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Call End: 10:16

Invesco, Ltd. (NYSE:IVZ)

Q3 2008 Earnings Call

October 29, 2008 9:00 am ET

Executives

Martin Flanagan – President and Chief Executive Officer

Wilbur Ross – President and CEO of W.L. Ross

Loren Starr – Chief Financial Officer

Analysts

Dan Fannon – Jefferies & Co.

William Katz – Buckingham Research

Craig Siegenthaler – Credit Suisse

Ken Worthington – J.P. Morgan

Jeffrey Hopson – Stifel Nicolaus & Company, Inc.

Cynthia Mayer - Merrill Lynch

Mike Carrier - UBS

Robert Lee - Keefe, Bruyette & Woods

Michael Kim - Sandler O'Neill

Marc Irizarry – Goldman Sachs

Unidentified Company Representative

This presentation, and comments made in the associated conference call today may include statements forward-looking statements. Forward-looking statements include information concerning future results of our operations, earnings, liquidity, cash flow and capital expenditures, industry or market conditions, AUM, acquisitions, debt, and our ability to obtain financing or make payments, regulatory developments, demand for and pricing of our products and other aspects of our business or general economic conditions.

In addition, words such as believes, expects, anticipates, intends, plans, estimates, projects and future or conditional verbs such as will, may, could, should, and would as well any other statement that necessarily depends on future events are intended to identify forward-looking statements.

Forward-looking statements are not guarantees and they involve risks, uncertainties, and assumptions. There can be no assurance that actual results will not differ materially from our expectations. We caution investors not to rely unduly on any forward-looking statements and urge you to carefully consider the risk described in our most recent Form 10-K and subsequent Form 10-Q filed with the Securities and Exchange Commission.

You may obtain these reports from the SEC’s website at www.sec.gov. We expressly disclaim any obligation to update the information in any other public disclosure if any forward-looking statement later turns out to be inaccurate.

Operator

Welcome to the Invesco's Third Quarter Results Conference Call. (Operator Instructions)

Now I would like to turn the call over to the speakers for today Mr. Martin Flanagan, President and CEO of Invesco and Mr. Wilbur Ross, President and CEO of W.L. Ross. Mr. Flanagan, you may now begin.

Martin Flanagan

Thank you very much and this is Marty Flanagan, I'm here with Loren Starr and Wilbur Ross, and so thanks for joining us today for the third quarter results. I'll be speaking to the presentation which is – all of us will – which is available on the website if you're so inclined to follow. I'm going to give a brief business overview. Wilbur's going to talk about some of the developments during the third quarter which we think will be of interest to you and Loren will go to the financials and then, of course, we'll open up the Q&A.

You really can't start any of these conversations around earnings without recognizing the extremely difficult environment we're in and all of us recognize this. What we do everyday we're in unprecedented markets and with the economists predicting just continued challenges as we look forward out of all of this. So, clearly, the rising tide of bad news really prompted unprecedented cooperation between governments and central banks around the world. And here in the United States, policy makers and marker participants really focus and I think very precisely to try to get the credit markets functioning again. A number of us in the organization give some – providing some input. The point being we really thank that the plan has been laid for some improvement there in the credit markets and what the Treasury done – what the Fed has done has really been, I think, ultimately very important to us.

We also saw TARP past and helping up to shore up the financial system and again, I think, those are the types of steps that we need. All of this I strongly believe, this type of cooperation, the work between regulators, governments, and key market players is going to create a strong foundation. So we will have the special recovery that we all need. That said, however, we all recognize we're in a very, very challenging market environment.

Since we've began these calls, I have shared with you my confidence in the strength of Invesco's operating model and the environment that we're living today and what we're experiencing is clearly demonstrating the benefits of an independent global asset management firm. And in a moment I'll highlight also how our relative investment performance has never been stronger across the institution and it's really the capital strength, our stability, and the disciplined approach that we've taken to these market challenges. And this put us in a position we've largely avoided, the credit liquidity problems that have impacted a number of other financial institutions.

And our broad diversification really enables us to provide our clients with investment solutions that they're looking for. The stability that people are looking for in this market place from the safety and stability and things like stable value to some real opportunities that are emerging in stressed investing through Wilbur Ross and his team and it's really this ability of our firm to offer these investment capabilities around the globe we think, is what's again going to serve us well as we move through the – ultimately come out of this very difficult period.

In spite of this, through September, which we would have already have characterized as a challenging market. We have very solid investment results and we think it's our single focus on investment management broad diversification remain a real strength of the firm and we're going to continue to seek opportunities to improve our competitive position during this market downturn, and really this – we've done for last three years. I want to come back to our active focus on operating more efficiently, more effectively as it served as well through this period and will continue to. We've streamlined operations and moved to low-cost centers and doing all those things over the last few years. We’re going to continue to do that. There’s a little question about that and in this current environment, we are also going to have a renewed sense of urgency to drive down costs wherever possible, but at the same time ensuring that we can improve our competitive position during this period. So as a result, we believe we’re in a better position in this challenging environment and maybe a number of other financial institutions.

Taking a look at the summary of the results for the quarter, the quarter did reflect the – what was the challenging market environment. Assets under management ended up at $409 billion consistent with the market movements around the world and depreciating equity markets. The dollar being also challenged global asset managers such as ourselves.

That said, now, net outflows of long-term funds improved during the quarter and what was a very difficult mark for cash products we really had some very strong performance in that asset class which is very topical during then. The operating profit margin was 32% during the quarter versus 35% the prior quarter and as we’ll discuss later and we did at the end of last year, we have been taking a prudent approach to these markets being very disciplined in expense management, and we’re going to remain very focused on managing costs during this period, but not at the expense of what we think is the ultimate future growth of this organization.

And again, the other thing that we’re going to do is right now in this environment with the uncertainty is continue to be very prudent with our balance sheet and our cash. As we mentioned in the last quarter, we’ve always used free cash flow to review some credit facilities and buyback stock.

During the quarter we paid down a credit facility $50 million. We did buy back $100 million of stock last quarter. Our cash balance has increased to $740 million in the quarter, but in this environment, we’re going to be very prudent and in the short term don’t expect stock buybacks until there is greater clarity as we look forward.

In the second quarter, the second quarter dividend is $0.10 and is consistent with what we’ve announced in the first two quarters.

Let’s move on to quarterly flows. Gross sales of long-term loans climbed 13% during the quarter but also redemptions improved by 23% and as a result, net outflows were $3 billion and given the upheaval in the money market industry we experienced during the quarter, our cash business continue to show quite a bit of resilience in what was a challenging period for the money funds. Despite really significant pressure in the short term credit markets and the industry-wide redemptions and the prime money funds in particular, our money funds continue to operate very normally and maintained the net asset value of $1 per share and throughout the entire liquidity and credit crisis, our money fund portfolios have not experienced any credit downgrades and all the portfolio holdings continue to be rated in the top tier categories. And again, I really just recognize Karen and Kelly in the fixed income team. They’ve been working very, very hard and just did a tremendous job during this period and really seen the strength of the whole fixed income capability in this marketplace.

If I take a minute to talk about flows by channel. Although we had net outflows during the quarter, retail and institutional categories both improved quite a bit. Net outflows improved in the retail channel and this is largely driven by improvement made in Invesco Trimark. Private wealth management continues slight net inflows during the quarter and the institutional net outflows improved during the quarter due to the one up outflow we talked about in the prior quarter, the second quarter, but we are seeing continued interest and things such as stable value and alternatives and we'll come back to that in just a minute.

What I would like to highlight is if you look at the investment performance highlights table, you can really see investment performance. This has very strong relative performance across the institution and as best I can tell it’s broad and strong this institution has ever seen. Both Invesco Aim delivering strongest relative performance I've seen since the year 2000 and Invesco Trimark discipline coming back very, very strongly during the period. Invesco Perpetual continued to be strong with 75% of its assets ahead of its peers on 1, 3, 5-year basis and a global product range which is the offering that's sold into Asia and to Europe as top work performance in some of the key core asset categories that wished they’ve never seen before as broad as they have. The other area of real strength is the fixed-income team where we leading MDS capability and performance tops amongst peers over 1, 3, 5 years, top performing in any bond offering and again, continues strength than the money bond performance. And if you take a look at overall performance, obviously, it’s the most critical things we do as an organization and the most important judges of what we’ll be our future success and as you can see at September 30th, 73% of all of our assets are beating peers or in the top two category against peers.

We then turn to investment performance. We’ve made quite a change in presenting it to you. We want to give you a better sense of how we are doing, and so we’re really enhancing the investment performance overview, and if you’d take a look at the first chart you can see what we’re focused on our 15 – 14 different categories of investment management capabilities, and presenting both how we’re doing against indexes and how we’re doing against peer groups. In the blue bars on the left are the assets in excess beating the benchmark, and on the right, the green and the blue bars are how we are doing against peer groups. And as you can see, we have some literally outstanding performance, I think, such as US core strength and growth, the US value was the intrinsic value management capability which I've seen challenges in these markets. We feel very good about the strength of that team. The other area that I would highlight if you look at fixed income again, just on money funds, US fixed income, and global fixed income, again, very competitive investment performance.

An area that I would want to spend a little more time on is – because it’s been a focus, one of the key areas of investment performances, the Invesco Aim performance and as you take a look at the Morningstar ratings over the last number of quarters, at September 30th, 57% of the mutual fund ratings within the complex are 4 or 5 star-rated funds, and that’s substantially from the prior quarters and again a very, very important driver of future success.

The other area that was of interest is relative Trimark performance. And as you can see on the quarter, 99% of the assets are beating peers, 81% near-to-date beating peers, and the longer term performance much stronger than it was just a quarter ago. So it really shows what does happen in staying dedicated to your discipline. And again, looking at some of these broader categories were some of these flagship funds in the US, the Aim charter fund, Aim mid cap core really top quartile, top decile type of performance and it's those types of things we think that when this market turns, our strength will be shown.

Taking a look at the diversification of the firm, again it comes back to the stability of the business in a very challenging environment. There is really no place to hide in the quarter. There’s little question about that, but it is this relative world where we were challenged. It’s really the more narrow firms that are facing even a more challenging environment than what we are.

If you look at the broad diversification and sources of strength of the firm it's one that few can really match and we think that during these challenging times it's going to set us apart. It allows us to be very, very focused on our clients. Largely, half of our clients are retail, half institutional. It’s an opportunity for us to build deeper, stronger relationships during this market and again if you look at diversification by the client base, 40% of the clients remain outside of the United States and non-US business continues to be quite an opportunity for us, and a very broad diversified range of products.

So, moving on to what have we been doing to improve our competitive position during this period. I’m going to stop here and introduce Wilbur and have him talk for a few minutes just on some of the things that he’s helped in driving just recently. So Wilbur, if you don’t mind.

Wilbur Ross

Can you hear? Is mute on?

Martin Flanagan

Wilbur, maybe – is your mute button on? You want to – Let me – I’m going to get started while Wilbur dials back in the phone. He got knocked off. So I apologize for that.

Some of the areas that during the quarter – one of the really important wins was Invesco Perpetual was awarded the Edinburgh Investment Trust which is a large trust onto itself. $1.8 billion mandate. It is really one of the oldest, most prestigious investment trust in the UK. It’s just a fantastic win in this market.

The other area that we’re feeling again, really great, great improvement is – and strength is the fixed income business I talked about. The money fund area, the mortgage bank security area, and really the mini-bond area – all areas of interest in this market place as we’re seeing it right now.

Wilbur Ross

Hey, Marty, I had gotten knocked off for a second. It's Wilbur.

Martin Flanagan

Okay. Alright, good. Wilbur, so I’ll turn it over to you.

Wilbur Ross

When we joined forces with Invesco in October 2006, one of our hopes was that there would be some real synergies between existing activities at Invesco and ourselves. And the recently announced joint venture with Huaneng Power pretty much confirms that. Huaneng, as you may know, is the largest electricity company in China and is the third largest in the world. And Marty and I and some others were there a few weeks ago and announced a joint venture which is the creation of the venture that we’ll invest in energy infrastructure throughout China. That’s a 50-50 venture with Huaneng and we have hired as the point person and excellent individual called Xiamen Xin (ph 00:20:02), who had been the managing director of China Light and Power, a Hong Kong company which is the most successful independent power producer in China. In this way that this whole venture came about was that historically, Invesco had had a money management, a conventional portfolio management venture with Huaneng, have quite a huge amount of billions of dollars of capital under management from Chinese institutions including the central government invested in the Shanghai and Shenzhen markets.

So, it’s really building on that original venture that we’re able to create this new product line and we’re very, very excited about it because it’s another step toward having us evolve into a more broadly-based private equity fund. We’re obviously not running away from the distress phase that’s still very much our core that we believe that there are other aspects of private equity and infrastructure to which our skill sets can apply.

They have a lot of experience restructuring distressed electric utilities until that will help us out coming over here along with Invesco's skills. Invesco has been running very successfully in open market investment fund, in infrastructure companies throughout Asia. So this is the first of what we hoped will be a whole series of very fruitful intellectually interactions as between ourselves and the rest of Invesco and so I could not be happier of what this confirmation that one of the underpinnings of our original transaction is now proving to be true.

Martin Flanagan

Great. Well, thank you Wilbur, and Wilbur is going to remain on the call and we’re going to turn over to Loren and then we'll open up the Q&A.

Loren Starr

Great. Thanks, Marty. Let’s move on to a review of the asset roll-forward for the three months ending September 30th. During the quarter, as Marty mentioned, we had net outflows of $3 billion but this was a $3.2 billion improvement compared to Q2 and as we spoke a lot earlier, the institutional money market outflows in the quarter were $8.1 billion.

We also saw a decline in markets and effects decreased our asset levels by $40.6 billion during the quarter and therefore as a result, we finished September with $409.6 billion in AUM, a decrease of 11.2% since June 30th. Our net revenue yield, excluding performance fees declined by about 3.1 basis points in the third quarter. Again, that was based on the market driven changes in our asset mix and again given the deep market declines that we’ve all seen since the end of September as we done in the past, we think it's probably prudent just to mention that we expect our net revenue yield to decline again this – so again net revenue yield excluding performance fees could probably decline by a similar amount that we saw in the prior quarter somewhere at 3 to 4 basis points potentially.

So, let’s now move to operating results and that forecast is really with respect to the fourth quarter. The next – moving to operating results, you’ll see that our total operating revenue declined 11.6% during the quarter again driven by markets but also foreign exchange which accounted for about 2.5% of the decline. So within that number, investment management fees were down 9.8% versus prior quarter. The decline again explained by lower average AUM, shift in asset mix due to market impact. Again, this is – the market particularly affects our equity AUM which tends to have a higher net revenue yield. And in fact, our equity AUM has a percentage of total AUM fell from 45% in the second quarter to 42% at the end of the third quarter.

One bright spot, performance fees came in higher than our expectations at $18 million. Over half of these fees were generated by our quantitative strategies business which continues to deliver very strong investment performance. The remaining amount came from several other investment areas of the firm.

Service and distribution was down 9.7% in line with our lower mutual fund asset level and other revenues decreased by 18 million and this was due to lower real estate transaction fees, front-end commissions related to the sales or retail funds in the UK and also PowerShares revenue from the QQQ.

Moving on down the slide you’ll see that our total operating expenses for the quarter came in at $632 million. That’s a decline of 9.1% versus Q2. Similar to what we talked about for revenues, foreign exchange accounted for about 2.5% of that decline. Part of the number that we were talking about for expenses employee compensation decreased 6.6%. This is largely due to reductions in our variable compensation. Third-party distribution, service, and advisory declined by 9.8% in line with lower investment management fees and service and distribution fees. Marketing was down 8.9%. Again, a result of lower levels of marketing support payment and fewer promotional expenditures.

Property, office, and tech fell 9.3%. This was largely due to a non-recurring downward adjustment in our rent costs for subletting office property that was $3.5 million. One should not expect that to recur into the fourth quarter.

G&A decreased 16.5% in the quarter. This included reductions in legal expenses, is about $5 million as well as in fun expenses and other discretionary spending such as travel. The G&A line item is one that I think is roughly in line with going forward although we would hope that G&A is an area that we can continue to manage down.

Below the operating income line, equity earnings and unconsolidated affiliates decreased by 16.7%. Results of the market impact on our Invesco Great Wall China joint venture. At the end of September, the joint venture had about $7 billion in assets under management which we own about 49%.

And although we have higher cash balance on September 30th than June 30th, the primary driver for the decline in interest income was lower average yield in the third quarter. Interest expense declined slightly on lower average credit facility balances and rates during the quarter.

The gains of consolidated investment products was largely offset by the minority interest of consolidated entities. As we’ve discussed in the past, these two line items results of the accounting of – which is FIN 46 which requires us to consolidate certain of our entities that we manage.

The other thing worth discussing, other losses in the quarter came in at $10.4 million. This included the recognition of an unrealized loss of $9.4 million related to our co-investment on some of our CLO products. This unrealized loss was primarily driven by an increase in implied discount rates and longer dated payback periods that are assumed in our valuation models.

Our effective tax rates after minority interest was lower than normal. It decreased to 27.2% level for the third quarter. Included in this tax rate was a $9.9 million benefit which reflected the exploration of the Statute of Limitations of the tax matter that we previously reserved for under FIN 48. Due to similar statute explorations, we could realize additional tax benefits for the next few years could be another three years that we see similar patterns. We expect the effective tax rate to return, however, to approximately 32.5% in the fourth quarter assuming a relatively status quo business environment which is not easy to imagine. So in anyway, finally EPS came in at 33% that was $0.08 lower or 18.8% lower than Q2.

So with that, I’m finished and I’d like to turn over to Marty if he has some final comments before we go to Q&A.

Martin Flanagan

Thanks Loren. Obviously, a very, very challenging market environment but in this environment, again, we are just underscoring Invesco’s focus on its competitive strengths: independent asset management, broad diversification, global depth and breadth. And we are very mindful of the environment we're in. A real sense of urgency and we'll be very, very thoughtful in managing costs. What we have been doing is to continue what we’re doing, but again we want to use this time to improve our competitive position and all in all we did a very solid set of results in a very challenging market. And I’m going to stop there and open up the Q&A for anyone of the three of us.

Question-and-Answer Session

Operator

Thank you. (Operations Instructions) Our first question today comes from Dan Fannon of Jeffries.

Dan Fannon – Jeffries & Co.

Good morning guys.

Loren Starr

Hi, Dan.

Dan Fannon – Jeffries & Co.

Question on the performance fees, you said about half has come from your quantitative products, can you give us some color on how those products have fared thus far in October and then also talk about some of the other segments that are contributing to about that $9 million in performance fees?

Loren Starr

I think the investment performance for our quantitative strategy group continues to be strong; again it's a very volatile market so I hate to draw any trend line. So I would not want to lead you to believe it's going to occur again in the fourth quarter. That group does pay quarterly performance fees though. So if performance were to remain at the levels, it is a potential that we'll see more performance fees in the fourth quarter. The other areas that generated performance fees for that group I think included, we'll just see here – We had some coming from real estate and I think we have some from the UK as well. Our land investment center. So it's really several groups that were contributing to the other half.

Dan Fannon – Jeffries & Co.

Okay. And then, can we also just talk about the last kind of three weeks or thus far in October, we've seen, you know there's been various commentary about redemptions that now close, can you talk about how – what you guys have seen in terms of activity with your funds throughout the various segments?

Loren Starr

It's really – I'd love to give you some definitive answer but there's a lot of activity that tends to happen at the end of the month and so if I tell you something based on where we are today it could change just within days or two. So I think it's probably something that to wait before we sort of give people events of where it's going to end up for the month or for the quarter.

Dan Fannon – Jeffries & Co.

Okay. And then lastly here, what is the size of your CLO investments and how should we look about potential further write downs or marks in that segment?

Loren Starr

Well, after this most recent write down we have, I think, roughly $20 million left in our equity investments or they maybe $21 million based on the most recent write down that we had, we would not expect further write downs unless the market got materially worse than where it is today. So hard to say what is going to happen. Again, the market has been slowed down considerably for these types of products so the observable kind of inputs that we normally look at to judge devaluations are much less apparent now. So we're really being driven somewhat by model and that really is what's driven the most recent write down based on assumptions of cash flows being delayed and pushed out and higher discount rate.

Dan Fannon – Jeffries & Co.

Okay, great. Thank you.

Operator

Thank you. Our next question comes from Michael Kim of Sandler O'Neill.

Michael Kim Sandler O'Neill

Hey, guys. Good morning.

Loren Starr

Hey, Michael.

Michael Kim Sandler O'Neill

Just to start off, are you guys seeing any signs of kind of institutional investors maybe starting to pull back in terms of putting new money toward private equity or other alternative investments just given kind of the performance issues across the industry and perhaps maybe starting to reallocate back toward more traditional equity or fixed income strategies?

Martin Flanagan

Yes. This is Marty and again, I think it's the institutions have to be very, very discrete about their asset allocation, what they're trying to achieve, and continues to be an area for us where we are very much – where the interest areas. It is in areas like private equity. It isn't real estate. It isn't quantitative portfolio. So a lot of those things are still of interest. I would probably suggest that decisions will be slowed down. But, again, we're not in the game of some of those areas that you've seen or heard about being very, very challenged. So it is very – for us we still look at as an ongoing part of strength for us as an opportunity for us in this organization.

Michael Kim Sandler O'Neill

Okay. And then more specifically, can you maybe just give us an update on your outlook for flows in the alternatives bucket for the fourth quarter and maybe if Mr. Ross could give us some color on where he is in terms of investing the latest fund and how quickly you guys may come to market with the follow-up offering?

Martin Flanagan

Yes. Let me talk about just the flows and again it's so difficult to – one can make forward information as a challenge. We just not practice it. We do and I just think it's once we got in the alternative before, it was really hard to talk about pipelines because they're private offerings and as you know you can't talk about those. So we're not trying to dodge the questions we've – or we can't talk about it as we're not the private offerings and again in real estate we continue to see real interest, GTAA, global asset allocation, multi-strategy. Those are areas where we are continuing to see continued interest from the expansion and the like, and dominant in foundations.

So, again, I think it's such a cautious time that I think we all should just expect this business to be slower than what they would have been in the past. And I think most of the institutions' asset allocation have been now challenged because of the steep fall off in the equity market. So the RASP allocations have just been knocked out and they need to readjust them. But I'll stop there and Wilbur will clearly talk about his investment, where he is in that.

Wilbur Ross

We're about 30% invested on WLR recovery fund for and slightly less than that on the India Fund. We have been fairly bearish about the economy and about values to date and therefore we've been wanting to keep quite a little bit of powder dry. In terms of the WLR recovery for our principal holdings have come in to the financial services space most specifically the mortgage servicing where we acquired American Home Mortgage Servicing, we acquired Option One and then we acquired a few smaller pieces from other entities and that business has been progressing at least in line with budget and will very shortly announce a quite extensive refinancing of this advancements.

As you probably know, mortgage servicers when the underlying homeowner goes into default, initially the mortgage servicers when the underlying homeowner goes into default, initially the mortgage servicer makes the advance. It then becomes the most senior and most secured lien on the property and so when the homeowner brings himself current or when the properties is foreclosed and sold, that money comes back. We have about $1.2 billion of advances out and I’m happy to say this week we’re completing the refinancing of the related bank funds.

So we’ve had a little bit of first-hand experience with – of rolling over credits in today’s market and our lenders have been quite supportive largely because management performance has been quite good in terms of its book of servicing business. So that’s the largest single investment that we had in terms of when we could come to market with another fund, as Marty said under SEC rules, we can’t say things that specific but like most funds, our partnership documents preclude us from coming back to market with a new fund until we’ve invested or committed 70% or so percent of the existing fund.

Michael Kim Sandler O'Neill

Okay, that’s helpful. And then just finally on the expense side of the equation, do you feel like you may not have a lot of flexibility in terms of cutting costs going forward just giving the amount of streamlining that you’ve already done in the last couple of years or do you still feel like there are areas that can be scaled back relatively quickly?

Martin Flanagan

I mean –and that’s really what we’re dealing. We’ve been at this for three years and I think we’ve shown the progress we’re making so I guess at one level the low-hanging fruit is not there but we are continuing on the path and this is not a new effort for us. We are still on the path of dropping our per unit cost reduction. We’re going to continue very focused on that, but at the same time we’re very, very disciplined on discretionaries and we have the responsibility of us to do.

But the other element is you can’t cost cut yourself to success and I think that’s really what you're seeing too from Wilbur’s comments and we are – the organization just hasn’t dried up. There are – you see the relative investment performance that we have on the traditional long side along with the strength that we have in alternatives. We are dealing with clients. They’re going to make the decisions.

But as I said that range of – it's really the benefit of the broader client-base from retail investors to institutions to the global nature of the firm that again, we want to be in our front foot in a very challenging market, but again, I just want to be clear, we will be very responsible where we can save money we're going to save money in a very uncertain time.

Michael Kim Sandler O'Neill

Okay. Thanks for taking all my questions.

Operator

Thank you. Your next question comes from William Katz of Buckingham Research.

William Katz Buckingham Research

Okay, thank you. Good morning. Just sort of following up on that expense discussion I might. Marty mentioned that sort of well-positioned to take advantage of what’s going on so I presume that reflects other companies that might just now be starting some headcount reductions and feeling that maybe deeper earning segregation. So as I think about your statement, are you talking more now just amplifying the marketing and spending side of things and/or maybe looking from an acquisition perspective to leap frog to a bigger platform?

Martin Flanagan

Yes. Right now I’m speaking of the organic opportunities that we have as an organization. It probably from – at one level where we've got the firm the depth and breadth of the operation and the performance is sort of an investment – a skill set or a performance to get opportunity that we’ve not had before so broadly as a firm.

So that’s first and foremost and there’s a broad decline phase and that’s the first protocol. With regards to M&A, it's unclear what’s going to happen out there and I’ve said the same thing that we said in the past is that our first dollar is going back into the organization. We’ll continue to pay attention and if it makes sense for the organization strategically but also financially, we will pay attention. But again, we think we have things to work with right now as an organization, but again, we are not naïve enough to put forward the notion that in this market right now you’re going to see huge inflows. But if you’re a believer that this too shall change, this is an opportunity.

William Katz Buckingham Research

That's helpful. And then, let's play devil’s advocate with you on capital management for a moment. Your balance sheet seems like it's in pretty good order. Certainly the earnings have come down in line with the market environment but it seems like your strategic positioning is going up. So if you think long-term, and that sounds like you’re doing, I understand why you would slow down the buyback and not withstanding the deep market impact. I'm still trying to understand your return on investment discussion more so than just in the introverting impact.

Martin Flanagan

Yes. And I think, I can’t argue your point and we’ve been having a conversation internally and as you would imagine and we think the better part of (inaudible 00:43:30) at the moment is it’s been such an uncertain period and bullets have been flying from you didn’t know where they were coming from. The wiser thing to do until there’s a little bit more transparency of where the world is going is patience is a virtue. But again, we understand your point of view and it doesn't go beyond us also.

William Katz Buckingham Research

This is the one last question if I may, just in terms of the money market business and maybe you could lump in your stable value bucket as well. Some of your competitors have seen some very strong organic growth sort of coming out of all this uncertainty. Just sort of wanting if you could discuss the competitive positioning of the business and how you see that going on a go forward basis and specifically if you could sort of talk to any issues in terms of the guaranteed investment sideline with stable value.

Martin Flanagan

It has been – what a world we're in the last six weeks or whatever has been – I start from our competitive positioning and it’s a strong business for us. They've just done one heck of a job and I think that’s a very, very good place to start. It is a business of – if you’re doing as a sideline business it's not worth it and I think that’s what people are sort of realizing. The future of the business I think is it’s an important part of really the financing environment. And I think that is what everybody has learned through this period of time but it has been an area that I think all of us in the industry are paying attention to, to make sure that the virtues of it are clear and again I do think people will reassess if it is the right thing for them as an organization.

William Katz Buckingham Research

Alright, thank you.

Operator

Thank you. Your next question comes from Ken Worthington of JP Morgan.

Ken Worthington – JP Morgan

Hi, good morning. To follow up on a previous question, to what extent does the poor environment for hedge funds spill over into the alternative real estate business? I am not sure if they are getting lumped into the same bucket at all or if they really are considered distinct by your customers, and you had mentioned that a number of real estate products were being launched in the coming couple of quarters, are those launches still going to occur?

Martin Flanagan

Again, I can just talk about our direct experience. Our experience has been continued, a real interest in the real estate business. It’s a very good team with a very good track record and institutions in particular still seem very interested in having the exposure so our experience has been that it has not been sort of lumped into the MEPRA hedge fund world and it’s an assay class that people want in their portfolios so we look at it as a continuing strength of this organization but again I think all of this, there are real opportunities and as Wilbur talked about there’s real buying opportunities in the stress world and ultimately with what we have done in China that Wilbur just spoke about, these are real opportunities but again I think you do have to temper what you think would have been the success to just lengthen a little bit like that, I think that’s the smartest thing for us to be thinking.

Ken Worthington – JP Morgan

Okay thank you, and then thank you for the new performance disclosure. It’s really helpful. The hole seems to be in the U.S. value franchise, what are your thoughts there?

Martin Flanagan

The manager and the team is a very strong team. They are an intrinsic value manager and their style has clearly been one that has been challenged in this environment and again we think they are talented and we have confidence that their performance is going to come through.

Ken Worthington – JP Morgan

Okay, thank you very much.

Operator

Thank you. The next question comes from Craig Siegenthaler of Credit Suisse.

Craig Siegenthaler – Credit Suisse

Good morning. Sorry, guys, but one more derivative question on the expenses but just coming from a different angle, when you think about one of your biggest variable expenses which is distribution expenses and really when you look at it as a potential revenue it’s kind of flat to punch, maybe that’s not the best way to look at it but I’m just thinking here with sales down probably faster than AUM, how do you really look at this ratio? And again this is expenses relative to AUM, trying to go over the next few quarters, do you see it improving here? Because actually it deteriorated during the bull market and a lot of that was replaced by higher fees in terms of fee rate on the revenue side.

Loren Starr

Craig, I think in terms of distribution expenses, they will generally move in line with acid levels and sales, and so I would expect that you would see that line item effectively move in that pattern. So, there may be some lags in terms of how that shows up quarter to quarter but that is the general trend so it should be variable to kind of the business activity that we are seeing.

Craig Siegenthaler – Credit Suisse

But as a ratio of expenses to revenues, I guess you think that should over time be flat, maybe a little bit volatile here, but you don’t see any let’s say secular changes in that ratio?

Loren Starr

And you are talking about distribution revenues or total revenues when you say that?

Craig Siegenthaler – Credit Suisse

Expenses relative to distribution revenues.

Loren Starr

Because distribution revenues, it’s a little bit of an apples and oranges comparison because the distribution of expenses are obviously what we pay our distributors. The distribution revenues are really reflective more of the U.S. business more than anything else because it reflects the 12B1 revenues coming in and many other of our retail businesses do not have 12B1 fees so you will see for example in the U.K. and Canada most of the revenue, there is no distribution revenue, it’s all within the management fee, so the ratio itself that I know people like to look at is one that I generally don’t look at because I don’t think it’s actually informative.

Craig Siegenthaler – Credit Suisse

Got it, and on prior calls and meetings you’ve talked about kind of two thirds, one third, meaning two thirds of your expenses are fixed cost, one third is variable, and that is after some of the cost cutting or cost improvement in management over the last two years, if those ratios hold up and we are looking at AUM could be down 25% in the fourth quarter just due to October and maybe a little bit less thanks to this fixed income nature base, how can you I guess suggest the fixed cost item? There is back office, certain area systems, less travel, things like that to reduce, but how can we think about that two thirds of the number being reduced?

Loren Starr

I think as in the past, obviously when revenues go down, expenses can move down as quickly. There is a variable component so within our expenses and the two thirds, one third is probably still roughly in the right territory, trying to chip away at the fixed expenses it is the obvious areas that we would be looking at. We continue to look at whether it is rent or property costs, you know, as an example and the other part is more fixed salaries and other things. I mean we have been working on this as Marty said for the last three years.

I think we are going to benefit from the activities that were put in place over these last three years that will allow our fixed expenses to decline over time and hopefully make more of our expenses variable than fixed, so it is going to be those two primary areas that we are going to continue to look at in terms of trying to affect the fixed line but they aren’t saying that you can do in a quarter very easily so those things do take time and again the one benefit is that we have been working on it for the last several years.

Craig Siegenthaler – Credit Suisse

Just one other question on the power shares, I didn’t actually hear any news on them recently. I am wondering if they are focusing their product launches now in a conservative based product that could well in this market and also where did AUM finish for this fund and how are flows for power shares overall in the third quarter?

Loren Starr

I think on the last part, power shares has continued to have positive flows ever since we bought them or they became part of the firm, and so I think that again is a positive trend for us. The number of product launches have become fewer and there has been still an emphasis of the international side more than the domestic side where we have many offerings so I think right now it’s been sort of promoting what we have got as opposed to putting up new products and making sure that they are competitive. I think you heard recently that some of our footsie products were recently, the pricing was reduced, I think it was 11 footsie products and we think that is going to position those things competitively going forward.

The total assets I think are roughly in the $10 billion, $11.7 billion, thank you, $11.7 billion is total AUM.

Martin Flanagan

But what I would add on power shares is where the team is taking it and I think it’s a real opportunity for the future. It’s really moving much more into providing solutions and if you look at the latest ones, the more absolute allocation type ETFs which I find very interesting, you talk about what might the world look like and to me it’s finding solutions for people and the structure of ETF with best allocation capabilities, one that we think is going to be in time, prove itself to be a very good thing.

Craig Siegenthaler – Credit Suisse

Right. Thanks for taking my questions.

Operator

Thank you. Your next question comes from Robert Lee of KBW.

Robert Lee - Keefe, Bruyette & Woods

Thanks. Good morning, everyone. A couple of quick questions, first one the large mandates for the Edinburgh Fund Investors, does that fund in Q3 or is that expected to fund in Q4 or coming quarters?

Loren Starr

That came in Q3.

Robert Lee - Keefe, Bruyette & Woods

Okay and I apologize if you went over this. I had to step off the call briefly but if I look at the stable value business, you had some flows there and you I guess understand why in the current environment you might hopefully continue to see flows there, but some competitors have had issues with obviously performance and one large competitor I believe is probably having trouble retaining some of the insurance companies that they claim are stepping away from the market, are you seeing any challenges in that business with some of the raft providers saying they just don’t want to do it anymore, it’s not worth it, and that will make it hard to grow that business?

Martin Flanagan

Again, from my point of view, hats off to the fixed income team. They’ve just done a heck of a job and when you look at as you pointed out what a lot of people look at is the book to market ratio and it’s very strong, industry leading, so we have had a good experience with our raft providers and again we think we are going to be one of the solutions in that world.

Loren Starr

Right and just a point, we have had positive flows and it continues to be an area that is growing, not shrinking for us, and we maintain our very strong market position in that area so yeah, we feel well positioned and we can certainly compete and have not had issues with our insurance providers.

Robert Lee - Keefe, Bruyette & Woods

Okay great, and if I could maybe just go back to Capital Management for just, I want to make sure I kind of cross all the T’s and dot the I’s, if I remember correctly you do have some debt that matures in 2009, I don’t remember the precise amount, could you maybe update us on that that is? I think maybe it’s later in the year but what your current thoughts may be around that and as that relates to try and I guess build cash levels, is there a thinking of maybe actually accelerating some debt reduction, or is really just want to build cash and see how things land?

Loren Starr

Okay, yes, we do have $300 million that is coming due at the end of the year and so – sorry, at the end of 2009, forgive me. I’m already into 2009, trying to get past this year, so it’s December of 2009. So what our approach is there is I think we want to have flexibility to pay that down at the time, you know, should the market still be in a sort of challenged period so that is part of our thinking. We do have a credit facility. It’s $900 million that we could always access as well, which matures in March of 2010 so it provides another layer of flexibility with respect to the payment there. On our credit facility right now, we have about $172 million. Our expectation is that over the course of this year and into ’09 that we can bring that balance down so where we are positioning right now is obviously one of some prudence, given how volatile the equity markets are in our assets that we want to be not in a position where we are having to make some tough decisions on that debt.

Robert Lee - Keefe, Bruyette & Woods

Okay and maybe a follow-up question, are there any kinds of covenants on the facility or any of the debt offerings that given the pressure on assets, even early in the quarter, while still obviously things have to shake out that you are getting it all, thinking about or concerned about tripping to some degree?

Loren Starr

Rob, happily no. Absolutely not. Whatever the covenants are, we are so far away from those that it’s not an issue.

Robert Lee - Keefe, Bruyette & Woods

Alright, great, that was it. Thanks, guys.

Operator

Thank you. Your next question comes from Jeff Hopson of Stifel Nicolas.

Jeffrey Hopson – Stifel Nicolaus & Company, Inc.

Thank you. The flows in Europe and Asia I guess were better than I might have thought, any quick thoughts on what is happening in those markets that is helping you relative to the dire environment right now?

Loren Starr

I think in Asia, obviously it’s been challenging and in Europe as the markets, you know, our product position has been good in those markets, particularly in let’s say Europe, some of the products that were doing very well were the commodities, agriculture, you know, the things that were very nitchy and so as Marty mentioned the products that we have right now are sort of core, sort of all weather types of products are performing very well, so I think we are positioned as well as one can be in the current market environment. Asia as well, I think we have very strong performance relative to our competitors. Again, the markets themselves have been quite up and down but we have sort of avoided I think the very nitchy types of products that have suffered badly.

Jeffrey Hopson – Stifel Nicolaus & Company, Inc.

Great, thank you.

Operator

Thank you. Our next question comes from Cynthia Mayer of Merrill Lynch.

Cynthia Mayer - Merrill Lynch

Hi, good morning. Just a couple of follow-ups. On the power share fees, I’m just wondering if there, what the outlook is for further fee reductions and how do you avoid making that a race to the bottom in terms of fees?

Martin Flanagan

The products that Loren was talking about were very clear and very separate than the whole line up so we don’t think it’s the beginning of sort of a fee cutting war and it’s just not a war that we plan to participate in and again it’s always been the thing that attracted us to power shares is it’s pitch wasn’t we’re listed index fund, that’s the cheapest one around, and it’s really the solution notion, and I think that’s really where we are. I think the product offering is as mentioned just a few minutes ago I think it’s really getting to a very good spot.

Cynthia Mayer - Merrill Lynch

Okay and just going back to your talking about one, if you gain share on things, what’s top priority? Where do you see the best opportunities and what is your thinking on money markets, do you want to get a lot bigger in money markets or are you comfortable with the size you are in?

Martin Flanagan

On the money markets themselves, again the team has shown they are very capable and we expect that business will grow for us and that is a good thing. And I don’t have a narrow answer to your question because again if you just look at the opportunities in front of us right now, they are quite broad and strong and the broader retirement market in the United States is a focus area and one that we are working very hard at right now and from our floor institutional business to the performance of the core long only product where the DC component to those plans is very attractive right now and then again looking into the alternatives world with Wilbur’s leadership in the areas that he has been leading are strong, again with real estate (inaudible 01:02:04). So it’s really pretty broad based and I wish I could be more narrow but this is just not what we are seeing at the moment.

Cynthia Mayer - Merrill Lynch

That’s fine. Good to have options. The other thing is just last follow-up, it’s on performance fees, can you remind me what your performance fee AUM is, what percentage of your AUM receives performance fees and what percentage of that is payable in 4Q?

Loren Starr

Cynthia, the number of assets that we have that actually pay performance fees are probably in the $20 billion-ish range, it’s not a significant part of our total assets under management. The areas that typically provide them that you have seen in the past have been in the U.K., the trusts in the U.K. and those tend to be centered on the first quarter and the fourth quarters. We have IQS, or Invesco Quantitative Strategies which you saw showing up in this quarter which does pay quarterly and beyond that we have private capital, Wilbur Ross, but those are areas that are probably more in the future than in the past and harder to predict when they show up and then you will have real estate on occasion showing up with performance fees as well, so I would look at our history, really to give you as best a sense of what to expect going forward as opposed to giving you a number, which it is very hard for us to predict these things internally but there probably is some pattern on the first and the fourth quarter at a minimum.

Cynthia Mayer - Merrill Lynch

Great, thanks a lot.

Operator

Thank you. Your last question today comes from Mike Carrier of UBS.

Mike Carrier - UBS

Thanks, guys. Hey Marty, just one question, more on the strategic side, given the turmoil and you don’t want to focus too much on the near term but a lot of times during times of stress and crisis, sectors or industries change and some players can kind of emerge stronger than they were during or even prior to the crisis so when you kind of look at what is going on in the current environment and you look at like equity returns over the past ten years at least in the U.S., are you seeing anything from clients, I know it’s very short term right now but in terms of just indications of different products, whether it’s on the retail or the institutional side, or in the U.S. or outside the U.S., and just potential shifts whether it’s allocation or product shifts over the next couple of years, and if so how do you think you are positioned for that?

Martin Flanagan

You are exactly on the right question and what are we doing as an organization? We are looking at this, you haven’t gotten the message very, very clearly as an opportunity for us to come out the other end of this much stronger than we’ve ever been as a firm and it’s really been this last three years of building a broader, deeper, stronger firm globally in multichannels that is going to give us that opportunity and whether it be from sort of the cash side all the way to the stress investing; we think those are the opportunities. So there is no real clear direction right now but I think you are exactly right on the point, I’d rather be where we are than a lot of people from the standpoint of we have been working on improving the business for three years. The depth and breadth of the performance is strong and as deep as it’s been and we are moving forward in the environment and we are absolutely paying attention to the near term challenges/opportunities and we intend to take advantage of them as we see them, but a specific question to this is the answer, I don’t have it. I think it’s going to be multiple of them.

Mike Carrier - UBS

Lauren, just on the tax rate you mentioned it goes back up to 32.5, it sounds like you are still working on that tax planning or more efficiencies over the next couple of years, just trying to get a sense over the next couple of years is getting to like a 30% rate still like something that is achievable? I feel like a lot of companies are now saying that at least in the U.S. on the state side, every state is trying to raise tax rates because they need additional revenues, so just trying to balance that environment versus what you can do on the tax planning side.

Loren Starr

And I think we know for certain that there are certain reductions in country tax rates that we are going to benefit from in 2009 and so we will have a full year worth of reduction in the U.K. that went from 30% to 28% as opposed to three quarters. In Canada, they have gone from 33% down to I think low 30’s so these are things that we are going to benefit from, which is completely independent of anything we are doing and so on top of that we continue to work on tax planning, just normal straightforward things that most global companies do, so I do feel that we have great opportunity to continue to lower our tax rate over time and so I think the 30% level over the next two years is potentially achievable as we continue to see the mix within our businesses being roughly what it is today and barring any obviously significant changes in tax rates in other countries.

Mike Carrier - UBS

Okay, thanks a lot.

Operator

Thank you. The final question comes from Marc Irizarry of Goldman Sachs.

Marc Irizarry – Goldman Sachs

Great, thanks, Marty it seems like you have got a lot of areas of performance improvement and my interpretation of what you have going on in the product side is maybe looking to GTAA, Multi-Strat, and potentially power shares as a way to sort of stimulate the top line if you will, maybe in a tougher environment, is that sort of the right way to think about the strategy A), and then B) if you look at the redemption rates they have obviously been coming down here. Can you just speak to that as well?

Martin Flanagan

You are exactly on that point, and also the other thing, even when you have a core product, too, that’s a top decile performer, one, three, five years, those are the types of things that get into platforms and this is when platforms start open up their minds again when there has been a storm and ships have been knocked around, and that is exactly what we are looking at as an organization and the redemption rates, again it is a function of a number of things and being more effective as an organization, being more effective in dealing with our clients and you can’t minimize the performance improvement. I’m really reticent to make any predictions if you want to call it post September 30th, I mean it’s been such an incredibly challenged month but that said, I think our relative positioning is pretty strong so I would think that on a relative basis our redemptions are going to still look pretty darn good.

Marc Irizarry – Goldman Sachs

If Wilbur Ross is still on the line, if I could just ask, hey how are you, just a couple of questions. Can you talk about your expectations for the pacer capital deployment and sort of how you see that happening and then maybe you could talk about the mark to market of the portfolio currently?

Wilbur Ross

Well, mark to market, our compliance people don’t really want us to talk about, because as you know all of our stuff is private placement but since we are only 30% invested, even if there were a negative mark of some sort it doesn’t amount to much relative to the overall committed funds. In terms of the capital deployment, we would target first quarter of next year as being a very big period for capital actually being deployed first calendar quarter of next year, there are some investments that will be deployed fourth quarter of this year but we see first quarter of next as particularly big, given where we are with back log and with negotiation.

Marc Irizarry – Goldman Sachs

Okay great, thanks.

Wilbur Ross

Our fees as you know are based on committed capital rather than deployed capital, than the capital committed to the funds as opposed to capital committed by the funds into investments and our fees therefore do not get mark to market, if we have unrealized depreciation or for that matter depreciation in an asset, it does not change the basic fee and the performance fees are based on actual realization, not on mark to market and that’s what makes them lumpy.

Marc Irizarry – Goldman Sachs

And if you do end up putting out capital quickly and having positive returns and returning capital to investors rather quickly, is your strategy to raise up the next new fund or would you actually recall, hold onto investor capital and recall the capital if you will?

Wilbur Ross

Well the way our partnership documents work is during the four year investment period, we repatriate all earned income and all realized gains quarter by quarter but we reinvest the original principle. After the four year investment period, we repatriate 100% of all realization so it really depends where we are in point of time. At present we have two funds that are open in terms of being in their investment period that there will be a lot of recovery three and there will be a lot of recovery four, and then we also have a available capital in our India fund, so in the aggregate we are about as liquid as we have ever been.

Marc Irizarry – Goldman Sachs

And then as far as other raise ups in more partnership vehicles, what is sort of the LP appetite out there right now?

Wilbur Ross

I think it’s pretty good. The biggest issue that the LPs have been having is most of them by edict of their boards put alternatives as a certain percentage of the portfolio so as the open market and stuff has gotten whacked, they are having to go back to their boards or in the case of some of the state funds even back to the state legislature to get relaxation of the percentages and as far as I know none of our investors have had trouble getting their percentages raised because logically the fact that some other segment is underperforming is certainly not a good reason to divert funds from private equity.

Marc Irizarry – Goldman Sachs

Great, thank you.

Martin Flanagan

I want to thank everybody for their time. It’s obviously a challenging time, an important time, and I appreciate your engagement and I want to thank my colleagues Loren and Wilbur for the call, and we will be in touch soon. Thanks very much.

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Source: Invesco, Ltd. Q3 2008 Earnings Call Transcript
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