FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 or 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For Quarterly Period Ended March 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _________ to______________
Commission File No. 1-9318
FRANKLIN RESOURCES, INC.
(Exact name of registrant as specified in its charter)
Delaware 13-2670991
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification No.)
One Franklin Parkway, San Mateo, CA 94403
(Address of Principal Executive Offices)
(Zip Code)
(650) 312-2000
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
YES X NO ______
-----
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Outstanding: 261,895,951 shares, common stock, par value $.10 per share
at April 30, 2002.
- --------------------------------------------------------------------------------
PART I - FINANCIAL INFORMATION
Item 1. Condensed Financial Statements
FRANKLIN RESOURCES, INC.
CONSOLIDATED INCOME STATEMENTS
UNAUDITED
THREE MONTHS ENDED SIX MONTHS ENDED
MARCH 31 MARCH 31
(in thousands, except per share data) 2002 2001 2002 2001
- ---------------------------------------------------------------------------------------------
OPERATING REVENUES:
Investment management fees $365,778 $340,136 $722,576 $685,921
Underwriting and distribution fees 197,537 178,165 389,544 342,527
Shareholder servicing fees 48,024 51,962 95,365 100,184
Other, net 14,629 7,150 36,690 12,855
---------------------------------------------------
TOTAL OPERATING REVENUES 625,968 577,413 1,244,175 1,141,487
---------------------------------------------------
OPERATING EXPENSES:
Underwriting and distribution 177,327 162,134 349,594 307,818
Compensation and benefits 159,764 140,074 319,907 281,933
Information systems, technology and 73,197 59,002 147,791 116,530
occupancy
Advertising and promotion 25,481 24,433 51,906 46,559
Amortization of deferred sales commissions 17,047 17,579 33,790 35,815
Amortization of intangible assets 4,258 10,107 8,633 20,016
Other 20,875 19,611 41,670 39,365
---------------------------------------------------
TOTAL OPERATING EXPENSES 477,949 432,940 953,291 848,036
---------------------------------------------------
OPERATING INCOME 148,019 144,473 290,884 293,451
---------------------------------------------------
OTHER INCOME (EXPENSE):
Investment and other income 14,782 32,054 33,111 82,010
Interest expense (2,808) (3,259) (5,976) (5,529)
---------------------------------------------------
OTHER INCOME (EXPENSE), NET 11,974 28,795 27,135 76,481
---------------------------------------------------
INCOME BEFORE TAXES ON INCOME 159,993 173,268 318,019 369,932
TAXES ON INCOME 39,997 41,584 79,504 88,783
---------------------------------------------------
NET INCOME $119,996 $131,684 $238,515 $281,149
===================================================
EARNINGS PER SHARE:
BASIC $0.46 $0.54 $0.91 $1.15
DILUTED $0.46 $0.54 $0.91 $1.15
DIVIDENDS PER SHARE $0.070 $0.065 $0.14 $0.13
The accompanying notes are an integral part of these consolidated financial statements.
2
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FRANKLIN RESOURCES, INC.
CONSOLIDATED BALANCE SHEETS
UNAUDITED
MARCH 31 SEPTEMBER 30
(in thousands) 2002 2001
- ---------------------------------------------------------------------------------------------
ASSETS:
Current assets:
Cash and cash equivalents $1,046,897 $497,241
Receivables:
Sponsored investment products 210,420 233,086
Other 58,030 63,079
Investment securities, available-for-sale 813,456 1,027,975
Prepaid expenses and other 100,123 108,895
- ---------------------------------------------------------------------------------------------
Total current assets 2,228,926 1,930,276
- ---------------------------------------------------------------------------------------------
Banking/finance assets:
Cash and cash equivalents 42,929 71,736
Loans receivable, net 491,848 555,314
Investment securities, available-for-sale 661,263 484,280
Other 49,892 117,914
- ---------------------------------------------------------------------------------------------
Total banking/finance assets 1,245,932 1,229,244
- ---------------------------------------------------------------------------------------------
Other assets:
Deferred sales commissions 142,105 104,082
Property and equipment, net 418,561 449,626
Intangible assets, net 693,555 702,198
Goodwill 1,287,005 1,286,622
Receivable from banking/finance group 193,045 307,214
Other 285,451 256,388
- ---------------------------------------------------------------------------------------------
Total other assets 3,019,722 3,106,130
- ---------------------------------------------------------------------------------------------
Total assets $6,494,580 $6,265,650
=============================================================================================
The accompanying notes are an integral part of these consolidated financial statements.
3
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FRANKLIN RESOURCES, INC.
CONSOLIDATED BALANCE SHEETS
UNAUDITED
MARCH 31 SEPTEMBER 30
(in thousands except share data) 2002 2001
- ---------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS'
EQUITY:
Current liabilities:
Compensation and benefits 158,118 221,672
Current maturities of long-term debt 8,279 8,361
Accounts payable and accrued expenses 135,378 127,918
Commissions 85,767 83,518
Income taxes 19,394 11,925
Other 4,002 4,039
- ---------------------------------------------------------------------------------------------
Total current liabilities 410,938 457,433
- ---------------------------------------------------------------------------------------------
Banking/finance liabilities:
Payable to Parent 193,045 307,214
Deposits 795,970 723,608
Other 83,992 39,839
- ---------------------------------------------------------------------------------------------
Total banking/finance liabilities 1,073,007 1,070,661
- ---------------------------------------------------------------------------------------------
Other liabilities:
Long-term debt 605,267 566,013
Other 190,915 193,647
- ---------------------------------------------------------------------------------------------
Total other liabilities 796,182 759,660
- ---------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------
Total liabilities 2,280,127 2,287,754
- ---------------------------------------------------------------------------------------------
Stockholders' equity:
Preferred stock, $1.00 par value, 1,000,000 shares
authorized; none issued - -
Common stock, $0.10 par value, 500,000,000 shares
authorized; 261,860,066 and 260,797,545 shares
issued and outstanding, for March and September,
respectively 26,186 26,080
Capital in excess of par value 695,113 657,878
Retained earnings 3,544,866 3,342,979
Accumulated other comprehensive loss (51,712) (49,041)
- ---------------------------------------------------------------------------------------------
Total stockholders' equity 4,214,453 3,977,896
- ---------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $6,494,580 $6,265,650
=============================================================================================
The accompanying notes are an integral part of these consolidated financial statements.
4
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FRANKLIN RESOURCES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED SIX MONTHS
ENDED
MARCH 31
(in thousands) 2002 2001
- -------------------------------------------------------------------------------------------
Net income $238,515 $281,149
Adjustments to reconcile net income to net cash
Provided by operating activities:
Decrease in receivables, prepaid expenses and other 133,644 39,540
Advances of deferred sales commissions (76,118) (49,484)
Increase/ (decrease) in other current liabilities 64,925 (12,064)
Increase/ (decrease) in income taxes payable 7,468 (37,098)
Increase in commissions payable 2,249 11,416
Decrease in accrued compensation and benefits (38,756) (64,293)
Depreciation and amortization 91,134 103,213
Gains on disposition of assets (5,433) (42,223)
- -------------------------------------------------------------------------------------------
Net cash provided by operating activities 417,628 230,156
- -------------------------------------------------------------------------------------------
Purchase of investments (1,115,645) (194,753)
Liquidation of investments 1,103,370 440,461
Purchase of banking/finance investments (30,319) (11,070)
Liquidation of banking/finance investments 21,719 12,794
Net proceeds from securitization of loans receivable 299,980 139,295
Net origination of loans receivable (239,147) (80,322)
Addition of property and equipment (18,458) (44,665)
Acquisition of subsidiaries, net of cash acquired - (94,483)
- -------------------------------------------------------------------------------------------
Net cash provided by investing activities 21,500 167,257
- -------------------------------------------------------------------------------------------
Increase/ (decrease) in bank deposits 72,362 (7,433)
Exercise of common stock options 12,905 1,592
Dividends paid on common stock (35,129) (30,472)
Purchase of stock (8,070) (8,265)
Issuance of debt 43,799 155,646
Payments on debt (4,146) (265,831)
- -------------------------------------------------------------------------------------------
Net cash provided by/ (used in) financing activities 81,721 (154,763)
- -------------------------------------------------------------------------------------------
Increase in cash and cash equivalents 520,849 242,650
Cash and cash equivalents, beginning of period 568,977 746,005
- -------------------------------------------------------------------------------------------
Cash and cash equivalents, end of period $1,089,826 $988,655
- -------------------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURE OF NON-CASH INFORMATION:
Value of common stock issued, principally restricted stock $28,151 $24,959
The accompanying notes are an integral part of these consolidated financial statements.
5
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FRANKLIN RESOURCES, INC.
Notes to Consolidated Financial Statements
March 31, 2002
(Unaudited)
1. Basis of Presentation
---------------------
We have prepared these unaudited interim financial statements of Franklin
Resources, Inc. and its consolidated subsidiaries in accordance with the
instructions to Form 10-Q and pursuant to the rules and regulations of the
Securities and Exchange Commission. We have condensed or omitted certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles pursuant to such rules and regulations. In our opinion, all
appropriate adjustments necessary for a fair statement of the results of
operations have been made for the periods shown. All adjustments are of a
normal recurring nature. You should read these financial statements in
conjunction with our audited financial statements included in our Annual
Report on Form 10-K for the fiscal year ended September 30, 2001.
2. Comprehensive Income
--------------------
The following table shows comprehensive income for the three- and six-month
periods ended March 31, 2002.
Three months ended Six months ended
March 31 March 31
(in thousands) 2002 2001 2002 2001
--------------------------------------------------------------------------------------
Net income $119,996 $131,684 $238,515 $281,149
Net unrealized gain/(loss) on
available-for-sale
securities, net of tax 3,610 (13,952) 6,181 (49,681)
Foreign currency translation
adjustments (2,217) (5,406) (8,852) (9,466)
--------------------------------------------------------------------------------------
Comprehensive income $121,389 $112,326 $235,844 $222,002
======================================================================================
6
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3. Earnings per Share
------------------
Earnings per share were computed as follows:
Three months ended Six months ended
March 31 March 31
(in thousands except per share
amounts) 2002 2001 2002 2001
----------------------------------------------------------------------------------------
Net income $119,996 $131,684 $238,515 $281,149
========================================================================================
Weighted-average shares
outstanding - basic 261,596 244,256 261,284 243,982
Incremental shares from assumed
conversions 515 871 697 816
----------------------------------------------------------------------------------------
Weighted-average shares
outstanding - diluted 262,111 245,127 261,981 244,798
========================================================================================
Earnings per share:
Basic and diluted $0.46 $0.54 $0.91 $1.15
4. Securitization of Loans Receivable
----------------------------------
The following table shows details of auto loan securitization transactions
for the three- and six-month periods ended March 31, 2002.
Three months ended Six months ended
March 31 March 31
(in millions) 2002 2001 2002 2001
--------------------------------------------------------------------------------------
Net carrying amount of loans
sold $- $142.6 $306.3 $142.6
Gross sale proceeds $- $145.5 $319.7 $145.5
Pre-tax gain $- $2.9 $13.4 $2.9
When we sell auto loans in a securitization transaction, we retain
interest-only strips and servicing rights. The gross sales proceeds include
the fair value of the interest-only strips.
7
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We generally estimate fair value based on the present value of future
expected cash flows. The key assumptions used in the present value
calculations of our securitization transactions are as follows:
Three months ended Six months ended
March 31 March 31
2002 2001 2002 2001
--------------------------------------------------------------------------------------
Excess cash flow discount rate
(annual rate) N/A 12% 12% 12%
Cumulative credit loss rate
(annual rate) N/A 3.06% 3.76% 3.06%
Pre-payment speed
assumption (annual rate) N/A 1.5% 1.5% 1.5%
These assumptions are determined using data from comparable transactions,
historical information and derived from management's estimate.
Interest-only strip receivables are generally restricted assets and subject
to limited recourse provisions. The carrying value of the interest-only
strips as of March 31, 2002 and September 30, 2001 was $30.3 million and
$10.8 million, respectively. Included in banking/finance liabilities-other
are amounts payable to trustees for servicing income collected of $22.2
million and $10.9 million as of March 31, 2002 and September 30, 2001,
respectively.
With respect to retained servicing responsibilities, we receive annual
servicing fees ranging from 1.25% to 2.0% of the loans securitized.
Additionally, we receive the rights to future cash flows, if any, arising
after the investors in the securitization trust have received their
contracted return. The following is a summary of revenues received in the
three and six months ended March 31, 2002 relating to securitized loans:
Three months ended Six months ended
March 31 March 31
(in thousands) 2002 2001 2002 2001
--------------------------------------------------------------------------------------
Servicing fees $2,092 $1,369 $3,397 $2,336
Other cash flows received on
retained interests $958 $513 $1,258 $743
5. Goodwill and Intangible Assets
------------------------------
Effective October 1, 2001, we adopted Statement of Financial Accounting
Standard No. 142 "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS
142 addresses the initial recognition and measurement of intangible assets
acquired outside a business combination and the recognition and measurement
of goodwill and other intangible assets subsequent to acquisition. Under
the new standard, all goodwill and indefinite-lived intangible assets,
including those acquired before initial application of the standard, will
not be amortized but will be tested for impairment at least annually.
Accordingly, effective October 1, 2001, we ceased amortization on goodwill
and indefinite-lived assets. This resulted in an amortization expense
reduction of approximately $12.5 million ($9.4 million net of tax) and a
$0.04 increase in basic and diluted
8
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earnings per share for the quarter ended March 31, 2002 and an expense
reduction of approximately $25 million ($18.8 million net of tax) and a
$0.08 increase in basic and diluted earnings per share for the six months
ended March 31, 2002.
Our goodwill and intangible assets are attributable to our investment
management operating segment. Indefinite-lived intangible assets represent
the value of management contracts related to our mutual funds and other
investment products. The following table reflects our results adjusted as
though we had adopted SFAS 142 on October 1, 2000.
Three months ended Six months ended
March 31 March 31
(in thousands except per share
amounts) 2002 2001 2002 2001
---------------------------------------------------------------------------------------
Net income as reported $119,996 $131,684 $238,515 $281,149
Goodwill amortization - 5,732 - 11,464
Indefinite-lived intangibles amortization - 3,288 - 6,576
Tax effect at effective tax rate - (2,165) - (4,330)
---------------------------------------------------------------------------------------
Net income as adjusted $119,996 $138,539 $238,515 $294,859
Basic and diluted earnings per share as $0.46 $0.54 $0.91 $1.15
reported
Basic earnings per share as adjusted $0.46 $0.57 $0.91 $1.21
Diluted earnings per share as adjusted $0.46 $0.57 $0.91 $1.20
Intangible assets at March 31, 2002 were as follows:
Gross
carrying Accumulated Net carrying
(in thousands) amount amortization amount
--------------------------------------------------------------------------------------
Amortized intangible assets:
Customer base $232,191 $(15,652) $216,539
Other 31,545 (17,456) 14,089
--------------------------------------------------------------------------------------
263,736 (33,108) 230,628
Non-amortized intangible assets:
Management contracts 462,927 - 462,927
--------------------------------------------------------------------------------------
Intangible assets, net $726,663 $(33,108) $693,555
9
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Estimated amortization expense for each of the 5 succeeding fiscal years is
as follows:
Fiscal years ended
(in thousands) September 30,
---------------------------------------------------------------------------
2002 $17,109
2003 16,951
2004 16,951
2005 16,951
2006 16,951
As of March 31, 2002, we have completed the impairment testing of goodwill
and indefinite-lived intangible assets as of the beginning of our current
fiscal year under the guidance set out in SFAS 142. We have determined that
there is no impairment to the goodwill and indefinite-lived assets recorded
in our books and records as of October 1, 2001.
6. Segment Information
-------------------
We have two operating segments: investment management and banking/finance.
The investment management segment derives substantially all of its revenues
and net income from providing investment advisory, fund administration,
distribution and related services to our sponsored investment products. The
banking/finance segment offers consumer lending, trustee services and
selected retail-banking services to the general public, high net-worth
individuals and corporations.
Financial information for our two operating segments for the three- and
six- month periods ended March 31, 2002 and 2001 is presented in the table
below. Operating revenues of the banking/finance segment are reported net
of interest expense and any provision for loan losses.
Three months ended Six months ended
March 31 March 31
(in thousands) 2002 2001 2002 2001
------------------------------------------------------------------------------------
Operating revenues:
Investment management $617,794 $569,469 $1,216,753 $1,126,829
Banking/finance 8,174 7,944 27,422 14,658
------------------------------------------------------------------------------------
Total $625,968 $577,413 $1,244,175 $1,141,487
Income before taxes:
Investment management $156,700 $170,873 $299,381 $366,016
Banking/finance 3,293 2,395 18,638 3,916
------------------------------------------------------------------------------------
Total $159,993 $173,268 $318,019 $369,932
====================================================================================
Operating segment assets were as follows:
(in thousands) March 31, 2002 September 30, 2001
------------------------------------------------------------------------------------
Investment management $5,248,648 $5,036,406
Banking/finance 1,245,932 1,229,244
------------------------------------------------------------------------------------
Total $6,494,580 $6,265,650
====================================================================================
10
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7. Debt
----
In May 2001, we received approximately $490 million in net proceeds upon
the closing of the sale of $877 million principal amount at maturity of
zero-coupon convertible senior notes due 2031 (the "Convertible Notes"). At
March 31, 2002, the amount included in long-term debt in respect of the
Convertible Notes was $501 million in principal and $8.4 million of accrued
interest. The Convertible Notes, which were offered to qualified
institutional buyers only, carry a yield to maturity of 1.875% per annum,
with an initial conversion premium of 43%. Each of the $1,000 (principal
amount at maturity) Convertible Notes is convertible into 9.3604 shares of
our common stock. We may redeem the Convertible Notes for cash on or after
May 11, 2006 at their accreted value. We may be required to repurchase the
Convertible Notes at their accreted value, at the option of the holders, on
May 11 of 2003, 2004, 2006, 2011, 2016, 2021 and 2026. In this event, we
may choose to pay the purchase price for such repurchases in cash or shares
of our common stock.
We did not have any commercial paper outstanding or medium term notes
issued at March 31, 2002.
8. Commitments and Contingencies
-----------------------------
Under an operating lease for our global corporate headquarters in San
Mateo, California, we are contingently liable for approximately $145
million in residual guarantees, representing approximately 85% of the total
construction costs of $170 million. The lease is classified as an operating
lease as the net present value of the minimum lease payments, including the
residual guarantee estimate, was less than 90% of the fair value of the
leased property at the inception of the lease.
In February 2001, we signed an agreement with IBM under which IBM assumed
management of our data center and distributed server operations. Under the
terms of the agreement, we may terminate the agreement any time after March
2004. If we were to terminate the agreement, we would incur a termination
charge. The maximum termination charge payable depends on service levels
prior to our termination of the agreement, and the amount of costs IBM
would incur in winding down the services. Based on March 31, 2002 service
levels, this termination fee would approximate $37.4 million. We do not
consider it likely that we will incur this cost. Under the terms of the
original agreement, we also must pay IBM an additional transition charge of
approximately $2.7 million in March 2003.
We lease office space and equipment under long-term operating leases.
Future minimum lease payments under non-cancelable leases are not material
to our reported operating results and financial position.
At March 31, 2002, the banking/finance operating segment had commitments to
extend credit aggregating $309.6 million, principally under its credit card
lines. It also held standby letters of credit totaling $10.2 million, which
were secured by marketable securities.
We are involved in various claims and legal proceedings that are considered
normal in our business. While it is not feasible to predict or determine
the final outcome of these proceedings, we do not believe that they should
have a material adverse effect on our financial position, results of
operations or liquidity.
11
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9. Banking Regulatory Ratios
-------------------------
Following the acquisition of Fiduciary Trust Company International
("Fiduciary") in April 2001, we became a bank holding company and a
financial holding company subject to various regulatory capital
requirements administered by the federal banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could
have a direct material effect on our financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective
action, we must meet specific capital guidelines that involve quantitative
measures of our assets, liabilities, and certain off-balance sheet items as
calculated under regulatory accounting practices. Our capital amounts and
classification are also subject to qualitative judgments by the regulators
about components, risk weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require us to maintain minimum amounts and ratios of Tier 1 capital to
average assets (as defined in the regulations) and Tier 1 and total capital
to risk-weighted assets (as defined in the regulations). We believe that,
as of March 31, 2002, we exceed the capital adequacy requirements currently
applicable to us as listed below.
Three months ended Minimum for our
March 31, 2002 capital
adequacy
purposes
(in thousands)
------------------------------------------------ -------------------- -----------------
Total risk-based capital $2,179,778 N/A
Tier 1 capital $2,170,449 N/A
Tier 1 leverage ratio 51% 4%
Tier 1 risk-based capital ratio 83% 4%
Total risk-based capital ratio 84% 8%
12
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
In this section, we discuss our results of operations and our financial
condition. We also make some statements relating to the future, which are called
"forward-looking" statements. Although we do our best to make clear and accurate
forward-looking statements, the actual results and outcomes could be
significantly different from those that we discuss in this document. For this
reason, you should not rely too heavily on these forward-looking statements. You
should review the "Risk Factors" section below, where we discuss these
statements in more detail.
GENERAL
The majority of our operating revenues, operating expenses and net income are
derived from providing investment management and related services to retail
mutual funds, institutional, high net-worth, separate accounts and other
investment products. This is our primary business activity and operating
segment.
Our sponsored investment products include a broad range of domestic and
global/international equity, hybrid, fixed-income, sector and money market
mutual funds, as well as other investment products that meet a wide variety of
specific investment needs of individuals and institutions.
The level of our revenues is largely dependent upon the level and relative
composition of assets under management. To a lesser degree, our revenues are
also dependent on the level of mutual fund sales and the number of mutual fund
shareholder accounts. The fees charged for our services are based on contracts
between our subsidiary entities and our sponsored investment products or our
clients. These arrangements could change in the future.
Our secondary business activity and operating segment is banking/finance. Our
banking/finance group offers selected retail-banking services to high net-worth
individuals and corporations and consumer lending.
13
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ASSETS UNDER MANAGEMENT
March 31 March 31
(in billions) 2002 2001
------------------------------------------------------------------------------------------
Equity:
Global/international $93.9 $87.6
Domestic (U.S.) 53.2 45.5
------------------------------------------------------------------------------------------
Total equity 147.1 133.1
------------------------------------------------------------------------------------------
Hybrid 40.8 9.8
Fixed-income:
Tax-free 48.7 45.8
Taxable:
Domestic 24.6 17.2
Global/international 7.7 3.9
------------------------------------------------------------------------------------------
Total fixed-income 81.0 66.9
------------------------------------------------------------------------------------------
Money 5.6 5.9
------------------------------------------------------------------------------------------
Total $274.5 $215.7
==========================================================================================
Simple monthly average for the three-month period (1) $267.9 $224.9
------------------------------------------------------------------------------------------
Simple monthly average for the six-month period (1) $261.6 $225.6
==========================================================================================
(1) Investment management fees from approximately 45% of our assets under
management at March 31, 2002 are calculated using a daily average.
Our assets under management at March 31, 2002 were $274.5 billion, 27%
higher than they were a year ago. Simple monthly average assets during the
quarter ended March 31, 2002 increased 19% over the same period a year ago.
The change in the absolute level and simple monthly average assets under
management for the quarter ended March 31, 2002 versus the prior year, is
mainly due to the addition of the assets under management of Fiduciary
Trust Company International ("Fiduciary") acquired in April 2001, net sales
of our sponsored investment products and market appreciation.
The following table shows the relative composition of assets under
management.
As of March 31, 2002 2001
-------------------------------------------------------------------------------------------
Percentage of total assets under management:
Equity 54% 61%
Fixed-income 29% 31%
Hybrid 15% 5%
Money 2% 3%
-------------------------------------------------------------------------------------------
Total 100% 100%
===========================================================================================
14
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The change in the composition of assets under management resulted primarily
from the inclusion of the Fiduciary assets under management. Approximately
64% of Fiduciary's assets under management were classified as hybrid assets
at the time of acquisition in April 2001.
The change in our assets under management was as follows.
Three months ended Six months ended
March 31 Percent March 31 Percent
(in billions) 2002 2001 Change 2002 2001 Change
-------------------------------------------------------------------------------------------------------
Beginning assets under management $266.3 $226.9 17% $246.4 $229.9 7%
Sales 18.8 15.6 21% 37.7 28.3 33%
Reinvested dividends 0.5 0.8 (38)% 3.1 6.2 (50)%
Redemptions (14.3) (14.7) (3)% (29.8) (30.1) (1)%
Acquisitions - - - - 3.7 (100)%
Appreciation/ (depreciation) 3.2 (12.9) N/A 17.1 (22.3) N/A
--------------------------------------------------------------------------------------------------------
Ending assets under management $274.5 $215.7 27% $274.5 $215.7 27%
========================================================================================================
The acquisitions of Bissett and Associates Investment Management Ltd. in
October 2000 and Fiduciary in April 2001 increased our assets under
management by $3.7 and $45.8 billion, respectively. For both the three and
six months ended March 31, 2002 sales and reinvested dividends exceeded
redemptions ("net inflows") complex-wide by $5.0 billion and $11.0 billion,
respectively, compared to the same periods last year when net inflows
complex-wide were $1.7 billion and $4.4 billion, respectively.
Substantially all of the $17.1 billion in market appreciation that occurred
in the six months ended March 31, 2002 resulted from increases in the
global/international, domestic equity and hybrid investment categories.
The chart below summarizes changes in our assets under management by
product class.
15
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Three months ended Percent Six months ended Percent
March 31 change March 31 change
(in billions) 2002 2001 2002 2001
-----------------------------------------------------------------------------------------------------------
GLOBAL/INTERNATIONAL EQUITY
Beginning assets under management $89.4 $96.4 (7)% 80.2 97.6 (18)%
Sales 6.9 5.1 35% 14.1 8.8 60%
Reinvested dividends - 0.2 (100)% 0.8 3.1 (74)%
Redemptions (5.1) (6.4) (20%) (12.0) (13.0) (8)%
Acquisitions - - - - 2.2 (100)%
Appreciation/ (depreciation) 2.7 (7.7) N/A 10.8 (11.1) N/A
-----------------------------------------------------------------------------------------------------------
Ending assets under management 93.9 87.6 7% 93.9 87.6 7%
DOMESTIC EQUITY
Beginning assets under management 51.7 50.0 3% 44.5 53.9 (17)%
Sales 3.8 3.7 3% 7.2 7.1 1%
Reinvested dividends - - - 1.1 1.7 (35)%
Redemptions (2.2) (2.6) (15)% (4.4) (4.9) (10)%
Acquisitions - - - - - -
(Depreciation)/ appreciation (0.1) (5.6) (98)% 4.8 (12.3) N/A
-----------------------------------------------------------------------------------------------------------
Ending assets under management 53.2 45.5 17% 53.2 45.5 17%
HYBRID
Beginning assets under management 38.6 10.1 282% 36.1 9.3 288%
Sales 1.6 0.4 300% 2.8 0.6 367%
Reinvested dividends 0.1 - 100% 0.2 0.2 -
Redemptions (0.4) (0.3) 33% (0.9) (0.7) 29%
Acquisitions - - - - 1.1 (100)%
Appreciation/ (depreciation) 0.9 (0.4) N/A 2.6 (0.7) N/A
-----------------------------------------------------------------------------------------------------------
Ending assets under management 40.8 9.8 316% 40.8 9.8 316%
TAX-FREE INCOME
Beginning assets under management 48.3 45.0 7% 48.4 44.0 10%
Sales 1.7 1.3 31% 3.3 2.2 50%
Reinvested dividends 0.3 0.3 - 0.6 0.6 -
Redemptions (1.2) (1.0) 20% (2.4) (2.2) 9%
Acquisitions - - - - - -
(Depreciation)/ appreciation (0.4) 0.2 N/A (1.2) 1.2 N/A
-----------------------------------------------------------------------------------------------------------
Ending assets under management 48.7 45.8 6% 48.7 45.8 6%
TAXABLE FIXED-INCOME
Beginning assets under management 32.5 19.9 63% 31.6 19.8 60%
Sales 2.4 2.0 20% 5.0 3.5 43%
Reinvested dividends 0.1 0.2 (50)% 0.3 0.4 (25)%
Redemptions (2.7) (1.2) 125% (4.7) (2.5) 88%
Acquisitions - - - - 0.4 (100)%
Appreciation/ (depreciation) - 0.2 (100)% 0.1 (0.5) N/A
-----------------------------------------------------------------------------------------------------------
Ending assets under management 32.3 21.1 53% 32.3 21.1 53%
MONEY
Beginning assets under management 5.8 5.5 5% 5.6 5.3 6%
Sales 2.4 3.1 (23)% 5.3 6.1 (13)%
Reinvested dividends - 0.1 (100)% 0.1 0.2 (50)%
Redemptions (2.7) (3.2) (16)% (5.4) (6.8) (21)%
Acquisitions - - - - - -
Appreciation 0.1 0.4 (75)% - 1.1 (100)%
-----------------------------------------------------------------------------------------------------------
Ending assets under management 5.6 5.9 (5)% 5.6 5.9 (5)%
-----------------------------------------------------------------------------------------------------------
TOTAL ENDING ASSETS UNDER
MANAGEMENT $274.5 $215.7 27% $274.5 $215.7 27%
-----------------------------------------------------------------------------------------------------------
16
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RESULTS OF OPERATIONS
Three months ended Six months ended
March 31 Percent March 31 Percent
2002 2001 Change 2002 2001 Change
----------------------------------------------------------------------------------------------
Net income (in millions) $120.0 $131.7 (9)% $238.5 $281.1 (15)%
Earnings per share
Basic and diluted $0.46 $0.54 (15)% $0.91 $1.15 (21)%
Operating margin 24% 25% - 23% 26% -
EBITDA margin(1) 30% 35% - 30% 36% -
-----------------------------------------------------------------------------------------------
(1) EBITDA margin is earnings before interest, taxes on income, depreciation and the amortization of
intangibles (not including amortization of deferred sales commissions) divided by total revenues.
Net income during the three and six months ended March 31, 2002 decreased
9% and 15% compared to the same periods last year primarily due to a
decline in investment and other income.
OPERATING REVENUES
Three months ended Six months ended
March 31 Percent March 31 Percent
(in millions) 2002 2001 Change 2002 2001 Change
-----------------------------------------------------------------------------------------------
Investment
management fees $365.8 $340.1 8% $722.6 $685.9 5%
Underwriting and
distribution fees 197.6 178.2 11% 389.5 342.5 14%
Shareholder servicing
Fees 48.0 51.9 (8)% 95.4 100.2 (5)%
Other, net 14.6 7.2 103% 36.7 12.9 184%
-----------------------------------------------------------------------------------------------
Total operating revenues $626.0 $577.4 8% $1,244.2 $1,141.5 9%
===============================================================================================
SUMMARY
Total operating revenues increased 8% and 9%, respectively, for the three
and six months ended March 31, 2002 compared to the same periods last year.
The acquisition of Fiduciary in April 2001 provided higher investment
management fees from higher average assets under management, despite a
lower effective fee rate resulting from the change in the mix of assets
under management. In addition, investment management and underwriting and
distribution fees increased following an overall improvement in sales
performance and market appreciation. We also benefited from increased
banking/finance segment revenues included in other, net, resulting from the
net gain related to the auto loan securitization completed in December
2001.
INVESTMENT MANAGEMENT FEES
Investment management fees, accounting for 58% of our operating revenues in
the quarter ended March 31, 2002, include both investment advisory and
business management fees. These fees are generally calculated under
contractual arrangements with our sponsored investment products,
institutional, high net-worth, and separate account clients as a percentage
of the market value of
17
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assets under management. Annual rates vary by investment objective and type
of services provided. In return for these fees, we provide a combination of
investment advisory, administrative and other management services based on
the needs of our clients.
Investment management fees increased 8% and 5% during the three and six
months ended March 31, 2002 over the same periods last year. This increase
was primarily due to the Fiduciary acquisition, net sales (including
dividend re-investments) and market appreciation, which increased simple
monthly average assets under management. This increase was partially offset
by a shift in our asset mix toward fixed-income and hybrid investment
products. The shift in asset mix led to a decrease in our effective
investment management fee rate (investment management fees divided by
simple monthly average assets under management). The effective investment
management fee rate in the quarter ended March 31, 2002 declined to 0.55%
compared to 0.60% in the same period last year.
UNDERWRITING AND DISTRIBUTION FEES
Underwriting commissions are earned from the sale of certain classes of
sponsored investment products that have a sales commission paid at the time
of purchase. Sales at reduced or zero commissions are offered on certain
classes of shares and for sales to shareholders or intermediaries that
exceed specified minimum amounts. Thus, as the mix of sales changes, so
will our commission revenue. Our sponsored investment products pay
distribution fees in return for sales, marketing and distribution efforts
on their behalf. While other contractual arrangements exist in other
locations, in the United States, distribution fees include 12b-1 plan fees,
which are subject to maximum payout levels based upon a percentage of the
assets in each fund. A significant portion of underwriting commissions and
distribution fees are paid to the brokers and other intermediaries who sell
our sponsored investment products to the investing public. See the
description of underwriting and distribution expenses below.
Underwriting and distribution fees increased 11% and 14% during the three
and six months ended March 31, 2002 over the same periods last year.
Commission revenues increased 21% and 31% over the same periods last year
primarily due to a 20% and 33% increase in product sales. Distribution fees
increased 5% over each of the same periods last year resulting from higher
assets under management, partially offset by the change in asset mix
resulting from the addition of Fiduciary's assets under management.
SHAREHOLDER SERVICING FEES
Shareholder servicing fees are generally fixed charges per shareholder
account that vary with the particular type of fund and the service being
rendered. In certain instances, sponsored investment products are charged
these fees based on the level of assets under management. Fees are received
as compensation for providing transfer agency services, which include
providing customer statements, transaction processing, customer service and
tax reporting. In the U.S., transfer agency service agreements provide that
closed accounts in a given calendar year remain billable through the second
quarter of the following calendar year at a reduced rate. In Canada, such
agreements provide that accounts closed in the previous calendar year
remain billable for four months after the end of the calendar year.
Accordingly, the level of fees will vary with the split of total billable
accounts between open and closed accounts, the period in which closed
accounts are no longer billable, and the growth in new accounts. In the
coming quarter, we anticipate that approximately 365,000 accounts closed in
Canada during calendar 2001 will no longer be billable effective May 1,
2002.
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Shareholder servicing fees decreased 8% and 5% during the three and six
months ended March 31, 2002 primarily as a result of a decrease in the
total number of billable accounts.
OTHER, NET
Other, net consists primarily of revenues from the banking/finance
operating segment and custody services related to Fiduciary. Revenues from
the banking/finance operating segment include operating revenues,
consisting primarily of interest income on loans, servicing income, and
investment income on banking/finance investment securities, which are
offset by interest expense, and the provision for anticipated loan losses.
Other, net increased 103% in the three months ended March 31, 2002. This
increase was principally due to the increase resulting from the addition of
the Fiduciary banking and custody activities from the date of acquisition.
Other, net increased 184% in the six months ended March 31, 2002. This
increase was principally due to the net impact of the recognition of a gain
of $13.4 million resulting from the sale of a portion of our auto loan
portfolio in December 2001 and the increase resulting from the addition of
the Fiduciary banking and custody activities from the date of acquisition.
OPERATING EXPENSES
Three months ended Six months ended
March 31 Percent March 31 Percent
(in millions) 2002 2001 Change 2002 2001 Change
-------------------------------------------------------------------------------------------------
Underwriting and distribution $177.3 $162.1 9% $349.6 $307.8 14%
Compensation and benefits 159.8 140.1 14% 320.0 281.9 14%
Information systems, technology and
and occupancy 73.2 59.0 24% 147.8 116.5 27%
Advertising and promotion 25.5 24.4 5% 51.9 46.6 11%
Amortization of deferred
sales commissions 17.0 17.6 (3)% 33.8 35.8 (6)%
Amortization of intangible
assets 4.2 10.1 (58)% 8.6 20.0 (57)%
Other 20.9 19.6 7% 41.6 39.4 6%
------------------------------------------------------------------------------------------------
Total operating expenses $477.9 $432.9 10% $953.3 $848.0 12%
================================================================================================
SUMMARY
Operating expenses increased 10% and 12% during the three and six months
ended March 31, 2002 over the same periods last year. This increase was
primarily caused by the addition of the operating costs and other expenses
arising from the Fiduciary acquisition (including a retention bonus pool
established to retain certain key employees), increased information
systems, technology and occupancy, and underwriting and distribution
expenses, offset by decreased amortization of intangible assets.
UNDERWRITING AND DISTRIBUTION
Underwriting and distribution includes sales commissions and distribution
fees paid to brokers and other third parties for selling, distributing and
providing ongoing services to investors in our sponsored investment
products. Underwriting and distribution expense increased 9% and 14% during
19
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the three and six months ended March 31, 2002 over the same periods last
year consistent with the increase in underwriting and distribution
revenues.
COMPENSATION AND BENEFITS
Compensation and benefit expense increased 14% during the three and six
months ended March 31, 2002 over each of the same periods last year. This
increase was primarily due to the addition of Fiduciary employees and
related retention bonuses committed to the Fiduciary staff. The increase
was partially offset by the decision made by management during the quarter
ended December 2001 to reduce employee salaries by 5% or 10%, depending on
specific salary categories. In May 2002, we reinstated salaries for
employees whose salaries were reduced by 5%. We will review employee
salaries in the 10% reduction category in July 2002. As a result of the
reinstatements, compensation and benefit expense is expected to increase in
future months. In addition, our bonus pool is calculated based on operating
profits and specific investment performance drivers. As the prospects for
the company continue to improve, we expect compensation costs to increase.
Merit salary awards are normally given annually in October and are based
upon the performance of the individual employee, market conditions and
position description. We decided not to provide merit increases to
employees in October 2001.
The number of employees at March 31, 2002 was approximately 6,400 as
compared to approximately 6,300 at the same time last year. Without the
addition of Fiduciary staff, the employee headcount at March 31, 2002 would
have decreased from the prior year by approximately 400. In order to hire
and retain our key employees, we are committed to keeping our salaries and
benefit packages competitive, which means that the level of compensation
and benefits may increase more quickly or decrease more slowly than our
revenues at certain points in our growth cycle. In addition, if leading
indicators continue to point to an economic recovery and our growth in
assets under management continues, we may need to hire additional staff,
which will also place upward pressure on compensation.
INFORMATION SYSTEMS, TECHNOLOGY AND OCCUPANCY
Information systems, technology and occupancy costs increased 24% and 27%
during the three and six months ended March 31, 2002 over the same periods
last year. This increase was primarily due to the charges and costs in
connection with IBM's assumption of the management of our data center and
distributed server operations, the added technology and occupancy costs of
the Fiduciary acquisition, and the increase in amortization expense related
to our capitalized expenditures on technology initiatives. During the past
year, we embarked on a number of hardware upgrades, purchased, developed
and installed new software applications, re-engineered our technology
infrastructure and global network architecture, replaced or upgraded older
versions of software applications, and developed and implemented e-business
strategies to improve our service levels, work environment and
productivity. The extent of this work has declined from the quarter ended
December 31, 2001 as we slowed down a number of initiatives and delayed the
start of other technology projects given the current economic slowdown and
our focus on cost control and management.
20
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Details of capitalized information systems and technology costs were as
follows:
Three months ended Six months ended
March 31 March 31
(in thousands) 2002 2001 2002 2001
-------------------------------------------------------------------------------------------
Net book value at beginning of period $151,321 $155,226 $162,857 $156,895
Additions during period, net of disposals and
other adjustments 14,906 20,855 22,432 34,907
Net assets acquired through acquisitions - - - 782
Amortization during period (19,361) (18,550) (38,423) (35,053)
-------------------------------------------------------------------------------------------
Net book value at end of period $146,866 $157,531 $146,866 $157,531
===========================================================================================
ADVERTISING AND PROMOTION
Advertising and promotion increased 5% and 11% during the three and six
months ended March 31, 2002 over the same periods last year. This increase
resulted primarily from increased promotion and advertising activity to
assist in educating the sales channels and the investing public about the
strong relative investment performance of our sponsored investment products
over the relevant periods.
AMORTIZATION OF DEFERRED SALES COMMISSIONS
Amortization of deferred sales commissions decreased 3% and 6% during the
three and six months ended March 31, 2002 over the same periods last year.
This decrease was principally a result of the change in sales mix and our
current financing arrangements. Certain fund classes, namely class B and C,
are sold without a front-end sales charge to shareholders, while, at the
same time, our distribution subsidiaries pay a commission to selling
brokers and other intermediaries. Similarly, class A shares are sold
without a front-end sales charge to shareholders when certain minimum
investment criteria are met, yet our U.S. distribution subsidiaries pay a
commission on the sale. We defer and amortize this up front commission over
a 1 to 8 year period. Thus, as the balance of the deferred sales commission
asset changes on our balance sheet, so does the amortization expense. We
have also arranged to finance certain deferred commission assets ("DCA")
arising from our U.S., Canadian and European operations through Lightning
Finance Company Limited ("LFL"), a company in which we have an ownership
interest. As a result of the arrangement with LFL, Canadian and European
DCA are no longer recorded in our financial statements. U.S. DCA sold to
LFL under the U.S. agreement are retained in our financial statements until
resold by LFL, which generally occurs at least once annually.
AMORTIZATION OF INTANGIBLE ASSETS
Amortization of intangible assets decreased 58% and 57% during the three
and six months ended March 31, 2002 over the same periods last year. This
decrease was due to the adoption of Statement of Financial Accounting
Standard No. 142 "Goodwill and Other Intangible Assets" ("SFAS 142") on
October 1, 2001. Under the new accounting standard we ceased to amortize
goodwill and indefinite-lived intangible assets. This resulted in a
reduction in amortization expense of approximately $9 million and $18
million for the three and six months ended March 31, 2002, as compared to
the same periods last year. We completed our impairment testing of goodwill
and indefinite-lived intangible assets as specified in SFAS 142 and have
determined that there is no impairment to the goodwill and indefinite-lived
assets recorded in our books and records as of October 1, 2001.
21
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OTHER INCOME (EXPENSE)
Investment and other income is comprised primarily of dividends from
investments in our sponsored mutual funds, interest income from investments
in bonds and government securities, realized gains and losses on
investments, foreign currency exchange gains and losses, and other
miscellaneous income including the gain or loss on disposal of property.
Other income (expense) decreased 58% and 65% during the three and six
months ended March 31, 2002 over the same periods last year. During the
quarter ended December 31, 2000, we recognized additional net realized
gains of approximately $19.6 million from the sale of certain sponsored
investment products held for investment. In addition, realized gains of
$8.2 million and $16.4 million were included in other income during the
three and six months ended March 31, 2001. These gains related to the $32.9
million gain on the sale of our headquarters building in San Mateo, which
was recognized over 12-month leaseback period through June 2001.
TAXES ON INCOME
Our effective income tax rate for the quarter ended March 31, 2002
increased to 25% compared to 24% in the same period last year consistent
with increased revenues generated in the U.S. The effective tax rate will
continue to be reflective of the relative contributions of foreign earnings
that are subject to reduced tax rates and that are not currently included
in U.S. taxable income.
MATERIAL CHANGES IN FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2002, we had $1,089.8 million in cash and cash equivalents, as
compared to $569.0 million at September 30, 2001. Cash and cash equivalents
include U.S. Treasury bills and other debt instruments with original
maturities of three months or less, money market funds and other highly
liquid investments that are readily convertible into cash. The mix of
short-term instruments and, in particular, the maturity schedules of
certain debt instruments affect the levels reported in cash and cash
equivalents and in investments available-for-sale in any given quarter.
Liquid assets, which consist of cash and cash equivalents, investments
available-for-sale and current receivables increased to $2,833.0 million at
March 31, 2002 from $2,377.4 million at September 30, 2001, primarily due
to net income generated in the six months ended March 31, 2002 of $238.5
million, proceeds received from the securitization of auto loans net of new
loan originations, and an increase in deposits in our banking/finance
operating segment.
Outstanding debt increased to $613.5 million at March 31, 2002 compared to
$574.4 million at September 30, 2001. Outstanding debt consists primarily
of $509.4 million in principal and accrued interest related to outstanding
Convertible Notes that we issued in May 2001. Each of the $1,000 (principal
amount at maturity) Convertible Notes is convertible into 9.3604 shares of
our common stock. We may redeem the Convertible Notes for cash on or after
May 11, 2006 at their accreted value. We may be required to repurchase the
Convertible Notes at their accreted value, at the option of the holders, on
May 11 of 2003, 2004, 2006, 2011, 2016, 2021 and 2026. In this event, we
may choose to pay the purchase price for such repurchases in cash or shares
of our common stock. The overall increase in outstanding debt is primarily
related to additional financing activity of our mutual fund Class B and C
shares sales, which increased other long-term debt to $104.1 million as of
March 31, 2002, from $69.7 million as of September 30, 2001. This debt has
various maturity dates through fiscal 2006 and thereafter.
22
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At March 31, 2002, approximately $850 million was available to us under
unused commercial paper and medium-term note programs. In addition, in
fiscal 2001 we filed a shelf registration statement with the Securities and
Exchange Commission permitting the issuance of debt and equity securities
of up to $300 million. Our ability to access the capital markets in a
timely manner is dependant on a number of factors including our credit
rating, the condition of the global economy, investors' willingness to
purchase our securities, interest rates, credit spreads and the equity
market valuation levels. In extreme circumstances, we might not be able to
access this liquidity readily.
Our committed revolving credit facilities at March 31, 2002 totaled $500
million, of which, $200 million was under a 364-day facility. The remaining
$300 million facility was under a five year facility and will expire in May
2003. We also have $350 million available in uncommitted bank lines under
the Federal Reserve Funds system through Fiduciary.
We have arranged with LFL for non-recourse financing of sales commissions
advanced on sales of our B and C shares globally. The sales commissions
that we have financed through LFL during the three and six months ended
March 31, 2002 approximated $36.0 million and $65.4 million respectively
versus $20.5 million and $35.5 million over the same periods in the prior
year.
Since September 1998, our banking/finance operating segment has entered
into a number of securitization transactions with special purpose entities,
which then issue asset-backed securities to private investors. The
outstanding loan balances held by these special purpose entities were
$415.1 million as of March 31, 2002 and $211.4 million as of September 30,
2001. Our ability to access the securitization market will directly affect
our plans to finance the auto loan portfolio in the future.
We expect that the principal uses of cash will be to increase assets under
management through expansion of our business, make strategic acquisitions,
fund property and equipment purchases, pay operating expenses of the
business, enhance our technology infrastructure, improve our business
processes, pay shareholder dividends, repay and service debt, and acquire
our common stock. We expect to finance future increases in investment in
our banking/finance activities through operating cash flows, debt,
increased deposit base, or through the securitization of a portion of the
receivables from consumer lending activities.
We believe that our existing liquid assets, together with the continuing
cash flow from operations, our borrowing capacity under current credit
facilities, our ability to issue debt or equity securities and our mutual
fund sales commission financing arrangement will be sufficient to meet our
present and reasonably foreseeable operating cash needs and future
commitments.
23
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RISK FACTORS
WE FACE STRONG COMPETITION FROM NUMEROUS AND SOMETIMES LARGER COMPANIES. We
compete with numerous investment management companies, stock brokerage and
investment banking firms, insurance companies, banks, savings and loan
associations and other financial institutions. Continuing consolidation in the
financial services industry has created stronger competitors with greater
financial resources and broader distribution channels than our own.
Additionally, competing securities dealers whom we rely upon to distribute our
mutual funds also sell their own proprietary funds and investment products,
which could limit the distribution of our investment products. To the extent
that existing or potential customers, including securities dealers, decide to
invest in or distribute the products of our competitors, the sales of our
products as well as our market share, revenues and net income could decline.
CHANGES IN THE DISTRIBUTION CHANNELS ON WHICH WE DEPEND COULD REDUCE OUR
REVENUES AND HINDER OUR GROWTH. We derive nearly all of our fund sales through
broker/dealers and other similar investment advisors. Increasing competition for
these distribution channels has caused our distribution costs to rise and could
cause further increases in the future. Higher distribution costs lower our net
revenues and earnings. Additionally, if one of the major financial advisors who
distribute our products were to cease their operations, it could have a
significant adverse impact on our revenues and earnings. Moreover, our failure
to maintain strong business relationships with these advisors would impair our
ability to distribute and sell our products, which would have a negative effect
on our level of assets under management, related revenues and overall business
and financial condition.
WE HAVE BECOME SUBJECT TO AN INCREASED RISK OF ASSET VOLATILITY FROM CHANGES IN
THE GLOBAL EQUITY MARKETS. We have become subject to an increased risk of asset
volatility from changes in the domestic and global equity markets due to the
recent terrorist attacks. Declines in these markets have caused in the past, and
would cause in the future, a decline in our revenue and income.
THE LEVELS OF OUR ASSETS UNDER MANAGEMENT, WHICH IN TURN IMPACT REVENUES, ARE
SUBJECT TO SIGNIFICANT FLUCTUATIONS. Global economic conditions, changes in the
equity market place, interest rates, inflation rates, the yield curve and other
factors that are difficult to predict affect the mix, market values and levels
of our assets under management. Changing market conditions may cause a shift in
our asset mix towards fixed-income products and a related decline in our revenue
and income, since we derive higher fee revenues and income from equity assets
than from fixed-income products we manage. Similarly, our securitized consumer
receivables business is subject to marketplace fluctuation.
WE FACE RISKS ASSOCIATED WITH CONDUCTING OPERATIONS IN NUMEROUS FOREIGN
COUNTRIES. We sell mutual funds and offer investment advisory and related
services in many different regulatory jurisdictions around the world, and intend
to continue to expand our operations internationally. Regulators in these
jurisdictions could change their policies or laws in a manner that might
restrict or otherwise impede our ability to distribute or register investment
products in their respective markets.
OUR INABILITY TO MEET CASH NEEDS COULD HAVE A NEGATIVE EFFECT ON OUR FINANCIAL
CONDITION AND BUSINESS OPERATIONS. Our ability to meet anticipated cash needs
depends upon factors including our asset value, our creditworthiness as
perceived by lenders and the market value of our stock. Similarly, our ability
to securitize and hedge future loan portfolios and credit card receivables, and
to obtain continued financing for class B shares, is also subject to the
market's perception of those assets, finance rates offered by competitors, and
the general market for private debt. If we are unable to obtain these funds and
financing, we may be forced to incur unanticipated costs or revise our business
plans.
24
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WE FACE COMPETITION IN HIRING AND RETAINING QUALIFIED EMPLOYEES. Our continued
success will depend upon our ability to attract and retain qualified personnel.
If we are not able to attract and retain qualified employees, our overall
business condition and revenues could suffer.
OUR EMERGING MARKET PORTFOLIOS AND RELATED REVENUES ARE VULNERABLE TO
MARKET-SPECIFIC POLITICAL AND ECONOMIC RISKS. Our emerging market portfolios and
revenues derived from managing these portfolios are subject to significant risks
of loss from political and diplomatic developments, currency fluctuations,
social instability, changes in governmental polices, expropriation,
nationalization, asset confiscation and changes in legislation related to
foreign ownership. Foreign trading markets, particularly in some emerging market
countries are often smaller, less liquid, less regulated and significantly more
volatile than the U.S. and other established markets.
DIVERSE AND STRONG COMPETITION LIMITS THE INTEREST RATES THAT WE CAN CHARGE ON
CONSUMER LOANS. We compete with many types of institutions for consumer loans,
which can provide loans at significantly below-market interest rates in
connection with automobile sales. Our inability to compete effectively against
these companies or to maintain our relationships with the various automobile
dealers through whom we offer consumer loans could limit the growth of our
consumer loan business. Economic and credit market downturns could reduce the
ability of our customers to repay loans, which could cause our consumer loan
portfolio losses to increase.
THE SEPTEMBER 11, 2001 WORLD TRADE CENTER TRAGEDY MAY ADVERSELY AFFECT OUR
ABILITY TO ACHIEVE THE BENEFITS WE EXPECT FROM THE RECENT ACQUISITION OF
FIDUCIARY. The September 11, 2001 tragedy at the World Trade Center resulted in
the destruction of our Fiduciary headquarters, loss of 87 of our employees,
additional operating expenses to re-establish and relocate our operations, and
asset write-offs, all of which could adversely affect or delay our ability to
achieve the anticipated benefits from the acquisition. Overcoming this tragedy
and achieving the anticipated benefits of the acquisition will depend on close
collaboration between management and key personnel of the two companies in a
timely and efficient manner.
THE FIDUCIARY ACQUISITION COULD ADVERSELY AFFECT OUR COMBINED FINANCIAL RESULTS
OR THE MARKET PRICE OF OUR COMMON STOCK. If the benefits of the acquisition over
time do not exceed the costs associated with the acquisition, including any
dilution to our shareholders resulting from the issuance of shares in connection
with the acquisition, our financial results, including earnings per share, could
be adversely affected.
WE ARE SUBJECT TO FEDERAL RESERVE BOARD REGULATION. Upon completion of our
acquisition of Fiduciary, we became a bank holding company and a financial
holding company subject to the supervision and regulation of the Federal Reserve
Board under the Bank Holding Company Act of 1956. The Federal Reserve Board may
impose limitations, restrictions, or prohibitions on our activities if the
Federal Reserve Board believes that we do not have the appropriate financial and
managerial resources to commence or conduct an activity or make an acquisition,
and the Federal Reserve Board may take actions as appropriate to enforce
applicable federal law.
TECHNOLOGY AND OPERATING RISK COULD CONSTRAIN OUR OPERATIONS. We are highly
dependent on the integrity of our technology, operating systems and premises.
Although we have in place certain disaster recovery plans, we may experience
system delays and interruptions as a result of natural disasters, power
failures, acts of war, and third party failures, which could negatively impact
our operations.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the normal course of business, our financial position is subject to market
risk: the potential loss due to changes in the value of investments resulting
from fluctuations in interest rates, foreign exchange and/or equity prices.
Management is responsible for managing this risk. We have also established a
Risk Management Committee to provide a framework to assist management to
identify, assess and manage market and other risks.
We are exposed to changes in interest rates primarily in our debt transactions
and portfolio debt holdings available for sale, which are carried at fair value.
As of March 31, 2002, a significant percentage of our outstanding debt is at
fixed interest rates. In our banking/finance segment, we monitor the net
interest rate margin and the average maturity of interest earning assets and
funding sources. In addition, we have considered the potential impact of the
effect on the banking/finance segment, our outstanding debt and portfolio debt
holdings, individually and collectively, of a 100 basis point (1%) movement in
market interest rates. We do not expect this change would have a material impact
on our operating revenues or results of operations in either scenario.
We operate primarily in the United States, but also provide services and earn
revenues in Canada, the Bahamas, Europe, Asia, South America, Africa and
Australia. The majority of these revenues and associated expenses, however, are
denominated in U.S. dollars. Therefore, our exposure to foreign currency
fluctuations in our revenues and expenses is not material at this time. This
situation may change in the future as our business continues to grow outside the
United States.
We are exposed to equity price fluctuations as investments available for sale
are carried at fair value. To mitigate this risk, we maintain a diversified
investment portfolio.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We previously reported that three individual plaintiffs filed a consolidated
class action and derivative complaint, captioned In re: Templeton Securities
Litigation (Civil Action No. 98-6059), in the U.S. District Court for the
Southern District of Florida, against Templeton Vietnam Opportunities Fund, Inc.
(now known as Templeton Vietnam and Southeast Asia Fund, Inc.) (hereafter, the
"Fund"); Templeton Asset Management, Ltd., an indirect wholly-owned subsidiary
of Franklin Resources, Inc. ("FRI") and the investment manager of the closed-end
investment company; certain of the fund's officers and directors; FRI; and
Templeton Worldwide, Inc., an FRI subsidiary. On April 3, 2002, the Court
provided final approval of a settlement agreement entered into among the
parties, which had been preliminarily approved by the Court on November 15,
2001. Under the terms of the settlement agreement, the plaintiffs and defendants
agreed to resolve all claims for $6.5 million, including plaintiffs' attorneys
fees and the costs of administering the settlement; it is expected that the Fund
will receive a minimum of $2 million, which has been reflected in the Fund's net
asset value as of April 3, 2002. The defendants have agreed to the settlement to
avoid the expense and inconvenience of further proceedings. The settlement does
not contain, and specifically denies, any admission of wrongdoing or violation
of law by any of the defendants.
We also previously reported that on June 22, 2001 plaintiffs Richard Nelson and
Dorothy Nelson filed a First Amended complaint, captioned Richard Nelson, et.
al. v. AIM Advisors, Inc. et. al. (Case No. 01-282-DRH), in the United States
District Court of the Southern District of Illinois, which added additional
plaintiffs and named as defendants advisory and distribution entities from 25
different mutual fund
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complexes, including Franklin Advisers, Inc. and Franklin/Templeton
Distributors, Inc., both wholly-owned subsidiaries of FRI and Templeton Global
Advisors Limited, an indirect wholly-owned subsidiary of FRI (collectively, the
"Franklin Defendants"). On September 17, 2001, the plaintiffs filed a Second
Amended Complaint, which dropped certain claims included in the First Amended
Complaint and deleted certain previously named defendants. The Second Amended
Complaint had alleged, among other things, violations of the Investment Company
Act of 1940 with respect to distribution and advisory contracts of funds advised
or distributed by the defendants. On March 29, 2002, based on the stipulation of
all parties in the action, the Court entered an order of dismissal of the entire
action as to all defendants, including the Franklin Defendants, without
prejudice.
We are involved from time to time in litigation relating to claims arising in
the normal course of business. Management is of the opinion that the ultimate
resolution of such claims will not materially affect our business or financial
position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Annual Meeting of Stockholders of Franklin Resources, Inc. was held
at 10:00 a.m., Pacific Standard Time, on January 25, 2002 at the principal
offices of the Company located at One Franklin Parkway, San Mateo, California.
The two proposals presented at the meeting were:
1. The election of nine (9) directors to hold office until the next Annual
Meeting of Stockholders or until their successors are elected and shall
qualify.
2. The ratification of the appointment by the Board of Directors of
PricewaterhouseCoopers LLP as the Company's independent accountants for
the fiscal year ending September 30, 2002.
(b) Each of the nine nominees for director was elected and received the
number of votes set forth below:
Name For Against
---- --- -------
Harmon E. Burns 195,356,360 4,021,770
Charles B. Johnson 195,388,245 3,989,885
Charles E. Johnson 195,335,827 4,042,303
Rupert H. Johnson, Jr. 195,394,594 3,983,536
Harry O. Kline 195,377,600 4,000,530
James A. McCarthy 195,950,759 3,427,371
Peter A. Sacerdote 195,429,271 3,948,859
Anne M. Tatlock 195,147,502 4,230,628
Louis E. Woodworth 195,962,621 3,415,509
(c) The ratification of the appointment of PricewaterhouseCoopers LLP as the
Company's independent accountants for the fiscal year ending September 30, 2002,
was approved by a vote of 197,913,819 shares in favor, 650,892 shares against,
and 813,419 shares abstaining.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed as part of the report:
Exhibit 3(i)(a) Registrant's Certificate of Incorporation, as filed
November 28, 1969, incorporated by reference to Exhibit
(3)(i) to the Company's Annual Report on Form 10-K for
the fiscal year ended September 30, 1994 (the "1994
Annual Report")
Exhibit 3(i)(b) Registrant's Certificate of Amendment of Certificate of
Incorporation, as filed March 1, 1985, incorporated by
reference to Exhibit (3)(ii) to the 1994 Annual Report
Exhibit 3(i)(c) Registrant's Certificate of Amendment of Certificate of
Incorporation, as filed April 1, 1987, incorporated by
reference to Exhibit (3)(iii) to the 1994 Annual Report
Exhibit 3(i)(d) Registrant's Certificate of Amendment of Certificate of
Incorporation, as filed February 2, 1994, incorporated
by reference to Exhibit (3)(iv) to the 1994 Annual
Report
Exhibit (3)(ii) Registrant's By-Laws incorporated by reference to
Exhibit 3(ii) to the Company's Form 10-K for the fiscal
year ended September 30, 1999
Exhibit 4.1 Indenture between Franklin Resources, Inc. and The Bank
of New York dated May 11, 2001 incorporated by
reference to Exhibit 4.2 to the Registrant's
Registration Statement on Form S-3, filed on August 6,
2001
Exhibit 4.2 Registration Rights Agreement between Franklin
Resources, Inc. and Merrill Lynch, Pierce, Fenner &
Smith Incorporated ("Merrill Lynch") dated May 11, 2001
incorporated by reference to Exhibit 4.4 to the
Registrant's Registration Statement on Form S-3, filed
on August 6, 2001
Exhibit 10.62 Deferred Compensation Agreement For Director's Fees, as
amended on April 15, 2002.
Exhibit 12 Computations of ratios of earnings to fixed charges
(b) Reports on Form 8-K:
(i) Form 8-K filed on January 24, 2002 reporting under Item
5 "Other Events" an earnings press release, dated
January 24, 2002, and including said press release as
an Exhibit under Item 7 "Financial Statements and
Exhibits."
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FRANKLIN RESOURCES, INC.
------------------------
Registrant.
Date: May 14, 2002 /s/ Martin L. Flanagan
----------------------
MARTIN L. FLANAGAN
President, Member-Office of the President,
Chief Financial Officer and Chief Operating
Officer
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