Cohen & Steers Inc. CEO Discusses Q3 2010 Results - Earnings Call Transcript

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Cohen & Steers Inc. (NYSE:CNS) Q3 2010 Earnings Call October 21, 2010 11:00 AM ET


Salvatore Rappa - SVP & Associate General Counsel

Matt Stadler - EVP and CFO

Bob Steers - Co-Chairman and Co-CEO

Marty Cohen - Co-Chairman and Co-CEO


Michael Carrier - Deutsche Bank

Alex Blostein - Goldman Sachs

Cynthia Mayer - Bank of America/Merill Lynch


Ladies and gentlemen thank you for standing by. Welcome to Cohen & Steers third quarter 2010 financial results conference call. During the presentation all participants will be in a listen-only mode. (Operator Instructions). As a reminder, this conference is being recorded Thursday, October 21, 2010. I would like to turn the conference over to Mr. Salvatore Rappa, Senior Vice President and Associate General Counsel. Please go ahead, sir.

Salvatore Rappa

Thank you, and welcome to the Cohen & Steers' second quarter 2010 earnings conference call. Joining me are Co-Chairman and Co-Chief Executive Officers, Marty Cohen and Bob Steers; our President, Joe Harvey; and our Chief Financial Officer, Matt Stadler.

Before I turn the call over to Matt, I want to point out that during the course of this conference call we may make a number of forward-looking statements. These forward-looking statements are subject to various risks and uncertainties and there are important factors that could cause actual outcomes to differ materially from those indicated in these statements. We believe that some of these factors are described in the risk factors section of our 2009 Form 10-K, which is available on our website at

I want to remind you that the company assumes no duty to update any forward-looking statements. Also in the presentation we make today contains pro forma or non-GAAP financial measures, which we believe are meaningful in evaluating the company's performance. For detailed disclosures on these pro forma metrics and their GAAP reconciliations, you should refer to the financial data contained within the press release we issued yesterday, as well as within our previous earnings releases, each available on our website.

Finally, this presentation may contain information with respect to the investment performance of certain of our funds and strategies. I want to remind you that past performance is not a guarantee of future performance. This presentation will also contain information about funds that filed a registration saving with the SEC which has not yet become effective. This communication shall not constitute in order to sell but the solidification of any offer to buy these securities. For more complete information about these funds including charges expenses and risks, please call 1-800-330-7348 for perspectives. With that, I'll turn the call over to Matt.

Matt Stadler

Thank you Sal and good morning everyone. Yesterday we reported net income of $0.30 per share, compared with $0.18 in the prior year and $0.27 sequentially.

The third quarter of 2010 included a $0.06 per share after tax gain, resulting primarily from recoveries on the sale of previously impaired securities. After adjusting for this item, earnings per share were $0.25. The second quarter of 2010 included an $0.08 per share after tax gain, resulting from recoveries on the sale of securities. After adjusting for this item, earnings per share were $0.19.

We reported revenue for the quarter of $46.4 million, compared with $33.8 million in the prior year and $44.2 million sequentially. The increase in revenue from the prior year was attributable to higher average assets resulting primarily from market appreciation and institutional net inflows.

Average assets for the quarter were $29 billion, compared with $19.5 billion in the prior year and $27 billion sequentially. Our effective fee rate was 59 and a quarter basis points down from 16.5 basis points last quarter. The decline was primarily due to the effect of foreign currency adjustment.

Pretax income for the quarter was $18.5 million, compared with $10 million in the prior year and $15.4 million sequentially. This quarter's results included a $2.2 million recovery on the sale of previously impaired securities. After adjusting for this item, pretax income was $16.3 million. The sequential quarter included a $3.1 million recovery on the sale of securities. After adjusting for this item, pretax income was $12.2 million.

Excluding the $2.2 million recoveries, our pre-tax profit margin for the third quarter was 35% and our operating margin remained at 30%. Moving to assets under management, our assets under management total $31.2 billion at September 30th an increase of $5 billion or 19% from the second quarter. The increase in assets under management was attributable to market appreciation of $3.9 billion and net inflows of $1.1 billion. At September 30th, US re-common stocks comprised 43% of the total assets we managed, followed by international REIT common stocks at 27%, large cap value at 10%, preferreds at 8% and listed infrastructure and utilities at 7%.

Our open end funds had assets under management of $7.6 billion at September 30th, an increase of $1 billion or 16% from the second quarter. The increase was primarily due to market appreciation. We recorded net inflows of $33 million during the quarter despite a $105 million of outflows due to a rebalancing at one of our broker-dealer platforms.

The Cohen & Steers preferred securities and income fund launched in May of this year, recorded $76 million of net inflows during the quarter and subsequent to September 30th, exceeded the $100 million mark in total AUM.

Annualizing third quarter flows, our organic growth rate for open end funds was 2%. For the last 12 months, our organic growth rate was 9%. Assets under management in our closed end funds totaled $5.9 billion at September 30th, an increase of $588 million or 11% from the second quarter. The increase was primarily due to market appreciation.

Assets under management and earnings (inaudible) separate accounts totaled $17.7 billion at September 30th, an increase of $3.4 billion or 23% from the second quarter. The increase was due to market appreciation at $2.3 billion and net inflows of $1 billion, the majority coming from sub-advised accounts into global and large cap value portfolios.

Annualizing third quarter flows, our organic growth rates for institutional accounts was 29%. For the last 12 months our organic growth rate was 33%. Institutional separate accounts include $270 million of assets under management invested in our alternative global real estate launch short strategy.

Moving to expenses on a sequential basis expenses were up 5%. The increase was primarily due to higher employee compensation, distribution and service fees and G&A. our compensation to revenue ratio for the quarter remained at 39% the same is the second quarter and consistent with the guidance we have provided on our last call.

Distribution and service fee expenses will generally vary based upon the average asset levels in our open-end load or no-load mutual funds. The sequential variance in distribution and service fee expenses inline with the increase in the average assets of our open-end no-load mutual funds primarily from CSR, the Cohen & Steers reality shares fund. G&A increased 5% from last quarter. The increase was primarily due to upgrade made to our IT infrastructure including application development.

As a reminder, we utilize three main captions under non-operating income to classify our firm investments. Gain or loss from trading securities, gain or loss from available-for-sale securities and equity and earnings or losses of affiliates.

The caption gain or loss from trading securities is used to record the total realized and unrealized trading gains and losses in seed investments where we have a controlling financial interest and as a result must temporarily consolidate the investment. There were no seed investments that required consolidation this quarter.

The caption gain or loss from available-for-sale securities is used to record realized trading gains and losses in certain seed and corporate investments. The caption is also used to record any impairments and recoveries on those investments. The $2.1 million gain this quarter was due to recoveries reported on the sale of previously impaired securities. And finally, the caption equity and earnings or losses of affiliates is used to record the economic results from seed investments where we exert significant influence, but not financial control, and as a result we do not consolidate those investments.

The $1 million gain this quarter represents the economic gain associated with the seed investments in our global listed infrastructure and our preferred securities and income funds, partially offset by the economic loss associated with our global real estate long short funds.

Turning to the balance sheet. Cash, cash equivalents and investments totaled $172 million, compared with $241 million last quarter and stockholders equity was $222 million, compared with $289 at June 30. The sequential decline in cash, cash equivalents and investments as well as stockholders equity include a special dividend payment of approximately $85 million. We remain debt free.

Let me briefly discuss a few items to consider with respect to the fourth quarter. The effective tax rate for the third quarter includes discrete items, the most significant of which is attributable through the sale of previously impaired securities. Excluding the discrete items, the effective tax rate was 34% and we estimate that the tax rate will remain at 34% for the fourth quarter. With respect to compensation, we expect it to remain at 39% compensation to revenue ratio. We expect G&A will remain at third quarter levels and finally as of September 30th, the seed investment in our preferred securities and income fund was classified as available for sale and as a result, future unrealized gains and losses will be reported to other comprehensive income, a component of stockholders equity.

Now I'd like to turn it over to Bob Steers.

Bob Steers

Great, thanks Matt and good morning everyone. Obviously we're pleased that with the strong performance that we've been experiencing, as Matt mentioned, our AUM at $31.2 billion is up 19% and 39% from June and year-over-year respectively. As you'd expect the drivers are solid investment performance, strong organic growth and price appreciation.

Starting with investment performance, on an absolute basis, all five of our core strategy is generated low to mid-teens total returns in the quarter. Our US and global REIT portfolios performances about inline with their respective benchmarks in the third quarter as did large cap value.

As you know by now, we expect better than in line performance and we would be looking for improved relative performance there. However, both our preferred and global listed infrastructure strategy substantially outperformed their benchmarks by over 200 basis points and 55 basis points respectively.

Turning to distribution. Firm wide we were again able to generate industry leading organic growth of 17% in the quarter and 19% for the latest 12 months. This translates into net new assets of $1.1 billion for the quarter and $4.4 billion for the latest 12 months.

Drilling down, the institutional channel continues to be very strong and active for us worldwide. We added over a billion of net new assets in the quarter driven primarily by our sub-advisory relationships which delivered over $780 million of net inflows. It's noteworthy that over 65% of these new sub-advisory assets were from non-US sources which highlight the growing diversity of our flows. Existing clients added $390 million of net assets in the quarter and we also gained three new separate accounts [sterling] the $112 million.

Four additional separate accounts totaling $260 million were won in the quarter but are to be funded in the fourth quarter. So we are clearly off to a strong start. In general flows were the strongest in our global real estate strategy of large cap value was strong as well.

We also had some important wins in listed infrastructure totaling more than a $140 million and we think the growth potential here is very substantial. With respect to the retail channel not withstanding a particularly weak August for everyone in the industry, market conditions and sentiment continues to improve. The search for yield is favoring all of our strategies and we are seeing that in the field.

We have made good progress on our top priority which is being approved for all important proper dealer programs and platforms including our newly launched preferred fund which is now on most major BD platforms and as Matt mentioned had inflows of $76 million in the quarter.

Our RIA channel maintained its already strong momentum where $68 million of net inflows were 22% organic growth rate in the quarter. And while our broker dealer commissionable sales experienced modest net outflows of $38 million that number masks the improving underlying market trends and overriding factor in the quarter was 105 million outflow from rebalancing in the discretionary program at a single broker-dealer. Otherwise gross sales were in an improving trend, and as I mentioned the launch of our new preferred fund has been highly successful.

Lastly, as further evidence of improving trends in retail sentiment, the closed end fund window appears to be open again and we are making plans for a November launch of a closed end fund version of our preferred income strategy.

To finish it up, our outlook is increasingly positive across the Board. The economy is showing steady improvement, financial markets are strengthening, liquidity is quickly returning to the real estate markets worldwide and public companies now have extraordinary access to this liquidity, thereby adding an important driver to their growth.

Institutional demand for real asset strategies is strong and growing, and as I mentioned retail sales are slowly gathering momentum with the focus shifting to equity income from strictly fixed income investments. And so the bottom line is we are feeling increasingly confident about the prospects for future growth with retail holding the greatest potential for improvement.

Lastly, as Matt mentioned in August, we made the decision to pay a $2 per share special dividend. This decision was based on an analysis of our correct cash levels and our cash needs and potential uses. We go through this process regularly and will continue to do so in the future. I'll stop there and open it up for questions.

Question-and-Answer Session


(Operator Instructions). And our first question comes from the line of Michael Carrier with Deutsche Bank. Please proceed.

Michael Carrier - Deutsche Bank

Thanks guys. Hey Matt, just on the fee rate, if you could just give us a little bit of granularity, just in terms of your mix during the quarter, just giving the strength on the institutional side versus the FX impact, just so we don't (inaudible).

Matt Stadler

The majority of the fee rate decline was the FX, because as you guys know, one of our bigger institutional clients is (inaudible). They pay us in Yen. When we convert the Yen to US dollars, we use the spot rates for the balance sheet but then we have to use an average rate for the quarter and the Yen strengthened significantly towards the end of the quarter. So that gave us the majority of the decline. The asset mix did continue though to a much lesser extent to more weighted towards sub advisory. So sub advisory went down a little bit partially offset by an increase in our regular advisory business but sub advisory is higher weighted. So I think in general, the trend was slightly the mix with the sub advisory declining slightly but the biggest variance was the Yen which previous to this quarter didn't really move the needle much for us. And then although we do have other clients that we build and receive foreign currency, it's nowhere as near the significance of (inaudible).

Michael Carrier - Deutsche Bank

And then just on the reason in general and I guess the flows have been very strong across the institution side and I guess we adjust for the reallocation on the retail side also on that channel. When you are looking at the marketplace and I guess when you are looking at (inaudible) in the market, how much of it just being driven by that demand for yield and more flow or liquidity driven driving valuations versus the underlying fundamentals still pretty attractive?

Marty Cohen

Hi, this is Marty. I think the yield is clearly something that everyone is interested in but I think more important is this trend to its real assets. It's clear that the Federal Reserve and governments around the world have made a statement that they want the assets values, asset prices and real estate is the biggest asset class out there. So, I think people that want some inflation protection or kind of different asset inflation see real estate is a way to do that and clearly the liquid form is the most convenient.

Matt Stadler

I agree with Marty just said and I would add the institutional market outside of whatever fixed income strategies that they are pursuing it doesn't really chase yields for the sake of yields their total return are added whether they are investing directly in property or into publicly traded reach. So to be honest retail has been extremely muted so far and retail has not been a factor I don't think inflows or in valuations and I think institutional investors are looking at reads and other real asset strategies for all the reasons Marty mentioned with the yield the loan being may be the least important.


(Operator Instruction). Our next question comes from the line of Alex Blostein from Goldman Sachs. Please proceed.

Alex Blostein - Goldman Sachs

A question on the margin. If you look at your total assets under management, you are almost back to near your peak levels of '07, you had the margin to kind of stay flat here at 30% for the last three quarters. Can you just kind of help us understand the balance in between reinvesting into the business and how much more in that front you need to do versus kind of letting the margin float back to kind of high 30s, maybe the low 40s range that you've been at in '07?

Matt Stadler

As you point out, the third quarter of '07 was our high watermark of AUM, but the firm back then had a different model if you will. Our business is now more weighted institutional, there is a bigger sort of advisory components or effective key rate is lower now than it was then. And there has been some increase in our distribution expenses. So, in general, the profit margin is going to be lower today than it was back in '07 with the same level of assets just due to those to major inputs. That said, we've attempted to set our comp at a ratio that we've been able to maintain thus far this year, and that's based on where we are forecasting the results to be for the 12 months ended 2010. I would expect that if our assets maintain this level and continue to grow, that the margin expansion would come primarily from a reduction in our comp ratio for 2011. We haven't really said what that would be, but I think on the last call we implied that it would be somewhere around the 300 or 400 basis point range. And then we would also expect retail to check in next year and that's higher fee business for us as well. So, the more flows we get in the retail channel, it's a higher basis point fee, (inaudible) and it will change our overall mix and help to provide some margin uplift there as well.

And I would add, as you know while our assets under management are approaching [quite highs] that's been a fairly rapid and recent phenomenon. So we haven't enjoyed an extended period of time at these levels and so that will certainly help on the margin side if as Matt mentioned, if our asset stay at these levels or move higher.

Alex Blostein - Goldman Sachs

And then on the closed end fund, any idea what the size of the fund will be?

Matt Stadler

Basically as you know, it's unknowable. We'll know once we get it on the market, what the reception is. Clearly there's interest in it. We have a good line up of underwriters and we'll know when you know. And you'll know when we know.


Our next question comes from the line of Cynthia Mayer with Bank of America/Merrill Lynch. Please proceed.

Cynthia Mayer - Bank of America/Merill Lynch

Thanks, good morning. This is Adam (inaudible) in for Cynthia. Just quickly on the G&A expense. How much of the 3Q increment is down to the IT project. Certainly what I am trying to get a sense of a good run rate. Is it more like 2Q, more like 1Q and also how long does that project or set of projects have left around.

Matt Stadler

Well I guess the good news is that we have installed a couple of enhancements to systems that we have in place a good chunk of those fees are licensing fees so we would expect that the fourth quarter would (inaudible) third quarter. We do have one system that will fall off and we will have improvement in that line item in the first quarter of next year but if you are just thinking for the fourth quarter we are thinking G&A with case study because its new systems that were added and the cost associated with them and the one system that will be replaced won't really be coming off until 2011.

Cynthia Mayer - Bank of America/Merill Lynch

Okay, so it's primarily more of subscription model?

Matt Stadler


Cynthia Mayer - Bank of America/Merill Lynch

Great, thanks for that. Also on the non-operating you had some gains from recoveries in the last couple of quarters, and looking back at '09 I guess you took $32 million of OTTI at this point trying to size it going forward, how much of that is left on the balance sheet. Has the market value recovered all the way or sort of part of the way. Any detail you can provide would be great on that?

Matt Stadler

I think that what we have left is predominantly some seed and mutual funds which for the most part or at levels above which we normally would trigger a redemption. As the majority of the impairments that we are taking we incorporate for (inaudible) invested in some preferred stocks with the corporate cash and those of all been sold. So, we continue to monitor our seed, we have seen the CPS fund at some point that's going to be able to be liquidated but for the most part those securities that we have taken impairments on have been sold.


Our next question comes from the line of (inaudible) from Collins Stewart. Please proceed.

Unidentified Analyst

I understand the retail channel has been pretty weak, but you all earlier in the year revamped your retail distribution and so I was hoping you could give an update on that front, and maybe when you expect increased traction in the channel.

Matt Stadler

All of the changes and improvements that we've been focused on in the retail channel which started about a year and a half ago, almost two years ago are complete. And we have the people in place that we want, that management in the field and our systems and programs have been in place and we are ready. At this point, we are waiting for the retail channels outside of strictly fixed income to show improvement. Now we were seeing that improvement but it's starting from a very low level, the direction changes up and it seems to be accelerating and we are seeing it in the field, gross sales are gradually rising, again when you look at the closed end fund market, you are seeing some very significant successes out there starting early in the summer.

So, we'll see just how in retail investor sentiment, how and when and how quickly it ships from behind mass of flows into various fixed income strategy and starts to seg way equity oriented income strategies and so on. We don't control that but we are ready. Everything we wanted to do has been done and has been in place and operating.

Unidentified Analyst

So, I guess any efforts to tell the story about, as was referenced earlier, the reflation play actually benefiting real estate versus fixed income has fallen on deaf years in the retail channel.

Bob Steers

We were in the business of educating all of our markets on all these things. Institutionally I think they are more sensitive, they are hearing that and they are embracing that as Marty said, the real asset strategy which is many strategies has really gained a great deal of traction in the institutional market and our sense is that that is in front of us for retail. The education continues, I think retail channels are telling the same story but until retail investors feel comfortable taking additional risks, we're in the education mode and I think its only a matter of time until that translates into a significant order activity.

Unidentified Analyst

And then a follow up for Matt on the IA and the currency impact. With the US dollar weakening Matt can you just explain to me how the IAC would come down. I would think the opposite, so maybe I am just not thinking about it correctly.

Matt Stadler

With the FAS 52, the ended strengthening against the dollar, so we record the receivable at the spot rate which lets say is 91. But since the Yen strengthened more towards the end of the quarter when you look at the average rate, the average rate was 96. So the entry that we have to make to record the currency is to debit to get rid of the incoming credits and non-operating income which is why our other non-operating went up. So, this adjustment is pretax neutral. But it does have an impact on the fee income and therefore the effect of fee rates.

Unidentified Analyst

Yes, its not like it's purely up takes right?

Matt Stadler

Right, its purely up takes but its an important up take and that's why we are bringing in up with the velocity of the end strengthening towards the end of the quarter with the source of the year that it had a bigger impact on the line item than it had had previously.

Unidentified Analyst

That makes a lot of sense. Thanks a lot.


And gentlemen (inaudible) see that there appears to be no further questions at this time. Please continue your presentation with closing remarks.

Matt Stadler

Thank you all for joining us and we look forward to speaking again in New Year. Thank you.


Ladies and gentlemen that thus concludes the conference call for today. We thank you for your participation and ask that you please disconnect your lines.

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