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| FII > SEC Filings for FII > Form 10-Q on 24-Oct-2008 | All Recent SEC Filings |
24-Oct-2008
Quarterly Report
of Financial Condition and Results of Operations (Unaudited)
The discussion and analysis below should be read in conjunction with the consolidated financial statements appearing elsewhere in this report. We have presumed that the readers of this interim financial information have read or have access to Management's Discussion and Analysis of Financial Condition and Results of Operations appearing in Federated's Annual Report on Form 10-K for the year ended December 31, 2007.
General
Federated Investors, Inc. (together with its subsidiaries, Federated) is one of the largest investment managers in the United States with $344.0 billion in managed assets as of September 30, 2008. The majority of Federated's revenue is derived from advising and administering Federated mutual funds, Separate Accounts (which includes separately managed accounts, institutional accounts, sub-advised funds (both variable annuity and other) and other managed products), in both domestic and international markets. Federated also derives revenue from administering mutual funds sponsored by third parties and from providing various other mutual fund-related services, including distribution, shareholder servicing and retirement plan recordkeeping services (collectively, Other Services).
Federated's investment products are primarily distributed in three markets. These markets and the relative percentage of managed assets at September 30, 2008 attributable to such markets are as follows: wealth management and trust (50%), broker/dealer (35%) and global institutional (11%).
Investment advisory fees, administrative fees and certain fees for Other Services, such as distribution and shareholder service fees, are contract-based fees that are generally calculated as a percentage of the net assets of the investment portfolios that are managed or administered by Federated. As such, Federated's revenue is primarily dependent upon factors that affect the value of managed and administered assets including market conditions and the ability to attract and retain assets. Fee rates for Federated's services generally vary by asset type and investment objective and, in certain instances, decline as the average net assets of the individual portfolios exceed certain thresholds. Generally, rates charged for advisory services provided to equity products are higher than rates charged on money market and fixed-income products. Likewise, mutual funds typically have a higher fee rate than Separate Accounts. Accordingly, revenue is also dependent upon the relative composition of average assets under management across both asset and product types. Federated may waive certain fees for competitive reasons, to meet regulatory requirements (including settlement-related (see Note (17)(c) to the Consolidated Financial Statements)) or to meet contractual requirements. Since Federated's products are largely distributed and serviced through financial intermediaries, Federated pays a significant portion of the distribution fees from sponsored products to the financial intermediaries that sell these products. These payments are generally calculated as a percentage of net assets attributable to the party receiving the payment and are recorded on the Consolidated Statements of Income as a marketing and distribution expense.
Federated's remaining Other Services fees are primarily based on fixed rates per retirement plan participant. Revenue relating to these services will vary with changes in the number of plan participants which generally react to sales and marketing efforts, competitive fund performance, introduction and market reception of new product features and acquisitions.
Federated's most significant operating expenses include marketing and distribution costs and compensation and related costs, which represent fixed and variable compensation and related employee benefits. Certain of these expenses are dependent upon sales, product performance, levels of assets and asset mix.
The discussion and analysis of Federated's financial condition and results of operations are based on Federated's Consolidated Financial Statements. Management evaluates Federated's performance at the consolidated level based on the view that Federated operates in a single operating segment, the investment management business. In this highly competitive business, Federated's growth and overall profitability are largely dependent upon its ability to attract and retain assets under management. Management analyzes all expected revenue and expenses and considers market demands in determining an overall fee structure for services provided and in evaluating the addition of new business. Fees for fund-related services are ultimately subject to the approval of the independent directors or trustees of the mutual funds. Management believes the most meaningful indicators of Federated's performance are assets under management, total revenue and net income, both in total and per diluted share.
Management's Discussion and Analysis (continued)
of Financial Condition and Results of Operations (Unaudited)
Business Developments
Recent and Ongoing Disruption in Global Financial Markets
Since late 2007, the financial markets have experienced extreme volatility due to uncertainty and disruption in large segments of the credit markets. During the third quarter 2008, the disruptions in the financial markets worsened causing severe dislocations on the functioning of the markets and unprecedented strain on the availability of liquidity in the short-term debt markets, including the commercial paper markets, which are important for the operation of money market funds.
On September 19, 2008, the U.S. Government took steps designed to improve market conditions by offering the following two programs: (1) the Treasury's Temporary Guarantee Program for Money Market Funds, and (2) the Asset-Backed Commercial Paper (ABCP) Money Market Fund Liquidity Facility (ABCP Liquidity Facility).
Treasury's Temporary Guarantee Program for Money Market Funds - In October 2008, all Federated domestic money market funds enrolled in the Treasury's Temporary Guarantee Program for Money Market Funds. This program was open to money market funds registered under the Investment Company Act of 1940 (1940 Act) that publicly offer securities registered under the Securities Act of 1933 and operate in compliance with Rule 2a-7 under the 1940 Act. The program will insure the balances of all shareholders with investments in a participating money market fund on September 19, 2008 in the event that such a fund is liquidated with a net asset value (NAV) less than $1.00. No protection is provided to those shareholders who entered the fund after September 19, 2008 or to any increase in holdings in that fund made after September 19, 2008 by a shareholder covered by the program. The program will terminate on December 18, 2008 but may be renewed by the U.S. Treasury Department through September 18, 2009. If the program is extended, participating funds desiring continued coverage will need to renew their participation and submit additional fees for the extended coverage. The cost of the insurance will be borne primarily by the shareholders of the money market funds.
ABCP Liquidity Facility - Under the ABCP Liquidity Facility, the Federal Government is facilitating the purchase of ABCP from money market funds at amortized cost value, providing same-day liquidity to those funds. This new facility allows banks and other intermediaries to use the Federal Reserve Bank of Boston to buy, at par, ABCP from domestic money market funds that are regulated by Rule 2a-7. The ABCP Liquidity Facility will expire on January 30, 2009.
The Treasury's Temporary Guarantee Program and the ABCP Liquidity Facility have been designed by the government as temporary measures. There can be no assurance that these programs will be extended or that market conditions will not deteriorate following the expiration of these programs.
Federated continues to manage money market funds with an unrelenting focus on credit analysis, high credit standards and maintenance of minimal credit risk. As of September 30, 2008, Federated's money market funds had no exposure to Sigma Finance, Lehman Brothers Holdings, Inc., American International Group, Inc. or Washington Mutual.
Through the market turmoil of 2008, Federated's government money market funds continued to experience significant asset inflows while prime money market funds have experienced outflows. On a net basis, Federated's money market managed assets have increased substantially in 2008. Certain investors favored the perceived safety and liquidity of portfolios backed by government securities over the greater yields offered by prime money market funds which invest in high-quality debt issued by corporations and financial institutions. There can be no assurance that these investors will maintain their balances in government money market funds or that continued volatility in the financial markets will necessarily result in similar or sustained inflows into Federated's money market products.
Business Combinations, Acquisitions and Minority Interest Investments
Clover Capital. On September 12, 2008, Federated reached a definitive agreement to acquire certain assets of Clover Capital Management, Inc. (Clover Capital), a Rochester, New York-based investment manager that specializes in value investing. Clover Capital managed approximately $2.8 billion in assets as of September 15, 2008, consisting primarily of separately managed accounts. The initial purchase price for the transaction will be determined as of closing based on net revenue earned on assets under management during the calendar month immediately preceding the closing date or the month prior to that. Using asset levels and revenue estimates for September 2008, the estimate of initial purchase price approximates $36 million. The transaction also includes a series of contingent payments, which, based on estimated September revenue, could total as much as $57 million over the next five years based on growth. The sale is expected to close in the fourth quarter of 2008.
Management's Discussion and Analysis (continued)
of Financial Condition and Results of Operations (Unaudited)
The transaction has been approved by the Board of Directors of Federated and shareholders owning a majority interest in Clover Capital but is still subject to the consent of the Clover Capital separate account clients for the continued management of their assets after the closing. The agreement includes customary closing conditions, representations, warranties and covenants, including certain covenants relating to non-competition and non-solicitation made by Clover Capital and certain key employees.
Prudent Bear Funds. On July 14, 2008, Federated reached a definitive agreement to acquire certain assets of David W. Tice & Associates LLC that relate to the management of the $1.2 billion Prudent Bear Fund and the $507 million Prudent Global Income Fund (the Prudent Bear Funds). In connection with the agreement, Federated will re-brand the Prudent Bear Funds as the newly created Federated Prudent Bear Fund and the Federated Prudent Global Income Fund. The purchase price for the transaction includes a $43.0 million initial cash payment and future contingent cash payments of up to $99.5 million over the next four years based on certain revenue growth targets. The sale is expected to close in the fourth quarter of 2008.
The transaction has been approved by the Board of Directors of Federated, the owner of David W. Tice and Associates LLC, the Board of Trustees of the Federated mutual funds and the Board of Directors of the Prudent Bear Funds, but is still subject to customary closing conditions and is subject to the approval of the Prudent Bear Funds' shareholders. The agreement includes customary representations, warranties and covenants, including certain covenants relating to non-competition and non-solicitation made by David W. Tice & Associates LLC.
Rochdale Investment Management LLC. In the third quarter 2007, Federated completed a transaction with Rochdale Investment Management LLC (Rochdale) to acquire certain assets relating to its business of providing investment advisory and investment management services to the Rochdale Atlas Portfolio (Rochdale Acquisition). In connection with the acquisition, on August 24, 2007, the $366 million of assets in the Rochdale Atlas Portfolio were transitioned into the Federated InterContinental Fund, a new portfolio created for the purpose of continuing the investment operations of the Rochdale Atlas Portfolio as part of the Federated fund complex. Federated paid $5.75 million of upfront purchase price in August 2007, and as of September 30, 2008, incurred approximately $1 million in transaction costs. Federated has completed its valuation and allocation of the upfront purchase price and has recorded a customer relationship intangible asset and goodwill. See Note (17)(a) to the Consolidated Financial Statements for information on contingent payments related to this acquisition.
Dix Hills. In the second quarter 2007, Federated acquired a non-voting, minority interest in both Dix Hills Partners, LLC, a registered investment adviser and commodity trading adviser, and its affiliate, Dix Hills Associates, LLC (collectively, Dix Hills). Dix Hills is based in Jericho, New York and manages over $500 million in both absolute return and enhanced fixed-income mandates, including a hedge fund strategy and an enhanced cash strategy. The total purchase price included an upfront cash payment as well as contingent payments which could be paid annually based on growth in Dix Hills' cash earnings for each of the next two anniversary years. Federated accounted for its minority interest using the equity method of accounting. The investment in Dix Hills is included in Other long-term assets on Federated's Consolidated Balance Sheets at September 30, 2008 and December 31, 2007.
Dispositions
In the third quarter 2006, an indirect, wholly owned subsidiary of Federated completed the sale of certain assets associated with its TrustConnect® mutual fund processing business (the Clearing Business) to Matrix Settlement and Clearance Services, LLC (Matrix). The sale was completed over a series of closings during 2006. In exchange for the assets of the Clearing Business, Federated received upfront cash consideration totaling $7.7 million. In addition, Federated accrued contingent consideration of $4.8 million in the second quarter of 2008, which was calculated as a percentage of Matrix's second quarter 2008 net revenue above a specific threshold directly attributed to the Clearing Business. This contingent consideration was received in the third quarter and is included, net of tax, as income from discontinued operations for the nine months ended September 30, 2008.
Special Cash Dividend
On September 15, 2008, Federated paid $2.76 per share or $281.2 million for a special cash dividend to shareholders of record as of September 9, 2008. This payment was in addition to the $0.24 per share or $24.2 million dividend paid on August 15, 2008 to shareholders of record as of August 8, 2008.
Management's Discussion and Analysis (continued)
of Financial Condition and Results of Operations (Unaudited)
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