Note:This report contains substantially new material. Subsequent reports will have changes highlighted.
Reason for Report:Fiscal 2Q18 Earnings Update
Prev. Ed.:News Update, Mar 21, 2018
Brokers’ Recommendations: Neutral: 77.8%(7 firms); Negative: 22.2% (2); Positive: 0.0% (0) Prev. Ed.: 6; 2; 1
Brokers’ Target Price:$37.44(↓$6.78from the last edition; 9firms) Brokers’ Avg. Expected Return:15.7%
Note: We do not have access to the reports from the brokers having the sell recommendation on the stock.
A flash update on fiscal 2Q18 Earnings was done on Apr 26, 2018.
Executive Summary
Franklin Resources Inc. has been engaged in the financial services business since 1947. With offices in more than 30 countries and 9,448employees, the company had$737.5billion in assets under management (AUM) as of Mar 31, 2018.
Trend of Broker Opinions: Broker sentiment on the stock remains skewed toward the neutral sidewith 77.8% of the firms in the Digest group rating the stock neutral while the remaining22.2% rated it negative. None of the firms rendered a positive rating. Target prices provided by the firms range from a low of $32.00 to a high of $48.00 per share. The average came in at $37.44, implying a return of 15.7%.
Chief Investment Considerations:
- Strong balance sheet and ample liquidity
- Diversified global footprints
- Solid AUM growth
- Ability to return capital to its shareholders
- Favorable organic and inorganic growth opportunities
- Intense competition
- Volatile equity and debt market
Neutral or equivalent (Sevenfirms or 77.8%):According to these firms, Franklin’s remarkable performance, global fixed income products establish it as a prominent asset manager franchise. Overall, the mix of assets under management has been trending toward hybrid, institutional and U.S.-registered global fixed income funds rather than emerging markets. Nevertheless, equity still remains an untapped source of returns and is expected to generate increased yields, provided retail investors depict a positive scenario in the subsequent quarters. Moreover, they view Franklinto beadvantageously positioned to benefit from a consistent recovery in the market with a strong management team and a solid long-term track record of superior investment performance.Though rising rates in the U.S. can pose a risk to the company’s fixed income business, more than 50% of fixed income AUM in global bonds products would act as a positive for the company. While less engagement of U.S. retail investors remains a challenge and non-U.S. investor trends reflect short-term gains, Franklin appears well positioned in the long-term driven by current demand for Hybrid strategies, improving institutional Global bond strategies and improving municipal bonds environment.
May 3, 2018
Overview
Franklin Resources Inc., headquartered in San Mateo,CA, is a global investment management company. Majority of its operating revenues and net income is derived from investment advisory and related services provided to retail mutual funds, institutional and private accounts, and other investment products. Related services include transfer agency, fund administration, custodial, trustee and fiduciary services. The mutual funds and other products are sold to the public under ninebrands: Franklin, Templeton, Mutual Series, Bissett, Fiduciary Trust, Darby, Balanced Equity Management,K2 and Liberty Shares.
Franklin’s principal line of business provides investment advisory and management services to investors worldwide through products that include U.S.- and non-U.S.-registered open-end and closed-end funds, unregistered funds, and institutional, high net-worth and separately-managed accounts (collectively, “sponsored investment products” or “SIPs”). Additionally, the company’s services include fund administration, sales, distribution, marketing, shareholder servicing, and trust, custody and other fiduciary services. The company offers an array of SIPs under equity, hybrid, fixed-income and cash management funds and accounts, including alternative investment products.
Apart from the domestic market, Franklin’s global presence includes Europe, Middle East, Africa, Asia-Pacific, Canada and Latin America.
Franklin has one operating segment — Investment management and related services.
More information is available at the company’s website:
The firms identified the following factors for evaluating the investment merits of BEN:
Key Positives / Key NegativesGrowth Opportunities
- Poised to take market share with top-tier investment performance, rising global distribution penetration and scale
- Diversified portfolio of AUM
- Capital continues to grow and could increase further in the coming quarters
- Repatriation movement and more aggressive use of capital are expected to be accretive going forward
- Initiatives and relationship-building will continue
- Maintains strong operating flexibility
- Strong franchise, fund performance and distribution capabilities are expected to increase shareholders’ value over time
- Product range currently implies diluted growth
- Competitive operating environment
- Competitive market for making acquisitions
- Volatility of the capital and credit markets
Note:Franklin Resources Inc.’s fiscal year ends on Sep 30; all references are with respect to the fiscal year.
May 3, 2018
Long-Term Growth
Franklin Resources has organic growth prospects in several areas. The firms believe Franklin’s relatively complete portfolio of investment products provides it an edge over its competitors,when it comes to meeting diverse needs of its potential clients.They also recognize Franklin’s relatively strong distribution platform, which gives it better scope to derive the most from its businesses. In many foreign markets, the company has been an early entrantand hence, enjoys an advantage over its peers.
The firms believe that Franklin is a gainer of market share in this difficult environment, reflecting improving relative performance, an expanding global platform and less disruptive dislocations related to head count and cost-control reductions relative to peers. They also contend that management appears to be more receptive to deals, either as a consolidation or through product extension, given a decline in Asset Manager Valuations.Furthermore, cost reductions will likely be increased with focus on information technology spending, reduced compensation and non-professional staffing.
The firms continue to view Franklin as a long-term winner in the industry, given its diversification, global positioning, improving performance and strong balance sheet.
Notably, during 2012, Franklinannounced the completion of the acquisition of the majority controlling stake (69.0%) in K2 Advisors Holdings LLC (K2), an independent fund of hedge funds solutions provider.The purchase of K2 assisted Franklin Templeton in improving and expanding its alternative investments and multi-asset solutions platforms.Such strategic initiatives would help Franklin in providing world-class investment solutions to its clients and auger well for worldwide expansion.
May 3, 2018
Target Price/Valuation
Provided below is a summary of valuations and ratings as compiled by Zacks Research Digest:
Rating Distribution
Positive / 0.0%Neutral / 77.8%↑
Negative / 22.2%
Average Target Price / $37.44↓
Maximum Upside from Current Price / 48.4%
Minimum Upside from Current Price / -1.1%
Upside from Current Price / 15.7%
Digest High / $48.00↓
Digest Low / $32.00↓
Number of Analysts with Target Price/Total / 9/9
Risks to the target price include a sharp fall in global asset values, slowdown in U.S. and global economic activity, and changes in U.S. and foreign laws and regulations, which might adversely affect the company’s business model. Company-specific risks include abrupt changes in the company’s distribution agreements with third-party distributors and weakness among third-party distributors, on which Franklin is heavily dependent for maintaining relationships and gathering assets.
Recent Events
On Apr 26, 2018, Franklin announced fiscal 2Q18 results. Earnings per share of 78 cents surpassed the Zacks Consensus Estimate of 75 cents. Further, the bottom line compared favorably with the prior-year quarter figure of 74 cents per share.
The results reflect Franklin’s top-line strength, supported by higher investment management fees. Nevertheless, elevated operating expenses remained a headwind. Also, net outflows and lower AUM were the undermining factors.
The company reported net income of $443.2 million, up 5.3% from the prior-year quarter.
Revenue
The company reported total operating revenues of $1.62billion in fiscal 2Q18, up 1% year over year (y/y).The rise was primarily due to higher investment management fees,shareholder-servicing feesand other fees, partly offset by lower sales and distribution fees.
Investment management fees were $1.11billion in the quarter,up 3%y/y. The increase was primarily due to rise in average AUM, partly offset bylower performance fees.
Sales and Distribution fees were $409.8 million, down 5% y/y. Decrease in sales-based and asset-based distribution fees led to the decline.
Shareholder Servicing fees were $61.3million, up 9% y/y.
Other operating revenueswere $29.6 million, up 24% y/y.
Outlook
Some firms predicted a decrease in revenue for FY18.
Margins
Total operating expenseswere$1.06billion in fiscal 2Q18, up 2% y/y. The increase was due to rise in almost all components of expenses, partially offset by lower sales, distribution and marketing expenses.
Operating income was $555.7million, almost stable y/y.
Outlook
The Tax Act reduces the federal corporate income tax rate from 35% to 21% effective Jan 1, 2018. Franklin’s federal statutory rate for the fiscal ending Sep 30, 2018, is a blended rate of 24.5%, based on the pre and post Tax Act rates, and will be 21% for future fiscal. During the December quarter, the company recorded the related changes in its deferred tax assets and deferred tax liabilities, which resulted in a $35.7-million decrease in deferred tax assets, an $88.8-million decrease in deferred tax liabilities, and a $53.1-million net tax benefit. During the three-month period ended Mar 31, 2018, the estimated net tax benefit increased $0.5 million, and might be further revised in future quarters as the related temporary differences are realized or settled.
For FY18, management expectsoperating expense growth in the rangeof 6.5-7.5%, attributed to costs related to strategic initiatives to improve investment performance and distribution capabilities.
Some firms echoed expense-related guidancesimilar to management’s outlook for FY18.
Earnings per Share
Franklin reported earnings of 78 cents per share in fiscal 2Q18, up from the prior-year quarter figure of 74 cents. The company reported net income of $443.2 million compared with $420.7 million recorded in the prior-year quarter.
Outlook
Most of the firms increasedthe FY18EPS estimatesto account for earnings beat in fiscal 2Q18.
Balance Sheet/Capital Structure/Other
Balance Sheet
As of Mar 31, 2018, cash and cash equivalents and investmentsamounted to $10.1 billion compared with $9.9 billionas of Sep 30, 2017.Total stockholders’ equity was $10.4billionas of Mar 31, 2018, compared with $12.9 billion as ofSep 30, 2017.
Total assetswere approximately $17.7 billion as of Mar 31, 2018, up from $17.5 billion as of Sep 30, 2017.
Assets under Management
As of Mar 31, 2018,AUMwas $737.5billion, slightly down on a y/y basis, compared with $740 billion witnessed as of Mar 31, 2017. Simple monthly average AUM rose 3%y/y to $751.8 billion. Notably, the quarter recorded net new outflows of $10 billion.
Capital Deployment Activity
On Apr 12, 2018, Franklin paid a special cash dividend of $3 per share to shareholders of record as of Mar 29. Along with this, the company also paid a regular quarterly cash dividend of 23 cents per share.
On Apr 12, 2018,Franklin’s board of directors has authorized the company to repurchase up to an additional 80 million shares of its common stock in either open-market or off-market transactions. The size and timing of these purchases will depend on price, market and business conditions, and other factors. The stock-repurchase program is not subject to an expiration date. The new authorization is in addition to the existing authorization, of which approximately 15.9 million shares remained available for repurchase at Mar 31, 2018.
During fiscal2Q18, the company repurchased 11.1 million shares of its common stock for $432.6 million. As of Mar 31, 2018, 15.9 million shares remained available for repurchase under the program, which is not subject to an expiration date.
Outlook
Management expects to continue paying comparable regular cash dividends on a quarterly basis to common shareholders, depending upon earnings and other relevant factors.
Some firms project Franklin to increase share buybacks in FY18.
Others
On Mar 20, 2018, Franklin entered into an agreement with a San Francisco based, FinTech startup — Random Forest Capital, LLC. Though the financial terms of transaction were not disclosed, Franklin disclosed that the acquired firm’s employees would be joining Franklin Templeton Fixed Income Group investment’s team.
Founded in 2016, Random Forest Capital applies machine learning and statistical algorithms for analyzing gains in financial investments. Per the website, the company utilizes machine learning methods which apply successfully to real-life applications from medical diagnoses to sports analysis.
Moreover, it has a cloud infrastructure that enables the team to take a large amount of unstructured data for analyzing and finding investment opportunities.
This strategic move is likely to aid Franklin’s research abilities in fixed income areas. It is also in sync with the company’s aim to keep pace with technology which has become an important aspect in the investment management scenario.
Per Jenny Johnson, president and COO of Franklin Templeton Investments, stated, “We continue to make strategic investments and acquisitions in emerging investment-related technologies to augment and support Franklin Templeton’s global offerings.”
Further, Chris Molumphy, CIO of Franklin Templeton Fixed Income Group added, “The advanced pace of technological disruption is impacting the traditional investment landscape, providing new ways to identify and originate investment opportunities that generate value for investors. As a creative group of entrepreneurs, the Random Forest team brings an expanded tool set that enables us to further enhance our investment expertise and adapt to the ever-changing investment landscape.”
On Jan 17, 2018, Franklin operating as Franklin Templeton Investments announced that it has entered into an agreement to acquire Edinburgh Partners Limited. The transaction is subject to regulatory approvals and is expected to be completed in the first half of 2018. Terms of the transaction were not disclosed.
Jenny Johnson, president and chief operating officer of Franklin Resources, Inc. said, “We’re pleased to announce the acquisition of Edinburgh Partners, an established global value investment manager, and to welcome back Dr. Sandy Nairn to our organization. Dr. Nairn worked alongside the late legendary global investor, Sir John Templeton, and was employed by Franklin Templeton for more than a decade. He brings a tremendous amount of leadership experience and expertise in managing global and international equities, an area that continues to be of strong interest to our clients around the world. This is the latest example of the firm continuing to make strategic investments in relatively small, yet highly experienced asset management teams that complement Franklin Templeton’s global offerings.”
Nairn will become chairman of Templeton Global Equity Group, and remain investment partner and CEO of Edinburgh Partners. He will report to Stephen Dover, Franklin Templeton’s head of Equities.
Based in Edinburgh, with an office in London and two in the United States, Edinburgh Partners is an independent fund-management company that invests globally with an emphasis on absolute returns over a long-term time horizon. Edinburgh Partners manages around $10 billion as of Dec31, 2017 in global and emerging markets equities.
May 3, 2018
Potentially Severe Problems
There are none other than those discussed in other sections of this report.
May 3, 2018
Coverage Team / 11BQCA / Kalyan Nandy
Lead Analyst / Priti Dhanuka
Analyst / Priti Dhanuka
Copy Editor / Deblina Halder
Content Ed. / N/A
No. of brokers reported/Total brokers / 9/9
Reason for Update / Earnings
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