Legg Mason (LM)

Q3 2011 Earnings Call

January 26, 2011 8:30 am ET

Executives

Mark Fetting - Chairman, Chief Executive Officer and President

Peter Nachtwey - Chief Financial Officer and Member of Executive Committee

Alan Magleby - Director of Investor Relations & Communications

Analysts

Craig Siegenthaler - Crédit Suisse AG

Michael Kim - Sandler O'Neill & Partners

William Katz - Citigroup Inc

J. Jeffrey Hopson - Stifel, Nicolaus & Co., Inc.

Michael Carrier - Deutsche Bank AG

Douglas Sipkin - Ticonderoga Securities LLC

Macrae Sykes - Gabelli & Company, Inc.

Robert Lee - Keefe, Bruyette, & Woods, Inc.

Alexander Blostein - Goldman Sachs

Daniel Fannon - Jefferies & Company, Inc.

Roger Smith - Macquarie Research

Cynthia Mayer - BofA Merrill Lynch

Roger Freeman - Barclays Capital

Presentation

Operator

Good morning, and welcome to the Legg Mason Inc. Third Quarter 2011 Earnings Call. [Operator Instructions] I would now like to turn the conference over to Alan Magleby, Head of Investor Relations and Corporate Communications. Please go ahead.

Alan Magleby

Thank you. On behalf of Legg Mason, I would like to welcome you to our conference call to discuss operating results for the fiscal 2011 third quarter ended December 31, 2010.

This presentation may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are not statements of facts or guarantees of future performance and are subject to risks, uncertainties and other factors that may cause actual results to differ materially from those discussed in the statements. For a discussion of these risks and uncertainties, please see Risk Factors in Managements Discussions and Financial Analysis of Financial Condition and

Results of Operations in the company's annual report on Form 10-K for the fiscal year ended March 31, 2010, and in the company's quarterly reports on Form 10-Q.

This morning's call will include remarks from the following speakers: Mr. Mark Fetting, Chairman and CEO; and Mr. Pete Nachtwey, Legg Mason's CFO, who will discuss our financial results. In addition, following a review of the company's quarter, we will then open the call to Q&A. Now I would like to turn this call over to Mr. Mark Fetting. Mark?

Mark Fetting

Thank you, Alan, and I'd like to welcome Pete on his first earnings call. On a snowy day in the Northeast, welcome to all, and thank you for your interest in Legg Mason. Today, we will walk you through our results for our third fiscal quarter of 2011.

Legg Mason delivered solid earnings of $0.41 a share, up 46% from last year's quarter on a GAAP basis and $110 million or $0.73 a share on an adjusted income basis. Our results reflect higher total operating revenues, flowing from improved advisory fees and strong performance fees, as well as our continuing focus on managing expenses. As we look at the market results for 2010, we are encouraged by its progress. However, headwinds do still exist, particularly with unemployment, housing and European debt.

There is a growing consensus among investment professionals that equities will continue to improve over the coming year. Our managers agree and have a generally positive outlook subject to some cooling off after the recent runoff. They believe that residual investor fears are creating some attractive opportunities, particularly further out on the risk curve. As a result, we believe there will be a continued shift into equities, alternatives and specialized fixed income mandates.

In the developed world, they are looking for fragile yet stabilizing economies to move from recovery to expansion, albeit a soft expansion. This outlook is in line with the most recent comments from Chairman Bernanke. In emerging market economies, they're mindful of inflation and the need for these countries to tighten fiscally. The strength in commodities has continued to aggravate inflation fears.

Western believes that in 2011, the economy should broaden and apart from the housing sector, grow at about 3.5%, while inflation should remain low in '11 and '12. The team at Western continues to see opportunity in high yield and emerging market debt, even after the strong appreciation of these asset classes in the last year, as well as bank loans, non-agency mortgages and selected opportunities in an oversold municipal sector. The key question will be when investors will feel comfortable that perceived risks in the market are behind us. Most of our managers believe the real risks are far lower than the perceived risk, and are actively communicating with their clients about the opportunities they see.

But now let's shift our business highlights on Page 2. Legg Mason reported net income of $62 million on a GAAP basis. This included $24 million in transition-related costs related to our streamlining initiative that we are now implementing and moving well on, as well as $10 million in costs related to our closed-end fund raise.

Adjusting for those costs, we had strong earnings, showing the resilience of our core business. We continued to see improvement in our operating margin as adjusted at 24.3%, which is the best it's been since September of '08. Long-term fund assets, beating their Lipper category averages, improved with a one, three and five-year periods from the prior quarter. In the quarter, we announced the new executive structure that is fully aligned with our strategic drivers, and we announced that Pete Nachtwey joined the firm as Chief Financial Officer.

In October, Legg Mason raised $444 million in the Western asset high yield defined opportunity fund, our second largest closed-end raised in 2010. With the closing of that fund, Legg Mason became the number one issuer of closed-end funds for the calendar year with a 22% market share. And we continue to execute on our capital management strategy. In the quarter, we purchased 1.2 million shares. So during the fiscal year, we've reduced our shares outstanding by about 8%.

We shift to Slide 3, you'll see our business model. We start with outstanding investment managers. Our managers are responsible for investment performance. And on the institutional side, strengthening their product range and servicing their clients. Legg Mason's corporate center seeks to deliver strategic value in three areas: retail distribution, capital allocation, where we raised and allocate capital, organic growth through our affiliates and through acquisitions, and when appropriate, return capital to our shareholders. And finally, through our governance group, we ensure that the firm carries on its business in accordance with the highest standards. The combination of our affiliates and the strategic services provided by Legg Mason are the key elements to delivering value to our clients and therefore, to our shareholders.

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