富蘭克林資源 (BEN) 2005 Q3 法說會逐字稿

Good afternoon.

At this time I would like to welcome everyone to the Franklin Resources quarterly analyst conference call. (Operator instructions).

After the speakers' remarks there will be a question-and-answer period.

I would now like to turn the call over to Mr. Johnson.

Sir, you may begin.

Thank you and good afternoon, everyone.

This is Greg Johnson CEO of Franklin Resources.

And joining me today is our CFO Jim Baio.

As all of you are surely aware by now, Marty Flanagan, our former co-CEO has left the Company to become CEO and President of InvestCap.

It's been a great pleasure working with Marty over the past years, and we wish him well in his opportunity.

Not only do we consider him to be a very fine businessman, but also think he'll continue to do great things for the industry.

We've had a great partnership over the past few years, and one of our greatest achievements I believe, is that we built a very strong team of leaders.

People who will continue to work together to carry out the Company's strategy and vision of offering high quality investment solutions and providing outstanding services to or customers globally.

One of those strong leaders is our Chief Financial Officers Jim Baio.

Jim was appointed CFO in 2003, and is responsible for the firm finance functions, and also serves as senior leader on all of our management committees.

Jim joined Templeton in 1989, and has served as the Treasurer of Templeton and Mutual Series funds, and was the Chief Administrative Officer to Marty Flanagan.

Prior to Franklin Templeton, Jim worked for Ernst and Young for twelve years in both the audit and tax functions.

So a welcome to Jim, and expect that you'll be hearing a lot more from him in the future.

With that I'm happy to be able to share with you terrific results for the quarter.

But first let me direct you to our forward-looking statements.

There's a copy of that and our 10-K and our most recent 10-Q, with just a point or two I'd like to address.

The subset of it which states, forward-looking statements involved a number of risks, uncertainties, and other important factors that could cause actual results and outcomes to differ materially from any future results or outcomes expressed or implied by such forward-looking statements which may be discussed here today.

Looking at the assets under management, we're pleased to see record levels of assets closing at $425.4 billion, with 412 in the prior quarter, which is an increase of just over 3%, and over 21% from the prior year.

The average quarterly assets increased from $407.4 to $416 billion.

Looking at the assets by the various investment management groups, Franklin assets totaled $184.4 billion, Templeton, 151.9, Mutual, 41.4, Fiduciary, 39.8 and Bissett, 11.9.

Most of the break between equity and fixed income was fairly stable with Hybrid continuing to grow 17.2%, versus 16.8, and that's really due to the continued success of the Franklin Income Fund.

Looking at asset fund flows another strong quarter, for the organization with $7.7 billion, and if you recall in the prior quarter, we had two large institutional mandates funded which totaled just over $2 billion.

We also had somewhat of an unusual event this quarter, where when we -- the Company paid its special dividend, that resulted in a redemption of over $500 million coming out of the Franklin Money Fund, so if you net those out, the results are fairly in line with very strong net sales.

Sales overall were down about 9.7% on a gross level from the prior quarter.

Looking at the flows by asset classes, again as I mentioned, the equity net flows is where you'd seen the greatest decline from 7.3 to 3.8.

And in particular, on the global international line from 6.8 in the prior to 3.6, and again that's really due to the over $2 billion in the separate accounts which was in the prior quarter.

The rest of the flows are fairly stable with net equity declining from $500 million to $200 million.

The Hybrid from 2.4 to 2.7.

Fixed income overall was actually up from 1.1 to 1.4, with tax frees from $100 to $300 million, and taxable 1 billion to 1.1 billion net.

The investment performance continues to do very well across the entire organization with over 85% of the long-term fund assets in the top two quartiles for the 1, 3, 5, and 10-year period.

Templeton growth ranked in the top third for the 1, 3, 5 and 10. 100% of the mutual series equity mutual assets in the top 2 quartiles for the 1, 3, 5 and 10, and Franklin Income Fund continues its top performance for the quintile for the 1, 3, 5 and 10-year periods.

I'd now like to turn it over to Jim with the operating results.

Thanks, Greg.

And just starting at the high level speaking of operating revenues, for the quarter we had $1,110,000,000 of revenue, an increase of 5.6% over last quarter, and almost 28% over the same quarter a year ago.

In terms of net income, we earned $262 million this quarter, an increase of 18% over last quarter, and just over 50%, compared to the same period a year ago.

In terms of diluted earnings per share, we earned $1.00 per share, and that was up 17.6% from last quarter, and 49% year-over-year.

Drilling down then to some of the details behind the revenue numbers, investment management fees for the quarter were $642 million, an increase of 8.3% the last quarter, and 27% in the same period a year ago.

The effective fee for investment management revenues was 61.7 basis points this quarter, compared to 58.2 last quarter.

And most of that increase was due to some performance fees we earned in June.

However, some of it was also due to the shift in asset mix and the higher average AUMs during the quarter.

Underwriting and distribution fees were up to 387 this quarter, an increase of 2.6% over last quarter, and 37% over the same period a year ago, based on the strong sales and higher AUM and the mix of assets throughout the globe.

Looking then to operating expenses.

Total operating expenses for the quarter was $763 million, down 1.9% from last quarter, and up 22% from the same quarter a year ago.

Some of the bigger items in operating expenses included underwriting and distribution, which was up 3.5%, in line with what we saw on the revenue side.

Comp and benefits was up to $233 million this quarter, an increase of 6.9%.

That increase was due in part to the bonus performance related to the performance fees that I mentioned on the investment management line.

Also head count is up to now we have 7,045 employees, and not included in these numbers are any amounts related to auction expenses, which will start to hit in the first quarter of our fiscal '06.

Advertising and promotion was $36.8 million this quarter, an increase of 18% over both last quarter and the same quarter a year ago.

As you probably have seen, we've done quite a bit of advertising both in print and television.

We would imagine that this rate would continue going forward into our fourth quarter.

Finally we had an insurance recovery related to our legal fees, and the rest of our operating expenses were relatively flat compared to the same quarter last quarter.

Looking below the operating line then.

Other income was $17.2 million, down from $28.8 million last quarter, but up from $3.1 million the same quarter a year ago.

This line continues to have a lot of fluctuations in it.

We expect to see that going forward.

It's largely based on the mark to market of our corporate investments and our sponsored investment products.

Our tax rate for the quarter was 28%, consistent with the rate for last quarter if you take out the effects of the regulatory settlement.

We did have some share repurchases this quarter.

During the quarter we bought back 353,000 shares, compared to last quarter's 117,000 share buyback, and we paid a dividend of $0.10 this quarter.

So between the dividend and the share buyback, we had a total payout ratio of 18.4% of net income.

Then just quickly looking at our operating margins.

For this quarter, we were at 31.2%, last quarter was 26%, and then compared to a year ago, 27.8%.

So all in all from a financial point of view, we thought it was a very good quarter, good performance and good flows.

I'll turn it back to Greg now to cover a few business highlights.

Thanks, Jim.

Looking at the U.S. retail, we concluded a road show on the west coast.

One of our priorities, to continue to gain visibility for our core growth efforts on the Franklin side, and we had over 650 attendees at 14 advisor at road shows out on the west coast.

Cross selling is another what we think is a very important way to successfully retain and build assets through advisors and one of our priorities has been to sell three more asset classes, and we continue to see that metric improving with our sales efforts on the distribution side.

The international retail, I think the highlights for the quarter.

C cab (ph) assets up 50% from a year ago to $31 billion.

Another region reached over a billion dollars was our Benelux region for Belgium Netherlands Luxembourg, and we're pleased to see a German publication recently recognize Franklin Templeton as the best investment company in Germany.

In China where we have a joint venture with Sealand Securities.

We raised a fund of about $82 million; it was the first balanced fund for Chinese retail investors, similar to our Franklin Income Fund, called the Franklin Sealand China Income Fund.

On the institutional side we announced Monday that we formed a dedicated team for the consultants on a global basis, and this is working with our product management group really trying to coordinate all of our consultant efforts on an enterprise-wide basis.

So in summary, we're very pleased with strong operating results for the quarter.

We will continue to be very focused on leveraging our strong investment performance to grow our assets under management.

And with that, I'd like to ask the operator to open it up for your questions.

(Operator instructions.) Your first question comes from Daniel Goldberg with Bear, Stearns.

Good afternoon.

Greg, you briefly talked about the transition in terms of senior management now that Marty has left.

Can you just talk a little bit more in terms of who might be filling additional roles?

Obviously Jim is taking on a greater responsibility.

Anything else you can give us in terms of color there?

I think it's a little early.

We haven't really announced any changes.

I think we -- the number of reports for one person versus two would be difficult to maintain, so we're looking at narrowing that.

We'll probably do that over the next month or so, and that's really what we've said internally.

So there's really not much to report at this stage on that.

Is there any plan to name any type of COO or someone directly below you?

Well, there's a lot of discussions right now, and we're very careful about announcing what will be the final one.

So I'd rather not speculate on what could be changing in the next few weeks.

Okay.

And in terms of some of the flow numbers on domestic equities.

Redemptions, it looks like, have been up in five out of the last seven quarters, and I think it was $4 billion this current quarter in terms of redemptions there.

Anything specific going on there?

No, I think there's nothing specific.

I think the -- you're probably seeing some shift into the international from some of the domestic funds that could be putting some pressure on it and why you're seeing such strong flows on the international side, but really nothing out of the ordinary for us, with respect to the rest of the industry there.

Okay.

How big were the performance fees in the quarter?

The best way to think about that would -- you know, go back to the effective fee rate and a large part of the effective fee rate was attributed to the performance fees but not all of it.

You do need to factor in some of the asset mix too, and we'd probably prefer to just leave it there.

Okay, and then just lastly, Jim, can you give us a little bit more sense in terms of the reversal of the provisions for the investments legal.

The $8.4 million.

What that's all about, and then is there any more of that we should expect going forward?

Yes, it's purely around our legal fees and insurance coverage that the insurance coverage that reimbursed us for legal fees.

It's very hard to say where the policies will take us in the future though.

Okay great.

Thank you.

Your next question comes from Mark Constant with Lehman Brothers.

Hi, good afternoon.

First of all Greg, congratulations and good luck as you take the reigns.

And Jim, I guess I'll apologize in advance for the harassment I'm sure to subject you to on these calls going forward.

Thank you.

Which I'll get right to, I guess.

Wondering to follow on the question regarding the performance fees.

You indicated that related comp or that comp related to that also inflated the comp accrual this quarter.

Can you give us a similar kind of order of magnitude relationship to either the dollar amounts on the revenue side or the run rate of comp?

Again, I'd say the best way to think about that too would be, that these are largely hedge fund type products and performance type products, so they have the typical payout that you might expect.

You know

To put a percent on the dollars we'd estimate put 50, 60% on the dollars we'd estimate, or something like that?

Maybe not quite that high, but there's other things in there too.

Don't forget we did have some head count and so on and so forth.

Okay.

And on the option expenses, I think I recall last quarter, Greg, you might have said something about potentially providing a little more color on your expectations of the 123 R's or the temporary option expensing from prior grant effect, first quarter.

Is that ready yet or --?

You know, like everyone else, we're out there building our models.

Okay.

You know, we're -- it's going to affect us beginning October 1st.

We're creating the models now.

You should think in terms of, look at the options we've issued over the last few years, how that's been decreasing and start to build some expectations from that, but until we get a little bit more clarity out of our models, that's about as much as we know.

Okay.

Advertising and promotion.

Fairly dramatic step-up and I think I heard you say Jim that you expect that to carry into the fourth quarter.

Is that something indicative of what you see in the marketplace at this time?

Is that a sort of new sustainable run rate, and if so, how much -- why would that be so much higher?

Is that -- does that include like wholesaler kind of stuff or new hires, or is that really advertising?

I think the quarter we did do -- we did some incremental TV advertising in the last quarter.

We would expect that to continue.

But you also have the effect of some of the revenue sharing through that line that we talked about in past quarters that clearly is a number that, you know, has been going up.

It's not going up on a percentage basis, but there's more -- as sales and assets increase that number just tends to go up with it.

Okay.

And I'll leave the nastiest of course for last.

The flip side I guess of your 18.4% of at least your GAAP earnings payout ratio is that you're retaining 80% plus of your GAAP earnings, let alone your cash-flow with substantial balance sheet flexibility and sources of qualified repatriated earnings spending and all that kind of stuff looking forward.

Just wondering if there's any potential change in philosophy from your standpoint, I guess, Greg.

Or if we should expect repurchase activity and dividends to kind of stay at this level of percentage of earnings.

Well, I think it's going to be a similar answer like you probably heard --

But Marty used to give it so I have to ask you.

But if -- I listened to him enough, so I think I can -- I think we've always been strategic in the capital as far as being opportunistic with buying back stock, and we'll continue to do that if we think it adds shareholder value.

We still believe there's a good reason for shareholders to have a strong balance sheet and have that cash available that puts us in a different place for future acquisitions that may make sense for the organization.

So there really is no change in philosophy on how we use the cash, and again, we did pay out a special dividend.

And if we think that makes sense again for shareholders that's something we'd consider again.

Well, one last follow-up then to part of that last comment then.

Most recently you all have suggested that you continue to hope to be optimistic or opportunistic, rather, with respect to acquisitions and thing like Bissett and Darby and that kind of stuff as opposed to feeling the need to really add any pieces to a pretty darn strong lineup.

Is there a change of philosophy there in terms of acquisition, or do you think the landscape's changed?

Well, I think there is certainly some changes in activity, and with the size of deals right now which could present themselves in the future, and I think we want to have that the balance sheet (indiscernible) consider that.

I think the -- if you can do something at a price that is accretive to earnings on a large kind of scale deal, that could make sense for us.

I mean, we never ruled it out.

We look at everything out there.

But again, I think we don't feel like we need to pay a strategic premium to get into an asset class.

We think we're pretty well positioned, but when you get into larger scale type situations there's only a few companies that really can compete, and we think we're one of them.

And if it's something made sense, we'd certainly be open to pursuing it.

Got it.

Okay, Thank you.

Your next question comes from Jeff Hopson with A.G. Edwards.

Just to hit that last point again.

Without Marty there, would you say you're any more or less open to looking at deals?

And then with the Legg Mason/Citi deal open architecture, I guess, becoming more relevant, any thoughts on whether that's a bigger opportunity for you going forward?

First of all I wouldn't say we're more or less inclined.

I think we've always taken a very open view of everything that's happening out there, and we think that puts us in a better position to understand the marketplace and move quickly when the situation makes sense for us.

I think the changing landscape that the regulatory environments created with the conflicts between distribution and asset management is one that we've been talking about for a while.

Obviously this Citi deal is really the first big one along those lines and there could be others, because I think the independent asset manager in an open architecture environment makes a lot more sense than having captive or proprietary distribution.

Okay.

And on the growth products side.

Sounds like you've had some positive reception to the road shows, but yet not tremendous traction there.

Any thoughts?

Well, I think if you look at the asset category, there's not -- you're going against the wave still, and I think what we're trying to do is create awareness and visibility with the advisors and get them thinking of us when that does turn around.

But the category is still experiencing fairly heavy redemption and we're getting good percentage growth, but clearly not anything as far as major net number to the bottom line.

But we know it's a long-term plan, and we are building that awareness out there and that's really the main goal today.

Okay great.

Thank you.

Your next question comes from Chris Meyer with Morgan Stanley.

Hi, good afternoon.

The -- there's not much more on the acquisitions we can ask you, but maybe -- I guess if you could look in the rear-view mirror and help us understand if you knew what you knew today about what appears to be some change in the acquisition landscape, would you have paid the special dividend that you paid in the second quarter?

I think we -- the position when we paid the special dividend was that we didn't think it changed our outlook on the company's ability and still having what we think is what we think one of the strongest balance sheets in the industry, that it didn't compromise that really in any way.

So I think we felt that was excess capital that should have been returned to shareholders at that point in time and knowing what we know today, really wouldn't have changed that.

So we should read that there is more scope for potentially further special dividends if you build the capital back up to that sort of level again?

Well, I think you can read -- there's many variables that go into that, and I wouldn't, you know, read too far.

You can make your own guess, but I'm not going to really indicate one way or another.

But just I think it was either you or Marty, I thought on the last call had mentioned that you expected head count growth to be about 100 people for this sort of this second half of the year.

The second half of your fiscal year anyway.

It seems like you added about just shy of 200 in the quarter.

Can you just give us a sense of was the growth opportunity just way much -- way more than you thought it would be, and you thought you needed to scale up the infrastructure to accommodate that?

Well, there is.

I think the global sourcing that we're doing in India and you know, has ramped up a little faster than what we anticipated and the good news is that the compensation isn't as high and that's why you're doing it there.

But clearly I think the environment and the pressure from many of the business units to continue to add people as business grows and servicing is clearly there and that one that we think will probably continue and we wanted it to continue.

Okay.

So that's not -- the assets haven't just grown so strongly that you now needed to play catch up with some of your infrastructure?

No, I think we're right on pace.

Okay great.

Thanks.

Your next question comes from Robert Lee with KBW.

Thank you.

Good afternoon.

Hello.

Just a couple quick questions.

A lot of them have been asked already.

Is it possible to get a little more update on the repatriated capital in terms of what the deadline you face on making some decision on that is, and if there's any reason we should be expecting some type of announcement over the next quarter or so?

And then one or two short follow-ups.

Sure.

You know, we're fortunate to have the year end that we do, and what that means is it gives us until September 30, 2006, to actually have to execute a plan.

We've taken the position that while the statute itself was rather simple, the rules and guidance that have been coming out around it has been rather complex.

And since we have the luxury of time, we're letting the rest of the world do our learning for us, and we're still in touch with our advisors and studying it.

We still think it's a good thing.

A good thing for the country, a good thing for the Company, and so we're mindful of our deadline and just want to learn as much as we can before we pull that trigger assuming it still makes sense to do that.

Okay.

And Greg, maybe you can talk a little bit about your business from outside the U.S., maybe just update us on – if we were to look at sales and flows in the quarter.

Can you help us size how much of that is being generated from you know, clients outside the U.S. and -- sorry.

That was a --

Yes.

It's probably about 40% coming from outside of the U.S. right now.

And is that mainly into non-U.S. investors and non-U.S. products I'm assuming?

Well, not non-U.S. investors, but some U.S. products.

The mutual series funds are very popular in Europe, so we are selling -- and some Franklin growth funds as well to non-U.S. investors.

Great.

That was it.

Thank you.

Your next question comes from Cynthia Mayer with Merrill Lynch.

Hi, good afternoon.

Hi.

Just a little more on the repatriation plan.

I'm just wondering since you have until September of 2006 does that make you any way more hesitant to do an acquisition ahead of that in case you want to use those funds for an acquisition?

No.

I mean, acquisitions would be a good spend under the rules as we understand them.

So anything you do during that fiscal year, I believe would qualify.

So it's a -- no effect either way.

And well, I guess I was asking, it sounded as though you wouldn't really make a decision until September '06 on that?

No, I don't -- didn't mean to suggest we wouldn't make a decision.

We have until September '06 to execute the plan.

What we're doing now is just -- as you probably know, lots of companies are starting to bring their money back and we're learning on their nickel so to speak as are our advisors.

I see.

So if you did do an acquisition you could begin to frame it well ahead of that?

Yes.

Okay.

And just not to beat a dead horse on the Legg/Citi deal, but does that in any way disadvantage other outside managers within -- who want to sell through Smith Barney in that Legg would in a sense be selling from inside as both an outsider but also inside?

Well, I think no more than it would if they -- if Citi was still part of their fund family.

I mean they're -- you could argue there would be -- and I don't know if there is, any bias towards doing that.

But the bottom line is it's Citi now is completely an open architecture distribution -- distributor that I think presents much greater opportunities for the independents.

I think, where it creates more competition is in the other broker dealers where now you have a large independent asset manager, and Legg has what I think is a better opportunity to distribute those funds through other broker dealers.

I see what you're saying.

Right.

Got it Okay, and just one last little one.

Are you expecting a purge for next quarter?

Can you give any sense of that?

Yes.

We typically do in the middle of the fourth quarter about -- we're expecting it to be approximately 1.2 million accounts in the U.S.

Okay.

Thank you.

Your final question comes from William Katz with Buckingham Research.

So glad to bring up the rear though.

Just sort of curious.

As I look at the distribution margin, that has trended down pretty sharply over the past couple quarters.

And in light of your commentary that you're advertising reflects a step up in revenue share, I'm just sort of curious if you could help explain that trend and the outlook going forward?

Sure Bill.

It's -- you also have to think about the -- where the sales have taken place, and in other parts of the world outside the U.S., the structure is very different, so -- and the -- where you'd expect to see less of a margin so as the -- depending on where sales are generating as well as the timing of those sales impacts it.

Okay.

I guess what my central thing I'm looking at in the quarter and Greg, to your comments earlier that you're focused on leveraging the franchise.

I assume let's say round numbers $30 million for the performance fee and a 40% payout.

And then you look at your recurring revenues and your recurring expenses, you didn't have any operating leverage that I can calculate.

It looks like you have a little negative leverage.

I recognize the advertising is up, but that now seems to be a higher run rate level going forward.

How should we think about operating leverage going forward?

Is there an ability to take the margin up from here or has that peaked out?

Well, I hope there is.

I think there is.

There's a lot -- when you're looking at quarter-to-quarter results, there's a lot of things that can move the margin in the short term.

I think the long-term trend is clearly there, and if we continue to grow assets and manage the expenses effectively, the margins should improve.

There's always uncontrollable things in distribution costs and unknowns in the future, but from what we know today if assets increase, you know, margins should improve and if the asset mix continues on the trend of the higher margin type products, that trend should continue.

And sort of just one more question.

In terms of the institutional pipeline, if you will, just sort of wondering qualitatively what kind of receptivity you're meeting with now as you go in a little bit further, even before considering the new alignment you put in place this week?

We talked about this.

I mean, I think the global equity trend and the searches right now continue to be very high and very active for us.

So that's certainly an area with Templeton that still presents a lot of opportunity here in the short term as well as the -- we're seeing more fixed income searches in Global Fixed and that's another area where hopefully we can win some new mandates.

What was the the size of your assets outside the United States at the beginning of the quarter?

I'm not -- I don't really have that available, Bill, so I'll have to get that for you.

Okay.

Thank you.

Okay.

Well, thank you, everyone.

And we look forward to speaking with you next quarter.

Thank you.

Thank you for participating in today's Franklin Templeton conference call.

This concludes today's conference.

You may now disconnect.