富蘭克林資源 (BEN) 2014 Q1 法說會逐字稿

Good afternoon and welcome to Franklin Resources' earnings conference call for the quarter ended December 31, 2013.

My name is John, and I'll be your conference operator 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 Incorporated, 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 and Exchange Commission, including in the Risk Factors and MD&A sections of Franklin's most recent Form 10-K and 10-Q filings.

(Operator Instructions)

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

(Operator Instructions)

Now I'd like to turn the call over to Franklin Resources' CEO, Mr. Greg Johnson.

Mr. Johnson, you may begin.

Well, thank you.

Hello and welcome to the call this morning.

I'm joined by Ken Lewis, our CFO.

The first quarter was a strong start to this year as we, again, reached new heights for revenue, operating income and earnings per share.

Overall investment performance remained strong and we are pleased with the traction in equity and hybrid flows, which were the strongest since 2007.

I'd now like to open it up for your questions.

Luke Montgomery, Sanford Bernstein.

I'm a little surprised there was no special dividend in December so maybe just a comment on what went into that decision, whether it reflects us cash balance against constraints?

And I realize the Board's not scheduled to meet again until March so maybe you don't have total clarity but wondering, if not doing it in December means the likelihood of a special is pretty much off the table on, in 2014?

And then also you said in the pre-recorded remarks there's no change in your approach to capital management but just wondering what you might be thinking in terms of the mix of dividend and buybacks going forward?

Okay, sure.

This is Ken, I'll take that.

Thanks for the question.

Regarding the special, I think we looked back in the past specials a few years ago, a lot of it was driven by coming new tax regulations and wanted to take advantage of that.

That was clearly not on the table this year.

I don't think that it indicates any change at all in our capital management approach.

We continue to systematically reduce our share count over time.

We've continued to grow the dividend at a rapid pace.

It's increased every year since our first dividend in 1981.

We'll continue that, and I wouldn't say anything is off the table.

I think that the Board will consider -- will look at all -- the whole mix of our capital management, the share repurchases, the dividend growth.

And at that time, they'll see if they want to do a special dividend or not.

I wouldn't rule it out but I certainly don't think that it's going to be part of our recurring thing because that's why they're specials.

Okay, thanks.

Helpful.

And then just a ticky-tack one on the tax rate was a bit higher this quarter; you called out a mix shift in earnings and then some impact from non-controlling interests.

Maybe just a little color on, is that more revenue moving to the US than perhaps what you expect for the tax rate going forward and whether the drivers you said will continue or be, maybe even less favorable?

Yes, I think it's real hard and challenging for us in the beginning of the year to get an estimate of where the earning mix will be in the quarter.

But based on the first quarter, we did project that the earnings mix would be higher, probably accounted for about 0.5 point.

There were ins and outs as well but there was also a little bit of an increase in a couple states that put pressure on the rate, maybe about a 0.25%, 20 -- 25 basis points.

So that's why we are projecting 29.8% in that range, a little bit higher than it has been in the past year.

And I think that the question about the US earnings is true.

I think we will have some -- we're expecting to have some higher mix in the US and also that should bring some more cash into the US as well.

Craig Siegenthaler, Credit Suisse.

Can you talk about the regulatory changes that allowed you to start marketing products managed outside of China to Chinese insurance companies?

And just to be clear, I believe you're referring to business that's managed outside of your joint venture with C-Life, right?

That's correct.

That's just an opening up of the insurance companies that we actually have had good relationships with for years.

We have a joint venture with China Life and we've been very active in anticipating this opening up where the insurance companies can now use outside managers for their own assets.

We think that, that's -- could have a real nice impact for institutional flows out of there.

Does that have to go through a QDII structure or can you just go directly?

No, it can go directly.

Got it.

And then just as a follow-up on the operating margin, how high are the incremental margins when some of your largest funds that have very large-scale, like Templeton Global Bond, Franklin Income Asian Growth?

Well, I think the large funds do add to the scalability of the Company.

I think when you look at margins, one of the things, if you compare it maybe this quarter to the same quarter last year, which should rule out any variations through the seasonality.

One of the things that was unique this quarter was a lot of the increase was due to market.

And so you're not going to have that pressure you might have on the sales and distribution line that you'd have if the mix was more balanced between sales and market appreciation.

So I think that -- if you were just to compare this year versus last, that's probably the biggest driver of the margin expansion.

Got it.

But on the incremental margins for this product, is it materially higher?

I imagine it is versus the 38% range you're at now?

It's tough to say.

It depends on the fund itself, But certainly -- and it depends on where it's sold, where it's the vehicles registered.

But clearly, it's better for us to dial the big -- to have revenue come from the bigger funds, because the smaller funds and the local asset funds, they are kind of just growing and trying to reach that scale.

Bill Katz, Citi.

This is Steve Fullerton filling in for Bill.

First question, I just want if you guys can review the decision of flowing of services in Canada, just what drove the decision and what might be the impact to margins or flows?

Yes.

So that was, you're just looking at the market.

We probably -- at least a lot of the big banks had gone to that standardized managed -- administration fee.

The thinking there is that it provides more predictability in terms of the TDR rate.

You're always going to have a set expense ratio, and advisers typically like that; they don't like to be surprised.

The old method was the funds would pay expenses as they came up and so you might have a -- there would be a little lumpiness in their TDR rate from period to period.

So it's just an easier way to predict the TDR rates for the funds and compare them across the landscape in Canada.

It's very, it's unique to Canada.

We don't see that in any other jurisdiction, but it's just driven by market.

Great.

And then are you seeing a big pickup in retail alternatives?

So where's the opportunities; are there any early success to start the year here?

I'll take a stab; this is Ken.

We launched the K2 retail fund in November.

There's been a lot of interest in it.

These things take a while to get on platforms but it is now on 41 platforms.

I think the fund's about $300 million.

Performance has been great in that fund, and that's, so that's why it's getting a lot of interest.

But in terms of seeing significant flows, I think across the whole industry, we're not really seeing that yet.

Michael Carrier, Bank of America.

Greg, you hit on this in the pre-recorded call to some extent but just wanted to get your sense; there's been a lot of volatility on the EM side this month.

And if we think about 2013, those markets have underperformed.

You guys have still held up relatively well.

I just want to get your sense in terms of what you've been doing on the client-side to explain whether it's on the Templeton side or on the global fixed-income, how you guys are managing through some of this volatility?

And then if you look past, in the past, in terms of experiences where we've had this type of environment where you do have a pick-up in volatility, how do the clients typically react in your products?

And are there areas that they'll hide in temporarily before they move back into these riskier areas?

I think first of all, you've got to remember that most people that own emerging markets, own them with a relatively small percentage of their portfolio and understand that you have more volatility.

And a lot of people, a lot of investors also look for points when you have -- because when you have sell-offs in these markets, they tend to be a bit more dramatic and create nice price points to get in or to add more.

So I don't think you have a big education issue out there; I think we're out there talking about the growth.

The growth is slower but it's still double that of developing markets.

We think it'll be an excellent market for stock picking because the old way you looked at emerging markets and when you had capital going out, all of the currencies were under pressure.

They relied on outside capital.

Today you don't have that.

You can really differentiate between the countries so that's the story we are talking about now is that when you have these blanket sell-offs and everybody's saying -- let's invest in the developing markets, the entire market gets hit, And that's what we're seeing today.

And you can really distinguish and that's the same with Global Bond Fund as well, that all of these currencies will get hit but some of them are much healthier than even the developing markets.

And I think that's been the big change over the last decade or two and that's the story that we are talking about.

For us, it's still -- emerging markets are 5% of the overall assets.

And I think the other point I would make, obviously Global Bond include that much higher number, but the Templeton equity side, which has had -- continued to have excellent performance through this sell-off, is underweighted in that area right now.

And probably that's something they're looking at.

But they've been well-positioned for this.

So I don't think it's necessarily means that you're going to see a big pick-up in redemptions due to the more, due to the volatility, and it really hasn't been that great.

Yet, it could be much greater.

Okay.

That's helpful color.

And then Ken, maybe just, I think you noted this quarter, performance fees ticked up a bit.

Just maybe given some of the product launches and what you have in the AUM now versus historically, should we be seeing a higher level of these performance fees?

And then just remind us any seasonality that you typically experience?

Yes, sure.

I think particularly with the acquisition of K2, we're going to -- we'll be mentioning performance fees more than we have in the past.

The biggest quarter for them and I guess historically for us, too, is December; And I mentioned there about $22 million.

The next biggest for K2, anyway, is June and we also have a couple of other products that we would have performance fees in June, And then maybe a little bit in the quarter that ends March.

So in order of magnitude, last quarter probably the -- we would expect the biggest performance things fees than June and than March.

Michael Kim, Sandler O'Neill.

This is actually James Howley filling in for Michael this morning.

I appreciate some of the color you guys gave around some of the retail mix shift on the pre-recorded, but I wanted to focus in on the institutional business.

You say you're seeing any meaningful shifts in allocation trends in the RFPs that you've seen come across.

And can you update us on the level of the pipeline relative to past quarters and then maybe any color on the underlying mix there?

I'll start with I think the institutional business, as you can see from the numbers, had a very strong quarter with over $3 billion in net in-flows.

I think as far as the pipeline, I mean, I haven't heard or seen any real change around the RFPs.

I think for us, it continues to be the strength around global equities and continuing to leverage on the improvements in our performance on the Templeton side and then really the bond side as well.

You're still seeing surges there despite the headwinds of rising rates in the bond market.

So we haven't really seen -- I think we get a lot of other RFPs just in specific areas that people want exposure to, but the real drivers for us continue to be global equities and global bonds.

Great.

Thanks.

And then just turning to product development, obviously, interesting with the Asian Income Fund that you called out; it's going to be domiciled to Hong Kong.

But is there any way to size that opportunity at this point?

Well, I just think we feel like that market will continue to develop, both in liquidity and offerings, and also as investors get more sophisticated, that fixed-income is a nice way to lower risk in a portfolio.

And how quickly it evolves?

I think it's already -- we've seen decent flows into that and decent demand but we really don't try to guess how quickly or what the market is going to look like in a few years.

I think it, like many markets as they mature, there will be a greater demand for fixed-income from retail.

Eric Berg, RBC Capital Markets.

In recent quarters, you've gone to great lengths to highlight the risks other than interest rates that you manage inside your large fixed-income funds.

You've had your senior leaders on the call and talked about credit risk and currency risk and perhaps of the risks other than interest rates.

Yet the outflows were substantial in fixed-income.

Does this surprise you and disappoint you?

Or, should we think of this as to be expected notwithstanding the efforts you have made to highlight the non-interest rate-related risks?

I think that's, it's always a challenge.

And I think it's also a challenge when you don't really have the visibility of the underlying portfolio.

And you take the case for us, Europe has been the big driver of a lot of the global bond net flows, and that's been the area where we've seen the heaviest outflows.

And I think our feeling is that the weighting of the underlying investor was probably higher to that category and less to equities and the strength of certainly, European equities for Europeans.

A lot of people, we've seen it in the Exchange activity as well, had the confidence to get back into equities and they may have had a high weighting to areas like Global Bond, which may have been somewhat of a holding area for them and moved back into equities on the strength of Europe over the last year.

We've certainly seen that in the Exchange activity.

The point is, when you look at a portfolio, right or wrong, an unconstrained bond fund, a global bond fund is still going to be put in the fixed-income category.

And if somebody looks at that and says, well, we have a weighting of X%, maybe we ought to take it down a little bit; they take down everything a little bit.

I think that's what happened and in Europe, especially, where it's more gatekeeper/consultant-type driven for portfolio allocations, I think it's just what we, again, what we've seen talking to the big banks is that they've just lowered their exposure to fixed-income and that takes everything down with it.

Ken Worthington, JPMorgan.

Wanted to follow-up on MiFID and impact it may have on RDR.

I guess first of all, just basically with RDR being like fully in effect this January 1, have you seen in places where RDR is in effect and where you have sales; does it matter?

Has it been having an effect on either the composition or the sales that you have in those RDR regions?

I think it's probably a little early for us to -- and the hard part is because of the volatility in the marketplace, especially in our two strong areas in Europe which would be Asian Growth and Global Bond.

It's hard to draw, really, any conclusions on what the effect of RDR and the new share classes are having on that.

I -- talking to our distributors, I think they feel that it shouldn't have a big impact.

But I think it certainly is a big change and could have some impact.

But I think it's, just again, too early in the month with the kind of volatility that we've seen, especially for our two strongest areas to draw any conclusions right now.

Okay.

And then assuming we don't know if it matters or not, MiFID II seems to be incompatible with RDR.

Any views on just RDR get overwritten by MiFID?

It seems like MiFID enhances disclosure but no ban on a third-party inducements.

Just any opinion on what happens on the regulatory front given conflicting regulations?

I don't really have a strong opinion one way.

I think those are things that should be worked out.

I don't think you're going to have two conflicting major rules out there.

And a lot of work still to be done on that.

So I'm hopeful that we'll come out with one view.

Robert Lee, KBW.

Quick question maybe going back to capital management.

In the past, you guys have been pretty opportunistic of putting some term debt on the balance sheet and using the proceeds to, for the most part, either buy back stock or fund the special dividend over time.

And if I look at today most of your existing term debt -- I know you have some coming due in 2015 but it's termed out, businesses continue to grow, maybe generating a bit more earnings in the US that are expected to going forward.

So what's your willingness to wrap tight to maybe contain incrementally add some incremental term debt?

And maybe take advantage of still cheap funding and use that to add to the share repurchase over the near term?

It's certainly a tool that we could use, and I don't think that there's any particular resistance to doing that.

On the other hand, there's no plans to do it either.

And we've done it in the past, so I think if there's opportunistic approach to share repurchases and if we see tremendous opportunity, that's certainly something that we would consider to do.

Because I think that we could withstand -- we wouldn't put the rate in jeopardy, I don't think.

And I think there's interest rates are still low, as you mentioned, so we would consider it.

And maybe if we think of the US/non-US split in terms of cash generation, again, you suggested that it's increasing somewhat in the US relative to outside the US.

How should we, if we're looking ahead to this year and we're trying to think about cash at -- that's available to fund repurchases, or dividends, are we starting to get to the point where it's 60% coming from the US or is this still kind of in that 50/50 range?

How should we think of that?

I think it could be -- well, I would expect it to be a little bit the US cash earnings rate to be a little bit higher than it was last year.

I think part of that is due to some changes in the tax rate.

We saw the tax rate go up a little bit and I think we'll see a little bit more cash in the US, but I don't think it will get to the 60% number that you were talking about.

Okay.

Great.

And one last question, maybe Greg, for you.

I'm just curious about muni flows.

You did touch on it in the prepared remarks, but are you -- how confident do you feel that it's been a big source of outflows last year but is that, you're really turning the corner?

And not just maybe some seasonality but that maybe you're setting up for a possible sustained improvement, maybe even turning it into inflows?

Maybe that's something you feel pretty confident about?

I don't know if I feel confident at this stage.

I think it's still just a headline -- headwinds that the market faces.

And to me, people and investors need to differentiate what's happening in the muni market.

And overall, the municipal bond market is much healthier than it was a few years ago.

Yet the markets and spreads and everything are much wider because of the specific risks with certain bonds, but the states are much healthier, the surpluses in many states have been created.

The budgets look a lot better.

I think that message is one that we are doing our best to get out in the marketplace.

And then at some point, the -- you have higher taxes this year so all of those, with the relative after-tax yields, just make them look attractive.

How quickly investors come back?

We saw a major drop in the redemption rate quarter-over-quarter.

We saw an improvement in net flow rate but we didn't see -- we saw continued drop in sales.

So I guess that's good news from some at least hanging in there but we need to attract new money in.

And I think, I've said this before on fixed-income, when things stabilize in the markets and people look at how attractive these yields are on an after-yield basis, I think you will get investors moving back faster, but it's hard to say.

I'm just, like you, I'm hopeful it happens this year.

But I think there is some headwinds just on the perception of rates and getting through tapering and what that means.

Roger Freeman, Barclays.

Just back on EM, I think one of your earlier responses you mentioned education efforts.

I'm wondering versus a couple years ago when we saw some volatility in EM, would you say investor advisor base understands the product somewhat or a lot better than at that time?

Well, I think they do.

And most of our assets are through an advisor that's sitting down with that client and I think, again, if you look at the historic volatility, it hasn't been a major drop.

It's been a, from a relative performance, it's a huge differential but it hasn't been a big loss of money for most investors at this stage.

So I think that's helpful in keeping assets as well.

But I just think we've got to go back to the long-term fundamentals of growth versus developing markets and again, how you can differentiate areas around the globe where there's opportunities.

So to me, the long-term investor needs exposure to markets that are growing twice as fast.

And I think they do have the understanding that these are more volatile and you will get, hopefully they're a smaller percentage of the investor's portfolio.

Okay, that's helpful.

Thanks.

And then I may have missed any comments about this, but just wondering how you're thinking about positioning the domestic equity product this year?

Are there any particular marketing pushes?

You've had a couple in the last few years.

I think we're pleased with the progress of the positioning and our equity net flows were $3.6 billion this quarter, which is very strong for the firm.

We have been consistent with our message on equities really -- that's been the core of our marketing campaign over the last four years, five years.

And the work that we've done to get these positioned into 401(k) platforms, I think, is paying off.

So there's not a whole lot of change in the -- in our story.

We've also been positioning the portfolios for rising rates.

And that's been part of our marketing campaign where we've talked about how to position portfolios in a rising rate environment and give them alternatives.

And we've seen the strength in many different areas: global total return, a lot of new hybrid funds that, because of those marketing efforts, I think there's an awareness of other types of fixed-income alternatives.

Brennan Hawken, UBS.

Just a quick question on capital management here.

And I guess I should say another question.

I just -- we'd appreciate it if you guys could help me understand, it seems like your payout ratio is below what you've indicated in the past as a target.

And from the Q, it looks like cash continues to build in the US now; it's like $2.4 billion so I guess, can you help me understand why not step up the buybacks here?

So why not -- BEN has -- your stock has trail peers.

So maybe help understand the decision behind that?

I think when you look at what's been going on in the market in the last two quarters and I think last quarter, the S&P was up around over 10%.

We're typically -- because we are opportunistic so our share activity will typically be lower in rising markets like that.

That doesn't change at all our philosophy.

I think that in markets that are -- that we've experienced last couple weeks, we would look for opportunities to buy more stock.

So that's -- if you just look at our historical experience, I think you'll see that.

And so we are committed to reducing the share count through repurchase activity and growing the dividend, and I think there's no change to that.

Now in terms of this, the payout ratio, I think what we saw is, with the rolling graph that we do as a rolling 12-months, so the special dividend rolled off that, so that's why you're seeing that drop-down.

But that's certainly something that Management and the Board will look at going forward and depending on what happens with share repurchases and stuff, we'll take some action and we'll consider that, to do something different.

Okay.

Thanks for that.

And then on mutual series and especially given the fact that it certainly looks like outlook for returns in the US versus rest of world looks good.

And we're starting to see some increased flow activity in equities.

What can you guys do to turn around the performance of mutual series and maybe help us understand what's driven the underperformance versus the peer group?

And how you can get that turned around in order to capitalize on this better environment for equities here?

I think first of all, mutual series is kind of hard to put into a stay clean category for comparison because historically, the big US equity funds do have exposure to Europe.

And as we've said on previous calls, that -- while Europe has been a very good market, the only one it hasn't outperformed has been the US.

So when you compare that, those funds the S&P 500, that exposure will continue to have a drag.

They also tend to have a little bit higher cash and that's been used very effectively in building long-term returns over the past.

And mutual series lags in rising markets.

I think for January, you'll probably see a different story.

If the markets continue to be under pressure, mutual series and those returns will start to rise to the top.

And I think it is a different investor.

We spent a lot of time talking about the long-term returns and lower than market risk that mutual series offers.

And I think if you get an investor that doesn't like as much volatility, that's the type of investor that will go to mutual series.

So it's really just the combination of the types of markets that we've had.

If Europe continues to perform well, that will bode well for how mutual series funds do.

And if the US markets just continue to sell off, that will help relative performance as well.

So it -- I think when we look at attribution there and stock picking, they continue to do a very good job of that and that's the message that we want to get out there.

Marc Irizarry, Goldman Sachs.

Greg, just a quick question.

You gave some nice color on muni flows and growth versus growth sales versus redemptions.

But any color from the channel in terms of where that money is going?

Are you keeping it in within the Franklin family?

Well, I think we've certainly seen much higher level of Exchanges.

Some of that into the intermediate funds but I think it's hard again -- when we sell through advisors and some of that they may be moving it into shorter-term cash.

But I -- and other types of unconstrained bond funds, certainly that's where we've seen more Exchange activity or hybrid funds that have exposure to equities as well as some yield.

I think those are the areas that continue to be strong.

And I think that's an interesting trend, really, even in a rising rate environment that you saw the strength of hybrid funds.

And usually the higher income funds would still be under pressure like any fixed-income in that environment yet I think that's where a lot of the rotation is occurring.

It's not just taking a fixed-income investor and just moving into equities or into zero money market balances;

It's moving into hybrid assets.

It's still giving some of that equity uplift but have a decent current yield on them as well.

So I think that's a notable short-term trend is the strength of hybrid on the Exchange activity.

We have no further questions at this time.

Okay.

Well, thank you, everybody for participating on the call and we look forward to speaking next quarter.

Thank you.

Thank you, ladies and gentlemen.

This concludes today's conference.

Thank you for participating.

You may now disconnect.