Franklin Resources: Lowering Fair Value Estimate by 4% on Weaker Performance and Flows in September

We’ve lowered our fair value estimate for narrow-moat Franklin Resources BEN to $28 per share from $29 to account for revised near-term expectations about assets under management, revenue, and profitability since our last update. We view the shares as slightly undervalued.

Franklin closed out September 2023 with $1.374 trillion in AUM, down 4.0% sequentially, but still up 5.9% year over year. Net outflows from long-term AUM of $6.9 billion during the company’s fiscal fourth quarter brought full-year outflows to $21.3 billion, worse than our forecast for long-term outflows of $17.0 billion for the fiscal year (ended September).

While this was disappointing, flows should start to improve as we move through the next several quarters, driven by improvements in the equity markets and increased flows into bond and money market funds, which are offering yields not seen in over a decade, as well as the $25 billion commitment Great-West Life has made to invest in Franklin’s funds within 12 months of the close of the Putnam deal (which is expected to occur in early fiscal 2024).

Although average AUM looked to be up 3% year over year during Franklin’s fiscal fourth quarter, we still expect the firm to struggle to generate positive top-line growth this year, with our expectations for full-year revenue growth in a range of negative 5%-7%. Our five-year forecast (which includes another equity market correction nearer the end of our projection period) has revenue declining at a low- to mid-single-digit rate on average annually during 2023-27.

As for profitability, the company’s adjusted GAAP operating margins of 29.0% during the first nine months of 2023 were 650 basis points lower than 2022 results, reflecting the negative side to the operating leverage in the asset manager’s business model. We continue to project adjusted margins (including the projected $150 million of cost-savings from the Putnam deal) of 28%-32% during 2023-27 (compared with 35.9% during fiscal 2022).