Federated Hermes Inc (FHI) 2014 Q4 法說會逐字稿

Greetings and welcome to the Federated Investors fourth-quarter 2014 analyst call and webcast.

(Operator Instructions)

As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ray Hanley, President, Federated Investors Management Company. Thank you. You may begin.

Good morning and welcome. Leading today's call will be Chris Donahue, Federated's CEO and President; and Tom Donahue, Chief Financial Officer. And joining us from Dublin for the Q&A part of the call is Debbie Cunningham, our Chief Investment Officer for Money Markets.

During today's call we may make forward-looking statements and we want to note that Federated's actual results may be materially different than the results implied by such statements. We invite you to review the risk disclosures in our SEC filings. No assurance can be given as to future results and Federated assumes no duty to update any of these forward-looking statements. Chris?

Thank you and good morning. I will briefly review Federated's business performance and then Tom will comment on our financial results. I will begin by reviewing a strong quarter and year for our equity business.

Our total equity assets grew by 17% in 2014 and we reached a record high in equity net sales of $4.3 billion. Federated's equity fund organic growth rates of 10% for the fourth quarter annualized and 13% for 2014 were among the best in the industry.

Based on Strategic Insights data, our fourth-quarter and full-year equity fund net flows ranked in the top 2% of the industry. This growth and success reflects many years of focus and investments to develop a diversified lineup of equity teams and strategies with solid investment performance, effective and growing distribution, and high quality marketing and customer service.

Performance continues to be solid. Using Morningstar data for ranked funds as of year end, eight federated funds, or over 30%, were in the top decile for the trailing three years. We had 12 funds in the top quartile and about two-thirds in the top half for the trailing three years. Looking at the one-year ranking, 12 funds were in the top quartile and two-thirds were above median.

We achieved solid results in multiple strategies. For the three-year rankings at year end, all three Kaufmann strategies were top decile, with the Kaufmann large-cap fund in the top 1% of the large-cap growth category. Four of the seven MDT strategies were top decile. The MDT stock trust fund ranked in the top 1% and the MDT all cap core fund ranked in the top 2% of the large value category.

The international leaders fund was in the top 2% of foreign large blend categories. Our global allocation fund was top quintile. And the capital income fund was top quartile among conservative allocation funds.

We achieved solid sales results with 18 funds in multiple categories producing positive net sales in the fourth quarter. The strategic value dividend and capital income funds continued to be our top sellers.

Equity's separate account net redemptions included the $800 million redemption we mentioned during the last quarter. Partially offsetting this redemption were solid net sales of our strategic value SMA strategies.

Equity fund net sales are positive here early in the first quarter of 2015. We are seeing positive flows in a number of strategies, including capital income, strategic value, Kaufmann large cap, Clover small, muni and stock advantage, managed vol, and MDT stock trust.

Now turning to fixed income. Net fund sales were led by total return bond funds and the institutional high-yield bond funds. Fourth-quarter separate account net sales of $1.2 billion were driven by the high-yield and active cash wins which we had mentioned on our last call.

High yield an area of long-term strength. Our institutional high-yield fund strategy was the only fund to beat its peers in each of the last 11 calendar years. Our high-yield trust fund ranked first in its category for the trailing five years. We continued to see institutional interest in RFP activity for high yield.

At year-end we had four fixed income strategies with top quartile three-year records, including the high yield, short intermediate duration muni, and mortgage institutional. Fixed income flows are positive here early in the first quarter, led by total return bond fund, institutional high-yield bond fund, and the ultra-short fund.

Now looking at money markets, period end fund assets increased by about $10 billion, and average money market fund assets increased by about $5 billion from the prior quarter. The growth was weighted to prime funds which added $7 billion. Our market share at year end was about 8.2%. Money market separate accounts increased, reflecting tax seasonality.

We continue to work on product modifications and additions related to new money market funds rules which were released in July. We expect to have products in place to meet the needs of all of our money fund clients. These will likely include prime and muni money market funds modified to meet the new requirements, government funds, separate accounts and offshore money funds.

We are also working on developing privately placed funds in an attempt to mirror existing Federated money market funds to serve the needs of groups of qualified, usually institutional, investors unable to use money funds modified by the new rules. The new rules, as you recall, are subject to a lengthy implementation period. The floating NAV requirement for institutional prime and muni funds takes effect in October of 2016.

Taking a look at our most recent asset totals as of January 21, managed assets were approximately $263 billion, including $259 billion in money markets, $51 billion in equities, $53 billion in fixed income. Money market mutual fund assets were $223 billion. And don't forget that the liquidation portfolio assets were fully liquidated during the fourth quarter.

Looking at distribution, 2014 was a solid year for our sales force. In the broker-dealer channel, gross equity fund sales increased 40% compared to 2013, and redemptions decreased 25%, resulting in strong net equity sales. We're benefiting from increased investments made over the last couple of years in this channel. We've added to the sales staff and made investments in technology and marketing to support our sales efforts.

In the wealth management and trust channel, equity fund sales grew by 27% on a full-year basis, and redemptions decreased by 19%, swinging net equity flows solidly positive. We've also seen considerable new business and interest in our total return bond strategy. And we added a $500 million active cash separate account in the fourth quarter.

The SMA business continues to be solid and expanding. Total SMA assets ended the year at nearly $16 billion, with most of this in equities. The SMA assets were up 27% in 2014 and have more than doubled over the past three years.

Our international strategic value dividend strategy was added to several broker-dealer SMA programs in 2014. It complements the success we are having with the domestic strategy in SMAs. We're also seeing interest in the MDT mid cap growth strategy which was added to a major broker SMA program in the fourth quarter.

In the institutional channel, we added a $700 million high-yield separate account in the fourth quarter. We won two equity mandates in the fourth quarter, Kaufmann large-cap growth and international leaders blend, that we expect to fund at around $100 million during the first quarter of 2015.

We continue to have success at expanding retirement channel distribution with the international leaders, capital income, Kaufmann large-cap strategies, as well as high-yield global allocation, managed vol, and Clover and MDT strategies being added to various retirement programs. RFP activity remains solid with interest in Kaufmann, Clover, MDT, strategic value, and international strategies for equities, and high-yield, short duration and core broad for fixed income. We continue to see momentum building in our institutional effort and are planning to add two additional institutional sales managers in 2015 to increase the capacity of our consultant relations staff.

On the international side, we are considering product enhancements for Canada to accelerate the good growth we have seen in retail and institutional markets. Assets from Canada grew 33% in 2014 to $1.5 billion at year end. We increased sales resources for Canada in 2014, adding two sales positions including a new institutional sales rep.

We have seen good early-stage institutional interest and RFP activity from the sales efforts with RJ Delta in Chile with particular interest in our high-yield strategy. We continue to seek alliances and acquisitions to advance our business in Europe and in the AsiaPac region, as well as in the United States.

Thank you, Chris. Various line items in our Q4 results were impacted by the sale of our retirement plan service business at the end of Q3. Other service fee revenue related to this change decreased by $2.7 million from the prior quarter and from Q4 of 2013. Related operating expenses decreased by similar amounts, with about half of the reductions in distribution expense and half in professional service fees.

Revenue was up from the prior quarter due to money market and equity-related revenue increases. Revenue increased from Q4 2013 driven by growth in equity assets. Equities comprised 46% of our Q4 revenues, the highest percentage among the various asset classes. Combined equity and fixed income revenues were about 70% of the total.

Operating expenses were essentially flat from the prior quarter. The increase in compensation and related from Q3 was mainly due to strong sales and investment results. The operating margin increased to 28.3%, up compared to both prior quarter and Q4 of 2013 as we continued across the Firm to successfully manage expenses while investing for growth.

The impact of money fund minimum yield waivers was $29.5 million, and it was down slightly from the prior quarter and about the same as Q4 2013. Based on current assets, fewer days and assuming overnight repo rates for treasury and mortgage-backed securities, run at roughly 6 to 8 basis points over the quarter and T-bills stay in the 2 to 8 basis point range. The impact of the waivers to pretax income in Q1 would be around $28 million. Looking forward, we estimate that gaining 10 basis points in gross yields from beginning Q1 levels would likely reduce the impact of minimum yield waivers by about 40%, and a 25 basis point increase would reduce the impact by about 65%.

Looking ahead, we expect that we will recover about 75% of minimum yield waiver-related pretax income when money fund yields increase to the point of eliminating these waivers. This estimate is based on our assessment of competitive market conditions including the expectation that we will incur higher distribution expenses as a percentage of money market revenues when rates and yields increase.

Multiple factors impact waiver levels and we expect these factors and their impact to vary. These taxes include: changes in fund assets, available yields for investments, actions by regulators, changes in the expense level of a fund, changes in the mix of customer assets, changes in product structure, changes in distribution fee arrangements with third parties, Federated's willingness to continue the fee waivers, and changes in the extent to which the impact of the waivers is shared by third parties.

The Q4 effective tax rate was 36.3% and reflected certain tax adjustments. We expect the effective rate going forward to be 38%.

For Q1, it's important to remember that the fewer number of days will impact revenue, which is largely earned on a per day basis. Thus for Q1, based on Q4 asset levels, revenues would be reduced by about $7 million and the related distribution expense would be reduced by about $2.5 million, for a reduction in operating income of about $4.5 million. Again, this is based on Q4 average assets.

Seasonality around payroll taxes and benefit expenses will impact compensation and related expense in Q1, and we expect to have higher incentive compensation accruals. An early estimate of Q1 comp and related expense is about $75 million to $76 million, up about $3 million to $4 million from Q4. The combined impact of fewer days and higher estimated compensation-related expense is about $8 million in lower operating income compared to Q4, all else being equal.

Looking at our balance sheet we retired 20 million shares, which had no impact on total equity. And cash and investments totaled nearly $300 million at year end.

That concludes our prepared remarks and we would like to open the call up for your questions now.

(Operator Instructions)

Michael Kim, Sandler O'Neill.

First, just excluding some of the lumpy wins and redemptions you mentioned earlier, could you just walk through maybe some of the underlying flow trends across the institutional business? And looking ahead, any color on the pipeline or RFP activity as they stand today, maybe relative to more recent trends.

Sure, Mike. It's Ray. Obviously the lumpy ones were high yield, but we have ongoing interest in that. And we mentioned good RFP activity and interest there so we expect that to continue to have strength into 2015.

On active cash, that's historically been an area of strength. We mentioned having a couple of equity wins that will fund around $100 million. We've actually had a few more in the early part of Q1 here.

So, the most recent activity seems to be shifting more towards equity. And I would mention the MDT strategies as really screening well and attracting a high level of interest.

Okay. And then in terms of the total return bond fund and the opportunity to pick up share as part of maybe a broader replacement cycle, just wondering if you could give us an update in terms of progress on that front and the outlook going forward.

With total return bond fund, what we're seeing is an interest in sales there because people are interested in an upper left if you're looking at the risk return profile charts, which is risk-adjusted returns, minimizing tracking error and a consistent approach. And this has worked out well for us. Because our approach is -- okay, lots of transparency, lots of risk controls, a team structure, alpha pods that focus, individual teams focusing on duration and yield curve and sector allocation and security selection.

So, this whole approach and performance seems to resonate well with intermediaries, fiduciaries and institutions. So, we think this is a payback for good basic blocking and tackling for a good bit of time.

Okay. And then maybe just one last one for Tom. You mentioned the step up in comp expected in the first quarter. But just more broadly, any thoughts on expense growth in light of some of the ongoing spending initiatives you mentioned, as well as the market volatility?

The expense related to the money market business and all the various structures and what are we doing, we spent a decent amount of money working to maintain that business in the past few years. And so a lot of the resources there are going to help us structure new products and attract, maintain and gain new business. So I don't see big expense increases there, is the short answer.

And in terms of volatility and impacts on us, we spend our life trying to adjust and manage the operating expenses of the Company based on what's going on in the marketplace. And I think we've done a pretty commendable job, especially in 2014 dealing with these waivers, and actually looking at each quarter in 2014 and seeing a slight increase in margin every quarter.

For sure. Okay. Thanks for taking my questions.

Bill Katz, Citigroup.

Just wanted to follow up, Tom, did I hear you correctly that you're only going to recoup about 75% of the aggregate fee waivers? I'm curious, can you walk through maybe a little bit more detail what's happening incrementally to get us there, and then why you're comfortable that you can get to 75% as a result of that?

Bill, the biggest item is one contract renegotiation that we expect to happen at some point. And when we just looked at where we expect that to end up, it gives us pretty good confidence in the 75% because, as you know, we weren't willing to put a number out on that before.

Okay. All right. And then just more broadly, as you think about, because you had ticked off a few things that you're working on as an alternative to some of the floating rate product, if you will, as you spend another quarter interacting with clients and regulators, what do you think is the most probable outcome and what do you think happens with net volumes as a result of that?

What was the second part of that? I can get on the most probable outcome. What was the second part of your question?

Any kind of leakage that there might be on volume as a result of pros and cons of that alternative product.

It's really hard to foresee the leakage at this point. We don't see it, we don't hear it from clients. And if you've looked at the industry statistics, you've seen that money market fund assets are basically up over $2.7 trillion. So, on that part of it, there remains a tremendous desire on the part of clients across the board for these types of products.

In terms of where we're going, we not yet ready to announce to all of the individual shareholders and individual funds how it's going to look. We have a pretty good idea of how it's going to look.

There will be a number of fund mergers. There will be the spawning of more classes. We will have products in each area -- treasury, government, prime and muni -- that meet the requirements. Also have 60-day funds, have retail funds divided from institutional.

But we are very much right now in what I like to refer to as the waterboarding stage of this whole exercise. And we have, as Tom mentioned, changed the regulatory response expense into a restructuring of products expense. And we think we will be able to score on all streets. And I look forward to, after the dust settles, being able to get back onto the track of increasing money market fund assets post the October 16 date.

Okay. Just one final one for me. Thanks for taking all these questions. You mentioned you're seeing some stepped-up interest in MDT, which is a bit of contrast from what we're hearing from some of your peers who have more of a mathematical business model. What is it? is it just performance?

Or are you starting to see a pickup in demand for that type of product? And if it is, it is it more of a market share opportunity at this point?

Bill, we look at it as a market share opportunity. While it is quantitative, it has fundamental underpinnings to it. And it certainly is attractive because of the performance. We mentioned the number of strategies on the fund side but the same translates to the institutional account side -- top decile, literally, in the top 1% and 2% of categories.

So it's performance, it's across multiple strategies within MDT. And we're looking forward to moving the needle on that more this year.

Okay. Thanks for taking my questions.

Michael Carrier, Bank of America Merrill Lynch.

Chris, you mentioned some of the things that you've been working on strategically in the long-term products. 7% organic growth is well above the industry.

I just want to get a sense, particularly on the distribution side, what you guys have been investing in, and then maybe by channel where you stand relative to what you guys view as your competition. Is there further investment to be made to either sustain the 7% organic growth or even be able to beat that over time? And if there's anything on the product side, you can add to that, but I think that's been pretty visible with what you guys have been doing on the alternative side.

Where the next round -- I'll cover that first, then get into some of the prior -- the next round is likely to find attractive, the work we're doing on the alternatives space. You are starting to hear me mention the managed vol fund and it's catching on well. And there's a whole family of alternatives that we are looking at building into the future that we have a little less than $2 billion in that space right now.

But much the same as back, I guess it was almost a decade and a half ago, when we talked about the power of income and brought forth capital income, equity income and strategic value dividend. Now those are mature and running well. This is how we see the alternatives groups coming into their own as we unfold in the future. So we have invested heavily in that.

In terms of how we make the numbers happen, on what's been going on, the institutional, the investments have been made by adding two salespeople, by adding to -- we've increased the number probably from 100, 200, up to 208 or so in terms of sales individuals. We mentioned adding a few more on the consultant side in the institutional portion of our business. And so it is adding there.

One of the ways we do it in the broker-dealer world is to look at the number of FAAs or brokers that are actually writing tickets. That continually increases. We're always looking at the sales forces at their districts or their areas and saying -- how many offices and how many individuals do you have and how many are you actually calling on, and is it possible to further segment that and add viable sales positions? And that seems to be working pretty well.

That was the engine that brought us in the last five or six quarters to add people here and there. So, it is basic blocking and tackling along those lines.

The other thing would be the consistent performance of a lot of product with good records. And the consistency of those products is what's paying off.

We had 18 funds in the fourth quarter with positive flows and those products have had a long history of consistent performance. So, it's a confluence of many events.

Okay, thanks. And then Tom, maybe just a quick one. There's a lot of moving parts in the P&L particularly with the waivers, depending on how that shakes out heading into 2015. If I think about just maintaining the 7% growth on the long-term products, a normal market tailwind, say 7%, and then fee waivers staying steady, meaning no real change, and if you're able to maintain that for a year or two years, where can the margin go? Because there's obviously the sales component, meaning comp's going to be higher if you maintain that 7% organic growth rate, but as scale builds in some of the products, just trying to understand where you get the operating leverage.

Our 28.3% margin is not what we are striving for. It's basically in a maintain mode and trying to keep everything together in terms of funding growth and having a margin that we can live with and still invest in all the things we want to invest in. So, we absolutely would expect our margin to grow if we maintain our growth of products.

And taking the waiver discussion out of it, that will be a lot of moving parts, as we've said many times. Early on, when the waivers go away, the margin will improve and then the later part of the waivers going away, the margin will decline. So, we'll get talk about that when rates go up.

Okay. Thanks a lot.

Robert Lee, Keefe, Bruyette & Woods.

Just a quick question, Chris. Can you maybe give us some color on the mix of new business from US, non-US? You mentioned Canada today. Although it's not a big market, you've had a lot of growth there.

In the past you've talked about initiatives whether it's in Europe and elsewhere. So could you maybe give us an update of the sales and flow success you're having, how that's splitting out between US versus non-US?

The overwhelming majority for us is obviously US. Canada, when you say it's not a big market, as a rule of thumb it's 10% of the US. So, we think there's really excellent opportunities.

What's selling up there is basically strategic value dividend and we are looking at putting up a fund with that orientation toward it up in Canada. As I mentioned with RJ Delta in Chile, the basic focus is high yield.

So, those are the primary ingredients of those two efforts. If you're looking at the overall numbers on Federated, it is a domestic story on the numbers.

Okay, great. And then maybe thinking of the distribution success in retail world, you talked about a lot more products on platforms, more brokers and advisors dropping tickets, that type of thing. But maybe getting a little more granular, are there specific channels where you're seeing more success versus others -- wirehouses versus RIAs or independent broker-dealers? Just curious if there's any particular areas of channel strength.

Rob, it's Ray. Really, it's been across channels, but the broker-dealer channels had an outstanding year in particular in 2014. And now when we see fixed income shifting a little bit, that tends to be more on the wealth management and trust side of the equation.

We're very active with RIAs and with the independents and with the wirehouses. We are trying to cover them all. But I would describe 2014 as the strongest in the broker-dealer channel among all the types of brokers.

Okay. Great. That was all I had. Thanks for taking my questions.

Ken Worthington, JPMorgan.

Maybe first for Debbie, fed funds is up from, call it, more or less 9 basis points to more or less 12 basis points. And I wanted to see if you thought that increase is representative for what you're seeing in the broader basket of securities and which money funds can invest, or if there's actually a divergence occurring.

There's a lot of divergence occurring in the context of the treasury side of the equation. Those particular products are probably seeing something more like 1 to 1.5 basis points as opposed to the 3 that has effectively occurred in the Fed funds marketplace. Contrast that to some CDs and commercial paper a little bit further out the yield curve where when you're seeing rates that are maybe 4 or 5 basis points higher. So, there's a little bit of divergence based on both what the security type is in addition to the majority of it.

Okay. So, obviously 1 or 2 basis points not a big deal. But once the Fed moves 25 or 50, would you see reasons for that divergence to magnify and to persist if we look out a year or two based on supply and demand and where money is moving? Or does everything tighten up? What's your view?

I think a lot depends on how the alignment of shareholders plays out. As we currently are planning, as Chris has mentioned in different ways and many times, the intention is to keep all of our shareholders and give all of them homes. If that home resides more in the government space than the prime space, you'll probably see spreads on those particular securities tighten.

We don't think that necessarily is the likely case, though. We are trying to come up with products that keeps our prime institutional investors and our median institutional investors in those more spread products. So, if that's the way of the industry, similar to our own expectations, I would say our thoughts on likely spread relationships as we go forward and the Fed's tightening process will maybe hold to what they have been in a historic sense.

Okay. And if the tightening goes not as expected, does that translate into waivers that last longer than would otherwise would be the case? Am I interpreting that correctly? How does it flow through the fee waivers?

Ken, on the waivers, so much of it happens on the very front end that when you get out a year, a year plus, and you've cleared, we've said three-quarters of our money market fund assets are priced at 50 basis points or less. The waiver recovery is very much front-end loaded.

Okay. Fair. And then, Tom, you mentioned you'll recover 75% of the fee waivers from rate increases. I was a little confused. Why isn't that 100%? Or maybe it's 100% over time but maybe not 100% initially.

You mentioned, to Bill's question, the contract negotiation. Can you tie that all together for me? I didn't get why we don't go to 100% recovery.

We'll recover the revenue, but we'll pay more out in the expense distribution side.

Is that permanent? Is that a permanent thing? So, somehow this low interest rate environment has permanently given some sort of 25% edge to distribution? Or does even that 75% go to 100% as rates further rise over time?

No. We collect revenues and we pay out revenues, pay out part of the revenues to our distribution partners. And there's going to be a change in the mix of the payout. So the net, we're going to get less. And this is a continual thing for us in the industry, which we've talked about many times, which is our distribution costs going up.

Okay. That I understand. Okay. And then, lastly, on fixed income separate accounts, can you give us some more detail on the product AUM composition? I'm really curious about the duration of the separate accounts, but I'm sure you can answer that in just what products they are. Obviously there's high yield, you mentioned the cash, but what's the mix?

Ken, the mix would also include a slug of core broad. I'd probably want to check more of the numbers and get back to you to try to give you anything that would be useful from an overall duration standpoint.

Okay, awesome. Thank you very much.

Craig Siegenthaler, Credit Suisse.

This is Ari Ghosh stepping in for Craig. Can you provide your perspective on how new banking regulations like LCR could shift deposits back to the money market fund industry? And just maybe help us frame the potential size here. Thanks.

I will attempt the first part of that and I will let Debbie comment, as well. In terms of LCR, we are hearing from some of our larger clients. And I think we may have mentioned this on the last call, as well, that as you read in the press, there is a rigorous effort to evaluate every cash management client in order to determine the capital cost and therefore the economic efficacy of keeping those clients by those large banks. And some clients are being asked to graduate from the relationship with the bank. And this of course will inspire people to want to use money market funds.

And I don't think there's going to be an alteration in that factor. It is very difficult for us to try and size that. In the clients we've talked to, they don't even know the exact number or the answer.

But it does add one factor to why I believe and said earlier in this call that after the regulations are all put into place, that we could look forward to higher balances again, in my opinion. And this is one of the factors. And if Debbie has any insight on how much this would be, I would be pleased to hear it but I'd be surprised. Debbie?

There's just a whole lot of questions still, Chris, around this. Defining amounts and expectations is hard. One of the things that we worry about to some degree with this is twofold. If in fact clients are being squeezed out of the bank because of this particular regulation and they come into money funds, that increases obviously the positive flows and the need for additional investments.

On the other side of the equation, when we look at those that are supplying those investments, they're generally banks also and are being incented to not to supply those same investments for us and to finance in a different way. So if we end up with a lot of additional clients and flow, but are unable to put that money to work in the normal configuration, perhaps to go back to one of the issues that we were talking about a little bit earlier, maybe spreads do narrow some in that type of environment. But, again, I think it's still too early in the equation to make a determination on that.

Okay. Great. Thanks for the color, thanks for taking my questions.

Jonathan Casteleyn, Hedgeye Risk Management.

As the industry prepares for regulation and the new operating environment, does that make the consolidation seem in money market funds more likely or less likely? And can you just talk broadly about the potential outlook for your pipeline doing lift-outs, et cetera?

The consolidation seen continues. Basically before the 2008 crisis there were over 200 firms offering money funds. Today if you look at the list, there will be a list of 80, but the bottom 25 or 30 will have either very little money or money that they totally control the redemption right on. So, we look forward to more consolidation of the smaller players

But on the other hand, if you look at the list, the top 30 or so players are not going to get out of this business. It's essential to where they are even though they may not have large components. So, yes, there will be more consolidation as these regulations unfold, but a lot of it has already happened.

As is generally the case, increased regulation and cost of operation, barriers to entry, et cetera, tend oligopolize the businesses. And that is a trend that's going on here and will continue.

In regard to your pipeline you've done lift-outs before, which tend to be fairly accretive immediately. Is the pipeline, from your perspective, growing or shrinking as far as your opportunity?

It's shrinking from the 200 to 80 that Chris mentioned, so there's less players to who we can talk to and see if we can convince to come into our complex.

Okay. And as far as you retool the money market fund offering from funds into separately managed accounts, and as you merge those funds, et cetera, is there a big operating cost boost to that procedure, meaning does your OpEx go up because you have to retool to merge funds, move assets into separately managed accounts, et cetera?

The way we've described this is we took the team that was working on regulatory response and aimed that team at product reconstruction, so that, yes, there are costs. You have people doing real things and it's not all that easy.

But in terms of an increase in cost, no, because they were doing something different the year before but it's the same kind of expense. We're also not writing as many love letters to the regulators as we had in the past, which does have an impact and that gives us those kinds of resources to spend on improving these products.

In the new environment, because we're going to have a bunch of fund mergers, some funds will disappear but we're also going to spawn more classes, as I mentioned. And it's hard to say right now whether that would have any meaningful -- I don't think it would have any meaningful effect on expenditures.

What I can say is that, because of the elimination of an institutional prime money market fund as we knew it, there will be increase in costs in the marketplace and to us, because everything else that we're coming up with is not as good as that product. Of course that was the intention of the regulators.

It's very hard for us to say -- oh, well, that will mean an increase in so much expenses, as I've mentioned. But there is an overall cost to the economy into the capital markets by this whole effort.

Okay. Understood. And then, lastly, can you just prioritize capital deployments for shareholders, meaning rank-and-file the support of the current common dividends, special dividends, acquisitions? Can you just let us know when you think about deploying your free cash flow, what's the order that those strategies fall into?

The overall philosophy is that the money belongs to the shareholders and so now we say -- how do we divide them up? And you can look at our wheels and our charts as to how we've done it all. And if push comes to shove, my leanings are to likely acquisition as the highest and best use.

But that is not inconsistent with paying a nice regular dividend or always being available to do a special dividend. Buying shares, we've been polite about that, and over time we've bought 4.5 million shares back at an average price of, I don't know, $25 or $26, something like that. So, that remain something, as well. We will continue to be opportunistic about it but that's about as close as we can get to giving you a pecking order.

I understand. Thank you very much.

Patrick Davitt, Autonomous.

It seems striking to me that one contract renegotiation would take away 25% of the fee waiver recovery. How can we be comfortable that that's not the first of many renegotiations? In other words, how confident are you that this is an isolated one-off situation?

Since it's a very big client that we've had for a long time we think that is a one-off. But that does not change what has existed for decades of a continuing effort of everybody to try and alter those economic arrangements. So, that's why we can be pretty confident when we know where we are heading in the negotiation with that one client what's likely, and then cut it off and say 75%.

Okay, thank you.

Greggory Warren, Morningstar.

I'm just thinking about money market fee rates from a higher level and over the longer term. If we think about what's happened within the industry overall on fee compression, you see fixed income funds, their realization rates right now are about 15% lower than they were a decade ago. You guys have been hit a lot harder because of the fee waivers. You're between 50% and 60% lower.

I'm wondering, as rates increase and as time moves out and you're able to expand our those, is there a ceiling on where you feel fee rates might be? If we apply the same 15% haircut to money market funds right now, that would imply a 20, 21 basis point on a 26 basis point level a decade ago.

I don't know how to address the question of whether or not there's a ceiling. I've never been worried about cracking into the ceiling on a money fund fee. It's more like where can it go? And that is determined largely by the marketplace.

And because of structure and commitment on both sides, meaning clients and us, we were able to, and are able to, sustain ourselves even though we have zero interest rate environment. So, I wouldn't connect any percentages that you're doing on the fixed-income side with what could or would happen in terms of fee rates on the money market funds side.

What we see, generally speaking, is more competition, because we focus on the intermediary, on the intermediary payment arrangements than on the actual fees on the money fund. So, different client group, different providers have different client groups and therefore are influenced in different ways.

So, I'm not looking at it as a some kind of 15% relationship like you're talking about. And, frankly, we've never even really talked about it that way.

Okay. I was just thinking outside the box a little bit there. It's helpful to think of it that way because, you think about the industry overall, it's a function of larger AUM balances, it's higher distribution costs, it's competition. There's a lot of different things that lead into that fee compression for different asset classes. And I was just curious to see where you felt the bigger piece was and it sounds like it's more on the distribution side.

When you mention the list of things, don't forget the dedication to long-term effort to really do the credit work and structure the portfolio. It isn't only those factors. It's the portfolio management that Debbie and her team do and have done for decades that really makes a difference in this business.

Okay. Great. Thanks for the insight, guys.

Surinder Thind, Jefferies.

I just wanted to actually revisit expenses. I know we've talked quite a bit about them. But can you help me, aside from the step up in 1Q in the comp expense, can you just help me understand the bigger picture in terms of the 2015 outlook in terms of increased head count, merit expenses, and just maybe overall investment in expenses in terms of giving the strong growth that you guys have been seeing?

We are hoping that our margins increase, so that fits right in with revenues are going up, the expenses are going to go up to match it. And hope that the margin increases from that 28% level.

In terms of going through the headcount and other things that we would view as worthy, and something that everybody should know about because it was big enough and important enough to talk about, we would go through that. We haven't done that so there's nothing to grab onto and say -- everybody needs to know about this going on and this going on.

The things I've pointed out, the comp and the days, are glaring. And nothing else is really -- we can always get performance improves even more, and sales go up even more, so we have higher comp numbers because of the way the programs work.

Fair enough. Then can you also help me understand the tax rate? It's coming a little bit lower than I'd been anticipating the last couple quarters. Any thoughts on 2015 tax rate?

Yes, Surinder. We would continue to look to something at or near 38%. At the end of the year we have some adjustments and things that affect Q4. If you look at Q4 last year, it was much lower than the 38%. It was down around 34%.

So, I would not look at this Q4 as anything to carry forward. It reflected some particular adjustments. And you should continue to use 38% for full-year 2015.

Okay. That's it for my part. Thanks, guys.

It appears there are no further questions at this time. I would like to turn the floor back over to management for any additional concluding comments.

Thank you. That concludes our call. And we appreciate your time today.

Thank you. Ladies and gentlemen, this does conclude today's teleconference. We thank you for your participation, and you may disconnect your lines at this time.