LEGG MASON, INC. Forward-looking Statements This Quarterly Report on Form 10-Q contains "forward-looking statements" within the meaning of theU.S. Private Securities Litigation Reform Act of 1995 that involve substantial risks or uncertainties. Forward-looking statements are typically identified by words or phrases such as "achieve," "anticipate," "assume," "believe," "continue," "current," "estimate," "expect," "intention," "maintain," "opportunity," "position," "potential," "projection," "remain," "seek," "sustain," "trend" and similar expressions, or future or conditional verbs such as "could," "may," "should," "will," "would" and similar expressions. Forward-looking statements are based on our current expectations and beliefs, and involve known and unknown risks, uncertainties and other factors, which may cause our actual results, performance and achievements and the timing of certain events to differ materially from the results, performance, achievements or timing discussed, projected, anticipated or indicated in any forward-looking statement. Such risks, uncertainties and other factors include, among others, information or anticipated information relating to: our expectations regarding financial market conditions, including interest rate volatility, future investment performance of our affiliates, and future net client cash flows; the performance of our business, including revenues, net income, earnings per share, dividends, investments, capital expenditures, and other conditions; our expense levels; changes in our business or in the amount or composition of our client assets under management ("AUM"); the expected effects of acquisitions and other transactions, including the proposed merger betweenLegg Mason and Franklin Resources, Inc. ("Franklin Templeton"), and their effect on our business; changes in tax regulations and rates, including the effect on our estimated effective income tax rate; the expected costs and benefits of our ongoing strategic restructuring; and other regulatory or legislative changes. Actual results may differ materially from those expressed in forward-looking information as a result of various factors, some of which are beyond our control, including, but not limited to, the foregoing factors as well as those discussed under the heading "Risk Factors" in our Annual Report on Form 10-K for the year endedMarch 31, 2020 . Due to such risks, uncertainties and other factors, we caution each person receiving such forward-looking information not to place undue reliance on such statements. Further, forward-looking statements speak only as of the date on which such statements are made, and we undertake no obligation to update or revise any forward-looking statement to reflect events or circumstances after the date of any such statement or to reflect the occurrence of unanticipated events. Executive OverviewLegg Mason, Inc. is a global asset management firm that operates through nine independent asset management subsidiaries (collectively with its subsidiaries, "Legg Mason"). We help investors globally to achieve better financial outcomes by expanding choice across investment strategies, vehicles and investor access through independent asset managers with diverse expertise in equity, fixed income, alternative and liquidity investments. Acting through our independent investment managers, which we often refer to as our affiliates, we deliver our investment capabilities through varied products and vehicles and via multiple points of access, including directly and through various financial intermediaries. Our investment advisory services include discretionary and non-discretionary management of separate investment accounts in numerous investment styles for institutional and individual investors. Our investment products include proprietary mutual funds ranging from money market and other liquidity products to fixed income, equity and alternative funds managed in a wide variety of investment styles. We also offer other domestic and offshore funds to both retail and institutional investors, privately placed real estate funds, hedge funds and funds-of-hedge funds. Our centralized global distribution group, Legg Mason Global Distribution, markets, distributes and supports our investment products. Our operations are principally in theU.S. and theU.K. and we also have offices inAustralia ,Brazil ,Canada ,Chile ,China ,Dubai ,France ,Germany ,Ireland ,Italy ,Japan ,Singapore ,Spain ,Switzerland andTaiwan . Terms such as "we," "us," "our," and "Company" refer to Legg Mason. Merger Agreement for Acquisition by Franklin Resources, Inc. OnFebruary 17, 2020 , we entered into an Agreement and Plan of Merger (the "Merger Agreement") with Franklin Resources, Inc. ("Franklin Templeton") andAlpha Sub, Inc. ("Merger Sub"), a wholly owned subsidiary ofFranklin Templeton , pursuant to whichLegg Mason, Inc. will be merged into Merger Sub (the "Merger"), with the Company continuing as the surviving corporation and a wholly owned subsidiary ofFranklin Templeton . Pursuant to the Merger Agreement, each outstanding share of common stock of the Company will be converted into the right to receive fromFranklin Templeton $50.00 in cash. All conditions to the closing of the Merger have been satisfied and the closing will take effect at the end of the day onJuly 31, 2020 , the date this Report is being filed. 33
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Refer to the definitive proxy statement of the Company and
Business Overview The financial services business in which we are engaged is extremely competitive. Our competition includes numerous global, national, regional and local asset management firms, commercial banks, insurance companies, and other financial services companies. The industry continues to experience disruption and challenges, including a shift to lower-fee passively managed products, which contributes to increasing fee pressure, the increased role of technology in asset management services, the introduction of new financial products and services by our competitors, and the consolidation of financial services firms through mergers and acquisitions, such as our pending acquisition byFranklin Templeton , as discussed above. The asset management industry is also subject to extensive and evolving 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, and will continue to require, us to incur costs that impact our profitability. Our revenues and net income are derived primarily from AUM and fees associated with our investment products. Accordingly, changes in global financial markets, the composition and level of AUM, net new business inflows (or outflows) and changes in the mix of investment products between asset classes and geographies may materially affect our results of operations. Our most significant operating expenses are employee compensation and benefits, a majority of which is variable and includes incentive compensation, and distribution and servicing expenses, which consist primarily of fees paid to third-party distributors for selling our asset management products and services. Our profitability is sensitive to a variety of factors, including the amount and composition of our AUM, and the volatility and general level of securities prices, interest rates, and changes in currency exchange rates, among other things. Periods of unfavorable market conditions are likely to have an adverse effect on our profitability. In addition, the diversification of services, vehicles, and products offered, investment performance, access to distribution channels, reputation in the market, attraction and retention of 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, including, in particular, passive products, and corresponding flows out of products in which we do have market share. For a further discussion of factors that may affect our results of operations, refer to the discussion under the heading "Risk Factors" in our Annual Report on Form 10-K for the year endedMarch 31, 2020 . Global markets experienced extreme volatility beginning in the second half ofFebruary 2020 in reaction to the novel coronavirus ("COVID-19") pandemic. While global financial markets improved during the three months endedJune 30, 2020 , uncertainty remains about the extent and duration of business disruptions related to COVID-19 as well as its impacts on the global economy. This market uncertainty may have an impact on our business. 34
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Our Strategy Our strategy is to expand client choice through the diversification of our business across investment strategies, vehicles and access. We focus our strategic priorities on the four primary areas listed below. Management considers these strategic priorities when evaluating our operating performance and financial condition. Consistent with this approach, we have also presented in the table below initiatives on which management currently focuses in evaluating our performance and financial condition. This strategy was developed based on the assumption that we continue as an independent company. Upon effectiveness of the Merger, we will be a subsidiary ofFranklin Templeton . Strategic Priorities Initiatives - Products - Create an innovative portfolio of investment products and promote revenue growth by developing new products and leveraging the capabilities of our affiliates - Identify and execute strategic acquisitions to strengthen our affiliates and increase product offerings - Performance - Identify and implement opportunities to improve growth through collaboration with and across affiliates, and work with affiliates to improve efficiency across Legg Mason by combining efforts, outsourcing or working differently - Distribution - Continue to maintain and enhance our top tier distribution function with the capability to offer solutions to relevant investment challenges and grow market share worldwide - Develop alternative and innovative distribution approaches for expanded client access - Productivity - Implement our strategic restructuring plan - Continue to develop and execute upon our diversity and inclusion strategy; develop business unit strategies to support the future state of work; drive digital transformation and continue to develop the enterprise data management program
When evaluating our progress on these strategic priorities, and considering initiatives to support them, we prioritize four key drivers of value creation: • leveraging our centralized retail distribution to drive growth;
• capitalizing on our investments to provide investors with greater choice;
• more effectively controlling our costs to improve profitability; and
• thoughtfully managing our balance sheet and capital allocation.
The strategic priorities and key drivers discussed above are designed to increase shareholder value through improvements in our net flows, earnings, cash flows, AUM and other key metrics, including operating margin, which are discussed in our quarterly results discussion below.
Restructuring
During the fourth quarter of fiscal 2019, we initiated a strategic restructuring to reduce costs, which included corporate and distribution functions, as well as efficiency initiatives at certain smaller affiliates that operate outside of revenue-sharing arrangements. As ofJune 30, 2020 , our strategic restructuring was substantially complete. During the three months endedJune 30, 2020 , we incurred$8.0 million , or$0.06 per diluted share, of costs related to the strategic restructuring, for cumulative costs of$88.4 million sinceJanuary 1, 2019 . These aggregate costs were significantly lower than our initial forecasted range of$120 million to$140 million . See Note 15 of Notes to Consolidated Financial Statements for additional information. During the quarter endedJune 30, 2020 , we achieved annual run rate cost savings of$104 million . We realized an additional$12 million of savings related to the strategic restructuring during the three months endedJune 30, 2020 , for cumulative realized savings of$84 million sinceJanuary 1, 2019 .
In addition, during the three months ended
The following discussion and analysis provides additional information regarding our financial condition and results of operations.
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Business Environment The quarter endedJune 30, 2020 showed signs of recovery following an extreme downturn in the previous quarter due to the rapid spread of COVID-19. Almost allU.S. asset classes posted gains in the quarter endedJune 30, 2020 in response to government stimulus spending, other government support actions, and gradual easing of shutdown measures.U.S. equities rebounded during the quarter and outperformed most major global equity markets. Developed international equity markets also rose as global economies began to reopen, although they were outperformed byU.S. equities. Emerging markets recorded their strongest quarter in a decade as consumer sentiment improved and drove demand for riskier assets. As governments worldwide began to ease shutdown restrictions mid-quarter, riskier assets showed signs of recovery. Corporate and high-yield bonds performed the strongest during the quarter, and emerging markets also produced gains. Government bonds remained relatively stagnant throughout the quarter. TheU.S. treasury yield remained at record lows throughout the quarter in response to quantitative easing by the government.U.S. stocks recorded their best quarterly performance in 20 years. All sectors performed well during the quarter, led by information technology. Energy and industrial sectors also posted gains. The following table summarizes the returns for various major market indices: % Change for the Three Months Ended June 30, Indices(1) 2020 2019 Dow Jones Industrial Average(2) 17.8 % 2.6 % S&P 500(2) 20.0 % 3.8 % Nasdaq Composite Index(2) 30.6 % 3.6 % Barclays Capital U.S. Aggregate Bond Index 2.9 % 3.1 % Barclays Capital Global Aggregate Bond Index 3.3 % 3.3 %
(1) Indices are trademarks of
affiliated with Legg Mason.
(2) Excludes the impact of the reinvestment of dividends and stock splits.
The impact of the COVID-19 pandemic onU.S. and international financial markets may have a significantly negative impact on our AUM and results of operations during fiscal 2021, particularly in the near term. Given continued uncertainty and volatility, we cannot reasonably estimate the impact market conditions will have on our future results of operations, cash flows, or financial condition. In addition, our industry continues to be impacted by migration from active to passive strategies. Together with continuing regulatory changes, these factors continue to put pressure on fees, contributing to the consolidation of products and managers on distribution platforms. These factors also continue to create significant flow challenges for active managers like ourselves. 36
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Three Months Ended
Assets Under Management
Our AUM is primarily managed across the following asset classes:
Equity Fixed Income Alternative Liquidity
- Large Cap Growth - U.S. Intermediate - Real Estate - U.S. Managed Cash
Investment Grade
- Equity Income - U.S. Long Duration - Hedge Funds - U.S. Municipal Cash
- All Cap Growth - U.S. Credit Aggregate - Listed
- International Equity - Global Opportunistic Infrastructure
Fixed Income
- Large Cap Value - Global Fixed Income
- Large Cap Core - U.S. Municipal
- Small Cap Core - Global Sovereign
- All Cap Value - Macro Opportunities
- Small Cap Growth - Intermediate
- Small Cap Value - Global Government
- Emerging Markets Equity - Short Duration
- Small/Mid Cap - High Yield
- Mid Cap Core - Liability Driven
- Small Cap International - Enhanced Liquidity
- Global Equity - TIPS
- All Cap Core
The components of the changes in our AUM (in billions) were as follows:
Three Months Ended
June 30,
2020 2019
Beginning of period $ 730.8 $ 758.0 Net client cash flows: Investment funds, excluding liquidity products(1): Subscriptions
16.7 17.9
Redemptions (16.2 ) (16.1 )
Long-term separate account flows, net (5.1 ) (0.7 )
Total long-term flows, net (4.6 ) 1.1
Total liquidity flows, net (5.2 ) (1.6 )
Total net client cash flows (9.8 ) (0.5 )
Realizations(2) (0.2 ) (0.4 )
Market performance and other(3) 59.7 21.9
Impact of foreign exchange 2.9 0.6
Acquisition - 0.6
End of period $ 783.4 $ 780.2 (1) Subscriptions and redemptions reflect the gross activity in the funds and
include assets transferred between funds and between share classes.
(2) Realizations represent investment manager-driven distributions primarily
related to the sale of assets. Realizations are specific to our alternative
managers and do not include client-driven distributions (e.g., client
requested redemptions, liquidations or asset transfers).
(3) Other primarily includes the reinvestment of dividends.
AUM atJune 30, 2020 was$783.4 billion , an increase of$52.6 billion , or 7%, fromMarch 31, 2020 . Total net long-term client outflows were$4.6 billion , comprised of fixed income net outflows of$3.1 billion and equity net outflows of$2.0 billion , partially offset by alternative net inflows of$0.5 billion . There were$5.2 billion of net outflows in the liquidity asset 37
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class. Fixed income net outflows were primarily in products managed byBrandywine Global Investment Management ("Brandywine") andWestern Asset Management Company ("Western Asset"). Equity net outflows were primarily from products managed byClearBridge Investments ("ClearBridge"),Martin Currie , andQS Investors . Alternative net inflows were in products managed byClarion Partners and EnTrust Global, partially offset by net outflows from products managed by RARE Infrastructure. In general, we earn higher fees and profits per dollar of alternative and equity AUM, and outflows in those asset classes more negatively impact our revenues and Net Income (Loss) Attributable toLegg Mason, Inc. than do outflows in the fixed income and liquidity asset classes. The positive impact of market performance and other was$59.7 billion . The positive impact of foreign exchange fluctuations was$2.9 billion .
Our net client cash flows also reflect the significant industry-wide flow pressure for active managers of equity and fixed income assets discussed above under the heading "Business Environment".
AUM by Asset Class
AUM by asset class (in billions) was as follows:
% of % of
As of June 30, 2020 Total 2019 Total % Change
Equity $ 192.4 25 % $ 205.6 26 % (6 )%
Fixed income 447.0 57 438.0 56 2
Alternative 73.7 9 70.1 9 5
Total long-term assets 713.1 91 713.7 91 -
Liquidity 70.3 9 66.5 9 6
Total $ 783.4 100 % $ 780.2 100 % - %
Average AUM by asset class (in billions) was as follows:
% of % of
Three months ended June 30, 2020 Total 2019 Total % Change
Equity $ 181.3 24 % $ 202.7 26 % (11 )%
Fixed income 435.0 57 427.0 56 2
Alternative 73.8 9 69.3 9 6
Total long-term assets 690.1 90 699.0 91 (1 )
Liquidity 74.3 10 66.9 9 11
Total $ 764.4 100 % $ 765.9 100 % - %
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The component changes in our AUM by asset class (in billions) were as follows:
Equity Fixed Income Alternative Total Long-Term Liquidity Total
March 31, 2020 $ 161.2 $ 420.2 $ 74.3 $ 655.7 $ 75.1 $ 730.8 Investment funds, excluding liquidity funds(1): Subscriptions 5.4 10.1 1.2 16.7 - 16.7 Redemptions (6.1 ) (9.4 ) (0.7 ) (16.2 ) - (16.2 ) Long-term separate account flows, net (1.3 ) (3.8 ) - (5.1 ) - (5.1 ) Liquidity flows, net - - - - (5.2 ) (5.2 ) Net client cash flows (2.0 ) (3.1 ) 0.5 (4.6 ) (5.2 ) (9.8 ) Realizations(2) - - (0.2 ) (0.2 ) - (0.2 ) Market performance and other(3) 33.1 27.3 (1.1 ) 59.3 0.4 59.7 Impact of foreign exchange 0.1 2.6 0.2 2.9 - 2.9 June 30, 2020$ 192.4 $ 447.0 $ 73.7 $ 713.1$ 70.3 $ 783.4
(1) Subscriptions and redemptions reflect the gross activity in the funds and
include assets transferred between funds and between share classes.
(2) Realizations represent investment manager-driven distributions primarily
related to the sale of assets. Realizations are specific to our alternative
managers and do not include client-driven distributions (e.g., client
requested redemptions, liquidations or asset transfers).
(3) Other primarily includes the reinvestment of dividends.
Equity Fixed Income Alternative Total Long-Term Liquidity Total
March 31, 2019 $ 202.0 $ 419.6 $ 68.6 $ 690.2 $ 67.8 $ 758.0 Investment funds, excluding liquidity funds(1): Subscriptions 7.1 9.4 1.4 17.9 - 17.9 Redemptions (8.9 ) (6.4 ) (0.8 ) (16.1 ) - (16.1 ) Long-term separate account flows, net (1.8 ) 0.9 0.2 (0.7 ) - (0.7 ) Liquidity flows, net - - - - (1.6 ) (1.6 ) Net client cash flows (3.6 ) 3.9 0.8 1.1 (1.6 ) (0.5 ) Realizations(2) - - (0.4 ) (0.4 ) - (0.4 ) Market performance and other(3) 7.2 13.9 0.5 21.6 0.3 21.9 Impact of foreign exchange - 0.6 - 0.6 - 0.6 Acquisition - - 0.6 0.6 - 0.6 June 30, 2019$ 205.6 $ 438.0 $ 70.1 $ 713.7$ 66.5 $ 780.2
(1) Subscriptions and redemptions reflect the gross activity in the funds and
include assets transferred between funds and between share classes.
(2) Realizations represent investment manager-driven distributions primarily
related to the sale of assets. Realizations are specific to our alternative
managers and do not include client-driven distributions (e.g., client
requested redemptions, liquidations or asset transfers).
(3) Other primarily includes the reinvestment of dividends.
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AUM by Distribution Channel Broadly, we have two principal distribution channels, Global Distribution and Affiliate/Other, through which we sell a variety of investment products and services. Global Distribution, which consists of our centralized global distribution operations, principally sellsU.S. and international mutual funds and other commingled vehicles, retail separately managed account programs, and sub-advisory accounts for insurance companies and similar clients. Affiliate/Other consists of the distribution operations within our asset managers, which principally sell institutional separate account management, liquidity (money market) funds, real estate and other privately placed investment funds, and funds-of-hedge funds.
The component changes in our AUM by distribution channel (in billions):
Global
Distribution Affiliate/Other Total
March 31, 2020 $ 317.9 $ 412.9 $ 730.8
Net client cash flows, excluding liquidity 2.2 (6.8 ) (4.6 )
Liquidity flows, net - (5.2 ) (5.2 )
Net client cash flows 2.2 (12.0 ) (9.8 )
Realizations(1) - (0.2 ) (0.2 )
Market performance and other(2) 39.4 20.3 59.7
Impact of foreign exchange 2.0 0.9 2.9
June 30, 2020 $ 361.5 $ 421.9 $ 783.4 (1) Realizations represent investment manager-driven distributions primarily
related to the sale of assets. Realizations are specific to our alternative
managers and do not include client-driven distributions (e.g., client
requested redemptions, liquidations or asset transfers).
(2) Other primarily includes the reinvestment of dividends.
Global
Distribution Affiliate/Other Total
March 31, 2019 $ 339.3 $ 418.7 $ 758.0
Net client cash flows, excluding liquidity 4.0 (2.9 ) 1.1
Liquidity flows, net - (1.6 ) (1.6 )
Net client cash flows 4.0 (4.5 ) (0.5 )
Realizations(1) - (0.4 ) (0.4 )
Market performance and other(2) 11.1 10.8 21.9
Impact of foreign exchange 0.3 0.3 0.6
Acquisition - 0.6 0.6
June 30, 2019 $ 354.7 $ 425.5 $ 780.2 (1) Realizations represent investment manager-driven distributions primarily
related to the sale of assets. Realizations are specific to our alternative
managers and do not include client-driven distributions (e.g., client
requested redemptions, liquidations or asset transfers).
(2) Other primarily includes the reinvestment of dividends.
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Operating Revenue Yield
We calculate operating revenue yields as the ratio of annualized total operating
revenues, less performance fees, to average AUM. Our overall operating revenue
yield, less performance fees, across all asset classes and distribution channels
was 34 basis points ("bps") and 37 bps, for the three months ended June 30, 2020
and 2019, respectively. Our operating revenue yields by asset class and
distribution channel were as follows:
Three Months Ended June 30,
2020 2019
Asset Class:
Equity 55 bps 58 bps
Fixed Income 25 bps 26 bps
Alternative 56 bps 60 bps
Liquidity 15 bps 14 bps
Total 34 bps 37 bps
Distribution Channel:
Global Distribution 37 bps 41 bps
Affiliate/Other 32 bps 33 bps
Our total operating revenue yield decreased over the last year primarily due to
product mix, the shift to lower fee vehicles and share classes and specific fee
reductions. The operating revenue yields for managing equity and alternative
assets declined over the last year primarily due to a shift in the mix of assets
from higher fee to lower fee vehicles and share classes and from higher fee to
lower fee earning affiliates, and specific fee reductions.
Equity assets are primarily managed by ClearBridge , Royce, Brandywine, QS
Investors and Martin Currie ; alternative assets are managed by Clarion Partners ,
EnTrust Global and RARE Infrastructure; fixed income assets are primarily
managed by Western Asset and Brandywine; and liquidity assets are managed by
Western Asset. Assets distributed through Legg Mason Global Distribution are
predominately retail in nature.
Investment Performance
For a discussion of market conditions during the three ended
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The following table presents a summary of the percentages of our AUM by strategy(1) that outpaced their respective benchmarks for the trailing 1-year, 3-year, 5-year, and 10-year periods:
As of June 30, 2020 As of
1-year 3-year 5-year 10-year 1-year 3-year 5-year 10-year
Total (includes
liquidity) 57 % 68 % 67 % 85 % 75 % 83 % 84 % 87 %
Equity:
Large cap 17 % 24 % 13 % 51 % 60 % 49 % 65 % 50 %
Small cap 67 % 73 % 80 % 50 % 74 % 68 % 40 % 42 %
Total equity (includes
other equity) 62 % 62 % 70 % 56 % 61 % 56 % 48 % 52 %
Fixed income:
U.S. taxable 74 % 99 % 95 % 98 % 97 % 99 % 95 % 99 %
U.S. tax-exempt
(includes only one
strategy) 0 % 0 % 0 % 100 % 0 % 100 % 100 % 100 %
Global taxable 45 % 35 % 50 % 98 % 45 % 92 % 86 % 98 %
Total fixed income 62 % 76 % 78 % 98 % 77 % 97 % 92 % 99 %
Alternative 78 % 90 % 79 % 99 % 98 % 84 % 98 % 99 %
The following table presents a summary of the percentages of our U.S. mutual
fund assets(2) that outpaced their Lipper category averages(2) for the trailing
1-year, 3-year, 5-year, and 10-year periods:
As of June 30, 2020
As of
1-year 3-year 5-year 10-year 1-year 3-year 5-year 10-year
Total (excludes
liquidity) 59 % 63 % 74 % 69 % 72 % 66 % 72 % 68 %
Equity:
Large cap 27 % 39 % 70 % 58 % 70 % 42 % 70 % 53 %
Small cap 79 % 73 % 80 % 46 % 75 % 76 % 76 % 50 %
Total equity (includes
other equity) 41 % 48 % 72 % 55 % 72 % 51 % 72 % 50 %
Fixed income:
U.S. taxable 88 % 92 % 92 % 92 % 93 % 95 % 91 % 93 %
U.S. tax-exempt 16 % 8 % 6 % 17 % 10 % 28 % 24 % 54 %
Global taxable 53 % 48 % 43 % 77 % 41 % 76 % 32 % 82 %
Total fixed income 75 % 76 % 76 % 80 % 73 % 81 % 73 % 84 %
Alternative (includes
only three funds) 77 % 77 % n/a n/a 18 % 24 % 0 % 87 %
n/a - not applicable (1) For purposes of investment performance comparisons, strategies are an
aggregation of 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 ofJune 30, 2020 and 2019, approximately 88% and 89%, respectively, of total AUM is included in strategy AUM, although not all strategies have 3-, 5-, and 10-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 managed in the same strategy as separate accounts, performance comparisons are based on gross-of-fee performance. For investment funds which are not managed in a separate account format, performance comparisons are based on net-of-fee performance. Funds-of-hedge funds generally do not have specified benchmarks. For purposes of this comparison, performance of those products is net of fees, and is compared to the relevant HFRX Index. These performance comparisons do not reflect the actual performance of any specific separate account or investment fund; individual separate account and investment fund performance may differ. EffectiveJuly 1, 2019 , comparative benchmarks for certain strategies were added to measure relative performance where a stated benchmark was not previously provided. For comparative purposes, prior periods have been updated to reflect the relative returns using these comparative benchmarks, where applicable.
(2) Source:
funds. As of
represented in the data accounted for 19% and 18%, respectively, of our
total AUM. The performance of our U.S. long-term mutual fund assets is
included in the strategies.
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Results of Operations In accordance with financial accounting standards on consolidation, we consolidate and separately identify amounts relating to certain sponsored investment products. The consolidation of these investment products has no impact on Net Income (Loss) Attributable toLegg Mason, Inc. and does not have a material impact on our consolidated operating results. To the extent we have an investment in a consolidated investment product, the related gains and losses will impact Net Income (Loss) Attributable toLegg Mason, Inc. See Note 16 of Notes to Consolidated Financial Statements for additional information regarding the consolidation of investment products. Operating Revenues The components of Total Operating Revenues (in millions), and the dollar and percentage changes between periods were as follows: Three Months Ended June 30, $ % 2020 2019 Change Change Investment advisory fees: Separate accounts$ 245.4 $ 260.5 $ (15.1 ) (6 )% Funds 347.9 366.8 (18.9 ) (5 ) Performance fees 11.4 6.9 4.5 65 Distribution and service fees 59.9 69.9 (10.0 ) (14 ) Other 1.6 1.3 0.3 23 Total Operating Revenues$ 666.2 $ 705.4 $ (39.2 ) (6 )% Total Operating Revenues for the three months endedJune 30, 2020 , decreased$39.2 million , or 6%, to$666.2 million , as compared to$705.4 million for the three months endedJune 30, 2019 , driven by a$34.0 million decrease in investment advisory fees from funds and separate accounts and a$10.0 million decrease in distribution and service fees, reflecting a 1% decrease in average long-term AUM and a decrease in our operating revenue yield from 37 basis points to 34 basis points, as previously discussed. These decreases were offset in part by an increase in performance fees of$4.5 million , including an increase of$5.8 million in performance fees passed through as compensation expense, partially offset by a$1.2 million decrease in non-pass through performance fees. Investment advisory fees from separate accounts decreased$15.1 million , or 6%, to$245.4 million , as compared to$260.5 million for the three months endedJune 30, 2019 . Fees earned on equity assets decreased$7.8 million , reflecting a decrease in average equity AUM. Fees earned on alternative and fixed income assets decreased$3.5 million and$3.4 million , respectively, reflecting a decrease in the average fee rates earned on alternative and fixed income AUM and a decrease in average alternative and fixed income AUM. Investment advisory fees from funds decreased$18.9 million , or 5%, to$347.9 million , as compared to$366.8 million for the three months endedJune 30, 2019 . Fees earned on equity assets decreased$26.2 million , reflecting a reduction in average equity AUM and a reduction in the average fee rate earned on equity AUM. This decrease was partially offset by increases of$5.4 million and$2.1 million in fees earned on liquidity and alternative assets, respectively, driven by higher average AUM in each asset class, offset in part by a reduction in the average fee rates earned on liquidity and alternative AUM. Fees earned on fixed income assets remained relatively flat, as an increase in average fixed income AUM was substantially offset by a reduction in the average fee rates earned on fixed income AUM. As ofJune 30, 2020 and 2019, approximately 10% and 12%, respectively, of our long-term average AUM was in accounts that were eligible to earn performance fees at some point during the respective fiscal year. Performance fees earned byClarion Partners on assets invested with them prior to the acquisition closing inApril 2016 are fully passed through to theClarion Partners management team, per the terms of the acquisition agreement, and recorded as compensation expense, and therefore have no impact on Net Income (Loss) Attributable toLegg Mason, Inc. We expect the majority of pass through performance fees atClarion Partners to phase out by fiscal 2022. Excluding AUM eligible to earn pass through performance fees, approximately 7% of our long-term average AUM was in accounts that were performance fee eligible as ofJune 30, 2020 and 2019. 43
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Investment advisory performance fees increased$4.5 million to$11.4 million , as compared to$6.9 million for the three months endedJune 30, 2019 , driven by a$7.0 million increase in performance fees atClarion Partners , including an increase of$5.8 million in pass through performance fees, offset in part by a$1.8 million decrease in performance fees at RARE Infrastructure and a$1.8 million decrease in performance fees at Western Asset. Distribution and service fees decreased$10.0 million , or 14%, to$59.9 million , as compared to$69.9 million for the three months endedJune 30, 2019 , primarily due to a reduction in the average fee rate earned on mutual fund AUM subject to distribution and service fees, reflecting a shift to lower fee share classes, and a decrease in average mutual fund AUM subject to distribution and service fees. Operating Expenses The components of Total Operating Expenses (in millions), and the dollar and percentage changes between periods were as follows: Three Months Ended June 30, $ % 2020 2019 Change Change Compensation and benefits$ 353.2 $ 379.8 $ (26.6 ) (7 )% Distribution and servicing 91.3 103.9 (12.6 ) (12 ) Communications and technology 62.4 55.3 7.1 13 Occupancy 32.0 25.6 6.4 25 Amortization of intangible assets 5.5 5.5 - - Contingent consideration fair value adjustments - (1.2 ) 1.2 n/m Other 54.1 52.5 1.6 3 Total Operating Expenses$ 598.5 $ 621.4 $ (22.9 ) (4 )% n/m - not meaningful Operating expenses for the three months endedJune 30, 2020 and 2019, incurred at the investment management affiliate level represented approximately 70% of total operating expenses in each period. The remaining operating expenses are corporate costs, including costs of our global distribution operations.
The components of Compensation and benefits (in millions), and the dollar and percentage changes between periods were as follows:
Three Months Ended June 30,
$ %
2020 2019 Change Change
Salaries, incentives and benefits $ 324.5 $ 341.9 $ (17.4 ) (5 )%
Restructuring costs 1.9 29.9 (28.0 ) n/m
Performance fee pass through 6.8 1.0 5.8 n/m
Gains on deferred compensation and seed
capital investments 20.0 7.0 13.0 n/m
$ 353.2 $ 379.8 $ (26.6 ) (7 )%
n/m - not meaningful
Compensation and benefits decreased 7% to $353.2 million for the three months
ended June 30, 2020 , as compared to $379.8 million for the three months ended
June 30, 2019 .
• Salaries, incentives and benefits decreased
million, as compared to
2019. The decrease was driven by a
compensation at investment affiliates, primarily due to a decrease in
operating revenue at certain affiliates, and
savings from the strategic restructuring. These decreases were offset in
part by a
personnel.
• Restructuring costs of
2020 were comprised of strategic restructuring costs of
affiliate charges of $0.7 million , and merger related costs of $0.1
million . Restructuring costs
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of$29.9 million for the three months endedJune 30, 2019 , were comprised of strategic restructuring costs of$28.7 million and affiliate charges of$1.2 million . The strategic restructuring costs in each period were primarily comprised of employee termination benefit costs, including severance and the acceleration of deferred compensation awards. See Note 15 of Notes to Consolidated Financial Statements for additional information. The affiliate charges in each period were comprised of severance costs associated with restructuring plans at certain affiliates. Compensation as a percentage of operating revenues decreased to 53.0% for the three months endedJune 30, 2020 , as compared to 53.8% for the three months endedJune 30, 2019 , primarily due to the impact of the decrease in strategic restructuring costs, offset in part by the impact of an increase in market gains on deferred compensation and seed capital investments. Distribution and servicing expense decreased$12.6 million , or 12%, to$91.3 million , as compared to$103.9 million for the three months endedJune 30, 2019 , reflecting a shift in average AUM subject to distribution and service fees to lower fee share classes, as previously discussed, and a decrease in average mutual fund AUM subject to distribution and service fees. Communications and technology expense increased$7.1 million , or 13%, to$62.4 million , as compared to$55.3 million for the three months endedJune 30, 2019 , primarily due to$3.3 million of merger related costs recognized in the current year period, primarily related to the printing, filing and mailing costs for the proxy voting related to the Merger, and a$2.3 million increase in technology consulting costs, primarily at revenue-share based affiliates. Occupancy expense increased$6.4 million , or 25%, to$32.0 million , as compared to$25.6 million for the three months endedJune 30, 2019 , primarily due to strategic restructuring costs of$6.4 million , largely related to office space vacated and subleased in the current year period. Other expense increased$1.6 million , or 3%, to$54.1 million , as compared to$52.5 million for the three months endedJune 30, 2019 , primarily due to$19.6 million of merger related costs in the current period, which were substantially offset by reductions in travel and entertainment, conference, and advertising expenses, and savings from our strategic restructuring.
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