# FEDERATED HERMES, INC. (FHI) FY 2022 MD&A

Verbatim Item 7 Management's Discussion and Analysis from FEDERATED HERMES, INC.'s 10-K for fiscal year 2022.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1056288/000105628823000006/fhi-20221231.htm
Accession: 0001056288-23-000006
Filing date: 2023-02-24
Report date: 2022-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/FHI/
All MD&A years: /company/FHI/mda/
Previous year: /company/FHI/mda/fy2021/ (FY 2021)
Next year: /company/FHI/mda/fy2023/ (FY 2023)

ITEM 7 – 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 Item 1- Business, Item 1A - Risk Factors and Item 8 - Financial Statements and Supplementary Data.

General

Federated Hermes is a global leader in active, responsible investing with $668.9 billion in managed assets as of December 31, 2022. The majority of Federated Hermes’ revenue is derived from advising Federated Hermes Funds and Separate Accounts in domestic and international public and private markets. Federated Hermes also derives revenue from providing administrative and other fund-related services (including distribution and shareholder servicing) as well as stewardship and real estate development services. For additional information on Federated Hermes’ markets, see Item 1 - Business - Distribution Channels and Product Markets.

Investment advisory fees, administrative service fees and certain fees for other services, such as distribution and shareholder service fees, are contract-based and are generally calculated as a percentage of the average net assets of managed investment portfolios. Federated Hermes’ revenue is primarily dependent upon factors that affect the value of managed/serviced assets, including market conditions and the ability to attract and retain assets. Generally, managed assets in Federated Hermes’ public market investment products and strategies can be redeemed or withdrawn at any time with no advance notice requirement, while managed assets in Federated Hermes private market investment products and strategies are subject to restrictions and withdrawals. Fee rates for Federated Hermes’ services generally vary by asset and service type and can vary based on changes in asset levels. Generally, advisory fees charged for services provided to multi-asset and equity products and strategies are higher than advisory fees charged to alternative/private markets and fixed-income products and strategies, which in turn are higher than advisory fees charged to money market products and strategies. Likewise, Federated Hermes Funds typically have higher advisory fees than Separate Accounts. Similarly, revenue is also dependent upon the relative composition of average AUM across both asset and product types. Federated Hermes can implement Fee Waivers for competitive reasons such as Voluntary Yield-related Fee Waivers, to maintain certain fund expense ratios, to meet regulatory requirements or to meet contractual requirements. Since Federated Hermes’ public market products are largely distributed and serviced through financial intermediaries, Federated Hermes pays a portion of fees earned from sponsored products to the financial intermediaries that sell these products and strategies. These payments are generally calculated as a percentage of net assets attributable to the applicable financial intermediary and represent the vast majority of Distribution expense on the Consolidated Statements of Income. Certain components of Distribution expense can vary depending upon the asset type, distribution channel and/or the size of the customer relationship. Federated Hermes generally pays out a larger portion of the revenue earned from managed assets in money market and multi-asset funds than the revenue earned from managed assets in equity, fixed-income and alternative/private markets funds.

Federated Hermes’ most significant operating expenses are Compensation and Related expense and Distribution expense. Compensation and Related expense includes base salary and wages, incentive compensation and other employee expenses including payroll taxes and benefits. Incentive compensation, which includes stock-based compensation, can vary depending on various factors including, but not limited to, the overall results of operations of Federated Hermes, investment management performance and sales performance.

The discussion and analysis of Federated Hermes’ financial condition and results of operations are based on Federated Hermes’ Consolidated Financial Statements. Management evaluates Federated Hermes’ performance at the consolidated level. Therefore, Federated Hermes operates in one operating segment, the investment management business. 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 Hermes’ growth and profitability are dependent upon its ability to attract and retain AUM and upon the profitability of those assets, which is impacted, in part, by Fee Waivers. Fees for mutual fund-related services are ultimately subject to the approval of the independent directors or trustees of the mutual funds and, as required by law, fund shareholders. Management believes that meaningful indicators of Federated Hermes’ financial performance include AUM, gross and net product sales, total revenue and net income, both in total and per diluted share.

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Business Developments

Intangible Asset Impairment

A $31.5 million non-cash impairment of an intangible asset associated with the 2018 acquisition of FHL was recorded in Intangible Asset Related expense on the Consolidated Statements of Income as of December 31, 2022. See Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies and Note (9) to the Consolidated Financial Statements for additional information.

Business Combination

Effective October 1, 2022, Federated Hermes completed the acquisition of substantially all of the assets of C.W. Henderson and

Associates, Inc. (CWH), a Chicago-based registered investment advisor specializing in the management of tax-exempt

municipal securities (CWH Acquisition). See Note (2) to the Consolidated Financial Statements for additional information.

Unsecured Senior Notes

On March 17, 2022, Federated Hermes entered into a Note Purchase Agreement (Note Purchase Agreement) by and among Federated Hermes and the purchasers of certain unsecured senior notes in the aggregate amount of $350 million ($350 million Notes), at a fixed interest rate of 3.29% per annum, payable semiannually in arrears in March and September in each year of the agreement. The entire principal amount of the $350 million Notes will become due March 17, 2032, subject to certain prepayment requirements under limited conditions. See Note (11) to the Consolidated Financial Statements for additional information.

Equity Acquisition

On March 14, 2022, Federated Hermes completed a tender offer resulting in the acquisition of the remaining approximately 10% noncontrolling interests in FHL from a trustee of a non-U.S. domiciled employee benefit trust established for the benefit of certain members of FHL’s management, a non-U.S. resident former FHL employee and other non-U.S. resident key FHL employees under a long-term incentive plan established in connection with the 2018 acquisition of FHL (2022 Acquisition of FHL Noncontrolling Interests). As a result of the 2022 Acquisition of FHL Noncontrolling Interests, FHL became an indirect, wholly-owned subsidiary of Federated Hermes. See Note (2) to the Consolidated Financial Statements for additional information.

The Pandemic

Federated Hermes continues to actively monitor the ongoing Pandemic and resulting developments and their potential impact on Federated Hermes’ employees and Financial Condition. The Pandemic adversely impacted the global economy, contributed to significant volatility in financial markets and impacted the workforce and recruiting practices. Over the course of the Pandemic, many jurisdictions instituted quarantines, imposed limitations on travel, and restricted access to offices and public venues, some of which are ongoing or could reoccur, and many businesses implemented similar precautionary measures. Such measures, as well as the general uncertainty surrounding the containment and impact of the Pandemic, created significant disruption in economic activity. Throughout the Pandemic, there has not been a significant disruption of Federated Hermes’ business processes, allowing it to remain fully operational and to continue to provide services to its customers. As of December 31, 2022, while Federated Hermes’ stock price has fluctuated amidst the volatility in stock prices on major exchanges (particularly at the beginning of the Pandemic), and Federated Hermes’ business operations have had to adapt to a remote and current hybrid working environment, the Pandemic has not materially affected Federated Hermes’ Financial Condition (as defined below) except to the extent that the net Voluntary Yield-related Fee Waivers resulting from the near-zero interest rate environment that existed throughout 2021 and into the second quarter 2022 were attributable to the Pandemic. With the increase in short-term interest rates beginning in March 2022, net Voluntary Yield-related Fee Waivers were greatly diminished in the second quarter 2022 and ceased early in the third quarter 2022. See “Low Short-Term Interest Rates” below for additional information on Voluntary Yield-related Fee Waivers. A further prolonged period of economic and financial distress and volatility as a result of the Pandemic could exacerbate human resource capital management, economic, market and other risks, and could impact, including in a material way, Federated Hermes’ Financial Condition. The aggregate extent to which the Pandemic, including existing and new variants, and its related impact on the global economy and financial markets, affects Federated Hermes’ Financial Condition, will depend on future developments that are highly uncertain and cannot be predicted, including any residual effects of the Pandemic, the emergence and spread of variants, any prevalence of severe, unconstrained and/or escalating rates of infection in certain countries and regions, the availability, adoption and efficacy of

50

treatments and vaccines, and future actions taken by governmental authorities, central banks and other third parties in response to such events.

Low Short-Term Interest Rates

In March 2020, in response to disrupted economic activity as a result of the Pandemic, the FOMC decreased the federal funds target rate range to 0% - 0.25%. The federal funds target rate drives short-term interest rates. As a result of the near-zero interest-rate environment, the gross yield earned by certain money market funds was not sufficient to cover all of the fund’s operating expenses. Beginning in the first quarter 2020, Federated Hermes had implemented Voluntary Yield-related Fee Waivers. These waivers had been partially offset by related reductions in distribution expense as a result of Federated Hermes’ mutual understanding and agreement with third-party intermediaries to share the impact of the Voluntary Yield-related Fee Waivers. In response to global economic activity and elevated inflation levels, the FOMC raised the federal funds target rate multiple times in 2022 and in February 2023. The range is currently 4.50% - 4.75% as of the February 1, 2023 FOMC meeting. These rate increases eliminated the net negative pre-tax impact of the Voluntary Yield-related Fee Waivers in the second half of 2022.

For the year ended December 31, 2022, Voluntary Yield-related Fee Waivers totaled $85.3 million. These fee waivers were partially offset by related reductions in distribution expenses of $66.5 million, such that the net negative pre-tax impact to Federated Hermes was $18.8 million. For the year ended December 31, 2021, Voluntary Yield-related Fee Waivers totaled $420.3 million. These fee waivers were partially offset by related reductions in distribution expenses of $277.1 million, such that the net negative pre-tax impact to Federated Hermes was $143.2 million.

Current Regulatory Environment

Federated Hermes and its investment management business are subject to extensive regulation both within and outside the U.S. Federated Hermes and its products, such as the Federated Hermes Funds, and strategies are subject to: various federal securities laws, such as the 1933 Act, 1934 Act, 1940 Act, and Advisers Act; state laws regarding securities fraud and registration; regulations or other rules promulgated by various regulatory authorities, or other authorities. Various laws and regulations that have or are expected to be re-examined, modified, or reversed, or that become effective, and any new proposed laws, rules, regulations and directives or consultations (collectively, both domestically and internationally, as applicable, Regulatory Developments) continue to impact the investment management industry generally, and will continue to impact, to various degrees, Federated Hermes’ Financial Condition. See Item 1 - Business - Regulatory Matters and Item 1A - Risk Factors - General Risk Factors - Regulatory and Legal Risks - Potential Adverse Effects of Changes in Laws, Regulations and Other Rules for additional information.

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Asset Highlights

Managed Assets at Period End

[[GREPCENT_TABLE]]
[["in millions as of December 31,","","2022","","2021","","2022 vs. 2021"],["By Asset Class"],["Equity","","$","81,523","","","$","96,716","","","(16)","%"],["Fixed-Income","","86,743","","","97,550","","","(11)"],["Alternative / Private Markets","","20,802","","","22,920","","","(9)"],["Multi-Asset","","2,989","","","3,780","","","(21)"],["Total Long-Term Assets","","192,057","","","220,966","","","(13)"],["Money Market","","476,844","","","447,907","","","6"],["Total Managed Assets","","$","668,901","","","$","668,873","","","0","%"],["By Product Type"],["Funds:"],["Equity","","$","43,342","","","$","57,036","","","(24)","%"],["Fixed-Income","","43,180","","","59,862","","","(28)"],["Alternative / Private Markets","","13,050","","","14,788","","","(12)"],["Multi-Asset","","2,851","","","3,608","","","(21)"],["Total Long-Term Assets","","102,423","","","135,294","","","(24)"],["Money Market","","335,937","","","312,834","","","7"],["Total Fund Assets","","438,360","","","448,128","","","(2)"],["Separate Accounts:"],["Equity","","38,181","","","39,680","","","(4)"],["Fixed-Income","","43,563","","","37,688","","","16"],["Alternative / Private Markets","","7,752","","","8,132","","","(5)"],["Multi-Asset","","138","","","172","","","(20)"],["Total Long-Term Assets","","89,634","","","85,672","","","5"],["Money Market","","140,907","","","135,073","","","4"],["Total Separate Account Assets","","230,541","","","220,745","","","4"],["Total Managed Assets","","$","668,901","","","$","668,873","","","0","%"]]
[[/GREPCENT_TABLE]]

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Average Managed Assets

[[GREPCENT_TABLE]]
[["in millions for the years ended December 31,","","2022","","2021","","2020","","2022 vs. 2021","","2021 vs. 2020"],["By Asset Class"],["Equity","","$","84,793","","","$","98,040","","","$","80,591","","","(14)","%","","22","%"],["Fixed-Income","","89,776","","","91,564","","","74,403","","","(2)","","","23"],["Alternative / Private Markets","","21,799","","","20,754","","","18,206","","","5","","","14"],["Multi-Asset","","3,273","","","3,879","","","3,813","","","(16)","","","2"],["Total Long-Term Assets","","199,641","","","214,237","","","177,013","","","(7)","","","21"],["Money Market","","432,992","","","418,562","","","436,895","","","3","","","(4)"],["Total Average Managed Assets","","$","632,633","","","$","632,799","","","$","613,908","","","0","%","","3","%"],["By Product Type"],["Funds:"],["Equity","","$","47,047","","","$","58,426","","","$","45,585","","","(19)","%","","28","%"],["Fixed-Income","","50,043","","","58,095","","","46,899","","","(14)","","","24"],["Alternative / Private Markets","","13,903","","","13,266","","","11,424","","","5","","","16"],["Multi-Asset","","3,130","","","3,696","","","3,622","","","(15)","","","2"],["Total Long-Term Assets","","114,123","","","133,483","","","107,530","","","(15)","","","24"],["Money Market","","294,490","","","293,644","","","324,490","","","0","","","(10)"],["Total Average Fund Assets","","408,613","","","427,127","","","432,020","","","(4)","","","(1)"],["Separate Accounts:"],["Equity","","37,746","","","39,614","","","35,006","","","(5)","","","13"],["Fixed-Income","","39,733","","","33,469","","","27,504","","","19","","","22"],["Alternative / Private Markets","","7,896","","","7,488","","","6,782","","","5","","","10"],["Multi-Asset","","143","","","183","","","191","","","(22)","","","(4)"],["Total Long-Term Assets","","85,518","","","80,754","","","69,483","","","6","","","16"],["Money Market","","138,502","","","124,918","","","112,405","","","11","","","11"],["Total Average Separate Account Assets","","224,020","","","205,672","","","181,888","","","9","","","13"],["Total Average Managed Assets","","$","632,633","","","$","632,799","","","$","613,908","","","0","%","","3","%"]]
[[/GREPCENT_TABLE]]

53

Changes in Equity Fund and Separate Account Assets

[[GREPCENT_TABLE]]
[["in millions for the years ended December 31,","","2022","","2021"],["Equity Funds"],["Beginning Assets","","$","57,036","","","$","54,312"],["Sales","","12,796","","","14,265"],["Redemptions","","(15,134)","","","(15,915)"],["Net Sales (Redemptions)","","(2,338)","","","(1,650)"],["Net Exchanges","","(31)","","","(362)"],["Acquisitions/(Dispositions)","","0","","","408"],["Impact of Foreign Exchange1","","(908)","","","(522)"],["Market Gains and (Losses)2","","(10,417)","","","4,850"],["Ending Assets","","$","43,342","","","$","57,036"],["Equity Separate Accounts"],["Beginning Assets","","$","39,680","","","$","37,476"],["Sales3","","11,189","","","7,564"],["Redemptions3","","(10,466)","","","(10,846)"],["Net Sales (Redemptions)3","","723","","","(3,282)"],["Net Exchanges","","(28)","","","403"],["Impact of Foreign Exchange1","","(713)","","","(574)"],["Market Gains and (Losses)2","","(1,481)","","","5,657"],["Ending Assets","","$","38,181","","","$","39,680"],["Total Equity"],["Beginning Assets","","$","96,716","","","$","91,788"],["Sales3","","23,985","","","21,829"],["Redemptions3","","(25,600)","","","(26,761)"],["Net Sales (Redemptions)3","","(1,615)","","","(4,932)"],["Net Exchanges","","(59)","","","41"],["Acquisitions/(Dispositions)","","0","","","408"],["Impact of Foreign Exchange1","","(1,621)","","","(1,096)"],["Market Gains and (Losses)2","","(11,898)","","","10,507"],["Ending Assets","","$","81,523","","","$","96,716"]]
[[/GREPCENT_TABLE]]

1    Reflects the impact of translating non-USD denominated AUM into USD for reporting purposes.     

2    Reflects the approximate changes in the fair value of the securities held by the portfolios and, to a lesser extent, reinvested dividends, distributions and net investment income.

3    For certain accounts, Sales and Redemptions are calculated as the remaining difference between beginning and ending assets after the calculation of total investment return.

54

Changes in Fixed-Income Fund and Separate Account Assets

[[GREPCENT_TABLE]]
[["in millions for the years ended December 31,","","2022","","2021"],["Fixed-Income Funds"],["Beginning Assets","","$","59,862","","","$","53,557"],["Sales","","18,403","","","30,862"],["Redemptions","","(29,869)","","","(24,902)"],["Net Sales (Redemptions)","","(11,466)","","","5,960"],["Net Exchanges","","(63)","","","(33)"],["Acquisitions/(Dispositions)","","0","","","17"],["Impact of Foreign Exchange1","","(253)","","","(90)"],["Market Gains and (Losses)2","","(4,900)","","","451"],["Ending Assets","","$","43,180","","","$","59,862"],["Fixed-Income Separate Accounts"],["Beginning Assets","","$","37,688","","","$","30,720"],["Sales3","","9,613","","","11,764"],["Redemptions3","","(4,857)","","","(4,842)"],["Net Sales (Redemptions)3","","4,756","","","6,922"],["Net Exchanges","","(1)","","","(48)"],["Acquisitions/(Dispositions)","","3,524","","","0"],["Impact of Foreign Exchange1","","(68)","","","(43)"],["Market Gains and (Losses)2","","(2,336)","","","137"],["Ending Assets","","$","43,563","","","$","37,688"],["Total Fixed-Income"],["Beginning Assets","","$","97,550","","","$","84,277"],["Sales3","","28,016","","","42,626"],["Redemptions3","","(34,726)","","","(29,744)"],["Net Sales (Redemptions)3","","(6,710)","","","12,882"],["Net Exchanges","","(64)","","","(81)"],["Acquisitions/(Dispositions)","","3,524","","","17"],["Impact of Foreign Exchange1","","(321)","","","(133)"],["Market Gains and (Losses)2","","(7,236)","","","588"],["Ending Assets","","$","86,743","","","$","97,550"]]
[[/GREPCENT_TABLE]]

1    Reflects the impact of translating non-USD denominated AUM into USD for reporting purposes.

2    Reflects the approximate changes in the fair value of the securities held by the portfolios and, to a lesser extent, reinvested dividends, distributions and net investment income.

3    For certain accounts, Sales and Redemptions are calculated as the remaining difference between beginning and ending assets after the calculation of total investment return.

55

Changes in Alternative / Private Markets Fund and Separate Account Assets

[[GREPCENT_TABLE]]
[["in millions for the years ended December 31,","","2022","","2021"],["Alternative / Private Markets Funds"],["Beginning Assets","","$","14,788","","","$","12,100"],["Sales","","2,562","","","3,699"],["Redemptions","","(3,150)","","","(2,657)"],["Net Sales (Redemptions)","","(588)","","","1,042"],["Net Exchanges","","1","","","(2)"],["Acquisitions/(Dispositions)","","0","","","81"],["Impact of Foreign Exchange1","","(1,463)","","","(162)"],["Market Gains and (Losses)2","","312","","","1,729"],["Ending Assets","","$","13,050","","","$","14,788"],["Alternative / Private Markets Separate Accounts"],["Beginning Assets","","$","8,132","","","$","6,984"],["Sales3","","1,271","","","1,124"],["Redemptions3","","(565)","","","(513)"],["Net Sales (Redemptions)3","","706","","","611"],["Impact of Foreign Exchange1","","(854)","","","(92)"],["Market Gains and (Losses)2","","(232)","","","629"],["Ending Assets","","$","7,752","","","$","8,132"],["Total Alternative / Private Markets"],["Beginning Assets","","$","22,920","","","$","19,084"],["Sales3","","3,833","","","4,823"],["Redemptions3","","(3,715)","","","(3,170)"],["Net Sales (Redemptions)3","","118","","","1,653"],["Net Exchanges","","1","","","(2)"],["Acquisitions/(Dispositions)","","0","","","81"],["Impact of Foreign Exchange1","","(2,317)","","","(254)"],["Market Gains and (Losses)2","","80","","","2,358"],["Ending Assets","","$","20,802","","","$","22,920"]]
[[/GREPCENT_TABLE]]

1    Reflects the impact of translating non-USD denominated AUM into USD for reporting purposes.

2    Reflects the approximate changes in the fair value of the securities held by the portfolios and, to a lesser extent, reinvested dividends, distributions and net investment income.

3    For certain accounts, Sales and Redemptions are calculated as the remaining difference between beginning and ending assets after the calculation of total investment return.

56

Changes in Multi-Asset Fund and Separate Account Assets

[[GREPCENT_TABLE]]
[["in millions for the years ended December 31,","","2022","","2021"],["Multi-Asset Funds"],["Beginning Assets","","$","3,608","","","$","3,744"],["Sales","","241","","","299"],["Redemptions","","(559)","","","(894)"],["Net Sales (Redemptions)","","(318)","","","(595)"],["Net Exchanges","","8","","","41"],["Acquisitions/(Dispositions)","","0","","","54"],["Market Gains and (Losses)1","","(447)","","","364"],["Ending Assets","","$","2,851","","","$","3,608"],["Multi-Asset Separate Accounts"],["Beginning Assets","","$","172","","","$","204"],["Sales2","","2","","","2"],["Redemptions2","","(13)","","","(42)"],["Net Sales (Redemptions)2","","(11)","","","(40)"],["Net Exchanges","","0","","","1"],["Impact of Foreign Exchange3","","0","","","(1)"],["Market Gains and (Losses)1","","(23)","","","8"],["Ending Assets","","$","138","","","$","172"],["Total Multi-Asset"],["Beginning Assets","","$","3,780","","","$","3,948"],["Sales2","","243","","","301"],["Redemptions2","","(572)","","","(936)"],["Net Sales (Redemptions)2","","(329)","","","(635)"],["Net Exchanges","","8","","","42"],["Acquisitions/(Dispositions)","","0","","","54"],["Impact of Foreign Exchange3","","0","","","(1)"],["Market Gains and (Losses)1","","(470)","","","372"],["Ending Assets","","$","2,989","","","$","3,780"]]
[[/GREPCENT_TABLE]]

1    Reflects the approximate changes in the fair value of the securities held by the portfolios and, to a lesser extent, reinvested dividends, distributions and net investment income.

2    For certain accounts, Sales and Redemptions are calculated as the remaining difference between beginning and ending assets after the calculation of total investment return.

3    Reflects the impact of translating non-USD denominated AUM into USD for reporting purposes.

57

Changes in Total Long-Term Assets

[[GREPCENT_TABLE]]
[["in millions for the years ended December 31,","","2022","","2021"],["Total Long-Term Fund Assets"],["Beginning Assets","","$","135,294","","","$","123,713"],["Sales","","34,002","","","49,125"],["Redemptions","","(48,712)","","","(44,368)"],["Net Sales (Redemptions)","","(14,710)","","","4,757"],["Net Exchanges","","(85)","","","(356)"],["Acquisitions/(Dispositions)","","0","","","560"],["Impact of Foreign Exchange1","","(2,624)","","","(774)"],["Market Gains and (Losses)2","","(15,452)","","","7,394"],["Ending Assets","","$","102,423","","","$","135,294"],["Total Long-Term Separate Accounts Assets"],["Beginning Assets","","$","85,672","","","$","75,384"],["Sales3","","22,075","","","20,454"],["Redemptions3","","(15,901)","","","(16,243)"],["Net Sales (Redemptions)3","","6,174","","","4,211"],["Net Exchanges","","(29)","","","356"],["Acquisitions/(Dispositions)","","3,524","","","0"],["Impact of Foreign Exchange1","","(1,635)","","","(710)"],["Market Gains and (Losses)2","","(4,072)","","","6,431"],["Ending Assets","","$","89,634","","","$","85,672"],["Total Long-Term Assets"],["Beginning Assets","","$","220,966","","","$","199,097"],["Sales3","","56,077","","","69,579"],["Redemptions3","","(64,613)","","","(60,611)"],["Net Sales (Redemptions)3","","(8,536)","","","8,968"],["Net Exchanges","","(114)","","","0"],["Acquisitions/(Dispositions)","","3,524","","","560"],["Impact of Foreign Exchange1","","(4,259)","","","(1,484)"],["Market Gains and (Losses)2","","(19,524)","","","13,825"],["Ending Assets","","$","192,057","","","$","220,966"]]
[[/GREPCENT_TABLE]]

1    Reflects the impact of translating non-USD denominated AUM into USD for reporting purposes.

2    Reflects the approximate changes in the fair value of the securities held by the portfolios and, to a lesser extent, reinvested dividends, distributions and net investment income.

3    For certain accounts, Sales and Redemptions are calculated as the remaining difference between beginning and ending assets after the calculation of total investment return.

58

Changes in Federated Hermes’ average asset mix year-over-year across both asset classes and product types have a direct impact on Federated Hermes’ operating income. Asset mix impacts Federated Hermes’ total revenue due to the difference in the fee rates earned on each asset class and product type per invested dollar, and certain components of distribution expense can vary depending upon the asset class, distribution channel and/or the size of the customer relationship. 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:

[[GREPCENT_TABLE]]
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[[/GREPCENT_TABLE]]

Total managed assets represent the balance of AUM at a point in time, while total average managed assets represent the average balance of AUM during a period of time. Because substantially all revenue and certain components of distribution expense are generally calculated daily based on AUM, changes in average managed assets are typically a key indicator of changes in revenue earned and asset-based expenses incurred during the same period.

Average managed assets remained flat for 2022 as compared to 2021. Period-end managed assets remained flat at December 31, 2022 as compared to December 31, 2021, with an increase in money market assets, partially offset by decreases in equity and fixed-income assets. Total average money market assets increased 3% for 2022 compared to 2021. Period-end money market assets increased 6% at December 31, 2022 as compared to December 31, 2021. Average equity assets decreased 14% for 2022 as compared to 2021. Period-end equity assets decreased 16% at December 31, 2022 as compared to December 31, 2021 primarily due to market depreciation. Average fixed-income assets decreased 2% for 2022 as compared to 2021. Period-end fixed-income assets decreased 11% at December 31, 2022 as compared to December 31, 2021 primarily due to market depreciation and net redemptions, partially offset by assets acquired in connection with the CWH Acquisition. Average alternative/private markets assets increased 5% for 2022 as compared to 2021. Period-end alternative/private markets assets decreased 9% at December 31, 2022 as compared to December 31, 2021 primarily due to foreign exchange rate fluctuations.

Moderating inflation and expectations that the FOMC can soon end interest rate increases rallied risk assets in the fourth quarter 2022, easing the sting of a volatile year for most equity and fixed-income asset classes. In December, the FOMC pared the magnitude of its federal funds target rate increases to 50 basis points from 75 basis points the prior four meetings, though the target range still rose 425 basis points to 4.25% - 4.50% in nine months in 2022, the most aggressive tightening cycle since the early 1980s. Policymakers also signaled the pace of target rate increases would ease further and eventually end in 2023. Futures markets went a step further and began pricing rate cuts as early as fall 2023. Recession risks rose toward the end of the fourth quarter 2022 amid broadening economic deterioration. Various gauges of manufacturing and services activity contracted, housing remained mired in a deep slump, business investment slowed, and both consumer spending and job growth decelerated.

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For all of 2022, the S&P 500 Index and the Nasdaq Composite posted total returns of -19.4% and -33.1%, respectively, their worst years since 2008, while the Dow Jones Industrial Average returned -8.8%. Overseas, a warm winter, reopening China and diminished impacts from Russia’s war on Ukraine brightened economic sentiment in 2022’s waning weeks, lifting the markets in what still was a tough year, with the MSCI World ex USA and MSCI All Country World ex USA indexes returning a respective -16.6% and -18.3% for all of 2022. Although money market and liquidity products benefited, rising rates created challenges for fixed-income markets over the course of 2022, with the Bloomberg US Aggregate Bond Index returning -13.0%, the worst year in its history.

For an explanation of the changes in managed assets at December 31, 2021 compared to December 31, 2020 and changes in average managed assets for 2021 as compared to 2020, see Federated Hermes’ Annual Report on Form 10-K for the year ended December 31, 2021, Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations - Asset Highlights.

Results of Operations

For an explanation of changes for 2021 as compared to 2020, see Federated Hermes’ Annual Report on Form 10-K for the year ended December 31, 2021, Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations - Results of Operations.

Revenue. Revenue increased $145.4 million in 2022 as compared to 2021 primarily due to a decrease of $335.0 million in Voluntary Yield-related Fee Waivers (see Business Developments - Low Short-Term Interest Rates for additional information, including the impact to expense and the net pre-tax impact). This increase in revenue was partially offset by (1) a decrease in equity revenue of $147.9 million due to lower average equity assets, (2) a decrease in fixed-income revenue of $28.6 million due to a change in the mix of average assets and (3) a decrease in performance fees of $7.7 million.

Federated Hermes’ ratio of revenue to average managed assets for 2022 was 0.23% as compared to 0.20% for 2021. The increase in the rate was primarily due to the increase in revenue from lower Voluntary Yield-related Fee Waivers, partially offset by a decrease in revenue from lower average equity assets during 2022 as compared to 2021.

Operating Expenses. Total operating expenses for 2022 increased $174.8 million compared to 2021. Distribution expense increased $153.7 million primarily related to a decrease of $210.6 million in Voluntary Yield-related Fee Waivers (see Business Developments - Low Short-Term Interest Rates for additional information, including the impact to revenue and the net pre-tax impact). This increase in Distribution expense was partially offset by (1) changes in the mix of average money market assets ($19.0 million), (2) lower average equity assets ($16.7 million) and (3) a decrease in competitive payments ($15.5 million). Compensation and Related expense decreased $19.8 million primarily driven by the decrease in the average USD/GBP exchange rate for 2022 as compared to 2021. Intangible Asset Related expense increased $30.2 million primarily due to the intangible asset impairment. See Note (9) to the Consolidated Financial Statements for additional information on this impairment.

Nonoperating Income (Expenses). Nonoperating Income (Expenses), net, decreased $40.6 million in 2022 as compared to 2021. The decrease is primarily due to a $38.2 million decrease in Gain (Loss) on Securities, net due primarily to a decrease in the market value of investments in 2022 as compared to an increase in the market value of investments in 2021 and a decrease of $9.3 million from higher debt expense primarily due to the Note Purchase Agreement entered into in 2022. These decreases were partially offset by an increase in yield on investments of $5.8 million due to rising interest rates.

Income Taxes. The income tax provision for 2022 and 2021 was $71.7 million and $104.0 million, respectively. The provision for 2022 decreased $32.3 million as compared to 2021 primarily as a result of (1) lower income before income taxes ($18.2 million) and (2) a $14.5 million increase to deferred tax expense recorded in 2021 associated with the change in the UK tax rate from 19% to 25% effective April 1, 2023. The effective tax rate was 23.4% for 2022 and 27.6% for 2021. See Note (15) to the Consolidated Financial Statements for additional information on the effective tax rate, as well as other tax disclosures.

Net Income Attributable to Federated Hermes, Inc. Net income decreased $30.8 million in 2022 as compared to 2021 primarily as a result of the changes in revenue, operating expenses, nonoperating income (expenses) and income taxes noted above. Diluted earnings per share for 2022 decreased $0.10 as compared to 2021 primarily due to decreased net income ($0.32), partially offset by a decrease in shares outstanding due to share repurchases ($0.22).

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Liquidity and Capital Resources

Liquid Assets. At December 31, 2022, liquid assets, net of noncontrolling interests, consisting of cash and cash equivalents, investments and receivables, totaled $559.5 million as compared to $492.7 million at December 31, 2021. The change in liquid assets is discussed below.

At December 31, 2022, Federated Hermes’ liquid assets included investments in certain money market and fluctuating-value Federated Hermes Funds that can have direct and/or indirect exposures to international sovereign debt and currency risks. Federated Hermes continues to actively monitor its investment portfolios to manage sovereign debt and currency risks with respect to certain European countries (such as the UK in light of Brexit), China and certain other countries subject to economic sanctions. Federated Hermes’ experienced portfolio managers and analysts work to evaluate credit risk through quantitative and fundamental analysis. Further, regarding international exposure, certain money market funds (representing approximately $282 million in AUM) that meet the requirements of Rule 2a-7 or operate in accordance with requirements similar to those in Rule 2a-7, include holdings with indirect short-term exposures invested primarily in high-quality international bank names that are subject to Federated Hermes’ credit analysis process.

Cash Provided by Operating Activities. Net cash provided by operating activities totaled $323.9 million for 2022 as compared to $170.4 million for 2021. The increase of $153.5 million was primarily due to (1) a net decrease of $159.2 million in cash paid for trading securities for the year ended December 31, 2022 as compared to 2021, (2) an increase in cash received related to the $145.4 million increase in revenue previously discussed, (3) a decrease of $7.8 million in cash paid for incentive compensation for the year ended December 31, 2022 as compared to 2021 and (4) a decrease of $6.3 million in cash paid for taxes for the year ended December 31, 2022 as compared to 2021. These increases in cash were partially offset by (1) an increase in cash paid related to the $153.7 million increase in Distribution expense previously discussed and (2) an increase of $6.1 million in cash paid for interest for the year ended December 31, 2022 as compared to 2021 primarily related to the $350 million Notes issued in March 2022.

Cash Used by Investing Activities. In 2022, net cash used by investing activities was $32.4 million which primarily represented $28.1 million related to the initial closing payment for the CWH Acquisition (see Note (2) to the Consolidated Financial Statements) and $22.6 million paid for purchases of Investments—Affiliates and Other, partially offset by $22.8 million in cash received from redemptions of Investments—Affiliates and Other.

Cash Used by Financing Activities. In 2022, net cash used by financing activities was $168.5 million. Of this amount, Federated Hermes paid (1) $361.7 million in connection with its debt obligations, (2) $218.1 million to repurchase shares of Class B common stock primarily in connection with its stock repurchase programs (see Note (14) to the Consolidated Financial Statements for additional information) and (3) $97.9 million or $1.08 per share in dividends to holders of its common shares. This activity was partially offset by (1) $488.3 million of new borrowings, including amounts borrowed under Federated Hermes’ revolving credit facility and the proceeds from the $350 million Notes issued in March 2022 and (2) $55.2 million of contributions from noncontrolling interests in subsidiaries.

Borrowings. On March 17, 2022, pursuant to a Note Purchase Agreement, Federated Hermes issued unsecured senior notes in the aggregate amount of $350 million at a fixed interest rate of 3.29% per annum, payable semiannually in arrears in March and September in each year of the agreement. The entire principal amount of the $350 million Notes will become due March 17, 2032. Citigroup Global Markets Inc. and PNC Capital Markets LLC acted as lead placement agents in relation to the $350 million Notes and certain subsidiaries of Federated Hermes are guarantors of the obligations owed under the Note Purchase Agreement. As of December 31, 2022, the outstanding balance of the $350 million Notes was $347.6 million, net of unamortized issuance costs in the amount of $2.4 million, and was recorded in Long-Term Debt on the Consolidated Balance Sheets. The proceeds were or will be used to supplement cash flow from operations, to fund share repurchases and potential acquisitions, to pay down debt outstanding under the Credit Agreement and for other general corporate purposes. See Note (11) to the Consolidated Financial Statements for additional information on the Note Purchase Agreement.

On July 30, 2021, Federated Hermes entered into an unsecured Fourth Amended and Restated Credit Agreement by and among Federated Hermes, certain of its subsidiaries as guarantors party thereto, a syndicate of eleven banks as Lenders party thereto, PNC Bank, National Association as administrative agent, PNC Capital Markets LLC, as sole bookrunner and joint lead arranger, Citigroup Global Markets, Inc., as joint lead arranger, Citibank, N.A. as syndication agent, and Toronto-Dominion Bank, New York Branch as documentation agent (Credit Agreement). The Credit Agreement consists of a $350 million revolving credit facility with an additional $200 million available via an optional increase (or accordion) feature. The original proceeds were used for general corporate purposes including cash payments related to acquisitions, dividends, investments and

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share repurchases. As of December 31, 2022, Federated Hermes has $350 million available to borrow under the Credit Agreement. See Note (11) to the Consolidated Financial Statements for additional information.

Both the Note Purchase Agreement and the Credit Agreement include 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. Federated Hermes was in compliance with all of its covenants, including its interest coverage and leverage ratios at and during the year ended December 31, 2022. An interest coverage ratio of at least 4 to 1 is required and, as of December 31, 2022, Federated Hermes’ interest coverage ratio was 42 to 1. A leverage ratio of no more than 3 to 1 is required and, as of December 31, 2022, Federated Hermes’ leverage ratio was 0.79 to 1.

Both the Note Purchase Agreement and the Credit Agreement have certain stated events of default and cross default provisions which would permit the lenders/counterparties to accelerate the repayment of debt outstanding 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.

Dividends. Cash dividends of $97.9 million, $105.8 million and $207.8 million were paid in 2022, 2021 and 2020, respectively, to holders of Federated Hermes common stock. Of the amount paid in 2020, $99.3 million represented a $1.00 per share special dividend. All dividends were considered ordinary dividends for tax purposes.

Contractual Obligations. As of December 31, 2022, Federated Hermes has material future cash requirements from contractual and other obligations relating primarily to long-term debt and operating lease obligations. Further discussion of the nature of each obligation is included below.

Long-Term Debt Obligations. The entire principal amount of the $350 million Notes will become due no later than March 17, 2032. The interest rate is fixed at 3.29% per annum, payable semiannually. See Note (11) to the Consolidated Financial Statements for additional information.

Operating Lease Obligations. See Note (17) to the Consolidated Financial Statements for additional information.

Purchase Obligations. Federated Hermes is a party to various contracts pursuant to which it receives certain services, including services for marketing and information technology, access to various fund-related information systems and research databases, trade order transmission and recovery services as well as other services. These contracts contain certain minimum noncancelable payments, cancellation provisions and renewal terms. Costs for such services are expensed as incurred. As of December 31, 2022, Federated Hermes had purchase obligations of approximately $37.8 million payable within 12 months and an additional $26.0 million thereafter.

Future Cash Needs. In addition to the contractual obligations described above, management expects that principal uses of cash will include funding business acquisitions and global expansion, funding distribution expenditures, paying incentive and base compensation, paying shareholder dividends, paying debt obligations, repurchasing company stock, paying taxes, developing and seeding new products and strategies, modifying existing products, strategies and relationships, and funding property and equipment (including technology). Any number of factors can cause Federated Hermes’ future cash needs to increase. As a result of the highly regulated nature of the investment management business, management anticipates that aggregate expenditures for compliance and investment management personnel, compliance systems and technology and related professional and consulting fees could continue to increase.

On January 26, 2023, the board of directors declared a $0.27 per share dividend. The dividend was payable to shareholders of record as of February 8, 2023, resulting in $24.1 million being paid on February 15, 2023.

After evaluating Federated Hermes’ existing liquid assets, expected continuing cash flow from operations, its borrowing capacity under 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 both its short-term and reasonably foreseeable long-term cash needs.

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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. See Note (2) to the Consolidated Financial Statements for additional information on the CWH Acquisition.

Investments—Consolidated Investment Companies at December 31, 2022 increased $2.9 million from December 31, 2021 primarily due to an increase of (1) $17.6 million related to the consolidation of a variable interest entity (VIE) and a voting rights entity (VRE) and (2) $16.2 million in net purchases in existing consolidated funds in 2022. These increases were partially offset by a decrease of (1) $15.9 million related to the deconsolidation of VREs and (2) $15.0 million of net depreciation on existing consolidated funds in 2022.

Investments—Affiliates and Other at December 31, 2022 decreased $11.3 million from December 31, 2021 primarily due to (1) $14.2 million in net depreciation and (2) a decrease of $4.7 million related to the consolidation of a VIE and a VRE which reclassified Federated Hermes' investments into Investments—Consolidated Investment Companies. These decreases were partially offset by an increase of $10.2 million related to the deconsolidation of a VRE in 2022 which reclassified Federated Hermes’ investment into Investments—Affiliates and Other.

Goodwill at December 31, 2022 increased $1.5 million from December 31, 2021 primarily as a result of the CWH Acquisition ($16.4 million), partially offset by a $14.8 million decrease related to foreign exchange rate fluctuations on goodwill denominated in a foreign currency.

Intangible Assets, net at December 31, 2022 decreased $62.1 million from December 31, 2021 primarily due to (1) a $34.4 million decrease in the value of intangible assets denominated in a foreign currency as a result of foreign exchange rate fluctuations, (2) a $31.5 million impairment charge and (3) $12.5 million of amortization expense. These decreases were partially offset by a $16.2 million increase in intangibles primarily related to the CWH Acquisition.

Right-of-Use Assets, net at December 31, 2022 decreased $15.4 million from December 31, 2021 due primarily to annual amortization and Long-Term Lease Liabilities at December 31, 2022 decreased $18.5 million from December 31, 2021 primarily due to payments made on leases during 2022.

Accrued Compensation and Benefits at December 31, 2022 decreased $12.4 million from December 31, 2021 primarily due to the 2021 accrued annual incentive compensation being paid in the first quarter 2022 ($123.4 million), partially offset by 2022 incentive compensation accruals recorded at December 31, 2022 ($113.5 million).

Long-Term Deferred Tax Liability, net at December 31, 2022 decreased $24.8 million from December 31, 2021 primarily due to a $7.9 million reduction in the foreign deferred tax liability associated with the impairment of an intangible asset, an increase in foreign deferred tax assets of $6.4 million and a $6.0 million decrease related to foreign exchange rate fluctuations on deferred tax assets and liabilities denominated in a foreign currency.

In July 2022, Federated Hermes’ board of directors authorized the retirement of 10 million treasury shares which restored these shares to authorized but unissued status. Federated Hermes recorded a $313.8 million reduction to Treasury Stock, at cost using the specific-identification method and a $42.7 million reduction to Class B common stock, at cost using the average cost method. The difference was recorded as a reduction to Retained Earnings and Additional Paid-In Capital from Treasury Stock Transactions. There was no impact to total equity as a result of this non-cash transaction.

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Variable Interest Entities

Federated Hermes is involved with various entities in the normal course of business that could be deemed to be VIEs. Federated Hermes determined that it was the primary beneficiary of certain Federated Hermes 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 Financial Statements for more information.

Critical Accounting Policies

Federated Hermes’ 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 can differ from those estimates made by management and those differences can be material.

Of the significant accounting policies described in Note (1) to the Consolidated Financial Statements, management believes that indefinite-lived intangible assets included in its Goodwill and Intangible Assets policy involves a higher degree of judgment and complexity.

The process of determining the fair value of identifiable indefinite-lived intangible assets at the date of acquisition requires significant management estimates and judgment. If subsequent changes in these assumptions differ significantly from those used in the initial valuation, the indefinite-lived intangible asset amounts recorded in the financial statements could be subject to impairment. An impairment could have a material adverse effect on Federated Hermes’ Financial Condition.

Indefinite-lived intangible assets are reviewed for impairment at the accounting unit level annually as of October 1, or when indicators of a potential impairment exist. Federated Hermes has combined certain indefinite-lived assets into three distinct units of accounting for impairment testing purposes. The factors considered in determining the asset grouping include, among others, the highest and best use of the assets and the inseparable nature of the cash flows. Such asset grouping determination is reconsidered annually and may change depending on the facts and circumstances. Federated Hermes’ current indefinite-lived intangible assets’ units of accounting are: (1) FHL right to manage public fund assets; (2) FHL trade name; and (3) all other rights to manage fund assets. Management may use a qualitative or quantitative approach which requires the weighting of positive and negative evidence collected through the consideration of various factors to determine whether it is more likely than not that an indefinite-lived intangible asset or asset group is impaired. In 2022, management used both a quantitative and qualitative approach. Management considers macroeconomic and entity-specific factors, including projected AUM, projected revenue growth rates, projected pre-tax profit margins, tax rates, discount rates and, in the case of a trade name valuation, a royalty rate. In addition, management reconsiders on a quarterly basis whether events or circumstances indicate that a change in the useful life has occurred. Indicators of a possible change in useful life monitored by management generally include changes in the expected use of the asset, a significant decline in the level of managed assets, changes to legal, regulatory or contractual provisions of the rights to manage fund assets, the effects of obsolescence, demand, competition and other economic factors that could impact the funds’ projected performance and existence, and significant reductions in underlying operating cash flows.

The uncertainty caused by the Pandemic resulted in management determining that an indicator of potential impairment existed beginning in the first quarter 2020 for the FHL right to manage public fund assets which totaled £150.3 million acquired in connection with the 2018 FHL acquisition. Management used an income-based approach to valuation, the discounted cash flow method, in valuing the asset. This method resulted in no impairment for the first three quarters of 2022 since the estimated fair value of this intangible asset exceeded the carrying value. The discounted cash flow analysis prepared as of September 30, 2022 resulted in the estimated fair value exceeding the carrying value by less than 10%. As a result of continued increases in market interest rates and a decrease in near-term projected cash flows, a discounted cash flow analysis was prepared as of December 31, 2022 and resulted in a non-cash impairment charge of $31.5 million driven by changes in projected cash flows and a higher discount rate as compared to the prior quarter. After the impairment, the FHL right to manage public fund assets totaled £124.4 million ($150.4 million). The key assumptions in the discounted cash flow analysis include revenue growth rates, pre-tax profit margins and the discount rate applied to the projected cash flows. The risk of future impairment increases with a decrease in projected cash flows and/or an increase in the discount rate. As of December 31, 2022, assuming all other assumptions remain static, an increase or decrease of 10% in projected revenue growth rates would result in a corresponding change to estimated fair value of approximately 8%. An increase or decrease of 10% in pre-tax profit margins would result in a

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corresponding change to estimated fair value of approximately 12%. An increase or decrease in the discount rate of 25 basis points would result in an inverse change to estimated fair value of approximately 3%. Any market volatility and other events related to geopolitical, Pandemic-related or other unexpected events could further reduce the AUM, revenues and earnings associated with this intangible asset and can result in subsequent impairment tests being based upon updated assumptions and future cash flow projections, which can result in an impairment. For additional information on risks related to geopolitical, Pandemic-related or other unexpected events, see Item 1A - Risk Factors - General Risk Factors - Other General Risks - Potential Adverse Effects of Unpredictable Events or Consequences (including the Pandemic).

The impairment charge was recorded in Operating Expenses - Intangible Asset Related expense on the Consolidated Statements of Income. After the impairment charge, Federated Hermes had $343.2 million in indefinite-lived intangible assets recorded on its Consolidated Balance Sheets as of December 31, 2022. No impairment charges were recorded during the years ended December 31, 2021 or 2020.