富蘭克林資源 (BEN) 2011 Q2 法說會逐字稿

Good afternoon and welcome to Franklin Resources second-quarter earnings conference call for the quarter ended March 31, 2011.

My name is Christine, and I will be your conference operator for today.

Please note that the financial results to be discussed in this conference call are preliminary.

Statements made in this conference call regarding Franklin Resources Inc.

which are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These forward-looking statements involve a number of known and unknown risks, uncertainties and other important factors that could cause actual results to differ materially from any future results expressed or implied by such forward-looking statements.

These and other risks, uncertainties and other important factors are described in more detail in Franklin's recent filings with the Securities & Exchange Commission, including in the Risk Factors and MD&A section of Franklin's most recent Form 10- filing.

(Operator Instructions).

The Company asks that you limit questions to one initial and one follow-up question.

If you would like to ask additional questions, you may reenter the queue by pressing *1.

Now I would like to turn the call over to Mr.

Greg Johnson, Chief Executive Officer.

You may begin.

Well, thank you and good afternoon, everyone, and thank you for taking time to join us for this call.

Joining me is Ken Lewis, our CFO.

This morning we reported a strong quarter of operating results.

Sales were at an all-time high, and long-term net new flows improved to $9 billion due to the continued strength of global bonds and a pickup in US equity and hybrid flows.

We did experience some lumpy institutional redemptions during the quarter, but flow trends improved in March.

That trend has continued in April, and we continue to see that we are well positioned to benefit from increased investor demand for equities and hybrid funds.

Now I would like to open it up for your questions.

(Operator Instructions).

Roger Freeman, Barclays Capital.

I guess just to start with the flows, looking at domestic equities, $2.4 billion net.

I mean how -- is there any lumpy institutional ending flows, mandates that funded in the quarter there because obviously it's a very strong number?

Looking at the Simfund data, just on the mutual fund side, it would suggest that it was -- you got some smaller numbers.

I'm just wondering if there is anything lumpy in there?

If that really is representative of broad-based market share gains?

No, it really is -- there is not anything lumpy to call out.

I mean I think for us we have talked about some of the efforts around the DCIO platforms, and it was a record sales month for us there.

The equity funds, especially in the US, a few of them had record quarters as well.

Okay.

That is great.

And I guess the follow-up, just around expenses, they came in below what we were looking for sort of based on some of the commentary about what full year this year was going to look like and I sense others as well.

Can you talk a little bit about how some of that progression pans out over the year vis-a-vis some of the projects you are spending on it?

Sure.

I guess just can I follow up on the previous question, too?

There is also strong flows in our [CCAV] products in the (inaudible) category.

That probably does not come through in Simfund's.

The US opportunities fund was our top-selling one there for equity funds.

So in expenses, yeah, it is true that particularly the IT and the occupancy expense came in a little under where we were thinking it was going to be, but we continue to spend in those areas.

It is just taking a little bit longer for that spend to be reflected in the income statement for, I guess, two reasons.

One is a lot of the projects that we are working on are capitalized, so you have to wait until it is completed, and then it will come through in depreciation expense.

And two, there have been a lot of efficiencies realized in this fiscal year particularly due to some strategic decisions we made on the technology side.

For example, bringing the datacenter in-house.

We are kind of recognizing some of those savings earlier than we thought, so that has been maybe keeping the expense line static instead of increasing like we thought.

But the message is the same.

I think over the long term you will see some not very dramatic, but you will see some incremental uptick in those lines going forward.

Michael Kim, Sandler O'Neill.

First, maybe just to kind of follow-up on the domestic equity flows, can you just give us some color around maybe some of the drivers behind the step-up whether it is performance, rising risk appetites more broadly, or maybe it is related to your recent marketing efforts?

Well, I think the answer is probably a little bit of all of the above.

I mean we have felt that the performance has been very strong, especially on the Franklin equity side.

The Franklin Growth Fund has been around a long time.

We have just spent really the last six months pushing hard on those funds, and I think obviously the timing is right.

And then I think more importantly for the longer-term trend is all of the new platforms that we have introduced those funds to in the last six months.

The defined contribution tends to be a steadier place to go, and that is probably where the battle is won and lost as far as equity funds go.

So we -- our metric was getting them on as many platforms over the last year when equities were out of favor, and now when you're seeing things come back, they are doing very well.

In the Franklin Growth Fund, the Rising Dividend fund and then offshore, the Franklin US Opportunities Fund all had record quarters for the last quarter.

Okay.

And then in terms of margins, is it fair to say maybe margins have peaked at least in the near term as you continue to ramp up some investment spending, or do you still feel like there is some leverage in the model just assuming assets continue to trend higher and maybe the mix improves a little bit?

I think there is some leverage in the model.

Obviously revenue -- time and time again, revenue is the big driver.

Even the short quarter this month caused a little bit of the margin compression.

But we are going to continue to spend, but it's not -- we are doing it pretty thoughtfully, and I think there is room for expansion.

Jeff Hopson, Stifel Nicolaus.

Any additional details on the $4.7 billion as far as why that left?

Do you know if it went to a passive?

And then in terms of international equity retail I guess on the CCAV side, any change in the products that you are selling there?

I know Asia Pacific growth was a big seller in the previous quarter but any changes there?

I think, first of all, the large redemptions were more performance-related, and it really depends on how you view performance.

If you look at Templeton and what -- really a value bias, if you look at them, really it's all international equity funds.

They were underperforming.

Now that has turned around dramatically since that decision was made by those sovereign wealth funds to switch over.

I'm not sure where the monies went going passive or other active, but it was performance related to the Templeton lag.

Now that really over the last three months has turned around dramatically, and you can see most of the Templeton funds now are in the top first or second quartile, including the three-year number that moved quickly.

And at that same time, we were winning global equity mandates at the same time that that redemption was made.

So I don't think you can draw any conclusions.

That happens and these funds tend to move monies around a little bit quicker than, say, your average.

So when you do a downturn in short-term performance, you are vulnerable.

As far as the global equity flows go outside of the US, you are right.

The big driver has been Asian growth, and that trailed off during the quarter.

I think the reason there was really the backup in rates and the January effect on emerging markets, and overall those markets underperformed the overall MSCI during the quarter.

Again, those tend to be more short-term performance-related, and I would think that that would be coming back now.

Bill Katz, Citigroup.

I just wanted to get a little more detail behind the new vision -- 20/20 Vision campaign.

Can you talk a little bit about when you rolled it out, where you rolled it out geographically, and is there any more opportunity to penetrate other distribution channels with any other regions, etc.?

And anymore quantitative feedback beyond the 80,000 fulfillment kits I guess you sent out so far?

Well, I think we're on to the next phase of that campaign, and it was really designed just to give advisors tools to deal with the move towards fixed income and how much pressure there was to redeem equities and whether it was our fund or somebody else's.

We just wanted to create more value in the relationship by having those tools out there and then try to come in and follow up with the Franklin funds.

Right now the push in marketing is global is the new core.

And that does not mean we are forgetting about US, but all the tests and surveys that we have done and trends indicate that there will be more moving to global equities.

People are still underweighted, and we want to change the thinking because, again, I think that is advantageous to us with our overall mix to have global equities represent a larger base of individual investors portfolios.

Are there any -- that stands the question, are there any opportunities to broaden out that marketing campaign that could add another layer of growth on top of what you're doing right now?

Well, hopefully, that -- as I said before, I mean I think the equity push is something that we are getting to a new audience.

We still think there is a lot of opportunity on the retirement side to get into more plans.

And as long as performance stays solid there, there is no reason why we cannot expand to new markets.

And the bigger question is how much can global equities expand.

And, again, you could talk about this looking at each country because each country has its own bias to their home investing, some higher than others, and we are really approaching it on a regional and country by country basis.

But we are rolling it out across the globe.

Okay.

So my follow-up question is, to come back to margins from a different way, I think your tax rate was a little bit lower than people were anticipating.

I guess that is the mix shift that is underway.

I think I ask this question every quarter, so I apologize in advance.

But when you think about the profitability by geography -- don't let me ask a leading question here -- but is non-US business at this point in time -- I know you run some of the money through the Bahamas, what have you -- but is non-US innately more positive or equal in terms of the profit contribution?

Non-US, US are approximately even.

If you pare away the layers in the non-US, there are pockets that are more profitable than the standard US products, but there are also pockets that are not, and maybe they are not because we might just be getting started in an area or the products may be small.

So when they blend out, they blend out to a point where I can make the statement that non-US, US is about the same profitability today.

Just maybe I can touch on the tax rate and the mix question.

Sure, part of it was due to the assets that are managed out of low tax jurisdictions like Singapore, Hong Kong and the Bahamas, but also some of it was portfolio-related.

So you can see on that slide we do that new chart that shows you that we had some gains.

A lot of those gains were outside the US.

So that changes the earnings mix, too.

Michael Carrier, Deutsche Bank.

Just given the longer redemption this quarter and then last quarter I think it was in hybrid, can you give us any color just on the institutional pipeline?

And then maybe you have some of these on the out, but what is coming in and where is the interest?

Well, I think the pipeline looks good.

We really don't talk about or try to put out any numbers where you would be able to guess if any lumpy things are coming in or not or going out.

I think the feeling is the trends that again we talked about for quarters around global equities, and whether it is lower duration, emerging market funds are all very much in place in a very active and healthy pipeline for us.

So hopefully we will see some good numbers coming in there next quarter.

Okay.

And then on the retail side, it looks like you are definitely seeing a pickup on the domestic equity side in hybrid.

And then just in terms of interest levels, I guess it makes sense.

I mean you have not seen a pickup on the international equity, but it looks like there is a focus on the marketing campaign.

And then I guess just any update on the muni side just in terms of any increased interest from the advisors or from the retail client.

Well, I think munis, as we have said, will continue to be difficult.

I mean I think they are under pressure everyday in the headlines, and you certainly have some strategic buyers that come into the market.

But just the overall retail buyer that is the dominant player in that marketplace is going to react to what they read about in headlines.

And I think the bigger part was the concern that rates are going up, and taxes were staying down and not going up quickly.

And I think those two on a less liquid market had a pretty dramatic impact, coupled with the headlines, and it is hard to separate out what affected it the most.

But the bottom line is we don't see that turning around quickly.

It is better.

Performance has been better.

It was positive for the quarter overall for munis, so that is positive.

And whether it settles down, I think it should, but you still run that risk of headlines everyday and budgets being battled, and that's just going to put headwinds into muni flows.

You know, international equity, I mean the issue -- the core strength of our franchise around Franklin -- around the Templeton side has with its larger cap value bias and less energy and material weightings has hurt relative performance.

Now the good news today is the dollar has been weak.

They don't hedge anything.

The move in the last quarter into the Europe and other places where they have been overweighted that has hurt performance has helped performance here and helped it dramatically.

So that has turned around quickly.

It is hard to sell when you are third and fourth quartile, but now that we're back in the first and second, hopefully we can see some turnaround there quickly on the retail side.

Mutual has been steady and positive, and Mutual European and Mutual Discovery continue to be steady as far as inflows go, and again, hopefully that will continue.

Ken Worthington, JPMorgan.

On the Templeton Global Bond and the international bond franchise, I know you have talked about there being no capacity issues there.

Are you getting any sense of either owner fatigue or buyer fatigue?

The fund performance remains really good, but net sales peaked last year on the March and June quarters, and gross redemptions seem to be creeping higher.

So just any sense of fatigue, and do you think sales numbers kind of stabilize here, or do you think they continued to decline from very strong levels?

Well, I think, as we said, even at the height, it is very hard to maintain those kind of float numbers, and you have the natural funds growing and aging, and you're going to have redemptions that were not there before just based on the average life of an investment.

So that puts pressure on the overall net number.

But I would look at the story to me is the strength of the Global Total Return Fund and how quickly that has grown and $2.5 billion of net inflows into that fund last quarter.

So while you could argue maybe the global bond has slowed a little bit, but you can certainly say the Global Total Return Fund has become very meaningful, and that is even a bigger market than the Global Bond because it not only has sovereign debt, but has corporate bonds in there.

And that has had excellent performance, and we are continuing to see strong interest there.

And I think, again, any country that is concerned about their currency whether it is US or the euro are going to be very interested in global bonds, and that is certainly getting more headlines I would argue today than ever.

So I still am pretty optimistic on flows there.

Great.

And then as a follow-up, can you give us a little more information on the CCAV products?

What are the asset levels you have in those funds at this point?

And if you can, what were the CCAV sales for the quarter?

I don't have the actual breakdown of the sales.

It is about $130 billion in assets in the CCAV funds.

Cynthia Mayer, Bank of America.

Maybe just to start a follow-up on the 20/20 campaign question.

When I look at that equity funds that you flagged for emphasis in the campaign, Templeton growth is a standout year-to-date, but most of the others are lagging this year.

I'm just wondering if that kind of short-term performance, apart from their long-term records, but does that kind of short-term performance influence the sales, or should we assume that particularly in DC it is really more important to get on the menu and then its demand for that particular asset class?

I think that is exactly right.

I think that getting -- that is why it is so important to get on those platforms to get the steadier flows and not be vulnerable to short-term swings where is more discretionary on buying the latest and best as far as the one, three and five.

So you're right.

I mean there is some slight underperformance in the near term for a couple of those funds.

It probably will have, I think, some effect, but again, that is why it is so important for us to get on the retirement platforms where you are less vulnerable, and it's more about the three and five-year numbers than it is the six month than one year.

Okay.

And then I just had a modeling question, which is I just wanted to clarify something you mentioned on your prerecorded commentary.

You were talking about the drivers for distribution revenues and expenses, and it seemed like you were saying that the biggest driver for both is change in assets.

But the impact seemed to be really different for revenues than for expenses.

It had a bigger impact on expenses, and so they rose faster.

So I'm just wondering if that was something specific to the quarter, or in modeling ahead should we assume that assets go up X percent and it should have a similar impact?

I think maybe one of the things to focus on is the mix of international and US in that equation.

Because on the expense side, you are going to have distribution expenses related to both the international products, as well as the US products.

But, on the revenue side, it is essentially or mostly just the US products.

Dan Fannon, Jefferies & Co.

I guess to start out from our capital management perspective, should we view this as a normal quarter for buy-backs based on where you are thinking cash flow is going to come in or your cash is sitting today?

And then I guess an update on what you're potentially thinking about from acquisitions?

Right.

I guess if you look at this quarter, it is roughly in line with basically the prior four or five quarters, and I think that is a good average.

And then depending on market conditions, we will be opportunistic and flex that one way or the other.

In terms of acquisitions, we continue to look.

We continue to get presented opportunities around the world, and we continue to look.

So when it makes sense, we will do something.

Is there any specific product you are focused on?

I think you have talked about potentially alternatives a little bit more of a focus in terms of what you would look to add to your product suite.

Has anything else there changed?

No, that has not changed.

That's probably the focus.

Douglas Sipkin, Ticonderoga.

I just wanted to follow up, obviously there is a tremendous secular story on the international both equity and debt.

I mean have you guys put any color on just how much the sustained dollar weakness is maybe enhancing that?

And is that a risk pocket if that were to reverse at all just a little bit, or is it really just a driver of this secular trend with better growth dynamics?

Well, I think there is no question we are getting the benefit of the weak dollar and the trend towards investing more offshore.

The question of what happens when it goes the other way, and we have had it go the other way, and that will hurt performance in some funds and help others depending on hedging strategies.

And our Global Bond Fund is not -- it does not necessarily invest against the dollar all the time.

So if they feel like it's going too far, they have the flexibility to move the other way too.

So for us obviously, probably everything held equal, it is a net-net benefit.

I'm not sure what you can do as an entity to hedge yourself against that should it go the other way, but we have been through periods like that before, and it just means certain funds will be out of favor.

Great, and then just a follow-up.

I just read a couple of pieces talking about how internationally there are some new potential law changes that will provide more disclosure around commissions and things of that nature I think in Taiwan and maybe in the UK.

How are you guys thinking through that?

Will it have any impact on how you sell stuff, or is it just more a procedural and not really a change to how you guys are going to sell product?

I think those are all -- I would not just dismiss those kind of issues.

I think it just depends what shape and form.

You can have drastic moves like what was done in the India market where they did away with the front end sales charge, and whether or not that changes over time, I think time will tell.

So I think you have to work with the regulators and hopefully come up with some form of disclosure and transparency that works for everyone, but I don't think there is anything in those two markets that immediately would be a cause for concern for us right now.

Mark Irizarry, Goldman Sachs.

Greg, when you think about building the global to local business outside the US, I know there the market is probably pretty idiosyncratic.

But can you talk about where you are seeing the best share gains locally and where you are not gaining momentum?

What are some of the impediments to you gaining share there?

And then I have a follow-up.

Well, it is generally -- it will come down to your relative performance and just like in any market what is selling.

I think for us on the local Asset Manager side, we have picked up good share in India, and a lot of that has been around just developing, fixed income funds that have done well in that market.

Korea, on the other hand, has been a tough market, and even though the equity market has been up, equity flows in general there have not been very strong.

So it has been more institutional for us than retail.

But really that is the two that probably stand out in my mind as far as one or the other.

And a lot of the other ones whether it is China with the Joint venture, I mean it is still great potential, profitable, but it's probably a longer-term venture and one that you don't own more than 50%.

Great.

And then when you think about your strong capital position that you are in and you have got a decent amount of cash domiciled overseas, how do you think about making acquisitions to sort of bolster your market position in some of those local markets?

Well, I think the fact that we do have a lot of cash overseas and the fact that that is where we are growing gives us a bias towards -- if we're going to do an acquisition, all things being equal, it gives us a bias towards doing that internationally.

Yes, I think the other point is that we are in more of these markets than most firms that are looking to get into them.

So for us to acquire a firm and combine it, there is a strategic premium built into multiples for people that are trying to get in China, India markets that we have been in for a while.

So that kind of precludes us from paying that, and that's how we think about it as well.

I mean unless it was really an entirely new type of fund management that we did not have in that market, then you could rationalize doing it.

But you are not going to have a lot of opportunities to say I'm going to grow scale and put these two together and make it accretive with what some of the points of entry and what people are paying to get into them.

So I think that is a little bit of a constraint in a lot of markets where we have seen some deals done.

Jonathan Casteleyn, Susquehanna.

I was just wondering if there is any evidence around the municipal outflows you are seeing?

Are they being recaptured in other products within the complex?

Yes.

I mean we talked about that on the last call, and we said it was a little early, and probably we captured half and over this quarter we captured a third.

So we captured a little over $1 billion of what went out.

And was there a bend?

Would that $1 billion support some of the more robust equity flows you saw?

I mean where exactly is it going?

More of it is going into just the lower duration fixed income.

That was the only area with positive flows.

That is helpful.

Thanks.

And can you remind me if you gave us, say, forward tax guidance, the tax rate going forward?

Yes, the adjustment this quarter was because we changed estimates of 28.5% for the year.

I see, okay.

And then you guys have a pretty good track record of launching new products.

You got international equities and obviously global bonds.

I was just wondering on a go forward basis where you think organically if you were looking at new product suites where they might reside?

Really, I would say the area with the greatest opportunity would be around taxable asset allocation, real asset type funds, funds that will be a little bit more defensive in a rising rate environment.

That is really where we have built out our solutions capability and made a lot of hires in the last couple of years, and that is where we are going to see four or five new funds over the next year or so.

Bill Katz, Citigroup.

Just a follow-up, Greg.

I think the answer is it is getting better, but when you talk about the trends continuing in April around the global and hybrid being lumpy, is it that they have gotten better in March and again in April or that they are lumpy still in March and April?

I apologize.

But it was not exactly clear in your commentary.

No, I said that they are really -- there was nothing that stood out as being lumpy -- or I said that we don't comment on lumpy post-March 31 as far as our comments go.

And hybrid has obviously been very attractive, and I think it is more so far business as you go I mean as far as this quarter.

Markets are strong, and bond markets settle down a bit.

So that bodes well for, I think, any hybrid or equity funds.

Gotcha.

Okay.

Thank you very much for clearing that up.

Cynthia Mayer, Bank of America.

Apologies if you covered this already, but I think in the prerecorded commentary you talked about how investment gains have been up lately because you are reallocating capital investments and rebalancing corporate investments.

I am just wondering if you can give a little color on what changes you are making and why and whether those gains and losses will stay elevated for a few more quarters?

I think they were unusually high the last couple of quarters, I guess is the way to characterize them.

I'm not -- you know, it's kind of a real-time decision-making process.

It is hard to predict going forward.

But the changes we made were just on the corporate side more of a conservative approach, I guess, in terms of shorter duration.

And then on the product side, I think we have talked about this before.

We have a good discipline of after we make investment -- of monitoring our investment in CCAV and on then recycling it, for lack of a better word, to new products.

So that does crystallize gains from time to time.

Michael Kim, Sandler O'Neill.

Just a quick modeling question.

Any color on compensation expense looking ahead?

I assume you will have some benefit related to the payroll taxes coming down, but maybe the variable piece continues to move up.

So just what do you think the net impact of the various moving parts will be going forward?

Yes, I think where we are at now is we feel that that is a good level given the revenue levels.

But a large portion of it is a function of revenue.

We will have some upward pressure on that line for additional headcount probably in the next few quarters.

Not significant but a little bit.

You mentioned the benefit you will get from the taxes, and then depending on which way revenue goes directionally, that will change the line as well.

Craig Siegenthaler, Credit Suisse.

When you break up your flows and clients domiciled outside the US, what is the -- let's say what is the mix of sales between cross-border and then non-cross-border sales?

Do you know roughly what that is ballpark?

No, I'm not -- I don't have that and I don't want to -- you could call our Investor Relations.

They would be happy to give you that number.

Okay.

And just in terms of the cross-border market itself, maybe can you just talk about the one or two regions where you are seeing the majority of the flows coming from.

I know you break out the chart by geography in the past.

I'm just wondering which areas are most of the flows coming from?

Probably Europe and Italy specifically has been extremely strong.

And outside of that, I'm not --

Asia.

Asia in general.

Got it.

Hong Kong, Switzerland are some other markets that have been strong.

Okay.

Great.

I will follow up after the call.

At this time, there are no additional questions.

Please go ahead with any final remarks.

Well, thank you, everyone, for taking time on the call today, and we look forward to speaking next quarter.

Thank you.

Thank you for participating in the Franklin Resources second-quarter earnings conference call.

This concludes the conference for today.

You may all disconnect at this time.