Moody's Investors Service, a rating arm of Moody's Corporation, affirmed the ratings of Legg Mason, Inc. (LM - Free Report) . The outlook has been raised from negative to stable. Also, the company’s senior unsecured debt rating has been affirmed at Baa1.
The ratings are based on Legg Mason’s progress on acquisitions along with improved investment performance. Also, continuous net inflows to its global distribution unit have led to stable rating. Lastly, stabilization of its credit profile as reflected by lower leverage supported the ratings.
Reasons Behind the Affirmation
Legg Mason’s senior unsecured rating of Baa1 is indicative of its strong business profile due to the acquisition spree it was involved in between late 2015 and early 2016, and a weaker financial profile. Its acquisition of EnTrust, Clarion and RARE Infrastructure have greatly diversified the product offerings and expanded scale of business. However, the debt level remains elevated from the level before these acquisitions. Moody’s is apprehensive of the pressure on Legg Mason’s financial flexibility due to lower margins and significant use of cash flow for share repurchases. Nevertheless, the concern of extensive cash use is partially mitigated by lower effective cash tax rate.
Per Moody’s, Legg Mason’s performance of key products has improved greatly through past strategic moves. Also, revenues have increased on account of higher assets under management (AUM), organic and performance growth. Sales have grown on the back of the company’s initiatives to broaden the vehicles through which clients invest in its products, especially separately managed accounts. Also, its efforts to refine distribution strategy have resulted in continuous net inflows to its global distribution unit.
Leverage as a multiple of EBITDA (per Moody’s calculation) stands at 3.3x, which is below of 3.8x as of March 2016, but is still considered to be high for an asset-manager rated Baa1. The improvement in leverage comes from cost efficiencies that have led to margin improvements and the use of $750 million of junior securities (to which Moody's assigns 25% equity credit).
What Could Make Moody's Change the Ratings?
Legg Mason’s ratings can be revised higher on account of improvement in its market position and asset resilience due to inflows in investment platforms and development of products and services offered. Lastly, total debt / EBITDA ratio of below 2 supported by sufficient excess liquidity would led to a higher rating.
On the flip side, Legg Mason's long-term ratings could be downgraded if its AUM resiliency scores decline due to acceleration of net outflows of long-term assets or weak new sales and total debt/EBITDA ratio remains above 4.
Shares of Legg Mason have gained 29.2% year to date, outperforming the 24.7% rally for the industry it belongs to.
Currently, the stock carries a Zacks Rank #3 (Hold).
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