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Franklin Resources Inc. (NYSE:BEN)

F2Q10 (Qtr End 03/31/10) Earnings Q&A Conference Call

April 28, 2010 04:30 pm ET

Executives

Greg Johnson - CEO

Ken Lewis - CFO

Analysts

Bill Katz - Citigroup

Jeff Hopson - Stifel Nicolaus

Mike Carrier - Deutsche Bank Cynthia Mayer - Banc of America/Merrill Lynch

Ken Worthington - JPMorgan

Robert Lee - KBW Michael Kim - Sandler O'Neill

Operator

Good afternoon. And welcome to the Franklin Resources Earnings Conference Call for the quarter ended March 31, 2010. My name is Brandy and I will be your conference operator today. Please note that the financial results to be discussed in this conference call are preliminary. Statements made in this conference call regarding Franklin Resources Incorporated which are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

These forward-looking statements involve a number of known and unknown risks, uncertainties, and other important factors that could cause actual results to differ materially from any future results expressed or implied by such forward looking statements. These and other risks, uncertainties and other important factors are described in more detail in Franklin's recent filings with the Securities and Exchange Commission including and the risk factors and MD&A sections of Franklin’s most recent Form 10-K and 10-Q filings.

All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there'll be a question-and-answer-session. (Operator Instructions).

Now I would like to turn the call over Mr. Greg Johnson.

Greg Johnson

Thank you and good afternoon everyone. I am Greg Johnson, CEO along with Ken Lewis, our CFO. As always we thank you for taking the time to join us today and we hope you had a chance to listen to our prepared remarks which were available before the exchanged opened this morning.

In short, we are pleased to report another solid quarter highlighted by continued strong relative investment performance and record net new flows including strong growth in gross sales across our broad range of offerings particularly in our international products as momentum continues to build in many countries around the globe.

I will now open it up to your questions.

Question-and-Answer Session

Operator

Our first question is from Bill Katz with Citigroup.

Bill Katz - Citigroup

Just two comments, two questions, I guess. First one would be, just from a big picture perspective, Greg, can you talk a little bit about how you see the potential handoff, if at all, between fixed income and equity and how you might be positioned for such a potential flow shift?

Greg Johnson

Well I think we feel that the shift will occur maybe it was starting a little bit over the last few months. I mean flows have certainly looked better and you know our growth just like when things were going gangbusters on the equity side we were pushing hard on a fixed income campaign and for the last three to six months we’ve been doing extremely well on the fixed income side we’ve been out there talking about equities and we have a 20-20 vision campaign which has been received extremely well and despite headwinds we are going to continue to talk about equities because we think that retail turn will happen and obviously we want to be well positioned and I think we feel that we have a very strong line up and it’s a matter of just again getting the attention on that line up and despite the record flows for the quarter we still are making sure that the distribution is focused on getting that equity story out there and I am not sure when it will turn, I think we’ve all been frustrating that its taken a bit longer I think investor sentiment here in the United States for a lot of reasons continues to be a little bit shaky and we are not seeing that in other parts of the globe, we are not seeing that in Europe and Asia and I’ve seen a tremendous rebound in our sales like the Asian growth fund that had $1.2 billion in net inflows for the quarter. So there are funds that are doing very well on the equity side but like most in the U.S. we still remain frustrated that the investors are not moving back.

Bill Katz - Citigroup

Okay second question I have if you look at your volumes outside the United States this was a particularly strong quarter I think it was $9 billion of inflow about 25% growth rate on those assets could you talk a little bit about may be some of the volume and the mixed drivers to some of that growth and may be on a temporal basis what might be happening into the middle part of April?

Greg Johnson

Well I think the as I mentioned the equity investor is back and whether its merging markets or more focus the aging growth fund. You know those have been two good sellers for us on a net basis as well as mutual global discovery fund. There hasn’t been a whole lot of chunky business moving actually more the bigger business on a separate account side with negative for the quarter. In global equities where had about a little over $700 million between two accounts that were redeemed in the global equity side. So you are saying fair amount of strength on the retail side around the globe for global equities and obviously global bonds which you know had outside of the U.S. just a little over $5 billion net inflows.

Operator

Our next question is from Jeff Hopson with Stifel Nicolaus.

Jeff Hopson - Stifel Nicolaus

Okay thank you could talk about the, it looked like you had pretty good flows on the institutional side in global bond. So could you talk a little about that pipeline and then also you have other products on the global side. Global income I think and some others they seemed to picking up some traction how optimistic are you about those other products outside of the global bond front?

Greg Johnson

I think we have seen continued interest and certainly the emerging market debts and other one global aggregate, global core and with a lot of the big Sovereign Wealth Funds around the globe. There continues to be interest in those and I think during this quarter we had some funding with Malaysia that we talked about last quarter specifically fixed income, so situations like that we continue you know we benefit from the brand presence in lot of those markets and as those funds continue to grow you know we are optimistic that we are good position to continue to capture that. So we think as we talked about in prior quarters that certainly an incremental area for growth and we have been getting the benefit of that in the last few quarters and I think that’s going to continue.

Jeff Hopson - Stifel Nicolaus

Okay, and like in February, you had no issues with Greece and I suspect that’s still the case and if anything you may have benefited from the fact that you didn’t have exposure there. So would you say that same type of situation is still there, right now?

Greg Johnson

Yeah, as far as I know, that’s the case and certainly it was the case when the contingent hit originally that we didn’t have any exposure there so I think that the performance should look even better through this period.

Operator

Our next question is from Mike Carrier of Deutsche Bank.

Mike Carrier - Deutsche Bank

Thanks guys. Greg, I think on the recorded call, you were mentioning that the institutional you know, you hit like the best month in margin two years, just wondering one is that overall or I thought it might have been just the U.S. and then if it was even the U.S., where was the strength coming from the products?

Greg Johnson

Yeah, I think it was both it was in the U.S. and some of that again it’s not always a clean line between its institutional and separate accounts and retail and some of that was some wins on the annuity side where we had some chunky or wins during the quarter, there and continue to I think overall, very consistent performance in the U.S. through the consultants of typical business on the global equity side. So nothing really big to call out I mean I think it was just a lot of little wins that probably a healthier way to go.

Mike Carrier - Deutsche Bank

Okay, and then Ken just on the expenses, the one item that you didn’t mention was just on the IT and just wanted to see any outlook there. Because you gave pretty good, detailed guidance on all the other line items. And then just on the cash use, you guys continue to buyback stock but just looking forward given the cash balance, any expectations versus historically where your buybacks have been?

Ken Lewis

On the IT line I think I had mentioned on previous calls that there is an expectation that spending will increase there but it’s slow. These projects take a long time so I would continue, I would suggest that trend will continue and now on the cash, no real difference on kind of our philosophy on that. That point committed to generating a very competitive total return to shareholders, share repurchases that tool that we use for sure on that, I think were in the market pretty regularly but we tend to be opportunistic and I think that will continue.

Operator

Our next question is from Cynthia Mayer with Banc of America/Merrill Lynch

Cynthia Mayer - Banc of America/Merrill Lynch

I was going to ask you about IT, too, so I'll just ask a very quick follow-up on that. Once you start spending on IT, maybe if you could give a sense of how the incremental amount relates to what you already have in that line and also, is that the kind of thing that's like a step function or is just a little bit more every quarter for a little while?

Greg Johnson

There is more in that line than IT there is certainly occupancy and facilities cost in that line to that, so that drives the line a little bit but with regarding IT it’s a combination, there is ongoing maintenance that you can see gradually increase we did pull back during the market down turn we pulled back on some of the maintenance item so that type of expense I think you will see sequentially quarter over quarter and then the larger projects is more of that function. It takes a while to put on some of them can capitalize and then you start to see the depreciation number.

Cynthia Mayer - Banc of America/Merrill Lynch

Okay and then in terms of the flows you mentioned your greater appetite for equity outside the U.S., is that just Asia or is that you are just finding its worldwide, its Europe too.

Greg Johnson

Its Europe as well.

Operator

Our next question is from Ken Worthington with JPMorgan.

Ken Worthington - JPMorgan

So on the 10% global bonds just a couple of questions there. At what point does capacity start to be a factor, two who are the incremental buyers of the fund and three to what extent does the management team do you guys as the management team have concerned about how this fund performs in a rising rate environment?

Greg Johnson

Well I think first of all capacity in any of our funds is something that we are concerned about and if the portfolio managers feel that its time to consider closing a fund we will do than and we have done that in the past and so that’s something we are very aware of but I think the general statement regarding flows and where we had 10 billion of net inflows was into a global government bond fund and a government bond fund obviously you have tremendous capacity and growing capacity and then also currency is the other area so the liquidity derivative around currency forwards and things that you have the use in a fund like that again its one of the most liquid and large market. So while we have a large share of new class of flows it is worked by the overall size of that market.

So there is really very little concern if you had that much going in emerging markets debt you know that maybe a different discussion you know on liquidity to consider having to close. You know I think the question around buyers you know is an interesting one because I think part of this growth is the recognition certainly on the retail side of a new asset class that is less co-related in a way to typical fixed income to equities that had a very strong overall performance number and obviously active management is the only way to really play that market and try to get currencies right.

You know obviously is very challenging as well, you know we had team that has been successful in doing that I think you know looking at the average retail investor their more open to putting a portion of their assets in that. So I think that’s part of what you’re seeing you know in that class and is still a very relatively small number you know of the typical retail investor’s portfolios.

So I think you know that’s a good trend you know it builds well for continued new investors in that category. And then finally you know rate, I think you are little bit less sensitive to rates and we do I mean obviously fixed income currencies are going to be a big driver, but we also look into duration and are very focused and because it is not as much of an income orient fund you know we can go a little bit shorter on duration. You know then our typical longer term maturity fixed income fund so that helps a little bit.

But you know the bottom line is that its very challenging to manage in this space and there are going to be times when are going to be out of favor and wrong that to us you know that we are trying to build that into the selling process but you know that should be part of your expectation. You’re never going to call every move in currencies but I think we feel like we’ve got one of the best teams out there.

Operator

Our next question is from Robert Lee with KBW.

Robert Lee - KBW

Thanks, good afternoon. I have a question on the regulatory front, or legal front, with who knows what happens if the dot builds on included in that is obviously the I guess the broker rules and unfortunately for you guys if I remember correctly you are regulated at the bank holding company. So I know nothing has been set in stone but you know what flexibility I mean do you have the flexibility if came to pass to change your holding company structure, I assume you do so that you wouldn’t be subject to any of the rules as it relates to private equity or other holdings?

Greg Johnson

Well, I think as you said, it’s hard because things are moving so quickly and you know the bottom line is we don’t have to be a bank holding company. It’s a complimentary part of a few of our businesses that even today we’re looking at the overall structure and try to rationalize the rate future but we can’t really do that until we know what the regulatory landscape is going to look like.

So you’re right, I mean, today we are, we fall under the broker rule you probably I’m not even sure we can see fronts, I’m not sure how any of this would work in practice and I think we’ve got a long ways to go before we get too worried about what impact it may or may not have. But I think the bottom line is we feel even in the worst case scenario, that we can restructure the business and not have a big impact to get from a different structure away from the fed structure but even that, there has been discussion that well. We are not going to allow people to switch so I am not sure what that means either so I just think things are moving very fluid right now. We are participating in Washington where we can but I don’t feel that there is anything there today that would present a huge challenge for us.

Robert Lee - KBW

Okay. And maybe shifting to the institutional business, just curious, I mean, couple of competitors here. They have talked about being impacted in the quarter by client rebalancing and kind of taking advantage of the rebounds in the market the past year and using that as an opportunity to rebalance. That generally, it seems like away from long only equity strategies to some extent. I mean it doesn't seem like that's impacted your business much in the quarter. Could you just comment a little bit, did you see some of that and maybe what pockets it was in if you did see it? Or why do you think maybe that didn't affect you guys as much in the quarter?

Greg Johnson

Yeah I think we did see it I mean I have seen it the last two or three quarters and the rebalancing in any time you have sector do well like global equities or emerging markets. They tend to be a little bit of trimming to those certain accounts so we have seen that they are just not, I think on a relative basis. They are not in the big numbers, they are relatively small.

Operator

Our next question is from Michael Kim with Sandler O'Neill

Michael Kim - Sandler O'Neill

Hey, guys. Just first in terms of the equity marketing strategy, what are some of the areas or products that you've been focusing on and then have you started to see any follow-through from that in terms of maybe a step up in sales in the last couple of months?

Greg Johnson

We have seen a pickup and we have seen a pick up in one of the ways we measure these campaigns internally is a number of new advisors selling equity funds and that’s an important metric for us and we have been hitting a new audience really every month. And so that’s been a nice positive. We’ve seen positive flows going into our equity funds like the Franklin growth fund and the rising dividends. And so the focus has been there, its just on a relative basis compared to everything else, its to work but the numbers are positive and they are growing. You know I think just overall from the retail in terms of general statements, mutual series in the US has had outflows. So that put a little bit of drag I’m just looking at the US equity numbers and lot of that is somewhat expected for us when you’ve had to have your higher cash positions. And their deep value style tends to under perform the kind of market that we’ve had over the last year. So I think it’s we feel like we are getting the attention there. It’s difficult but I just don’t think the overall landscape is going to change a whole lot in the next quarter too as far as close go.

Michael Kim - Sandler O'Neill

Okay and then may be a question for Ken, now that your asset base is relatively close to where it was back in ’07 and just given may be a measured step up in spending. Is it fair to say that the main driver to higher margins going forward is really a function of mix? So basically just getting the equity and may be the non-US contribution to back up to where they were in prior cycles?

Ken Lewis

I wouldn’t agree with that. I would clarify that I think its more on an investment objective and less so on a jurisdictional basis. Generally speaking, I think the profit increase in sales international loans impact overall profitability that much. So its more, its more a question of the acid mix shifting to the equity assets.

Operator

(Operator Instructions) Our next question is from Douglas Sipkin with Ticonderoga.

Douglas Sipkin - Ticonderoga

Thank you and good afternoon just wanted to drill down a little bit more on the global fixed income and I don’t know if you guys have provided a booking. Can you passively just give us some ranges as to how much of that AUM 97 billion I believe this institutional-based and correspondingly how much of the floors generally come from institutions versus retails. And then just to the follow-up on that you did a really good job discussing sort of retail highlighting that and sort of new asset class and therefore the potential to sell it better than people think. But how about on the institutional side? Our institutional investors seeing it that way as well thanks.

Greg Johnson

First of all I don’t have all the data in front of me to tell you exactly how it breaks down. And I can tell you that the majority 10 billion of the net flows going into global bond funds split between the US and international sales obviously make up the majority of the overall flows. We did have some separate account when I don’t have the aggregate number but there were some 300 million, 200 million and maybe we can help your to [level] with the investor relations group. But I just don’t have it broken out in front of me. Other than to give you the sense that within that category it clearly is retail that is driving probably 80, 90% of those flows and that’s a guest in it but its probably close.

Douglas Sipkin - Ticonderoga

And then just in terms, it's fair to assume that the institutional demand hasn't really changed all that much or is the outlook for sort of global emerging, et cetera, increasing, or flattening or sort of decreasing from sort of a RFP standpoint?

Greg Johnson

Yes I think its steady, I think it is a little bit different than the retail because it’s not strictly the global bond or the global government bond fund its more geared towards emerging market debt in some cases or global ag, global core. So it’s a little bit different and we still are seeing very steady RFP flow in those categories.

Operator

Our final question is from Roger Freeman with Barclays Capital.

Roger Freeman - Barclays Capital

Just coming back to the US flows, so with the mutual series is distorting, I guess if we look at sort of the aggregate US slows a bit. How do you look and where those are positioned as vis-à-vis there are cash balances today or when do you sort of annualize or get past some of the headwinds from a return perspective at that, that impact in?

Greg Johnson

I think, there will always be short-term challenges when you have investment styles that in order cash in some markets and you are never going to again, you are never going find that rate in the short-term and that’s why we spend a lot of time talking about building three and five and ten year track records.

Roger Freeman - Barclays Capital

Right.

Greg Johnson

And I think people somewhat, they expect that but there always is a short-term orientation or on results and I think what the mutual share funds or mutual series funds the cash levels are down, they are down in the teens and low teens in most cases. So do you want to have the kind of drag that you had before? And hopefully for us its just, its just how historically that group has run money in some cases you are going to have these kind of periods where they perform but again if you look at longer term numbers and how strong they are, I think that’s really more important then the one your number.

And you look at something like the Franklin Income Fund for example that we had short-term challenges they have had potentially higher weightings and financial services. And during the period when financial services banks were in a lot of trouble, that fund underperformed. But quickly materially more a lift now in the numbers, and its back to being a top performer for the one-year period and that kind of smoothes out over the three and five. And we have seen the quick rebound in flows there. That was probably one of the most important funds for us far as flows and continues to be very important to us going forward but it shows you how quickly things can turn around on the short-term cases and not really hurt your long-term numbers when you have those little [clips].

Roger Freeman - Barclays Capital

And then, I guess my second question would be just around sort of the strategic outlook and particularly around M&A. Can you characterize the types of properties that are for sale at this point and last year obviously there were the institutions and asset management firms coming out of financial institutions looking to raise capital, presumably less of that, although maybe some of the smaller institutions. We're sort of back to those sort of historical landscape in terms of diversification of ownership generation issues those type of things.

Greg Johnson

Yeah I think that’s probably fair I mean I think that the more distressed sale is probably past they want to manufacturing and distribution separating is probably somewhat past. And then you will always have generational transfers and just people that feel like they will be their company will be better positioned within a larger institution. And I think some of that in this world having gone through the cycle and risk management now that becomes more important to the investor to be part of a large organization I think does create more smaller situations and we’ve had a lot of conversations where that’s been important focus to them, the distribution side and just the importance of being within a larger organization that has all the resources to make sure that you are looking at risk and compliance and everything and more importantly from their client side. So I think you will see a lot of opportunities as always in this industry I mean there’s always opportunity out there and we are continuing to look at everything.

Okay so thanks everyone for your time and we will talk to you next quarter.

Operator

Ladies and gentlemen this concludes today’s conference call. Thank you for participating. You may now disconnect.

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