Profits proving elusive at Putnam as manager compensation eats gains

Market performance boosts AUM as asset flows mostly negative

Aug 19, 2013 @ 2:34 pm

By Rick Baert

Investment talent doesn't come cheap, but it drives consistent performance, Putnam CEO Robert Reynolds believes.

Putnam Investments LLC hasn't been contributing many profits to parent Power Financial Corp. since the money manager was acquired by the Canadian firm in 2007.

The main reason: compensation to executives brought in to shore up investment performance.

Despite growth in assets under management and improved performance numbers, Boston-based Putnam reported a net loss of $14 million for the quarter ended June 30. All told, Putnam has had only six profitable quarters since Power Financial, Winnipeg, Manitoba, bought the firm from Marsh & McLennan Cos. Inc. in August 2007.

Its last reported quarterly profit was $48 million in the second quarter of 2011; it has sustained losses every quarter since then.

Quarterly net losses attributed to Putnam by Great-West Lifeco Inc., the Power subsidiary that includes Putnam, have ranged from $1 million in the third quarter of 2010 to $37 million in the fourth quarter of 2009.

Meanwhile, AUM as of June 30 was $134.7 billion, up 37% from $98.6 billion on March 31, 2009, the lowest since Power acquired Putnam. Of the June 30 asset total, about $70 billion was for institutional clients.

The gains have mainly come from market performance, because asset flows generally have been negative.

Rob Sedran, equity analyst, CIBC World Markets Inc., Toronto, said, “The company did have performance issues, though they've turned that around. To do that, they've brought in new people with investment experience. But you have to pay the people you brought in to do that. The people that solved the problem are now getting paid for that.”

Robert Reynolds, president and CEO of Putnam, said in an interview that incentive compensation for portfolio managers, analysts and other investment executives was the main reason for the net losses.

Mr. Reynolds, former chief operating officer at Fidelity Investments, Boston, became president and CEO of Putnam in 2008, and recruited several senior people from Fidelity. They included: Walter Donovan, chief investment officer; Shep Perkins, portfolio manager and co-head of international equities; and Aaron Cooper, director of global equity research.

“We pay for performance,” Mr. Reynolds said in an interview. “If a manager performs, they will get paid ... It's an expensive way to do it, but you build consistent performance that way. Great-West understands that to deliver the performance, you have to get the right people. Great-West is totally behind us.”

“The goal is to be profitable,” Mr. Reynolds added, saying $150 billion in AUM would be a “general ballpark” threshold of profitability for the firm. He expects to reach that goal by the end of this year, although he said, “A lot depends on flows and market performance.”

Compared to Janus

“Whether $150 billion or $135 billion (in AUM), a firm that size should have sufficient scale to be run at a healthy profit margin,” said Domonkos Koltai, partner at investment bank PL Advisors, New York.

Among all publicly traded money management firms, “I am not aware of any that is not profitable,” he said.

Mr. Koltai compared Putnam to Janus Capital Group LLC, Denver, which had about $164 billion in average AUM last quarter and has been hit with long-term net outflows, yet has managed to produce a 27% operating margin, according to its earnings statement last month.

He contrasted Putnam's expense base — revenue minus net income — at $200 million in the first quarter vs. Janus' $160 million expense base. “That suggests that Putnam should have room to bring down expenses,” he said.

Putnam continues to pay Great-West Lifeco quarterly financing charges of about $6 million as part of Power Financial's agreement to acquire Putnam. Those charges aren't included in the earnings, CIBC's Mr. Sedran said, “so there are probably more negative quarters than disclosed in financials.”

Mr. Sedran also said Putnam was “built to be bigger” — to have more assets under management — than it is, and that is costing the firm money. “From back office to sales to systems in place at Putnam, asset management is a scale business, but at the end of the day, Putnam is built for more (AUM) than they have.”

“That's a fair assessment,” Mr. Reynolds said of Mr. Sedran's statement. But he added he believes if Putnam produces good investment performance, “assets will come.”

Fund returns

According to data from eVestment LLC, Marietta, Ga., among Putnam's largest offerings is the $4.9 billion Putnam Fund for Growth & Income, a large-cap value mutual fund. It returned 28.48% for the year ended June 30, and an annualized 7.59% for the five years ended June 30. The fund's benchmark, the Russell 1000 Value index, returned 25.32% and an annualized 6.67% for five years.

Its $3.76 billion Putnam Diversified Income Trust multistrategy fixed-income fund returned 11.75% and an annualized 6.3% for the same time periods, vs. -0.69% and an annualized 5.19% for its Barclays Aggregate Fixed Income index benchmark, according to eVestment.

Putnam, like most money managers, was hit hard by the financial crisis of 2008-2009. Mr. Reynolds said that while lots of firms cut back as a result, “for Power, it was full steam ahead for Putnam.”

“We had hirings of equity, fixed-income, asset allocation teams. In equities alone, we did a total restructuring, hiring eight or nine new fund managers and 41 new research people. What everyone was hearing from Wall Street was that the ability to have good research was critical.”

Although reduced from the $17.17 billion in overall net outflows in 2008, the money manager still is seeing money leaving. Net outflows year-to-date through June 30 were $722 million; they were $1.79 billion for all of 2012. Only one year since Power bought Putnam — 2011, with $181 million — were there net inflows.

Mr. Reynolds said outflows have come from the firm's institutional investments, attributed in part to reduced flows from pension funds and a shift by them to more liability-driven strategies and less to active strategies, which is Putnam's strong suit. (Neither Putnam nor eVestment breaks out institutional and retail flows.) Retail strategies have seen net inflows, with investors putting $9 billion into Putnam's 25 new strategies since 2009, he said. Putnam “is starting to see some positive signs that we'll be very close to net (institutional) inflows by the end of this year,” Mr. Reynolds said.

Mr. Reynolds said the defined contribution area has been a boon to Putnam. “We're competing against the best in the (DC) business for new business, winning most of it,” he said. Its defined contribution assets under administration have jumped 57% since December 2010, to $23.34 billion as of June 30, according to data from Putnam. DC assets under management increased 29% since 2010, rising to $7.07 billion as of Dec. 31, according to Pensions & Investments data.

In it for long haul

It appears that Great-West Lifeco — and by extension, Power Financial — can be patient with Putnam, given how little Putnam's losses have affected Great-West Lifeco earnings. According to Great-West Lifeco's Aug. 1 earnings call, operating earnings for the quarter ended June 30 totaled US$505 million, while Putnam's net loss was $14 million.

“Power and Great-West are with Putnam for the long haul,” Mr. Sedran said. “I think five and 10 years down the road, they might demand it to be profitable. But (Great-West Lifeco) is a large firm. In the context of hundreds of millions of dollars in profits, they're not complacent about (Putnam), but they can tolerate it. ... They won't tolerate it long term, but they believe in Putnam.”

Paul Mahon, Great-West Lifeco's president and CEO, said in an e-mail, “Under the leadership of Bob Reynolds and his management team, Putnam has done a fantastic job in strengthening the firm's products, marketing, distribution and investment management.”

He didn't answer questions on whether the parent company is satisfied with Putnam's direction and when his company expects to Putnam to be profitable.

(Rick Baert is a reporter at sister publication Pensions & Investments.)


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