Invesco Ltd (IVZ) — Q1 2016 Earnings Call Transcript

This presentation and the comments made in the associated conference call today may include forward-looking statements. Forward-looking statements include information concerning future results of our operations, expenses, earnings, liquidity, cash flow and capital expenditures, industry or market conditions, AUM, acquisitions and divestitures, debt and our ability to obtain additional financing or make payments, regulatory developments, demand for and pricing of our products and other aspects of our business or general economic conditions. In addition, words such as beliefs, expects, anticipates, intends, plans, estimates, projects, forecasts and future or conditional verbs such as will, may, could, should and would, as well as any other statement that necessarily depends on future events are intended to identify forward-looking statements. Forward-looking statements are not guarantees and they involve risks, uncertainties and assumptions. There can be no assurance that actual results will not differ materially from our expectations. We caution investors not to rely unduly on any forward-looking statements and urge you to carefully consider the risks described in our most recent form 10-K and subsequent forms 10-Q filed with the SEC. You may obtain these reports from the SEC's website at www.sec.gov. We expressly disclaim any obligation to update the information in any public disclosure if any forward-looking statement later turns out to be inaccurate.

Thank you, this is Marty Flanagan and thank you for joining us today. On the call with me today is Loren Starr, Invesco's CFO and we will be speaking from the presentation that's available on the website, if you're inclined to follow. Today I'll review the business results for the first quarter. Loren will go into greater details of the financials and we will open it up to questions. So let me begin by highlighting the firm's operating results for the first quarter, which you will find on slide 3. Long term investment performance remained strong during the quarter. 72% and 76% of active managed assets were ahead of peers on a three-and-five-year basis, respectively. Strong investment performance and our continued focus on meeting client needs were not enough to offset the impact of the volatile markets, particularly in January and February. Non-institutional and active demand were offset by volatility among retail and passive capabilities, which led to long term net outflows of $1.3 billion during the quarter. Market volatility and net outflows put pressure on the operating margin during the quarter which is 37.5%. During the quarter, we returned $238 million to shareholders through dividends and stock buybacks. In addition, reflecting continued confidence in the fundamentals of our business over the long term, we're raising our quarterly dividend to $0.28 per share, up 4% from the prior year. Assets under management were $771 billion at the end of the first quarter, down slightly from $775 billion at the end of last year. More indicative of the results during the quarter were the average assets under management which were down $36 billion during the first quarter as compared to $778 billion at year-end. Operating income was $307 million in the quarter versus $356 million in the prior quarter. Earnings per share were $0.49 versus $0.58 in the prior quarter. And as noted earlier, we increased the dividend to $0.28 per share and also purchased $125 million of stock during the quarter. Before Loren goes into detail on the company's financials, let me take a moment to review the investment performance and flows during the quarter. Turning to slide 6 now, you will note investment performance is strong in the quarter with 72% of assets in the top half on a three-year basis and 76% were in the top half on a five-year basis. One year results partially reflect the underperformance of energy and financial sectors earlier in the year which impacted some of our valued portfolios. We've seen both of these sectors begin to recover somewhat in March and April and consequently possibly impacted the performance here to date, in fact with some very strong performance. On page 7, you will see positive active flows were experienced during the quarter were not as strong as passive capabilities. Active flows were driven primarily by alternative capabilities, as we saw strong growth in real estate including both direct and REITs, a global targeted return. Those in the passive capabilities declined during the market volatility in January and February. They recovered in March, but not enough to return to positive territory for the quarter. It's important to note that although passive flows were negative, they were reduced by $1.5 billion of deleveraging from Invesco Mortgage Capital. As a reminder, there's no revenue impact related to those flows. Again, we saw strong institutional flows during the quarter, in spite of the volatility which continues a series of positive institutional flows going back nearly two years. Client demand trends remain consistent, with particularly strong interest in fixed-income, real estate and GTR. Retail flows were impacted by the macro environment as investors weighed their options during the volatile quarter, despite seeing outflows in many equity mutual funds in the U.S. and EMEA, we saw continued strength in retail alternative capabilities, specifically GTR and real estate securities. As noted, our global target of assurance capability continues to attract strong flows globally, achieving $2.3 billion in net flows during the quarter across EMEA institutional, across border, into the UK, retail, Asia-Pacific and North America. Despite some challenges in the first two months of the year, we still feel good about the momentum of our business. Flows in March were much better than January and February and we're experiencing solid flows in April. We continue to see strength across our global business, in particular within Asia-Pacific and EMEA. Before I hand the call over to Loren, let me say a few words about the new fiduciary rule released by the U.S. Department of Labor in early April. Ultimately, we believe this fiduciary rule is good for investors. That said, we continue to be concerned about the potential for unintended consequences of a rule that proposes such dramatic changes within the industry. It's well known that many investors are not saving enough to maintain their standard of living during retirement. The DOL Rule was intended to ensure that retirement savers get better advice by expanding the types of retirement investment advice covered by fiduciary protections. We said all along investors are best served by using advisors who can help them assess their risk tolerance, savings horizons and other factors to develop a portfolio that helps them achieve their investment objectives. The key outcome of the new rule could be greater confidence in the advice that investors are receiving. Investors have been through a lot in the last seven years since this national crisis. Anything that builds confidence could encourage them to save more for retirement and seek advice that helps them achieve their investment objectives, which is good for investors and would also benefit the industry as well. The DOL Rule is long and complex. The rule and its related documents are more than 1,000 pages. We're working to understand how our distributor partners are interpreting the rule, which will help us support and assist them. We believe the recent acquisition of Jemstep, the market-leading provider of advisor-focused fiduciary solutions, opens up further opportunities to provide meaningful support to our clients. As we engage with our clients and seek to understand how they will approach adopting the new rules, we will look to find opportunities for Jemstep to assist our distribution partners. We believe that Invesco is very well positioned to our clients as the DOL Rule is implemented. Because Invesco puts our clients first in everything we do and has tremendous experience in addressing regulatory topics, we view this as an opportunity to further deepen our relationships and provide new capabilities that enhance our business. I would like to turn it over to Loren to review the financials in more detail.

Thanks, Marty. Quarter-over-quarter, our total AUM decreased $4.1 million or 0.5% and that was driven by dispositions of $3.6 billion, negative market returns of $3 billion, outflows from the QQQs of $2.6 billion, and long term net outflows of $1.3 billion. These are partially offset by inflows from the money market of $3.8 billion and positive FX translation of $2.6 billion. Our average AUM for the first quarter was $747.5 billion, which was down 4.6% versus the fourth quarter. Our net revenue yield came in at 43.8 basis points and that was a decrease of 1.4 basis points versus Q4. Currency mix reduced the yield by 0.7 basis points. One less day in the period reduced the yield by 0.4 basis points. A decrease in performance fees and other revenues together accounted for the remainder of 0.3 basis points. Now I'm going to turn to the operating results. Our net revenues declined by $68 million or 7.7% quarter-over-quarter to $818.1 million which includes the negative FX rate impact of $12.6 million. Within the net revenue number, you will see that investor management fees fell by $78.5 million or 7.8% to $930.3 million. This reflects the lower average AUM, the changes in AUM product and currency mix and one less day during the quarter. FX reduced fourth quarter management fees by $16.1 million. Service and distribution revenues declined by $9.9 million or 4.8%, reflecting lower average AUM during the quarter. FX decreased service and distribution revenues by $0.2 million. Performance fees came in at $15.5 million in Q1 and they were earned from a variety of different investment capabilities, including $9.1 million from UK equities. Foreign exchange reduced performance fees by $0.6 million. Other revenues in the first quarter were $24 million. That was a drop of $5 million due to lower transaction fees from real estates, as well as a decline in new IT rollovers. Foreign exchange decreased revenues by $0.1 million. Third-party distribution service and advisory expenses, which we net against gross revenues, fell by $28.7 million or 7.6% and this movement was in line with lower revenues derived from retail AUM. Foreign exchange decreased expenses by $4.4 million. Moving on down the slide, you will see that our adjusted operating expenses at $511 million decreased by $19.4 million or 3.7%, relative to the prior quarter. Foreign exchange decreased operating expenses by $6.5 million during the quarter. Employee compensation came in at $340.3 million, an increase of $1.5 million or 0.4%. This was driven by a normal seasonal increase in payroll taxes which was largely offset by a reduction in variable compensation. FX reduced compensation by $4.3 million. Marketing expense decreased $9.2 million or 26.2% to $25.4 million. This drop is due to a lower level of advertising, literature, travel and client events during the quarter. These expenditures were deferred in light of the volatile market conditions that we were in. Foreign exchange reduced marketing expense by $0.2 million in the quarter. Property, office, and technology expenses came in at $81.1 million in the quarter. That was an increase of $0.7 million over the fourth quarter, driven by additional outsource administrative expenses. FX decreased these expenses by $0.9 million. General and administrative expenses at $64.2 million decreased $12.4 million or 16.2%. This decline was the result of focused expense management during the quarter, as nonessential professional services and other nonessential discretionary spending was reduced or postponed. FX decreased G&A by $1.1 million. Continuing on down the slide, you will see that non-operating income decreased $2.9 million compared to the fourth quarter. Included in the first quarter were non-cash negative marks to March markets on inter-company loans of $7.1 million and $1.4 million on trading investments. These were slightly offset by a $3.4 million gain which was realized on our pound sterling U.S. dollar hedge. Just to remind people, as we've said in the past, we have in place a hedge through the end of Q1 2017 with a strike price of $1.4355. This is the pound hedge that we put in place. The firm's effective tax rate on pretax adjusted net income in Q1 was 26.5%. That was down from 26.6% in the prior quarter, which then brings us to our adjusted EPS of $0.49 and adjusted net operating margin of 37.5%. Before I turn things back over to Marty, I just want to provide a quick update on the business optimization work that we began to implement in Q4 of last year. As a reminder, as we stated, we expect to incur up to $85 million in expenses during 2016 related to these activities, with an expected run rate savings, however, of $30 million to $45 million through the beginning of 2017. In the first quarter, we incurred $6.8 million of the $85 million in optimization costs. That was primarily in the form of staff severance costs and as previously discussed, these expenses do impact our U.S. GAAP P&L, but they are being excluded from our non-GAAP results. And also, just to finalize the point, we did generate approximately $2 million in permanent run rate savings in Q1 as a result of the optimization efforts to date which was in line with our plan. And so with that, I'm going to turn it back over to Marty.

Thank you, Loren. We will open it up for questions.

Can you provide an update on the U.S. equities business? I'm just looking here at slide 18 and looking at some of the performance across some of these capabilities and I just want to see if you maybe have any plan to sort of get some of this performance stronger here?

Good follow-up question. So that was my point. Actually, if you look at the value portfolios, they have had quite a bit of exposure to energy and financials in particular. And the year-to-date performance actually has been quite stunning and that's really started in the last couple of weeks here, where things like Comstock is in the ninety percentile, growth and income in the four percentile, American value in the three percentile, so really, really very strong. So strong teams do a good job with their philosophies and it is a high conviction approach and yes, the numbers are coming in really strong.

Got it. And then just a follow-up question for Loren. And Loren, I know there's a lot of moving pieces here and it is always tough to anticipate data, but the operating margin's always depressed in the first quarter due to a few items that we all know about. But A1 finished the quarter much stronger and you have those initiatives in place. So I'm wondering, do we have a shot of getting the margin back to the 40% range with stable market share?

We certainly would hope to see margins improve through the course of the year. Obviously there are a lot of moving parts, a lot of volatility. We've got the pound and the currency topics which have been bouncing around a little bit. So I'm not going to put out a number in terms of what I think margins could be. Obviously, the inherent strength of the business is there and as markets stabilize, currency stabilizes, we should continue to see the very positive trend of incremental margins working in our favor to pull up our overall rate and sort of margin overall. But it will depend ultimately on what the markets do through the rest of the year. We're, as you know, still at the level of assets below where we were on average for last year and so I would say we're still catching up to where we were last year in terms of overall margin potential.

There is absolutely nothing in the way of us exceeding 40% margins where they were again. And I think that the issue, as Loren cited, it is a timing issue more than anything else with markets. But I think also very importantly, regardless, even though the market has come back some and flows are picking up again, we continue with the optimization programs. And we're going to finish those and again we'll just be net better off because of all of those activities.

And just to remind people, the optimization program is operating through the course of 2016 and we do not really get to the full run rate benefit until we get to the end of the year which we talked about the $30 million to $45 million potential. We're going to see some continued benefit through the course of this year, but again, $2 million here, $3.5 million, $4.5 million, you know, it's going to kind of begin to scale through the course of the year. But it's still not at a level, I would say that's going to be the most dramatically move the margin picture.

Two-part on the follow-up there, with ending AUM over 3%, better than average and April positive end-year, positive comments on flows. I look at the revenue decline in the quarter, year-on-year and half of that was performance fees. So the first question is if you could talk through what we should expect from here over the progression of the year on performance fees? I know they're tough to predict, but it was half the decline in revenues in the quarter, so I think that might have a big influence on the margin in question.

So you get to one of my favorite topics, Glenn, predicting performance fees which again, I still will continue to profess, I'm not very able to do that. Generally performance fees are lighter through the last half of the year, their the heaviest in the first quarter and so you sort of see the heavy performance recorded already. So my expectation of performance fees through the remainder of the year, as I often said, is sort of place-marked, earmarked, when we're thinking about our planning, somewhere around that $5 million a quarter which is an estimate that assumes a lot of different things kicking in across the globe, but no one thing driving it. We would hope to see the other revenue line improve somewhat because the volatility in the first quarter was pretty extreme. And so as I mentioned, in transaction fees and real estate rollovers, in the UIT business, were really slowed down by that degree of volatility. If we get to a more stable, and that's a big if, but if we get to a more stable market environment that line item should be closer to, sort of, that $30 million to $35 million number through each quarter.

And on the expense side, if you look at comp marketing and G&A oil declines, in line with non-performance fees revenue or better, I know this is a soft question, but how much of that is response to the weak revenue environment in 1Q versus more run-rate type levels?

The optimization efforts are what will lead to a lasting reduction, and there are actions we can take and have initiated in the first quarter, which we will continue throughout the year to manage our discretionary expenses at lower levels. Some expenses can be deferred for a reasonable time, while others cannot be postponed indefinitely. We usually see elevated seasonal costs for marketing in the first and fourth quarters. It is crucial for us to maintain our presence and continue engaging with clients and hosting events, as these are vital for business growth, and we prefer not to delay these expenditures for an entire year. Additionally, we expect to see effects from salary increases and deferred compensation when comparing the second quarter to the first quarter, generally experiencing about two months of impact in the second quarter, which could result in an increase of approximately $5 million to $6 million. We plan to carefully manage these factors and apply a disciplined approach to our hiring and discretionary spending. I do not want to provide specific guidance on a quarter-to-quarter basis due to the volatility in markets and foreign exchange, which makes it challenging to offer useful information.

I want to come back to Jemstep for a moment. One of your peers is out there as well with their own platform, they have actually signed up a few third-party distributors to accelerate the opportunity there. Can you talk a little bit about how you plan to leverage the platform and maybe synthesize that with your comments around the DOL?

Bill, we're very excited about it and we look at it differently than the other, you want to call it technologies, robos out there. It was actually developed for the advisors themselves. And it is an open platform and it can use everything, all vehicles from ETFs to mutual funds and those are the limitations of some of the others. And ours is to be supportive of the advisors, not to compete with them and so there is no direct-to-consumer element to it and that was by design. And so we're able to just have a much deeper relationship with our clients, all the thought leadership that we have is an element also, delivering our solutions capabilities to various different clients through that, so another very good venue there. And again the combination of the high conviction fundamental and factor based capabilities, whether they are mutual funds, ETFs, UITs. So we think it is also going to broaden our channel, our exposure, in the RIA market and that has been sort of an early indicator and frankly, the level of interest has been quite surprising. And I think frankly somewhat driven by the DOL also, because they are looking for technologies to help serve their clients and it is a market that really needs tools like this.

This follow-up for Loren, regarding margins overall, you mentioned that G&A was somewhat softer as you delayed some items. How do you view that moving forward? Additionally, there is a wide range on optimization, between $30 million and $45 million. What would indicate the higher end of that range in terms of actions to be taken from this point onward?

So on G&A, that is a line item that we probably in some ways are best able to manage. It has to do with travel and entertainment and use of professional services and so those are things that are easier for us to slow down since they tend to be not as business critical as some of the other things around marketing for example. So we would hope to see continued success in terms of managing that line item. Although I would say there may be some things around some of the regulatory side that could drive certain needs and that could drive some cost in the G&A around risk management and other compliance efforts. But I still think that is an area we're putting a lot of focus on to manage and maintain somewhere around were run rate level in Q1. In terms of the broad range of the $30 million to $45 million, there are still several of these initiatives that are going through the finalization of their planning phases. And so we don't have clear line insight of the ultimate impact and so that's what is driving that spread. Again, I think we're hopeful we're going to get to the higher end of that range, but we want to be thoughtful and not commit to it until we're more certain which we'll begin to get more certain as we get through the course of this year and we will provide that feedback to you as soon as we know.

First Marty, you mentioned solid flows in April. First, I just want to be clear, does that imply solid net inflows? And then I'm also assuming that refers to the Firm-wide total, so any color on magnitude or some of the underlying drivers behind that?

You're a good skeptic, so thank you for the question. So yes, I meant inflows. Total net inflows is about $3.7 billion right now and $1.9 billion are long term flows. The institutional pipeline, again, and you're going to get tired of hearing it, but it is a good news story, it is an all-time high again, so that is another area of ongoing strength for us. I will say we're in that season where, that's today, what the flows are, this is a month where there is all that rebalancing throughout the industry. So we don't have line of sight, who knows what happens between now and the rest of the week, right? So it could be a little noisy, but I will tell you the quarter, if it stays on this path, will be a good quarter. But it could look a little noisy, you know, month to month, just because of all the industries are rebalancing, which is pretty typical and will not be unique to us. A very different environment, I'd say right now, than just where we were in January and February.

In terms of what is really being quite successful right now, Michael, we're seeing continued success around real estate, fixed income alternatives, global asset allocations, and multi-asset products at quant, which are all highly featured in our institutional pipeline. Regionally, we continue to observe strong flow momentum on both the retail and institutional side, particularly in Asia-Pacific. Additionally, ETFs are performing well across every region we're operating in, showing positive flows and sustained interest in that capability. Yes, that's incremental. What you are seeing in the first quarter, the expense reduction, only $2 million of that has to do with business optimization, as I mentioned. Everything else is related to us just managing expenses in a fairly disciplined and trying to defer what we can defer. We're going to continue to do, as I mentioned, through the course of the year. The business optimization is going to continue to roll and help on top of that activity to improve our overall expense management.

My first would be on regulation and Marty, you referenced unintended consequences which is certainly fair as a risk here. But do you have an estimate that you could size of how much of your AUM is in retirement accounts currently and therefore, at least at this stage, given what we know, the most clearly impacted by this DOL final rule? And then, based on what you saw happen in the UK that just went through, RDR, what lessons did you learn by going through that? And I'm guessing that had something to do with the unintended consequence comment and how does that put you in a position to be better prepared for this rule here in the U.S.?

We're all in the advice business, and being good fiduciaries is crucial. Prioritizing clients is essential, and maintaining trust in the industry is very important. In terms of fiduciary rulings, having better outcomes for clients is beneficial, and we're all in favor of it. However, the scope of what has been included has exceeded that principle. Our experience with RDR has shown that there are now more unadvised individuals, and there will likely be those who need advice the most, while overall costs have increased, which is a negative outcome. This trend is evident. The lessons learned include being aware of these issues, which is why we pursued the Jemstep initiative, as we can assist clients with tools that make advice more accessible, especially for those adversely affected by the rule. Although this wasn't the intent of the rule, we believe it's a possibility. Additionally, it's important to focus on how we present the firm. Often missed in discussions is the performance of money managers. If you're heavily reliant on indexing or active management, you may face challenges. However, if you have strong conviction in fundamentals and factor-based capabilities like we do, you're likely to be well-positioned. Our work demonstrates that high-conviction active strategies tend to yield better returns across market cycles, including improved downside capture and risk-adjusted returns. This is the value proposition we need to emphasize. Since 2009, the market has been driven by beta with significant government intervention, but in quarters like this, we’ve seen active managers outperform the S&P by 300 to 350 basis points, which is quite impressive. Therefore, having high conviction in fundamentals and factor-based strategies is essential, and we believe this approach positions us favorably. Much of this insight comes from the lessons we learned in the UK. I tried not to be too lengthy in my explanation.

And then follow-up, just a little bit more ticky-tacky, I think you'd said that the ETF flows were positive across regions. Were you talking about 1Q? And it looked like passive redemptions have been accelerating here over the last several quarters, so is that driven? What's driving that? Can you help us unpack and square those two statements a bit?

I will answer that, because it was my statement I think. So I was referring, positive in every region and that's April, so I was really referring to the April numbers. However, I would say in the first quarter, the first two months were not great months for our passive or whatever, ETF offerings, but I would say March was a record in terms of our sales. So it really came back strongly and as I sort of indicated, it's continuing strong into April. The passive category that we show, Marty mentioned it, got very much affected by the deleveraging of IVRs. So it is really is not the fill of noise in our numbers, because the deleveraging has no impact on revenues and even though we count and as an outflow, it's just really part of how they're managing that business. So I would not read too much into the first quarter passive outflow story, really just understanding that we do believe that our ETFs business is very well-positioned and it is gaining momentum. It is the most diversified set of smart beta offerings and we're gaining share in smart beta year-to-date, so we feel very confident about our ability to continue to grow that business.

Couple for Loren. Maybe first, when we think about the management fee rates for active and passive funds, both were down a lot for the quarter, I think maybe largely expected, maybe the magnitude was off a bit. Maybe can you first talk about how the fee rate should recover given the bounce back in equity markets, foreign markets, various currencies? Should we recover a lot of the way or part of the way or all the way, any color there would be great? And then if you could maybe flesh out better for us places where the mix changed in 1Q that maybe had the most pronounced impact on the fee rate declined this quarter? Thanks.

Yes, so I think we will begin to see recovery of the net revenue yield and particularly as we get into the last half of the year versus the first. There is some day-count stuff that just happens normally and you always have that benefit of the last half having more days than the first half. So I want to make people aware of that; it is no secret. In terms of the mix, obviously we're having some reduced performance fee expectations coming into Q2 versus what we realized in Q1. Some of that will be offset by hopefully higher other revenues which will help move the fee rate up. And I think we also will see the success of our ETF business, the success of our fixed income business; a lot of that is in the pipeline. They tend to have lower fee rates, so there will be probably some degree of mix issue that's working a little bit against the higher fee. The flows that we have been getting into EMEA and U.S. retail have been more subdued and it can be a driver of fee rate mix. And I would say that is going to be a little bit of a question mark, particularly as we get through the whole Brexit thing and understanding what happened in the UK; that may have some impact, we don't know. It hasn't had any impact on flows per se that we can identify yet. But it could have some impact on flows. Based on our modeling and our thinking, we expect to see the fee rate drive up further each quarter as we move through the course of the year. I think the positive elements generally around mix still exist. And I would say that on the institutional pipeline, even despite what I said around fixed income coming in, the overall fee rate on the products that are coming far exceed the fee rate on the products that would be leading, so again a positive element on the fee rate. FX will also have a big impact too and I think we saw a pretty big impact on FX in the quarter, 0.7 basis points and so that was with UK down 5% quarter-over-quarter, the pound. Just to understand that those dynamics are probably one of the big drivers of fee rate issues. And hopefully that does recover and we get to break and we get stabilization of the pound.

And then on the other revenue obviously down a bunch for the quarter, can you maybe help us on an outlook for this? There is a number of components, real estate and UITs are one, how should this line be growing over time? And maybe how should it be growing compared to something like the management fee line? So obviously both will move up and down depending on market conditions, but should the other revenue be growing faster or slower over time? And then maybe more near-term in terms of an outlook. Based on your guys' views on real estate activity and maybe what you are seeing more idiosyncratically in the UIT markets, how should we think about that line item maybe for the rest of the year?

So I think it will grow, certainly off of what we view as a pretty low base in Q1. As I mentioned, it should pick up. Generally, our real estate business has been growing well and so that will, as a theme, help allow that line item to grow. And I say particularly as it's seeing success in Europe and Asia, that's where a lot of the funds actually do have transaction fees and that work in the U.S., some of the products that are managed by our real estate team aren't able to generate transaction fees so that will be a U.S./non-U.S. mix. But we think the outside the U.S. is an opportunity for the real estate business and still has a lot of opportunity to grow at a faster rate even than on the U.S. side. The UIT business, we would hope to see that grow. It has been a very competitive market, particularly because it is somewhat transactional when people decide to roll their UITs; if you do get volatility, they're just going to wait and see. And so we would want to see a market stabilization which would allow our ability to roll those things more rapidly and generate more of the revenues as well. But we think that the UIT business has a lot of opportunity to grow, and so we would expect to see between those two elements that other line item grow. Again, on an organic growth basis, we should be able to grow in that 3% to 5% level that we talked about before.

I think early last year there was a really good story around cross-border; some of the European products were flowing very well. It seems like performance there has softened a little bit on a couple of products; others are still very good. The environment has clearly gotten tougher. So maybe just talk about how you're feeling about cross-border, that product range and the growth outlook for the remainder of the year?

We believe that cross-border remains a critical part of our business and an engine for growth in the coming years. The changes we've experienced and their impact on the company have been largely positive over the last few years. However, market uncertainties, such as Brexit and other continental concerns, did slow down the quarter. That said, we feel well-positioned to continue gaining market share. Regarding performance, a similar trend can be seen in some of our U.S. portfolios and certain European portfolios that have exposure in financials and energy, which slightly hindered results. Yet, we have very capable managers who are highly respected. I view the situation more as market uncertainty rather than a lack of confidence in our investment team. As some of this uncertainty decreases, though it will never fully disappear, I believe we will return to a growth trajectory.

Our product range in Europe, still more than half of the assets are in the first quartile, so it is very strong. And when you look at the second quartile, on the five-year basis, it is more than 90% of the assets are beating peers on a five-year basis. So we think there is plenty of opportunity for us to be able to satisfy our clients' needs with the products that we have. You're right, some have softened a little bit relative to the end of the year, but it is still overall exceedingly strong.

Not just retail, but again EMEA in particular is another area where the growth prospects for the institutional business are very, very strong. Early days of success from what we're anticipating over the next couple of years.

There was some discussion last year about possibly going through a repositioning or rebranding process for PowerShares. I know you have implemented some changes and launched a few new products, but they seem to have been quite targeted so far. Do you believe you need to take a more aggressive approach in making changes to that business? It appears that, excluding the Qs, the inflows over the past year up to March have been relatively minimal, especially given the favorable factors for the industry overall.

Good question; I would answer it two different ways. It is one of the areas that we have invested in quite strongly over the last number of years, because we anticipated, as Loren talked about, the factor-based element of it, it's a growing part of the industry. We're a leader there with some very broad, long-dated track record and so the investments have been meaningful. With regard to the flows, I think what you have to look at is how narrow the flows were within the factor based ETFs. And probably from September through the end of February, it's about as narrow as you've ever seen. And what we're now seeing, as Loren was talking about, why are the flows picking up the way that we're? We're seeing a broadening of interest in the range of capabilities that we have. So we look at it as an important subset of that whole factor base that we have as an organization and we feel we're absolutely on top of it. And I think you will start to see it again in the flows here as we move through the year.

First on EMEA or Asia, you continue to have great flows there, the $3.6 billion or so, the only region of influence. Can you talk about the concentration, I guess, within those flows, either through the distribution areas or products or how diversified those flows are?

In EMEA, generally we have seen huge success with our GTR product, both institutionally and on the retail side. And that has been probably our primary driver of inflows in the region. So it has been probably a little bit concentrated to your point in that capability. I mean we still think there are some very, very strong capabilities, like our Quan capability for example, I think it's called structured equity, doing very well. This current environment in the first quarter was an anomaly for everyone in terms of what behavior you would expect. And hopefully, we will begin to see more take-on in the broader sales picture than just GTR. But GTR by the way, I just want to minimize that point, is doing very, very well. It is outperforming some of its competitors so it has really been a success for us. And the other thing I would also say, I know your question is just on EMEA; again, I can't say how happy we're that our Asia-Pac business has been really, really strong. So the outside the U.S., which is both Asia-Pac and EMEA, has been very diverse in Asia-Pac in terms of what's being taken on through equities, alternatives and fixed income.

And I would just add that, again, it's not a concern about GTR success. We think it's a positive and again Loren made the point before, if you look at the range of capabilities in EMEA and the very, very strong performance and the reputation of the teams, it is not a concern as far as I'm concerned.

And then I guess to follow-up on the optimization, I think you said $2 million was realized this quarter. Can you give us a kind run rate or path through the year to think about how the rest of that is going to flow through or the piece of that benefit?

It's just going to step up each quarter. And so the $2 million would probably get to more like a $3.5 million, then $4.5 million, $5.5 million as you work through the course of the year. Those are sort of rough numbers and so timing could be a little bit off. But that will get us ultimately, as we get into 2017 and that run rate of $30 million to $45 million, which we feel very confident, and whether we get to $45 million, we'll let you know as I mentioned, as we get through the course of the year.

This is Kenneth Lee on for Eric. Just had a question. There was previously mentioned that they tend to do a share repurchase at perhaps elevated rates this year. Just want to get a better handle on potential amounts that you guys could tend to think about, whether there's any kind of restrictions in terms of the cash balance that you have on hand in terms of your onshore or offshore? Just want to get a better handle on how to think about that.

At the end of the quarter, we had total cash of $1.455 billion, with $651 million tied up in the UK subgroup due to regulatory reasons. This leaves us with $804 million free and clear. The first quarter typically requires heavy cash outflows because of taxes and bonus payments, so we fell short of our target of $1 billion. However, we are not worried about this and continue to aim for a strong capital return to shareholders through dividends and buybacks as a percentage of our operating cash flow. Our Q1 buyback increased by 63% compared to Q1 of 2015, totaling $125 million, although it decreased slightly from the fourth quarter due to lower operating cash generation influenced by market conditions. Our payout percentages are in line with our expectations from last year, but because of the impact of market fluctuations on our overall operating levels, total payout amounts may be somewhat reduced. We anticipate a payout rate more aligned with an $80 million quarter run rate, matching previous rates. However, we will remain opportunistic. If we observe further unwarranted declines in stock price and navigate the uncertainties surrounding Brexit, we may be in a position to allocate more capital. We feel well-positioned to return capital but are exercising caution due to current market volatility.

You didn't think you would get through the call without a Brexit question, did you? So I guess I'll ask one. Aside from the currency hedge, it seems obvious how you consider contingency planning for it. I mean, how do you prepare for that? I know it may involve huge unknowns if it happens or what occurs afterward, but operationally what are some of the things you try to put in place?

It's a good question and needless to say, there's a team of people that have been working on it just in case that happens. And the good news, just as you were pointing to, the way we have our product ranges set up right now, we're in a very, very fine shape. And also the way that we have our operations is also set up in a way that we will not be impacted negatively. There is a small exposure. If we sort of extrapolate, I think it's a couple billion dollars of some assets that we think could sort of get caught up in the crosshairs. But again, this is scenario planning, so exposure's high. So from that point of view, we're very well-placed. The issue is, if it is an outvote, it is going to be the stated time; they have until mid-2018 that they would still be a part of the EU. I would say most people that are very involved in this will tell you the likelihood of trade agreements and the like are going to take longer than that. It's just hard to assess what the psychological impact on investors would be. That said, we just think relatively, we're very well-placed to deal with it as it goes through. And I think really just getting past the referendum is going to net positive regardless of what the outcome is.

Could you provide insight into the proportion of assets under management that do not generate fees or manager fees? Last quarter saw some volatility and outflows related to the de-leveraging of non-fee assets. You also highlight the flows associated with triple Qs, which do not produce management fees, similar to UITs and other items. If we want to focus on the pure asset base that generates manager fee revenues, what does that figure look like today? Also, would it be possible to consider providing this metric going forward?

When analyzing the Qs, the total is approximately $38 billion. The IBR leverage is around $20 billion, while the UIT business generates revenues when rolled out, but once established, it accounts for about $18 billion. These are the main components to consider when determining what is not generating revenue.

Could you clarify if there were any specific factors in the first quarter that we should consider when modeling for the next quarter, aside from the typical seasonal variations in the U.S.? Are there any elements we should expect to diminish, or should we anticipate that all else being equal, the current rate is a reasonable expectation?

In terms of the impact from Q2 to Q1, there is a benefit from payroll taxes decreasing, approximately $15 million to $20 million. However, we also have some offsets due to dollar increases and deferred compensation, totaling around $6 million. We're starting to implement some optimization strategies, which should provide a continued run rate benefit, probably between $2 million and $3.5 million, plus an additional benefit of $1.5 million. It's important to note that these benefits might be offset if our asset levels and revenues increase, as some of our planned compensation will scale up with our operating income, as is customary. Considering all these factors, it's hopeful that compensation will return to higher levels supported by increased asset values and market conditions.

Just curious under what conditions you think Invesco can grow organically? Your business closely resembles another in the industry, yet they grow consistently off a higher base. And I know you're targeting 3% to 5% organically to grow, and flows sound like they are pretty strong in April. But I'm just curious under what conditions can we see Invesco grow consistently from here?

I think if you look historically, we've been one of the most absolute consistent growers throughout all the different market scenarios. I think what we have learned, if you look at the last quarter again, when you are in a January/February environment it is just very difficult. When you get more to an environment that we're in now where I guess there's still plenty of world uncertainties, a firm like us, you will grow. And you'll see it both institutionally and retail and again as both Loren and I brought out, you can see looking at different parts of the world right, again, each region is actually growing. You don't need a lot; it's just where you have a massive uncertainty that it is very difficult.

And I think you've said in the past, Martin, too, but when you get an equity-led market which I don't know if we're going to see that anytime soon. But if we do get an equity-led market, we will probably be able to grow much more quickly than you've seen us do in the past because a large percentage of our AUM is equity. Again, that would be the converse of what we've been in, right? Just volatility.

I wanted to follow up on operating leverage. You successfully reduced expenses by about 9% year-on-year in the quarter, but revenues decreased by around 11.5%. I'm interested in your thoughts on operating leverage in this scenario and what level of market growth is necessary to achieve positive operating leverage. Also, is it possible to improve margins with flat AUM levels?

We've said that when you get no market benefit, so if you just stayed flat to where we're on an average asset basis, the second quarter to first quarter, that organic growth would allow us to see revenues improve and so we would be able to get incremental margins up sort of 50%. And if we had a market that's helping us grow, and FX I would say as well, incremental margins could be much higher to 65%. So we would hope to see, as Marty had talked about, our operating leverage begin to work in our favor as opposed to work against us as assets are recovering. And we absolutely will see that happening, particularly as we manage to maintain a fairly tight control on the expense side. So that would be our hope, is to get us back to that 40% and hopefully this year just through organic growth and expense management. If we have market on top of that, we should be able to do better than that. So there's nothing that stopped us from generating very strong operating leverage on the plus side if you have positive markets plus FX plus organic growth working in our favor.

I'm sorry if I missed this, but the $1.9 billion in long term flows in April, what areas are those in?

So the $1.9 billion in long term flows were across a variety of capabilities, investment grade fixed income, we had bank loans, we had some aging equity. We had real estate; we also had PowerShares in each of the regions across a variety of capabilities. Probably a lot of it was low volatility offering and I think we did continue to see some positive flows in GTR as I mentioned which has been a big driver. Pretty diverse capability, maybe more heavily focused on alternatives than anything else.

Marty, looking at the broader picture regarding the Department of Labor, it appears you have a solid strategy with the Jemstep product and the open architecture model, leveraging your extensive product range, including factor-based ETFs. However, considering the defensive stance that many asset managers with a heavy reliance on active products might adopt, do you have any plans to collaborate with advisors on the pricing class structures of your current shares? Additionally, could you share your thoughts on how you expect advisor behavior to evolve following the DOL Rule? Also, I apologize if I missed the details about assets in mutual funds, IRAs, and 401(k)s.

It's a good question, and the reality is we need to believe that distributors will address the rule. We all want to be very helpful to them as they navigate these issues. I strongly believe there is a crucial role for advisers, as they can deliver better outcomes for clients. High conviction fundamental capabilities and factor-based strategies are what advisers aim to employ because that's how they can provide better value to their clients. The industry is already close, with a range of share classes available, mostly advisor-based plans using simplified share classes. Most money managers are well-positioned in this area; however, it will take time to collaborate effectively with distributors. The situation is quite complex, but the high-level assumptions we have made still hold true.

I'm sorry, but did you disclose the mutual fund assets in U.S. IRAs and 401(k)s?

We didn't. Again so much of our assets are in omnibus and quite frankly, if we just made the determination by coming up with a number, it'd probably be more misleading than helpful. We would probably have industry levels or just slightly less than someone with regard to exposure. That is our estimate.

And do you think advisors will factor in the help that you are giving them, including with Jemstep, in terms of thinking about the least conflicted and best product for their clients? And using, say Invesco products, in conjunction with the Jemstep offering as sort of the best low-cost, better-performing option.

Let me respond this way; we've discussed the range of capabilities, which we believe is crucial. Jemstep's open architecture is vital as it's the only way we can establish credibility with our distribution partners, and if it's important to them, it matters to us. Additionally, Invesco Consulting has been a significant aspect of the value we offer to advisors, assisting them in navigating various topics. Together, these elements and our thought leadership will be powerful forces in positioning us to effectively support our distribution partners in achieving their goals.

The record institutional pipeline, wondering if you guys could speak to the size of that if possible? And then I know we have the State of Rhode Island Mandate in there, so maybe talk qualitatively as to how it looks excluding that mandate?

The good news is that the State of Rhode Island Mandate is not in this number. It does not include that. And so the record number, we're up 50% versus prior-year. We're up about 5% versus prior quarter. We've traditionally not and I think we will probably continue the tradition of not giving explicit numbers because they can be misleading in terms of the ins and the outs. And this is really what we have line of sight of in terms of the ins, but we don't have as much of a clear line of sight on the out. But in terms of indicative levels and the pipeline and the success you have seen on the institutional side which has been, I think you've seen it in every single quarter. We feel very confident that we will continue to see growth in terms of the sales or success in that channel.

I want to come back to one second I was asked earlier and that is regarding your long-term growth targets, 3% to 5%. I'm not sure if you guys had really thought about it this way, but when you guys were thinking about that growth rate, what kind of level of growth were you thinking you would need in active equity in order to get there? In other words, can active equity sort of be flattish or negative and Invesco could still potentially hit that 3% to 5% target?

I think absolutely. Across every single market that we're looking at that, and I think that is the point, is that it's the consistency. We will not be the fastest grower in the industry because that is going to mean you've got the one product that everyone wants in that one market. And then because we have a very diversified set of offerings, some are entirely active, others are on the more passive side, and so depending on the market that we're in, we should be able to grow at a more, I'd say, modest rate but a still very good rate of that 3% to 5%. And it could be in terms of those market scenarios where active is an outflow and we're winning on the passive side. That's not going to be every market, but it certainly has been a current market where we're seeing the interest in passive being at a higher level than some of the active offerings. But again, you've seen our active and passive both actually succeeding in this environment.

I want to emphasize a point that Loren made earlier. We strongly believe that achieving a growth rate of 3% to 5% is very possible. For many years, we have not experienced a market that favors active and equity investing, but I genuinely think that this will change. While there are skeptics, the current situation cannot last indefinitely, and when it does shift, I believe we will be at the high end of that growth range.

Marty, just a quick one, two things just on the retail side of the business. When you mentioned the improvement that you have seen in March and April, just wanted to get a sense on the flows that you gave, is that more weighted towards retail versus the strength you have been seeing in institutional? And then diving into that, are you seeing an improvement in sales or some of the redemptions starting to improve? And then longer term, just any concern around some of the SEC proposals on liquidity and derivatives? Or just more manageable, but the industry will be going back and forth to try to figure out what is the right solution?

The flow is pretty well balanced, retail and institutional.

Although I would say the retail is a little more ETF flavored.

Good point. I'm sorry, what was the second part of the question? I got the third part. I can't remember the second part.

Whether the improvement that you have seen in March and April, like sales versus—

Gross sales are beginning to improve. Typically, during downturns, the first reaction is a drop in purchasing, but we are now witnessing an increase in gross sales, which I consider a significant indicator of market sentiment. Regarding the various SEC proposals, it seems clear that the SEC is keen on moving forward but also wants to ensure that the final outcomes are correct. They appear more willing and capable of collaborating with the industry to find appropriate solutions, and we will need to assess each proposal individually. I am optimistic that they will arrive at workable solutions that will benefit everyone. However, it is important to note that these changes impose additional pressure, primarily increasing compliance costs. In a challenging market, such costs can be burdensome for institutions, as they are necessary expenditures, particularly in areas like cybersecurity. Larger money management firms may be better positioned to manage these expenses. This trend will continue to be a critical dynamic within the industry.

Well thank you very much and on behalf of Loren and myself, thank you for your time, your questions and your interest and we will be in touch soon. Thank you.