富蘭克林資源 (BEN) 2016 Q4 法說會逐字稿

Good morning and welcome to Franklin Resources' earnings conference call for the quarter and fiscal year ended September 30, 2016. Please note that the financial results to be presented in this commentary are preliminary.

Statements made in this commentary 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 and Exchange Commission, including in the risk factors and MD&A section of Franklin Templeton's most recent Form 10-K and Form 10-Q filings.

Good morning. My name is Brenda, and I will be your operator today.

(Operator Instructions)

As a reminder, this conference is being recorded. And at this time I would like to turn the call over to Franklin Resources' Chairman and CEO, Mr. Greg Johnson. Mr. Johnson, you may begin.

Hello and thank you for joining us this morning. In addition to Ken Lewis and myself, we have Tom Regner with us today, and Tom is the Head of our US Advisory Services, responsible for both the retail and institutional business in the US.

FY16 was challenging in many respects, as performance headwinds led to elevated outflows, but expense management and capital return were clearly positives. I'm encouraged by improving performance trends with several flagship funds.

As I mentioned in my comments this morning, Franklin Income Fund was ranked in the top decile of its peer group on a one-year basis, and we saw improvements in all major asset classes over all primary time frames this quarter. Furthermore, the Global Bond Fund has had significant outperformance in the month of October, month to date, returning over 5% through the 25, beating its benchmark by over 800 basis points and its peer group by more than 600 basis points.

I would like to now open it up for your questions. Thank you.

Michael Carrier, Bank of America

All right, thanks guys. Greg, maybe first for you, just on the Department of Labor -- you mentioned on the prerecorded call that you guys in the industry are focused on some strategies around the DOL. Then you said two potential kind of paths.

I just wanted to see if you could provide more color on the likely options. And then any update on your exposure in the retirement channel, and maybe how this uncertainty has been weighing on flows. So whether it's the sales or the pickup in redemptions.

I think it's tough to really estimate what effect it could have on sales, but I think it clearly has been very disruptive to the advisors business right now in sorting out what is going to happen. I think from the last call that we continue to make a lot of progress, a lot of work being done on getting ready for April.

I think the good news is that there seems -- our concern has always been that it's not workable to come out with a different pricing structure for every broker-dealer out there, and we seem to be narrowing those options down to hopefully two.

Then you saw the recent announcement around a clean share class or superclass or whatever you want to call them, and having more of a stripped-down version available at some point in the future. That could be an option as well, where you have the pricing handled at the broker-dealer level.

All of that I think is happening. The question about what effect will it have, I think the net effect -- there were some surveys done, one said that you will have 10% to 15% less advisors out there. I think that some would retire. The transition is going to be very difficult to go to the new model. So I think that, that can be disruptive as well.

I just think overall our sense is once we get past this you'll get to a more normalized environment, but right now it is very disruptive, of course, for the advisors. And I will ask Tom Regner, who's been involved more day-to-day, if he has anything to add there.

We're spending an awful lot of time internally getting prepared for (inaudible)

Tom, it's tough to hear you. I don't know if maybe the mic is not close by.

Sorry. Can you hear me now?

Yes, that's great. Thank you.

All right, thank you. So we're spending a lot of time getting ready for next April. On the retail side, we're doing a lot of training and kicking off some internal training for both the internal team and the external sales team because we're moving towards an advisory business, which is really selling funds within a portfolio context, which is different than we have and our competitors have been doing in the past.

So we're getting ready as fast as we can for that change.

Okay. Got it. Just as a follow up, I guess just on the cash.

You guys have been active this year with buybacks in the dividend, but for the non-US cash, if we do get a repatriation holiday next year or the year after -- and this is, I guess, for Greg or Ken -- what would be the plan or the options with that cash? And then, if not, how have you thought about ways that you can maybe create some value with that non-US cash given that you don't tend to get much credit for it sitting outside the US?

I guess the way I would answer this question is it's hard to say exactly what we would do because we would have to see what the new rules are if and when they come out. I'd just point back to what we did the last time, which was probably over 10 years ago now, where we repatriated the cash and then, I think, just paid a special dividend.

So those are all the options, but we would definitely try to take advantage of whatever was in the best interest of shareholders based on the law.

And I would just add how we'd think about it -- I think we all would maybe agree now that the probability is higher as we get past the election on having some form of repatriation. And you look at that offshore cash and you could discount it -- it would be probably a 20% haircut or so if you take it back to the US.

So I think as far as how the board and management thinks about it is if you have an opportunity offshore, its 20% cheaper than one onshore. So we continue to look at anything that would be accretive and additive to our lineup offshore first.

Okay. Thanks a lot.

Dan Fannon, Jefferies

Thanks. Good morning. I guess, Greg, you highlighted the variable annuity outflows that have been occurring and are, I guess, slated to occur over the next couple of quarters. Can you talk a bit about why that is occurring again, just to refresh us, and if it is DOL-related, and then ultimately what is the AUM left in those buckets that maybe longer-term might be at risk?

I will start, and again, I have Tom -- because we figured those questions would come up today with DOL and specifically VA. And we have a very strong business in that area sub-advising as well as separate funds that are for the annuity business.

And really many of the large players that we grew I think at a high of about $70 billion in assets in that category -- many of the big names have gotten out of that business, and as they wind down the assets, many are going to in-house and passive or low-volatility strategies. And we're trying to capture as much of that transition as possible, but it has put a large block of business in transition at risk.

I think for next quarter, we are estimating another $2.6 billion in outflows and today we are at $35 billion approximately in assets that are remaining. And Tom, if you have anything to add on the business itself?

Greg covered what's going on well. What we're doing in response is we have established dedicated insurance solutions group within our overall solutions portfolio group. And we're developing portfolios that are -- that have less basis risk.

One of the issues is with the insurance companies that there was a high basis risk in some of their underlying portfolios for the VA contracts. So we are working on reducing that. I think you'll see next four or five days one of the top five insurance companies by sales is going to be announcing a new VA living benefit that's backed by a customized Franklin Templeton portfolio.

So we're working very hard to make sure that we stay relevant with the firms that are staying in the business.

And as of quarter end, we had $46 billion remaining in VA assets.

Great. Just to follow-up, I guess maybe Tom for you on the DOL -- it seems as if the industry is facing a gross sales issue today because of the uncertainty.

I guess as you kind of -- we get closer to the implementation date, are you guys assuming, or as you talk to advisors, is there going to be a step function higher in terms of assets in motion, whether we see redemptions pick up -- or obviously gross sales could pick up, as well -- but where are we, do you think, in this transition phase for advisor behavior at this point?

I don't think that you're going to see a pickup in redemptions. There's some awfully attractive living benefits out there historically which frankly hurts some of the insurance companies.

I think what you going to see, though, is initially there's going to be a slowdown in sales within the VA business because the commissions are coming down. There's no question about that. There's going to be shorter surrender times.

So the VA business is going to be in a state of flux, but we know from working with our clients that -- we work with the top five in the industry -- that they're not standing still, right? So they are coming out and will be coming out with new products to stay relevant in the new -- with the new DOL legislation.

I guess my comment was just on mutual fund sales not on the VA. So just generally in terms of advisor behavior broadly, not just with VAs.

I don't know that there is going to be -- look, people still need to invest. They still need to retire. They still need to provide for college education.

As Greg mentioned, it is going to be difficult for some advisers because a lot of the business is going advisory. I think the number is you need to have about $30 million as an advisor of assets under management to have a viable business. So it's going to be hard for some people to stay in business if they don't have a sizable book.

There will be some transition in the advisors themselves, but there's still a very, very strong demand. That's not changing.

I just think it's still early to forecast. There's a lot of people that would argue that the amount of money in motion it could slow down because of tax considerations, too, that if you had taxable gains in one, you can't take it and move it to another. And this is obviously outside of the retirement world.

And then how the incentives line up post this change, as well, and that could affect behavior on how assets move, if some just stay old versus new. It just won't all move at once.

Okay. Thank you.

Ken Worthington, JPMorgan

Hello, good morning. Greg, I think earlier this year you called out that you thought the institutional business had a lot of promise, I think particularly when it came to FX exposure management.

Each quarter we tend to hear about these big, big outflows, and it seems like there is broader-based institutional redemptions. So I guess the question is, help us understand what's going on in the institutional side of the business and maybe characterize how you see the outlook.

I think it's been, as you know, I mean challenging with Templeton and a deep-value philosophy. That cycle -- the timing in the market has been working against getting new mandates. So the good news is that we've seen things switching -- moving in the right direction there for performance. So hopefully that -- that historically has been our area where we had the strongest institutional business and still have the largest assets, so it's been more defense than offense as far as wins.

I think the opportunities we're seeing in local debt around the globe especially in Asia -- we continue to work hard on those and have -- I think a lot of opportunities that are still there in the pipeline. We've gotten a few but we still think that will be the strongest area of growth. Tom, if you want to add anything?

What we're seeing in the US is a re-risking of portfolios. If you look at the public pension plans, they're severely under-funded. They need higher return, so they're starting to look at portfolios or asset classes that provide a high risk adjusted return.

So I think that speaks well for some of the capabilities we have on a global basis in fixed income. And as Greg pointed out, with value coming back, that speaks well for the Templeton group, too. They have to re-risk those portfolios, and we want to participate.

Great. And then I think just to follow-up on Mike's question earlier on repatriation, how much time do you think it will take to evaluate the chances of repatriation or a repatriation holiday after elections? Is this something that you think is sort of apparent pretty quickly, or is this going to take two or three years?

And if it does take two or three years, as long as the chances of a repatriation holiday aren't zero, do you think it's just best to sit on the cash and wait, or do you start to get frustrated and make it a priority to maybe better utilize the cash?

This is Ken. As Greg mentioned, we are always looking for opportunities to grow the business, and that won't change internationally. Greg mentioned that all things being equal, an acquisition is cheaper if we use offshore cash.

It's not that we're sitting and we're not doing anything else waiting for repatriation, so I do want to make that clear. We are looking for opportunities, so that's one of the strategic advantages of having all that cash, that we will be able to move on something if the opportunity presented itself.

Regarding the timeline for repatriation, there's been a lot of momentum, and we feel like it's gaining momentum. Congress is working on the issue. We feel like when they come back in session January something, they might be talking about it.

Our advisors remind us all the time that four out of the last five presidents enacted tax reform by August of their first year. So we are optimistic about it, but we're also looking for other ways to use that cash.

Great. Thank you very much.

William Katz, Citigroup

Okay, thanks so much. Ken, maybe one for you to get started. You gave some guidance on expenses for FY17 over FY16, so thank you for that. Within that construct, you also talked a little bit about some investments pending pickup on the tech line.

Stepping back more broadly, if we were to replicate 2017 -- 2016-2017 we were sort of defined by choppy markets and some sluggish organic growth. How much expense flexibility do you have at this point? I guess the question I'm really asking is, are you sort of reaching the point now where you get a little more limited on expenses, absent eating some maybe that revenue-generating part of the Company?

I think there's still flexibility on the expense -- on all the expenses. But having said that, I do think we're in a phase where those opportunities take longer to execute. They tend to be more linked with strategic initiatives, so we continue to look at all that. Is the business the right size, et cetera? Are we leveraging technology the best way we can?

So I do think there's opportunities, but I don't think there's a lot of quick hits that will move the dial.

Okay. And then Greg, sort of curious -- been sort of a merger of equals between Janus and Henderson, businesses that I think you go up against in various geographies around the world. Does that transaction in and of itself or the implication of that transaction -- does that shift the mindset a little bit, and could you maybe weave that in with the allocation within repatriation between acquisition versus buyback versus dividends?

No. I don't think it changes the mindset. I think in that case there was clear benefits for the two firms to get into two different markets and leverage the distribution of each side to do that.

I think the consensus out there of consolidation -- does this create a wave of consolidation? Obviously this is a slower growth business. It's a more mature business, and one way to gain efficiencies is through consolidation. So I think companies, as I've said before, are going to be much more open to looking at that avenue to create value.

Okay. Thank you.

Alex Blostein, Goldman Sachs

Hello, good morning. Thank you. First a follow up on the evolution of the distribution channel and the potential implications for you guys. I heard you on the prepared remarks around potentially the launch in your share class -- and that's something you guys talked about in the past, as well -- but any thoughts around the implications for management fees for you specifically in the industry broadly as we go through this adjustment in the distribution channel?

I think as far as the preparation and effect -- management fees is something that again -- this is an extremely competitive business. We all see the battle versus passive every day, so the pressure on management fees is there regardless of DOL or not.

I think the question around your product lineup is something that maybe Ken touched on a little bit on just where do we see potential savings and streamlining and what does DOL -- I think probably for us pushes us further down that path of trying to simplify the lineup and rationalize funds that may -- in a post DOL world may not fit neatly into more of an advisory model versus the traditional brokerage model. Those are the debates we're having internally now, and that could create some efficiencies.

But I think from a cost side, this is a business that every basis point is going to matter, and I think the good news on some outcomes of the DOL is you're going to have a lower front-end sales charge. That will help with some of your relative rankings, and then as we said in our announcement that MorningStar is now -- on the A shares is not going to use the maximum charge because most of it is done at net asset value. And that's going to make us more competitive where we see a lot of our funds will increase as star ratings.

Those are very positive outcomes, and I think our concern of having 35 share classes at least now we're -- we feel like we'll only have to add a few.

Got it. And then my second question along similar lines, historically you guys were very successful keeping more assets within the Franklin fund family in the broker channel partially because of a waved commission once a client already paid that commission on one fund moving to another.

As you migrate over to the advisory channel, can you help us understand how that could impact asset retention, and maybe just from a historical perspective kind of what sort of the percentages of the gross sales that has come from folks switching from one fund to another?

I don't have that number. I think any time you go to more of the advisor-type gatekeeper-driven model the pros and cons -- you can get significant assets quickly and you can lose significant assets quickly. I think that's the net effect.

I think the advantage of the transition -- it's like a funnel where there's going to be less funds available in the new model. But if you have a large asset the probability of your fund being included, even in a period of underperformance -- it's highly unlikely that it's going to be eliminated from that lineup. So I think size matters quite a bit as far as continuing to get shelf space in the new model.

But it is a higher risk from a retention standpoint than your traditional brokerage model where it's more a one-on-one relationship. Here it's more of a gatekeeper, consultant-driven, more institutional-type relationship. And we've transitioned our model to, I think, adapt to that and have more people with consulting experience at that point of contact with the home offices.

Great. Thank you very much.

Ken Hill, Barclays

Hello, good morning. I just wanted to follow-up on something from earlier in the call. You mentioned from looking at the opportunities, you continue to do that, but that's kind of pretty consistent with how you have talked about that in past quarters. I'm just curious how you're evaluating some of those opportunities and these related to the cash you guys have, and maybe what criteria or metrics you might look at to base a decision on to essentially grow something versus look to M&A to jumpstart some activity there?

I think in previous calls, we've talked about the sheer volume of things that we look at every year. That continues. I would say the criteria that we use is -- a lot of its qualitative. We focus on the institutional process, institutionalized investment process -- can it be repeatable, key man risk, all of that, because it is a people business -- and cultural fit.

That quickly eliminates a lot of perspectives. That really hasn't changed. Greg touched on it, some of the criterias that we might look at. No change to what we've said in the past.

Okay. Thanks for taking my question.

Patrick Davitt, Autonomous Research

Hello, good morning. Thanks. First I just wanted to clarify the $46 billion of VA, is that before or after the $7.4 billion of outflow you talked about on the prerecorded call?

That's before.

Okay. The other question I have is on first the liquidity rule and then broader regulatory concerns. One, do you have any initial thoughts on the expense associated with compliance with the rule and/or potential performance impacts on your funds that invest in more liquid assets? And more broadly, does your expense guidance for 2017 include any associated expense for becoming compliant with that rule?

I think it's probably early to answer any costs associated with the rule. I think it hasn't been out very long. You have two years to comply, is my understanding.

I think it's a much better rule than what was first discussed as far as something that appears to be workable. For us, and I don't think we have any major concerns at this stage. I mean, we're still studying it, but our first reaction was that it is -- would not create issues on the portfolio management side for any of our funds.

But, again, we're studying the rule like most right now. But I think it's a better outcome than what was first discussed. And I think liquidity is something that we manage very carefully with our boards, and I feel like that's one of the most important parts of our business is managing liquidity, especially in open-end 1940 Act type funds.

Thank you.

Robert Lee, KBW

Great, thank you. Thanks for taking my questions. Just going back to the DOL -- and this maybe feels like beating a dead horse a little bit -- but you talk a lot about the impact on the fund business, but if there's going to be a movement to advisory presumably that should increase demand for the SMA business.

That's not a part of the business that I think in the past you've talked about much. Can you maybe update us on how you feel your position may be with -- in the SMA part of the retail world, and if that's a place where you feel like maybe you ought to need to make some changes or some investment?

This is Tom. That's good observation. We've actually added to the SMA business. It had been kind of, if you will, a quiet part of the retail business, but we've added to it over the last two years.

We've moved it into our private wealth division because we think that there is a big role for that in the high net worth part of our business, and we're working on adding some ESG screens to that part of the business, as well, because we're seeing that as kind of an increasing demand in a high net worth business

So good observation. We're building it up.

Okay. And then, also sticking with the DOL, you hear different things from different advisors and different managers -- I mean, obviously you're going to have to have a level fee setting and if you're doing a [BIK] and all that, but one of the things that seems to -- people have different opinions on is what happens to things like platform fees? Setting aside revenue share. What's your current thought?

Do you think that in many cases, distributors won't be able to charge platform fees, or -- some argue it's going to go up. Others argue it's going to go away, so what do you what you kind of hear?

All of the above. I think that's reality. It's almost daily on some of the different opinions on how do you have a level platform fee across different groups that have different prospectuses with different levels and different asset levels, and how do you include or exclude ETFs that wouldn't have that ability.

There's all kinds of issues that are still being worked through between -- and that's why to sit and say it could cost us more, it could cost us less -- I would answer, yes because I'm not really sure at this stage. We are working through it. Tom, do you have anything?

Well, to Greg's point, we have one very large client that said they're not going to take any revenue sharing post-April in any new assets they put on the books. We have another large client who said, no, they're going to continue to look at revenue shares as part of their business. So we'll see how it plays out.

All right. Great. If I could, just maybe one more quick question. On the ETF business, you've been investing in it. You touched on I think in the prerecorded call about another place you want to continue to invest.

So how are you -- from the outside looking in, how are you thinking about what would ultimately -- what's kind of the landmarks we should look for success in that? Do you feel like, gee, this is -- we think we can really scale this quickly, or that it's kind of a slow build, and it's hopefully five plus years is when you'll see an impact? How are you thinking about whether you're going to be successful or not over the next couple of years?

I think it is a slow build. I think part of it was just getting in the business, understanding the business, and getting the right people that can operate a very different product in a very different skill set than what we traditionally have.

I think that has been a -- we would call that a success of having a very strong team in place, and it's really building from here, and recognizing any new funds or ETFs that we rollout big time. So it's really about building shelf space awareness. I think we continue to do that, and Tom if you want to add any thoughts?

Yes. To Greg's point, we've added significantly to the ETF distribution team and they're working with our 100 or 90 to 100 wholesalers to leverage up them as subject matter experts. So that's on the building-brand part of the business, but we're quite excited to be able to have -- and you'll hear that we're going to be building out more of our strategic beta platform, because we want an advisor to be able to come to Franklin Templeton and we want to be able to build a portfolio that is either fully active or is partially strategic beta, partially fully active.

We frankly are agnostic. We want them, though, to be able to come to us to build out a fully-featured, fully-diversified portfolio. So, as it were, we're all in on that initiative.

And expanding it outside the US, too, is part of the initiative, which will take time.

Great. Thanks for taking my questions.

Brennan Hawken, UBS

Good morning. Thanks for taking the questions. First, on DOL, is the idea that you've got some upward expense pressure next year on technology -- is that a function of the indications of working with your distribution partners, and as they make those changes to level pricing and some of the adjustments that you need to make to your own systems and therefore that piece is somewhat inflexible?

I think it is not so much that. It's other projects and initiatives that are under way, particularly in the part of the business that does things like fund accounting, pricing, and all that. That's what we're trying to invest in technology to make sure we can scale that going forward and support all of the product demands that are out there in the industry.

So it's more of that and less really of the DOL. We think -- we have a lot of share classes, and we think that we can do that with just incremental spend but not too much.

Thanks for that. Appreciate it must be pretty hard to manage all the distribution partners and all the different approaches, but as you have those discussions, and it seems firms are becoming more and more clear in what it is that their policies are here in recent times, do you have an update to the amount of AUM that you think is exposed to this rule? And as you're having discussions with distribution partners, are you seeing any of those partners actually have an impact in the current iterations and in the prep for the current rule on assets beyond just retirement accounts? Thanks a lot.

I'll just start by saying this rule puts all assets in a different place because, again I think I've said this before, but the thought that you could run one pricing structure under retirement and then have the other business at a different pricing structure creates all kinds of problems, as well. So I think many are just thinking about moving to one standard at some point.

Again, there's different philosophies on that, different faces, so it's hard to say x-percent, but I'd start by saying all of it -- at some point, this will -- is a game-changer for the traditional way funds are priced. And Tom?

Yes, I think you've seen Merrill Lynch, JPMorgan, I think today Commonwealth came out, and they said, look, we're going to treat the non-retirement business exactly like we're treating the retirement business because it's just too complicated to do something different. We'll see if that trend continues, but it's likely to, if you think about it, especially dealing with the same customer with retirement assets and then their non-retirement assets and trying to explain to them why there's this different pricing.

Okay. And then any update to the AUM exposed?

No. Actually I don't. To Greg's point, we're going towards an environment where I think it's all exposed. There's going to be very, very little difference between retirement assets and non-retirement assets just because it's just going to be difficult -- and I think someone asked the question, perhaps it was you, about the technology associated with trying to keep track of all of this -- it's much more difficult for the broker-dealers than it is for Franklin Templeton.

So when they look at the cost of the administration of two different buckets of business, I think they're coming to the conclusion that we're going to have one bucket of business and leave it at that.

Okay. That's helpful. I appreciate how difficult it is given how things are moving, but appreciate the color.

Glenn Schorr, Evercore ISI

Hello this is John Dunn in for Glenn. One more on repatriation. Let's say it did happen. About how much would you say is spoken for and how much is deployable at this point?

Well, I think that -- just call it $8 billion or so. Maybe $6 billion is international or outside the US. Whether that's deployable, that remains to be seen, but the bulk of it should be.

Got you. And then just one more on cash. With the amount you guys have, I would think that 100% payout could go on for a long time. Is that fair characterization, and what might your willingness to do that be?

Well, keep in mind that we do -- we paid out 100% of consolidated net income, but part of that is earned outside the United States. So is that sustainable indefinitely? I don't think it is sustainable indefinitely, but we certainly have flexibility in terms of the ability to raise capital or just other things.

Thanks very much.

Brian Bedell, Deutsche Bank

Great, thanks very much. Thanks for all the color on the Department of Labor. That's really good. Maybe just another one on that.

Obviously a lot of confusion -- we're hearing that as well. Just as you think from a timeframe perspective, do you sense that things will be pretty well buttoned down by year end and advisors will be in a position to sort of make decisions where they want to allocate and all the firms will be everything lined up, even if we do have two different ends or two different spectrums -- say, by year end, or do you think this will go on for a while? And then, Tom, also maybe just what you're hearing from the wholesalers about the broad desire for advisors to move to pass their products from active?

Let's start with the last part of the question first. As you move to an advisory business model, you're charging 1.5%. You want to make sure that the underlying investment fees are, if you will, cost-effective, right?

As Greg has pointed out, there's a heightened interest in management expenses, and that's going to continue. That's one of the reasons that we launched our strategic beta lineup because we want to be able to play in more of an active space within the retail business.

What we're seeing from advisors is frankly there's a lot of confusion because a lot of advisors have built a commission-based business, and that's where you're selling a product to a client. Now they're being looked at as having to or being required to build portfolios. That's a very different business model. That's a very different skill set.

So we're working -- we're doing extensive training internally to be able to work with advisors to help them with that. And as Greg pointed out, we started building out our investment platform team, gosh, seven or eight years ago because the platforms that, if you will, the research gate-keepers become even more important, more powerful going forward. So we're working on it from both ends.

And I do know -- just attending summer meetings with our clients that they've been working on this for quite some time. They are not standing still, and I think many of them -- and you're starting to see the announcements -- are coming out with, here's what we're going to do come April. So a lot of them have started to make those decisions already.

Great. Maybe then just to -- go ahead, I'm sorry.

Sorry?

(inaudible) Okay, sure. Yes, just another question on the expenses. Ken, you mentioned on the fund accounting side that you're reinvesting in that area. Have you looked at that versus outsourcing it, and are you committed to non-outsourcing it at this stage?

We have definitely looked at that, and we probably every five or six years look at it again and again. And the conclusion historically has been the same, and currently right now we think it makes more sense to do it ourselves.

I would say the biggest determinant of that is our existing cost structure. As you know, we have extensive operations and low cost jurisdictions. And so when we compare the cost of doing it ourselves to what it would cost for outsourcing it, it makes economic sense for us to keep it insourced.

So that's the current thinking. But, you know, things change, outsourcing companies get more efficient, so it's a continuous evaluation.

Right. It sounds like for now you're keeping it in-house certainly for the next few years --

For now, yes, that's our conclusion.

Okay. Maybe just the last one for Greg. Obviously the acquisition question is always asked, especially in this type of environment, but as you think about the types of firms that would be interesting just from a strategic standpoint, would something that enhances your distribution capabilities, which are already extremely large, and doles out different types of products -- would that have a preference over, say, a rationalization and scale type of acquisition where you'd be combining funds into, say merging weaker-performing funds into stronger-performing ones to get the track records and looking at it more like a cost-synergy play?

Yes. I think obviously there's a lot more opportunities to go out and just target a strong investment manager and bolt it onto your existing distribution system. And that's one that's certainly in markets that we've talked about before. And with the pound so weak, that makes the UK a more attractive market despite Brexit. We see that as more of a near-term opportunity to acquire something that would be additive to our lineup and strength in our presence in a market where we don't really have a strong presence in the UK.

Outside of that, I think the others become much more difficult. And a larger one that is much harder to do and much more disruptive obviously to the entire organization, but one that in the right situation, again, is something that we would certainly look at. But I think it is much more difficult to execute.

Great. That's great color. Thank you.

Chris Harris, Wells Fargo

Thanks. We're looking at your hybrid category here and redemptions have improved substantially, but sales keep ticking lower. It's kind of interesting that, that's happening because performance is improving so much. So could you talk about that a little bit? What is it going to take to get sales going here given the performance already seems to be improving quite nicely?

I think it was exactly the question I had to our group early this morning when I was going through some of the numbers. I thought that, that stood out on hybrid gross dropping. And there are some other moving parts in that number because actually the Franklin Income Fund -- its gross sales were exactly level, quarter over quarter, despite the number of hybrid declining. It had almost exactly the same level at gross, and that's the key driver.

There's some other parts in that. K2 falls into the hybrid category, and that had a little bit of a drop-off quarter over quarter, so that contributed to the gross number dropping down.

We are very optimistic that, that fund should continue to be a strong driver of our flows in this kind of environment, and I think it takes a little bit of time for people to realize that it's back in the top decile for the one year, and you have the lag effect of energy prices and what that did to a lot of our funds. And I look across the lineup, and I'm very encouraged right now.

I think we talked about it in the past as a value -- with a value discipline you tend to get more energy exposure than some types of market. And a lot of that has come back along with materials, and whether it's our High Yield area, the Income Fund area in hybrid, Templeton area, Mutual Series, all our Rising Dividend Fund, all of those funds now are performing very well.

So I would hope that we will get some momentum back now on the strong one-year numbers. And actually our hybrid and equity assets, 75% of them are in the top two quartiles for the one-year, so I think that's a big change from where we were six months ago.

Got you, okay. Quick one on DOL. I think when we all think about those risks, we tend to think about it in terms of flows, but just wondering whether you guys think ultimately this rule might force some management fee changes across the industry.

I think I tried to answer that before, that I think the pressure on fees is there. I think there is components of your overall fees which are in a state of flux, and you can look at parts like the revenue share piece, and if you do away with that, that's going to make it a little bit easier to lower overall management fees and make you more competitive on that basis.

Other areas, I think distributor retention -- the historic number -- that actually was going away anyway over time, but that goes way immediately if you give up pricing at the broker-dealer level in these new class of shares. But as the world was transitioning more to advisory, the traditional A share was getting smaller and smaller as part of our business, so that changes as well.

TA fees, all of those things, sub-TA fees, all of those are again in a state of flux, so I think it's early, but just to say that it puts everything in play at this stage.

Craig Siegenthaler, Credit Suisse

Thanks. Just wanted to see if you have any early thoughts on how the Global Bond Fund, your muni products, and also K2 fair with the new highly-liquid invested demand in the SEC's new liquidity risk management role?

I think that's a good question, and I think our initial reaction is it'd be okay. But I think, again, it's too early for us. This just came out. We're assessing it. And I think that's the obvious one you're going to look at and see how it works. But too early to really give you a definitive answer one way or another.

Just as a follow up. How much excess cash is sitting in the US right now?

Excess, I think, we're roughly in total about $2 billion, maybe $1 billion in excess.

Got it. Thanks for taking my questions.

Michael Cyprys, Morgan Stanley

Hello, good morning. Thanks for taking the question. Just curious if you could talk of little bit about how you see pricing evolving for active management as more and more assets shift to lower fee, passive price products and DOL going into effect. We're seeing price cuts and ETFs -- business there to drive more flows for the ETF players -- how do you think about the price elasticity of demand for active management products?

I think it depends on how you are performing against the passive. I think you're never going to beat passive on price is the consensus view, like it is today, that passive will outperform. That is not a view I share, and I think in the next decade, I think active will do very well. And then if you outperform the passive, pricing becomes less of an issue.

But I think the world is overly focused today strictly on price and isn't really looking at anything else, and I think that will change, as well. But I again, as I've said before, I think any industry that's slower growth and has a lot of managers out there, there's going to be continued pressure on pricing, but an active manager -- if the consensus view is passive is a way to go, you're not going to increase your business by cutting your fees in half. You're not going to get there.

And then are there any areas that you could speak to today where you've reduced fees or put any waivers in effect, and then just how you're thinking about the opportunity and interest for repricing active, maybe in some structures with pay for performance, perhaps using some sort of fulcrum fee?

I think you're absolutely right. I think that you have to be more flexible. That's something we certainly are doing in the institutional market right now where we're looking at new categories for us and coming with more of a performance-based type fee because I think that fits with what people are willing to do. They'll pay for more alpha.

I think that the openness to consider those is something we have to do right now because of the consensus view on passive versus active. So I think that, that is something that we are studying as well on just making sure our fees are competitive in markets and whether that means cutting into profits to maintain share. I think that's something you have to consider.

Okay. Thank you.

William Katz, Citigroup

Just two follow-ups and thanks for taking these extra ones. Tom, maybe for you, coming at the DOL just from one other specific angle. Can you give us a sense what the mix of your assets are between brokerage and advisory if you have that kind of look-through lens, just given I know a lot of its omnibus. Just sort of curious given what's likely to be a further rotation toward advisory away from brokerage what kind of money motion we might be talking about?

Well, the large majority of our business takes place without a commission. This trend has taking place for a number of years. Now it's accelerating under the DOL, so frankly we're almost there. As Greg pointed out, there's going to be new share classes and less breakpoints and some other changes, but the business overall -- Franklin Templeton's business and the industry's business has been moving towards omnibus and no load.

Okay. Then Greg, this sort of piqued by your comments about the UK market. When you mentioned that, that's maybe potentially more interesting given the currency dynamic, what kind of framework are we talking about? Are we talking about a market extension type of transaction? A consolidation and roll up some of the redundancies? Or could you be willing to buy something out from a parent that might have a majority stake in a third entity?

Those all sound attractive. I think we continue to look at anything that would make sense, and I wouldn't rule out any of those different scenarios.

And just one follow-up to that. In terms of size, just given that where you are, is a merger of equals something that makes sense strategically, or is it more of a fill-in maybe something that might be more complementary to your platform?

I think I spoke about that earlier that a merger of equals is difficult for a lot of reasons, especially as you get this big; but they can be -- if they're done and executed properly, they can add a lot of value over time. The easier one is just going out and buying a strong player in the market that's available. That's not always easy to do, but specific to that market that would be attractive to us. But again, I just wouldn't rule out any of those scenarios.

Okay. Thanks very much for your patience.

Thank you. We've reached the end of our question-and-answer session. I would like to turn the floor back over to management for any closing comments.

Thank you, everyone, for participating on the call, and again we look forward to speaking next quarter. Thank you.