富蘭克林資源 (BEN) 2015 Q3 法說會逐字稿

Good morning, and welcome to Franklin Resources earnings conference call for the quarter ended June 30, 2015.

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 and Exchange 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 Risk Factors and MD&A sections of Franklin's most recent Form 10-K and 10-Q filings.

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

Hello and thank you for joining Ken Lewis, our CFO, and me today to discuss our results.

Flows were clearly a challenge this quarter due to a confluence of market factors, but we still delivered solid financial results and capital management. We hope you found our prepared remarks and 10-Q disclosures helpful.

And we are happy to discuss any questions that you have.

(Operator Instructions)

Luke Montgomery, Bernstein Research.

Good morning guys. Just on the fund performance in the equity and hybrid AUM, there's a pretty large negative swing in the percentage of assets in the top half of the peer group on a three-year basis. Maybe you could touch on what's been driving relative performance and how much of that was from -- what dropped off the three-year figure versus current performance challenges.

I think it's really mostly around the Franklin income fund, which represents about 30% of that category. It historically is always going to be -- have a higher yield, more interest rate risk than many in its category. It also had a heavy energy exposure in there, which has obviously created some under performance, as well as it historically owns utilities. That number creeping into the three-year is really is the main driver; there's no other areas that turned around as far as the three-year. In fact, some of the other equity areas, mutual series, as well as Franklin Equity in the US are doing very well. That gets covered up somewhat by the $90-billion size of the Franklin fund.

Okay, thank you. And then I was hoping maybe you could update us on your thoughts around liquidity and the emerging market portfolios. Michael Hasenstab is taking cash from 15% to 30% over the last year, something like that. Has he become more concerned about the liquidity of his positions, vis-a-vis outflows or forced redemptions? Or is there something in the environment he sees opportunistically?

Yes, I think he'd be better suited to address that directly. I haven't heard anything on concerns from liquidity or --I think they been at a pretty high cash level for over a year now. We can get back to you on that one, but I really don't have an answer speaking for Michael.

Okay. Fair enough. Thank you very much.

Ken Worthington, JPMorgan.

Hi, good afternoon. First on Mark Mobius, he's been the face of Templeton Equity for a number of years. Can you talk about his role at Templeton in marketing versus his role at Templeton in investing in recent years? And then maybe what happens to Templeton as it moves beyond Mark, given his more recent, more narrow role? Thank you.

I think first of all, Mark came to Templeton to start up the emerging markets group and he's really been the face of emerging markets. And certainly that gets blurred with the overall image and brand when he's frequently in the media speaking on macro trends and geopolitical events. I think the role for Mark, he is still the named manager on many of the funds. He has 100 people in his group. Many of those people have been with him 20 years, and some of the changes with naming certain PMs or changing portfolio managers is just part of the normal succession. And that's really what the market wants to see. But there's no plans for Mark's retirement or succession today, and he's very much involved in stock picking and portfolio management.

Great. And then just a follow-up on Money in Motion and global equity, can you talk about the level of RFPs that you are seeing? Maybe how you're performing in the finals there, and anything on pipeline for, again institutional side of global equity. Thank you.

Yes, I think global equity, as we've said before, the headwinds of not hedging I think has been challenging. Many institutions probably understand that better than, say, a typical retail investor. I think the opportunity is still very much there. Just as an aside, this quarter we did see a pickup in global equity redemptions, but I think about $2.5 billion to $3 billion of that was institutional accounts that didn't relate to Templeton Global Equity. A lot of that was some of our local asset management managers. In particular, there was one in Australia, one in Canada, and not related to Templeton. So I think the pipeline and searches continue to be strong. I think our relative shorter-term numbers are okay; they're not great, so I wouldn't put that in the near-term big opportunity for RFPs. But because of how strong the long-term records and strength of, I think, relationships and presence in the institutional market place, it is certainly in our top five of opportunities for categories.

Thank you.

Bill Katz, Citigroup.

Thank you, good afternoon, everybody. Just big picture for you guys, looking where the stock is, what's done, looking at your flows and your sales trends and your net sales trends and seeing a bunch of your competitor striking out on doing some small but interesting transactions of late, could you talk a little bit about how you think about capital management at this point in time and what steps you might do to try and bolster the flow story here? That seems like it faces some tough headwinds still?

Yes, I think there is headwinds, clearly, and one of the highlights a part of our M&A strategy and certainly the introduction of K2 and how we can expand our presence in the liquid alt space. And that's been a real positive story, I think, for the firm and a first for us to bring the 40 Act fund and the Use it Fund. And in the last quarter having about $600 million in net inflows going into that new product category, so that's something we plan on expanding into long, short credit and possibly some other sleeves as well. It really validates what we felt about taking that institutional capability and introducing it broadly in the retail marketplace.

M&A, I think again, we're always looking, we're always open. If we think there is an opportunity out there that we can get momentum and traction in our distribution channel, we are going to do that. And as markets get more volatile and turn down, hopefully there could be more opportunities for us to do just that.

And then Ken, maybe one for yourself. I think on the pre-recorded call, you had mentioned a little bit of the seasonal bump in the tech side, but also you're focused on clamping down on expenses, just given the backdrop. How do we think about that in terms of maybe the baseline view for costs going into the calendar third quarter, your fiscal year end? And then how you're thinking about margins on a more structural basis?

Sure, I covered a couple of specific line items on the prepared remarks, just to give you some idea of some known trends. But I think overall, we are expecting a flattish, slightly up next quarter. Because I guess my comment on compensation implies that that line item is either flat to slightly down next quarter. That has such a heavy weighting on the other expenses, so that's the short-term view. The long-term view, we are right in the middle of where we're starting to do our budget process, so it's a little early for me to give you some definitive guidance on expenses going into next year. But I think it's safe to say that our overall goal will be to keep expenses flat year over year.

Okay, thank you.

Michael Kim, Sandler O'Neill.

First, last quarter I guess one of the headwinds you talked about for global fixed income was European investors reallocating back in favor of local equities. Just given more recent trends for the euro, wondering what shifts you may be seeing on that front.

I think that's still very much in place. I think the other one that may be also contributing is just the first move in rates going up. And even though Global Bond has a negative duration in that fund, and actually performed extremely well for that reason, that rates went up and it did very well on a relative basis, it's still categorized as fixed income. And I think there's still people that regardless -- and that's been our big push in distribution and marketing and our communications is to make sure that investors do look at this fund differently. But certainly that fear of rates and being over-exposed to fixed income and being called global fixed income, I think, also contributes. But it was probably -- a lot of people, as we said before, had a real fear of sovereign debt in their countries defaulting or the euro breaking up before, and that was a safe harbor for a larger portion of their portfolio. And then it's probably just a matter of reducing some of that. And just the relative returns, that the equity has been much stronger than global fixed, even though it's had okay relative performance, the absolute numbers are not going to get anyone very excited to jump into that fund right now.

Got it. And then second question, despite your scale and diversification, it still seems like flow concentration is somewhat of an issue. Just wondering how you think about concentration risk and are their mechanisms to maybe push wholesalers to focus on other products that might be better positioned to generate growth?

I think we try to do that. I think this is a Company, if you have $300 billion and exposed to what the dollar is doing, that's a headwind that's somewhat difficult to manage. Also a Company that has a lot of exposure in Asia, as well as local operations serving that market in a period that's difficult. I think that is challenging. I think that the opportunities, as I mentioned, I think the liquid alts is one that really shows how when we get our distribution channel behind something we can really move. The other opportunity, in the global equity area, despite some of the other headwinds, the mutual shares, mutual discovery fund, has hedged and has a very strong track record, one, three, and five. That's something we could potentially leverage into the institutional space, which we haven't done in the past. We think that's a new opportunity for us. But the US distribution wholesalers, that's very much a focus in the global equities, to tell what somewhat has been lost for a large fund. But that really is a focus for us today. I think we do try to move around and not concentrate on one, and that's why you've seen new categories emerge over each few years for us.

Okay. That's helpful. Thank you for taking my question.

Dan Fannon, Jefferies.

Thank you. Looking at the numbers and how you commented earlier, gross sales a slowdown this quarter, was really a big factor. Do you think that is more some of the performance issues you've cited, or was there any particular region that really saw softness or change in terms of gross sales? Or put differently is, are your wholesalers and distributors playing more defense and defend versus actually selling in this current environment?

It's always hard to quantify exactly. I think if you look back historically in our industry, when you have uncertainty in the marketplace, it's interesting. You don't generally pick up redemptions right away. Sales get impacted, because nobody wants to put money to work right before Greece exits. Greece was really overhanging the quarter as an uncertainty, and a big uncertainty for the market. I think naturally, you get less activity. And even in that period of headlines that faced many of our flagship products with Puerto Rico hanging over some of the muni markets, Ukraine issue with Global Bonds, those are going to keep people from moving money in when that's in the headline. But it's interesting, redemptions were actually down 5% quarter over quarter. The only area where redemptions picked up for us is in the hybrid category, and that was just because of the uncertainty of the high-yield bond market. But all of the other categories were down in a period where sales were down, and again, that just, I think, means there's a lot of uncertainty and potential volatility and hopefully, that will come back.

Clearly, the two big areas, and it just shows you how fast things can move. We started the quarter, the income fund had very strong absolute and relative numbers. And then as soon as oil moved dramatically, the reverse directions, that had an impact on a big portion of the high yield and suddenly it went back. So those are the kind of things that I think can move pretty quickly on events in the market. Again, it's consistent with how we sell that fund. Hopefully, we will see those -- funds like the income fund get back to positive flows.

Great, and then just as a follow-up, any further comments that now some time has passed on the DOL and how their proposal and how that may or may not impact how you guys are thinking about your business, either from a defensive or potentially providing some opportunities for market-share growth?

Yes, I think we are, like everyone, engaged and submitted a letter with our comments. I think we are all in favor of anything that improves transparency and performance in a fund -- or in a retirement product. I think the concerns that most in the industry have raised around the detail that was proposed around suitability and moving towards certain types of investments that are okay versus others. And I think the big one is just eliminating certain types of fees that -- service fees and for smaller plans. That ultimately, we think, is disruptive to the industry and smaller plans do require higher costs. And in many cases, by eliminating those types of fees, you eliminate the role of advice. We don't think that's a good outcome. And if you look at the UK situation with RDR, the net effect so far has been a less advice driven to the smaller end of the market. I think that's an outcome that when a regulator looks at just costs, they don't really look at the unintended consequences. And I think that's the part that we are pushing. The net net, we don't think it's going to have a major impact on our business, but we do think that anything that affects our key partner in the advisor on that side of the market could have an negative impact for us if it doesn't come out right.

Thank you.

Michael Carrier, Bank of America.

Thank you. Maybe this one is for Ken. Just on the buyback side, the pace picked up, but I think giving where the valuation is, you potentially can do more. I just want to get an update. When you think about the cash that you have on the balance sheet, what's in the US and then probably more importantly what you want to keep for operating capital or what you want to keep as a cushion on the balance sheet. Just how much firepower do you have? I just wanted to get your updated thoughts on the pace.

Sure, I think an important point to keep in mind is what is the actual volume that we can purchase on a daily basis. As I mentioned, we increased the open-market purchases 20%, but that was despite an 11% decrease in viable volume. That's one of the factors. In terms of the cash, I think still that 50% of earnings is as good as good a proclamation of US cash flow, and so that's what we've been targeting. And then in addition to that, we probably in the US have about $1 billion of excess cash, or we consider excess.

Okay. That's helpful. And then just as a follow-up, it's just two minor things from the comments on the other call. One is were there any material performance fees? It sounds like it was pretty modest. And then just on the institutional side, I think you mentioned just a handful of redemptions. I just wanted to see if there was anything significant there in terms of lumpy and just the outlook, given that that's the one area where it seemed like the redemptions were a little bit higher.

I'll take the performance fee question. This quarter it was minimal, and compared to last quarter, I think in the second quarter it may be $9 million, and this quarter it was like $1 million. Going forward it shouldn't be that significant going forward. Most of them will come from K2, but in addition, we do have private equity group Darby that is a little bit more difficult to predict. As I mentioned in a previous call, last year's performance fee number was exceptionally high. Could you repeat your second one?

The institutional flows, really nothing, I called out the reason why we saw an increase in global equity redemption of about $2.5 billion. Most of those were $400 million to $500 million mandates spread around different of our local asset-level managers. We did have one, an $875-million account into Australia that would fall under global equities, but outside of that, nothing really to call out other than there wasn't a lot of big wins funding during the quarter and it did create our first negative quarter. But I think will be back on track in that in the quarters ahead.

Okay, thanks a lot.

Chris Harris, Wells Fargo.

Thank you, guys. Another follow-up on the performance numbers, if I look at the equity in hybrid one-year number, you are at 27%. I know we talked about income fund really having a large impact on that. Have you guys done math? If you backed income out, what does that relative performance number look like?

Well, I don't have it exactly in front of me. I think the other is Templeton probably is lagging just slightly for the one year as well. And that probably contributed, with the -- again, their exposure to energy and some of the big funds. But I know certainly mutual series and Franklin, as I mentioned, are both doing well for the one-year period.

Okay. Then a follow-up on the capital options, you guys have periodically done special dividends. I'm wondering now with the stock trading as cheaply as it is and we are rolling into the next fiscal year not too far from now, if the preference would be more on buybacks as opposed to potentially a special.

I think at this point in time, we are definitely finding some opportunities in the stock buybacks, so I do think that's a reasonable assumption. But having said that, the end of the year it's a Board decision that they'll make probably in the December timeframe.

Okay. Thank you.

Brennan Hawken, UBS.

Good afternoon. I would just like to circle back to a component of Luke's question and the three-year equity performance figure. It had been running roughly 70% for the last several quarters and took a pretty substantial drop. Can you help us understand the mechanics of that? Was there something on the back end that specifically dropped off? And given some of the more granular components that you can see, is there any reason to believe that this drop might be short term in nature?

This is Ken. I just want to direct your attention to the Q on I think it's page 31, where we have peer group comparisons performance for the one, three, five, ten years. And then we breakout global international equity as well United States, so the Franklin income fund would be in the United States category. And you can see that for the three years, global international is at 68%. I don't know if that's helpful.

Okay. And then, that's fine. Maybe I can follow-up afterwards on that. And then when you think about the expense base and if we think about this flow, if this flow pressure sustains and you might need to -- you might want to decide you want to rethink an expense program or reducing expenses, about how much of the expense base is discretionary? Can you give us a sense for whether there are projects that can be cut back if necessary and how much flexibility you've got there? That would be great.

I think there's a fair amount of flexibility. As I mentioned, we are having those discussions right now. The focus for us is that there are new things, new projects, new initiatives that we want to fund next year. And so, and we want to keep expenses relatively flat year over year. So the challenge for us is going to be, how do we fund those and find the expense savings other ways, so that's what we're going through. Our preliminary thoughts are there is some flexibility there, and that's our objective for next year.

Okay. No willingness at this stage to quantify that?

No.

Great, thank you. Next quarter we will have some more insight for you.

Robert Lee, KBW.

Thank you for taking my questions. I wanted to talk a little bit more about your alternatives push. Obviously, you've talked about K2 and the success -- early success with the liquid alt products there. But could you talk a little bit more broadly -- I know -- I think you reorganized the institutional part of your business to focus around your various alternative strategies. Are there -- can you maybe highlight, are there strategies you have now that you think are below the radar screen, but you think have good growth potential or maybe strategies you're not in that you think you'd like to add over the next year or two? Maybe just update us on where things stand.

I think we have made a lot of progress really building out the solutions group and trying to leverage capabilities across our firm, so it's not a one-off department making their own calls. And I think the early -- obviously, success on the K2 side, but the global allocation funds, which have had very strong early performance and multi-asset funds that are more tactical in nature for us for us, those seem to be getting traction on top of strong performance. So those would be the areas, along with the expansion of our retirement plan offerings and maturity-based target funds with glide paths and things that we didn't have in the past. I think they just get -- the offering gets stronger and stronger as we leverage the other capabilities. Part of it is tying in our global macro group and getting the world abroad long-term economic views combined with our more tactical market views. We are getting some significant wins and hopefully one that's a little early to talk about that we're probably going to talk about next quarter. But it's a new relationship with a major global institution and a new market, and it's because of that capability, that group.

And maybe this is part of that, I was just curious, could you talk a little bit about, you mentioned the target payout fund that you rolled out. I know others have tried variations of this over the years with pretty limited success. Can you maybe talk about how yours differ from that? Really I'm curious how you think about bringing those to market. Is it about getting those embedded in a 401(k) plan or is it outside of that? What is the strategy with those?

Yes, it's embedded in that, and we are seeing it's a more refined approach than we've had in the past. The trend, I think, of the record-keeper having 100% of their own proprietary, we are starting to see that shift a little bit. So our strategy is to have those target dates available, as well as go after sleeves within the existing proprietary target dates where we think the addition of possibly a Global Bond could be attractive to their own proprietary mix. Those are the two paths that we are going on. I don't think -- it's hard when you are not a record-keeper, to get traction in the target date. But it's just, again, we are seeing more opportunities and more pieces opening up there. But I don't think it's ever going to be a huge blockbuster part of our business.

Okay. Maybe lastly, I appreciate your patience. A couple of peers have gone down the next shares path, and obviously there's been a lot of talk in the industry about them competing, things haven't been approved yet. But just from your perspective, some of your peers have said, gee, we want to be prepared in case the world goes that way or do they see assets moving that way? How do you think of if you start to see assets move into different structures or just generally, how you think about the need to compete against exchange-traded funds, more products, more broadly?

Yes, I think it's a good -- obviously an important question and one that we spent a lot of time talking about. I think our intention is to enter the marketplace with smart beta ETF and rule-based ETFs. Now whether that means you are going to go take your existing open-end funds and clone them, I don't think we're at that point. I think we see limitations in that structure, and we don't see real demand for the types of clients that are going to be attracted to those types of funds. For us, having a lower cost beta alternative to put into our -- even into our existing products, into high net worth market and Fiduciary Trust, into our tactical asset allocation funds, makes -- there's enough demand there for us to think about having a lower cost smart beta option.

Does that compete directly with passive? A little bit, but it's not going to change; the battle is really active versus passive, it's not ETF versus open. And we think that volatility rising rates are good things for our business, and that this liquidity-driven six-year, everything rises up marketplace will change in a more vital tile market. And the active manager can take advantage of volatility, and I think that's been challenging in the past. That I think is a real core challenge that we hopefully are addressing.

Do you feel that you can build that from scratch, build the smart beta ETF capability and infrastructure, or would that be on a white-label type of basis?

No, I think we can build it. I think we are looking at acquisitions like many, as well. We probably will end up doing both in some, but we don't want to wait to try. We have one ETF out there and it needs some friends, it needs some more to really show that you're committed to the marketplace. We do think there is certainly a place in the market for that -- for a smart beta-type fund.

Great, thank you, Greg. I appreciate you taking my questions.

Alex Blostein, Goldman Sachs.

Great, thank you. Good afternoon. Question for you guys on the Global Bond platform and just looking at the relative performance, obviously, your numbers look quite strong. But I'm more curious about how this product is actually being sold and the success you guys had in the product for many years. (Inaudible) go into it, think of the product more on a relative basis or an absolute basis, because I think on the absolute basis, the main fund is down about 3% to 4% on a one-year basis. I'm just curious to see how the sales process had worked and how it could impact the redemptions.

It's a great question, and one that I think we were always -- everybody is always concerned when you raise so much money in that type of fund and on the back of it, I think it was probably the best-performing mutual fund out of any category for a decade, the 10% average annual in a period where there wasn't much return in the equity markets. So it's hard to manage that type of expectation in the marketplace. We try to do our best, but I think there's people that are going to think, well I am going to get equity-like returns or I'm going to get 10% a year at a much lower risk. We've tried to position it a little bit differently that we think it's more like an alternative category that's going to be less affected by moves and rates and what the market does, and to try and lower the expectation around returns. And I think that the real game-changer for how the market perceives that fund is going to be when somebody holds longer duration assets and rates go up. And then that relative number is going to look very attractive for people that are looking for bond-like alternatives. And that's really been the growth in liquid alts, is taking this -- the money that's not earning much and has a lot of risk and putting it in new categories.

So we think it is a new category and it's not positioned properly in fixed income, even though that's what it buys. And it does have a little bit more volatility because of its nature, as well. Those are all, I think, marketing issues. The market is better understanding, our clients are better understanding, but with that dramatic growth quickly, I think some people feel like that relative -- as the old saying goes, you can't eat relative performance. You need absolute performance to really get new share, and I think that's what hopefully we're going to have.

Right, thank you so much.

Craig Siegenthaler, Credit Suisse.

Thank you, guys. Just coming back to the ETF topic here, what's your thoughts behind launching a fully transparent ETF fund in parallel with some of your more successful products like Global Bond and Franklin Income? I'm just wondering is transparency really an issue for some of your bigger funds that should be fixed in hybrid products.

I think transparency is always an issue for large funds, that -- especially like an income fund that can go just about anywhere. That would be an issue for -- I know it's an issue even for our clients today with an open-end fund when we try to disclose within 30 days or whatever the number, that's always an issue. So real-time transparency is an issue for the bigger funds. And we just don't think the demand from the clients is really there, asking for us to take the income fund and putting it in that kind of format. And I think the limitations on what you can do around derivatives would preclude us from doing a Global Bond fund in that category anyway. It would be a very different animal than our [40-F] fund.

Just as my follow-up, because I heard you mention smart beta. Aren't the barriers to entry rising in the smart beta segment and ETFs overall? Meaning like if you look at all of the available white spaces out there for potential product, pretty much most of them are really covered at this point.

Smart beta, you come up with your own rules and apply them to an index. I think that it's a matter of who has the better rules around that smart beta product. I think the index is the sleeves, the styles, all of that is probably -- ETF represents just about anything you want to invest in. For smart beta, it is really applying your set of rules on a specific index and will that be attractive? I think you're right. It's getting more crowded. It's going to be harder to differentiate. At the end of the day, it's only going to be attractive to a smaller percentage versus the person who just wants to buy the straight pass -- straight index.

Great, thank you for taking my questions.

Eric Berg, RBC Capital Markets.

Thank you very much and good morning to you in California. My question again concerns fixed income, and I have a narrow one and a general one. I've been surprised by the fact that the flows, while simply not encouraging, they're essentially -- they're negative on the global side and essentially flat on the domestic side. They hung in there in the face of rising interest rates and of widening credit spreads. The fact that the business has not done worse than it has, what does that tell us about fixed income investing in general and whether it is changing?

I think the perception or the market view that suddenly rates go up and everybody moves into another category, people buy bonds for a reason; it lowers the volatility in a portfolio. They accept markets going up and down, and when rates go up, it attracts new buyers. It is a different part of your portfolio or it's a different person. Take somebody that's nearing retirement; they are going to have a higher portion in bonds. They are not going to look or another place to move and be tactical with the short-term rise in rates. Now I wouldn't say the issue is completely -- that there isn't an issue of rising rates, because I do think that the latest hasn't been a very dramatic move. It has for someone that 10-year treasury over the period, but for certainly higher yield bonds and things, it hasn't been a big move. It's been more of a credit concern around energy and that side of the equation.

So I think you make a good point, that the fixed income investor is there for a reason; they accept risk. For example, somebody buying munis buys munis, and they like to own tax-free munis and they like to own them. Even when rates go up, they may buy more. I think that's a dynamic that is less understood, certainly in the media, when they just view rates moving up and everybody trying to move out. I don't think that's the case.

My follow-up question, do you perceive a difference between behavior in your global and international fixed income business versus domestic, in terms of how investors at the retailer institutions or thinking about the asset class?

I think it's hard to gauge that, because I think one, a big part of those assets are -- based in -- have been sold in Europe. They had been sold through the gatekeepers and big financial institutions. So we are a little bit more removed from hearing exactly from the client on what is the expectation. I think clearly the -- to some, they are a -- like buying a typical bond with interest-rate risk, and to others, an alternative. And that's why we're trying make sure that they're viewed as something different.

Thank you.

Brian Bedell, Deutsche Bank.

Thank you. Good morning, folks. Maybe I will start with Greg. Maybe continuing along the lines of the sales (inaudible). I think it's fairy broad-based across property. I guess if you think near term, obviously we had a headwind in June with Greece and then coming to China. But if you think near term, if we don't have those uncertainties, do you expect that to bounce back up near term? Or is coming into the Fed going to be a more cyclical headwind as long as we're in that dynamic? And then longer term, to what extent do you think there's a secular component of this? Do you think that can be more broadly addressed through product innovation or addition to sales-force capacity?

What was the first part of the question?

Was the near-term coming into the calendar third quarter, maybe even the fourth quarter.

I think it's hard. I think the China volatility and the concern in Asia is a fresh concern and one that affects a lot of, obviously, places like emerging markets. For us, the Asia Growth Fund, which has been another big driver product. So that's more near term I think headwind. I think the secular notion of -- there's always shifts in this industry, and I think when you mentioned wholesaling and sales force, and how the traditional model is changing, I think that affects everything as far as product development and how we go about wholesaling to the traditional advisors and how their model of less front-end sales charges and more fee-based, all of that requires a different approach with more of an investment in the consultant side of the business, the gate keeper, and doing more through technology where you can get to more and be more effective. And that's really, I think, the big shift in distribution that we are working on.

I was going to say, you are working on that. Do you feel a lot of low-hanging fruit there for you, or is that something that you think is more challenging in terms of improving that sales dynamic?

I think it's not going to change overnight, but it is a challenge and opportunity. And I think that there's -- how the market is shifting, we are going to enter new markets that we haven't been in the past. I think that will be the big change, where we can do more through technology, through solutions to go at assets and clients that we haven't had before. I think that's the part that really with this shift, is the near-term opportunity.

Okay, great. And then just one for Ken. As you're going through the budgeting process, maybe for Greg also, but ave you thought about strategically outsourcing some of the back office? I know officially you haven't wanted to do that. We finally saw T Rowe do some of that outsourcing to Bank of New York. Is that something that you review and you think you could do, or what's prohibiting you from doing that?

I think that is something that is an ongoing discussion, and it's not just a universal outsource everything or not. There's variations of that theme, and we do some of it today. To the extent that the products get more complex and it's not something that we can do in a scalable way, we will outsource it. That said, we do have an incredible scalable infrastructure, and that is what we think is a competitive strength. And so it's really -- when we talk about outsourcing, it's really a high hurdle that a provider has to meet for it to make both economic sense and sense from a customer-service level. So it's a little bit both, but I wouldn't expect to see a major shift in the mix of business -- in the mix of support services that we outsource versus today.

And then going into next year, the flat expense comment, I presume that means there's not a substantial amount of upgrades to the system that would make it challenging.

No, well, I think that that -- I don't know that that is an accurate statement. I feel like the question was outsource or insource, and whether or not it is economical to invest in your systems or not. And I think for the most part, we do -- we will be investing in systems that I mentioned in my prerecorded remarks. And there's a number of projects in the pipeline to do that. And that is done, you can be assured with an objective assessment of whether it is better to outsource or do it inside.

Okay, great, thanks for taking the question.

Gregory Warren, Morningstar.

Thank you, guys. We've talked about this bid in the past about the relationship of where your global international flows are relative to what we see in the industry. I was just taking a look at your top five flow generators over the last year here, and we've got a weird mix of four-star funds and some two-in-one stars. And really the only good solid performer over a consistent period has been the emerging market small cap. I'm just wondering, in your view, is it a matter of performance or is it a matter of meeting better sales efforts in place? How does that really line up with what we're talking about as far as budgets going forward?

Well I think it, for consistency, in certainly the last five years, on the Templeton side with the dollar and their strategy of not hedging in the volatility, that has created -- that is our core global equity offering. In the retail Templeton funds, that has been a huge headwind and put a lot of pressure on performance. You could pick the right stocks; if you're not hedged against your home currency, it's not going to matter. You know as well as I do over the long term that shouldn't matter. I think it was Morningstar, somebody did a study that showed it didn't matter. But it's mattered over the shorter period. You take a difference of a mutual discovery, which has been the more consistent performer and it has that strategy of hedging the euro. And it made that much of a difference.

For us, the flagship, [the foreign] the growth, the world, they have been the story as far as the challenge in the last three to five years of competing on a performance level in the retail channel. And it's not a matter of focus or a matter of we are still telling that story, but it's hard when you have that shorter, longer-term, whatever you want to call it, performance issue. And that's why I said earlier in the call mutual discovery will be the one. A smaller cap emerging markets fund is not going to appeal to everybody. That's going to be a smaller channel, so -- and you have capacity constraints. You could fill that quickly without a lot of effort. It's really the flagship ones that you focus on.

Maybe going back to something that Bill Katz touched on a bit earlier, we've seen Janus and Legg both in the past month here doing some smaller in Australia. And the way I've looked at them is they're offsetting some flow problems they're having in different parts of their businesses. Just wondering, you guys haven't done a deal in going on three years now. Is there still interest in some of those markets? What has kept you potentially adding some other pieces to the business, especially with so much capital overseas?

I think as you mentioned that maybe we were early to the game, but we also did small acquisitions in the UK and Australia a few years ago. And there is nothing from stopping us from doing M&A, but we're not going to do an acquisition just to do an acquisition's sake either. It's a combination of having -- fitting our investment philosophies, fitting our corporate culture, fitting and then solving a product issue. Frankly, we don't think we have a lot of gaps to sell on the product side. If anything, it might be that that's been driving the lack of activity.

That actually answered my next question. Thank you for taking my questions. Have a good one.

Doug Sipkin, Susquehanna.

Thank you, good morning or good afternoon, depending on where you are. My questions have actually been asked and answered. Thanks a lot.

Betsy Graseck, Morgan Stanley.

Hi, thank you. You discussed it a little bit earlier in the call, but I did just want to dig in a little bit on some of the comments you made in the prepared remarks around the new retirement pay-off funds for DC that are meant to optimize the draw-down phase. Was there anything to that, aside from what you had mentioned earlier on this live call? Or could you dig in a little bit more to what your plans are there?

No, there's really nothing that -- I think some turning to the product that we did, and that was a new introduction. But there's nothing to call out as far as a real ne.w bell and whistle on it

Okay. Thank you.

Bill Katz, Citigroup.

Just a couple of follow-ups. Ken, you mentioned that you are targeting more flat expense growth for next year. I know you're still in the early days, but is that adjusting for distribution dynamics or does that also assume for that line item as well?

I think what you're referring to -- well, let me ask you what you're referring to when you say distribution dynamics. I don't want to assume.

Well, if I look at your sales distribution marketing line.

Right, it is our best guess to that. I think the caveat that I would like to make on all expense guidance or whatever guidance I have is that the underlying assumption that I use is that we are not assuming any market appreciation or depreciation. And of course, in those particular lines, that can have a very big effect. But having said that, and if you look back over last one, two, three, four, five quarters, the net of the sales distribution revenue and sales distribution expense has been relatively consistent and we don't expect that to change.

That's helpful. And then just want to go back to the ETF versus ETMF discussion. I was paying close attention. I want to make sure I wasn't getting caught up in the vernacular. It sounds like you're not just in the ETMF, but rather going after the smart beta. If that is right, A, could you confirm that, and B, could you explain why you are not interested in ETMS?

I wouldn't say we're not interested. I said we're still looking at it. We're still -- I think what we -- our position is that we don't think cloning existing open-end funds in that structure at this stage makes a lot of sense for us, where limitations on how those funds can be run and just demand from the marketplace. We are going to continue to monitor that. I think our feeling is that we have a need for a lower cost smart beta option, even internally versus how well we can sell through the advisor channel. That would be our first step, whether we acquire that, which is something we are actively looking at the marketplace, and also working down the path of building it organically. That is something we are doing.

I would just add that I think what's driving our thought processes here is where is the demand for these products, and then where can we add value. I think that is going to be the focus of our product development in this area. What areas can we add value, given our investment expertise?

Just to press that one more second, you mentioned that how you run the funds would also be a gating factor for you. Could you explain exactly what, as you look at, obviously it's early does and nothings even out there quite yet, but how that mechanically is the issue for you? I am curious. That's a new one. I haven't heard that one yet.

There's issues just around derivatives in the ETF versus the other, and I think it's more that if we feel like the marketplace that there is some limitation or some advantage that's enough to bring that fund, then that is something we are going to consider. I don't think we are ruling it out one way or another. We just don't think there's demand, but there is an limitations on an ETF versus an open-end fund and how it's run.

Okay. Just one last one. Thank you for your patience today on the call. There's been some dialogue down in DC about possible repatriation of cash. I guess with your position, you maybe you have more insight than most. Could you give us an update of what you might be hearing and any timelines along that?

Obviously, it's early. I think we are encouraged that there is a bipartisan effort for some sort form of reform that's tied to the tax bill with the immediate funding of that, whether it's a one-off or combined to a larger tax change, all of those are in the works right now. There's plenty of people that would say, well, that can't happen at this time in an election cycle, and some that would say that it's just too easy to fund the highway bill in a significant way over time to have -- to tie it to that politically, that it can work. But you do have serious people on both sides of the aisle now working towards making that happen. And I think that's a big change from where we were say six months ago.

Great. Thank you for taking all of my questions.

Patrick Davitt, Autonomous.

Hey, thank you. Just a quick follow up on Bill's question. Could you update us on how much of the non-US cash would be available to distribute if there were some change on the repatriation?

The first question would have to -- we would have to see the details of the proposal. What would be in the best interest of shareholders, we will have to decide that once we see the details of the proposal. But assuming that it did make sense, we could probably bring back anywhere from $5 billion to $6 billion.

Thank you.

Mr. Johnson, there are no further questions at this time.

Okay, thank you everybody for participating on the call. We look forward to speaking next quarter. Thank you.

Thank you. That does conclude today's teleconference. You may disconnect your lines at this time. And have a wonderful day. We thank you for your participation today.