Legg Mason battling doubters in market

Firm faces financial, leadership setbacks

December 09, 2007|By Laura Smitherman | Laura Smitherman,Sun reporter

Legg Mason Inc.'s stock is having one of its worst years in two decades. Clients have pulled nearly $4 billion from its mutual funds. Its stock-picking guru is in a slump.

The 71-year-old chief executive's heir apparent decided he didn't want the job, and there's no clear alternative. And lately some of its safest funds have been tainted by declining investments related to subprime mortgages.

One analyst recently told investors to unload the stock -- a rare occurrence on Wall Street even after regulatory changes several years ago made it easier for analysts to speak their minds.

All of this has made CEO Raymond A. "Chip" Mason defensive. At a conference sponsored by Merrill Lynch last month, Mason promoted the Baltimore investment company's record and seemed flummoxed that investors would take a dimmer view.

"Everybody tells us that we were not growing fast enough," Mason told the audience in New York. "We're not doing well. We're not earning enough. We're not getting a return to shareholders.

"I don't really know what else we could have done. ... I think our earnings have continued to do well in spite of what all of you seem to believe."

Legg Mason, whose roots in Baltimore go back to 1899, has become a linchpin of the region's booming financial services industry while evolving from a midsize stock brokerage into one of the world's largest money managers. But the firm and Mason, who has led it for more than 30 years, have battled market naysayers since Mason swapped the brokerage operation he built for Citigroup Inc.'s money management unit more than two years ago. At first hailed as a visionary move, the deal has caused anxiety over its complexity and whether it will match expectations.

Meanwhile, questions surrounding the two most prominent figures at Legg Mason -- Mason and money manager Bill Miller -- add to worries about the company.

Mason is preparing to retire, but Legg Mason's board has been unable to find a replacement. The directors' first pick, James W. Hirschmann III, accepted the job and then bowed out. The board recently turned to an outside search firm for other candidates.

As for Miller, not only is he poised to trail the market for a second year -- after beating it for 15 years in a row -- but also his primary fund's performance is among the worst for all funds of its type this year.

Not everyone on Wall Street has soured on the company. Some analysts share Mason's more optimistic assessment, and three out of a dozen analysts who cover the company have suggested that investors buy the stock, according to Bloomberg data. Eight others suggest that investors hold the shares.

Andrew Richards, an analyst at Chicago-based mutual fund tracker Morningstar Inc., said he has run mathematical models to understand how the market is valuing the stock. He said investors seem to assume that the company would continue to be hurt by a falling stock market and client departures for an extended time.

Legg Mason shares have plunged 20 percent this year, on top of 20 percent last year -- the worst annual declines since 1987.

"How do you justify their stock price?" Richards said. "We think it's pretty undervalued."

The latest setback for Legg Mason stemmed from problems in money market funds, considered among the safest bets for investors. The company, along with Bank of America, SunTrust Banks and others, stepped in recently to prop up money funds to ensure that their net asset value doesn't fall below $1 a share -- which would mean investors lose money.

Money funds run by Legg Mason held about $10 billion in debt issued by structured investment vehicles. Some SIVs loaded up on mortgage-backed securities that have lost value amid the widening credit crisis triggered by home loan defaults. While Legg said in a regulatory filing that it remains confident in the "overall soundness" of its funds, it invested $100 million in one and arranged $238 million in credit to back up two others.

Analyst Douglas Sipkin of Wachovia Capital Markets pointed to troubles in Legg Mason's money market business when he put a "sell" rating on Legg's stock last month. "A damaged reputation is something we will be watching going forward," the analyst said in a research. He also raised concerns that a cash-strapped Citigroup, hammered in the subprime debacle, could sell the stake in Legg that it took as part of the business-swap deal.

Legg Mason officials note that the company's money funds, often a haven for investors during down-market times, grew by $5 billion in October. That was despite outflows in funds such as the CitiFunds Institutional Cash Reserve portfolio, one of the two for which Legg Mason secured a letter of credit. According to Morningstar, clients withdrew $1.1 billion from that fund in October.

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