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| LM > SEC Filings for LM > Form 10-Q on 6-Feb-2013 | All Recent SEC Filings |
6-Feb-2013
Quarterly Report
Legg Mason, Inc., a holding company, with its subsidiaries (which collectively comprise "Legg Mason") is a global asset management firm. Acting through our subsidiaries, we provide investment management and related services to institutional and individual clients, company-sponsored mutual funds and other investment vehicles. We offer these products and services directly and through various financial intermediaries. We have operations principally in the United States of America ("U.S.") and the United Kingdom ("U.K.") and also have offices in Australia, Bahamas, Brazil, Canada, Chile, China, Dubai, France, Germany, Italy, Japan, Luxembourg, Poland, Singapore, Spain, Switzerland and Taiwan. Terms such as "we," "us," "our," and "Company" refer to Legg Mason.
The financial services business in which we are engaged is extremely competitive. Our competition includes numerous global, national, regional and local asset management firms, broker-dealers and commercial banks. The industry has been impacted by continued economic uncertainty, the constant introduction of new products and services, and in prior years, by the consolidation of financial services firms through mergers and acquisitions. The industry in which we operate is also subject to extensive regulation under federal, state, and foreign laws. Like most firms, we have been and will continue to be impacted by regulatory and legislative changes. Responding to these changes, and keeping abreast of regulatory developments, has required us to incur costs that continue to impact our profitability.
Our financial position and results of operations are materially affected by the overall trends and conditions of the financial markets, particularly in the United States, but increasingly in the other countries in which we operate. Results of any individual period should not be considered representative of future results. Our profitability is sensitive to a variety of factors, including the amount and composition of our assets under management, and the volatility and general level of securities prices and interest rates, among other things. Sustained periods of unfavorable market conditions are likely to affect our profitability adversely. In addition, the diversification of services and products offered, investment performance, access to distribution channels, reputation in the market, attracting and retaining key employees and client relations are significant factors in determining whether we are successful in attracting and retaining clients. In the last few years, the industry has seen flows into products for which we do not currently garner significant market share. For a further discussion of factors that may affect our results of operations, refer to Item 1A. Risk Factors in our Annual Report on Form 10-K for the fiscal year ended March 31, 2012, and in Item 1A. contained within this document.
Our strategy is focused on three primary areas listed below. Management keeps
these strategic priorities in mind when it evaluates our operating performance
and financial condition. Consistent with this approach, we have also listed
below the most important matters on which management currently focuses in
evaluating our performance and financial condition.
• Outstanding independent investment managers:
• The investment performance of our asset management products and
services compared to their benchmarks and to the performance of
competitive products for the trailing 1-year, 3-year, 5-year, and
10-year periods.
• Our assets under management ("AUM"), the components of the changes
in our AUM amid continued market uncertainty, the long-term trend of
outflows in AUM in our recent history, the mix of our AUM among
equity, fixed income, and liquidity assets, and the resulting impact
of changes in AUM on our revenues.
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• A corporate center that delivers strategic value:
• Promote revenue growth through strategic marketing of products to
institutional clients, supported by retail and quasi-institutional
(e.g., 401(k) plans) distribution globally.
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• Management of expenses.
• Allocating capital for diversified growth and returning capital to shareholders as appropriate:
• The amount of excess capital we generate, and deployment of that
capital through share repurchases, investments in proprietary fund
products, dividends, and targeted acquisitions.
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The following discussion and analysis provides additional information regarding our financial condition and results of operations.
Business Environment
The financial environment in the United States remained uncertain during the
three and nine months ended December 31, 2012, with a waning in consumer
confidence due to news of the impending fiscal cliff. With the passage of the
American Taxpayer Relief Act of 2012, the equity markets rebounded significantly
at the turn of the year; until that point, however, all three major U.S. equity
market indices decreased for the three months ended December 31, 2012. During
the quarter, however, other equity market indices, such as the Russell 2000
Index, increased modestly. Both the Barclays Capital Global Aggregate Bond Index
and the Barclays Capital U.S. Aggregate Bond Index remained relatively flat for
the three months ended December 31, 2012, as illustrated in the table below:
% Change as of and for the three % Change as of and for the nine
months ended December 31: months ended December 31:
Indices(1) 2012 2011 2012 2011
Dow Jones Industrial Average (2.48 )% 11.95 % (0.82 )% (0.83 )%
S&P 500 (1.01 )% 11.15 % 1.26 % (5.15 )%
NASDAQ Composite Index (3.10 )% 7.86 % (2.33 )% (6.33 )%
Barclays Capital U.S. Aggregate
Bond Index 0.21 % 1.12 % 3.90 % 7.39 %
Barclays Capital Global
Aggregate Bond Index (0.48 )% 0.23 % 3.42 % 4.34 %
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(1) Indices are trademarks of Dow Jones & Company, McGraw-Hill Companies, Inc., NASDAQ Stock Market, Inc., and Barclays Capital, respectively, which are not affiliated with Legg Mason.
During the three months ended December 31, 2012, the Federal Reserve Board held the federal funds rate at 0.25%. We expect economic challenges to persist and cannot predict how these uncertainties will impact our results.
Quarter Ended December 31, 2012, Compared to Quarter Ended December 31, 2011
Assets Under Management
Our AUM is primarily managed across the following asset classes:
Equity Fixed Income Liquidity
Ÿ Large Cap Growth Ÿ U.S. Intermediate Ÿ U.S. Managed Cash
Investment Grade
Ÿ Large Cap Value Ÿ U.S. Government Ÿ U.S. Municipal Cash
Intermediate
Ÿ Equity Income Ÿ Global Government
Ÿ Mid Cap Core Ÿ U.S. Municipal
Ÿ Small Cap Core Ÿ U.S. Long Duration
Ÿ International Equity Ÿ Government/Credit
Ÿ Global Equity Ÿ Global Fixed Income
Ÿ Global Emerging Market Ÿ Global Opportunistic
Equity Fixed Income
Ÿ U.S. Corporate
Ÿ U.S. Limited Duration
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The components of the changes in our AUM (in billions) for the three months
ended December 31 were as follows:
2012 2011
Beginning of period $ 650.7 $ 611.8
Investment funds, excluding liquidity funds(1)
Subscriptions 10.8 10.1
Redemptions (12.9 ) (12.0 )
Separate account flows, net (14.6 ) (10.0 )
Liquidity fund flows, net 9.2 10.6
Net client cash flows (7.5 ) (1.3 )
Market performance and other (2) 5.7 17.6
Dispositions - (1.1 )
End of period $ 648.9 $ 627.0
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(1) Subscriptions and redemptions reflect the gross activity in the funds and
include assets transferred between funds and between share classes.
(2) Includes impact of foreign exchange, reinvestment of dividends, and other.
AUM at December 31, 2012, was $648.9 billion, a decrease of $1.8 billion, or 0.3%, from September 30, 2012. The decrease in AUM was attributable to net client outflows of $7.5 billion, partially offset by market appreciation and other activity of $5.7 billion, which includes the negative impact of foreign exchange of $4.7 billion. The $7.5 billion in net outflows consisted of equity and fixed income outflows of $8.3 billion and $6.8 billion, respectively, partially offset by $7.6 billion of inflows in liquidity assets. Equity outflows were primarily experienced in products managed by Batterymarch Financial Management, Inc. ("Batterymarch"), Royce & Associates ("Royce"), and ClearBridge Investments ("ClearBridge"). Due in part to investment performance issues in some products, we have experienced quarterly outflows in our equity asset class since fiscal 2007, with the exception of the quarter ended June 30, 2010. We generally earn higher fees and profits on equity AUM, and outflows in this asset class will more negatively impact our revenues and Net Income than would outflows in other asset classes. Fixed income outflows, primarily in products managed by Western Asset Management Company ("Western Asset"), included $1.6 billion in outflows from a single, low-fee global sovereign mandate. We expect to continue to experience outflows from this mandate of approximately $500 million to $1 billion per month during the remainder of fiscal 2013. Fixed income outflows also included $1.1 billion resulting from the liquidation of one product managed by Western Asset related to the wind-down of its participation in the U.S. Treasury's Public-Private Investment Program ("PPIP"). With the exception of the June 2012 and June 2011 quarters, we have experienced quarterly outflows in our fixed income asset class since fiscal 2008.
AUM increased by $21.9 billion, or 3%, compared to December 2011. The AUM increase was attributable to market appreciation and other activity of $46.5 billion partially offset by net client outflows of $14.8 billion and dispositions of $9.8 billion. Long-term net outflows from our equity and fixed income asset classes were $22.8 billion and $13.3 billion, respectively. Liquidity net inflows were $21.3 billion. Equity outflows were primarily in products managed at Batterymarch, Royce, ClearBridge and Legg Mason Capital Management, LLC ("LMCM"). Fixed income outflows in products managed by Western Asset, which included $7.8 billion in outflows from the single, low-fee global sovereign mandate previously discussed, were offset in part by net inflows in products managed by Brandywine Global Investment Management, LLC ("Brandywine"). Dispositions of $9.8 billion were comprised of $7.0 billion in liquidity assets transferred in connection with the amendment of historical Smith Barney brokerage programs discussed below, and $2.8 billion as a result of the disposition of a small wealth manager.
During the first quarter of fiscal 2012, Morgan Stanley Wealth Management, formerly Morgan Stanley Smith Barney, amended certain historical Smith Barney brokerage programs providing for investment in liquidity funds managed by one of our asset managers that resulted in a reduction of $6.6 billion in liquidity AUM during the nine months ended December 31, 2012.
AUM by Asset Class
AUM by asset class (in billions) as of December 31 was as follows:
% of % of %
2012 Total 2011 Total Change
Equity $ 145.5 22 % $ 153.3 25 % (5 )%
Fixed Income 367.0 57 352.6 56 4
Liquidity 136.4 21 121.1 19 13
Total $ 648.9 100 % $ 627.0 100 % 3 %
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The component changes in our AUM by asset class (in billions) for the three months ended December 31 were as follows:
Fixed
Equity Income Liquidity Total
September 30, 2012 $ 153.4 $ 369.4 $ 127.9 $ 650.7
Investment funds, excluding liquidity funds
Subscriptions 4.1 6.7 - 10.8
Redemptions (7.0 ) (5.9 ) - (12.9 )
Separate account flows, net (5.4 ) (7.6 ) (1.6 ) (14.6 )
Liquidity fund flows, net - - 9.2 9.2
Net client cash flows (8.3 ) (6.8 ) 7.6 (7.5 )
Market performance and other 0.4 4.4 0.9 5.7
December 31, 2012 $ 145.5 $ 367.0 $ 136.4 $ 648.9
Fixed
Equity Income Liquidity Total
September 30, 2011 $ 144.9 $ 355.5 $ 111.4 $ 611.8
Investment funds, excluding liquidity funds
Subscriptions 4.2 5.9 - 10.1
Redemptions (7.4 ) (4.6 ) - (12.0 )
Separate account flows, net (1.7 ) (8.4 ) 0.1 (10.0 )
Liquidity fund flows, net - - 10.6 10.6
Net client cash flows (4.9 ) (7.1 ) 10.7 (1.3 )
Market performance and other 13.3 4.2 0.1 17.6
Dispositions - - (1.1 ) (1.1 )
December 31, 2011 $ 153.3 $ 352.6 $ 121.1 $ 627.0
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The component changes in our AUM by asset class (in billions) for the trailing twelve months ended December 31, were as follows:
Fixed
Equity Income Liquidity Total
December 31, 2011 $ 153.3 $ 352.6 $ 121.1 $ 627.0
Investment funds, excluding liquidity funds
Subscriptions 18.1 26.3 - 44.4
Redemptions (25.3 ) (20.5 ) - (45.8 )
Separate account flows, net (15.6 ) (19.1 ) (0.5 ) (35.2 )
Liquidity fund flows, net - - 21.8 21.8
Net client cash flows (22.8 ) (13.3 ) 21.3 (14.8 )
Market performance and other 16.8 28.7 1.0 46.5
Dispositions (1.8 ) (1.0 ) (7.0 ) (9.8 )
December 31, 2012 $ 145.5 $ 367.0 $ 136.4 $ 648.9
Fixed
Equity Income Liquidity Total
December 31, 2010 $ 184.2 $ 355.8 $ 131.8 $ 671.8
Investment funds, excluding liquidity funds
Subscriptions 23.7 24.4 - 48.1
Redemptions (30.5 ) (21.4 ) - (51.9 )
Separate account flows, net (10.8 ) (25.4 ) (1.3 ) (37.5 )
Liquidity fund flows, net - - 10.1 10.1
Net client cash flows (17.6 ) (22.4 ) 8.8 (31.2 )
Market performance and other (10.1 ) 19.4 - 9.3
Dispositions (3.2 ) (0.2 ) (19.5 ) (22.9 )
December 31, 2011 $ 153.3 $ 352.6 $ 121.1 $ 627.0
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Average AUM by asset class (in billions) for the three months ended December 31
was as follows:
% of % of %
2012 Total 2011 Total Change
Equity $ 147.6 23 % $ 153.4 25 % (4 )%
Fixed Income 369.3 57 353.9 57 4
Liquidity 131.4 20 114.7 18 15
Total $ 648.3 100 % $ 622.0 100 % 4 %
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AUM by Distribution Channel
We have two principal distribution channels, Global Distribution and Other,
through which we sell a variety of investment products and services. Global
Distribution, which consists of our centralized global distribution operations,
principally sells U.S. and international mutual funds and other commingled
vehicles, retail separately managed account programs, and sub-advisory accounts
for insurance companies and similar clients. Other consists of the distribution
operations within our asset managers and principally sells institutional
separate accounts and liquidity (money market) funds.
The component changes in our AUM by distribution channel (in billions) for the three months ended December 31, 2012 and 2011, were as follows:
Global Distribution Other Total
September 30, 2012 $ 223.6 $ 427.1 $ 650.7
Net client cash flows, excluding
liquidity funds (2.1 ) (14.6 ) (16.7 )
Liquidity fund flows, net - 9.2 9.2
Net client cash flows (2.1 ) (5.4 ) (7.5 )
Market performance and other 0.2 5.5 5.7
December 31, 2012 $ 221.7 $ 427.2 $ 648.9
Global Distribution Other Total
September 30, 2011 $ 198.3 $ 413.5 $ 611.8
Net client cash flows, excluding
liquidity funds (3.0 ) (8.9 ) (11.9 )
Liquidity fund flows, net - 10.6 10.6
Net client cash flows (3.0 ) 1.7 (1.3 )
Market performance and other 11.6 6.0 17.6
Dispositions - (1.1 ) (1.1 )
December 31, 2011 $ 206.9 $ 420.1 $ 627.0
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For the three months ended December 31, 2012 and 2011, our overall effective fee rate across all asset classes and distribution channels was 33 and 34 basis points, respectively. Fees for managing equity assets are generally higher, averaging approximately 75 basis points for each of the quarters ended December 31, 2012 and 2011. This compares to fees for managing fixed income assets, which averaged approximately 25 basis points for each of the quarters ended December 31, 2012 and 2011, and liquidity assets, which averaged under 10 basis points (reflecting the impact of current advisory fee waivers due to the low interest rate environment) for each of the quarters ended December 31, 2012 and 2011. Equity assets are primarily managed by ClearBridge, Royce, Batterymarch, The Permal Group, Ltd. ("Permal") and Brandywine, with fixed income assets primarily managed by Western Asset and Brandywine, and liquidity assets managed by Western Asset. Fee rates for assets distributed through Legg Mason Global Distribution, which are predominately retail in nature, averaged approximately 50 basis points for each of the quarters ended December 31, 2012 and 2011, while fee rates for assets distributed through the Other channel averaged approximately 20 basis points for each of the quarters ended December 31, 2012 and 2011. The decline in higher yielding equity assets has impacted our revenues, as further discussed below.
Investment Performance
Our overall investment performance in the three months ended December 31, 2012,
was mixed compared to relevant benchmarks. While our overall fixed income and
large cap equity strategies performance continues to be strong over all time
periods, our small cap equity strategies performance lagged against benchmarks,
particularly in the shorter time periods.
The equity markets ended the quarter mixed as markets reacted to fiscal cliff concerns and the results from the November elections. The mixed equity markets during the December 2012 quarter resulted in a decrease in the S&P 500 Index of 0.4% and an increase in the S&P 400 Index and the Russell 2000 Index of 3.6% and 1.9%, respectively. Index performance includes reinvestment of dividends and capital gains.
In the fixed income markets, the recovery continued marginally with growth neither strengthening nor slipping. The Federal Reserve held its target rate steady but changed its guidance for rate increases when the unemployment rate drops below 6.5%. Investors exchanged safety for risk, but not across the board, leading to mixed performance results.
The worst performing fixed income sector for the quarter ended December 31, 2012, was U.S. Government bonds, as measured by the Barclays U.S. Government Bond Index, returning -0.1%. The best performing fixed income sector for the quarter was high yield as measured by the Barclays High Yield Bond Index, returning 3.3%.
The following table presents a summary of the percentages of our AUM by strategy(1) that outpaced their respective benchmarks as of December 31, 2012 and 2011, for the trailing 1-year, 3-year, 5-year, and 10-year periods:
As of December 31, 2012 As of December 31, 2011
1-year 3-year 5-year 10-year 1-year 3-year 5-year 10-year
Total (includes
liquidity) 85 % 84 % 86 % 91 % 42 % 83 % 53 % 84 %
Equity:
Large cap 64 % 66 % 85 % 79 % 51 % 63 % 65 % 69 %
Small cap 15 % 15 % 77 % 61 % 59 % 73 % 86 % 96 %
Total equity (includes
other equity) 48 % 46 % 73 % 72 % 47 % 58 % 65 % 76 %
Fixed income:
U.S. taxable 97 % 94 % 82 % 90 % 10 % 91 % 12 % 81 %
U.S. tax-exempt 100 % 100 % 100 % 100 % - % - % - % 1 %
Global taxable 89 % 89 % 85 % 98 % 28 % 91 % 63 % 99 %
Total fixed income 94 % 93 % 85 % 94 % 16 % 84 % 29 % 80 %
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The following table presents a summary of the percentages of our U.S. mutual fund assets(2) that outpaced their Lipper category averages as of December 31, 2012 and 2011, for the trailing 1-year, 3-year, 5-year, and 10-year periods:
As of December 31, 2012 As of December 31, 2011
1-year 3-year 5-year 10-year 1-year 3-year 5-year 10-year
Total long-term
(excludes liquidity) 62 % 66 % 83 % 68 % 64 % 73 % 77 % 73 %
Equity:
Large cap 87 % 73 % 81 % 53 % 74 % 63 % 43 % 39 %
Small cap 27 % 45 % 87 % 69 % 44 % 72 % 93 % 98 %
Total equity (includes
other equity) 53 % 56 % 81 % 58 % 54 % 66 % 73 % 70 %
Fixed income:
U.S. taxable 85 % 91 % 86 % 91 % 76 % 99 % 81 % 85 %
U.S. tax-exempt 62 % 74 % 87 % 82 % 90 % 71 % 90 % 82 %
Global taxable 73 % 63 % 93 % 58 % 70 % 76 % 94 % 82 %
Total fixed income 75 % 81 % 87 % 84 % 79 % 82 % 86 % 84 %
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(1) For purposes of investment performance comparisons, strategies are an aggregation of discretionary portfolios (separate accounts, investment funds, and other products) into a single group that represents a particular investment objective. In the case of separate accounts, the investment performance of the account is based upon the performance of the strategy to which the account has been assigned. Each of our asset managers has its own specific guidelines for including portfolios in their strategies. For those managers which manage both separate accounts and investment funds in the same strategy, the performance comparison for all of the assets is based upon the performance of the separate account.
As of December 31, 2012 and 2011, 90% of total AUM is included in strategy AUM, respectively, although not all strategies have three-, five-, and ten-year histories. Total strategy AUM includes liquidity assets. Certain assets are not included in reported performance comparisons. These include: accounts that are not managed in accordance with the guidelines outlined above; accounts in strategies not marketed to potential clients; accounts that have not yet been assigned to a strategy; and certain smaller products at some of our affiliates.
Past performance is not indicative of future results. For AUM included in institutional and retail separate accounts and investment funds included in the same strategy as separate accounts, performance comparisons are based on . . .
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