- Company beats bottom-line estimates in the first quarter.
- Stronger firm definitely materializing after the acquisition.
- Dividend to be bolstered by sound balance sheet management and growing earnings.
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If we look at a long-term chart of Franklin Resources (NYSE:BEN), we can see that shares have given a buy signal on the key MACD indicator. This indicator in our opinion is especially prevalent on long-term charts and it is a solid read both on trend as well as momentum. Furthermore, the lower the signal takes place from the “zero” line, the better the buying opportunity due to shares being heavily oversold. Suffice it to say, we would argue this may be presently the most attractive long-term buying opportunity in Franklin for quite some time.
We have followed BEN closely over the past few years for a number of reasons. Firstly, the asset manager is a dividend aristocrat with a very impressive 40-year dividend growth history. Furthermore, as we can see in the chart above, shares of BEN had been making consistent lower lows since late 2014 but during this timeframe, Franklin´s financials as well as its valuation looked very attractive.
The key with investing in a stock like BEN is that one must be prepared to stay the course in the investment for the long haul. We state this because investors for example who maybe bought in early 2015 or late 2017 are most likely still showing a paper-loss on their total investment (Capital gain + dividends) especially if they didn´t reinvest their dividends back into buying more stock. This is probably the biggest drawback with value-investing in that the respective investor many times invests against the underlying trend and may have to wait years on end before their investment finally comes good. Suffice it to say, a long-term mindset as well as buckets of patience are imperative attributes for the dividend growth investor.
The rally though over the past 12 months as well as a number of recent bullish trends leads us to believe that Franklin has plenty of runway for growth ahead for its share-price. Trends of some of the company´s key dividend metrics confirm our bullish bias.
Franklin´s dividend yield comes in at 4.28% at present based off an annual pay-out of $1.12. The 12-month dividend growth rate of 3.8% is well below both the 3-year and 5-year growth rates respectively. To see if this is a question of affordability, we go to the cash-flow statement. Over the past four quarters, $537 million of dividend payments was paid out of a cash-flow kitty of $1.19 billion. This gives us a cash/flow pay/out ratio of 45% which looks attractive on the surface but the balance sheet has been leveraged to keep the firm´s cash-balance elevated.
Remember the pay-out ratio only paints half the picture and is backward looking. Therefore, to get insights into how strong the dividend will remain going forward, we like to see trends with respect to shareholder equity, interest coverage as well as expected earnings growth.
At the end of the first quarter, total equity came in at just over $10.4 billion whereas total liabilities came in at $9.19 billion. Just under half of the company´s liabilities are comprised of long-term debt. Debt increased in the first quarter due to a $750 million public offering where the objective is to use this cheaper capital to improve liquidity by tackling the firm´s more expensive debt. In terms of how the interest-bearing debt stacks up against the firm´s equity, we do not see an issue here.
Interest expense came in at $30 million in the first quarter and EBIT hit $409.1 million. This gives us an interest coverage ratio of just over 13 for the quarter which is slightly lower than the trailing average of approximately 19. Again though, we do not see an issue here with affordability especially when we take how earnings have been trending.
Earnings in the first quarter beat estimates by $0.03 and finally came in at $0.73. Synergies from the Legg Mason deal continue to gain traction as sequential growth is expected to continue with $0.75 being the bottom-line number expected for the fiscal second quarter. Growth is coming off the back of record AUM numbers (6% sequential growth) buoyed by strong recent performance in equity markets.
Whether the firm is able to continue this momentum remains to be seen. What we do see however is the potential that the Legg Mason products bring to the table. Since there is very little overlap with respect to offerings between the two firms, we expect advisors to be able to cross-sell different products much easier than before in order to keep assets at the firm. Since the merger is really only about 7 to 8 months old, there still is plenty of potential here both from a sales standpoint but also from a cost standpoint which also obviously should improve the bottom-line.
Therefore, to sum up, Franklin Resources’ dividend still looks very strong despite the fall-off in growth levels. The balance sheet remains strong, management is taking care of interest expense and earnings are expected to continue growing this year. We look forward to continued coverage.
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