EX-13.01 2 fii-1301.htm SELECTED PORTIONS OF 2011 ANNUAL REPORT TO SHAREHOLDERS FII - 13.01
EXHIBIT 13.01
 
  
Financial Review
  
 
 
 
 
 
  
Selected Consolidated Financial Data
  
 
 
 
 
  
Management’s Discussion and Analysis
  
 
 
 
 
  
Management’s Assessment of Internal Control Over Financial Reporting
  
 
 
 
 
  
Report of Ernst & Young LLP, Independent Registered Public Accounting Firm, on Consolidated Financial Statements
  
 
 
 
 
  
Report of Ernst & Young LLP, Independent Registered Public Accounting Firm, on Effectiveness of Internal Control Over Financial Reporting
  
 
 
 
 
  
Consolidated Balance Sheets
  
 
 
 
 
  
Consolidated Statements of Income
  
 
 
 
 
  
Consolidated Statements of Changes in Equity
  
 
 
 
 
  
Consolidated Statements of Cash Flows
  
 
 
 
 
  
Notes to the Consolidated Financial Statements
  
FORWARD-LOOKING STATEMENTS
Certain statements in this Annual Report on Form 10-K and the 2011 Annual Report to Shareholders, including those related to asset flows and business mix; obligations to make additional contingent payments pursuant to acquisition agreements; obligations to make additional payments pursuant to employment arrangements; legal proceedings; future cash needs and management’s expectations regarding borrowing; future principal uses of cash; performance indicators; impact of accounting policies and new accounting pronouncements; concentration risk; indemnification obligations; the impact of increased regulation including potential rule proposals by the Securities and Exchange Commission affecting money market funds; the prospect of increased distribution-related expenses; management’s expectations regarding fee waivers and the impact of such waivers on revenues and net income; the ability to raise additional capital; the rising costs of risk management; possible impairment charges; tax liability and the realization of deferred tax assets; capital losses; the impact of the interest rate swap and the various items set forth under the section entitled Risk Factors constitute forward-looking statements, which involve known and unknown risks, uncertainties, and other factors that may cause the actual results, levels of activity, performance or achievements of Federated or industry results, to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Among other risks and uncertainties, market conditions may change significantly resulting in changes to Federated’s asset flows and business mix, which may cause a decline in revenues and net income, result in impairments and increase the amount of fee waivers incurred by Federated. The obligation to make contingent payments is based on certain growth and fund performance targets and will be affected by the achievement of such targets, and the obligation to make additional payments pursuant to employment agreements is based on satisfaction of certain conditions set forth in those agreements. Future cash needs and future uses of cash will be impacted by a variety of factors, including the number and size of any acquisitions, Federated’s success in distributing its products, the resolution of pending litigation, potential increases in costs relating to risk management, as well as potential changes in assets under management and/or changes in the terms of distribution and shareholder services contracts with intermediaries who offer Federated’s products to customers. Federated’s risks and uncertainties also include liquidity and credit risks in Federated’s money market funds and revenue risk, which will be affected by yield levels in money market fund products, changes in market values of assets under management and the ability of Federated to collect fees in connection with the management of such products. Many of these factors may be more likely to occur as a result of the increased scrutiny of the mutual fund industry by federal and state regulators, and the recent and ongoing disruption in global financial markets. As a result, no assurance can be given as to future results, levels of activity, performance or achievements, and neither Federated nor any other person assumes responsibility for the accuracy and completeness of such statements in the future. For more information on these items, see the section entitled Risk Factors herein under Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 
2011 Annual Report
7

SELECTED CONSOLIDATED FINANCIAL DATA
(in thousands, except per share data and managed assets)

The selected consolidated financial data below should be read in conjunction with Federated Investors, Inc. and its subsidiaries’ (Federated) Consolidated Financial Statements and Notes. The selected consolidated financial data (except managed assets) of Federated for the five years ended December 31, 2011 have been derived from the audited Consolidated Financial Statements of Federated. See Management’s Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements and Notes which follow.
Years Ended December 31,
 
2011

 
2010

 
2009

 
2008

 
2007

Statement of Income Data1, 2
 
 
 
 
 
 
 
 
 
 
Total revenue
 
$
895,114

 
$
951,943

 
$
1,175,950

 
$
1,223,680

 
$
1,127,644

Operating income
 
257,455

 
309,791

 
329,227

 
361,175

 
357,193

Income from continuing operations including
   noncontrolling interests in subsidiaries
 
155,083

 
189,163

 
208,540

 
228,625

 
223,236

Amounts attributable to Federated Investors, Inc.
 
 
 
 
 
 
 
 
 
 
Income from continuing operations
 
150,906

 
179,114

 
197,292

 
221,509

 
217,471

Income from discontinued operations
 
0

 
0

 
0

 
2,808

 
0

Net income
 
150,906

 
179,114

 
197,292

 
224,317

 
217,471

Share Data attributable to Federated Investors, Inc.
 
 
 
 
 
 
 
 
 
 
Earnings per share – Basic1, 2
 
 
 
 
 
 
 
 
 
 
Income from continuing operations
 
$
1.45

 
$
1.73

 
$
1.93

 
$
2.17

 
$
2.12

Income from discontinued operations
 
0.00

 
0.00

 
0.00

 
0.03

 
0.00

Net income
 
1.45

 
1.73

 
1.93

 
2.20

 
2.12

Earnings per share – Diluted1, 2
 
 
 
 
 
 
 
 
 
 
Income from continuing operations
 
$
1.45

 
$
1.73

 
$
1.92

 
$
2.15

 
$
2.10

Income from discontinued operations
 
0.00

 
0.00

 
0.00

 
0.03

 
0.00

Net income
 
1.45

 
1.73

 
1.92

 
2.18

 
2.10

Cash dividends per share3
 
$
0.96

 
$
2.22

 
$
0.96

 
$
3.69

 
$
0.81

Weighted-average shares outstanding – basic
 
100,609

 
99,925

 
99,923

 
99,605

 
100,855

Weighted-average shares outstanding – diluted
 
100,632

 
99,993

 
100,056

 
100,395

 
102,067

Balance Sheet Data at Period End
 
 
 
 
 
 
 
 
 
 
Intangible assets, net and Goodwill1
 
$
720,926

 
$
720,825

 
$
662,996

 
$
657,321

 
$
534,603

Total assets1
 
1,150,856

 
1,153,504

 
912,433

 
846,610

 
840,971

Long-term debt—recourse4
 
318,750

 
361,250

 
105,000

 
126,000

 
71

Federated Investors shareholders’ equity3
 
541,959

 
491,799

 
528,207

 
423,374

 
574,015

Managed Assets (in millions)
 
 
 
 
 
 
 
 
 
 
As of period end
 
$
369,697

 
$
358,241

 
$
389,316

 
$
407,310

 
$
301,616

Average for the period
 
$
354,387

 
$
347,074

 
$
405,595

 
$
342,521

 
$
265,055

1
During 2010 and 2009, Federated recorded impairments totaling $10.2 million and $21.7 million, respectively, primarily related to certain intangible and fixed assets. See Note (6) to the Consolidated Financial Statements.
2
During 2011, 2010 and 2009, fee waivers in order for certain money market funds to maintain positive or zero net yields totaled $320.7 million, $241.6 million and $120.6 million, respectively. These fee waivers were partially offset by related reductions in distribution expenses of $232.3 million, $186.6 million and $86.4 million for 2011, 2010 and 2009, respectively, and net income attributable to noncontrolling interests of $6.5 million and $1.0 million for 2011 and 2010, respectively, such that the net negative pre-tax impact to Federated was $81.9 million, $54.0 million and $34.2 million for 2011, 2010 and 2009, respectively.
3
In 2010, Federated paid $1.26 per share or $129.8 million as a special dividend to shareholders. See Note (14)(a) to the Consolidated Financial Statements. In 2008, Federated paid $2.76 per share or $281.2 million as a special dividend to shareholders.
4
In 2008, Federated entered into a term-loan facility and began borrowing against its revolving credit facility. In 2010, and again in 2011, Federated amended and restated its term-loan facility. See Note (11) to the Consolidated Financial Statements.


8
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS
of Financial Condition and Results of Operations

Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Selected Consolidated Financial Data and the Consolidated Financial Statements appearing elsewhere in this report.
General
Federated Investors, Inc. (together with its subsidiaries, Federated) is one of the largest investment managers in the United States with $369.7 billion in managed assets as of December 31, 2011. The majority of Federated’s revenue is derived from advising and administering Federated mutual funds and Separate Accounts (which include separately managed accounts, institutional accounts, sub-advised funds and other managed products) in both domestic and international markets. Federated also derives revenue from providing various other mutual fund-related services, including distribution, shareholder servicing, and retirement plan recordkeeping services (collectively, Other Services).
Federated’s investment products are primarily distributed in three markets. These markets and the relative percentage of managed assets at December 31, 2011 attributable to such markets are as follows: wealth management and trust (51%), broker/dealer (30%) and global institutional (17%).
Investment advisory fees, administrative fees and certain fees for Other Services, such as distribution and shareholder service fees, are contract-based fees that are generally calculated as a percentage of the net assets of the investment portfolios that are managed by Federated. As such, Federated’s revenue is primarily dependent upon factors that affect the value of managed assets including market conditions and the ability to attract and retain assets. Nearly all assets under management in Federated’s investment products can be redeemed at any time with no advance notice requirement. Fee rates for Federated’s services generally vary by asset type and investment objective and, in certain instances, decline as the average net assets of the individual portfolios exceed certain thresholds. Generally, management-fee rates charged for advisory services provided to equity products are higher than management-fee rates charged on money market and fixed-income products. Likewise, mutual funds typically have a higher management-fee rate than Separate Accounts. Similarly, traditional separate accounts typically have a higher management-fee rate than liquidation portfolios. Accordingly, revenue is also dependent upon the relative composition of average assets under management across both asset and product types. Federated may waive certain fees for competitive reasons such as to maintain positive or zero net yields, to meet regulatory requirements or to meet contractual requirements. Since Federated’s products are largely distributed and serviced through financial intermediaries, Federated pays a significant portion of the distribution fees earned from sponsored products to the financial intermediaries that sell these products. These payments are generally calculated as a percentage of net assets attributable to the financial intermediary selling the product and are recorded on the Consolidated Statements of Income as a distribution expense. Certain components of distribution expense can vary depending upon the asset type, distribution channel and/or the size of the customer relationship. Federated generally pays out a larger portion of the distribution revenue earned from managed assets in money market funds than managed assets in equity or fixed-income funds.
Federated’s remaining Other Services fees are primarily based on fixed rates per retirement plan participant. Revenue relating to these services generally depends upon the number of plan participants which may vary as a result of sales and marketing efforts, competitive fund performance, introduction and market reception of new product features and acquisitions.
Federated’s most significant operating expenses include compensation and related costs, which include fixed and variable compensation and related employee benefits, and distribution expenses. Certain of these expenses are dependent upon sales, product performance, levels of assets and asset mix and the willingness to continue fee waivers in order for certain money market funds to maintain positive or zero net yields.
The discussion and analysis of Federated’s financial condition and results of operations are based on Federated’s Consolidated Financial Statements. Federated operates in a single operating segment, the investment management business. Management evaluates Federated’s performance at the consolidated level. Management analyzes all expected revenue and expenses and considers market demands in determining an overall fee structure for services provided and in evaluating the addition of new business. Federated’s growth and profitability are dependent upon its ability to attract and retain assets under management and, in light of the recent and continuing adverse market conditions, are also dependent upon the profitability of those assets, which is impacted, in part, by management’s decisions regarding fee waivers in order for certain money market funds to maintain positive or zero net yields. Fees for fund-related services are ultimately subject to the approval of the independent directors or trustees of the mutual funds. Management believes the most meaningful indicators of Federated’s performance are assets under management, total revenue and net income, both in total and per diluted share.


 
2011 Annual Report
9

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Business Developments
Money Market Fund Matters
For the year ended December 31, 2011, 46% of Federated’s total revenue was attributable to money market assets as compared to 50% and 65% for 2010 and 2009, respectively. A significant change in Federated’s money market business or a significant reduction in money market assets due to regulatory changes, changes in the financial markets including significant and rapid increases in interest rates over a short period of time causing certain investors to prefer direct investments in interest-bearing securities, significant deterioration in investor confidence, further persistent declines in or additional prolonged periods of historically low short-term interest rates and resulting fee waivers or other circumstances, could have a material adverse effect on Federated’s results of operations.
(a) Current Regulatory Environment
In January 2010, the Securities and Exchange Commission (SEC) adopted extensive amendments to Rule 2a-7 of the Investment Company Act of 1940 (Investment Company Act) aimed at enhancing the resiliency of money market funds. These amendments included a series of enhancements including rules that required all money market funds to meet specific portfolio liquidity standards and rules that significantly enhanced the public disclosure and regulatory reporting obligations of these funds. In Federated's view, the amendments of 2010 meaningfully and sufficiently strengthened money market funds. Recent experience demonstrated that the amendments of 2010 were effective in meeting heightened requests for redemptions occurring at various times throughout 2011 in connection with the U.S. credit rating downgrade and the ongoing European debt crisis.
The SEC staff is considering additional changes to Rule 2a-7 that could adversely impact the viability of money market funds, including requiring a floating net asset value, imposing capital requirements, and creating redemption restrictions. Federated believes the changes currently under consideration, if enacted, would significantly reduce the utility and attractiveness of money market funds to investors. Thus, rather than enhance the resiliency of money market funds, the contemplated changes would potentially severely harm the utility of money market funds for investors who, in Federated's view, value money market funds in their current form as an efficient and effective cash management investment product offering daily liquidity at par. It has been reported that the SEC may propose amendments to Rule 2a-7 as early as the first quarter of 2012.
If ultimately enacted, some or all of these changes would be detrimental to Federated's money market fund business and could materially and adversely affect Federated's operations. The very proposal of such amendments could have an adverse impact on Federated's money market fund business and operations and could also negatively impact the short-term credit markets. Management is carefully monitoring developments in this area and plans to actively participate both individually and with industry groups in the public comment process that would accompany any rule change proposal. Federated is unable to assess the degree of any potential impact such additional reforms may have on its business and operations until such proposals are issued. Even when issued, the final version of any SEC rule amendment could vary significantly from the form in which it is proposed.

10
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

(b) Historically Low Short-Term Interest Rates
Throughout 2011, the Federal Reserve left the near-zero federal funds rate unchanged and short-term interest rates continued at all-time low levels. As a result, for the third consecutive year, Federated voluntarily waived fees in certain money market funds in 2011 in order for certain funds to maintain positive or zero net yields. These fee waivers were partially offset by related reductions in distribution expense and net income attributable to noncontrolling interests as a result of Federated's ability to share the impact of the waivers with third-party intermediaries. The impact of such fee waivers on various components of Federated's Consolidated Statements of Income was as follows for the years ended December 31:
 
 
 
 
 
 
 
 
2011

 
2010

in millions
 
2011

 
2010

 
2009

 
vs. 2010

 
vs. 2009

Investment advisory fees
 
$
(201.6
)
 
$
(134.3
)
 
$
(69.0
)
 
50
%
 
95
%
Other service fees
 
(119.1
)
 
(107.3
)
 
(51.6
)
 
11
%
 
108
%
   Total Revenue
 
(320.7
)
 
(241.6
)
 
(120.6
)
 
33
%
 
100
%
Distribution expense
 
(232.3
)
 
(186.6
)
 
(86.4
)
 
24
%
 
116
%
   Operating income
 
(88.4
)
 
(55.0
)
 
(34.2
)
 
61
%
 
61
%
Noncontrolling interest
 
(6.5
)
 
(1.0
)
 
0

 
550
%
 
N/A

Pre-tax impact
 
$
(81.9
)
 
$
(54.0
)
 
$
(34.2
)
 
52
%
 
58
%
During 2011, changes in asset mix as well as further declines in interest rates for certain money market investments caused an increase in these fee waivers. (See Note (22) to the Consolidated Financial Statements for information regarding the quarterly pre-tax impact of the fee waivers.) Based on recent Federal Reserve Bank commentary on their outlook for interest rates, management expects the fee waivers and the related reduction in distribution expense and net income attributable to noncontrolling interests will continue at least until late 2014. Based on recent market conditions and assuming asset levels remain constant, fee waivers for the first quarter 2012 may result in a net negative pre-tax impact on income of approximately $27 million. Increases in short-term interest rates that result in higher yields on securities purchased in money market fund portfolios would reduce the net pre-tax impact of these waivers. Management estimates that an increase of 10 basis points in gross yields on securities purchased in money market fund portfolios will likely reduce the net pre-tax impact of these waivers between thirty-five and forty percent from the current levels and an increase of 25 basis points would reduce the impact between sixty-five and seventy percent. The actual amount of future fee waivers could vary significantly from management’s estimates as they are contingent on a number of variables including, but not limited to, changes in assets within the money market funds, available yields on instruments held by the money market funds, actions by the Federal Reserve, the U.S. Department of the Treasury and other governmental entities, changes in expenses of the money market funds, changes in the mix of money market customer assets, Federated’s willingness to continue the fee waivers and changes in the extent to which the impact of the waivers is shared by third parties.  
Amended and Restated Credit Agreement
In the second quarter 2011, Federated entered into an Amended and Restated Credit Agreement by and among Federated, certain of its subsidiaries, PNC Bank, National Association as administrative agent, a syndicate of 19 banks led by PNC Capital Markets LLC as sole bookrunner and joint lead arranger and Citigroup Global Markets, Inc. as joint lead arranger (Credit Agreement). The Credit Agreement amended and restated Federated’s prior $425 million term loan facility dated April 9, 2010. The borrowings of $382.5 million under the Credit Agreement represented the remaining principal balance from the prior $425 million term loan. The Credit Agreement qualified for modification accounting treatment. Accordingly, closing costs of $1.8 million were capitalized in the second quarter 2011 and are being amortized over the 5-year term of the amended loan.
The Credit Agreement expires on June 10, 2016 and requires principal payments of $10.6 million per quarter for the first three years and $28.3 million per quarter for the fourth and fifth years and a final payment of $28.3 million due upon its expiration. The borrowings under the term loan component of the Credit Agreement bear interest at a reduced spread over London Interbank Offering Rate (LIBOR), as compared to the prior term loan. The interest rate swap (the Swap) that Federated entered into with PNC Bank, National Association and certain other banks during 2010 to hedge its interest rate risk associated with the prior $425 million term loan remains in effect.
Under the Swap, which expires on April 1, 2015, Federated will receive payments based on LIBOR plus a spread and will make payments based on an annual fixed rate of 3.646%. See Note (11) to the Consolidated Financial Statements for additional information regarding the Credit Agreement and Swap.

 
2011 Annual Report
11

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

The Credit Agreement also contains a $200 million revolving credit facility. This new revolving credit facility replaced the previous $200 million revolving credit facility, which was scheduled to expire on October 31, 2011, and was terminated in connection with Federated’s entry into the Credit Agreement. Federated had no borrowings outstanding on the previous revolving credit facility. As of December 31, 2011, the entire $200 million revolving credit facility was available for borrowings.

Legal Proceedings

On April 28, 2011, Federated reached a final settlement to resolve the consolidated cases involving the fees being charged to the Federated Kaufmann Fund. Operating income for the year ended December 31, 2011 included a charge of $17.3 million in legal and related costs associated with these cases compared to $8.9 million for the year ended December 31, 2010. The 2011 amount was recorded primarily in the first quarter of 2011 and was charged mainly to Professional service fees. Federated is currently involved in legal proceedings with certain insurance carriers to obtain and/or retain insurance reimbursements for these and other related costs.
Business Combinations and Acquisitions
In the third quarter 2010, Federated acquired the money market management business of SunTrust Banks, Inc. (SunTrust Acquisition). Pursuant to the definitive agreement signed on July 16, 2010, $14.1 billion of money market assets transitioned to Federated during the third and fourth quarters of 2010. The SunTrust Acquisition included upfront cash payments that totaled $6.6 million. The transaction also includes annual contingent purchase price payments payable in the fourth quarters of each of the five years following the acquisition date. The contingent purchase price payments are calculated as a percentage of revenue less operating expenses directly attributed to certain eligible assets. At December 31, 2011, management estimated remaining contingent payments could total $19 million over the four years that remain, however, the actual amount of the contingent payments will vary based on asset levels and related net revenues and is not limited by any maximum amount. A wide range of outcomes for actual payments is possible due to the extent of reasonably possible flow-rate volatility for the assets under management. The SunTrust Acquisition was accounted for under the acquisition method of accounting. The valuation resulted in total consideration with a fair value of $24.1 million assignable to a single identifiable intangible asset with an indefinite life and recorded in Renewable investment advisory rights on the Consolidated Balance Sheets. This asset is deductible for tax purposes. The valuation results, which were finalized in the first quarter 2011, are reflected in the Consolidated Balance Sheet and the related footnotes as of and for the period ended December 31, 2011. As of December 31, 2011, a liability of $13.4 million representing the estimated fair value of future consideration payments was recorded in Other current liabilities ($4.0 million) and Other long-term liabilities ($9.4 million) (see Note (6)(a) to the Consolidated Financial Statements for a discussion regarding the valuation methodology). This liability is remeasured at each reporting date with changes in the fair value recognized in Intangible asset related expense on the Consolidated Statements of Income. See Note (3) and Note (20)(a) to the Consolidated Financial Statements for additional information on these acquisitions and the related contingent payments.
Recognition of Insurance Proceeds
In the second quarter 2010, Federated obtained the final approval from one of its insurance carriers for $25 million of claims submitted over the past several years to cover costs associated with government investigations into past mutual fund trading practices and related legal proceedings. Because the retention of these advance insurance payments was contingent upon final approval of the claim by the insurance carrier, Federated had recorded a liability upon receipt of the cash. Upon receipt of final approval from its insurance carrier, Federated reversed the liability and recognized the $25 million of insurance proceeds on the Consolidated Statements of Income as reductions to the operating expense line items originally charged, primarily Professional service fees.
Special Cash Dividend
In the first quarter 2010, Federated paid $1.26 per share, or $129.8 million, as a special cash dividend to shareholders. This payment was in addition to the aggregate $0.96 per share, or $98.9 million, regular quarterly cash dividends paid throughout the course of 2010. The first quarter 2010 dividend of $1.50 per share negatively impacted first quarter 2010 diluted earnings per share by approximately $0.04 per share due to the application of the two-class method of calculating earnings per share.
All dividends were considered ordinary dividends for tax purposes.

12
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Asset Impairments
In light of declines in assets under management related to certain quantitative investment products acquired in 2006, and given the performance of these products relative to peers and indices, the carrying values of the related intangible assets were deemed to be impaired in 2009 and 2010. In 2009, Federated recorded a $15.5 million impairment charge in Intangible asset related expense on the Consolidated Statements of Income. In 2010, Federated recorded $10.2 million in impairment charges on the Consolidated Statements of Income, $8.2 million of which was included in Intangible asset related expense with the remainder in Operating expenses – Other. Given the uncertainties regarding future market conditions, the timing and pace of a forecasted recovery and possible prolonged periods of underperformance of the quantitative products compared to peers and indices and the significance of these factors to assets under management, management cannot be certain of the outcome of future undiscounted cash flow analyses.
In 2009, Federated recognized impairment charges totaling $5.2 million to write down the carrying value of Federated’s former aircraft to $3.4 million. The impairment charges were recorded as operating expense in Other on the Consolidated Statements of Income for the year ended December 31, 2009.
See Note (6)(b) and Note (8) to the Consolidated Financial Statements for additional information regarding these impairments and future amortization expense estimates.


 
2011 Annual Report
13

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Asset Highlights
Managed Assets at Period End
in millions as of December 31,
 
2011

 
2010

 
Percent
Change

By Asset Class
 
 
 
 
 
 
Money market
 
$
285,140

 
$
276,026

 
3
 %
Fixed-income
 
44,814

 
40,705

 
10
 %
Equity
 
30,887

 
30,802

 
0
 %
Liquidation portfolios1
 
8,856

 
10,708

 
(17
)%
Total managed assets
 
$
369,697

 
$
358,241

 
3
 %
By Product Type
 
 
 
 
 
 
Mutual Funds:
 
 
 
 
 
 
Money market
 
$
255,857

 
$
244,796

 
5
 %
Fixed-income
 
37,241

 
31,933

 
17
 %
Equity
 
21,930

 
22,626

 
(3
)%
Total mutual fund assets
 
315,028

 
299,355

 
5
 %
Separate Accounts:
 
 
 
 
 
 
Money market
 
$
29,283

 
$
31,230

 
(6
)%
Fixed-income
 
7,573

 
8,772

 
(14
)%
Equity
 
8,957

 
8,176

 
10
 %
Total separate account assets
 
45,813

 
48,178

 
(5
)%
Liquidation Portfolios1
 
$
8,856

 
$
10,708

 
(17
)%
Total managed assets
 
$
369,697

 
$
358,241

 
3
 %

Average Managed Assets
in millions for the years ended December 31,
 
2011

 
2010

 
2009

 
2011
vs. 2010

 
2010
vs. 2009

By Asset Class
 
 
 
 
 
 
 
 
 
 
Money market
 
$
271,501

 
$
268,701

 
$
343,265

 
1
 %
 
(22
)%
Fixed-income
 
42,573

 
37,690

 
28,684

 
13
 %
 
31
 %
Equity
 
30,560

 
29,104

 
26,680

 
5
 %
 
9
 %
Liquidation portfolios1
 
9,753

 
11,579

 
6,966

 
(16
)%
 
66
 %
Total average managed assets
 
$
354,387

 
$
347,074

 
$
405,595

 
2
 %
 
(14
)%
By Product Type
 
 
 
 
 
 
 
 
 
 
Mutual Funds:
 
 
 
 
 
 
 
 
 
 
Money market
 
$
242,187

 
$
238,767

 
$
311,221

 
1
 %
 
(23
)%
Fixed-income
 
34,455

 
30,864

 
23,989

 
12
 %
 
29
 %
Equity
 
22,071

 
21,016

 
18,325

 
5
 %
 
15
 %
Total average mutual fund assets
 
298,713

 
290,647

 
353,535

 
3
 %
 
(18
)%
Separate Accounts:
 
 
 
 
 
 
 
 
 
 
Money market
 
$
29,314

 
$
29,934

 
$
32,044

 
(2
)%
 
(7
)%
Fixed-income
 
8,118

 
6,826

 
4,695

 
19
 %
 
45
 %
Equity
 
8,489

 
8,088

 
8,355

 
5
 %
 
(3
)%
Total average separate account assets
 
45,921

 
44,848

 
45,094

 
2
 %
 
(1
)%
Liquidation Portfolios1
 
$
9,753

 
$
11,579

 
$
6,966

 
(16
)%
 
66
 %
Total average managed assets
 
$
354,387

 
$
347,074

 
$
405,595

 
2
 %
 
(14
)%
1
Liquidation portfolios include portfolios of distressed fixed-income securities. Federated has been retained by a third party to manage these assets through an orderly liquidation process that will generally occur over a multi-year period.

14
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Changes in Federated’s average asset mix year-over-year across both asset class and product types have a direct impact on Federated’s operating income. Asset mix impacts Federated’s total revenue due to the difference in the fee rates earned on each asset class and product type per invested dollar. Equity products generally have a higher management-fee rate than fixed-income products, money market products and liquidation portfolios. Likewise, mutual fund products typically have a higher management-fee rate than Separate Accounts. Similarly, traditional separate accounts typically have a higher management-fee rate than liquidation portfolios. Additionally, certain components of distribution expense can vary depending upon the asset class, distribution channel and/or the size of the customer relationship. Federated generally pays out a larger portion of the revenue earned from managed assets in money market funds than managed assets in equity or fixed-income funds. The following table presents the relative composition of average managed assets and the percent of total revenue derived from each asset class and product type over the last three years:
 
 
Percent of Total Average Managed Assets
 
Percent of Total Revenue
 
 
2011

 
2010

 
2009

 
2011

 
2010

 
2009

By Asset Class
 
 
 
 
 
 
 
 
 
 
 
 
Money market assets
 
76
%
 
78
%
 
85
%
 
46
%
 
50
%
 
65
%
Fixed-income assets
 
12
%
 
11
%
 
7
%
 
20
%
 
18
%
 
12
%
Equity assets
 
9
%
 
8
%
 
6
%
 
33
%
 
31
%
 
23
%
Liquidation portfolios
 
3
%
 
3
%
 
2
%
 
0
%
 
0
%
 
0
%
Other activities
 
--

 
--

 
--

 
1
%
 
1
%
 
0
%
By Product Type
 
 
 
 
 
 
 
 
 
 
 
 
Mutual Funds:
 
 
 
 
 
 
 
 
 
 
 
 
Money market assets
 
68
%
 
69
%
 
77
%
 
45
%
 
49
%
 
64
%
Fixed-income assets
 
10
%
 
9
%
 
6
%
 
19
%
 
17
%
 
11
%
Equity assets
 
6
%
 
6
%
 
4
%
 
28
%
 
27
%
 
20
%
Separate Accounts:
 
 
 
 
 
 
 
 
 
 
 
 
Money market assets
 
8
%
 
9
%
 
8
%
 
1
%
 
1
%
 
1
%
Fixed-income assets
 
2
%
 
2
%
 
1
%
 
1
%
 
1
%
 
1
%
Equity assets
 
3
%
 
2
%
 
2
%
 
5
%
 
4
%
 
3
%
Liquidation Portfolios
 
3
%
 
3
%
 
2
%
 
0
%
 
0
%
 
0
%
Other activities
 
--

 
--

 
--

 
1
%
 
1
%
 
0
%
Total managed assets represent the balance of assets under management at a point in time. By contrast, average managed assets represent the average balance of assets under management during a period of time. Because substantially all revenue and certain components of distribution expense are generally calculated daily based on assets under management, changes in average managed assets are typically a key indicator of changes in revenue earned and asset-based expenses incurred during the same period.
December 31, 2011 period-end managed assets increased 3% over period-end managed assets at December 31, 2010 primarily as a result of increases in money market assets and fixed-income assets. Average managed assets for 2011 increased 2% over average managed assets for 2010. Period-end money market assets increased 3% for 2011 compared to 2010. Average money market assets increased 1% for 2011 compared to 2010. Period-end equity assets remained flat for 2011 as compared to 2010. Average equity assets increased 5% for 2011 compared to 2010 primarily due to positive net sales and acquisitions, partially offset by market depreciation. Period-end fixed-income assets increased 10% for 2011 as compared to 2010. Average fixed-income assets increased 13% for 2011 as compared to 2010 primarily due to positive net sales and, to a lesser extent, market appreciation. Liquidation portfolios at December 31, 2011 decreased 17% as compared to December 31, 2010. Average assets in liquidation portfolios decreased 16% for 2011 as compared to 2010 due to the anticipated gradual liquidation of the portfolio.
December 31, 2010 period-end managed assets decreased 8% over period-end managed assets at December 31, 2009 primarily as a result of decreases in money market assets partially offset by increases in fixed-income and equity assets. Average managed assets for 2010 decreased 14% over average managed assets for 2009. Period-end money market assets decreased 12% for 2010 compared to 2009. Average money market assets decreased 22% for 2010 compared to 2009. Period-end equity assets increased 4% for 2010 as compared to 2009. Average equity assets increased 9% for 2010 compared to 2009 primarily due to market appreciation. Period-end fixed-income assets increased 20% for 2010 as compared to 2009. Average fixed-income assets increased 31% for 2010 as compared to 2009 primarily due to positive net sales and, to a lesser extent, market appreciation. Liquidation portfolios at December 31, 2010 decreased 15% as compared to December 31, 2009. Average assets in liquidation portfolios increased significantly for 2010 as compared to 2009 primarily due to the selection of Federated to advise a multi-billion-dollar portfolio in the third quarter 2009.

 
2011 Annual Report
15

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Changes in Fixed-Income and Equity Fund Assets
in millions for the years ended December 31,
 
2011

 
2010

 
Percent
Change

Fixed-Income Funds
 
 
 
 
 
 
Beginning assets
 
$
31,933

 
$
28,427

 
12
 %
Sales
 
17,990

 
15,595

 
15
 %
Redemptions
 
(15,844
)
 
(13,136
)
 
21
 %
Net sales
 
2,146

 
2,459

 
(13
)%
Net exchanges
 
1,873

 
(20
)
 
9,465
 %
Acquisition-related
 
132

 
0

 
N/A

Market gains and losses/reinvestments1
 
1,157

 
1,067

 
8
 %
Ending assets
 
$
37,241

 
$
31,933

 
17
 %
Equity Funds
 
 
 
 
 
 
Beginning assets
 
$
22,626

 
$
20,960

 
8
 %
Sales
 
7,633

 
6,288

 
21
 %
Redemptions
 
(7,461
)
 
(7,041
)
 
6
 %
Net sales (redemptions)
 
172

 
(753
)
 
123
 %
Net exchanges
 
(76
)
 
(47
)
 
(62
)%
Acquisition-related
 
463

 
0

 
N/A

Market gains and losses/reinvestments1
 
(1,255
)
 
2,466

 
(151
)%
Ending assets
 
$
21,930

 
$
22,626

 
(3
)%
1
Reflects approximate changes in the market value of the securities held by the funds, and, to a lesser extent, reinvested dividends, distributions, net investment income and the impact of changes in foreign exchange rates.
Changes in Fixed-Income and Equity Separate Account Assets and Liquidation Portfolios
in millions for the years ended December 31,
 
2011

 
2010

 
Percent
Change

Fixed-Income Separate Accounts
 
 
 
 
 
 
Beginning assets
 
$
8,772

 
$
5,360

 
64
 %
Sales2
 
1,698

 
4,303

 
(61
)%
Redemptions2
 
(1,443
)
 
(1,228
)
 
18
 %
Net sales2
 
255

 
3,075

 
(92
)%
Net exchanges
 
(1,806
)
 
0

 
N/A

Market gains and losses/reinvestments3
 
352

 
337

 
4
 %
Ending assets
 
$
7,573

 
$
8,772

 
(14
)%
Equity Separate Accounts
 
 
 
 
 
 
Beginning assets
 
$
8,176

 
$
8,713

 
(6
)%
Sales2
 
2,861

 
1,689

 
69
 %
Redemptions2
 
(2,530
)
 
(3,149
)
 
(20
)%
Net sales (redemptions)2
 
331

 
(1,460
)
 
123
 %
Net exchanges
 
54

 
41

 
32
 %
Market gains and losses/reinvestments3
 
396

 
882

 
(55
)%
Ending assets
 
$
8,957

 
$
8,176

 
10
 %
Liquidation Portfolios
 
 
 
 
 
 
Beginning assets
 
$
10,708

 
$
12,596

 
(15
)%
Sales2
 
2

 
12

 
(83
)%
Redemptions2
 
(1,854
)
 
(1,900
)
 
(2
)%
Net redemptions2
 
(1,852
)
 
(1,888
)
 
(2
)%
Ending assets
 
$
8,856

 
$
10,708

 
(17
)%
2
For certain accounts, Sales, Redemptions or Net sales/redemptions are calculated as the remaining difference between beginning and ending assets after the calculation of Market gains and losses/reinvestments.
3
Reflects approximate changes in the market value of the securities held in the portfolios, and, to a lesser extent, reinvested dividends, distributions, net investment income and the impact of changes in foreign exchange rates.

16
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Results of Operations
Revenue. The following table sets forth components of total revenue for the three years ended December 31:
in millions
 
2011

 
2010

 
2009

 
2011
vs. 2010

 
2010
vs. 2009

Revenue from managed assets
 
$
887.1

 
$
944.4

 
$
1,169.2

 
(6
)%
 
(19
)%
Revenue from sources other than managed assets
 
8.0

 
7.5

 
6.8

 
7
 %
 
10
 %
Total revenue
 
$
895.1

 
$
951.9

 
$
1,176.0

 
(6
)%
 
(19
)%
Revenue from managed assets decreased $57.3 million in 2011 as compared to 2010 primarily due to an increase of $79.1 million in voluntary fee waivers related to certain money market funds in order for these funds to maintain positive or zero net yields. The decrease in revenue was partially offset by an increase of $13.4 million due to higher average fixed-income assets, an increase of $9.1 million resulting from higher average money market assets (inclusive of an increase in revenue of approximately $26.6 million from average assets attributable to the SunTrust Acquisition) and an increase of $3.5 million due to higher average equity assets.
See Business Developments – Historically Low Short-Term Interest Rates for additional information on voluntary fee waivers related to certain money market funds in order for these funds to maintain positive or zero net yields, including the offsetting decreases in expense and net income attributable to noncontrolling interests, the net pre-tax impact on income and a discussion of management's expectation regarding the pre-tax impact on income from fee waivers for the first quarter of 2012.
Federated’s ratio of revenue from managed assets to average managed assets for 2011 was 0.25% as compared to 0.27% for 2010. The decrease in the rate was primarily due to the significant increase in voluntary fee waivers to maintain positive or zero net yields for 2011 as compared to 2010.
Revenue from managed assets decreased $224.8 million in 2010 as compared to 2009 primarily due to a decrease of $173.7 million resulting from a decrease in average money market assets (inclusive of an offsetting $9.1 million increase in revenue from average assets attributable to the SunTrust Acquisition) and an increase of $121.0 million in voluntary fee waivers by certain money market funds in order to maintain positive or zero net yields. The decrease in revenue was partially offset by an increase of $40.7 million due to an increase in average fixed-income assets and a $31.9 million increase due to an increase in average equity assets.
Federated’s ratio of revenue from managed assets to average managed assets for 2010 was 0.27% as compared to 0.29% for 2009. The decrease in the rate was primarily due to the significant increase in voluntary fee waivers to maintain positive or zero net yields for 2010 as compared to 2009, partially offset by the increase in average managed assets invested in higher fee-paying fixed-income and equity products for the same periods of comparison. Average assets invested in money market products for 2010 represented 78% of Federated’s total average managed assets as compared to 85% for 2009, while average fixed-income and equity assets represented 11% and 8% of total average managed assets for 2010, respectively, as compared to 7% and 6% for 2009, respectively.
 
Operating Expenses. The following table sets forth significant fluctuations in operating expenses for the three years ended December 31: 
in millions
 
2011

 
2010

 
2009

 
2011
vs. 2010

 
2010
vs. 2009

Distribution
 
$
235.7

 
$
259.2

 
$
410.0

 
(9
)%
 
(37
)%
Professional service fees
 
53.7

 
19.0

 
38.1

 
183
 %
 
(50
)%
Intangible asset related
 
7.9

 
22.5

 
32.6

 
(65
)%
 
(31
)%
All other
 
340.4

 
341.5

 
366.0

 
0
 %
 
(7
)%
Total operating expenses
 
$
637.7

 
$
642.2

 
$
846.7

 
(1
)%
 
(24
)%
Total operating expenses for 2011 decreased $4.5 million compared to 2010. Distribution expense decreased $23.5 million in 2011 as compared to 2010 primarily due to a $45.7 million decrease as a result of higher fee waivers in order for certain money market funds to maintain positive or zero net yields, partially offset by a $17.5 million increase related to the client mix of average money market assets in 2011 as compared to 2010 and a $4.2 million increase resulting from higher average fixed-income assets in 2011 as compared to 2010. Professional service fees increased $34.7 million primarily due to the recognition

 
2011 Annual Report
17

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

of $25.0 million in insurance proceeds in 2010 related to various previously disclosed legal proceedings, $21.6 million of which was recorded as a reduction to Professional service fees. See Business Developments – Recognition of Insurance Proceeds for additional information. In addition, there was an $8.5 million increase in Professional service fees related to certain of these legal proceedings. See Business Developments – Legal Proceedings for information regarding these charges. Intangible asset related expense decreased $14.6 million primarily due to the $8.2 million impairment of certain intangible assets in 2010 and a $5.4 million decrease due to certain intangible assets becoming fully amortized in 2010 and the second quarter of 2011. See Business Developments – Asset Impairments for additional information.
Total operating expenses for 2010 decreased $204.5 million compared to 2009. Distribution expense decreased $150.8 million primarily due to a $100.2 million decrease in 2010 as compared to 2009 associated with maintaining positive or zero net yields in certain money market funds and a $60.3 million decrease related to lower average money market assets in 2010 as compared to 2009. Professional service fees decreased $19.1 million due primarily to the recognition of the aforementioned insurance proceeds in 2010. Intangible asset related expense decreased $10.1 million due primarily to the decrease of impairments of certain customer relationship intangible assets in 2010 as compared to 2009. See Business Developments – Asset Impairments for additional information.
Nonoperating Income (Expenses). Nonoperating expenses, net, increased $2.4 million in 2011 as compared to 2010. The increase reflects a $2.1 million decrease in Gain on securities due primarily to decreases in market values of trading securities held during 2011 as compared to 2010 and an increase of $2.0 million in Debt expense - recourse primarily resulting from borrowings under the Credit Agreement outstanding for a full year in 2011 as compared to a partial year in 2010 (see Business Developments – Amended and Restated Credit Agreement for additional information). This was partially offset by a $1.5 million increase in Investment Income, net in 2011 as compared to 2010 due primarily to increases in average investment balances and investments in higher yielding products.
Nonoperating expenses, net, increased $6.3 million in 2010 as compared to 2009. The increase reflects a $10.7 million increase in Debt expense - recourse related primarily to increased average outstanding loan balances ($5.6 million) and an increase due to a higher average interest rate ($4.6 million) as a result of increased borrowings beginning in April 2010 (see Business Developments – Amended and Restated Credit Agreement for additional information). This was partially offset by a $2.3 million increase in Investment income, net primarily related to increases in average investment balances and a $1.3 million increase in Gain on securities, net primarily due to increased realized gains on investments.
Income Taxes. The income tax provision for 2011, 2010, and 2009 was $91.3 million, $112.0 million, and $118.3 million, respectively. The provision for 2011 decreased $20.7 million as compared to 2010 primarily due to lower Income before income taxes. The provision for 2010 decreased $6.3 million as compared to 2009 primarily due to lower Income before income taxes partially offset by increases in state taxes. The effective tax rate was 37.1% for 2011, 37.2% for 2010, and 36.2% for 2009. See Note (16) to the Consolidated Financial Statements for additional information on the effective tax rate, as well as other tax disclosures.
For 2011, Federated’s pretax book income was $50.9 million in excess of federal taxable income due primarily to $53.4 million in temporary tax differences associated with amortization of certain intangible assets.
For 2010, Federated’s pretax book income was $69.0 million in excess of federal taxable income due primarily to $33.8 million in temporary tax differences associated with amortization of certain intangible assets and $20.8 million in temporary tax differences related to the insurance proceeds recognized as income for book purposes in 2010 versus when received in a prior year for tax purposes. See Business Developments – Recognition of Insurance Proceeds.
 
For 2009, Federated’s pretax book income was $35.3 million in excess of federal taxable income due primarily to $19.4 million in temporary tax differences associated with amortization of certain intangible assets and $15.5 million in temporary tax differences related to incentive compensation accruals.

Net Income attributable to Noncontrolling Interests in Subsidiaries. Net income attributable to noncontrolling interests in subsidiaries decreased $5.9 million for 2011 as compared to 2010 primarily as a result of a $5.5 million decrease related to the impact of higher fee waivers in order for certain money market funds to maintain positive or zero net yields.

Net income attributable to noncontrolling interests in subsidiaries decreased $1.2 million for 2010 as compared to 2009 primarily due to the impact of higher fee waivers in order for certain money market funds to maintain positive or zero net yields.

18
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Net Income attributable to Federated Investors, Inc. Net income decreased $28.2 million in 2011 as compared to 2010 primarily as a result of the changes in revenues and expenses noted above. Diluted earnings per share for the year ended December 31, 2011 decreased $0.28 as compared to the same period of 2010 primarily due to decreased net income.
Net income decreased $18.2 million in 2010 as compared to 2009 primarily as a result of the changes in revenues and expenses noted above. Diluted earnings per share for the year ended December 31, 2010 decreased $0.19 as compared to the same period of 2009 primarily due to decreased net income.
Liquidity and Capital Resources
Liquid Assets. At December 31, 2011, liquid assets, consisting of cash and cash equivalents, investments and receivables, totaled $343.8 million as compared to $354.9 million at December 31, 2010. The decrease of $11.1 million primarily reflects a decrease of $149.5 million in Cash and cash equivalents partially offset by an increase of $138.2 million in investments which are described further in the discussions below relating to Operating and Investing Activities.
At December 31, 2011, Federated held investments in Federated-sponsored money market funds and certain fluctuating-value mutual funds that have limited direct and indirect exposures to international sovereign debt and currency risks. Federated has been actively managing its money market, fixed-income and equity portfolios to reduce sovereign debt and currency risks by reducing its potential exposure to deterioration in these markets. Further, for cash invested in money market funds (approximately $118 million), only indirect short-term exposures exist primarily to high-quality international bank names that are subject to Federated's stringent credit analysis process and comply with the requirements of Rule 2a-7.
Cash Provided by Operating Activities. Net cash provided by operating activities totaled $113.5 million for 2011 as compared to $215.9 million for 2010. The decrease of $102.4 million for 2011 as compared to 2010 was primarily due to an increase of $76.9 million in net cash paid for trading securities and a decrease in cash received from customers due to the $57.3 million decrease in revenue from managed assets previously discussed. Federated’s trading securities as of December 31, 2011 were primarily comprised of high quality short-term debt securities held by a consolidated, non-US dollar-denominated sponsored money market fund ($77.1 million), as well as shares of an offshore master fund invested in global project and trade finance transactions ($17.9 million) and stocks of large-cap U.S. and international companies ($10.9 million) held by various other consolidated investment companies.
Cash Used by Investing Activities. In 2011, Federated used $107.5 million for investing activities including primarily cash payments for both prior and current year acquisitions ($53.5 million) and a net investment of $45.7 million of available cash resources primarily in fixed-income sponsored investment companies.
Cash (Used) Provided by Financing Activities. In 2011, cash used by financing activities was $155.5 million. During 2011, Federated paid $100.0 million or $0.96 per share in dividends to holders of its common shares, repaid $42.5 million in connection with its long-term debt obligations (see Business Developments – Amended and Restated Credit Agreement for additional information) and used $28.5 million to repurchase 1.5 million shares of Class B common stock in the open market under the stock repurchase program and in private transactions. These items were partially offset by $16.8 million received related primarily to the exercise of 0.6 million stock options in 2011.
Borrowings. In 2008, Federated entered into a $140 million term loan. In the second quarter 2010, Federated amended and restated the $140 million term loan with its $425 million term loan. In the second quarter 2011, Federated amended and restated the $425 million term loan. See Business Developments – Amended and Restated Credit Agreement for additional information. During 2011 and 2010, Federated made principal payments of $42.5 million and $31.8 million, respectively, on these loans.
The Credit Agreement also contains a $200 million revolving credit facility. This new revolving credit facility replaced the previous $200 million revolving credit facility, which was scheduled to expire on October 31, 2011, and was terminated in connection with Federated’s entry into the Credit Agreement. Federated had no borrowings outstanding on the previous revolving credit facility. As of December 31, 2011, the entire $200 million revolving credit facility was available for borrowings.
Proceeds from the debt facilities have been used for general corporate purposes including cash payments related to acquisitions, quarterly dividends, investments and share repurchases.
The Credit Agreement has an interest coverage ratio covenant (consolidated earnings before interest, taxes, depreciation and amortization (EBITDA) to consolidated interest expense) and a leverage ratio covenant (consolidated debt to consolidated EBITDA) as well as other customary terms and conditions. An interest coverage ratio of at least 4 to 1 is required and as of

 
2011 Annual Report
19

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

December 31, 2011, the interest coverage ratio was 19.23 to 1. A leverage ratio of no more than 2.5 to 1 is required and as of December 31, 2011, the leverage ratio was 1.21 to 1. Federated was in compliance with its interest coverage and leverage ratios at and during the year ended December 31, 2011. The Credit Agreement and the Swap also have certain stated events of default and cross default provisions which would permit the lenders/counterparties to accelerate the repayment of the debt or the Swap if not cured within the applicable grace periods. The events of default generally include breaches of contract, failure to make required loan payments, insolvency, cessation of business, notice of lien or assessment and other proceedings, whether voluntary or involuntary, that would require the repayment of amounts borrowed.
Future Cash Needs. In addition to the contractual obligations and contingent liabilities described below, management expects that principal uses of cash will include funding distribution expenditures, paying incentive and base compensation, repaying recourse debt obligations, paying shareholder dividends, funding business acquisitions, paying taxes, repurchasing company stock, advancing sales commissions, seeding new products and funding property and equipment acquisitions, including computer-related software and hardware. As a result of the highly regulated nature of the investment management business, management anticipates that expenditures for compliance and investment management personnel, compliance systems and related professional and consulting fees may continue to increase.
On January 26, 2012, the board of directors declared a $0.24 per share dividend to shareholders of record as of February 8, 2012, which was paid on February 15, 2012.
After evaluating Federated’s existing liquid assets, expected continuing cash flow from operations, its remaining borrowing capacity under the revolving credit facility of the Credit Agreement and its ability to obtain additional financing arrangements and issue debt or stock, management believes it will have sufficient liquidity to meet its present and reasonably foreseeable cash needs. Although management currently is not projecting to draw on the availability under the revolving credit facility in 2012, management may choose to borrow additional amounts up to the maximum available under the revolving credit facility which could cause total outstanding borrowings to total as much as $551 million.
Management estimates that of the $21.9 million of deferred tax assets (net of valuation allowances) at December 31, 2011, $7.1 million and $2.7 million will reverse in 2012 and 2013, respectively. These reversals primarily represent tax deductions in those years for various expenses recorded in 2011 or prior years, such as certain compensation-related expenses. The years of reversal for the remaining $12.1 million are uncertain as those deferred tax assets primarily relate to unrealized and realized capital losses ($6.4 million) and insurance proceeds ($3.5 million).
Financial Position
The following discussion summarizes significant changes in assets and liabilities that are not discussed elsewhere in Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Accounts payable and accrued expenses at December 31, 2011 decreased $44.5 million from December 31, 2010 primarily due to a $44.7 million payment of contingent consideration related to a prior year acquisition.
Other current liabilities at December 31, 2011 increased $18.7 million from December 31, 2010 primarily as a result of the $10.0 million in insurance proceeds received related to claims submitted to cover costs associated with various legal proceedings. See Note (10) to the Consolidated Financial Statements for additional information.
Long-term deferred tax liability, net at December 31, 2011 increased $21.9 million from December 31, 2010 primarily as a result of $19.2 million of tax amortization in excess of book amortization of intangible assets.
As of December 31, 2011, Federated's market capitalization exceeded the recorded goodwill balance by more than 100%.

Off-Balance Sheet Arrangements
As of December 31, 2011 and 2010, Federated did not have any material off-balance sheet arrangements.


20
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Contractual Obligations and Contingent Liabilities
Contractual. The following table presents as of December 31, 2011, Federated’s significant minimum noncancelable contractual obligations by payment date. The payment amounts represent amounts contractually due to the recipient and do not include any unamortized discounts or other similar carrying value adjustments. Further discussion of the nature of each obligation is included either in the referenced Note to the Consolidated Financial Statements or in a footnote to the table.
 
  
 
 
 
Payments due in
 
 
in millions
 
Note
Reference
 
2012

 
2013-2014

 
2015-2016

 
After 2016

 
Total

Long-term debt obligations1
 
(11)
 
$
55.1

 
$
140.3

 
$
204.4

 
$
0

 
$
399.8

Operating lease obligations
 
(15)
 
11.7

 
24.0

 
19.3

 
37.3

 
92.3

Purchase obligations2
 
 
 
17.9

 
18.1

 
1.3

 
0.5

 
37.8

Employment-related commitments3
 
 
 
16.1

 
15.9

 
0

 
0

 
32.0

Acquisition-related commitments4
 
(20)
 
7.5

 
0

 
0

 
0

 
7.5

Total
 
 
 
$
108.3

 
$
198.3

 
$
225.0

 
$
37.8

 
$
569.4

1
Amounts include principal and interest payments. Assuming the recourse debt balance and the weighted-average interest rate in effect at December 31, 2011 (see Note (11) to the Consolidated Financial Statements), Federated’s minimum contractual interest payments would be approximately $12.6 million, $19.8 million and $6.1 million for 2012, 2013-2014 and 2015-2016, respectively.
2
Federated is a party to various contracts pursuant to which it receives certain services including legal, access to various fund-related information systems and research databases, as well as trade order transmission and recovery services. These contracts contain certain minimum noncancelable payments, cancellation provisions and renewal terms. The contracts expire on various dates through the year 2019. Costs for such services are expensed as incurred.
3
Federated has certain domestic and international employment arrangements pursuant to which Federated is obligated to make minimum compensation payments. These contracts expire on various dates through the year 2014.
4
Amount represents Federated's obligation to make acquisition-related contingent purchase price payments in cases where the related contingencies are resolved as of December 31, 2011. For a full discussion of Federated's commitments regarding acquisition-related purchase price payments, see the discussion that follows herein under Contingent Payments.
Contingent Payments. Pursuant to various acquisition-related and employee-related agreements, Federated is required to make certain periodic contingent payments. Details regarding these commitments are as follows:
As part of the SunTrust Acquisition, Federated is required to make annual contingent purchase price payments in the fourth quarters of each of the five years following the acquisition date. The contingent purchase price payments are calculated as a percentage of revenue less operating expenses directly attributed to certain eligible assets. The first contingent purchase price payment of $5.0 million was paid in the fourth quarter of 2011. At December 31, 2011, management estimated remaining contingent payments could total $19.0 million over the four years that remain, however, the actual amount of the contingent payments will vary based on asset levels and related net revenues and is not limited by any maximum amount. A wide range of outcomes for actual payments is possible due to the extent of reasonably possible flow-rate volatility for the assets under management. As of December 31, 2011, a liability of $13.4 million representing the estimated fair value of future consideration payments was recorded in Other current liabilities ($4.0 million) and Other long-term liabilities ($9.4 million) (see Note (6)(a) to the Consolidated Financial Statements for a discussion regarding the valuation methodology). This liability is remeasured at each reporting date with changes in the fair value recognized in Intangible asset related expense on the Consolidated Statements of Income.
In the fourth quarter 2008, Federated completed the acquisition of certain assets of David W. Tice & Associates LLC that relate to the management of the Prudent Bear Fund and the Prudent DollarBear Fund (Prudent Bear Acquisition). As part of the Prudent Bear Acquisition, Federated is required to make contingent purchase price payments based upon certain revenue growth targets over the four-year period following the acquisition date. The contingent purchase price payments are recorded as additional goodwill at the time the contingency is resolved. The first two contingent purchase price payments of $5.1 million and $44.7 million were paid in the first quarters of 2010 and 2011, respectively. The remaining contingent purchase price payments could total as much as $49 million. As of December 31, 2011, no amounts were accrued for the third anniversary year ended in December 2011.
In the fourth quarter 2008, Federated completed the acquisition of certain assets of Clover Capital Management, Inc., a Rochester, New York-based investment manager that specializes in value investing (Clover Capital Acquisition). As part of the Clover Capital Acquisition, Federated is required to make contingent purchase price payments based upon growth in revenues

 
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of Financial Condition and Results of Operations

over the five-year period following the acquisition date. The contingent purchase price payments, which could total as much as $56 million, will be recorded as additional goodwill at the time the contingency is resolved. The applicable growth targets were not met for the first two anniversary years and as such, no amounts were accrued or paid related to 2009 or 2010. As of December 31, 2011, $5.9 million was accrued for the third anniversary year ended in December 2011 and was paid in January 2012.
As part of the 2005 acquisition of the cash management business of Alliance Capital Management L.P. (Alliance Acquisition), Federated was required to make contingent purchase price payments over a five-year period following the acquisition date. These payments were primarily calculated as a percentage of revenues less certain operating expenses directly attributed to the assets acquired. Contingent purchase price payments of $10.7 million, $13.3 million, $16.2 million, $19.8 million and $32.4 million were paid in the second quarters of 2006, 2007, 2008, 2009, and 2010, respectively. In addition, a final contingent purchase price payment of $3.3 million was paid in the third quarter 2010. Contingent payments were recorded as additional goodwill at the time the related contingency was resolved.
In the third quarter 2007, Federated completed a transaction with Rochdale Investment Management LLC to acquire certain assets relating to its business of providing investment advisory and investment management services to the Rochdale Atlas Portfolio (Rochdale Acquisition). The Rochdale Acquisition agreement provides for two forms of contingent purchase price payments. The first form of contingent payment is based on Federated InterContinental Fund asset growth and performance through 2012. This form of payment was payable in 2010, will be payable again in 2012 and could aggregate to as much as $20 million. In the fourth quarter of 2010, $1.1 million was paid with respect to this first form of contingent payment and was recorded as goodwill. As of December 31, 2011, no amounts were accrued related to the potential payment in 2012. The second form of contingent payment is payable on a semi-annual basis over the five-year period following the acquisition closing date and is based on certain revenue earned by Federated from the Federated InterContinental Fund as well as fund performance. As of December 31, 2011, $4.1 million was paid in semi-annual contingent purchase price payments and, related to future semi-annual contingent purchase price payments, $0.4 million was accrued in Other current liabilities and recorded as goodwill. Contingent payments are recorded as additional goodwill at the time the related contingency is resolved.
In addition to the $16.1 million of employee-related commitments to be paid in 2012, Federated may be required to make certain incentive compensation-related payments in connection with various significant employment arrangements. The employment contracts expire on various dates through the year 2014 with payments possible through 2018. As of December 31, 2011, the maximum bonus payable over the remaining terms of the contracts approximates $54 million, none of which would be payable in 2012. In addition, certain employees have incentive compensation opportunities related to the Federated Kaufmann Large Cap Fund (the Fund Bonus). Based on asset levels at December 31, 2011, $0.5 million would be paid in 2012 as a Fund Bonus payment. Management is unable to reasonably estimate a range of possible bonus payments for the Fund Bonus for subsequent years due to the wide range of possible growth-rate scenarios.
Past Mutual Fund Trading Issues and Related Legal Proceedings. Since February 2004, Federated has been named as a defendant in seven cases involving the fees charged to the Federated Kaufmann Fund. These cases were originally filed in five different federal courts and one state court. The state court case was voluntarily dismissed by the plaintiff without prejudice. The six federal cases were consolidated in the U.S. District Court for the Western District of Pennsylvania.
The plaintiffs in these cases sought compensatory damages reflecting a return of all advisory fees earned by Federated in connection with the management of the Federated Kaufmann Fund since June 28, 2003, as well as attorneys' fees and expenses. On April 28, 2011, Federated reached a final settlement to resolve these cases. Operating income for the year ended December 31, 2011 included charges of $17.3 million in legal and related costs associated with these cases. This amount was charged primarily to Professional service fees. Federated is currently involved in legal proceedings with certain insurance carriers to obtain and/or retain insurance reimbursements for these and other related costs.
As of the date of this filing, no material additional accruals or costs relating to Past Mutual Fund Trading Issues and Related Legal Proceedings are reasonably possible.
Other Legal Proceedings. Federated has claims asserted and threatened against it in the ordinary course of business. As of December 31, 2011, Federated does not believe that a material loss related to these claims is reasonably possible.
Variable Interest Entities
Federated is involved with various entities in the normal course of business that may be deemed to be variable interest entities (VIEs). Federated determined that it was the primary beneficiary of certain investment-fund VIEs and, as a result, consolidated the assets, liabilities and operations of these VIEs in its Consolidated Financial Statements. See Note (5) to the Consolidated

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Financial Statements for more information.
Recent Accounting Pronouncements
For a complete list of new accounting standards recently adopted by Federated and new accounting standards issued, but not yet adopted by Federated, see Note (2) to the Consolidated Financial Statements.
Critical Accounting Policies
Federated’s Consolidated Financial Statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP). In preparing the financial statements, management is required to make estimates and assumptions that affect the amounts reported in the Consolidated Financial Statements and accompanying notes. Management continually evaluates the accounting policies and estimates it uses to prepare the Consolidated Financial Statements. In general, management’s estimates are based on historical experience, information from third-party professionals and various other assumptions that are believed to be reasonable under the facts and circumstances. Actual results may differ from those estimates made by management and those differences may be material.
Of the significant accounting policies described in Note (1) to the Consolidated Financial Statements, management believes that its policies regarding accounting for intangible assets, the acquisition-related future consideration liability and income taxes involve a higher degree of judgment and complexity.
Accounting for Intangible Assets. Three aspects of accounting for intangible assets require significant management estimates and judgment: (1) valuation in connection with the initial purchase price allocation; (2) ongoing evaluation for impairment and (3) the determination of the useful life or whether the life is indefinite. The process of determining the fair value of identifiable intangible assets at the date of acquisition requires management estimates and judgment as to expectations for earnings on the related managed assets acquired, redemption rates for such managed assets, growth from sales efforts and the effects of market conditions. Management often utilizes an independent valuation expert to help with this process. If actual changes in the related managed assets or the projected useful life of the intangible asset, among other assumptions, differ significantly from the estimates and judgments used in determining the initial fair value, the intangible asset amounts recorded in the financial statements could be subject to possible impairment or could require an acceleration in amortization expense that could have a material adverse effect on Federated’s consolidated financial position and results of operations.
The level, if any, of impairment of Federated's intangible assets is highly dependent upon the remaining level of managed assets acquired in connection with an acquisition. Management monitors changes in the levels of managed assets for potential indicators of impairment. The recoverability of a finite-lived customer relationship intangible asset is assessed using an undiscounted cash flow model that considers various factors to project future cash flows expected to be generated from the respective asset. The fair value of indefinite-lived renewable investment advisory rights are also highly dependent upon the level of managed assets associated with the advisory rights as well as the impact of voluntary fee waivers related to certain money market funds in order for these funds to maintain positive or zero net yields. The indefinite-lived intangible assets are tested for impairment annually or more frequently if events or changes in circumstances indicate the assets may be impaired. Impairment is indicated when the carrying value of the intangible assets exceed their fair value. In estimating the fair value of the indefinite-lived intangible assets, Federated considers the results of various valuation techniques including an income approach where future cash flows are discounted.
In developing cash flow estimates, management considers the following: (1) an estimated rate of change for underlying managed assets; (2) expected revenue per managed asset; (3) identifiable incremental operating expenses; (4) useful life of the acquired asset; and, for indefinite-lived intangible assets; (5) the discount rate. Management estimates a rate of change for underlying managed assets based on a combination of an estimated rate of market appreciation or depreciation and an estimated net redemption or sales rate. Expected revenue per managed asset, incremental operating expenses and the useful life of the acquired asset are generally based on contract terms, average market participant data and historical experience.
At December 31, 2011, Federated had $66.5 million in indefinite-lived intangible assets recorded on its Consolidated Balance Sheets. Based on testing performed in 2011, it was determined that no impairment existed for these assets. For the $12.1 million in finite-lived intangible assets, no indicators of impairment existed as of December 31, 2011 and no impairments were recorded during 2011. In 2009 and 2010, Federated recognized impairment charges related to certain finite-lived intangible assets acquired in connection with a prior-year acquisition of a quantitative investment management business. For information regarding these prior-period impairments, see Note (6)(b) to the Consolidated Financial Statements.

 
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MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Actual changes in the underlying managed assets and other assumptions could cause the projected cash flows to vary significantly, which may cause impairment of the related identifiable intangible asset. The actual amount of an impairment charge, if any, would depend on the estimated fair value of the intangible asset at that time, which will be determined based on the actual level of managed assets, the then-current projections of future changes in managed assets, estimated earnings and the discount rate.
Accounting for Acquisition-Related Future Consideration Liability. Federated is required to carry its liability for future consideration payments related to the SunTrust Acquisition at fair value each period end with changes in fair value recorded in earnings. As of December 31, 2011, the fair value of the liability was $13.4 million. Future consideration payments will be calculated as a percentage of revenue less operating expenses directly attributed to certain eligible assets. The process of estimating the fair value of the related liability requires management estimates and judgment as to expectations for the amount of net revenue to be earned on the applicable assets under management, net sales/redemptions for such assets under management and the discount rate. Expected net revenue per managed asset is generally based on contract terms, historical experience and management's expectation regarding the impact of potential future fee waivers to maintain positive or zero net yields. Net flow rates are estimated by evaluating historical net flow rates in similar money market funds and recent trends in the eligible assets under management. The discount rate is estimated as the current market rate of return.
If actual amounts or management’s estimates and judgment regarding changes in the related managed assets, revenue earned from the managed assets or the discount rate, among other assumptions, differ significantly at a period-end date as compared to the estimates and judgments used in determining the fair value as of the prior period-end date, the adjustment to record the change in the fair value of the liability could result in a significant favorable or unfavorable adjustment to earnings which could have a material effect on Federated’s consolidated financial position and results of operations. Since the September 2010 acquisition date, Federated has recognized a $0.9 million charge to earnings to record an increase in the fair-value estimate of this liability for future consideration payments. See Note (6)(a) to the Consolidated Financial Statements for additional information regarding this liability.
  
Accounting for Income Taxes. Significant management judgment is required in developing Federated’s provision for income taxes and the determination of any valuation allowances related to deferred tax assets. As of December 31, 2011, Federated had not recorded a valuation allowance on $1.0 million of its deferred tax assets relating to capital losses (recognized for tax purposes) and the write-down of Federated’s remaining CDO investment (unrecognized for tax purposes). Federated considered various factors in connection with its evaluation of the partial realizability of these assets including: (1) for the preponderance of these assets, the five-year carry-forward period for capital losses has not yet begun and (2) Federated has invested available cash with the intent to generate capital gains and has historically generated capital gains in times of favorable market conditions. Based on these factors, management believes it is more likely than not that Federated will be able to utilize a portion of these losses in the future. In the event that Federated’s strategies do not materialize, Federated may be required to record an additional valuation allowance of as much as $1.0 million for these deferred tax assets.
Significant management judgment is required to account for uncertainty in income taxes. The processes of determining (1) whether it is more likely than not that a position will be sustained upon examination and (2) the largest amount of tax benefit that is greater than 50% likely of being realized upon ultimate settlement with the taxing authority require management estimates and judgment as to expectations of the amounts and probabilities of the outcomes that could be realized. Management considers the facts and circumstances available as of the reporting date in order to determine the appropriate tax benefit to recognize including tax legislation and statutes, legislative intent, regulations, rulings and case law. Significant differences could exist between the ultimate outcome of the examination of a tax position and management’s estimate. These differences could have a material impact on Federated’s effective tax rate, results of operations, financial position and/or cash flows.


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Risk Factors
Potential Adverse Effects of a Material Concentration in Revenue. For 2011, approximately 46% of Federated’s total revenue was attributable to money market assets as compared to 50% and 65% for 2010 and 2009, respectively. A significant change in Federated’s money market business or a significant reduction in money market assets due to regulatory changes, changes in the financial markets including significant increases in interest rates over a short period of time, significant deterioration in investor confidence, further persistent declines in or additional prolonged periods of historically low short-term interest rates and resulting fee waivers or other circumstances, could have a material adverse effect on Federated’s results of operations.
Potential Adverse Effects of Historically Low Interest Rates. In December 2008, the Federal Reserve cut the federal funds target rate, a benchmark used by banks to set rates paid on many types of consumer and business loans, to a range between 0% and 0.25%. This action by the Federal Reserve negatively impacts the yields of money market funds, in particular treasury and government agency money market funds. Money market fund yields reflect the return on short-term investments (e.g. Treasury bills), less fund expenses. With short-term interest rates at or near zero, money market funds may not be able to maintain positive yields for shareholders. On January 25, 2012, the Federal Reserve announced that they would keep the target range between 0% and 0.25% and that economic conditions are likely to warrant exceptionally low levels for the federal funds rate at least until late 2014. Federated voluntarily waives certain fees or assumes expenses of the funds for competitive reasons such as to maintain positive or zero net yields, which has and could continue to cause material adverse effects on Federated’s results of operations. Federated, however, is not obligated to waive such fees or to assume such fund expenses.
Since the fourth quarter 2008, Federated has voluntarily waived fees in order for certain money market funds to maintain positive or zero net yields. See Business Developments – Historically Low Short-Term Interest Rates for additional information on voluntary fee waivers related to certain money market funds in order for these funds to maintain positive or zero net yields, including a discussion of management’s expectation regarding fee waivers and the related reduction in distribution expense for the first quarter of 2012. Increases in short-term interest rates that result in higher yields on securities purchased in money market fund portfolios would reduce the net pre-tax impact of these waivers. Management estimates that an increase of 10 basis points in gross yields on securities purchased in money market fund portfolios will likely reduce the net pre-tax impact of these waivers between thirty-five and forty percent from the current levels and an increase of 25 basis points would reduce the impact between sixty-five and seventy percent. The actual amount of future fee waivers could vary significantly from management’s estimates as they are contingent on a number of variables including, but not limited to, changes in assets within the money market funds, available yields on instruments held by the money market funds, actions by the Federal Reserve, the U.S. Department of the Treasury and other governmental entities, changes in expenses of the money market funds, changes in the mix of money market customer assets, Federated’s willingness to continue the fee waivers and changes in the extent to which the impact of the waivers is shared by third parties. 
Potential Adverse Effects of Rising Interest Rates. In a rising short-term interest rate environment, certain investors using money market products and other short-term duration fixed-income products for cash management purposes may shift these investments to direct investments in comparable instruments in order to realize higher yields than those available in money market and other fund products holding lower-yielding instruments. In addition, rising interest rates will tend to reduce the market value of securities held in various investment portfolios and other products. Thus, increases in interest rates could have an adverse effect on Federated’s revenue from money market and other fixed-income products.
Potential Adverse Effects of a Decline or Disruption in the Economy or Financial Markets. Economic or financial market downturns (domestic or international), including disruptions in securities and credit markets, may adversely affect the profitability and performance of, demand for and investor confidence in Federated’s investment products and services. In addition, Federated's products may be adversely affected by potential deterioration in sovereign or currency market conditions. The ability of Federated to compete and sustain asset and revenue growth is dependent, in part, on the relative attractiveness of the types of investment products Federated offers and its investment performance and strategies under prevailing market conditions. In the event of extreme circumstances, including economic, political, or business crises, Federated’s products may suffer significant net redemptions in assets under management causing severe liquidity issues in its short-term sponsored investment products and declines in the value of and returns on assets under management, all of which could cause material adverse effects on Federated’s reputation, financial position, results of operations or liquidity.
Likewise, a service provider or vendor of Federated, including the major banks that provide custody and portfolio accounting services for Federated’s investment products, could also be adversely affected by the adverse market conditions described above. It is not possible to predict with certainty the extent to which the services or products Federated receives from such service provider or vendor would be interrupted or affected by such situations. Accordingly, there can be no assurance that potential service interruption or Federated’s ability to find a suitable replacement would not have a material adverse effect on

 
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MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Federated’s reputation, financial position, results of operations or liquidity.
Potential Adverse Effects of Changes in Laws and Regulations on Federated’s Investment Management Business. Federated and its investment management business are subject to extensive regulation in the United States and abroad. Federated and the Federated Funds are subject to Federal securities laws, principally the Securities Act of 1933, the Investment Company Act and the Investment Advisers Act of 1940, state laws regarding securities fraud, and regulations promulgated by various regulatory authorities, including the SEC, the Financial Industry Regulatory Authority (FINRA), and the New York Stock Exchange (the NYSE). Federated is also affected by the regulations governing banks and other financial institutions and, to the extent operations take place outside the United States, by foreign laws and regulatory authorities. Changes in laws, regulations or governmental policies, and the costs associated with compliance, could materially and adversely affect the business and operations of Federated.
From time to time, the Federal securities laws have been augmented substantially. For example, among other measures, Federated has been impacted by the Sarbanes-Oxley Act of 2002, the Patriot Act of 2001 and the Gramm-Leach-Bliley Act of 1999. The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) was enacted into law on July 21, 2010. Under the Dodd-Frank Act, Federated, as well as mutual funds, continue to be primarily regulated by the SEC. The Dodd-Frank Act provides, however, for a new systemic risk regulation regime under which it is possible that Federated and/or any one or more of its mutual funds could be designated by a newly created Financial Stability Oversight Council (FSOC) for enhanced prudential regulation by the Federal Reserve Board, in addition to primary regulation by the SEC. Other provisions of the Dodd-Frank Act may affect intermediaries in their sale or use of Federated's products. Prior to complete implementation, it will be difficult to assess the full impact of the Dodd-Frank Act on Federated.
On October 21, 2010, the President's Working Group issued its report on Money Market Fund Reform Options (the Report). The President's Working Group was tasked with studying possible reforms relating to money market funds that could mitigate systemic risk in the financial markets (including the potential for disruption in the financial markets caused by rapid shareholder redemptions in money market funds). The Report discusses the conditions that could cause money market funds to experience rapid shareholder redemptions and describes the advantages and disadvantages of a variety of policy options that could reduce the risk of such rapid redemptions. The Report suggests that the FSOC examine these options as part of its implementation of the Dodd-Frank Act.
In January 2010, the SEC adopted extensive amendments to Rule 2a-7 of the Investment Company Act aimed at enhancing the resiliency of money market funds. These amendments included a series of enhancements including rules that required all money market funds to meet specific portfolio liquidity standards and rules that significantly enhanced the public disclosure and regulatory reporting obligations of these funds. In Federated's view, the amendments of 2010 meaningfully and sufficiently strengthened money market funds. Recent experience demonstrated that the amendments of 2010 were effective in meeting heightened requests for redemptions occurring at various times throughout 2011 in connection with the U.S. credit rating downgrade and the ongoing European debt crisis.
The SEC staff is considering additional changes to Rule 2a-7 that could adversely impact the viability of money market funds, including requiring a floating net asset value, imposing capital requirements, and creating redemption restrictions. Federated believes the changes currently under consideration, if enacted, would significantly reduce the utility and attractiveness of money market funds to investors. Thus, rather than enhance the resiliency of money market funds, the contemplated changes would potentially severely harm the utility of money market funds for investors who, in Federated's view, value money market funds in their current form as an efficient and effective cash management investment product offering daily liquidity at par. It has been reported that the SEC may propose amendments to Rule 2a-7 as early as the first quarter of 2012.
If ultimately enacted, some or all of these changes would be detrimental to Federated's money market fund business and could materially and adversely affect Federated's operations. The very proposal of such amendments could have an adverse impact on Federated's money market fund business and operations and could also negatively impact the short-term credit markets. Management is carefully monitoring developments in this area and plans to actively participate both individually and with industry groups in the public comment process that would accompany any rule change proposal. Federated is unable to assess the degree of any potential impact such additional reforms may have on its business and operations until such proposals are issued. Even when issued, the final version of any SEC rule amendment could vary significantly from the form in which it is proposed.
In addition, during the past few years the SEC, FINRA and the NYSE have adopted regulations that have increased Federated's operating expenses and affected the conduct of its business, and may continue to do so. Other significant regulations or amendments to regulations have been proposed that, if adopted, will affect Federated and the Federated Funds. Federated anticipates that other reforms and regulatory actions affecting Federated and/or the mutual fund industry are likely to occur,

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MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
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including proposals for further amendments to Rule 2a-7.
Over the past few years, various service industries, including mutual fund service providers, have been the subject of changes in tax policy that impact their state and local tax liability. Changes that have been adopted or proposed include (1) an expansion of the nature of a service company's activities that subject it to tax in a jurisdiction, (2) a change in the methodology by which multi-state companies apportion their income between jurisdictions, and (3) a requirement that affiliated companies calculate their state tax as one combined entity. As adopted changes become effective and additional jurisdictions effect similar changes, there could be a material adverse effect on Federated's tax liability and effective tax rate and, as a result, net income.
Potential Adverse Effect of Providing Financial Support to Investment Products. Federated may, at its sole discretion, from time to time elect to provide financial support to its sponsored investment products. Providing such support utilizes capital that would otherwise be available for other corporate purposes. Losses on such support, or failure to have or devote sufficient capital to support products, could have a material adverse effect on Federated’s reputation, financial position, results of operations or liquidity.
Risk of Federated’s Money Market Products’ Ability to Maintain a Stable $1.00 Net Asset Value. Approximately 46% of Federated’s total revenue for 2011 was attributable to money market assets. An investment in money market funds is neither insured nor guaranteed by the Federal Deposit Insurance Corporation. Although money market funds seek to preserve an NAV of $1.00 per share, it is possible for an investor to lose money by investing in these funds. Federated devotes substantial resources including significant credit analysis to the management of its products. Federated money market funds have always maintained a $1.00 NAV; however, there is no guarantee that such results will be achieved in the future. Market conditions could lead to severe liquidity issues and/or prolonged periods of historically low yields in money market products which could impact their NAVs. If the NAV of a Federated money market fund were to decline to less than $1.00 per share, Federated money market funds would likely experience significant redemptions in assets under management, loss of shareholder confidence and reputational harm, all of which could cause material adverse effects on Federated’s financial position, results of operations or liquidity.
No Assurance of Access to Sufficient Liquidity. From time to time, Federated’s operations may require more cash than is then available from operations. In these circumstances, it may be necessary to borrow from lending facilities or to raise capital by securing new debt or by selling shares of Federated equity or debt securities. Federated’s ability to raise additional capital in the future will be affected by several factors including Federated’s creditworthiness, the market value of Federated’s common stock, as well as general market conditions. There can be no assurance that Federated will be able to obtain these funds and financing on acceptable terms, if at all.
Retaining and Recruiting Key Personnel. Federated’s ability to locate and retain quality personnel has contributed significantly to its growth and success and is important to attracting and retaining customers. The market for qualified executives, investment managers, analysts, traders, sales representatives and other key personnel is extremely competitive. There can be no assurance that Federated will be successful in its efforts to recruit and retain the required personnel. Federated has encouraged the continued retention of its executives and other key personnel through measures such as providing competitive compensation arrangements and in certain cases employment agreements. The loss of any such personnel could have an adverse effect on Federated. In certain circumstances, the departure of key employees could cause higher redemption rates for certain assets under management or the loss of client accounts. Moreover, since certain of Federated’s products contribute significantly to its revenues and earnings, the loss of even a small number of key personnel associated with these products could have a disproportionate impact on Federated’s business.
Various executives, investment, sales and other key personnel own restricted stock and hold stock options subject to vesting periods of up to ten years from the date acquired or awarded and to provisions that require resale or forfeiture to Federated in certain circumstances upon termination of employment. In addition, certain of these employees are employed under contracts which require periodic review of compensation and contain restrictive covenants with regard to divulging confidential information and engaging in competitive activities.
Potential Adverse Effects of Increased Competition in the Investment Management Business. The investment management business is highly competitive. Federated competes in the management and distribution of mutual funds and Separate Accounts with other fund management companies, national and regional broker/dealers, commercial banks, insurance companies and other institutions. Many of these competitors have substantially greater resources and brand recognition than Federated. Competition is based on various factors, including business reputation, investment performance, quality of service, the strength and continuity of management and selling relationships, distribution services offered, the range of products offered and fees charged.

 
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MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Many of Federated’s products are designed for use by institutions such as banks, insurance companies and other corporations. A large portion of Federated’s managed assets, particularly money market and fixed-income assets are held by institutional investors. Because most institutional investment vehicles are sold without sales commissions at either the time of purchase or the time of redemption, institutional investors may be more inclined to transfer their assets among various institutional funds than investors in retail mutual funds.
 
A significant portion of Federated’s revenue is derived from providing mutual funds to the wealth management and trust market, comprising approximately 1,500 banks and other financial institutions. Future profitability of Federated will be affected by its ability to retain its share of this market, and could also be adversely affected by consolidations occurring in the banking industry, as well as regulatory changes.
Potential Adverse Effects of Changes in Federated’s Distribution Channels. Federated acts as a wholesaler of investment products to financial intermediaries including banks, broker/dealers, registered investment advisers and other financial planners. Federated also sells investment products directly to corporations and institutions. Approximately 10% of Federated’s total revenue for 2011 was derived from services provided to one intermediary customer, the Bank of New York Mellon Corporation. If this financial intermediary were to cease operations or limit or otherwise end the distribution of Federated’s investment products, it could have a material adverse effect on Federated’s future revenues and, to a lesser extent, net income. There can be no assurance that Federated will continue to have access to the financial intermediaries that currently distribute Federated products or that Federated’s relationship with such intermediaries will continue over time. In addition, Federated has experienced increases in the cost of distribution as a percentage of total revenue over the years and expects such costs to continue to increase due to asset growth and the competitive nature of the mutual fund business, exclusive of decreases related to maintaining positive or zero net yields. Higher distribution costs reduce Federated’s operating and net income.
Adverse Effects of Declines in the Amount of or Changes in the Mix of Assets Under Management. A significant portion of Federated’s revenue is derived from investment advisory fees, which are based on the value of managed assets and vary with the type of asset being managed, with higher fees generally earned on equity products than on fixed-income and money market products and liquidation portfolios. Likewise, mutual fund products generally have a higher management fee than Separate Accounts. Similarly, traditional separate accounts typically have a higher fee rate than liquidation portfolios. Additionally, certain components of distribution expense can vary depending upon the asset type, distribution channel and/or the size of the customer relationship. Consequently, significant fluctuations in the market value of securities held by, or the level of redemptions from, the funds or other products advised by Federated may materially affect the amount of managed assets and thus Federated’s revenue, profitability and ability to grow. Similarly, changes in Federated’s average asset mix across both asset and product types have a direct impact on Federated’s revenue and profitability. Federated generally pays out a larger portion of the revenue earned from assets in money market funds than assets in equity or fixed-income funds. Substantially all of Federated’s managed assets are in investment products that permit investors to redeem their investment at any time. Additionally, changing market conditions may continue to cause a shift in Federated’s asset mix towards money market and fixed-income products which may cause a decline in Federated’s revenue and net income.
Adverse Effects of Poor Investment Performance. Success in the investment management business is largely dependent on investment performance relative to market conditions and the performance of competing products. Good performance generally assists retention and growth of assets, resulting in additional revenues. Conversely, poor performance tends to result in decreased sales and increased redemptions with corresponding decreases in revenues to Federated. Poor performance could, therefore, have a material adverse effect on Federated’s business, results of operations or business prospects. In terms of revenue concentration by product, approximately 12% and 11%  of Federated’s total revenue for 2011 were derived from services provided to two sponsored funds, the Federated Kaufmann Fund and the Federated Prime Obligations Fund, respectively. A significant and prolonged decline in the assets under management in these funds could have a material adverse effect on Federated’s future revenues and, to a lesser extent, net income, due to related reductions to distribution expenses associated with these funds.
Operational Risks. Operational risks include, but are not limited to, improper or unauthorized execution and processing of transactions, deficiencies in operating systems, business disruptions, inadequacies or breaches in Federated’s internal control processes and noncompliance with regulatory requirements. Management relies on its employees and systems to comply with established procedures, controls and regulatory requirements. Breakdown or improper use of systems, human error or improper action by employees, or noncompliance with regulatory rules could cause material adverse effects on Federated’s reputation, financial position, results of operations and/or liquidity.
No Assurance of Successful Future Acquisitions. Federated’s business strategy contemplates the acquisition of other investment management companies as well as investment assets, both domestically and internationally. There can be no

28
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

assurance that Federated will find suitable acquisition candidates at acceptable prices, have sufficient capital resources to realize its acquisition strategy, be successful in entering into definitive agreements for desired acquisitions, or successfully integrate acquired companies into Federated, or that any such acquisitions, if consummated, will prove to be advantageous to Federated.
Impairment Risk. At December 31, 2011, Federated had intangible assets including goodwill totaling $720.9 million on its Consolidated Balance Sheet, the vast majority of which represents assets capitalized in connection with Federated’s acquisitions and business combinations. Accounting for intangible assets requires significant management estimates and judgment. Federated may not realize the value of these intangible assets. Management performs an annual review of the carrying values of goodwill and indefinite-lived intangible assets and periodic reviews of the carrying values of all other intangible assets to determine whether events and circumstances indicate that an impairment in value may have occurred. A variety of factors could cause the carrying value of an intangible asset to become impaired. Should a review indicate impairment, a write-down of the carrying value of the intangible asset would occur, resulting in a non-cash charge which would adversely affect Federated’s results of operations for the period.
  
Systems and Technology Risks. Federated utilizes software and related technologies throughout its business including both proprietary systems and those provided by outside vendors. Unanticipated issues could occur and it is not possible to predict with certainty all of the adverse effects that could result from a failure of a third party to address computer system problems. Accordingly, there can be no assurance that potential system interruptions or the cost necessary to rectify the problems would not have a material adverse effect on Federated’s business, financial condition, results of operations or business prospects. In addition, Federated cannot predict the impact to its business and/or the costs to rectify situations involving unauthorized system access, computer theft and computer viruses.
Adverse Effects of Rising Costs of Risk Management. Since 2001, expenses related to risk management have increased and management expects these costs to be significant going forward. As a result of a heightened regulatory environment, management anticipates that expenditures for risk management personnel, risk management systems and related professional and consulting fees may continue to increase. Insurance coverage for significant risks may not be available or may only be available at prohibitive costs. Renewals of insurance policies may expose Federated to additional cost through the assumption of higher deductibles, and co-insurance liability and/or lower coverage levels. Higher insurance costs, incurred deductibles and lower coverage levels may reduce Federated’s operating and net income.
Potential Adverse Effects of Reputational Harm. Any material losses of client or shareholder confidence in Federated or in the mutual fund industry as a result of pending litigation, previously settled governmental inquiries, economic or financial market downturns or disruptions, material errors in public news reports, misconduct, rumors on the internet or other matters could increase redemptions from and reduce sales of Federated Funds and other investment management services, resulting in a decrease in future revenues.
Adverse Effects of Termination or Failure to Renew Fund Agreements. A substantial majority of Federated’s revenues are derived from investment management agreements with sponsored funds that, as required by law, are terminable upon 60 days notice. In addition, each such investment management agreement must be approved and renewed annually by each fund’s board of directors or trustees, including disinterested members of the board, or its shareholders, as required by law. Failure to renew, changes resulting in lower fees, or termination of a significant number of these agreements could have a material adverse impact on Federated. As required by the Investment Company Act, each investment advisory agreement with a mutual fund automatically terminates upon its assignment, although new investment advisory agreements may be approved by the mutual fund’s directors or trustees and shareholders. A sale of a sufficient number of shares of Federated’s voting securities to transfer control of Federated could be deemed an assignment in certain circumstances. An assignment, actual or constructive, will trigger these termination provisions and may adversely affect Federated’s ability to realize the value of these agreements.
Under the terms of a settlement agreement with the SEC and NYAG, a Federated investment advisory subsidiary may not serve as investment adviser to any registered investment company unless: (1) at least 75% of the fund’s directors are independent of Federated; (2) the chairman of each such fund is independent of Federated; (3) no action may be taken by the fund’s board of directors or trustees or any committee thereof unless approved by a majority of the independent board members of the fund or committee, respectively; and (4) the fund appoints a senior officer who reports to the independent directors or trustees and is responsible for monitoring compliance by the fund with applicable laws and fiduciary duties and for managing the process by which management fees charged to a fund are approved.
Potential Adverse Effects of Unpredictable Events. Unpredictable events, including natural disaster, technology failure, pandemic, war and terrorist attack, could adversely impact Federated’s ability to conduct business. Such events could cause

 
2011 Annual Report
29

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

disruptions in economic conditions, system interruption, loss of life, unavailability of personnel or additional costs. As such, there can be no assurance that unpredictable events, or the costs to address such events, would not have a material adverse effect on Federated’s business, financial condition, results of operations or business prospects.
Capital Losses on Investments. Federated has and may continue to realize capital losses upon disposition of its investments. To the extent that these losses are not offset by capital gains in the year realized, there are specific rules in each tax jurisdiction (federal and state) that dictate the other tax years, if any, in which these losses may be used to offset net capital gains. The inability to utilize the capital loss deferred tax assets net of a valuation allowance within the prescribed timeframe may increase Federated’s federal and/or state income tax expense and, as a result, reduce net income.



30
Federated Investors, Inc.
 

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Quantitative and Qualitative Disclosures About Market Risk
In the normal course of its business, Federated is exposed to fluctuations in the securities market and general economy. As an investment manager, Federated’s business requires that it continuously identify, assess, monitor and manage market and other risks including those risks affecting its own investment portfolio. Federated invests in sponsored investment companies for the primary purpose of generating returns from capital appreciation, investment income, or both, or in the case of newly launched sponsored investment companies, in order to provide the fund with investable cash to establish a performance history. These investments expose Federated to various market risks. A single investment can expose Federated to multiple risks arising from changes in interest rates, credit ratings, equity prices and foreign currency exchange rates. Federated manages its exposure to market risk by diversifying its investments among different asset classes and by altering its investment holdings from time to time in response to changes in market risks and other factors.  In addition, in certain cases, Federated enters into derivative instruments for purposes of hedging its market risks.
Interest-rate risk is the risk that unplanned fluctuations in earnings will result from interest-rate volatility while credit risk is the risk that an issuer of debt securities may default on its obligations. At December 31, 2011, Federated was exposed to interest-rate risk as a result of holding investments in fixed-income sponsored funds ($116.5 million) and investments in debt securities held by certain consolidated investment companies ($101.7 million). At December 31, 2010, Federated was exposed to interest-rate risk as a result of holding investments in fixed-income sponsored funds ($60.0 million) and investments in debt securities held by certain consolidated investment companies ($16.2 million). At December 31, 2011 and 2010, management considered a hypothetical 100-basis-point fluctuation in interest rates, respectively, and determined that the impact of such fluctuations on these investments would not have a material effect on Federated’s financial condition or results of operations.
These investments also exposed Federated to credit risk at December 31, 2011 and 2010. At December 31, 2011 and 2010, management considered a hypothetical 50-basis-point fluctuation in credit spreads and determined that the impact of such fluctuations on these investments would not have a material effect on Federated’s financial condition or results of operations.
In the second quarter 2011, Federated entered into the Credit Agreement (see Business Developments – Amended and Restated Credit Agreement),which amended and restated its previous term-loan facility. The Swap associated with the previous term-loan facility remains in effect. Federated entered into the Swap to convert the variable rate on its term loan to a fixed rate thereby mitigating its exposure to interest-rate risk. As of December 31, 2011, Federated’s fair value on the Swap was a liability of $15.2 million, which is recognized in earnings as a component of Federated’s interest rate and is fixed at 3.646% over the term of the Swap. Near-term reductions in the fair value of the Swap are reasonably possible as a result of changes in projected interest rates. Management performed a sensitivity analysis of the fair value of the Swap and considered hypothetical six- and twelve-month forward shifts in the assumed yield curve. The analysis showed that a six- and twelve-month forward shift in the current yield curve would lead to a further decrease in the fair value of the Swap of approximately $1 million and $2 million, respectively. Gains and losses in the fair value of the Swap are recorded in Accumulated other comprehensive loss, net of tax on the Consolidated Balance Sheet.
Price risk is the risk that the market price of an investment will decline and ultimately result in the recognition of a loss. Federated was exposed to price risk as a result of its $54.3 million investment in sponsored equity products at December 31, 2011. Federated’s investment in these products represents its maximum exposure to loss. At December 31, 2011, management considered a hypothetical 20% fluctuation in market value and determined that the impact of such fluctuations on these investments could impact Federated’s financial condition and results of operations by approximately $10.9 million.
At December 31, 2010, Federated was exposed to price risk as a result of its $57.1 million investment primarily in sponsored equity products. Federated’s investment in these products represented its maximum exposure to loss. At December 31, 2010, management considered a hypothetical 20% fluctuation in market value and determined that the impact of such fluctuations on these investments could impact Federated’s financial condition and results of operations by approximately $11.4 million.
Foreign exchange risk is the risk that an investment’s value will change due to changes in currency exchange rates. Federated was exposed to foreign exchange risk as a result of its investments in sponsored mutual funds holding non-US dollar-denominated securities as well as non-US dollar-denominated operating cash accounts held at certain foreign operating subsidiaries of Federated ($90.4 million) as of December 31, 2011. These investments primarily exposed Federated to risk of changes in the British pound and the Euro. Of these investments, Federated's exposure to the British pound of $77.7 million was fully hedged at December 31, 2011 by certain foreign currency forward contracts. Of the remaining investments at December 31, 2011, management considered a hypothetical 20% fluctuation in these currency exchange rates and determined that the impact of such fluctuation on these investments would not have a material effect on Federated’s financial condition or results of operations.

 
2011 Annual Report
31

MANAGEMENT’S DISCUSSION AND ANALYSIS (continued)
of Financial Condition and Results of Operations

Federated was exposed to foreign exchange risk as a result of its investments in sponsored fluctuating-value mutual funds holding non-US dollar-denominated securities as well as non-US dollar-denominated operating cash accounts held at certain foreign operating subsidiaries of Federated ($26.7 million) as of December 31, 2010. These investments primarily exposed Federated to risk of changes in the Euro, the Norwegian Krone, the Danish Krone and the British pound. At December 31, 2010, management considered a hypothetical 20% fluctuation in these currency exchange rates and determined that the impact of such fluctuations on these investments could impact Federated’s financial condition or results of operations by approximately $5.3 million.
In addition to market risks attributable to Federated’s investments, a significant portion of Federated’s revenue is based on the market value of managed assets. Declines in the market values of these assets as a result of changes in the market or other conditions will negatively impact revenue and net income. For further discussion of managed assets and factors that impact Federated’s revenue, see the sections entitled General, Asset Highlights, Contractual Obligations and Contingent Liabilities and Risk Factors herein as well as the section entitled Regulatory Matters in Federated’s Annual Report on Form 10-K for the year ended December 31, 2011 on file with the SEC.

32
Federated Investors, Inc.
 

 MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING
 

Federated Investors, Inc.’s (Federated) management is responsible for the preparation, integrity and fair presentation of the consolidated financial statements in this annual report. These consolidated financial statements and notes have been prepared in conformity with U.S. generally accepted accounting principles from accounting records which management believes fairly and accurately reflect Federated’s operations and financial position. The consolidated financial statements include amounts based on management’s best estimates and judgments considering currently available information and management’s view of current conditions and circumstances.
Management is responsible for establishing and maintaining adequate internal control over financial reporting that is designed to provide reasonable assurance of the reliability of financial reporting and the preparation of financial statements in accordance with U.S. generally accepted accounting principles. The system of internal control over financial reporting as it relates to the financial statements is evaluated for effectiveness by management and tested for reliability. Actions are taken to correct potential deficiencies as they are identified. Any system of internal control, no matter how well designed, has inherent limitations, including the possibility that a control can be circumvented or overridden and misstatements due to error or fraud may occur and not be detected. Also, because of changes in conditions, internal control effectiveness may vary over time. Accordingly, even an effective system of internal control will provide only reasonable assurance with respect to financial statement preparation.
Management assessed the effectiveness of Federated’s internal control over financial reporting as of December 31, 2011, in relation to criteria for effective internal control over financial reporting as described in Internal Control – Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management concluded that, as of December 31, 2011, Federated’s internal controls over financial reporting were effective. Ernst & Young LLP, independent registered public accounting firm, has audited the consolidated financial statements included in this annual report and has issued an attestation report on Federated’s internal control over financial reporting.
 
Federated Investors, Inc.
 
 
 
 
 
/s/    J. Christopher Donahue
 
/s/ Thomas R. Donahue
J. Christopher Donahue
 
Thomas R. Donahue
President and Chief Executive Officer
 
Chief Financial Officer
 
 
 
February 24, 2012
 
 


 
2011 Annual Report
33

REPORT OF ERNST & YOUNG LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM, ON CONSOLIDATED FINANCIAL STATEMENTS

The Board of Directors and Shareholders
Federated Investors, Inc.
We have audited the accompanying consolidated balance sheets of Federated Investors, Inc. as of December 31, 2011 and 2010, and the related consolidated statements of income, changes in equity, and cash flows for each of the three years in the period ended December 31, 2011. These financial statements are the responsibility of Federated Investors, Inc.’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Federated Investors, Inc. at December 31, 2011 and 2010, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2011, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Federated Investors, Inc.’s internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated February 24, 2012, expressed an unqualified opinion thereon.
 
/s/ Ernst & Young LLP
 
Pittsburgh, Pennsylvania
February 24, 2012

34
Federated Investors, Inc.
 

REPORT OF ERNST & YOUNG LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM, ON EFFECTIVENESS OF INTERNAL CONTROL OVER FINANCIAL REPORTING

The Board of Directors and Shareholders
Federated Investors, Inc.
We have audited Federated Investors, Inc.’s internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Federated Investors, Inc.’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Assessment of Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, Federated Investors, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2011, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Federated Investors, Inc. as of December 31, 2011 and 2010, and the related consolidated statements of income, changes in equity, and cash flows for each of the three years in the period ended December 31, 2011, of Federated Investors, Inc., and our report dated February 24, 2012, expressed an unqualified opinion thereon.
 
/s/ Ernst & Young LLP
 
Pittsburgh, Pennsylvania
February 24, 2012
 

 
2011 Annual Report
35

CONSOLIDATED BALANCE SHEETS
(dollars in thousands)

December 31,
 
2011

 
2010

ASSETS
 
 
 
 
Current Assets
 
 
 
 
Cash and cash equivalents
 
$
49,273

 
$
198,756

Investments—affiliates
 
159,539

 
105,724

Investments—other
 
113,505

 
29,161

Receivables, net of reserve of $121 and $60, respectively
 
21,526

 
21,228

Prepaid expenses
 
17,420

 
15,861

Other current assets
 
5,248

 
2,440

Total current assets
 
366,511

 
373,170

Long-Term Assets
 

 

Goodwill
 
642,329

 
635,313

Renewable investment advisory rights
 
64,600

 
64,500

Other intangible assets
 
13,997

 
21,012

Property and equipment
 
38,228

 
38,516

Other long-term assets
 
25,191

 
20,993

Total long-term assets
 
784,345

 
780,334

Total assets
 
$
1,150,856

 
$
1,153,504

LIABILITIES
 
 
 
 
Current Liabilities
 
 
 
 
Short-term debt—recourse
 
$
42,500

 
$
42,500

Accounts payable and accrued expenses
 
41,691

 
86,191

Accrued compensation and benefits
 
59,971

 
61,129

Other current liabilities
 
43,194

 
24,532

Total current liabilities
 
187,356

 
214,352

Long-Term Liabilities
 

 

Long-term debt—recourse
 
318,750

 
361,250

Long-term deferred tax liability, net
 
73,246

 
51,380

Other long-term liabilities
 
28,321

 
32,807

Total long-term liabilities
 
420,317

 
445,437

Total liabilities
 
607,673

 
659,789

Commitments and contingencies (Note (20))
 

 

TEMPORARY EQUITY
 
 
 
 
Redeemable noncontrolling interest in subsidiaries
 
506

 
1,543

PERMANENT EQUITY
 
 
 
 
Federated Investors shareholders’ equity
 
 
 
 
Common stock:
 
 
 
 
Class A, no par value, 20,000 shares authorized, 9,000 shares issued and outstanding
 
189

 
189

Class B, no par value, 900,000,000 shares authorized, 129,505,456 shares issued
 
252,950

 
237,208

Additional paid-in capital from treasury stock transactions
 
0

 
135

Retained earnings
 
1,069,913

 
1,036,571

Treasury stock, at cost, 25,762,366 and 25,841,365 shares Class B common stock, respectively
 
(772,481
)
 
(778,609
)
Accumulated other comprehensive loss, net of tax
 
(8,612
)
 
(3,695
)
Total Federated Investors shareholders’ equity
 
541,959

 
491,799

Nonredeemable noncontrolling interest in subsidiary
 
718

 
373

Total permanent equity
 
542,677

 
492,172

Total liabilities, temporary equity and permanent equity
 
$
1,150,856

 
$
1,153,504

(The accompanying notes are an integral part of these Consolidated Financial Statements.)

36
Federated Investors, Inc.
 

 CONSOLIDATED STATEMENTS OF INCOME
(dollars in thousands, except per share data)

Years Ended December 31,
 
2011

 
2010

 
2009

Revenue
 
 
 
 
 
 
Investment advisory fees, net—affiliates
 
$
524,779

 
$
579,159

 
$
691,170

Investment advisory fees, net—other
 
61,561

 
60,245

 
58,653

Administrative service fees, net—affiliates
 
220,356

 
215,643

 
261,610

Other service fees, net—affiliates
 
73,343

 
82,476

 
148,586

Other service fees, net—other
 
12,042

 
11,559

 
10,413

Other, net
 
3,033

 
2,861

 
5,518

Total revenue
 
895,114

 
951,943

 
1,175,950

Operating Expenses
 
 
 
 
 
 
Compensation and related
 
245,439

 
242,853

 
254,428

Distribution
 
235,670

 
259,210

 
410,019

Professional service fees
 
53,737

 
18,980

 
38,133

Office and occupancy
 
24,689

 
22,958

 
24,509

Systems and communications
 
22,971

 
22,828

 
23,470

Advertising and promotional
 
13,413

 
10,110

 
11,085

Travel and related
 
12,174

 
11,461

 
11,374

Intangible asset related
 
7,915

 
22,511

 
32,574

Other
 
21,651

 
31,241

 
41,131

Total operating expenses
 
637,659

 
642,152

 
846,723

Operating income
 
257,455

 
309,791

 
329,227

Nonoperating Income (Expenses)
 
 
 
 
 
 
Investment income, net
 
4,827

 
3,330

 
1,037

Gain on securities, net
 
1,432

 
3,542

 
2,271

Debt expense—recourse
 
(17,047
)
 
(15,049
)
 
(4,345
)
Other, net
 
(296
)
 
(494
)
 
(1,372
)
Total nonoperating expenses, net
 
(11,084
)
 
(8,671
)
 
(2,409
)
Income before income taxes
 
246,371

 
301,120

 
326,818

Income tax provision
 
91,288

 
111,957

 
118,278

Net income including noncontrolling interests in subsidiaries
 
155,083

 
189,163

 
208,540

Less: Net income attributable to the noncontrolling interests in subsidiaries
 
4,177

 
10,049

 
11,248

Net income
 
$
150,906

 
$
179,114

 
$
197,292

Amounts attributable to Federated Investors, Inc.
 
 
 
 
 
 
Earnings Per Share—Basic
 
$
1.45

 
$
1.73

 
$
1.93

Earnings Per Share—Diluted
 
$
1.45

 
$
1.73

 
$
1.92

Cash dividends per share
 
$
0.96

 
$
2.22

 
$
0.96

(The accompanying notes are an integral part of these Consolidated Financial Statements.)

 
2011 Annual Report
37

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
(dollars in thousands)

 
 
 
 
 
 
 
 
 
Shares
 
 
Class A

 
Class B

 
Treasury

Balance at January 1, 2009
 
9,000

 
102,262,744

 
27,242,712

Net income
 
0

 
0

 
0

Other comprehensive income, net of tax:
 

 

 

Unrealized gain on securities available for sale, net of reclassification adjustment
 
0

 
0

 
0

Foreign currency translation gain
 
0

 
0

 
0

Comprehensive income
 

 

 

Subscriptions – redeemable noncontrolling interest holders
 
0

 
0

 
0

Deconsolidation
 
0

 
0

 
0

Stock award activity
 
0

 
1,155,136

 
(1,155,136
)
Dividends declared/Distributions to noncontrolling interest in subsidiaries
 
0

 
0

 
0

Exercise of stock options
 
0

 
345,275

 
(345,275
)
Purchase of treasury stock
 
0

 
(828,918
)
 
828,918

Balance at December 31, 2009
 
9,000

 
102,934,237

 
26,571,219

Net income
 
0

 
0

 
0

Other comprehensive income, net of tax:
 

 

 

Unrealized gain on securities available for sale, net of reclassification adjustment
 
0

 
0

 
0

Unrealized loss on hedging instruments, net of reclassification adjustment
 
0

 
0

 
0

Foreign currency translation loss
 
0

 
0

 
0