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DECEMBER 1, 2003
For Putnam's Parent, Limited Damage My three favorite words (about Wall Street, anyway) are these: Trust no one. Imparted to me amid the Volcker-Reagan bull market, this little motto now rings true with vast legions of investors, thanks to the mutual fund industry and perhaps Putnam Investments (PEYAX ) most notably. Were I more trusting, I would say the Securities & Exchange Commission will make Putnam, which neither admitted nor denied fraud in its Nov. 13 settlement, pay big time. But remember, trust no one. That's one reason why Putnam's low-profile parent, Marsh & McLennan (MMC ), strikes me now as an opportunity. Since Sept. 3, when the funds scandal erupted, M&M's shares have slid below $45 from above $51. They may go lower yet. Already, clients have taken fee-earning assets away from Putnam, its legal bills mount hourly, regulators remain on the case, and Putnam must make restitution to clients harmed by its employees' self-dealing. There's more pain to come. Yet cool-headed investors who examine M&M may see the trouble at Putnam as easily tolerable given its other strengths. UNLIKE MANY OTHER FUND operators, Putnam's parent is well diversified. Beyond mutual fund and pension management, M&M operates principally as an insurance broker -- by far the world's largest -- and as a management consultant, via its Mercer group of firms. Together, these three business lines have proved a potent combination: Revenue this year is expected to grow 10%, to $11.5 billion, and net earnings 12%, to more than $1.5 billion. Cash flows are heavy and growing: Last year, M&M generated $1.3 billion in cash; this year through September, it had already produced $1.6 billion. It pays a $1.24 annual dividend, good for a 2.8% yield, and its balance sheet is strong, with net debt under one-third of total capital and earnings covering fixed charges more than eight times over. Over this idyllic financial scene, of course, Putnam hovers like a dark cloud. How threatening does it remain? M&M Chief Executive Jeffrey Greenberg is not talking. So, to hazard an answer, I developed three scenarios for 2004. In the first and most dire, I imagined Putnam's reputation gets so trashed that its assets under management -- $256 billion on Nov. 14 -- are halved. Further, I figured legal fees, regulatory penalties, restitution, and other costs squeeze its operating margin, a rich 25% so far this year, to 12.5%. Next, in a best-case scenario, I assumed $250 billion in average assets under management and no change in operating margin. A middle case split the difference. What did this tell me? That Putnam just isn't such a big deal for M&M. In the best case, M&M would still see $456 million in operating income from Putnam, which contributed $560 million last year and $364 million through Sept. 30 this year. In the most pessimistic scenario, Putnam's share of M&M's operating profit next year would plunge to $117 million. Even at that, assuming a modest 10% increase in M&M's insurance and consulting profits (so far this year, they have risen 18%), operating income in 2004 could approach $2.4 billion, down from perhaps $2.5 billion or so this year. Watching profit growth shift into reverse is never an inspiring sight on Wall Street. But at under $45 a share, M&M already seems to reflect the probable damage to its earnings power. Its $24 billion stock market value comes to less than 10 times my middle-case view of 2004 operating income. Justice may demand that Putnam's parent keep writhing in pain; odds are it won't.  By Robert Barker Get BusinessWeek directly on your desktop with our RSS feeds.  Add BusinessWeek news to your Web site with our headline feed. Click to buy an e-print or reprint of a BusinessWeek or BusinessWeek Online story or video. To subscribe online to BusinessWeek magazine, please click here. Learn more, go to the BusinessWeekOnline home page  | | |
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