of course declining interest rate environments, which gives the funds the yield advantage over direct investments. While we experienced expected tax-related outflows around the April 15th date, we have subsequently increased assets to approximately 110 billion and are optimistic about further growth over the course of the year, given the favorable rate environment. Our experience and history indicates that money fund assets do tend to grow more during the second half of the year. Let's talk about distribution a little bit. Money market fund assets increased substantially in each of our channels during the quarter. In the bank trust channel, money funds increased by 5.4 billion, about 9%. The institutional channel showed $1 billion increase, about 9%, and money fund assets in the broker dealer channel grew about 1.7 billion or 7%. While the favorable rate environment is an important macro, we also have benefited from 7 adding new cash management relationship with corporations, government entities, and broker dealers. For example, during the first quarter, we added 14 new cash management accounts from corporations, universities, and government entities, in our institutional marketplace, as compared to adding 5 during the first quarter of the year 2000. Bond Fund sales were strong across all 3 major channels. Compared to the first quarter of 2000, Bond Fund sales increased 23% in bank trust channels and more than doubled in the broker dealer and institutional channels. We continue to benefit from placing products into various programs of our intermediaries. For example, during Q1 we experienced strong fixed income flows from variable annuity products in both funds and sub-advised accounts. We are in 27 different variable annuity programs. Retirement continues to be a source of growth as well. We mentioned in the January call that our Fed Stock Trust was added during Q1 to the state of California employee retirement savings plan as the value option. During the quarter, our Total Return Bond Fund was selected by 2 large corporations who use a consultant screening approach to select their funds for their 401K, 8 and our High Yield Trust Fund was added to another major plan. Looking forward to the rest of 2001, our growth plans include a major initiative related to the Federated Kaufmann Fund. Now that we have closed the transaction, we have added new A, B, and C share classes for sales through banks, brokers, and other mediaries, and next month we will kick of a road show to introduce the fund and its management team to the intermediaries. We are also planning to launch a new managed account product structured for accounts between 100,000 and 10 million. Our initial focus will be to take our investment records in certain asset classes and package them for inclusion in existing separate account wrap programs for the major wire houses. We have added a small group of wholesalers to begin to call on broker dealers owned by insurance companies. Once again another example of Federated's commitment to wholesalers on a focused basis, and here the relationship is with insurance companies that we already participate in their variable annuity programs. Our effort in Germany with the LVM Insurance Company continues to grow. We have positive net close in the retail products launched last year, and we are also adding new separate account business. 9 Assets in the 6 retail funds are at 212 million, and the separate account managed assets have increased to 1.2 billion. We are also broadening our distribution by adding products to the mutual fund supermarkets in Germany and getting arrangements with large banks in Germany for opening of their distribution to third parties. We continue to look forward to new opportunities to replicate our LVM model with quality partners in other regions of the world. In short, we continue to pursue opportunities for growth, even as the market conditions change. Tom?

Thank you Chris. Reviewing the financials, we were pleased with our financial performance in the first quarter. Chris mentioned the asset changes by category with the decrease in equity assets and the substantial related revenue impact. The importance of having a diversified business mix is hard to overstate. Due to our diverse mix of assets, we were able to increase revenues measured both year-over-year and for sequential quarters. Growth in money market assets was the driving force behind the increases for both the investment advisory fees and the administrative service fees. Other service fee revenue 10 decreased largely due to the decline in the value of equity assets managed. This decrease resulted in the lower revenue from distribution and service fee based on net asset value. These fees are minimal on money market funds, so the gain in those assets does not have much effect on this line item. Operating expenses decreased year-over-year due mainly to lower incentive compensation accrued expense. Incentive compensation expense is one of our success items. These are expenses that typically fluctuate based on changes in sales, assets, and earnings. In addition to incentive compensation, success items include marketing allowances, which shows up as part of advertising and promotion, amortization of advanced commissions, and amortization of intangibles. Year-over-year these success items decrease by 14% while all other expense items increase by only 3%. Of course, we are generally happy to have these success items increase, and in fact, certain of these items such as marketing allowances did increase driven by the growth in asset. For Q1, the decrease in amortization of deferred sales commission year-over-year and from the prior quarter is due mostly to lower b-share assets, as 11 well as the new financing program, that we went over last quarter in the call. Debt expense decreased due to lower recourse debt year-over-year, as well as lower non-recourse debt, as a result of the new b-share program. During Q1, we were pleased to see that our operating margin increased to 44% when compared to the entire year of 2000's margin of 42%. As we have said before, we believe that we'll be able to gradually increase margins measured year-over-year, though not always for sequential quarters, and of course, market impact and market conditions count too. A couple of balance sheet comments; we closed the first quarter with 255 million in cash in short-term investments. When we report next quarter, there will be a reduction of cash on the balance sheet because of the Kaufmann transaction. During the first quarter, we repurchased 708,000 shares of our stock, and under our current authorized program, we were able to repurchase up to 3.7 million shares more, and we continue to be active in the market. As announced in our press release, our board voted to increase our quarterly dividend by 24% to ¢4.6 per share. Our strong financial performance allows us to increase our dividend, continue to repurchase shares, and most importantly, continue 12 to invest for growth in the future of Federated Investors. That completes the financial review, and we are ready to open up the call for questions.

Ladies and gentlemen if you do wish to ask a question, please depress 1 on your touchtone phone. You will hear a tone indicating you've been placed in queue, and you may remove yourself from queue at anytime by depressing the pound key. If you are using a speakerphone, please pick up your handset before pressing any numbers. We do have a question from the line of Mark Constant with Lehman Brothers. Please go ahead.

Morning, good afternoon I guess, a couple of questions for you. One, can you give us an update on the terms of the Kaufmann acquisition at closing? If I ballpark, the adjusted purchase price is based on the rough asset numbers you gave us, at about 345-350 million. Is that in the ballpark? Is it still 5% stock? Are your notes now going to be in April, those types of things?

Yeah Mark. If you look at the assets when we announced the deal, 13 and then the reduction in the assets roughly follows with the asset decline, and they were about 3.2 billion when we closed. The stock portion was 5%.

Okay. So it's all still in proportion to what was initially discussed?

Yeah roughly.

Okay. Any changes in your plans with them or your financial expectations, as you've done more work with them? Are you still going to be closing the broker dealer? Would you make any adjustments to decrease dilution numbers you talked about initially?

I think that as we've gotten to know them better, and have them spend more time with our people here, that we are comfortable with what we said before and look forward to it being a big success. Our sales people are, as I said in the last call, pretty excited about it and they continue to be. Those guys continue to perform as in their past.

Can you give us a sense of what their sales and redemptions were in the 14 first quarter since they were not included in you numbers?

Yeah, sure. They're about 50 million to 60 million in net negative redemptions for the first quarter.

Okay, and. . .

Those aren't big sales and big redemptions. It's small numbers on either side.

Okay and will there be any changes? You guys mentioned in the press release the new class shares. Those were already fairly high expense ratio funds in the no load channels? Will the, I mean just anything in particular about level load, back-end load, the B, C share classes. You put an extra 75 basis points on them, they'll be really high. Would you be changing the price in the revenue stream to yourselves at all in the new price structures?

No.

Okay and last question. How much of the increase sequentially there in the ad promotional expenses could you 15 characterize as sort of directly sales related versus sort of general branding initiatives and expenses?

You say in the advertising and promotional line?

Yeah.

The increase was about 600,000 or so, and I would say that most of it is related to the marketing allowances from our increase in assets.

Okay. Perfect. Thank you guys.

We do have a question from the line of Cynthia Mayer with Salomon Smith Barney. Please go ahead.

Hi, how you doing?

Very nice thanks.

Just a quick followup on the Kaufmann question. Are you planning to merge any funds with Kaufmann from within the federated funds?

We are not currently 16 planning any fund mergers as we announced on the initial call when we discussed the Kaufmann Fund. We will have established in New York, with the Kaufmann people, a center of excellence in the [_______________] area, if you will, and so we will have our small cap fund headed up by Aash Shah, reporting to Hans and Larry, but we're not planning to merge any funds together.

So you won't change the cost structure for the small cap then?

No, we're not going to change, we're not changing the small cap fund at all, other than that reporting and area of excellence comment.

Okay, and just in a different area on money market mix. You've seen any change, any outflows in retail accounts, retail money market, to equity?

We have seen net positives still today, but because we deal mostly on the books with most of our clients, you don't see the exact transfers from equities to money funds or from money funds back to equities, 'cause most of our clients are dealing with us on 17 an on-the-books basis. But we're seeing still positive money market increases in average assets from broker dealers.

Okay, great. Thanks a lot.

We do have question from the line of William Katz with Merrill Lynch. Please go ahead.

Okay, thank you. Good afternoon everybody, a couple of questions if I may. Just on the Kaufmann, maybe I'm just being dense. . .

Hey Bill, can you talk up?

Is this any better?

Yeah.

Okay, sorry about that.

Here we go; there we go.

Okay, I'm just saying maybe I'm being a little dense, but on the Kaufmann funds, is there going to be any change 18 in the management fee associated with the assets and the management?

No.

Okay, other question I have. What is your tolerance to paying off your recourse debt at this point?

What is our tolerance for paying it off?

Yeah. What's the yield on, what's the coupon you're paying on the debt?

It's just under 8%, and it's got about a 5-year life left on it, and [_______________] in there, and we haven't felt that it is proper thing to pay it off yet.

In terms of the additional wholesalers, Chris, was that a first quarter event where you added them in?

If they were hired during the first quarter. .

How much. . .

I think there were 3 of them, 4 of them. 19

Okay, and finally in terms of the b-shares, is there any significant change in the level of sales activity?

There's no difference in the change in b-share activity as compared to the other classes. The equity sales would have decreased and the fixed income sales have increased.

Alright, thank you.

We do have a question from the line of Scott Patrick from Morgan Stanley. Please go ahead.

Hi, good afternoon, just a few questions. The first, you had indicated that on the equity side you saw inflows on the actively managed products in total. Can you give us a little bit of color as to what's going on underneath the overall number, just in terms of where you might be seeing good flows and where you might be having some difficulties?

The good flows are in the value equity product. We had, even in the first quarter, positive flows in the growth products because the first part of the year, with 20 that January improvement, outweighed what was going on in March. We had negative flows in international and in the utility area, and I did mention and highlight the, I think the largest area of negative flows was in the index fund, so much for everyone who thought that people only bought index funds because they wanted the index. It certainly appears like people who are buying the index wanted the relative performance, and when it didn't happen, they got out of it.

Okay. Second thing, on Kaufmann, what is the breakdown between fixed income and equity assets?

The Federated Kaufmann Fund is one fund. It's all equity, and there is no other thing. That's all it is. It's one big equity fund.

Okay. And then finally on administrative service fees, they looked a bit higher than what we were expecting, can you put a little bit of color on that?

Administrative service fees. That's driven directly from the assets, and so it's an NAB based fee, and it 21 really doesn't fluctuate across asset classes, so that's why you would have seen an increase there. You don't really have a blended concept like you would with management fees where you would need to move across the different asset classes and you couldn't directly go from a change in overall assets to a change in revenues. There is a much more direct relationship on the admin service fee.

Okay, great. Thanks very much.

We do have a question from the line of Dean Eberling with Keefe, Bruyette. Please go ahead.

Hi, good afternoon, couple of questions. Just a clarification on the other "service fees." I guess that fee is not equal across asset classes?

Right, it would be disproportionate to equity primarily, disproportionate to b-shares. When you think about the level of the distribution fees, it would be b-shares which would be weighted toward equity, and it would be minimal for money market funds, and that's why essentially the money fund 22 asset change doesn't bring that line item back up the way it does with management fees and the admin service fees.

Okay. Any P&L impact on the structured products that you've done in the quarter?

No.

Anything queued up in that arena?

Well, we continue to monitor them, and on the other hand, we're also looking at how we can do more of those products. That's where we are.

Okay, and then on the separate accounts. Did you give a number in terms of flows, negative or positive, in your separate account business, and what's the mix of that business, is it stocks, bonds, cash?

The mix is about two-thirds fixed, one-third equity, and of the fixed, total assets would be less than 10%, about 10% of it would be cash, and in terms of flows, we would have had positive flows in the first 23 quarter. We had separate account wins, in particular a few over in Germany that Chris mentioned the assets going up. Of the change in assets though, more of it would have been market related, driven by the large fixed income component, and about 20% or 25% of the change would have been from positive net flows.

Right. In that business, when Blackrock reported, they made a comment, where because of the market decline in equities that our fee pipeline is big. There was some, I guess, angst on the part of institutional clients, whether or not fixed income allocation was appropriate and maybe they shouldn't be moving it back into equities. Did you see any similar activity? And Westcap yesterday noted that they have seen this positive event for them, in terms of an equity flow, because of the decline in equities. So what does our fee activity look like? Are you seeing the same thing?

We are not seeing that. I can't address why they are and why we aren't, but that's not what we're seeing. We have a good handful of records that we're trying to promote, and that's where the action is. 24 We're seeing action in getting into finals on Total Return Bond Funds, some of our short-term mandates, the value equity record, international equity record. Those would be the primary ones that we're working on. So we haven't seeing that dynamic.

Okay thank you.

Again ladies and gentlemen, if you do have a question, please press 1 at this time. We do have a followup question from the line of Dean Eberling. Please go ahead.

Okay, thank you. I'll hog the call. Of the 39.6 million in comp and related in the first quarter, could you give us some sense for what percentage of that number is just locked? I know there is a certain amount that moves with the wholesale payouts and things like that, but is it 50% or 60% that just has to be paid before you are to make any headcount reductions or even adding people?

We've traditionally been run at about, if you take our total comp expense, about 20% of it is related to variable 25 and incentive based compensation. For the first quarter, we probably were a little bit less than that because of the decrease in the accruals. We've not had any significant change up or down or any unexpected change in the level of base salary or headcount.

Okay, just as a follow on. In this [_______________] world, it seems that 9 times out of 10, management will bless the consensus numbers for the current year anyway. I mean, what are you guys feeling relative to the consensus number for '01?

I don't know about your ratios on what others do. I can't react to that. But the statement that I made from the podium and along the way was that we continue to do our best to pound out the net income at a 15%-20% annual increase, and we don't come off of that. But I have been instructed this year, and we'll continue to not really say much about where analyst estimates are and whether we are comfortable with them or not, even though in the past I used to, with reckless abandon, say that I was comfortable with them.

Ah, the good old days of 26 reckless abandon. Have a good day.

Okay.

Thank you.

There are no further questions gentlemen, please continue.

Well that concludes the call. Thank you for joining us today.

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