October 18, 2012 / 7:00 PM / 8 years ago

Analysis: Legg Mason's internal tensions lead to breakup talk

BOSTON (Reuters) - As Legg Mason Inc works to find a new CEO, financial industry executives say the Baltimore money manager could be a good candidate for a breakup backed by private equity, building on a trend among asset managers lately.

Thanks to missteps at several of its units during and after the financial crisis, Legg Mason’s current share price around $25 is roughly one-quarter the level it hit in 2007. Former CEO Mark Fetting, who stepped down at the start of the month, already tried massive cost cutting, restructuring debt and overseeing the replacement of underperforming managers like one-time-star Bill Miller.

But unresolved tensions between the affiliates and Legg Mason headquarters helped lead to Fetting’s departure, people familiar with the firm said. Now the question of how best to structure Legg for the long haul looms over the firm’s selection process for its next leader.

“I could imagine a number of the affiliates considering private equity at this juncture,” Charles Burkhart, founder of Pennsylvania private equity firm Rosemont Investment Partners, said. With backing from firms like his own, Burkhart said, Legg Mason units could gain independence and the flexibility to choose their own path.

Dozens of asset management firms have been snapped up via private equity funding over the past 12 months, according to Thomson Reuters data. Among the most prominent, the Carlyle Group announced plans in August to buy TCW Group, which managed $130 billion in assets, for an undisclosed sum.

Earlier, in April, Lee Equity Partners announced plans to buy wealth manager Edelman Financial Group, with about $18 billion in client assets. CEO Ric Edelman said he expects more private equity interest in asset managers going forward. Private equity “firms are beginning to realize there are opportunities,” Edelman said via email.

Meanwhile spinouts already are under way at some of Legg Mason’s competitors. Affiliated Managers Group Inc of Boston just spun out its Essex Investment Management unit.

A similar breakup could help Legg Mason affiliates keep customers loyal by removing worries about the parent, Joe McNay, Essex managing principal, said. McNay said he expects similar deals at Legg Mason and elsewhere, helped by low interest rates.


Legg Mason executives - including lead independent director W. Allen Reed, interim CEO Joseph Sullivan, and the leaders of its eight main investment units - would not comment, spokeswoman Mary Athridge said.

The firm, which currently has $651 billion under management, was put together over decades via a chain of acquisitions by founder Raymond “Chip” Mason. He retired in 2008 after completing his biggest deal of all, acquiring Citigroup Inc’s $400 billion fund division in a swap for Legg Mason’s brokerage force.

That deal worked out poorly after it turned out too many of the former Citi funds had been stuffed with risky mortgage-backed securities and needed to be bailed out. Legg Mason’s bond division, Western Asset Management, also misplayed the mortgage meltdown while star stock picker Miller grabbed shares of some of the crashing financials far too soon.

Legg Mason hired Korn/Ferry International last month to find a new CEO. In addition to dealing with affiliates, the incoming leader will also have to come to terms with activist investor Nelson Peltz, who owns 9.5 percent of its shares.

A spokeswoman said Peltz would not comment.

Currently, the investment units’ independence rankles some business partners, who complain of a lack of co-ordination among divisions like small-cap manager Royce & Associates or bond shop Western Asset Management.

“It’s very frustrating to do business with this company,” said Clifford Caplan, a financial advisor in Massachusetts.

Some affiliates want more help selling funds from Legg Mason’s central distribution group. Money sent to central distribution is “like making payments to Rome,” said one insider.

To be sure, getting the pricing right for a breakup would be tricky, said an investment banker who follows asset managers. Like the other unnamed sources in this article, this person spoke on condition of anonymity because of the sensitivity of the situation.

Acquirers or unit leaders might want to take advantage of Legg Mason’s problems to justify a low buyout price, but it would be hard for the parent to justify to its shareholders. “Management would want to buy it (their units) at a steal. That’s hard to get from a public company,” the banker said.


Still, private equity has not always won big in asset management, as Legg Mason’s own story shows. In the spring it said it would buy back from private equity firm KKR & Co LLP convertible senior notes KKR bought in 2008 when the stock was worth nearly three times its current value.

Another hurdle could be the complex and differing revenue sharing agreements negotiated between Legg Mason and each of the affiliates, said Susquehanna analyst Douglas Sipkin. “It would be hard to break up,” he said.

Whether or not it turns to private equity, Legg Mason’s board now faces pressure to break up the company or find a better inner balance. “They have got to figure out what value it is the parent is providing the rest of the organization,” said Roland J. Meerdter, Managing Director of Propinquity Advisors LLC, a consulting firm that has worked with Legg Mason.

“Legg Mason as the holding company has to do a better job of explaining what they’re doing to add value,” he said.

Reporting by Ross Kerber; Editing by Aaron Pressman and Phil Berlowitz

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