Federated Hermes Inc (FHI) 2007 Q4 法說會逐字稿

Greetings and welcome to the Federated Investors Q4 2007 earnings conference call.

At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (OPERATOR INSTRUCTIONS) As a reminder, this conference is being recorded.

It is now my pleasure to introduce you host, Mr. Ray Hanley, President of Federated Investors Management. Thank you, Mr. Hanley, you may begin.

Good morning and welcome. Today we plan some brief remarks and then we'll open up for your questions.

Leading today's call will be Chris Donahue, Federated's CEO, Tom Donahue, Chief Financial Officer, and with us today is Dennis McCauley and Laurie Hensler from the Corporate Finance Group and with us for the Q&A portion is Debbie Cunningham, Chief Investment Officer for Federated's Money Market Funds.

Let me say that certain statements in our presentation including those related to money market assets, investment performance, sales and acquisitions will constitute forward-looking statements that involve known and unknown risks and other factors that may cause actual results to be different from future results.

For a discussion of the risk factors see the risk factor and cautionary statements section in Federated's annual report on Form 10-K for year-end 12/31/06 and other reports on file with the SEC. As a result, no assurance can be given as to future results and neither Federated nor any other person assumes responsibility for the accuracy and completeness of such statements in the future.

And with that, I'll turn it over to Chris.

Thank you, Ray. Welcome and good morning.

I will begin by reviewing Federated's recent business performance before turning the call over to Tom to discuss our financials.

Starting with the cash management business, money market assets grew by nearly $27 billion, or 13% from the prior quarter and increased by $63 billion, or 36% during the year 2007. This was by far the best year in Federated's history for asset growth overall and for money market assets in particular. These assets have continued to grow adding another $7 billion so far here in January.

With the outlook for additional fed rate cuts and with our strong competitive position, we expect to see additional growth in money market assets. We have experienced growth in all categories of money funds, govies, prime and munis with the strongest growth coming in government products.

The persistency of these assets is difficult to forecast, however, in past periods of accelerated money market growth we have experienced higher highs and higher lows. In addition to macroeconomic factors, our diverse client base considers the quality of our products and services and the strength of our credit work as key points in determining the placement of assets that they control.

These factors continue to work in our favor as our highly experienced team of portfolio managers, analysts and traders have worked hard and performed exceptionally well in the tough market conditions of the last several months.

Our prime money market funds continue to perform very well against the backdrop of very challenging markets. We continue to see the winding down of the SIV positions as notes mature. We have received all payments when and as due and expect to continue to be paid on time and in full from these instruments.

On the muni side, the downgrades of muni bond insurers have made the headlines. With approximately half of all municipal securities issued in the market insured, our funds, like others, hold these investments, however, we do not expect these issues to cause any credit or liquidity problems for our muni funds.

We are comfortable with the underlying credits of the issuers as well as by the liquidity support and short-term nature of nearly all of our holdings in muni money market funds. We remain comfortable with the credit quality of all of our money fund investments.

We continue to have frequent contacts with our clients. As the total assets indicate and the increases, our clients continue to have confidence in our money funds.

Now in terms of market share, we gained share during the fourth quarter and for the year 2007. As always, we think longer views of market share are more useful than the short-term figures but still we expect to continue to grow our market share over time.

An update on functional equivalency efforts for money funds shows the CFTC and the OCC applications ended the year at over $2 billion combined. We continue to work through legislative efforts to enact changes we've been seeking with the SEC around the rule 15(c)33 effort. This is broker cash.

Recently, the SEC determined that prime money market funds would not be included in the potential changes to the rule. We are proceeding with the effort to enable the use of government and agency money funds. We think that this change would be a partial victory for this application.

Turning to equities. Assets decreased from the prior quarter due to market depreciation and net outflows. Net outflows from equity mutual funds decreased slightly from the prior quarter and we saw improvement in flows during each month of the quarter.

Returning to positive equity flows remains a top priority for '08. We believe that new products like the Federated InterContinental Fund and the Kaufmann Large Cap Fund combined with improvements in other funds will enable us to turn these flows positive during the year.

The new InterContinental Fund was our top selling equity fund on a net basis in the fourth quarter. Launched in August following the acquisition from Rochdale, the fund has strengthened our international fund product line. Assets recently exceeded $600 million, up from $366 million at acquisition date.

The fourth quarter also saw the signing of new employment contracts with the principles of the Federated Kaufmann team. We are very excited about this development and the structure that it puts in place to enable us to continue to build upon the great success of the Federated and Kaufmann combination.

When we joined forces in April of '01, assets under management in the Kaufmann products were $3.2 billion. These assets stood at over $13 billion at the end of '07. The contracts came to fruition along with plans for the launch of the new Federated Kaufmann Large Cap Fund which we have just begun to sell.

We agreed that a new long-term contract was useful to launching this product as it demonstrates the commitment of the team and the whole company to the success of this product and to all of our Federated Kaufmann products. We are confident that the Kaufmann team will continue to deliver strong investment performance to shareholders for many years to come.

MDT mutual funds contributed positively to equity fund flows. Assets in Federated MDT equity mutual funds increased 25% in the quarter to just over $1 billion due mainly to a fund merger and modestly from positive net flows.

We've also had some recent platform wins and better sales results for the Capital Appreciation Fund, which has had a strongly positive change in performance over the last two years. Overall, net outflows in our equity funds are running lower for the first three weeks of January than compared to the fourth quarter.

Turning to equity separate accounts, we won another new MDT institutional account in the fourth quarter for $20 million. And we continue to see a lot of interest from consultants and institutional investors in the MDT strategies.

MDT's SMA strategies, however, had net outflows in the fourth quarter as we continue to work to increase sales from the '07 reopening in the major broker platforms. MDT total managed assets closed the quarter at $8.9 billion, up $2.2 billion from the acquisition in mid '06.

We continue to have success in expanding distribution for our strategic value SMA product as the strategy was added to the platform of another top wirehouse broker effective late in the fourth quarter. We expect this win and the other major wirehouse win we talked about last quarter, which has not yet become operational, to help flows in this area.

SMA flows were negative in the fourth quarter, reflecting market conditions in '07 for portfolios like strategic value that emphasize dividend paying stocks. Federated's SMA assets were $10.5 billion at year-end, up about 10% for the year.

On the fixed income side, Federated continued to navigate difficult credit market conditions very successfully. Our total return bond strategy continues to rank in the top 4% of its Lipper category for three years ended 12/31/07 and is in the top 11% or better for the quarter one, three, five and ten-year periods at year-end.

Our overall fixed income performance is strong and our fund flows, though still negative, improved significantly during the fourth quarter. Within, however, the fixed income separate accounts we did have a $250 million redemption which was related to the clients' exit from bankruptcy.

As of January 23rd, our managed accounts were approximately $308 billion. This includes $247 billion in money market assets of which $222 billion were money market mutual funds. Also, $38 billion in equities and $23 billion in fixed income.

Looking at investment performance and using the year-end Lipper rankings for Federated's equity funds, 70% of rated assets are in the first or second quartile over the last year, 79% three years, 72% five years and 54% ten years. For bond fund assets the comparable first and second quartile percentages are 69% one-year, 81% three years, 87% five years and 77% for ten years.

Let's address distribution. In the wealth management and trust market, money market assets grew by over $16 billion, driven by gains from institutional clients in bank trusts and capital market channels. In the broker dealer channel, money market assets continued to grow gaining about $7 billion in the quarter and this includes additional growth from our assets within the Edward Jones system.

In the global institutional channel, we continue to have elevated activity for RFPs and finals presentations reflecting strong investment performance in a number of areas. We're also seeing increased interest from state government pools and other institutional cash accounts attracted by our cash management capabilities as demonstrated during the tough markets of the last several months.

Our strong investment performance on the cash side and in other areas may also help on the acquisition front. And we continue to evaluate candidates for both consolidation or roll ups and center of excellence deals.

At this point, I'll turn it over to Tom to discuss our financials. Thank you, Chris. For Q4 revenues increased 16% compared to Q4 '06 and 5% from the prior quarter. The increases were due mainly to higher money market assets and to a lesser extent higher equity assets.

On the expense side, Q4 results were impacted by $15 million, or $0.09 net per share from the new employment contracts with the principles of the Federated Kaufmann team. Going forward, these contracts will add $1.7 million of new bonus compensation expense each quarter for four years. Overall, incentive-related compensation increased reflecting growth in assets and earnings as well as improved equity investment performance.

Marketing and distribution expense increased from the prior quarter and from Q4 '06 largely due to money market fund growth. In the non-operating area, Federated recognized a non-cash impairment charge of $1.2 million in its equity investment in a CDO product launched in 2006 due to the impact of downgrades expected in securities held by the product.

Despite its strong relative performance, i.e. none of the debt issued by this CDO has been downgraded and it continues to make payments to equity holders, we expect the equity returns to be much lower than expected at inception. The remaining book value of this investment is now approximately $200,000 and we continue to earn management fees from the product.

On the balance sheet, our cash and short-term investments were $146 million at the end of 2007. Our share repurchases were down in Q4.

As we've discussed previously, there are a variety of factors that influence our activity level in any given quarter including overall market conditions, our market outlook, share price as well as acquisition possibilities and other potential uses of cash and/or debt. We encourage investors to focus on our long-term record on share repurchases, dividends and acquisitions and we expect to continue to be active in all these areas going forward.

Anthony, we are ready to open up the conference call to questions now.

(OPERATOR INSTRUCTIONS) Our first question comes from the line of Ken Worthington with JPMorgan. Please proceed with your question.

Hi. Good morning.

Morning, Ken.

You've been typically a buyer of assets in the past. In this period of money market fund disruptions are you seeing any increase in the number of opportunities to either buy or partner with other companies in the money market fund area? Like in other words, because there's so much disruptions, are you seeing more opportunities than you have in the past?

There is a constant patter of deals available and discussions. We knock on as many doors as possible and we, like you, expect that there will be more opportunities occasioned by these disruptions.

But it's very hard to go moment to moment and say, oh, there's a lot more deals available at any one given time. So we're working on some, as I mentioned in my remarks, but it's very, very difficult to say, oh well, there's been a spike in offerings all of a sudden.

But is that what you would expect, that you would expect there'd be more opportunities because of the disruptions?

Yes.

Okay. Perfect. Thank you.

Yes.

And then secondly, maybe you can talk about the impact of the, kind of the surprise 75 basis point cut. Is the potential positive impact, I think you mentioned that there's money funds are up $7 billion in January already, but, you know, does the magnitude of the ease play into the sales you get in the money fund area? Like would it have been any different in the fed only eased 50 or 25?

Well, the larger the ease, the more the disparity that erupts between the yield on a money fund and, say, the repo rate or other direct instruments. And so there is more incentive for more money to come into money funds on the larger amount. And it also happens quickly and that influences it as well.

And I'm going to let Debbie address her views on this and as to how this has played out historically.

Hi, Ken. This is Debbie Cunningham.

The 75 basis point rate cut, the magnitude of the cut, as Chris mentioned, definitely should have, historically has had an impact on the flows that we've received, i.e., the larger the cut the larger the volume on a percentage basis of increased flows.

Having said that, I think to some degree we've already seen a substantial amount of flows and so expectations would be that the continuation of those based simply on this 75 basis point cut is likely. It's questionable whether the volume actually increases, though, based on that.

I think the 75 basis point cut was based on, at this point, concern in the market from a global perspective about an economic slowdown. What we saw based on the earlier rate cuts that took place in 2006, in our estimation, was due to some of the market disruptions particularly the liquidity problems that had occurred in the money funds.

The fact this 75 basis point cut, however, in our estimation, is more due to an economic slowdown may actually, in fact, have a larger impact on what we see on a flow perspective going forward.

And then lastly, Debbie, just you're, I know there are comments in the prepared remarks but just in your opinion an update on the SIV issues and the financial guarantors.

From an SIV perspective, our four issuers are still the same ones that we continue to own within the various prime portfolios. As was mentioned, they continue to mature. We continue to work with each of those issuers to make sure that they continue to be high credit quality issuers within our portfolio and to continue to attempt to get additional liquidity into those structures in the forms that would be acceptable for us to start to repurchase in some way.

But again, that's a process that continues and we're very comfortable from a credit process, and our comfortability has been born out in the context of those securities maturing and paying as they come due. Our outlook is for continuation of the same, continue to work with those issuers and their supporters, their providers, as we go forward over the next several months and into the summer of 2008.

From a muni bond insurer perspective, or a monoline bond insurer perspective, as was also noted, a good portion of the municipal market is, in fact, guaranteed by various of the monoline insurers. We do not expect to have any kind of credit problems associated with downgrades of those monolines.

There have already been a few noted downgrades within the marketplace from one or more of the NRSROs that rate those entities. In fact, though, this has not been thought of internally as a Triple A rated market for some time now. So, if you will, the rating agencies, in our estimation, are catching up with the process at this point by affecting some of those downgrades.

Again, the liquidity features that are available on those structures when we feel they have been downgraded to a level that no longer meets our requirements, or internally we downgrade them to a level based on our own credit analysis process of the liquidity features back to the banks and broker dealers in those structures, will then be effected and, you know, we would expect that the full payment and the liquidity that's provided in those transactions will be returned to the funds at that point in time. But again, we don't expect it to have any kind of credit or liquidity issues in those products.

Okay. Great. Thank you very much.

Thank you. Our next question comes from the line of Marc Irizarry with Goldman Sachs. Please proceed with your question.

Great. Thanks.

This is a question, I guess, for you, Chris, if you can just put some historical perspective on your business during recessionary periods in terms of what you see in the money fund business. Thanks.

What has happened historically has been driven in large part by what's going on with rates. And if you recall, Chris' charts, the charts in the '01, '02, '03 time frame had high hats on them because of the flows occasioned by an easing cycle of the fed.

And as I mentioned in the remarks when I said that we have higher highs and higher lows, sometimes that money rolls off as the fed changes in some later sequence, but we end up with more and more and more business as you go over time. So if you look at this business from the perspective of starting it in the mid-70s till today, once you are dedicated with your products and your approach to the long-term and not the short-term, that's why you can continually grow, see these cycles, accept the money and have clients for the long haul and that's what we're trying to do.

So we try to build the products and the business so that it matters not what the fed is doing at any one time in any one cycle, but are designed to last through all of these cycles and flourish and do what they're supposed to do which is give customers daily liquidity [a par] on a money market fund.

And this may be a little harder to assess. I don't know if you have any metrics internally to measure it but obviously some of your competitors have probably been more exposed to investment to SIVs, for example, that maybe aren't performing as well as the investments that you have in your money market funds. Are you seeing any evidence of market share gains on that front? Thanks.

Well, we have seen some monies coming from some states that have problems where money has moved around and then found its way into Federated funds. It is very difficult, though, for us to exactly say, oh, we got this money out of a competitors' money fund because we have a lot of the clients already and they may be reallocating to us and we don't see it exactly that way.

So, overall, we can detect that we have increases in market share any way we look at it, and so we are heartened by that. And in talking to the clients we know that they have a great deal of confidence in keeping and building their cash positions with us and we tend not to try to focus on what the other players are doing.

Okay. Great.

And then as we just look out, you know, at the quarterly progression of earnings, it looks like the first quarter you see a little bit of a spike up historically. Can you just talk about maybe the operating leverage and maybe some of the expenses as we head into the first quarter? Thanks.

Yes, with well, spike up, remember there's usually less days in the first quarter although this year's leap year, right? In terms of expenses we usually recalibrate the incentive programs in terms of what we think is going to happen so that's where we usually see a spike up in expenses. Other than that, you know, the technology program and our other capital expenditures, I think, are going through the normal process.

In terms of the revenue side, of course you're going to get a reflection of the kind of quick money fund increases and you know, you didn't ask this question, but what will that do on the margin basis. And it always seems that our distribution is in demand for more sharing from us and that just continues to be part of life. So I don't say that we have expect any big increases in margins.

How about on the comp side of the equation in terms of the impact from Kaufmann going forward from the contracts?

Well, we have $1.7 million a quarter and increased expenses for the next four years. And that's just going to be built in and then there are other incentive things in there that could happen if things, you know, work out well in terms of assets and performance. So it could be higher than that but that's kind of a locked in number. And those things relate, the new things relate to the new funds so market it will take some time for that fund to get a footing in assets and revenue.

Okay. Great. Thank you.

Our next question comes from the line of John Fox with Fenimore Asset Management. Please proceed with your question.

Okay. Thank you. Good morning everyone.

Hi, John.

What is the, I know there's a lot of favorable things going on with the money funds but could you discuss what's the normal seasonal pattern between fourth quarter and first quarter in terms of inflows? Is there a seasonal pattern you see in the past?

I'll let Debbie give you that answer.

Okay. Great.

I would say, John, that there's not a normal pattern, if you will, from fourth quarter to first quarter in that there's a increase or a decrease. What does happen, though, is a shifting around of assets. During the fourth quarter for window dressing purposes from many of our clients, there's a shift into government money market funds and out of prime and tax free or municipal money market funds.

So generally those products on the govi side increase in the fourth quarter and the other two, prime and muni, generally decrease. That reverses itself almost immediately at the beginning of the first quarter each year. Having said, that there's not really generally a trend between fourth quarter and first quarter, it's just more of a trend amongst the three groupings.

And, John, if you look at some of the different channels you don't see much difference in the brokerage channel in terms of whether it was year-end or January in terms of flows, it's more controlled by what's going on in the marketplace, rates and things like that.

By the same token in some of our large accounts like Tex pool it has its regular increases as we get into the first quarter and those things start to decrease as we get into October and then, you know, it's just a complete cycle. And if you plot the Tex pool, you can get a pretty good flow chart and those flows have been pretty much similar over the time frame.

And then you have clients who are just doing things differently at different times all the time. And that is a general rule that just doesn't change and we have so many of these clients moving so much money, whether it's in and out of bankruptcy or for cash needs, that you are just a general part of the economic system.

Okay. Great.

And could you go over what your SIV, you know, maturity schedule is at this point?

With our four issuers in aggregate across our prime money market funds we have maturities that flow fairly evenly on a per month basis with a little lumpiness in a couple of months out through the mid part of the summer of 2008.

Okay. Thank you.

Our next question comes from the line of Robert Lee with KBW. Please proceed with your question.

Thanks, Good morning.

Hi, Rob.

Not to harp on the SIV issue but at last call you gave some general guidance about in terms of sizing it. I think it was a couple of percent of money fund assets and given the continued growth and assuming pay down of what you've owned, I mean, how should we think about sort of trying to size just the general exposure now? Is it down to 1% or how should we think of that?

It's still in that, well it's 2.4% of assets at this point of money fund assets at this point spread out evenly in our prime funds. They range in exposure from a low of zero to a high of about 10% in our offshore product. But across the board, if you look at it as a percent of total assets, it's 2.4%.

Okay. And, Chris, I guess, this is question for you.

I mean if I look at your fixed income business, you know, obviously your performance has been pretty strong there and notwithstanding the headwinds and, obviously, you had some improvement of flows, why do you think maybe that business hasn't gotten the traction maybe at least until very recently, that it should have considering the track record of those products?

Well, I think we reoriented ourselves back on to fixed income last year so that's part of it. I think another part of it was that you had to have a long-term top decile record in order to get into the club.

That top quartile was not enough to generate positive flows. It was certainly enough to do a gad good job the for the clients but not enough to generate the positive flows.

So there's been a lot of work being done on the distribution side, a lot of work being done on the investment side to increase bets along with risk controls in order to try and improve the overall performance to get it into the top decile. Now that we're there, we're seeing the flows start to even out on a net basis.

We even had one month late, late last year that crossed over and was positive so we're pretty optimistic about where those flows can be right now and we would expect them to turn positive here barring some other craziness that could occur in the marketplace.

Okay.

And I apologize if you mentioned this in your prepared remarks. Could you give some color in terms of what fixed income flows were looking like early in the quarter?

I don't think we mentioned that, Rob, but they're running about the same as in the fourth quarter. As Chris said, they flirted with positive, slightly positive at times, slightly negative at times. So they're slightly negative now but, man, it is slightly. And I'm talking about January until today.

Right. Okay. Thanks, guys.

Our next question comes from the line of Michael Hecht with Banc of America Securities. Please proceed with your question.

Hi guys. Good morning. How are you doing?

Hi.

I guess a follow-up on the cycle a little bit. In the past, Chris, out of your kind of standard slide deck you guys have talked about and shown amongst the mix of just money fund asset if you look at that kind of corporate other slice, which is, maybe last time I saw it it was 15 billion-ish or so or less than 10% of your total assets and if I remember that tends to be the slice that's kind of most sensitive to these rate moves. How big is that today and maybe remind us, you know, how big that's gotten in past cycles.

Well, it does include others and in past cycles that has gotten into the 22, $23 billion size. So that at year-end that number was about $18 billion and, you know, it's increased now. I don't know what, I don't have the figure exactly as to what it is for the breakdown for January so far.

Got you. And that would be. Okay. Got it. Okay.

Talk a little bit about the non-U.S. kind of money fund business. I mean, how large your business is there and maybe a little color on kind of how large that market is and any expectations for growth the next few years. I think you got a couple of strategic alliances there.

Well we have some pretty good ideas for what we can do internationally. The offshore funds are about $10 billion and the lion's share of that, of course, is in money market funds. And we have our alliance with [Paribas] and Henderson and we expect to get some big clients from that as we move forward.

It hasn't moved as big and as fast as we thought, but there's a lot of good opportunities there and we're discussing things with some big clients as we speak. So we would look forward to some meaningful assets on the international side as well at this point.

Okay.

Maybe shifting back to MDT and the flows you're seeing there which, you know, especially on the separate accounts side, seemed a little bit softer than I would have expected. I mean just come back to, I mean, any sense that it's performance-related or just kind of quan products falling out of favor.

And you mentioned, you know, you seem like you are having some success in maybe interest, rather, in terms of conversations with consultants. I mean, what's the kind of sticking point there? Is it it's just not a product they're that familiar with or and what do you think it's going to take to get some traction there?

Mike, it's Ray. I'll just make a couple of comments on that.

The performance at MDT at this point is outstanding in all of the strategies with pretty significant out performance especially over the last year. 2006 was a bit of a soft patch on performance and, of course, that was when we acquired the business.

And in addition, MDT had been on the path of closing down the strategy following very rapid growth in the major wirehouse platforms and there was a focus on trying to diversify the asset base and we're continuing to do that with growth on the mutual fund and on the institutional account side.

But I would not look at it through the lens of whether quant is up or down, it's very much a fundamental approach with a quant overlay. If you take a look at their numbers especially in '07, it gives us a lot of confidence on both the SMA side an on the institutional side that, and on the mutual fund side that the flows are going to improve.

Another event on the flow side will be the bulk of their mutual fund product line does not have a three-year record, but we'll get that in the third quarter, I believe, of 2008 and we expect that to be very positive as well.

Okay. That's fair enough.

And then on Kaufmann, and you know, congrats by the way on reuping their employment agreements. How should we think about the capacity in the existing products and then how long you expect it to take to kind of ramp growth in the new large cap product? Does it go on the shelf immediately where ever the mid cap product is offered and how does the roll out to distributors work there in terms of the time line?

Okay.

In terms of the big fund, we do not see or foresee at this point any limit on that fund or any capacity issue in the big standard Federated Kaufmann fund. On the small cap fund we have talked about looking at it, again, it gets to $2.5 billion then it may be able to contain somewhere between 2.7 and $3 billion and these numbers are the results of discussions with the Kaufmann team.

And that is the key to the capacity issue because it's how their act plays, the way they want to manage the money. So there would be some capacity constraints there.

On the large cap Kaufmann fund, even though you didn't ask about capacity, large cap is, it's obviously an unlimited amount of capacity there. Now what we did in terms of the distribution, we started marketing that fund immediately at the beginning of this year so we are rolling it out as we speak. The marketing programs are in place, the training, the materials, and we look forward to having some good results with that fund as well.

Okay. Great.

And just last question on capital management in terms of appetite and capacity for additional share repurchase and it seems you ended the year with, like, $146 million in cash. I think that was up a fair amount from last quarter, I think. Just walk through any near-term uses of cash that you have and how should we think about that.

Mike, we have to look at contingent payments that we have on a number of deals out there, MDT, and looking at different acquisitions and that's nice to look at the 146 as up because we looked at it as down when it was below that previously.

In terms of buying shares back, I just did a little work here, and since 2000 we averaged about 3.5 million shares and in '07 we were 3.3. So we kind of are going to look at all of the different uses just like we always do.

Okay. Great. Thanks, guys.

Our next question comes from the line of Cynthia Mayer from Merrill Lynch. Please proceed with your question.

Hi. Good morning.

Just, I had a question on the $4 million increase on incentive comp in the quarter. It seemed like more than usual and, I guess, in some fourth quarters in the past you've actually trued up and comp has gone down. So can you give just a little more color on what products that relates to and is that 4Q only or does that roll forward in comp too?

Yes, the, we're kind of happy to have it go up because, as I mentioned in my little comments, the, you know, the performance's uptick so we've had to uptick the (inaudible) of the incentive. And then, Ray, what's the other breakdown in terms of the other $2 million?

Well, it's a variety of things but it clearly was weighted toward the incentive pay. And in terms of a run rate, Cynthia, we'd tell you to, really, to look at the whole year, the number does bounce around. It bounced around a bit more this quarter than it has in other quarters but that reflects what Tom's comments covered in terms of pretty good ramp up in performance-based pay, investment performance-based pay.

Cynthia, we try to look at that as one of those old success items that I talked about a few years ago. If we're paying more on incentive pay to investment management, that means the performance is better and that should lead to better things.

How much of that is geared to performance versus assets, so for instance if the equity market went down a lot, would that decrease the equity portion of that?

Most of that is tied to performance and not assets.

Okay.

I guess just coming back to the use of cash, it seems like you bought fewer shares in the quarter and I'm just wondering if that's a function of share price?

It's more a function of our standard opportunistic view of share buybacks. Tom gave you the figures on a year-to-year basis and some times during some quarters cash is a nice thing to have.

Okay. Thanks a lot.

Our next question comes from the line of Prashant Bhatia with Citigroup. Please proceed with your question.

Hi.

Just again, going back to the SIVs more from a structural point. Can you compare the SIV structure and the money funds versus the tender option bond structure and the muni funds and does one give you more or less flexibility, I guess?

There really, there was an article out on this maybe a month or so ago and there's really not a comparable comparison between the two structures, between the TOB structure and the SIVs.

The issue with the SIVs in the current market is one of lack of liquidity. The structures were initially brought to the market with somewhere in the neighborhood of external liquidity around the 10 to 20% range. Most of them are up to 40 to 50% at this point in time just given the demand in the marketplace for that additional liquidity.

The additional liquidity in those structures came from their ability to sell the public highly-rated, high-quality assets that they held within their portfolios and that was the reason why, from a rating agency perspective and from a due diligence perspective, liquidity was not required to be 100% as it is in most other transactions that are used or most other security types that used within money market funds.

So when that market liquidity went away in the second half of 2007, it's when additional external liquidity forms were needed to come into those SIVs to order to allow issuers to continue to be comfortable holding them or at some point to potentially buy them going forward.

On the TOB side of the equation, those securities have 100% liquidity. They have a put feature on absolutely 100% of them that goes back to a bank or a broker dealer, very liquid issuers in the marketplace, and those are exercisable on either a daily or a seven-day demand feature. There are some that are a little bit longer than that.

For the most part, 90% of the market is single day or seven-day demand feature exercising within those TOB structures. So the liquidity issue is what has caused the constraints in the SIV market on the taxable side of the equation.

Those don't exist at all on the muni side. It's entirely, the liquidity side of the equation is entirely covered by the out feature associated with those TOBs.

Okay. That tends to be about 100%, the external liquidity capacity?

Yes.

Okay. Great. That's very help.

And then just on the money funds in terms of the competitive environment, I know it bounces around. Is there, you know, in this, for the past quarter or so, are you seeing anyone being more or less aggressive in terms of pricing on the money fund side?

We haven't noticed any difference on pricing at this point in the ball game. There's been more attention to managing the money market fund for its standard old requirements of daily liquidity [at] par. So I don't see, we haven't seen that yet.

Okay.

And then just on the distribution platforms for the equity and fixed income product, could you just comment a little bit about the flows with Jones and maybe the trend there and then the flows outside of Jones and the trends there as well?

When you say the flows outside Jones, are you talking about in the broker dealer area?

Exactly. The broker dealer area.

Okay.

The trends in Jones are related to their goals of getting from around 1100 financial advisors to something, I mean, 11,000 to 17,000 and as they grow then they put new people out in the field with their one person offices and then they collect up clients and that occasions more clients going into the money funds and so you have two few features at work.

You have new offices being opened and therefore more assets, and then you have in effect, same-store sales also going there. And so that's what is happening with Jones.

In other broker dealers, as you get defensive nature of some of the people in the marketplace, you will get some people going more for money funds.

I'm going to let Ray review with you some incidents to give you some further color on that.

Just generally on the broker dealer side for Q4 the sales were up actually quite a bit and the net sales improved. They're still negative but they were improved quite a bit from the prior quarter and the InterContinental Fund has gotten traction there pretty quickly.

We've also had some success, we mentioned in the remarks on in some of the programs within the platform, annuity wrap programs and other things where we're able to slot product, in fact, Capital Appreciation has had the Capital Appreciation Fund has had some success there which is pretty good evidence of the dramatic turn around in performance. So the trends within broker dealer are positive moving in the right direction.

Okay. Great. Thank you.

Our next question comes from the line of Mike Carrier with UBS. Please proceed with your question.

Thanks, guys. One question on just a follow-up on the munis. Thanks for the color.

I think we agree like the underlying credit hasn't changed given what has happened with the insurers and lot of munis that are insured are trading roughly in line with munis that don't have the insurance. But just in terms of looking like the money market rolls, when you do have these downgrades, what can you own and can't you own?

And then just on the liquidity support, can you just kind of give us some color on that like what that provides you as the [order]?

Certainly. From a Rule 2(a)7 perspective, if the guarantor of an issuer, i.e., in this case the monoline, is downgraded below Double A, the put feature has to be exercised because it is no longer an eligible security per the Rule 2(a)7 amendments that went through back in the 1996 time period.

So the long-term ratings are of an importance ad some of the e downgrades that have most recently occurred, Ambac was downgraded by Fitch to Double A back in the, I think it was two Fridays ago. Just yesterday XLCA was downgraded by Fitch from Triple A down to Single A. The other two rating agencies in each of those cases of Ambac and XLCA still rate those insurers Triple A, Triple A.

So effectively you need more than one of them to downgrade below the Double A level in order for the security in its form to no longer be eligible with regard to Rule 2(a)7, and as such, the put being required to be exercised at that point. Once you exercise the put then going on to the liquidity side of it, the structure, the put is generally, as I said, 90% of them are either single day or seven-day.

Effectively what happens if we put it today for the dailies, we're repaid tomorrow by the put provider. On a seven-day, we're repaid seven days from now by the put provider. So those securities are then taken out of the portfolios.

The put provision does not go away at all on a conditionality basis unless the guarantors are downgraded below investment grade so below Triple B minus. So there's no concern in the structure about the put provider not being available even if an issuer goes from a Triple A to a Single A, it's only if an issuer went down below, only if a guarantor went below Triple B minus or into the non-investment grade territory, would the put feature no longer be valid in the structure.

Okay. Thanks.

And then just one other question on the distribution side. And you guys have talked in the past, you know, just the differences or the nuances between the different channels and the cost related to it. I think in the past, typically been the broker dealer channel in most areas of fund distribution had the higher distribution expense and then on the institutional side you'd expect that to be, you know, incrementally lower.

So if you do get those flows from the fed cuts on the institutional side, is there a chance that the expenses at least on the distribution side would grow less and you'd get a little bit more operating leverage, you know, if those flows start to pick up?

Well sometimes it doesn't work out exactly as you've tried to indicate because sometimes depending on the institutional client who's coming in on a money fund they may come into a money market fund that has a lower total expense and then there might be various payments back to that institution. So that you may be in a situation where sometimes on the retail side, even though the payments are higher in basis points, the receipts by our company may be higher than on institutional account.

So it all depends on which fund they're in and what the arrangements are with that client. So that is not an auto pilot type thing where you can characterize the brokers one way and other institution another and then make that comparison. We don't even do those numbers internally to try and figure that out.

Okay.

But I mean just conceptionally, there is scale in the business meaning the more you have, you know, there should be incremental operating leverage if the money market flows continue (inaudible) coming in at a strong pace.

Theoretically, that might be true. But I go through this with our independent directors. Tom has approached this in terms of his comments on the margin.

But what tends to happen, is yes, that can happen and has happened. But there's also other forces of the marketplace where our intermediaries are begging to share in those potential economies or scale. And that's what happens.

So we would, if we could, increase earnings as much as possible but the marketplace constrains us in terms of the payments and other players in the marketplace who will offer those types of things so we've got to stay in the marketplace. That's what tends to, that is the principle ingredient for eating at a scale benefits.

I got you. Everyone has their hands out. That makes sense. Thanks a lot.

Thank you.

Our next question comes from the line of William Katz with Buckingham Research. Please proceed with your question.

Thank you. Good morning. Hard to think there are more questions but there are.

Number one, I'm just trying to get a little bit deeper into this marginal profitability discussion. If I look sequentially, and maybe that's not the right way to be thinking about it, but if I look sequentially I'm calculating and giving back credit for the one-time payment to Kaufmann, it looks like the marginal profitability was about 24%. If I look year-on-year it's closer to 40%.

So I'm trying to reconcile some of the rapid growth of the assets versus, Tom, your comments on margins because I do see your overall margin did slip sequentially again X the payment, the one-time payment. So how much can the [vimes] really dampen the margin compression or how should we be thinking about that?

Bill, I didn't follow your numbers there, but in terms of where money comes in and which funds, as Chris said, you know, it's a big driver. If you're trying to go through and go each quarter, I'm not sure that we can do that right here with you.

Just conceptionally, I mean how deep is the incremental margin below your run rate margin based on your commentary earlier saying that don't expect big margin lift?

It's really hard for us to make an incremental margin comment, Bill, it does depend on where the money came from and a lot of that's built into the product.

And then the other thing to your sequential comment, beyond Kaufmann, we had more of an increase in comp than, that gets smoothed out a bit whenever you go year-to-year. So there is more noise when you simply go quarter-to-quarter.

Okay.

Second question is just so it coming back to scale in the money market business for a second. Certainly tremendous growth that's said, I know a very scale business. Is there any incremental investment spending needed now from a support perspective or a credit analysis perspective that could erode some of the incremental margin?

Well, we don't tend to short sheet any of the expenses or resources devoted to doing the credit work and managing the money. So we're not looking forward to, you know, any kind of meaningful increase in hiring more new analysts or things like that.

We think we've been covering the waterfront pretty well. That's not to say that we wouldn't add people if Debbie and her people thought that was necessary, but we certainly aren't looking at that right now. No, but if we win, you know, there's a number of things out there that we're bidding on and we may have to address people, it probably would not really be big time in terms of direct money management in Debbie's area, but definitely would be new resources if we win a number of bids that are going on.

Okay.

And then it's a good transition, maybe Debbie I'd appreciate your perspective on this. What gives, what external metrics or indicators should investors be looking at to sort of believe, if you will, and I know it's a little bit of a pejorative statement, but that the residual SIV exposure won't show up benignly. Is it rates, is it credit spreads? How should we get comfort around that?

What the main thing is what is in the SIV. What is the underlying investment, what it is, what is its quality and how does it work. So that is the metric and that is an internal metric to the actual instrument that was purchased. And that is the main show.

Now as for external metrics I'll let Debbie make a comment.

I mean, externally as rates go down, obviously, the normal course of businesses is that bond values go up as long as those bonds are performing correctly.

As Chris mentioned, these are very, the credit analysis of each of the four issuers that we own is something that we pride ourselves on on an ongoing basis, the knowledge of what they own and how it's performing given the lower rate cuts or the lower rates in the marketplace due to the fed cuts, the implications there are positive form a metrics perspective. As rates go down, prices on bonds usually go up. Doesn't always follow suit but that's generally the case.

You know, and again, I think really the emphasis is on the knowledge of the individual portfolio securities because we've seen in this industry of what was only 30 issuers huge variances between the portfolios and sort of the quality and the performance of those.

Also, Bill, the funding the SIVs have been funding themselves through not just through asset sales, in fact, they've been able to do repo consistently with longer-term and they continue to do that. So it's not purely a function of asset sales even though as the asset value.

And then just sort of lastly, you seem to be bucking the trend in terms of the delta on equity flows into January versus the fourth quarter. Can you sort of give a little more detail of what is selling? Is it just the InterContinental fund or is there any (inaudible) in that?

Well, the InterContinental fund is leading the pack and, you know, that's been a pretty good thing for us. It's also been cap app, Bill. Yes, cap app went, Capital Appreciation Fund went positive here in January and that fund should have been positive for a long time but it takes, as we've said her before and as you have questioned me before, it takes a long time to work through a negative situation in a fund and that fund went positive in the first couple of weeks here. The other comment I'd make on the January flows is that even though they're negative the bulk of the outflows have been in indexed products, so the actively managed products have been, actually, fairly close to breakeven. Now we're talking about three weeks of data so we want to be very cautious about that but the outflows have been weighted to indexed products.

Okay. Thank you very much.

There are no further questions at this time. I would like to turn the floor back over to management for closing comments.

That concludes our call and we thank you all for joining us today.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.