景順投信 (IVZ) 2007 Q2 法說會逐字稿

Welcome to INVESCO's conference call. Thank you for joining us. Today's call is being recorded at our request. If there are any objections, you may disconnect from the call at this time.

Callers who access the call during a live transmission will be deemed to have solicited access to the call for the purposes of the UK Financial Services and Markets Act regime governing real-time financial promotion.

This call may include statements that constitute forward-looking statements under the securities laws of the United States. Forward-looking statements include information concerning possible or assumed future results of our operations, earnings, liquidity, cash flow and capital expenditures, industry or market conditions, assets under management, acquisition activities and the effect of completed acquisitions, debt levels and the ability to obtain additional financing or make payments on our debt, regulatory developments, demand for and pricing of our products, and other aspects of our business or general economic conditions.

In addition, when used in this call, words such as believes, expects, anticipates, intends, plans, estimates, projects, and any future or conditional verbs such as will, may, could, should and would or any other statement that necessary depends on future events are intended to identify forward-looking statements.

Forward-looking statements are not guarantees of performance. Although we make these statements based on assumptions believed to be reasonable, there can be no assurance that actual results will not materially differ from our expectations.

We caution you not to rely unduly on any forward-looking statements and urge you to carefully consider the risks described in our most recent Annual Report as filed with the U.S. Securities and Exchange Commission. You may obtain this report from the SEC's website at www.sec.gov. Welcome to the INVESCO PLC 2007 interim results conference call. All participants will be on a listen-only mode until the question-and-answer session. (OPERATOR INSTRUCTIONS).

Now I would like to turn the call over to the speaker for today, Mr. Martin L. Flanagan, President and CEO of INVESCO PLC. Mr. Flanagan, you may begin.

Thank you very much and thank you, everybody, for joining us today. I am joined here by Loren Starr, our CFO, also today, Bruce Bond, the founder and leader of PowerShares, and Wilbur Ross, the founder and leader of WL Ross & Co. And the presentation we are going to be speaking to is available on the Web if you would like to follow along, if you are so inclined.

I am going to start today by giving some highlights of the business results, and I will be followed by Bruce and Wilbur to talk about some success in their areas of focus in their business. And Loren will take us into more detail about the financial results and, as is our practice, we will open it up to Q&A from there.

So let me get started. We really think we've made some real solid progress this quarter in our efforts to become a premier global investment management firm on the back of improved markets, positive net flows, strong performance in our business and solid investment results -- really generated a very, very strong quarter for us.

Assets under management ended the quarter at $491 billion, up $20 billion quarter over quarter. And when you look at net flows, we had positive inflows of $700 million, long-term net inflows of $700 million this quarter. Combined, these positive developments resulted in the second-quarter operating margin increasing to 37% and diluted earnings per share of $0.21 during the quarter.

I would also like to mention during the quarter that the Board gave us authorization to purchase up to $500 million of treasury stock. And since that time, we have bought 2.8 million shares or approximately $37 million of INVESCO stock. And also during the quarter, S&P removed its negative outlook on the Company -- on the debt -- and reaffirmed the BBB+ rating.

Taking a look at flows, I did mention that we had positive net long-term inflows of $700 million, but I think importantly, if you look at gross flows, they continue to be at strong, high levels, slightly down from the prior quarter. Also, if you look at redemptions, overall redemptions are decreasing quarter over quarter as a result of lower redemptions in Europe, partially offset by some of the U.S. redemptions, which I will -- in our institutional business, which I will talk about in a minute.

We are regaining momentum in the institutional money market fund business. You can see that we had net inflows of $1.8 billion in the quarter as contrasted to outflows of $800 million in the prior quarter. And if you take a look at flows by distribution channel, you can see that we have had very positive flows in our retail channel, flat flows -- private wealth management, and outflows institutionally.

Our retail gross sales were strong really across all platforms during the quarter. Net inflows in our retail channel were at the highest levels we have seen since the second quarter of the year 2000. We had strong net flows in the UK, Asia and PowerShares in particular, and also very pleased to highlights that the AIM retail channel net outflows are half of what they were a year ago, so just seeing positive momentum growing across the retail channels.

And as expected, institutional gross sales were down, while redemptions increased during the quarter. We finished the quarter with $3.7 billion of net outflows. This included stable value outflows during the quarter of $1.8 billion and the loss of one large single institutional equity client.

We mentioned on the first-quarter call that the stable value withdrawals -- notifications were $6.1 billion. At the end of July it was $8.5 billion, of which $2.6 billion had been redeemed from the organization. I want to just reiterate we are 100% in the stable value business. We think we have an outstanding leader in Karen Dunn Kelley. It is a very, very good business for us, and we are just going to continue to get stronger in that business.

Moving on to private wealth, flows were basically flat during the quarter. We continue to see improving prospects in that business for us.

Let me take a minute and talk about investment performance. If you look at the retail results, looking at Lipper and Morningstar, you can see largely across the board they continue to be quite strong, Morningstar in particular. We again are expecting to see, in time, our four- and five-star ratings improve. In particular, if you look at the Morningstar five-year number, now 80% of the assets are in the top two Morningstar categories, all of which becomes important in having those stars change for us.

Not unexpectedly, Trimark's longer-term record has declined as some of the stronger period results were rolling off. Investment performance in the UK continued to be just very, very strong across all periods.

And I would like to highlight in our U.S. retail channel we've just had very, very strong investment performance in our global equity capabilities, in particular international equity -- developing markets, China and European growth. So really quite broad and just a very strong set of results there.

Looking at the institutional business -- and again, this is on a different measure; it is looking at assets versus various benchmarks -- you can see the equity business had slid on a one-year basis, largely due to global products being under the benchmark in June and one of our larger structured products being slightly under the benchmark in June. And the global product mandates that we manage tend to perform better in moderate markets. And as you can imagine, through June you would expect that trailing performance.

The structured product performance was tempered really by sort of valuation surge and where they have had underweighted positions in areas where we saw a number of leveraged buyouts happen. But again, very strong investment teams, very strong disciplines, and feel very confident about the results in the future. And again, if you look at fixed income and money market performance, just strong across all periods.

What we have done this quarter, though, is break out performance for alternatives. And given the importance of this asset class to our clients and our business, we wanted to highlight this. And you can see that the performance in alternatives has been exceptionally strong over all the relevant periods presented. And what we have included in this category is real estate, private equity and absolute return products. And we will come back to that in a little bit.

But just coming back to one of INVESCO's key strengths is really the combined power of the distinctive investment management teams that we have. And we are going to continue to strongly focus on enhancing these capabilities and expanding them to meet our clients' needs over the years. And two elements that improved that and strengthened that over the past year has really been the addition of PowerShares, the ETF products run by Bruce Bond and also the private equity product run by Wilbur.

I am going to stop now and turn it over to Bruce and have him talk about ETFs for a few minutes, and PowerShares.

Thank you, Marty. Well, as many of you may know, ETFs are one of the fastest-growing financial products in the world today, staying at about $700 billion. And they have been outperforming the asset flows this year of last year of about 20% at this point.

And in the U.S., as of June, there were 480 ETFs with assets of about $471 billion, roughly $1 billion per fund on average. There's an additional 342 ETFs in registration at this point. And so the industry is poised to continue to grow at a rapid rate. And what we have seen in the past is as new products come to market, the flows meet those new products and the industry continues to grow very similar to how we saw the growth in the mutual fund industry take place back in the early '80s.

Year to date, about $33 billion in AUM has come into the ETFs in the U.S. and there has been 137 new products introduced into the market. In June alone, there was $6.8 billion in new AUM, as well as 18 new funds introduced in June. And this is flows into the products. If you look at the products, you would see much better AUM growth, but this is actually new flows into the products.

What is driving this primarily is just the awareness and the visibility of the product by the media, as well as in institutional accounts and mid to large institutional and hedge funds. Accelerating conversion rates among financial professionals is also one of the driving factors here. We are seeing many financial advisors of large scale start to use ETFs as a portion of their business alongside other managed products to augment what they are doing and enhance what they are doing. And we see this trend continuing into the future.

This is also -- another point of growth that I think we are going to see into the future for ETFs is the introduction of the race, really, among wirehouse firms to introduce what is called a unified account. The unified account is an account that you can own managed money, mutual funds, ETFs and individual securities all in the same account and all reporting under one account statement. So this is what everyone is driving for. And I think many firms have introduced platforms, but they have yet to really get those working properly. And I think that we're going to see very soon those take off.

Another broad or macro condition that is occurring out there is the consolidation of exchanges and the relationship of exchanges across continent. And I think here over the next few years we may see cross-listings, which will enable ETFs to trade 24 hours with even agreements or ownership of exchanges around the globe.

So ETFs basically have grown. And one reason advisors are using these, and we see this continuing to happen in the advisory channel, is that they can play either a primary or a support role in a portfolio, and they are attracted to their tax-advantaged product design, as well as the portability and the flexibility of the products. And transparency today is one key thing that they like to be able to understand exactly what they own within the funds, and it is driving that. And in addition is the liquidity, the near-instant ability to be able to move shares or adjust a position or slightly tilt the position one way or another using ETFs.

PowerShares really has a terrific position in the business in the industry at this point because we really are not attempting to be a low-cost provider. We are actually trying to be a high-value provider. And PowerShares are based on what we call intelligent indexes. And what these indexes seek to do is to provide enhanced performance to investors rather than beta or just market exposure.

And what we believe will happen in time is that the ETF industry, which is primarily 95% benchmarks, 5% value-added today, or maybe more like 7%/93% today, we can see that really in time looking more like the mutual fund industry that is 85% active and 15% passive.

So what we see is the value-added segment of the ETF industry growing faster than the benchmark segment of the ETF industry in time. And I think that as the industry begins to mature and as more retail investors and advisors become involved in the business and using ETFs as a part of their portfolios that are seeking enhanced performance to simple exposure to different market benchmarks -- when this occurs, PowerShares is the clear leader in the intelligent ETF business. And we believe that PowerShares is positioned to get its fair share of the flows when they occur.

There's several estimates in the market that project that ETFs could take in up to $2 trillion or total assets of $2 trillion by 2011, which is about a $1.5 trillion increase in the next several years.

Some of the opportunities that we continue to see at PowerShares and the strength that we see is the brand awareness that we are creating. Many of you may know that PowerShares acquired the QQQ recently and have seen the PowerShares QQQ go across the ticker on the screen or some of the efforts that we have had there. The QQQ being the most traded security in the world has given PowerShares the opportunity to get a tremendous amount of visibility globally for the company, as well as here in the U.S. And we think that that will continue to add credibility and strength to the brand.

We also have a PowerShares University going on around the country where we are educating advisors on the benefits of using intelligent indexes or enhanced exposures to different markets within the U.S. as well as internationally. And we are taking a strong look at Europe and Asia, and with our acquisition by INVESCO, this has really equipped us to be able to springboard over onto these other continents to, we believe, supply excellent product to our partners here.

And in the near future, I think from a product development standpoint, you will see PowerShares looking at bond ETFs or debt instruments, including municipal side of the market as well as taxable, being like treasury ladders. And we have an emerging market sovereign debt product here coming out in the future.

And in addition to that, you will see we have introduced about 11 international ETFs this year. And you will see some additional international intelligent ETFs being introduced into the market in the remainder of the year.

We are up at this point, year to date, a little over $4 billion and over last quarter about $2 billion last quarter and up to June. So thank you for having me, Marty, and at this point I'd like to turn it over to Wilbur so he can update you on his efforts and prospects there.

Thank you, Bruce. We are among the few people who were not so surprised by the recent headlines of difficulties in the subprime area and the widening of spreads and return to risk management in the overall credit markets. As some as you are aware, we had been forecasting for some months that there would be a very big upturn in defaults this year, albeit from a level that is almost at the vanishing point.

So we continue to visualize that around the end of '07 or into early '08, defaults will go from something into 1% to around 3%. And we believe that by the end of '08, they will be running closer to a 5% or 6% rate. That is not Armageddon. It is not the end of the LBO industry. It is not the end of the world. But from our parochial point of view, in distress, going from something like a 1% default rate, something like 3% to something like 5% obviously represents somewhere between a tripling and a quadrupling of the opportunities available to us.

In terms of what we have been doing already, our automotive business, which we entered in October of 2005, is fundamentally so far just in one segment, the automotive plastic interiors. And during the last 16 or 17 months, we have built that into a $5 billion business in 17 countries with some 20,000 employees. But we have no net debt at this point in time. So that activity is very well positioned to continue to expand very rapidly as the various segments of its universe continue to show duress.

In terms of our portfolio overall, we have really no need at this point for external funding. Late in June, we took public our European railcar leasing company, VTG, which raised some $200 million of equity and redid its $600 million of long-term financing. International Coal Group just the other day successfully completed $200 million of converts, and our textile business locked in some $85 million of convertible preferred and $250 of various debt financings. So we ourselves will not be needing our leverage for any of our existing holdings.

In terms of opportunities, we will be expanding into other segments of the automotive industry from fundamentally the interiors business that we are in now. We also are quite excited about the opportunities that will arise for us in the mortgage area, including the subprime business.

In our view, subprime is a valid long-term business; it's just that the implementation of it got a little bit too giddy. We would not be contemplating, as we enter it, to be offering weak credit discount interest rates, nor would we be contemplating providing them credit without proper due diligence and documentation. So we believe that while the business will be a lot smaller going forward that there is a valid need for it and that the distress that is very prominent in that sector now will create some unique opportunities for people like ourselves.

As to our interactions with INVESCO, they have been totally consistent with our expectations when we entered into the arrangements with them early last October. I'm happy to report that all of our original team is intact and expanding their efforts. Plus, we have added some people to the staff.

We are especially excited about further cooperation with INVESCO in the Asia-Pacific region. As some of you know, Japan and China have been very important to us at WLR for a variety of reasons. We are finding that, in addition to the historic relations we have in that region, INVESCO has some excellent ones, which we believe will enable us over time to create new products and to find additional opportunities for our existing product segments.

So I would now like to turn it over -- back to Marty Flanagan.

Thank you, Wilbur and Bruce, very, very much -- both very, very exciting efforts underway in both their businesses.

I would like to build a little bit on Wilbur's comments and speak more broadly about alternatives as an asset class and our capabilities, to make that more clear to everybody.

Stating the obvious, alternatives are a growing and large part of our investment management industry. And we, like many people, see it increasing allocations given to alternatives by institutional plan sponsors, as well as a growing appetite around the world for alternatives.

As I mentioned when I was talking about investment performance, we have updated our definition of alternatives and made it more clear to more accurately represent our true capabilities. We have always highlighted real estate and private equities, but we hadn't separated our absolute return products such as market neutral, 130/30, financial structures and our global tactical asset allocation products. And you can see on the breakout the relevant assets under management in those categories.

We manage about $55 billion in alternatives, or 11% of our total assets under management. And as you can see, we have quite an important breadth across the alternatives platform and we will continue to strengthen this in the years to come and to make sure that our capabilities are in place to continue to meet our clients' needs as that market keeps evolving.

I would like to spend a minute on the UK listings before I turn it over to Loren. As you probably saw, in July U.S. shareholders exceeded 50% of the shares outstanding of INVESCO. And the result is that INVESCO has lost its foreign private issuer status in the United States. What that means is we're now required to file 10-Ks and 10-Qs and proxies and the like in the United States. Really what it means is we have two primary regulators in the FFA and the SEC, and also will be having to report under IFRS and U.S. GAAP.

Given the additional accounting and regulatory obligations and the related risks in that environment, we are in this process of evaluating the advantages and disadvantages of changing our primary listing. We always envisioned having both a UK and U.S. listing.

Many of you, I am sure, are aware that we are in a very relatively unusual situation. And much of the work we are doing in the evaluation is not very clear or easy. We are and continue to work very diligently and be as thoughtful as possible on the potential implications, whether it be regulatory, legal, tax, and also from a shareholder perspective.

That being said, we would like to keep this evaluation period as short as possible and move as quickly as possible in the best interest of our shareholders. We will share more on this topic once we have completed our review.

And now, I am going to stop there and turn it over to Loren.

Great. Thank you very much, Marty. I am going to start with a quick review of our asset roll-forward for the three months ended June 30. As we pointed out earlier, we generated long-term net inflows of $0.7 billion in Q2, which was exactly in line with what we did in Q1. Institutional money market funds came in solidly at $1.8 billion. In addition, we benefited from $12.8 billion in markets gains, as well as $5.1 billion due to FX, particularly as the Canadian dollar strengthens relative to the U.S. dollar.

As a result, we ended the quarter with $491.6 billion in AUM, which was an increase of 4.3% since the end of March. We also saw an improvement in our net revenue yield this quarter, both with and without performance fees. In fact, our net revenue yield ex-performance fees hasn't been this high in two years. So not surprisingly, this is a result of lower fee asset redemptions being replaced by higher fee asset sales.

So stating the somewhat obvious, this means that our net revenue yields and our operating profitability can improve even if net flows are not growing. This is an important point as we see alternatives in other higher-fee products becoming a larger and more important component with our mix of AUM over time.

Now I am going to turn to our quarterly earnings. At the top of the slide, you will see that our management fees for the quarter were up 9.9%. And this does include performance fees of $34.4 million, which was primarily comprised of $22 million from our business in China and the rest coming largely from our real estate business and from the UK.

Service and distribution fees were up by 3.4% over the quarter, which were moving in line with our higher average asset levels. Other revenues were up 16.9% due to higher sales that generate front-end loads in the UK.

And third-party distribution, service and advisory fees increased during the quarter by 12.9%, driven by the growing proportion of platform sales in the UK, as well as our greater AUM levels overall in both the UK and Canada.

And moving on down the slide, you will see that our total operating expenses for the quarter at $451 million increased 4% compared to Q1. Within that number, compensation expense decreased 3.9% as we saw the predictable decline in payroll taxes -- that was $6 million -- and we also saw about $7 million less in severance, given the completion of the North American retail transformation in Q1. Just to remind people, our severance was $10 million in Q1.

These decreases were partially offset by an expansion in bonus pools, which were in line with are compensation plan.

Our marketing line item was down slightly in the quarter due to normal seasonality. Property, office, and technology and telecom were largely flat quarter over quarter.

And then we get to G&A. And actually, before I discuss G&A, I would like to mention that we completed our evaluation of all the assets and liabilities acquired as part of the WL Ross acquisition, and as provided for in the accounting standards, we have 12 months to complete this.

In Q4 of 2006, we classified the $100 million paid to acquire Mr. Ross' business as goodwill. In our subsequent evaluation, we identified post-acquisition employment arrangements representing an intangible asset with a useful life of five years. And as a result, we have reclassified the $100 million of goodwill as an intangible asset. This intangible asset is now being amortized over a period of five years, resulting in annual noncash expense of $20 million.

I should point out that this required accounting treatment does not in any way reflect a diminution of the economic value or the free cash flows of the business we acquired.

Going to the G&A line item, you can see it was up 52.3% or $29 million quarter over quarter, and $15 million of this is due to the amortization of the WL Ross intangible asset. This amortization amount effectively catches us up for the last three quarters, as the deal closed in Q4 2006. The other half of the G&A increase was due to higher than normal levels of irrecoverable VAT, legal expenses and travel.

So therefore, with net revenues increasing 7.7%, coupled with a 4% increase in our operating expenses, our operating margin ended the quarter at 37.6%.

Going down below the operating income line, I would like to point out that our interest income increased 20.4% due to higher average cash balances held during the period. Other realized gains decline 34.1% due to fee capital liquidations, and other realized losses arose due to FX on intercompany loans. This ended up with our result quarter over quarter of EPS growth of 12.5%, from $0.19 to $0.21.

Before moving on to Q&A, let me take a minute, as we have done in the past, to quantify the impact of the markets and FX on our 2007 operating expense guidance of $1.735 billion. In early February of this year, we said that the guidance that we gave was predicated on the continuation of the January 2007 business environment, when our AUM was $469 billion. Our AUM levels are now about 5% higher.

Furthermore, our guidance, when we gave it, did not contemplate the $100 million WL Ross acquisition amount being reclassified as an amortizable intangible asset. For this quarter, as we discussed, we incurred $15 million in expenses related to the WL Ross amortization, and we will be expensing $5 million per quarter going forward.

In addition to the intangible amortization, operating expenses increased beyond our original guidance this quarter by $10 million, with $5 million being purely due to FX and the other $5 million being due to just generally higher asset levels. As a result, the total variance for the quarter relative to our prior expense guidance is $25 million.

So Marty, that concludes my part of the presentation. And I will now ask the operator to provide instructions for those wishing to ask questions.

(OPERATOR INSTRUCTIONS). Bill Katz, Buckingham Research Group.

I guess just a couple very narrow questions, and then I've got a bigger-picture questions after that. The distribution margin compression sequentially -- was there anything in there that was unusual? It just seems like even the rate of change there relative to your sales is quite strong. Is there a shifting of the economics in any way or some upfront costs associated with some buildout? I'm just sort of curious on that.

This is Loren. It really has a lot to do with the mix of where products are being sold. As you can imagine, if we have strong sales in the UK, which we do, what happens there is we generate management fees, but we don't have any distribution revenue per se. And then we have distribution expense. That is true also for Canada, whereas in the U.S. we obviously recognize distribution revenue and we have distribution expense. So it has a lot to do with where the products are being sold.

You're going very quickly -- I apologize -- in your $84 million of G&A, you identified the $15 million and included a $10 million catch-up on the amortization. The residual -- how much of that was ongoing versus maybe one-off, if you will?

I would say the other $15 million I would characterize as above normal levels. It had to do with legal expenses. As you know, we have had some legal issues related to the fixed income litigation. So those may still continue somewhat into the next quarters, but they're not business-as-usual expenses.

And then just on the redomiciling, I guess we feel like we've been at this same point now for quite a bit of time. And Marty, any way you could give us a sense -- you say you want to get this done as quickly as possible. Do you think you will have conclusion on this in 2007 or will something like this just continue on until further notice?

No. Look, we want conclusion, direction and execution as soon as possible. Right now, I would clearly envision within 2007 that will happen. We are where you are -- we want to just have absolute clarity as soon as we can.

But it is, as they say, a lot of moving parts. It is just an example that the regulatory world has not caught up with the capital markets. And all the policy-level people in the various countries are very sympathetic and trying to address it. But it just makes it harder to solve the -- work through the topic. But we will get clarity as soon as we can here. (multiple speakers)

Last couple questions here, big-picture -- when we visited with you last, you had mentioned that you were very focused on the rating agencies, and now that you have been moved from negative to neutral watch, do we anticipate any kind of change in capital managed behavior?

And the other question I have is you had also mentioned recently that you were thinking about increasing the advertising to lever the change in performance at AIM. I'm just wondering if you can give us an update there as well.

Let me take your second question and Loren can take the first. We have been working through unifying the branding and that is still going on. On the back of that, we hope to probably do some advertising in probably the fourth quarter and start to pick it up from there. But on a comprehensive -- not just there, but in Canada -- we have been doing a lot in the UK and just much more broadly where it makes sense, and PowerShares has some opportunity there. So we would probably start at some level in the fourth quarter of this year.

And Bill, in terms of the change in capital policy or management, there is none that you should anticipate. We are obviously continuing to operate with how we use our capital, investing first in our business, then acquisitions if and when they make sense. Dividends and buybacks -- that is in the background.

In terms of the amount of debt that we're willing to take on, what we have said and still believe strongly is that we will do things that make sense and allow us to protect our A3, BBB+ rating. We think it is important that we maintain obviously strong investment-grade ratings. But we think the A3 and BBB+ range is the right spot for us. We are pleased to see that we were taken off negative outlook. It would have been unfortunate if we had lost the BBB+. But we are actually kind of happy where we are right now.

Philip Middleton, Merrill Lynch.

I just wondered, quickly, two things. Firstly, on flows, obviously the retail number is a really good one. Looking at the detail of your report, you have obviously got $1.3 billion to PowerShares and about [short four bill] into the UK in total, which I guess the bulk of that is institutional -- is retail, sorry. So what does that mean about retail flows in? You've said the AIM outflows of half -- what does that mean for the rest of the world, particularly the Canadas and Europes?

(multiple speakers) net flows. So it is the magnitude of the flows. So Canada's in net flows, which is good. Asia is in net flows. Europe also -- they have suffered some from the short-term fixed income product performance previously. But they are -- you can see where there are just some slight outflows in that quarter, but improved dramatically. And again, I can't make forward-looking statements, but we feel good about the momentum in the (multiple speakers).

So basically, you are having inflows pretty well everywhere, apart from a bit of a residual problem in Europe and AIM, where things are getting better, but still in negative territory.

Yes. But again, I really point you to looking at the trends there. And we're feeling pretty good about it.

That's good. Just a couple of small questions. In following on capital management, the dividend increase seemed rather less than I had guessed, particularly given that the EPS seemed quite a big number. I wonder if you could tell us about your thinking there. And secondly, could you just confirm -- I always get asked, do you have any exposure to subprime, CLOs and all that sort of thing? I know you have a small CLO business, but I just wonder if you could just clear that one up as well.

In terms of the dividend, our policy has always been that we wanted to complement moderately increasing or steadily increasing dividends with buybacks to give us the maximum amount of flexibility to manage our capital. And obviously, you have seen us do that with the buyback.

In terms of the amount of capital that we are returning to shareholders, if you take the buyback along with the dividend, it is significantly more going into '07 and '08 than it has been in the past. And so when we think about the dividend, we definitely think about the buyback alongside it as what we're doing with our shareholders.

And then in terms of our exposure, we do have a CDO platform business that is approximately $10, $11 billion. It has probably an exposure to subprime that is probably -- I think 10% of that has got some asset-backed -- and I don't want to say subprime, because [that kind of works] too much -- there's about 10% of those assets that have some exposure to asset-backed business.

We have not seen any real exposure at all. We have been extremely -- I guess have a history of being extremely conservative in those markets, and those asset-backed products that we do have are sort of vintage 2004 and 2005, which have not really been hit to the same extent as the newer the subprime assets. So we are not exposed in any material way at all.

Okay, so there is about 10% of ABS, but obviously, by no means all of that is subprime, and that is decent vintage and you have no problems yet. So you have not felt -- you don't feel under any sort of pressure at all to do anything like AXA has done or anything like that?

No, if anything, the market today -- 70% of the business is the bank loan side of the CDO business. And there's great opportunities there right now to actually position the portfolios a little bit more and take advantage -- move up the credit ladder. So I would say the bulk of our business is actually doing quite well in this environment. The overall market may have slowed a little bit in terms of appetite, but we do think it is going to be a very important part of our business going forward.

Simone Glass, UBS.

I've got three small questions, please. First of all, could you just remind us how the costs in the first quarter went versus this guidance of $1.735 billion, so I am not missing out on anything?

Secondly, a smaller question -- you talked a little bit about FX impact on costs, but I just wondered whether you could quantify that on the revenues as well.

And then thirdly, Loren, you mentioned that the higher revenue margins was a consequence of, like, outflows of low-margin assets and inflows into higher margin asset classes. That has been a significant improvement there in the quarter. To what extent do you expect that to be sustainable?

In terms of the first question, did we have any variance in the first quarter to our guidance, the answer is no. We did not have any variance. We were tracking -- well, it's only this quarter that we've introduced the $25 million, which again we have discussed what that is.

In terms of the revenue impact on FX, we actually saw a good impact on FX on our revenues. Quarter over quarter, we saw probably $10 million more in revenue pickup due to FX. Expenses were up $5 million, so a net $5 million on the operating income line due to FX.

And then in terms of your last question, do we think it is sustainable that we are going to continue to see higher fee assets coming in and lower fee assets going out, I think that is the trend that we expect to continue. I can't guarantee every quarter it may show up, but generally with the sort of products that we're focusing on and we see the greatest growth -- Mr. Ross' business is a perfect example of that -- we would expect to see that trend certainly on a longer-term basis continue to improve.

Marc Irizarry, Goldman Sachs.

I guess, Marty, this is a question for you about U.S. distribution. Can you just give a little bit of flavor in terms of flows at AIM, when you think we may start to see outflows actually flatten out or actually turn positive?

And then also, you have had a lot of success with PowerShares. What sort of benefit could you potentially get on the distribution side of the equation by leveraging maybe AIM product through some of the strength you have on the ETF side in the U.S.?

I am going to introduce Bruce into this conversation. Just again, the only thing I can talk you through is June 30 numbers. But again, the relative performance at AIM is just really, really quite strong. And it is as strong as it has been from -- if you go back to the year 2000. And when you consider the asset mix being much more diversified today than what it was, it really is saying something.

And in particular, one of the strengths absolutely coming through within the group is the global capability in particular. And that is also available in the retail channel, whether it be the international products, the European products, but also the introduction of Japan Fund, China Fund and the international ETFs that Bruce has too.

So again, what do these markets over the last few days -- how does that impact investor sentiment? I can't answer that. I don't know how to answer that, I guess. Really, we could all pull out our crystal balls, but if you want to say if we were in sort of flat markets, I'm pretty confident about the direction we are heading.

But let me stop there and have Bruce talk about what he sees ETFs matching up against our retail channel.

Yes, I think right now, the PowerShares distribution, as well as the AIM distribution, are really starting to mesh well. And I think to your question, could AIM be sold through the PowerShares distribution -- I think really what we are looking at is what is the best way to put that together to cause -- to be as effective as possible in the field, regardless of what product it may be.

So I think that you will see it is taking a little bit of time to get that to engage fully. But I think probably here toward the end of the year or last quarter you are going to see that probably in full swing by then. So we are working hard to really identify the opportunities to work together in the most efficient way.

And let me try to be a little more specific. And again, you don't know if it is coincidental information or causational, but we have seen since PowerShares has closed, every week, week over week, this year to last year, gross sales at AIM have increased.

And yes, investment performance has improved. And that is most important; there is no question about it. But the other fact is one of the elements is we thought it would create tension within the retail channel, and that is a fact.

And the combination of the two I think are really important data points. And then where Bruce thinks we're going I think is -- I agree with very, very much. That was the whole premise, important premise of why we got together.

Great. And then just, Loren, maybe a few on the margin -- continue to be surprised in terms of the operating leverage here. What do you think are the few points in the model maybe outside of market appreciation that may cause you to either exceed or miss on the expense side of the equation?

I guess we have obviously some of the things we have talked about in terms of the listing, and there are probably some expenses around there. Those are sort of one-off things. I don't think anything of a material nature would cause us to miss. Obviously, dramatic swings in performance one way or another could have some impact on our compensation line items. But those are hard to achieve one way or the other -- it is sort of a slow build, one going up or down. So that will be pretty transparent as we go quarter to quarter.

Bruce Hamilton, Morgan Stanley.

A couple of questions. Firstly, on the performance fees, obviously you had a very good number in this quarter. And Loren, you indicated $22 million of that from China performance fees. Is there any way that we -- obviously, this is going to be a volatile number, but you are running at about 3 basis points in the last quarter. I think historically you have guided towards Q4 and Q1 being the periods where you are most likely to see performance fees. Is that still true or should we see more flatlining now?

And secondly, linked to that, for those performance fees, how much of that is passed down as comp or is it effectively all dropping through to the bottom line in a given quarter?

And then a second question just on flows -- obviously, we've had a bit of color. Clearly, UK and Asia by region have been very strong and equities have been strong. Can I just get a sense of by product which particular areas were very, very good? You mentioned sort of global products in the U.S. business, but in the UK and Asia, and then whether you've seen any signals of a change in trend, given recent market volatility?

In terms of the performance fees, I think the general guidance that we -- I mean, they are hard for us even to track, so again it is one of these things -- they hit when they do. I think the right way to think about it is still largely a first quarter/fourth quarter type of event.

The China performance fee was a very nice element within the mix. It isn't necessarily one that we would say is going to happen on an ongoing basis. So I would say that is more of a one-off type of situation.

We do get quarterly performance fees, however, through our global structured product group, who generates it on a more quarterly basis. And that can be sort of a general level that will persist through the quarters.

How the comp rolls out based on performance fees -- it is a different formula for different areas and so there isn't one clean way to actually answer that question. So actually, I don't think it is probably something that I can answer intelligently because it is very much a function of where it is generated.

On the flows, you asked, are there any changes in those trends. The strength in the UK I think is largely the equity income product that continues to do very well -- a great interest in that product. Asia -- we had great, great strength in China once again. So our Chinese products, which are largely Chinese equities, are being sold to Chinese nationals, and so that is a big part of the success there. And that is a trend that obviously we do hope to see a continuation. And as regulations continue to loosen, we think there is going to be an even greater opportunity to bring different types of products into China and have Chinese equities sold outside to non-Chinese investors.

Our hope is that we are going to continue to see equities grow, but we also think fixed income is going to be something that over time will be back as opposed to what you are seeing right now, which is sort of the outflow story.

Andrew Mitchell, Fox-Pitt, Kelton.

I've got three questions, if I may. I was wondering, Marty, if you could just run through a bit more slowly your comments on the weaker figure in the performance table for institutional equity, and given what was driving that historically, what the prospect might be there.

And also, thinking of that table, you have mentioned there's the prospect of the Morningstar ratings moving up. I just wonder -- I know you will be reluctant to say too much on that, but I don't know if you can say something around that, just to give us a feel, because presumably, given what you have been saying, you must be moving somewhat closer to that actually taking place.

Yes.

And then thirdly and finally, on the ETF side of things, I don't know whether, Bruce, if you are able to give some sort of sense of what commentators generally are thinking about the medium-term growth rate potential for the intelligent ETF products he was talking about, and also what the competitive environment is like in this area and whether it is too early to even think about any pressure on fee levels for those products.

Let me talk about the institutional equity. It is largely made up of two buckets -- sort of a global, active equity bucket, and it tends to be large-cap, more high-quality-type investments. And the mandates tend to trail in rapidly accelerating markets. And I think that is what you saw. So it is trailing benchmark in the shorter periods.

We think it is a very strong team. They are dedicated to the investment processes, and all indications from our point of view, I think we feel confident about that changing. And quite frankly, it will be interesting to see what the volatility in the market has done to the relative performance here going forward.

The next area is really the equity elements of some of the structured equity products. And what has happened there just short term is, in their ranking process, where they had underrepresented some of the positions in the portfolios, the performance exceeded what they anticipated because they were taken out by us and the like. So they ended up with relative underperformance beyond the one-year number.

But again, they have just been very, very strong performers, and lots of client interest there. And also, the other thing that I think Loren mentioned, the global equity, European equity products that they are managing are just really very, very strong. So again, we would look at this as -- you don't like to see the falloff, but it is nothing that we are concerned about at the moment.

And regarding the ETF question, I think that historically, the ETF assets have grown at about a 30% growth rate over the last several years. I would expect that to continue into the future years. And really, the opportunity for the more intelligent ETFs is that with the retail market becoming more and more involved as visibility and acceptance of the product is taken on by more average investors and advisors.

So I would say that I would expect that -- for the intelligent ETF growth rate would be faster than the 30% in the coming years as compared to the overall group.

Your question regarding the fees -- I think it is interesting to note that since 2000 -- well, in 2000, the average fee was approximately 40 basis points per product. And today, the average fee is 58 basis points per product. And so I would say that actually, the fees are trending in the right direction.

And I think what is happening there is that you're seeing more intelligent-type ETFs coming into the market which are more comparable to actively managed mutual funds and therefore able to sustain a higher management fee and rate in these environments. And I would expect that to continue going forward.

We are going to take one more question, if we could.

Jason Streets, Evolution Securities.

Three little things. Firstly, just on the tax charge, which seems to be down a bit, that looks as though there is just a larger proportion of profits coming from the UK. But I just wondered if there wasn't some sort of deferred tax release or something or whether this quarter's tax charge is a workable number going forward.

You are right, the UK is obviously producing a significant amount of inflows and revenues, and so it is a mix issue.

So as long as it keeps going at least as fast as the group, we would expect that to be -- that lower tax charge for the group to stay flat?

I think that is -- that is one of these things that -- yes, I think generally. But we are still saying, I think, probably 34.5% is roughly the right overall rate.

And just on the Morningstar question, I am just wondering how visible this is, because after your comments last time, I went to have a look at the rankings across all the funds. And when I went to the July adjustments, there seemed to be rather more downgrades than upgrades, which sort of surprised me. I don't know whether it surprised you. So how confident are you on this, and how visible is the process?

I am confident over the next quarters. The transparency is our performance. That is the driving force in the rankings. But as we said, what we can't predict is the timing of when they are going to do it. We think we are closer to upgrades than not. And again, we are not pulling the trigger.

So is it a purely mechanical process, then? Were you surprised by the downgrades in July?

Yes, we were. On balance, the relative performances grew quite a bit. And we think we are going to see just quite a number of upgrades over the next quarters in front of us.

We are going to wrap it up. And I just wanted to say we are pleased with the strong results that we saw during the second quarter, particularly the long-term and short-term net inflows and the solid operating margin of 37%.

As you have seen, we have remained very focused on delivering the power of distinctive worldwide investment management capabilities that we do that. And I want to again thank Bruce for joining us and having his discussion of how he is building our PowerShares ETF business for us, and also very much Wilbur Ross and the success that they are having in strengthening our private equity capabilities.

We do have a strong and growing alternative platform. And both of these organizations play an important part of how we are going to grow going forward.

So in summary, we are very focused on delivering the success of our clients and being very dedicated to our multi-year effort to strengthen the organization. I think we are well on the track of doing that, and we are going to continue to stay focused on those opportunities that will really improve the business more and more in the quarters and years to come. So thank you very, very much for your time and have a good rest of the day.

This concludes today's conference call. You may disconnect at this time.