Fund-trading turmoil leaves its mark on bottom lines

The mutual fund trading scandals took their toll on 2003 earnings of publicly traded asset management companies.

While some companies took it on the chin, others are rebounding remarkably well now that they've rid themselves of the specter of future demands by New York Attorney General Eliot Spitzer and the Securities and Exchange Commission.

Here's how it looks:

-- Putnam Investments, Boston, the asset management unit of Marsh & McLennan Cos. Inc., New York, reported 2003 revenue declined 8% to $2 billion, while operating income declined 10% to $503 million. The firm was hit with $54 billion in net redemptions in the fourth quarter, and still faces the prospect of undetermined penalties owed to the SEC.

-- Janus Capital Group Inc., Denver, earned 91 cents a diluted share in 2003, compared with $1.08 in 2002. The results included a $71.8 million charge related to the mutual fund investigation, plus restructuring costs. Janus officials admit that charge might not be adequate to meet all claims, and analysts fear the company is on a downward spiral.

-- AMVESCAP PLC, London, hit by tough times for growth stocks and the weakening dollar, reported that its 2003 profit fell 19% to $481.1 million. Officials at the firm, the parent of Atlanta-based INVESCO, also said the manager would take a charge of $41.6 million because of legal costs relating to the U.S. mutual fund investigation.

-- Alliance Capital Management Holding LP, New York, reported net income dropped 52% to $1.01 a share in 2003 because of charges for legal expenses and a $250 million settlement related to improper trading practices. However, assets under management were up 22.8% to $475 billion, and its stock appears undervalued to some analysts.

-- Franklin Templeton Investments, San Mateo, Calif., also implicated in the market-timing scandal, reported its quarterly profit rose to $152.1 million for the quarter ended Dec. 31, up 38% from $109.8 million in the same period last year. Assets under management jumped 31% to $336.7 billion as of Dec. 31, from the year before, and the firm appears poised for growth.

Overall, most publicly traded asset management companies posted robust earnings, aided by a thriving stock market and strong mutual fund inflows. In general, stocks of asset managers specializing in value-oriented equity strategies outperformed those focused on growth strategies and bond-fund managers.

"The group as a whole was up an average 40% for the year," said Robert Lee, vice president and analyst at Keefe Bruyette & Woods, a New York investment banking firm. That compared with 28.7% for the Standard & Poor's 500, and 31.06% for the Russell 3000 index.

"The market came back; these firms had good asset flows, net sales. Revenues took off, flows improved and many companies improved their operating margins," Mr. Lee said. "Those that lagged tended to be fixed-income managers, while the better performers were the more leveraged, who had a higher proportion of equities."

Putnam took the biggest blow to its assets, because it was charged first, he noted, and because of how it handled the problem. Putnam was accused by the SEC and Massachusetts regulators of engaging in late trading and market timing and for failing to properly supervise the employees who engaged in these activities.

"The stocks were under siege when some of the investigations were first announced in the fall, because of concerns about what the settlement costs would be and who might be investigated next," he said.

But once Alliance Capital announced its $250 million settlement with the SEC and Mr. Spitzer, "the group rallied again. Investors felt they knew the company-specific damages, so the group took off."

Putnam's fourth-quarter operating income included net costs of $24 million related to estimated potential restitution to the Putnam funds and compliance, legal and communications expenses. No provision has yet been made for its settlement with the SEC, which will include still-to-be-determined civil penalties.

Total assets under management fell to $240 billion in 2003 compared with $251 billion in 2002. Mutual fund assets dropped to $163 billion from $164 billion, while institutional assets sank to $77 billion from $87 billion.

Janus reported in its earnings statement that total assets under management slid 11.5% to $144.1 billion in 2003, from $162.8 billion in 2002. The stock price has hovered at $17 a share.

Aside from the $71.8 million charge related to the mutual fund investigation, Janus did not record any liability for civil actions because it couldn't determine how much that might cost. The firm also said it expects increased compliance related expenses as well as possible undetermined costs associated with the elimination of soft-dollar payments.

Robert Hansen, equity analyst at Standard & Poor's, New York, has an "avoid" rating on Janus "because asset growth has been inferior and we expect expenses to increase significantly in 2004; the company is giving higher compensation to existing portfolio managers."

"I expect net outflows to continue, because their funds have not performed well and have lagged their peers," he said. He didn't expect the situation to improve even with a settlement on the trading charges: "I believe the firm has lost all credibility with its clients."

Shelley Peterson, Janus spokeswoman, said: "The vast majority of our shareholders and clients are standing by Janus, and we're working hard every day to regain their full trust and confidence. (We) are very encouraged by the improving performance of many of our funds."

Rachel Barnard, a stock analyst for Morningstar Inc., Chicago, said: "Companies that have become tainted as a result of these investigations have had trouble attracting new assets."

Managers such as AMVESCAP and Janus were struggling before the market-timing and late-trading investigations because of their heavy focus on growth technology stocks, Ms. Barnard said. "They both did poorly in the bear market, and there have been big swings in their stocks as the investigations have unfolded."

Even with net outflows of $1.8 billion in the fourth quarter, assets under management at AMVESCAP rose 11% to $370 billion for the year.

Earnings also were hurt by the falling dollar, Ms. Barnard noted. And she pointed out that while AMVESCAP's assets were up, that has not translated into revenue.

Standard & Poor's Mr. Hansen was bullish about Alliance Capital. "Their net flows were positive for 2003. Meanwhile, the stock trades at a steep discount to the group, and I anticipate strong earnings growth. If the one-time charge (of $330 million — $150 million for a restitution fund, $100 million to regulators and the rest for legal and other unspecified expenses) is excluded, they had strong operating revenues and earnings. One-half of their assets are in equities, and they also have a strong presence in international funds, which have performed well."

Analysts also were bullish on Legg Mason Inc. and T. Rowe Price Group Inc., both of Baltimore, and Franklin Templeton.

Legg Mason, in its third-quarter report, said net income rose to $80.8 million, up 69% from the same quarter a year ago. Assets under management for the year climbed to $264.9 billion, up 43% from $184.7 billion at the end of 2002.

T. Rowe Price reported net income increased to $227 million in 2003, up 17% from $194 million in 2002, while assets under management jumped 35% to $190 billion.

Mr. Lee of Keefe Bruyette particularly liked Legg Mason because its asset management business has performed very well and inflows have been strong.

"They have a wonderful collection of asset managers that are top performers. Each of the firm's managers — Western Asset Management Co., Legg Mason Funds Management, Private Capital Management, Royce & Associates, Brandywine Asset Management Inc. and Batterymarch Financial Management Inc. — had particularly strong net flows during the quarter." In addition, several of the Legg Mason mutual funds as well as most Western Asset and Royce funds, won four- or five-star overall ratings from Morningstar. In fact, Legg Mason Value Trust was singled out as the only fund known to have beaten the S&P 500 for 13 consecutive years.

Mr. Hansen of Standard & Poor's said he still liked Franklin Templeton even though it was charged by Massachusetts regulators last week for improper rapid trading. "They have already disclosed this in filings and have suspended the employees who were involved. I don't think they have a significant risk. And they have not been charged by the SEC or NASD. They continue to have a high level of credibility with their clients," he said.

"Their funds performed very well in 2003 because of a rebound in global markets and the slide of the dollar, and they had consistent net inflows. Their stock was up 53% in 2003 and it's up 12% year to date. Their broad product line and strong balance sheet also helped."