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BlackRock, Inc. (BLK)

Q2 2010 Earnings Call Transcript

July 21, 2010 9:00 am ET

Executives

Robert Connolly – General Counsel

Ann Marie Petach – CFO

Laurence Fink – Chairman and CEO

Susan Wagner – Vice Chairman and COO

Analysts

Craig Siegenthaler – Credit Suisse

Michael Carrier – Deutsche Bank

Bill Katz – Citigroup

Marc Irizarry – Goldman Sachs

Robert Lee – KBW

Operator

Good morning. My name is Brandy and I will be your conference facilitator today. At this time I would like to welcome everyone to the BlackRock Incorporated second quarter 2010 earnings teleconference. Our host for today's call will be Chairman and Chief Executive Officer Laurence D. Fink, Chief Financial Officer Ann Marie Petach Vice Chairman Susan L. Wagner, and General Counsel Robert P. Connolly.

All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. (Operator instructions) Thank you. Mr. Connolly, you may begin your conference.

Robert Connolly

Good morning, everyone. This is Bob Connolly. I'm General Counsel of BlackRock. Before Larry and Ann Marie and Sue make their remarks, I want to point out that during the course of this conference call we may make a number of forward-looking statements. We call to your attention the fact that BlackRock's actual results may differ from these statements. And as you know, BlackRock has filed with the SEC reports, which lists some of the factors, which may cause our results to differ materially from these statements. Finally, BlackRock assumes no duty to and does not undertake to update any of these forward-looking statements.

And with that I will turn it over to Ann Marie, our Chief Financial Officer.

Ann Marie Petach

Thanks Bob. Good morning everyone. As we report second quarter earnings, we're pleased with the progress of the integration and the additional capabilities of the combined firm. Since the BGI transaction we've delivered consistently strong results despite market volatility while continuing to re-invest in the business for future growth. Our results have produced strong positive cash flow allowing us to reduce our commercial paper balances to about 180 billion.

Robert Connolly

Million.

Ann Marie Petach

Million. This is down from three billion, where two billion was replaced with long-term debt and remaining reductions funded out of operating cash flow. We are announcing that the Board has approved repurchase of up to 5.1 million share. The purpose is to neutralize the dilutive effect of restricted stocks and options that have been granted to employees. 5.1 million represents the share which becomes dilutive over the next few years. The timing of the repurchases will be at management’s discretion. We’re pleased to reinstate this practice after a pause during the financial crisis and for the BGI acquisition.

As I discussed results I’ll primarily we’d be talking about as adjusted results. Second quarter net income was $463 million, or $2.37 per share. This includes $2.46 per share of operating earnings, and $0.09 per share of non-operating expense. Net income was about equal to the first quarter and was almost double second quarter 2009. EPS was down $0.03 or only 1% from the first quarter despite a quarter in which market declined about 10%. While the swing in the Dow from the March 31st level of 10,856 to June 30th level of 9,774 was not uplifting the point to point measure maps the volatility in the first half of this year. That resulted in an average Dow in both the first and second quarter being almost equal at about the 10,500 level.

At the same time, we’re seeing over 25% improvement in markets compared to a year ago when the June 30th 2009 closed at 8331. The 35% increase in EPS from second quarter 2009 was driven by 59 billion in long-dated organic growth, the BGI transaction, and the market improvements I just talked about. The second quarter tax rate remained at 35% and reflected the geographic mix of the combined company in a period of no unusual items.

As adjusted results exclude pre-tax BGI integration cost of 32 million in the second quarter that’s primarily G&A. Total integration cost to-date have been 267 million and at this point the bulk of this spending is behind us. We’ve provided an estimated range of integration expenditures of 300 million to 350 million at the time we announced the BGI transaction. We presently estimate that aggregate expenditures will come in at about 300 million or less.

As adjusted operating income of 741 million improved 14 million or 2% compared to the first quarter and 439 million or about 2.5 times a year ago. The second quarter operating margin as adjusted of 38.8% reflects early synergy realization and the initial investment to fund future top line growth.

Our margin is on track to align with our 2008 and 2009 margins and to exceed our 2007 margins. We remain committed to achieving synergies as we integrate the business recognizing really full integration is going to extend into and perhaps beyond 2011.

At the same time, we are investing in future growth opportunity, including our iShares business, the defined contribution platform, BlackRock Solutions, Asia, multi-asset plus strategies, and our global trading platform. Our commitment to these and other opportunities gives us confidence in BlackRock’s long term organic growth prospect.

As I discuss revenues and cost, I'll be talking really about comparisons to the first quarter as the comparisons to a year ago get dominated by BGI transaction. Second quarter revenues of two billion are up 2% from the first quarter, reflecting a 2% improvement in base fees, including the effects of average loan balances on secured dealing and one extra day in the quarter.

The improvement in base fees reflects higher index equity revenues of 32 million and stable active equity revenues. Basis points in a single quarter particularly on indexed products are affected by markets to mix of indexed and ETFs and loan balances, which are not even across the euro within the period.

Base fees also reflect a 5% improvement in multi-asset class revenues reflective of what we believe to be a long-term trend in the in the solution (inaudible) investing and I know that that is that as one of our investment areas, as well as the present capabilities. This is offset partially by a 5% decrease in cash management revenues, which is reflected really of the yield on asset class and the resulting redemptions from (inaudible).

Overall, base feed were stable despite a period of instability. Performances fees of $50 million were equal to the first quarter and included $21 million of fees on absolute return products and $29 million of fees paid based on relative performance measures.

The fourth quarter continues to be the primary quarter for annual performance fees lacks [ph], so it’s the one quarter we’d really expect to look different. BlackRock Solutions and advisory second quarter revenues remained strong at 114 million, about equal to first quarter. Revenues and strong pipeline reflect continued appetite for analytic and Aladdin services and continued advisory assignments. The change in other revenue reflects primarily the number of transition assignments and these assignments can vary from period-to-period.

Moving on to expenses. The as adjusted expense rate of the combined firm was 1.291 billion. That’s up 23 million from the first quarter. Compensation expenses of 693 million were actually down about 41 million compared to the first quarter. That reflects primarily the fact that the first quarter in the U.S. is the peak period for payroll taxes, also reflect incentive comps. I’d note that year-to-date compensation to revenue ratio was 35.4%. That’s really exactly in line with historic trends going back to 2007.

G&A expense of 312 million increased 57 million compared to the first quarter. That includes a 12 million first quarter non-recurring benefit related to balance sheet foreign currency effect. Remaining increase reflects 20 million increase in marketing and promotion expense, which includes travel, advertising and promotion and a 12 million increase in occupancy as we retired old space and took on new space to bring the firm together.

Non-operating expense of 28 million represents five million of positive marks on the co and seed investments and 33 million of net interest expense. The total value of the co and seed investment portfolio stands at about $930 million or about $840 million excluding investments, which represent hedges or which are being hedge. This is relatively consistent with prior period.

As I have said before, we do not run any proprietary investments but rather invest alongside our clients or seed new products as required for the base business. Our exposures are aligned with the interest of our clients.

In summary, we are well-positioned to benefit from business trends and are balancing synergies and investments in the business. Given our relatively strong product performance, we are maintaining or gaining share in the long-dated retail business and our institutional business is well positioned for growth as clients become increasingly comfortable with the combined firm. Their confidence is reflected in our $59.5 billion pipeline, which Larry will discuss in a moment. A broad diversity of investment products and risk management tools allow us to support clients’ needs with their knowledge that we are working solely as a fiduciary on their behalf.

With that, I will turn it over to Larry.

Laurence Fink

Good morning. Thanks, Ann Marie. Let me just start up by thanking all our employees for all the hard work and dedication for a very successful cultural integration to become one BlackRock. This is a big milestone. This has been quite a bit of hard work that we've all worked towards this objective and I am pleased to say that much of this is behind us. I can now announce to our shareholders that the merger integration is progressing quite well. Our business momentum is building and we are beginning to leverage our expanded capabilities. I am very proud of the leadership team that we have in place now. I think we have a great platform that I’d like to also talk about.

Last week, and the week before we announced a number of new leadership appointments and a strong new organization and leadership structure to be better prepared for the globalization of the world’s capital markets. We can no longer have all our leadership in the United States, no longer have all our leadership pocketed in London. We need our leadership to be much more spread out, we need to expand heavily in Asia and we need to empower more and more of our functions as we build out to anticipate the changes in the global capital markets as the world become less dominated by dollar-denominated assets and as GDP growth in Asia and South America continues to grow.

And so, much of the cultural – much of the business platform changes is not just related to the merger of BlackRock and BGI but much has to do with the changes that are going on in the economic landscape. In addition, we had to be more prepared to be in the right position in the – what I would call the post Fin/Reg Basel III capital markets. I think this is very important, I think many organizations are going to be impacted by the changes and I’m pleased to say that our business model in the post Fin/Reg Basel III environment is incredibly well-positioned and so some of our changes are in anticipation of how we believe the world would be looking. This took a great deal of time, it took a great deal of leadership focus and the euphoria – enthusiasm internally is quite strong right now. I do believe people are very much focused now and now communicating with our clients and building more and more momentum.

Let me talk about business environment that we experienced in the second quarter, Ann Marie spoke about that quite a bit. Obviously market sentiment changed dramatically from a very positive view of the world through April and then beginning in May we saw a deterioration of confidence, a problem in Europe with sovereign credit, which then caused a deterioration in the global capital markets, a severe market fall, which led in our opinion a dramatic slowdown in high-end consumer behavior. We are a big believer trickle down economics and the wealth effect has had a big impact on the economy and now we’re beginning to see throughout the economies a economic slowdown from the faster phase of the first quarter.

We still remain to be constructive but our clients in the second quarter as we used to see and witnessed in other institutions’ second quarter results, clients did slowdown. Clients in some cases froze from getting prepared to put a great sum of money to work to saying, “Wait, let me just watch what is going on. How do I best prepare as well.” But the reality is despite most clients’ behavior, this low rate environment is very destructive for many clients. Clients have a large mismatch between their needed return on the liability. Low rates are aggravating it. The uncertainty how to invest in higher yielding assets actually aggravates this situation and the conversations we are having with our clients today has never been greater.

Some clients are looking to put more money to work, many clients are now looking to do things related to minimizing risk and putting more money to work in indexing. Some clients are looking to put index money and then hedge fund money to work. So we are seeing varied behavior. If you look at the mutual fund flows, they slowed down dramatically in the end of the second quarter from the faster paces of the first quarter and the second quarter. So we had – we did see a market slowdown.

But what I can say because of these dialogs we are having with our clients, I believe our business model has never been better-positioned to work with our clients. No other platform in the world has the risk management tools, the beta products, the alpha products to have these conversations with our clients.

And so I believe having this platform allows us to have quite comprehensive conversations with our clients. I would also add, I'm going to talk a little bit later related to iShares, I strongly believe that the iShares platform, having an ETF platform, changes the dynamics quite a bit on the beta products. Because of the liquidity afforded in the ETF platform, clients are looking in their asset allocation strategies whether it’s tactically or more of a fundamental strategy, the utilization of ETFs. At having our platform having the ability to do index products, ETF products and coupled with all our alternative products and fixed income and equity products in the fundamental spaces has really given us the ability to encapsulate much more of a holistic conversation with our clients.

We are not going to win all of that business from our clients but we are involved with our clients in these type of discussions. And so we are –our belief about the combination of BGI and BlackRock, the combinations of beta, the intersection of ETF’s and all our alpha products is really coming to fruition.

Let me just pause a moment on performance. I’m very pleased to say our performance in spite of the real volatility in the marketplace and on top of that a large merger integration, our manufacturers, our leaders and the businesses performed very strongly. Our fixed income fundamental team has had extraordinary good performance. All our mutual funds are in the top quartile.

And so we are continuing to build momentum for the future especially in the mutual funds side of fixed income to really build a much faster platform. We still have our three and five year numbers in that area, but I am pleased to say that the performance returns in our equity platforms in our alternatives as evidenced in some of our performances and our equity team especially in our European platform has done quite well and they continue to do quite well through July now.

Let me talk about flows, obviously this is a much more complex story. It’s very lumpy. We witnessed in the second quarter very large inflows and very large outflows. We saw a continuation of dis-synergies due to the merger. We still are seeing some clients who are removing some of the assets un index and other product areas. And so we continue to see these issues and changes. But I am pleased to say we are wining. We had the non-merger, non-scientific equity, non-cash – that’s a big complex sentence, but we still – we saw about $28 billion of organic growth in the long-dated products.

It's important to note about cash – I said this in the last few quarters – as we continue to have low rates, if we continue to have low rates, we are – the money market business is not as competitive as bank deposits. Banks are still offering higher rates than money market funds, but I can say we are witnessing now as banks are building so much cash and now with two year treasuries trading around 60 basis points we are now beginning to see the banks bring down their deposit rates and the competitive arbitrage between bank deposits and money market funds is narrowing.

So, we don’t believe going forward we are going to see the type of outflows and quite frankly we may start seeing as an industry more inflows if two year treasuries continue to trade where they are trading now and if obviously they trade even lower then we're going to see banks are going to have a harder problem offering 30 or 40 basis points for overnight money as a competitive platform versus money market funds.

Let me talk about scientific equities. This is an industry – we call it scientific, the industry calls it quant, this is an area that’s still under duress. We’re still under duress and this is a legacy BGI product. This is an area when we did our merger, we saw the underperformance and so this is part of our merger, dis-synergies that we expected to see outflows and those outflows have continued in the second quarter.

There is less and less assets now in the problem product areas. I should state that our – some of our scientific equity products are actually doing quite well. Certainly in our Asia products, we’re doing quite well. Canada, some of the other areas and Europe are doing very well. So, this is not a story of complete problems this is a story of mostly problems related to Australia where we had a turnover in personnel and we had under performance in the scientific area and a problem here in the United States.

In the fixed income area, our flows are not as robust as our competitors. Much of it has to do with – most of the flows in fixed income has an industry is in the mutual fund area. We're seeing our flows, but we did not have a stronger platform as some of our competitors in the fixed income area. As I said, I am very pleased in our performance year-to-date. Our one year numbers are strong as I said in some cases in the high yield area we are in the top decile. In the core products we are in the top quartile and so we are doing – we’ve done a great deal in terms of restructuring our fixed income platform and we are seeing the benefits and we are seeing the benefits quite – month by month by month. So I do believe we are going to begin to start seeing competitive flows in that area. So, we are – it is a mixed bag, but we believe we are beginning to see more momentum now with the restructuring of our corporate structure and our platform.

Let me just talk about assets. Assets were down 6% as a platform. If you think about how larger our international equity platform is and if you take into account FX, international equities with FX components as a part of it was down over 11%, and so as an assets base down only six compared – I think we did quite well relative to the market and that’s a indication of our out performance relative to the some of the liabilities that we – that we look against. So you have to look at a combination of FX in terms of as we calculate all assets on a dollar basis.

Ann Marie spoke about pipeline. This pipeline doesn't – is masking all the in’s and out’s. The pipeline is a net $59 billion of which $47 billion is long dated. This takes into account – we know of a very large as much of a $15 billion outflow – this is netted – that was a client because of the merger integration where we had over 40% of our assets and – the client is – will be taking out $15 billion in the third quarter and so the $59 billion is netting all the in’s and out’s and so we are starting to see more and more momentum now with that in line.

Let me just talk about our mutual funds. I believe we are continuing to build a very strong platform. We’re the third mutual fund platform in the United States. We’re third internationally. We have a real opportunity to become much larger. We had great – or building a great business in the sub-advisory business in our mutual fund platform. In the U.S we had some very large wins that’s a part – is a part of our retail platform. It doesn’t show up in our mutual fund platform, but it shows up in terms of our interconnection with our clients and that has been – continue to be great.

In our international mutual fund platform we're seeing some very large changes going on. More and more institutions are going open architecture. And then when they first go into open architecture, they open it up to 10 or 15 different third-party providers. As they start understanding the interconnectivity between open architecture and their internal asset manager, in many cases they conclude they have too many outside managers. And in three very large cases in the first six months, three large distribution platforms narrowed their external parties to as few as three firms, some five, in every case BlackRock is one of those providers and so there are major changes going on the distribution platforms.

And we have, because of our scale, because of our products and performance, and most importantly or just as importantly our continuing growth in our brand and our brand recognition, we are developing these very intimate relationships with these distribution platforms. And I do believe it is going to be a very large engine for forward growth as we build out these strong connections.

And I do believe this speaks loudly as we are going to see in my mind the have’s and have not’s very similar to the banking industry and the insurance industry or you are going to have fewer and fewer third-party providers allowed in distribution platforms and so I do believe we will be positioned quite well for that shelf space.

Let me just talk about our ETF platform iShares. We are very pleased to say that our market share has been very strong. Obviously a little lower as more and more participants come in, but much higher than we thought it would evolve to. At the end of the second quarter our market share is approximately 46.5%.

And so we are very excited about our positioning and I do believe lot of our positioning has to do with the dynamics between our iShares team and the institutional and our mutual fund side and I think that represents a very good connective tissue between iShares, our mutual fund team, and our institutional team.

We are – we used to believe institutions are larger component of the ETF platforms worldwide than retail. So when people talk about ETFs and they compare them to mutual funds I think this is not a correct measurement because there are so many new participants and many new institutional clients are using this as a hedge, as a tactical allocation and this is why the connectiveness between BlackRock’s ETF platform and our institutional platform is very important and we are – we are seeing more and more opportunity. I am pleased to say when providers, distribution partners, like Fidelity and Schwab, we have large connective relationships with them as they are trying to build up their platform and we play a big role in their growth.

The other thing that is very clear that we need to continue to invest in our ETF platform to be competitive to offer other products. We believe globally ETFs ere going to become much more dominant, especially in the emerging world, South America, where we are the leading platform and in Asia.

I mentioned branding, but let me just talk about that again. We are spending a great deal of time making sure that our messaging is broad based, it’s global, it’s institutional, it is retail, it is solutions based. And I think we are very pleased with the slow but steady progress in building our brand. And we believe our brand continues to be enhanced by all of the connectiveness. We are extremely pleased with the connectiveness between our iShares branding and our BlackRock branding. We believe both platforms are benefited by the connectiveness of the leading ETF platform of iShares and the growing brand and growing presence of BlackRock.

BlackRock Solutions is having really an exceptional year. Over the last two years during the financial crises much of the revenues were one-timers in terms of solving short term problems for our clients. In 2010, we knew we needed to find replacements in those revenues and we won quite a few Alladin assignments, 40 new overall assignments in our solutions space. We started off the year worried about how can we build upon it. And I can tell you today, we are now worried about do we have the right – do we have enough staffing to handle all of the opportunities.

One of the great opportunities that we're seeing now for BlackRock Solutions obviously, A, is a continuing desire in having world-class risk management tools. Unquestionably financial reform is putting more pressure on risk adjusted returns and then Basel III is going to have a pronounced impact on many of the leading banks in terms of how they navigate their balance sheet. So, we are seeing huge inquiry worldwide in how we could help our clients in terms of navigating Basel III Fin/Reg. And we are in – we have conversations now – and I am not here to suggest, we’re going to win them all, but if we do win these few assignments we are going to have some extraordinary growth in terms of the opportunities in the solutions space.

Ann Marie spoke about the global solutions. We believe more and more clients are looking for multi-asset solutions. We had two large wind in the second quarter, which identified the types of complexity that clients are looking at, one was the Ohio 529 plan, in terms multi-product a combination of institution and retail connective tissue to get this relationship. And then when – where we won a very competitive platform called the (inaudible) of UK which is about 5.7 billion euros, which is multi-asset class, heavily weighted towards sterling based assets. But, it’s an example of the uniqueness of our platform of presenting multi-asset category solutions for our clients. And we continue to believe that the solution based assignments will continue to drive and drive very strongly for our platform.

Let me just talk about – again about our margins. I think there was a lot of concern about our margins after the first quarter. We have been very successful in the second quarter in making sure our operating margins are strong at 38.8%. This is the time in which where we had obviously extreme volatility, negative markets, and yet we had great discipline over the course of the quarter. On top of that our margins stayed strong even with our strong investments.

We are going to continue to invest in Asia. We are going to continue to invest in our iShares ETF platform. We’re investing in our trading platform as we believe scale is going to become a more important component, an identity of BlackRock, and we will continue to build our brand. The other thing that we announced in the last few weeks is a strong build out in our alternative space where we believe we have very large opportunities in building out that platform.

One last thing I would like to just reiterate, which we – Ann Marie discussed and that was our – and that was the Board approving the 5.1 million shares stock repurchase. This is reinstating a program that we had prior to the last two years. We are going to – this is taking an approach that we have those many shares of dilution over the course of the next (inaudible) year. However, it is up to management’s discretion to determine when we purchase these shares and it is fair to say the purchases will probably be more front-loaded in terms of when we actively go into the market place.

I should probably talk about Fin/Reg and Basel III – the president will be signing the bill today. We believe it will have a much bigger impact on the financial landscape than people understand. Obviously there is much to be –there is much information that we still need, much of it is in outline form. But we do believe it will have a pronounced impact on institutions that rely on balance sheets.

BlackRock does not rely on our balance sheet. We believe we have great opportunities in terms of where we are taking this business. In addition, we believe the outcome of a more capital-intensive balance sheet business is going to lead more and more businesses and products to the capital markets. This is why we did the reorganization in terms of our corporate structure because we do believe the growth in the global capital markets are going to be the large outcome as a result of Basel III and the Financial Reform Bill in the United States.

No other firm in the world is as prepared in the terms of products, in terms of footprint to take advantage of these opportunities. And we believe we are in the right position. Our business model is secure, our business model is very—we are in a very good position to take advantage of the flows especially if client need to start doing things with our cash and short-term products. Our performance year-to-date is strong and our solution based model is in intact.

As I said earlier, the leadership changes we made lead me to believe that we have the strongest leadership teams that we ever had at BlackRock and I do believe our leadership team is world-class compared to our peers in any financial services arena.

I want to again thank everybody for a lot of hard work in the second quarter. It was difficult, but I can say today now in the third quarter this is behind us. We have a lot of opportunity in front of us. Let me open it up for questions.

Question-and-Answer Session

Operator

(Operator instructions) Our first question comes from the line of Craig Siegenthaler with Credit Suisse.

Laurence Fink

Hey, Craig.

Craig Siegenthaler – Credit Suisse

Hey, thanks. Good morning, everyone. Larry, may be first if you can help us with regulatory for I am thinking about may be how to build and another issues like money market capital charges could potentially affect the industry and also BlackRock. Then also may be you could talk about if you may need to modify several pieces of the business like the bank holding company in the U.S or the regulated entity in the U.K with the capital charges.

Laurence Fink

Well Fin/Reg doesn’t speak about money markets funds. I mean that’s a separate issue the SEC is working on. We’ve had meetings with the SEC as recently as two weeks ago. The big issue for money market funds will – is going to be how the SEC – do they demand variable NAVs. That to me is a most important issue related to the money market business. In terms of capital charges, our proposal has been to have capital charges that we could build over a number of years that we believe we need to find ways and making sure that money market funds are as competitive as any bank deposits. So, we believe were the industry to go to the next level we believe there have to – we have to have as competitive product as a money market industry as bank deposits. With the FDIC guaranteeing up to $250,000, the deposits now – we need to make sure that we have some form of safety for investors.

And I do believe the shadow NAVs is a good start. I do believe the industry in which we are in favor of having liquidity bank is a very good first step. And so we have a leading position with the market in trying to make sure that we are in front of this, but at this moment I don’t see any real threats to the financial situation related to the money market funds.

In terms of bank holding company and in U.K., we don’t see anything related to Fin/Reg having – or Basel III having any real impact on BlackRock’s business. And so I need to – Craig, give me a little more color as to what specifically are you asking about for us.

Craig Siegenthaler – Credit Suisse

Well, I mean positive I guess no impact from the Volcker on the bank holding company and may be touch on that or – and then may be in terms of kind of a potential positives do you see the ability to win business from any of the institutions that are affected by this, that may be have to reduce their asset management business from the proprietary businesses?

Laurence Fink

Well I don’t, A, we don’t know how long they are going to have in terms of and why they – whatever businesses they may have – that may be restricted or inhibited through these capital charges than to our prohibitions [ph]. So, I don’t think in the near term, it is going to have any demonstrative impacts on any of the banks. I do believe the biggest issue will be how does Basel III impact capital and capital charges.

And what I do believe out of that out growth is you are going to see a reduction in balance sheet, so obviously that’s having a big chilling effect on the economy who is going to be the lenders and how we’re going to do it and I do believe that’s going to lead to more capital market activities. And so that’s how we’re building our platform. We’re having these conversations we believe that opportunistically these are really good things for us.

Craig Siegenthaler – Credit Suisse

Okay. A real quick one for Ann Marie on the short-term assignments, the solutions business, you had a bunch of wins this quarter. Actually it seemed like a pretty high number. Does that set a difficult comp for solutions revenue in the third or fourth quarter some of those run offs is that something you can maintain there?

Ann Marie Petach

I think as Larry mentioned that we continue to see as regulation comes out and given some of the atmosphere in Europe good opportunities. I would also note that in solutions what we are seeing compare to a year ago is actually a stronger mix in the base business because some of the people that we did do advisory work decided to migrate on to the platform and use the full tool set. So, actually if anything our revenue mix in solutions compared to a year ago has a greater mix of the ongoing revenues and a smaller mix of the advisory assignments as compared to one year ago.

Craig Siegenthaler – Credit Suisse

Great. Thanks for take my questions.

Operator

Our next question comes from the line of Michael Carrier with Deutsche Bank.

Laurence Fink

Hi, Mike.

Michael Carrier – Deutsche Bank

Hi. Thanks a lot. Just a quick question on the flows. Thanks for breaking out I think the 34 billion separating that out relative to the kind of core business is helpful. In that 34 billion is there, and I’m just trying to go to you guys give a lot of numbers, is there 26 billion you know that’s related to the quant product and then the remainder would be more related to the dis-synergies related to the merger?

Laurence Fink

Yes.

Michael Carrier – Deutsche Bank

Okay. Okay and then just in terms to the pipeline, I think last quarter the pipeline was at 35 billion and then when we see the results if you combine cash and long-term we are at 30 billion as like outflows. So I’m just trying to understand I know you said as a number, but just from the timing like when we see that 60 billion it's obviously a very healthy pipeline. But from a realization is that – typically realize over the next say, two to three quarters, one to two quarters and same thing just on redemptions like when can those pop up just so we kind can gauge those numbers?

Laurence Fink

Yes. Let me have Sue talk about it.

Susan Wagner

So, Mike, that is a great question. We actually track our agent to try to – to be able to get greater and greater insight on this point. As you might expect that agent non-redemptions is much lower (inaudible) on inflows as a typical matter. So we would typically expect redemptions to occur within the next quarter if they carry over and so – and then inflows can I would say on average over the course of two quarters. And it's very hard across to predict and to give you a sense of will these offset each other in the some timeframe.

Michael Carrier – Deutsche Bank

Okay. Alright, that's helpful. And then I guess just on the investment and the expenses just being higher particularly in G&A, I guess just for Ann Marie is this a good – a fairly good run rate if we strip out that 28 million of G&A that’s related to the merger?

And then I guess just going forward in terms of the new investments you've mentioned some things on the distribution side, products like alternatives. So, I guess where are you seeing the most opportunity for this investment to drive new business growth? And I think you've mentioned the international distribution opportunity. Anymore detail there in terms of which markets and then from a demand prospective which products are being demanded by these new clients?

Ann Marie Petach

Yes. Well, first of all you know I do expect us to continue to invest -in the business. So we will have expenses in certain areas going up as we do that over a longer period of time. At the same time we are going to continue to reach synergies. But that’s not going to necessarily equalize in any period. The important connection is the one you drew which is the connectivity to revenue and our opportunities to really grow the top line and where we see opportunities out. And Larry clearly talked about iShares, where we continue to see that market expanding. We are not necessarily thinking about market share expansion there, but we are seeing more and more opportunities. We are introducing new products and we are continuing to compete there. Define contribution we're again relative to our capabilities, I think historically what we were paying under weigh relative to where we are.

Larry mentioned some great wins in the pipeline – with respect to multi-asset class where clearly we are seeing more and more people and we are investing and really our capability to work together with clients because that’s one of our advantages upside that we can bring with – together with multi-assets to help people solve investment problems.

The next one I would mentioned is because it was part of our leadership announcements really alternatives. I think we continue to have great opportunities within that platform. And then you mentioned geographies where clearly Asia, just from a growing market perspective is a real opportunity as we are seeing some of that realize quickly, for example, in some of our Asian iShares and really that’s where for example our quantitative product is going very well.

However, certain of these opportunities are going to pay off and realize and relatively quickly in revenues while others such as Asia are going to play out over an extended period of time and we are committed to investing in both, both opportunities that will pay off immediately as well as opportunities that are going to had a – well for a long term growth consistent with the growth. Larry, I don’t know if you–

Laurence Fink

I would just add another – pardon me.

Ann Marie Petach

Yes.

Laurence Fink

And we are committed to build out BlackRock solutions and hiring. We continue to see huge opportunities there. And as I said earlier, we actually have shortages of people right on the handle some of the inquiries. And the other thing that we are making large investment and we continue to build out. The pay day for there is going to be about another year from now and that is our trading platform that we are going to build and we are making sure that we can do more of the internalization of our trading. We're looking how we link that up with BlackRock Solutions to provide that to our third-party clients but we are hiring quite a few people and building this out and it’s generating a lot of energy within the firm that we could really truly differentiate ourselves through this initiative.

Michael Carrier – Deutsche Bank

Okay That’s helpful. Thanks a lot.

Operator

Okay. (Operator instructions) Our next question is from the line of Bill Katz with Citigroup.

Bill Katz – Citigroup

Okay. Thank you, good morning, everybody. Couple of questions if I could, Larry, from a big picture perspective you mentioned you talked about capital markets perhaps taken some market share back from the banking system on the other side of the Basel. Can you talk about exactly what you are doing there? Are you building out – is it just trade execution? Is it broker-dealer capabilities, just trying to get a sense of how capital is being redeployed?

Laurence Fink

Well, we are not going to get into the trading business, we're not going to be changing our business model. Now we're building out this more non-dollar-based manufacturing or hiring people in Singapore in credit. We are building more equity teams and so we just build out a larger more robust global footprint. As you know I heard that IPOs in Hong Kong were greater than IPOs in the U.S. this year. So, as you see more and more growth in the equity markets overseas or growth in the credit markets, securitization in Europe is exploding. We are basically dead in the United States. They need to have a much more global footprint, a larger manufacturing platform even for U.S. investors it’s a requirement in the future.

I don’t believe most investors have those capabilities and most investors are not preparing themselves for the changes that are going on. Too many investors are too reliant – or too many investment managers are too reliant on dollar-based assets. And the changes in the world, changes in the capital markets are happening very, very fast. We’re spending a great deal of time getting prepared for that and as they said, Basel III with higher capital (inaudible) is going to lead more and more of the asset finance business is going to be done to the capital markets. You’re going to see more and more corporate buying market growth as banks are going to have less corporate loans. And you’re going to see – as markets expand, you are going to see the growth of the capital markets in the form of IPO’s and in expanded equity markets and we want to be there and take advantage of it.

Bill Katz – Citigroup

And that’s helpful, thank you. Second question I have is another big picture question there. The Vanguard VC guide into the I guess ETF business a little bit more pronounced with a pretty low fee product in the S&P and then recently iShares lowered its fee rate on its gold – in the – gold portfolio in the U.S. Are these one-offs or do you think that there is potential for pricing pressure in ETF business collectively?

Laurence Fink

Well, on the gold funds, basically I can't speak about Vanguard per se and I can’t speak about our motives behind the gold fund. First of all, I would say if you look at the results of the gold ETF business, first mover receives a very pronounced advantage. The SPDR’s gold product was launched before the iShares gold product. It had a ten-to-one in terms of assets, 50 billion versus our five, essentially 40 versus our four and we – you know we needed to find ways to be more competitive and in that product it made a lot of sense for us to lower the fees where we believe we can get a bigger slice. That product is much more of an institutional product and we believe we have strong relations with the institutions especially some of the institutions are largest owners of that product. So we did this strategically more than with that product not as a statement about price wars.

Related to the S&P product of Vanguard, Vanguard is our biggest competitor in ETF space. They are doing a great job and yet despite all of the power of Vanguard and all the new announcements of new participants in the market we believe because of the intellectual capital of our team, the product generation of our platform, our first mover position and our business proposition in terms of service we provide our clients, the customized work we are doing even with in some cases higher fees we still have a 46 plus percent market share in the world and so we pay attention to pricing, we pay attention to all those issues but we believe we’re in a very good position to prosper as ETFs become larger and larger.

Bill Katz – Citigroup

Okay, thank you. That’s perfect. And then just one last question just trying to counter-balance the near term pressure on margins versus synergies and then sort of a sustainable margin, so look out another year or so may be get past some of the investment spending you tick off four or five different areas, what do you think the right margin for your company is, is it still that 38%-39% or is there room for some of that to lift as the AUM start to build?

Ann Marie Petach

Certainly with market growth on top of organic growth, I would say that we can look for potential margin expansion. At the same time I think just in balance we remain more committed to top line growth and organic growth and growing the business than really running the business in order to save cost. So I guess I will continue to get the right balance and take out cost every where appropriate and then that may indeed translate to some improvement but not at the expense of the top line.

Laurence Fink

I would say though it is our view if we do our job right that we get it alright. We continue to have the investment performances that we are having –experiencing now across the platform. We – the investments we are making in alternatives start paying off in terms of growth in alternatives. I would say most certainly our margins will expand.

Bill Katz – Citigroup

Alright, thanks for taking all my questions.

Operator

Our next question comes from the line of Marc Irizarry with Goldman Sachs.

Laurence Fink

Hello, Marc.

Marc Irizarry – Goldman Sachs

Hey, Larry, how are you? It’s on the non-US distribution. It sounds like there are some favorable changes in terms of the way the landscape of distribution is playing out overseas. Can you just discuss how far off you are from seeing a real pickup in flows outside the U.S. and may be just how the model is serving you now versus what you would expect over the coming quarters?

Laurence Fink

I would say, A, the – we are developing deeper and deeper relations with the distribution platforms especially in Europe and yet with the market copulation in Europe with the sovereign credit issues flows in Europe did slowdown. And so, we’re not seeing the flows but our presence, our position is – we are in the right space, we are in the right position and our performance is good so I think probably the most important think I can say, Marc, when the market does start stabilizing and we start seeing a real growth in long-dated assets we have never been as prepared in terms of being in the right position.

And so that’s what we are doing now. We’re investing, we are building strong relationships. We continue to believe and hear from our distribution platform that we are becoming one of the key strategic partners and so as and we’re investing in those platforms and when those flows pick up from where they are today we will be a large beneficiary.

In Asia, we continue to do the same thing and are continuing to build connectivity with the local distribution platforms. We still have a very dramatic position in Taiwan working with our strong distribution platforms and so all I can say is we are building this connective tissue. Our iShares platform in Asia is the leading ETF platform that is giving us greater connectivity with more players than we have ever had in legacy BlackRock. And so we are building a platform to be prepared when those flows are there.

Marc Irizarry – Goldman Sachs

Okay great and then you talked about the quant duress. Can you give us a sense of how much the scientific or the quant product, what the size of the AUM is there now and how do you think this sort of quant duress that we are under when do you see that sort of having [ph]?

Laurence Fink

Assets are under $100 billion now of which about $37 billion, $35 billion is U.S. and that’s were a lot of the duress is. As I said the other product areas are not – they actually have done quite well. And so we've done a lot of leadership changes there. We have reached out to a lot of the clients and this is an area that we are intensely focused on and in some of the non-U.S. scientific, because we are actually seeing some modest flows. So – but it is a product industry wise it is under a lot of duress. And it’s a product for the last few years as an industry that is under performing and as a product that before that had seven years of pretty good performance and so in many cases there are some disillusioned investors.

Marc Irizarry – Goldman Sachs

Okay. And then just in the multi-asset class portfolios look like – you’ve had some big wins there and some of the insurance outsourcing mandates. Can you talk a little bit about what the pricing is like there and when you look out to the pipeline what are those sort of map portfolio, what is sort of the pipeline look like for map portfolios?

Laurence Fink

Yes, we are having some very large conversations with some large players whether it’s fiduciary outsourcing in Europe, a few very large insurance companies in Asia and Europe. So, we are in pretty advanced conversations with a lot of these institutions. But, as you know this business is very lumpy. But, we’re pretty confident that we’re going to win our share in this business. Fees really is a function of the scale of the assets that we win and in terms of the – and the types of products. It could range from anywhere from eight basis points to much higher. So, it really depends on the complexity of the assignment and what we’re doing. And in many cases, it’s also connective and this is where we have an advantage, it may be connective to BlackRock Solutions. And so Equitable Life [ph] is a good example where it is a solutions based assignment and they are taking to – they’re going to be using a lot in.

Marc Irizarry – Goldman Sachs

Okay, great. Thanks.

Operator

Our next question comes from the line of Robert Lee with KBW.

Laurence Fink

Hey, Robert.

Robert Lee – KBW

Hey, good morning, everyone. Thanks for taking my question and I apologize if you went through this earlier in the call, I jumped on a little late. But capital management, I mean, obviously I know you’ve announced a share repurchase and early in the year you had a nice increase of the dividend, but now that you’ve pretty much chipped away your outstanding short term debt I guess that’s about a 180, your cash generation is pretty big, can you kind of update us on how you’re thinking about it going forward and how that repayment is probably receding in terms of near term importance? I mean, are you targeting a certain type of dividend payout ratio and as you kind work through the integration with BGI, how you thinking about acquisitions on a go forward basis?

Laurence Fink

A, we’ve always had a target and this is a loose target around a 40% dividend ratio. So, we’ve always had that approximate guide post and we’ve try to work around that. I mean it is not set in stone, but it is a guide post that we’ve always looked at. And we look at share repurchase and dividends to be a part of what we should be doing for our share holders. There is no question that we are going to be generating much more cash and depending on capital needs associated with financial reform or capital needs associated with money market funds or capital needs associated with Basel III, if any, we don’t know how anyone will be impacted yet and as I said we think we are in very good standing but we – depending on all those uncertainties which we’ll know obviously over the course of the next six months one should assume that we will be either reviewing subject to Board conversations and approval our dividend policy and/or we may review our share repurchase policy.

In terms of mergers, we are going to be opportunistic in terms of mergers related to our solutions-based business. If we can find data providers and/or technology enhancements we will be – we will continue to look at that and we will continue to be opportunistic there. There are many orphan ETF type full set of approaches to over the course of the year. In many cases we’ve walked away from many conversations as we were just trying to absorb our merger. And as our merger integration is behind us now, we have a little more flexibility. So we will look at some orphan ETF if they make sense. And so we will continue to do that.

In terms of any large scale merger related to asset management, I would say that would be highly improbable. I don’t believe we need to do that. And I believe we have a platform in place that is unmatched, unrivaled by any other institution and now what we – and we are making those investments to making sure that we are prepared. And so I think we don’t have to do anything large scale and we are not even considering anything of that consequence.

If we seen and opportunity in some of the emerging countries though in terms of an asset management platform that may help us as we grow our manufacturing. That could be a possibility, but that would be probably something very small based. But so I think it’s fair to assume that we will be generating a lot of cash and we will be actively looking, working with our Board in terms of dividend policies and share repurchase.

Robert Lee – KBW

Okay. Alright, thank you. And a question on what (inaudible) described me and I will call it the legacy institutional fixed income of BlackRock. Just trying to get a feel for how that business is going I mean to the extent you’ve had – I guess and I have trouble parsing through because you’ve I think broadly in the industry generally I think institutional fixed income business and kind of a net gatherer of flows industry wide. I mean it kind of feels like – and I know this is related to the merger that may be you haven’t gotten what I will call your fair share in that. Could you maybe kind of update us on how that business is going?

Laurence Fink

Yes. I think it’s – the merger did slow down our growth in term of fixed income. I do believe our 2008 performance hurt. And then we did the restructuring of the teams. And that slow down inquiry. I can't say that the dialog we are having now is very positive. We are having stronger conversations with the consultants now, with our clients, and we are winning incremental business, but we are – we have lost some fixed income business due to mergers to restructuring and so we are seeing some lumpiness. I would say more of the institutional flows are in the short end of fixed income not in the long end. I would also say most of the flows are more in the mutual fund side as an industry and fixed income.

And so I think it’s no mystery where all the money is sitting. It’s sitting in the short end as evidence of a two-year note sitting around 60 bps. And so I think more and more money is just sitting there waiting to be redeployed whether it’s in the equities, alternatives or long-dated fixed income. And we do know many insurance companies are sitting with large pools of cash. They are not aggressively investing here and so you know – but I think it’s fair, Rob, to say that the merger integration slowed us down and the changes we made in 2009 with our leadership team in fixed income, people are watching us, and – but I can say today that we are having some very positive dialog and I feel very good about that.

Robert Lee – KBW

All right great. Thanks for taking my questions.

Laurence Fink

Okay.

Operator

With that we have reached the end of our allotted time for questions and answers. Mr. Fink, are there any closing remarks?

Laurence Fink

No, I would just say, as I said hopefully clearly in my presentation the – when we did our first quarter results we were in the midst of our merger immigration and now I can say very loudly to all our shareholders, to our employees that the hard work is behind us. We have a great leadership team, a great structure in place now. And I feel very fortunate to be leading this organization with the team that we have in place. And I believe we're in a good position now to really take advantage of the opportunities this platform has; it’s very unique and very different. With that, thank you, and I will speak to everyone in a few months. Thank you.

Operator

This concludes today's teleconference. You may now disconnect.

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Source: BlackRock, Inc. Q2 2010 Earnings Call Transcript
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