Business context and reporting period
Franklin Resources, Inc. (Franklin Templeton) filed this unaudited Form 10-Q for its fiscal second quarter and six months ended March 31, 2023. It is a global asset manager whose revenue is primarily driven by assets under management (AUM), investment management fees, and distribution and servicing fees.
Quarter-end AUM was $1.422 trillion, up 10% from September 30, 2022 but down 4% year over year. The six-month increase included $34.9 billion from acquisitions and $91.2 billion from market movements, distributions, and other factors; total net flows were negative $1.4 billion.
Financial performance and position
| Metric | Three months ended March 31, 2023 | Year-over-year change | Six months ended March 31, 2023 | Year-over-year change |
|---|---|---|---|---|
| Operating revenue | $1.927 billion | Down 7% | $3.894 billion | Down 10% |
| Operating income | $255.1 million | Down 45% | $449.1 million | Down 56% |
| Operating margin | 13.2% | 22.2% prior year | 11.5% | 23.7% prior year |
| Net income attributable to Franklin Resources | $194.2 million | Down 44% | $359.8 million | Down 55% |
| Diluted EPS | $0.38 | Down 44% | $0.70 | Down 55% |
| Adjusted operating income (non-GAAP) | $440.2 million | Down 24% | $835.3 million | Down 34% |
| Adjusted operating margin (non-GAAP) | 28.9% | 35.7% prior year | 28.2% | 37.8% prior year |
| Adjusted diluted EPS (non-GAAP) | $0.61 | Down 36% | $1.13 | Down 45% |
Quarterly investment management fees fell 5%; sales and distribution fees fell 19%, reflecting lower average AUM, lower sales, and a less favorable asset mix. For the six-month period, compensation and benefits rose 17%, including acquisition-related costs and $152.5 million of Lexington performance-fee pass-through expense; amortization of intangibles rose 43%. Management reported $111.2 million of performance fees for the quarter and $320.2 million for six months.
Six-month operating cash flow was negative $289.7 million, versus positive $270.5 million a year earlier. Investing cash flow was negative $2.195 billion, including $500.5 million net cash paid for acquisitions; financing cash flow was positive $1.921 billion. Cash and cash equivalents were $3.471 billion at March 31, 2023, down from $4.135 billion at September 30, 2022.
Excluding consolidated investment products (CIPs), reported liquid assets were $5.603 billion, versus $6.048 billion at September 30, 2022, and company debt was $3.365 billion, broadly unchanged. Franklin had $1.6 billion principal amount of its own senior notes and $1.25 billion of Legg Mason notes; it reported compliance with debt covenants. CIPs had $7.153 billion of debt, which management says is nonrecourse to Franklin beyond its direct investment.
Material changes and management commentary
- Revenue and GAAP earnings declined as average AUM fell 6% for the quarter and 9% for six months year over year. Positive markets supported quarter-end AUM, but six-month long-term net flows were negative $14.6 billion.
- Alternative AUM increased 64% year over year, while fixed-income and equity AUM declined 14% and 15%, respectively. The Alcentra acquisition contributed $34.9 billion to AUM in the six-month period.
- Franklin acquired Alcentra on November 1, 2022. Consideration included $594.1 million cash, $62.0 million deferred consideration, and up to $350 million contingent consideration. Alcentra contributed $71.4 million revenue for the six months and had no material impact on attributable net income.
- Management cited ongoing economic and regulatory uncertainty and said it remains focused on investment performance, client service, expense management, talent, and strategic technology investment. The filing provides no numerical earnings or AUM guidance.
- Management expects approximately $130 million of additional acquisition-related retention expense for the remainder of fiscal 2023, followed by about $230 million in fiscal 2024, declining over the next two fiscal years. The company also expects to continue comparable quarterly dividends, subject to earnings and other factors.
Risks, contingencies, and unusual items
- Risks include market volatility and declines in AUM, fee pressure, investment performance, competition, regulation, technology and security risks, and global economic, geopolitical, and banking-market disruption. The filing specifically discusses March 2023 bank failures and the Credit Suisse transaction.
- Special termination benefits related to workforce optimization and Alcentra were $31.8 million for the quarter and $42.7 million for six months. The workforce was approximately 9,200, compared with 9,500 a year earlier.
- A New York City office lease signed in September 2022 carries an expected aggregate commitment of $766.7 million over 16 years, with occupancy expected in early fiscal 2024.
- The India Credit Fund closure process continued; approximately INR 26,931.3 crore (about $3.3 billion) had been distributed to fund unitholders in aggregate. Management said other litigation was not expected to materially affect the company and that no material indemnification loss was deemed probable or reasonably possible.
- A new financial reporting system was deployed in October 2022, modifying certain internal controls. Management concluded disclosure controls were effective and reported no other material change in internal control during the quarter.
Important facts for investors to verify
- Whether AUM, investment performance, and net flows improve, particularly in fixed income and equity, and whether alternative AUM gains persist.
- How much of reported earnings depends on performance fees, market-related investment income, acquisition adjustments, and non-GAAP exclusions.
- The cash impact and integration progress of Alcentra and Lexington, including deferred, contingent, and retention payments.
- Liquidity available after operational and regulatory needs, the substantial lease commitment, dividends, and planned business investment.
- Developments in market, banking, geopolitical, regulatory, and India fund-related risks; the filing does not quantify a clear potential loss for these matters.