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Legg Mason, Inc. (NYSE:LM)

Q3 FY08 Earnings Call

January 30, 2008, 8:30 AM ET

Executives

Timothy F. Munoz - Sr. VP, Head of Corporate Marketing and Communications

Raymond A. Mason - Chairman and Outgoing President and CEO

Mark R. Fetting - Incoming President and CEO

F. Barry Bilson - Sr. VP

Charles J. Daley Jr. - CFO, Sr. VP and Treasurer

Analysts

Craig Siegenthaler - Credit Suisse

William Katz - Buckingham Research

Michael Hecht - Banc of America Securities

Cynthia Mayer - Merrill Lynch

Dan Fannon - Jefferies & Company

Robert Lee - Keefe, Bruyette & Woods

Douglas Sipkin - Wachovia Capital Markets, Llc

Operator

Good day ladies and gentlemen, and welcome to the Legg Mason Quarterly Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session, and instructions will follow at that time. [Operator Instructions]. As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's presentation Mr. Tim Munoz. Mr. Munoz you may begin sir.

Timothy F. Munoz - Senior Vice President, Head of Corporate Marketing and Communications

Thank you, and on behalf of Legg Mason, I would like to welcome all of you to our conference call to discuss operating results for the fiscal year 2008 third quarter ended December 31, 2007.

This presentation may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are not statements of facts or guarantees the future performance and are subject to risks, uncertainties, and other factors that may cause actual results to differ materially from those discussed in the statements.

For a discussions of these risks and uncertainties, please see the sections called risk factors and management's discussion and analysis of financial conditions and results of operations in the company's annual report on Form 10-K for the fiscal year ended March 31, 2007, as well as management's discussion and analysis of financial conditions and results of operations in the company's quarterly reports on Form 10-Q.

This morning's call will include remarks from the following speakers; Legg Mason's Chairman, Mr. Raymond A. "Chip" Mason; Mr. Mark Fetting, President and Chief Executive Officer; and Mr. Barry Bilson, Senior Vice President of Finance, who will discuss Legg Mason's financial results. In addition, following a review of the company's quarter, we will then open up the call to questions.

Now, I would like to turn this call over to Mr. Mason.

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

Good morning. This, as many of you know has been a difficult market for Legg Mason and the markets in general. Legg Mason takes several challenges in this quarter. Our biggest challenge continue to be underperformance and particularly a number of our key managers, and outflows in certain managers and products. It's been some underperformance and liquidity support. Despite these challenges, we were able to maintain a strong assets under management team and held earnings relatively steady if you adjust for the liquidity support. This speaks to the strength of our managers and diversified business model.

Let's talk for just a minute about the markets that we went through in the quarter. The global credit prices continued throughout the quarter. Volatility of the equity markets, as all of us know remained constant and continued throughout the quarter. The U.S. dollar declined to record levels during the quarter, $1.50 of euro versus the dollar, which was the lowest level since the year was introduced in 1999.

And oil hit a $100 a barrel which was a record. Commodities in general were at record highs during the quarter. In the side down to actually here, in some of the markets you get a little bit better feel to as we approach February. The fiscal second quarter GAAP adjusted for liquidity funds, the quarter sequentially was basically unchanged. When you adjust for the liquidity charge or roughly $23 million and/or $0.16 a share, the net income dropped to $155 million and would have been without the support of $177 million, which is basically unchanged year-over-year and quarter-over-quarter.

And again with the liquidity support, diluted earnings dropped to $1.07 when you add back to $0.16. Again, fundamentally unchanged year-over-year and quarter-over-quarter. Our cash earnings per share somewhat similar dropped to $1.42 when you add back a liquidity charge, you come back fundamentally unchanged pretty much in line with what we have been reporting over a period of time. And our cash income, $205 million adjusted, it would have been $228 million.

So the numbers, although down for the adjustment for the liquidity charge have held up surprising well during these market periods, which certainly, I guess, have treated, some well have not treated us as well, principally based around our performance.

Our assets under management ended year... the quarter at $998.5 billion, which would be a decrease of about 1%, $13 billion from last quarter, which was $1.012 trillion. $4 billion of that was market depreciation, and $9.1 billion was outflows. Fixed income had inflows of $2 billion, liquidity was basically unchanged of $500 million, but the equity outflows were $10.6 billion. And they continue to be affected by negatively... by relative underperformance in several of our key products. Not all, some of them continue to do well.

And as I have indicated in the past, our primary problem remains performance in some of our key managers, which have little to do with the Citigroup and Citigroup integration. That have to do with key managers that were part of Legg Mason all along and not having their finest hour. In performance, managers have consistently over the years had stellar performance.

The equity outflows continue to be an area of focus. There are several products and managers that continue to perform well. Certainly, had strong performance and strong flows, continue to build their U.S. Institutional separate account business with new mandates. Royce has over 99% of its fund assets beating the Lipper category average for the trailing one, three and ten-year time periods.

The Legg Mason emerging markets trust, which is run by battery March, is top decile versus the Lipper category for one, three and five-year time periods. Fixed income had difficulty in the quarter as they have in most of this year. Global credit issues continue to have an impact, although their long-term track record remains very strong. They have come back... we have come back from periods of substantial weakness before and to give you an example in this six-month time period in the Enron, World Com issues, which I guess today look mild as we look back relative to today.

The underperformance that unfolded from that was negative 350 basis points. Six months later the out-performance was 500 basis points. Legg Mason partners managed muni funds, which is a large segment in our... in the municipal bond business. Our largest muni fund is $3.1 billion, and the two key managers were finalists in the fixed income through the year versus the Lipper category. They were trailing one year as the second, as in 2%, second percentile to third percentile for trailing three and then trail in 10% of the trailing prize, obviously outstanding numbers. International side of the appetite for international investments remain high, our assets under management domicile that outside of the United States, continues to grow and be focused.

Liquidity support... we remain committed to support the liquidity business. We took actions to reduce the ABCP, which was held by three, which is the asset backed commercial paper held by three liquidity funds. We enhance the funds liquidity and supported two funds that were rated, and funds in shareholders incurred no loss. The cost of support, which we recorded was $23 million, which is the $0.16 per share that we recorded in the quarter. We will continue to review our exposure and will support the funds as appropriate.

We had a recent announcement that we were raising capital, which we believe and many-many others have complimented us on what they thought was a very smart capital raise. We raised a $1.250 billion with the sale of 2.5% convertible senior notes. They were purchased by KKR. We looked at various options and we truly believe this was the best option for our shareholders and for Legg Mason. Should be accretive to earning, and the reasoning behind this was to strengthen our balance sheet and particularly our cash. Our cash now stands at all time highs.

We added flexibility to what we can and will do going forward. Part of the proceeds will be used to retire some preferred stock, which we purchased from Citigroup. It's a convertible preferred that converts into 2.5 million shares. Legg Mason common which obviously is something that most analyst think we ought to be doing. And let me do a pleasurable part of this, and that is to introduce to you Mark Fetting, who I have worked with off and on for 20 years closely for the last eight... a very respected friend and colleague. I am confident in his vision, leadership and in his ability to lead this global franchise that we have. I should add that he is, as you will see in the coming weeks in the process of building quite a team, which I think you will agree with as it unfolds. Certainly, he has the experience, the drive, knowledge, he is truly steeped in knowledge in this industry and I believe that Legg Mason will be well served with Mark.

So Mark, let me turn it over to you

Mark R. Fetting - Incoming President and Chief Executive Officer

: Thank you Chip and welcome everyone. I thought it might be helpful for me to spend a few minutes sharing several thoughts. First off I want to thank the Board of Directors of Legg Mason for their confidence in selecting me as the President and Chief Executive Officer. It was a rigorous search process and a good one that in fact energized me and our team, as we went through it. As you know, there were internal and external candidates considered including quite a list of global external candidates.

In the end, it appears that the Board concluded that the right combination of inside and outside skills would be beneficial. As many of you know, I've spent almost 30 years in the business, for the most last 8 years at Legg Mason, but I have worked with Chip and others really dating back almost 20 years ago. The real advantage is, we can hit the deck running, because with the succession issue pending, toward this appropriate process, things have been waiting for this to get clarified and for us to move forward on things we've been working on.

So I think we look forward as a team that has come together quite well within Legg Mason, and then to supplement that team, I think would be very helpful and beneficial to our shareholders. Second thought would be to thank Chip. Chip is justly revered throughout our firm and our industry with his professional accomplishments, and just one punctuation point on that, for those who invested and many did, at the IPO of Legg Mason in July of 1983, they invested $100,000 that would be worth $2.65 million today. Basically, the LM stock has compounded an out-performance of the S&P by almost 500 basis points. So thank you Chip, on behalf of our shareholders.

I look forward to working with Chip as non-Executive Chairman, particularly in areas such as acquisitions and key client relationships. As I can tell it will be a wonderful combination.

Now I'd like to frame our situation a bit from a go-forward standpoint. Warren Buffet has described an emphasis on investing in franchise firms. Firms that combine customer loyalty, consistent earnings and oppression [ph] use of capital for shareholder value. It is very gratifying to hear a number of firms that we are interested in our financing, to say they were interested because Legg Mason is a franchise firm. And if you look at our combination of managers, global scale and ability to deliver value across an unusually diversified mix of asset management, it's quite complimentary to hear that and my job as CEO and the team... leadership team's job is to increase that shareholder value from here on now.

So we will look forward to having a team of existing and new leaders to confront these challenges and opportunities. There really are four themes that we'll focus on going forward. First and foremost is investing, that is the starting engine of our business and as Chip said performance is critical. Issues, working with our affiliates such as risk management will be an important part of delivering those investment results.

Another theme will be servicing, you think of enduring leadership in our business, it has to start with that engine of performance, but it also has to deliver the superb service to clients, and for us at Legg Mason, that means working closely with our affiliates and also directly where appropriate, such as in our mutual fund business with our shareholders. The third theme will be marketing, we must candidly do a better job of marketing our capabilities globally, both in the U.S. and on international market. And the fourth theme is global; we simply must pick up the pace of our global expansion, particularly in international markets.

If that frames our direction, let me talk about some specific issues and then turn it over to Barry. One of the areas that we've clearly been communicating through our shareholders and the analyst community as our exposure in the ABCP area or the SIV area. I hope you've noticed a rather purposeful plan of reducing exposure in a way that's fair and appropriate to our shareholders, and also supportive of our clients. Let me just summarize, because we've been working hard on this issue.

November 9th, we filed a Q that acknowledged that we have a $167 billion in liquidity assets and exposure to these SIV holdings of about 6%. We also at that time provided some disclosure on support we were providing to two rated funds.

At year end, we further updated a reduction in this exposure by using various approaches including a total return swap, taking some securities back that had near term maturity, and buying actually in a small fund, there some securities as well. At that time, our liquidity assets totaled a $164 billion and the exposure had been reduced to 3.2%. I will note that we... in our disclosure, laid it out in a table that we really used, based on feedback that Barry and others had got in terms of trying to clarify how we work through this, because these are complex issues in clearly challenging market conditions.

Today, I can report that our total liquidity assets have increased to a $168 billion, specifically that's as of January 26 and our SIV exposure has reduced down to 2.6%, 0.6% are bank sponsored SIVs, virtually all of whom have taken them on to their balance sheets. We will continue, as Chip said, to reduce the exposure through maturities which are occurring and through any other appropriate action that would be to the benefit of the funds and our clients, as well as the Legg Mason shareholder.

We've worked closely with our fund boards through this process and clearly Legg Mason and Western have worked very closely together. This is clearly been a bit of a storm that has touched most of the business. It's important to note that asset managers differ from banks and other firms that have proprietary positions with more specific issues here, these are securities held in our fund portfolios or client portfolios.

If I can now finally just touch on our equity business a bit, Chip acknowledged that we have some challenges and all of us are working hard on this. At Legg Mason Capital Management, Bill Miller and Kyle Legg and their team are working very closely with their clients, acknowledging that the short term performance is not something you are satisfied with, but also defending the positions as smart investments, going forward as they see this market.

I'd like to say that I first started working with Bill and Chip going into 1990, and at that time the Value Trust underperformed for two years. Positions were taken as we saw, the market shifting and leadership changing, and that began a period of 15 consecutive years of out-performance that has been quite beneficial to our clients. Their numbers are... speak for themselves and they are working on it. They are one in three year numbers are challenged, their five year numbers solid and then ten year remains outstanding.

In ClearBridge the team under Brian Posner's leadership continues to work hard and stay close to their clients. It is noteworthy that particularly the time like this, the Hirsch Cohen's [ph] appreciation fund strategy, which is a very high quality portfolio, well suited for these kinds of market conditions that delivered top quartile performance in the quarter, top third on a one in three year basis.

Private Capital Management under the leadership of Bruce Sherman and Gregg Powers continues to work closely with their clients. It is also interesting to note that their ten-year number compounds at 15.84%, which is almost precisely what their goal is, in terms of delivering consistent returns to the clients over a reasonable timeframe. By the way that's an out-performance against the benchmark of almost a 1000 basis points.

Chip has also touched on to managers that are doing quite well, whether that's Royce, Battery March or Brandywine. Let me be clear that we at Legg Mason and our affiliates are going to work hard on this key issue and we will keep you posted accordingly.

Barry.

F. Barry Bilson - Senior Vice President

Thanks Mark. I appreciate those eloquent and inspiring words. I got a spark from scratch with the new boss, but bear with me. Alright I will try... I'll try and expeditiously roll-through the P&L... I don't believe from just a couple of sound bite the head [ph] that there is a lot that surprises. Obviously at the point of the announcement of the converted offering gave some pre-released guidance that this should fall much inline with. The only thing that's really going to create, I think any confusion or distortion is the geography of the roll-throughs of the ABCP activity, which certainly has a meaningful impact on the comp and bennies line as well as the other non-operating income. It's obviously sending weird percentages your way etcetera.

Let me make one comment because I know there will be a follow on question and I suspect the greatest concern area will probably be the equity AUM outflow. Certainly Mark and Chip have both touched upon it, but keep in mind, this December quarter was not a god quarter in the activity space, in the retail mutual fund arena. We have started seeing a pause in the small capital arena, which certainly has helped support the totals over really that the past couple of years, and while this was a very good quarter for Permal, their September quarter was monstrous probably at 20%, 22% organic growth rate. So part of the ugly $10 billion number, which obviously is a new significant digit on it, is not indicative of any significant momentum build in outflows with some of the managers who have had performance issues, part of that dynamic is just a reduction in some of the historical positives that tampered it. Right, enough of that.

Let's go into the P&L. Let me do one other one in the flow space. Our convention of presentation on liquidity AUM is we only include in the flow number actual new money. The income stream, dividend reinvest in the presentation sits in the market and other column, which we being conservative and appropriate. So when you look at the analysis in the quarter-to-quarter levels, you see liquidity is up about $1.5 billion. But then you see a reference to outflow of about $500 million. The delta between the two is obviously the dynamic of the dividend reinvest.

All right. Enough of the preambles. Realization rate, 37.8 basis points for the quarter versus 38.9 last quarter, 38.1 a year ago. If you look at the mix of the AUM with equity dropping about 1, 1.2 percentage points of the total, you roll that through on the difference in your basis points on that versus fixed income and you are going to probably get that within a 0.1 type metric.

On the distribution expense, relative to the fund revenue stream, advisory plus distribution, very similar, slightly higher, stands at 42.6 versus 43.4 a year ago, 41.8 last quarter. Again, reflective of a little bit of the mix shift if the equity markets behave and the flows improve, that will probably move in a southerly direction. Also the mix of the equity underlying businesses in particular with Permal will have an impact because there is a level of distribution expense as it relates against some levels of performance fees that they earn, which certainly is not driving into that math metric that I just did.

On the performance fee front, I suspect in most cases in line with expectation may come in last year. We were optimistic, hopeful that the calendar year measurement period, performance fees of Permal would be in line with last year if not, they are better. Obviously the December quarter was certainly not the finest equity market to deal with high watermarks. Relative basis this was a milestone performance year for them, and the calendar year performance fees was about $24 million, just point of reference that was about $23 million last year. So, depending on your market assumptions etcetera please back that out of any forecast remarks, because we don't get it again till next December. Always trying to figure a normalized level. It depends on what these market do. Something framing around, already plus or minus, probably 10%, 15 % is the best pre indication that I can provide.

Comp and bennies. The percentage relative to what, net revenue looks terrific. At 42.6 versus 50.5 last quarter, 50.1 last year, that's just massive cost control. We are going to try and discard that another 7 percentage points next quarter. Not going to happen. As you know, we have revenue sharing arrangements, incentive comp adjustments with respect to the SIV expense, and that's about $55 million of reduction in comp and benefits. The other thing that makes those numbers move around which also touches into the other non-operating revenue line are these fund and deferred compensation plans that have an equal dollar amount in revenue and expense. In operating expense, revenue in non-operating revenue. The geography is dopey but the accounting is what it is.

Sequentially, that deferred comp mark-to-market went from a $5 million gain to a $5 million loss or a delta of $10 million. That drove off a percentage variant in the comp and bennie, of about 1.3%. So, if you look at the ABCP activity and the incentive comp adjust their, at about 6.4%, the funded deferred comp plan of about 1.3%, gets you to normalization on comp and bennie percentage of about 7.7% versus your 42.6, which adjust through to 50.3. And then probably right in the geography of your expectation.

Non-comp, non-distribution expense, bit of a spike this quarter sequentially at $151.6 million versus $142.6 million, very similar to last year. A little lighter than I guess your expectations in communication a little heavier in occupancy, but one could ease up a bit that one down a bit, but they are in the ballpark plus or minus $1 billion. The one of greatest significance is the other operating expense and that is certainly a category that can and will move round on occasion, much heavier dynamic this quarter with respect to marketing and travel and entertainment. That is one that will migrate north and south and if it generates revenue, it's a wonderful thing. But it's probably about $4 million heavy sequentially. The other is foreign currency translation which is about $3 million. So next quarter in the vacuum which it never is that could ease a couple of few millions.

Other income expense, interest... net interest expense of about $3.5 million this quarter versus $1.5 million last quarter obviously we had some additional borrowings in the midst. We also had some expense in one just putting the letters of credit in place. Certainly that number is going to change, certainly with the cash flow generation, and the fact that we've got another $1.250 billion coming in next week. So you are going to need to adjust through on that. A positive carry on the cash. It should be throwing off a number that we should, at the minimum take that close to flat or positive.

On the margin, a side light, that's another one that often gets a little bit of distortion. The pre-tax margin or an adjusted revenue stood at 28.7, but again you've got the SIV activity in there, bit if you roll that back off, it's just a 33.0. And just so you've got the numbers in the other non-operating, the adjustment sitting in there, in the SIV adjustment is $90 million and the comp adjustment is about 55.

Tax rate should be in line with your expectation. Obviously the shares that we indicated will be using part of the convert proceeds for, has not occurred that is likely to occur next week. So you have a pro-ration for the March quarter, when 2.5 million shares, which would be about 1.7 that's about 1%, 1.2% reduction next quarter, following quarter about 1.7. And I'm sure I forgot something, but I think that's the high points of what you'd have interest in, you certainly can follow-on with any questions.

So at this juncture, Howard could you open it up for the Q&A. Howard?

Question And Answer

Operator

I am here sir. Can you hear me? [Operator Instructions]. Please be advised, we would like you to limit your questions to one question and a follow-up. If you have any additional questions you can re-queue up into the question queue. Our fist question or comment, comes from the line of Craig Siegenthaler from Credit Suisse, your line is open sir.

Craig Siegenthaler - Credit Suisse

Thanks and good morning. I'm losing my voice here so please ask me to repeat the question, if it is not clear. First, can you talk about the accounting process reporting losses for the SIV and the Asset Backed Commercial Paper on the balance sheet? It looks like some of the marks going to the other income, other line while some of the OTTIs [ph] and looks like permanent impairments ran through the other expense line. I mean, is this right and also can you... would you expect future negative marks based on January performance?

F. Barry Bilson - Senior Vice President

Yes Craig just a real quick. No we always attempt to share accounting role. There are different conventions people use on this because effectively these now become our holdings, our investments. It is treated accounting wise as an investment security and it is all sitting... the mark-to-market dynamic is all sitting in that other non-operating income line and that is where we envisioned that it will stay. So it shouldn't, it certainly shouldn't be jumping around lineage wise and certainly that's embedded through with their auditors as well, but does effectively in all material respect it's now our investment, it's treated that way.

From a standpoint... other part of your question is, this as of December 31 as of now I am comfortable saying there has been no material additional expense. If we have a material interim additional expense we would probably do our release. We will re-asses this every day, every month, every quarter. But there is not a material adjustment that we have at this point beyond December.

Craig Siegenthaler - Credit Suisse

And just as an update, what's the notional value of the SIV and the Canadian Asset Backed Commercial Paper and the balance sheet. And also I was wondering what's the current value of the total return swap just and kind of how that's changed if that wasn't an issue? Actually we can take it offline, if you don't have data in front of you.

Mark R. Fetting - Incoming President and Chief Executive Officer

C.J. Daley, who is our CFO is sitting here and he is going to reply.

Yes.

Charles J. Daley Jr. - Chief Financial Officer, Senior Vice President and Treasurer

As you know, we get marks on these securities everyday. And as Barry mentioned, as of 12-31, they are market-to-mark that we either derive through by the third party pricing or what were derived by Western using their bottoms up approach. There has been no material change in support in which we provided the same as it was at 12-31, but, as you would imagine there has been or they will be price fluctuations which will occur through the end of the quarter and at this point it wouldn't be prudent to respond to what those price changes are because we obviously don't know.

Craig Siegenthaler - Credit Suisse

Okay. CJ also... the question was around securities within the total return swap, do you have a planned maturity?

Charles J. Daley Jr. - Chief Financial Officer, Senior Vice President and Treasurer

Yes. The total return swap about $450 million of that is scheduled to be repaid before the end of the quarter. So assuming that those maturities occur, the total return swap by the end of March will be reduced to about $440 million.

Craig Siegenthaler - Credit Suisse

Okay. And then just one more question on fixed income net flows. I am just wondering if the $1 billion Illinois teacher quote about health mandate that I think was, which dropped recent. I just wonder if that was reported in the December quarter or the March quarter? When that will be recorded?

F. Barry Bilson - Senior Vice President

That will be in the March quarter. Accounts do come and go. Western has a long standing relationship with that account. They do have significant money in excess of that, either with them or plan to be funded. So, these things do happen on occasion, but it's not something that you really are going to need to change your model for.

Craig Siegenthaler - Credit Suisse

Okay. Great. Thank you very much for the detail.

F. Barry Bilson - Senior Vice President

Thank you.

Operator

Our next question or comment comes from the line of William Katz from Buckingham Research. Your line is open, sir.

William Katz - Buckingham Research

Thank you. Good morning everyone.

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

Hi, Bill.

William Katz - Buckingham Research

Just a big picture question for Mark, and I appreciate its only couple of days, so obviously first-off congratulations. But, as we still look at three to six months or now, you have obviously painted three or four initiatives but the big picture and a number of things underneath. What should we expect from you in that point in time? What would you... still be some sort of success milestones that we should be thinking about? I asked that in the context of, if you were starting with a clean sheet of paper, are there businesses that you either will be looking to enter or exit and then how should we sort of think about that? And I guess we will go with this as it sounds like there is lot of expense initiatives underway here. I am just trying to reconcile that against where you are taking the company?

Mark R. Fetting - Incoming President and Chief Executive Officer

Bill, thank you for your congratulations. I would say actually, our priorities should be pretty evolutionary in terms of what we've been doing and what need to be doing. I would say two key priorities is one, work through these current market conditions which all in the industry are working through, and I believe our shareholders and clients benefit from our scale, our experience in working through them over multiple cycles with clients in as a firm.

Within that also is of course the near term challenges that we are working through, and I believe making progress on whether it's the exposure in the money funds or the equity performance issues which we've discussed. Then you say, okay, we also have the benefit now of really kind of taking the offense, and on that, I think if you look at these themes of service, if you look at the themes of marketing and global, you will see that, that does not translate to expense increases.

In fact, I will continue to manage our earnings with as much emphasis on kind of efficiency and effectiveness as Chip has done. So, I think that's really it. I can give you a little more color probably on global as an example. We have been working pretty hard at restructuring the product line, restructuring the sales team and we think it be helpful just to have some added hands there in leading us through with a team that's done a terrific job and enjoying that. So, those are kind of examples.

William Katz - Buckingham Research

Okay, and so another big picture question, sort of curious, in the institutional channel a number of your peers have talked pretty strongly about the pipeline into New Year despite the market volatility. So I was sort of curious of where that pipeline stands today, maybe where it was at the end of September. And then within that, could you talk a little about what you're seeing in terms of asset allocation?

Mark R. Fetting - Incoming President and Chief Executive Officer

The pipeline as you can imagine, these market conditions are kind of probably effecting everybody's pipeline on a relative basis. Having said that, there is rotational trends going on so the shifts from value to growth, the shift from small cap to large cap is creating some opportunities. For some of our managers that probably softening things on the other side. In the fixed income space, we continue to see good growth opportunities globally in many markets and Barry I think you had an update on that might be helpful.

F. Barry Bilson - Senior Vice President

Yes. The comments there I believe was... you'll see that they certainly be international, has certainly grown percentage wise, still continues to be an area where Western sees greater opportunities. Their pipeline is solid but quite candidly, with some of the shorter performance issues. There could be some continued use on their inflow but there is not a view of a significant sort of cycle out of fixed income and into equities from the intelligence I guess there.

Mark R. Fetting - Incoming President and Chief Executive Officer

And you do go consistent growth. They are looking forward to another very strong quarter, that's a high-revenue, high-speed business and certainly has been an incredible profit engine from Legg Mason's standpoint. And the other one is Brandywine who continues to grow pretty dramatically quarter-over-quarter in their global bond areas. So there are pieces that we referring that are actually witnessing strong period, that's the advantage of diversity. On the other until we get this equity performance turned, which I'll talk about in a minute, I don't... you're not going to see surges in assets.

William Katz - Buckingham Research

Can I just ask one follow-up, I think its maybe my third question, but the capital raise with KKR can you sort of talk a little bit about strategically why you have done that at this point in time. Is it uncertainty around the SIVs not withstanding the notion that they are down a little bit sequentially, or is it more that you sought of feel that this is time now where you could look to be expanding the platform overseas?

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

Probably all the above Bill. Certainly our cash position, we close at the end of this week is probably going to be $1 billion, if it should be much higher, but we probably have free cash of about a $1.6 billion which is dramatically more than we have ever had. And this is the time regardless SIV or no SIV is strong, and but with SIV it is a good time to be strong and to show that corporately we are strong in other words, well capitalized. As to that we'd certainly be one, we continue to look at the acquisition side, which you all know for past year and more that we have been an active pursuer of particularly more or less outside the U.S. conceptually.

And that continues on and we'll see where all of that goes and then we always have the ability to pay down debt some of which we have coming up in July that we will have to pay down. And at least at this time, this all has a pretty positive spread to it, because of the cost of our borrowing, it is below what the cost... what most people who have borrowed money at. So it really isn't... we don't think this turns out except maybe in a month or so or quarter or so to have a burden on us.

And then last, but certainly not least in terms if we weren't in these market conditions we'd go further, we always have the ability to buy stock in which has had a... which does have a pretty significant effect on our earnings every time we move to do that. Now in fairness I've got to comeback, because I know those analysts say well that's absolutely what we want to do. You have to withstand you banks into orbit when you take money that they believe you are borrowing and use that to buy stock. So the way we did and way we set up what we bought, the 2.5 million shares, we believe was away from all of bank loan area, but you do have to be somewhat careful on how you treat that, because of the attitude, particularly now that banks have gone on using cash to purchase stock. Hopefully, I spoke to your question.

William Katz - Buckingham Research

That's great, thank you very much.

Operator

Again ladies and gentlemen, due to the number of people asking questions, we are respectfully ask that you limit your questions to one question and a follow-up please. Our next question or comment comes from the line Mr. Michael Hecht from Banc of America, your line is open sir.

Michael Hecht - Banc of America Securities

Hey guys good morning. How are you doing?

Mark R. Fetting - Incoming President and Chief Executive Officer

Good Mike.

Michael Hecht - Banc of America Securities

Can we get a little bit more color on the, some of the equity outflows, I guess in particular I'm curious at Legg Mason's Capital Management and ClearBridge, where are you seeing the outflows, I guess for Legg Mason is it the Capital Management side is it retail mutual funds or also the institutional and offshore side. And then ClearBridge is it kind of the funds versus the SMAs and I guess just part of that. This is like an eight part... part one question, the assets I guess in those complexes at the end of the quarter?

Mark R. Fetting - Incoming President and Chief Executive Officer

This is Mark.

Michael Hecht - Banc of America Securities

Hey Mark, how are you doing. Congratulations by the way.

Mark R. Fetting - Incoming President and Chief Executive Officer

Thank you Mike, thank you. Generally... if I can follow on with some detail, but I think I don't think we've provided the specificity,

Unidentified Company Representative

The detail.

Mark R. Fetting - Incoming President and Chief Executive Officer

Detailthank you, the detail on the individual assets of our affiliates. But let's take the firms that you talked about, Capital management on the fund side, particularly the retail fund side continues to have outflows and that has picked up a bit and that's fairly visible to you through the published sources. The institutional class of the fund and their institutional assets have better retention and that continues. I think that reinforces the work that Bill and Kyle and others have been doing, staying close to clients through this timeframe.

On ClearBridge, their two big chunks of business would be the fund side and the retail SMA side, and there on the fund side actually, the outflows have continued to be an outflow but there is some trend of improvement in terms of producing that. On the retail SMA side, there is some specific pieces going on that have that continuing but Brian and their team are working hard on that and there are two... I think we are doing everything you would expect us to do, stay close to the FAS involved in that business. Barry, any other color on that.

F. Barry Bilson - Senior Vice President

Yes, and I tried, Mike to give some sense, because we really don't report through that the AUM detail manager by manager. We don't think... that's not really the way we run the business and it's just the precedent we don't set.

Just want to... additional color on Mark's comment. I tried to stage it little bit on the front end because, I knew when we moved a significant digit on that equity flow, I just want to create some pause. You have to put in the context to what this quarter was. Equity mutual fund industry-wide and also the context that there's been... there was some slowing in the quarter, not bad numbers, really good numbers but not as great as a couple of the prior.

There is not at this point any real acceleration in the ClearBridge and in fact there was some improvement, or Capital Management of any substantial magnitude acceleration. But in the candor that we've always tried to extend, we realize that until this performance number is more competitive, we do run a risk of additional outflow. It's just... I am not telling you anything that you don't know that the flow falls to performance. But, it's not something at this juncture that appears to be gaining any significant momentum, but by the same token, it has not stopped, and it certainly isn't positive, and you probably will have a couple more quarters, hopefully not more, but quite possibly of channels during the flow on the equity side.

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

And to be fair to those managers. You all tend to place too much of this on ClearBridge. Private capital has outflows and we don't see this because they are not mutual funds, but to put this burden on ClearBridge, which is being going on for last 6-8 months, is a little bit strong because although they have had outflows, really, there are three prongs to where those outflows have come from, and they're all basically performance related on the equity side. So, I think you have to sort of distribute more of that where those flows are coming from, and not put it all on ClearBridge, which is... there has been a tendency to do it.

Michael Hecht - Banc of America Securities

Okay, that's fair enough. And then, just the follow up would be thoughts on, I guess timing and the search for kind of an European or international asset managers especially with kind of Mark's appointment and the balance sheet capital changes that you kind of made here?

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

That probably is better when... to answer that, Mark pointed to me. So I will go ahead. We have had ongoing discussions with people as you know. Obviously, some of it is even been disclosed in financial articles of people that we have talked with or had serious discussions with. That remains ongoing. I don't believe that there's been anything reported on where our most serious discussions have been, and we would like to keep it that way. It is certainly a possibility, and over the next 2 or 3 months it probably will determine, if it becomes the reality. That remains our goal and we have some interest a tilt toward the alternative side and some interest in and obviously a tilt towards global versus domestic. Probably, I would have quit at that point. The other thing I should say is one of the issues with this is that there have to be significant enough to move the needle. So, we've had a lot of things that we just didn't think would move the needle and therefore we moved away.

Michael Hecht - Banc of America Securities

Okay, great. Thanks guys.

Operator

Our next question or comment comes from the line Cynthia Mayer from Merrill Lynch. Your line is open is ma'am.

Cynthia Mayer - Merrill Lynch

Hi, good morning. Just a couple of follow ups. So, I guess in terms of performance, I think you mentioned risk management. I am just curious if you give more color on that and it sound as though you believe the shifts in risk management might some how improve performance?

Mark R. Fetting - Incoming President and Chief Executive Officer

Cynthia, thank you, it's Mark.

Cynthia Mayer - Merrill Lynch

And congratulations.

Mark R. Fetting - Incoming President and Chief Executive Officer

Thank you very much. What we are talking about is at the corporate level, making sure we have the right resources and perspective on that. I think certainly a number of our revisiting this topic, and we want to stay best practice on that front. I have mentioned it in the context of investing, because obviously its there to support investing first and foremost but also to provide proper check-in balance relative to corporate assets.

Cynthia Mayer - Merrill Lynch

I guess were you mentioning in the context of in posting more top down rules on position sizes or overlap or that sort of thing across managers?

Mark R. Fetting - Incoming President and Chief Executive Officer

Thank you for clarifying that, because I wouldn't on anyone... at the end of the day as you may know and you certainly do Cynthia, from an investing standpoint that's the province of our affiliates and we respect that. They have themselves very good and increased risk controls conforming to client requirements and fund guidelines, prospectus guidelines etcetera. This would just be an enhancement from a corporate standpoint.

Cynthia Mayer - Merrill Lynch

Okay, thanks for clarifying that. And then I guess I am just stepping back the four areas you mentioned performance, servicing, marketing, global expansion, which of these if any do you think really can move the needle in terms of performance in the next two quarters. Or are they are all longer term initiatives?

Mark R. Fetting - Incoming President and Chief Executive Officer

Well obviously in the spirit of investing being a starting engine the sooner that starts to improve, and if that were to be combined with shifts of positive nature in the market themselves, that can move things pretty quickly by virtue of just a market movement. And then us gaining on a relative basis, I think the... the global piece is interesting in that... it could present through kind of product launches or distribution extensions with existing products, the opportunity of bring in some flows. We have been seeing some of that that moves the needle a bit such as progress in Japan, we just launched some products in China which I don't think will move the needle short term, but it is an important strategic development, until we are working on that front.

Cynthia Mayer - Merrill Lynch

Okay, thanks.

Mark R. Fetting - Incoming President and Chief Executive Officer

Thank you.

Operator

Our next question or comment comes from the line of Mr. Dan Fannon from Jeffries. Your line is open sir.

Dan Fannon - Jefferies & Company

Good morning and thanks for taking my questions. In terms of you guys capital position obviously the SIV exposure is on going, but it is dwindling in terms of its overall size. Can you in terms of... can you just rank in terms of priority of how you are going to deploy capital as more capital is freed up from those assets going away in terms of, you talked about acquisition and buying back stock. I guess if you... if capital is being reallocated and your banks will be giving you a less concern, I am just wondering how apt or how aggressive you guys would be with your buyback program.

Mark R. Fetting - Incoming President and Chief Executive Officer

Let me just start and then turn it to Chip, because Chip as always, had a philosophy which I certainly support which is a fence of priorities around deployment of capital. And I referenced it relative to Buffet's sense of a franchise firm. We've always wanted to have conservative balance sheet. I noticed Jamie Diamond uses the term fortress balance sheet or whatever. And I think we've have tried to have that kind of strength and I want to secure that particularly in these kinds of market conditions.

The second priority would be to support our existing products and initiatives, whether that's issues around SIV support or issues around launching new products, receipt capitals required etcetera. The third element would be acquisitions, and we have talked about that. And then the fourth, if there is an opportunity such as existed with the Citi buyback, you can do some buyback. That's subject to working with the Board etcetera. Chip?

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

I think that's enough said. We... I think what you've got to allow and hear and probably in order, obviously we'll be mindful of the SIV. So that's a given, but we need to see whether it's likely that we're going to do an acquisition or not because that will override virtually all other decisions, that tends to be a cash drainer. If we do that, we probably rule out of number of other things. If we don't do that, then I would say the first move would be to continue to strengthen our balance sheet and bring our debt down. And the second one would be buyback stock.

And I know you will probably feel that buying back stock got to be above that. But we've got a deal with the institutions we deal with. A and B, we have some practice for prudence that we preach. And so I think we've been pretty direct in buying back stock both in the amount that we bought back in the September quarter and what we'd rather... I think it was the December quarter not September. And... rather September quarter was right.

And they purchased the 2.5 million shares, we would have obviously loved to have gone higher, I just think we sort of weighed everything and felt as though we had probably gone about as far as we should at this time. But my guess is Mark and CJ and others that will be living with this will certainly keep that high on their list of things to look at.

Dan Fannon - Jefferies & Company

That's helpful. And then lastly, just in terms of the SIVs, is there any large amount of maturities that are coming up in the coming months, or any acceleration in the roll off to this portfolio, or is it kind of gradual over the next 6 to 12 months?

Charles J. Daley Jr. - Chief Financial Officer, Senior Vice President and Treasurer

It's fairly gradual. We have some reductions since December 31. We have a little bit more to go this quarter and then it's pretty much gradual for the next two quarters.

Dan Fannon - Jefferies & Company

Okay, great. Thank you.

Operator

Our next question or comment comes from the line of Mr. Robert Lee from KBW. Your line is open, sir.

Robert Lee - Keefe, Bruyette & Woods

Thanks. Good morning.

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

Good morning.

Robert Lee - Keefe, Bruyette & Woods

And first on the... congratulate and wish you both the best of luck going forward.

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

Thank you.

Robert Lee - Keefe, Bruyette & Woods

I have a... most of my questions have been asked but for Mark kind of a service strategic question. Relating to distribution, when you outline some of the priorities, clearly you talked about it. Doing a better job in the marketing front, and in the institutional business, if I understand it correctly most of the subsidiaries pretty much handle with themselves to large extent on a global basis. When I think of some of your competitors of similar size they tend to have more centralized global institutional platforms. The theory being they can leverage their different capabilities better to seek opportunities and maybe even develop products better. Do you envision having to migrate to that kind of distribution platform on the institutional side to really take advantage of your product breadth and kind of the growing global scope of the business?

Mark R. Fetting - Incoming President and Chief Executive Officer

Thanks Rob. On the institutional side, the notion... let me b clear that where affiliates go directly to clients, the large separate accounts investments typically define benefit kind of investments are similar. We believe, and I have to say I believe very strongly that that is best done by the affiliate in any attempt to kind of centralize that, really proves to be more counter productive than value-added. My experience as a partner at Greenwich Associates where we work closely with managers on that. We enforce that, and then if you look at our progress in the institutional, it's very compelling on that front.

Now, there is a second part of institutional that where do work very closely and that's what I'll call the institutional funds or quasi insti-vidual business if you will, and that would some sort of institutional class, mutual fund or managed product. We are doing that and doing that quite effectively on a centralized basis working with the managers and markets where we gained share, would be the insurance sub-advisory business in the U.S., and we see a pick up of that globally, and so that's an example where we do work together.

Robert Lee - Keefe, Bruyette & Woods

Okay, great. That was it. Thank you.

Operator

Our next question or comment comes from the Mr. Douglas Sipkin from Wachovia. Your line is open, sir.

Douglas Sipkin - Wachovia Capital Markets, Llc

Thank you and good morning. Just two follow ups. A lot of my questions have been answered. I was hoping maybe get a little bit more color on possibly your distribution efforts. I know you guys recently readjusted your relationship with Smith Barney and I am just wondering are they any like ventures near term in place to really improve the distribution maybe to leverage little bit more some of strengths of Brandywine, Permal, Royce etcetera.

Mark R. Fetting - Incoming President and Chief Executive Officer

Thank you. On the distribution front, I hope people are aware at how much work we have been doing under the hood, to shift from what was a proprietary on the retail side, particularly in the U.S. to an open architecture. So, under the leadership of Don Froude that we've brought in from Columbia fund, we have done quite a lot of work of pulling together a sales force that goes against all of the major broker dealers on a national basis and then there is a separate team going after what we call the Independent Advisors like LPL, and then a third team that goes after this insti-vidual market in the insurance sub-advisory piece as an example.

And, we work increasingly with all of our managers to go after those. In some cases, managers join in more on the institutional side, then the retail side because Royce is an example, has their own efforts quite effective going after the RIA business and work with us on other places as an example. So that... and we see that same model. I will say working globally. And those will be examples of us managing... adding to our management team in such a way that we can kind of pick up the pace of this, which is one of the things that I was talking about. And, certainly in the distribution side, that's one of the things that we will be doing more.

Douglas Sipkin - Wachovia Capital Markets, Llc

Great. And then just a follow up. How important are your credit ratings? I know you guys have always talked about this, particularly in the European fixed income market that the managing company credit rating is important, and in that context how damaging would a credit rating downgrade be for you guys on that front, and I know you guys are working to shore up the capital base to prevent that. So, Mark maybe you can shed some more light on that?

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

Should I do it? I think it's probably important but not overly. It comes up maybe sporadically. The nature of a lot of Europe has been that asset managing was led by basically bank-related asset managers that tended to run money throughout Europe, and therefore ratings went along with it. That's been pretty tarnished over the more recent period. So I don't from our standpoint that would probably be a big issue, but I think it says it wouldn't mean anything. I don't... at the moment I would say I don't see that as a big issue. If you had asked me that 6 to 12 months ago, I might have given you different answer. But a lot of things have changed in here, it doesn't come up right now. So I would not put it as something that I would put on the major worry list.

Douglas Sipkin - Wachovia Capital Markets, Llc

Okay. Okay great, that's very helpful and congratulations Mark and congratulations to Chip, it's been a phenomenal run.

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

Thank you.

Operator

Ladies and gentlemen this concludes our question-and-answer session for the day. I'll turn the conference back over to senior management at this time.

Raymond A. Mason - Chairman and Outgoing President and Chief Executive Officer

Okay, I'm going to just close that here for a minute. I know this has been a long call, time wise I appreciate your willingness to stick in. There were lots of issues and we needed to discuss them and hopefully this has been helpful. Let me just try and put things in context here and I'm going to try and do it in some cases fairly directly.

What I want to point out is that we have a strong and very well known group of managers with years of experience. Its been our belief that they will return to the ranks to the best performers, that's what's happened in past cycles, and I know the past doesn't always predict the future, but it is our belief that some of our key managers, which have probably heard us in terms of flows and performance the most, will be the ones that when they return, they tend to return fairly directly and fairly rapidly. This has not been the market cycle for many of them for the last two to three years. And as I said, one of the things that probably I want to point out and that is financials where we tend to be heavily weighted.

As we are currently running just to get this fixed in your mind, I try to this in the last meeting and this is probably my last shot to try and do this on a current basis. We're running quarterly profits that are roughly a $175 million. And I would say you should be basing what you are doing to... meaning up or down 5% or 10% from there. Excluding something abnormal comes up, but therefore the $1.21, $1.23 area up or down 5% or 10% is as we are currently configured with assets and with revenue basis, the way you ought to be looking at our profits and not consistently trying to run ahead of us.

The fact that we have been able to hold those profits during all these periods, I think has been pretty impressive and the fact that over the last two years, even this year, we were up about 10% over the nine months and last year I forgot what we were up, but we were up fairly nicely. Year-over-year even with all the issues we were dealing with, we did retain our profitability. And I am just trying to say that because until we get better performance, which would therefore drive assets, which would therefore drive fees, it just is a mistake to try and run upfront of us and assume we are going do a $1.35 or $1.40.

Now hopefully that happens and hopefully the performance turns in a relatively reasonably short period of time, running in front of that, I don't think has any value. It's pretty clear that for us, as I have been saying here to get better earnings, we are going to have to have better performance from key managers.

Now, what happens as your performance turns everybody says will there be a lag, there is a lag. There is not necessary to lag in your assets under management, because if you turn your asset immediately turn off, because of performance that you are getting in and it's a percentage of your current assets, that therefore derive new AUM and therefore derive increased fees and in time performance should increase your assets under management.

We are at very large and very diverse manager, and to an extent, we've had almost a perfect storm going on over the last period here. We have quite a spread of assets from institutional to retail, from mutual funds to separate accounts, we are the leader. Wealth Management, sovereign management, pension funds, et al. I believe that performance will turn. We have certainly been out of to think almost throughout this period. As I mentioned before, particularly in financial, which is often a major piece of some of our managers. We have consistently been over weighted in those areas, which does not help us. But that's always been the case.

When the turn comes in that sector and one wonders whether the financials have not been trying to bottom here, for the first time in quite a while the churn tends to be pretty dramatic if you go back and look at past marketplace.

I guess the last thing I'd like to say is I have probably enjoyed almost everyday of my tenure. It's certainly been a long tenure, and some exceptions there are some days I'd rather not live, but 95% to 98% of it I have thoroughly enjoyed. I thank you for your time and patience with me. Your interest in Legg Mason and faith in our future and I do think the faith in our future will be well placed. Thank you very much.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program, you may now disconnect. Everyone have a wonderful day.

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