UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 2003
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 number 1-9318
FRANKLIN RESOURCES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 13-2670991
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
ONE FRANKLIN PARKWAY, SAN MATEO, CA 94403
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including Area Code: (650) 312-2000
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
------------------- -----------------------------------------
Common Stock, par value New York Stock Exchange
$.10 per share Pacific Exchange
London Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
None
Indicate by "X" 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 at least the past 90 days. YES[X] NO[ ]
Indicate by "X" mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by "X" mark whether the Registrant is an accelerated filer (as defined
in Exchange Act Rule 12b-2).
YES[X] NO[ ]
The aggregate market value of the voting stock ("Common Stock") held by
non-affiliates of the Registrant, as of March 31, 2003 (the last business day of
Registrant's second quarter of fiscal 2003), was approximately $4.75 billion
based upon the last sale price reported for such date on the New York Stock
Exchange. For purposes of this disclosure, shares of Common Stock held by
persons who hold more than 5% of the outstanding shares of Common Stock and
shares held by officers and directors of the Registrant have been excluded
because such persons may be deemed to be affiliates. This determination is not
necessarily conclusive.
Number of shares of the Registrant's common stock outstanding at December 1,
2003: 248,473,077
DOCUMENTS INCORPORATED BY REFERENCE:
Certain portions of the Registrant's proxy statement for its annual meeting of
stockholders (the "Proxy Statement") to be held on January 29, 2004, which will
be filed with the Securities and Exchange Commission (the "SEC"), are
incorporated by reference into Part III of this report.
INDEX TO ANNUAL REPORT ON FORM 10-K
PAGE
NUMBER
REFERENCE TO THIS
FORM 10-K 2003 ANNUAL REPORT
REQUIRED INFORMATION ON FORM 10-K
PART I
ITEM 1. BUSINESS 4
General 4
Company History and Acquisitions 4
Lines of Business 5
Investment Management and Related Services 5
Banking/Finance Operations 19
Regulatory Considerations 20
Competition 22
Financial Information About Industry Segments 22
Intellectual Property 22
Employees 23
Available Information 23
Executive Officers of the Registrant 23
ITEM 2. PROPERTIES 25
ITEM 3. LEGAL PROCEEDINGS 26
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF
SECURITY HOLDERS 26
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON
EQUITY AND RELATED STOCKHOLDER MATTERS 26
ITEM 6. SELECTED FINANCIAL DATA 27
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 27
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK 44
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 45
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE 79
ITEM 9A. CONTROLS AND PROCEDURES 79
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 79
Proxy: "Proposal 1: Election of Directors"*
ITEM 11. EXECUTIVE COMPENSATION 79
Proxy: "Proposal 1: Election of Directors"*
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT 80
Equity Compensation Plan Information
Proxy: "Security Ownership of Principal Shareholders"
and "Security Ownership of Management"*
2
PAGE
NUMBER
REFERENCE TO THIS
FORM 10-K 2003 ANNUAL REPORT
REQUIRED INFORMATION ON FORM 10-K
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS 80
Proxy: "Proposal 1: Election of Directors -
Certain Relationships and Related Transactions"*
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES 80
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K 81
SIGNATURES 82
* Incorporated by reference to the Proxy Statement.
3
PART I
FORWARD-LOOKING STATEMENTS. In addition to historical information, this Annual
Report on Form 10-K contains forward-looking statements that involve risks and
uncertainties, including the risk factors explained in the section entitled
Management's Discussion and Analysis of Financial Condition and Results of
Operations ("MD&A"), that could cause our actual results to differ materially
from those reflected in the forward-looking statements. When used in this
report, words or phrases about the future such as "expected to", "could have",
"will continue", "anticipates", "estimates" or similar expressions are
"forward-looking statements" as defined in the Private Securities Litigation
Reform Act of 1995. Statements in MD&A and elsewhere in this report that
speculate about future events are "forward-looking statements". Forward-looking
statements are our best prediction at the time that they are made, and you
should not rely on them. If a circumstance occurs that causes any of our
forward-looking statements to be inaccurate, we do not have an obligation to
announce publicly the change to our expectations, or to make any revision to the
forward-looking statements.
ITEM 1. BUSINESS
GENERAL
Franklin Resources, Inc. ("FRI" or the "Company"), is a diversified financial
services company, which is registered as a bank holding company under the Bank
Holding Company Act of 1956, as amended (the "BHC Act"), and as a financial
holding company under the Gramm-Leach-Bliley Act (the "GLB Act"). Through our
wholly-owned direct and indirect subsidiary companies, we provide a broad range
of investment advisory, investment management and related services to open-end
investment companies, including our own family of retail mutual funds,
institutional accounts, high net-worth families, individuals and separate
accounts in the United States (the "U.S.") and internationally. Our "sponsored
investment products" include a broad range of domestic and global/international
equity, hybrid/balanced, fixed-income, and money market mutual funds as well as
other investment products, which are sold to the public under the Franklin,
Templeton, Mutual Series, Bissett and Fiduciary Trust brand names. As of
September 30, 2003, we had $301.9 billion in assets under our management with
approximately 14.2 million billable shareholder accounts worldwide. In support
of our primary business and operating segment, investment management, we also
provide certain related services, including transfer agency, fund
administration, distribution, shareholder processing, custodial, trustee and
other fiduciary services. In our secondary business and operating segment,
banking/finance, we provide clients with select retail-banking and consumer loan
services through our bank subsidiaries. The common stock of FRI is traded in the
U.S. primarily on the New York Stock Exchange and the Pacific Exchange under the
ticker symbol "BEN" and under the ticker symbol "FRK" on the London Stock
Exchange. The term "Franklin(R) Templeton(R) Investments" as used in this
document, refers to Franklin Resources, Inc. and its consolidated subsidiaries.
COMPANY HISTORY AND ACQUISITIONS
Franklin Templeton Investments and its predecessors have been engaged in the
financial services business since 1947. Franklin Resources, Inc. was
incorporated in Delaware in November 1969. We originated our mutual fund
business with the Franklin family of funds, which is now known as the Franklin
Funds(R). We expanded our business, in part, by acquiring companies engaged in
the investment advisory and investment management business.
In October 1992, we acquired substantially all of the assets and liabilities of
the investment adviser to the Templeton, Galbraith & Hansberger Ltd. financial
services business. This acquisition added the Templeton family of funds to our
Company. The Templeton funds are known for their international and global
investment objectives and value style of investing.
In November 1996, we acquired certain assets and liabilities of Heine Securities
Corporation, which provided investment management services to various accounts
and investment companies, including Mutual Series Fund Inc., now known as
Franklin Mutual Series Fund Inc. ("Mutual Series"). The Mutual Series funds are
primarily value oriented equity funds.
We expanded our business in Korea in July 2000 when we purchased all of the
remaining outstanding shares of a Korean asset management company, in which we
previously held a partial interest. With assets under
4
management approaching $3 billion in Korea, we are now one of the larger foreign
money managers in that country.
We acquired all of the outstanding shares of Bissett & Associates Investment
Management, Ltd. ("Bissett") in October 2000 for approximately $95 million.
Bissett now operates as part of our Canadian subsidiary, Franklin Templeton
Investments Corp. ("FTIC"). With the addition of Bissett, we added Bissett's
family of mutual funds to our existing Canadian based funds and expanded our
investment advisory services throughout Canada to a broad range of clients,
including institutional clients such as pension plans, municipalities,
universities, charitable foundations and private clients.
In April 2001, we acquired Fiduciary Trust Company International, a bank
organized under the New York State Banking Law ("Fiduciary Trust"). Following
the acquisition, Fiduciary Trust became a wholly-owned subsidiary of Franklin
Resources, Inc. The stock transaction was valued at approximately $776 million
at closing. Fiduciary Trust has a reputation as one of the leading providers of
investment management and related trust and custody services to institutional
clients and high net-worth families and individuals. With the acquisition of
Fiduciary Trust, we also added Fiduciary Trust's U.S. and non-U.S. mutual funds
to our product line.
In July 2002, our 75% owned subsidiary, Templeton Asset Management (India)
Private Limited, acquired all of the outstanding shares of Pioneer ITI AMC
Limited ("Pioneer") for approximately $55.4 million. Pioneer is an Indian
investment management company with approximately $800 million in assets under
management as of the purchase date. The acquisition made us one of the largest
private sector fund companies in India, with combined assets at the time of
acquisition of approximately $1.6 billion and more than 850,000 shareholder
accounts.
In October 2003, we acquired Darby Overseas Investments, Ltd. and Darby Overseas
Partners, L.P. (collectively, "Darby") for $75.9 million. We had previously
owned 12.66% of Darby, and with the completion of the acquisition, we now have a
100% ownership interest. The acquisition was made in accordance with an
agreement entered into on August 1, 2003. Darby, based in Washington, D.C.,
sponsors and manages funds for institutional investors and high net-worth
clients that invest primarily in emerging markets private equity and mezzanine
finance transactions, including specialized sector funds.
LINES OF BUSINESS
I. INVESTMENT MANAGEMENT AND RELATED SERVICES
We derive substantially all of our revenues from providing investment advisory,
investment management, distribution and administrative services to our various
family of funds, high net-worth clients, institutional accounts and separate
accounts. Our revenues depend to a large extent on the amount of assets under
management. Underwriting and distribution revenues, also a large source of
revenue, consist of sales charges and commissions derived from sales of our
sponsored investment products and distribution and service fees. When used in
this report "Franklin Templeton mutual funds" or "funds" means all of the
Franklin, Templeton, Mutual Series, Bissett, and Fiduciary Trust mutual funds;
"sponsored investment products" means all of the Franklin Templeton mutual funds
together with closed-end investment companies, foreign-based investment
products, and other U.S. and international private, institutional, high
net-worth and separate accounts.
5
A. ASSETS UNDER MANAGEMENT ("AUM")
Investment management fees, our most substantial source of revenue, are based
upon the dollar value of assets under management, because we earn most of our
revenues from fees linked to the amount of assets in the accounts that we
advise. As of September 30, 2003, the type of assets under management by
investment objective held by investors on a worldwide basis was:
TYPE OF ASSETS VALUE IN BILLIONS % TOTAL OF AUM
- ------------------------------------------------------------------- ----------------- --------------
EQUITY
Growth potential, income potential or various combinations thereof. $155.2 51%
FIXED-INCOME
Both long and short-term. $95.1 32%
HYBRID/BALANCED
Asset allocation, balanced, flexible and income-mixed funds. $45.8 15%
MONEY MARKET
Short-term liquid assets. $5.8 2%
Broadly speaking, the change in the net assets of the sponsored investment
products depends upon two factors: (1) the level of sales (inflows) as compared
to the level of redemptions (outflows); and (2) the increase or decrease in the
market value of the securities held in the portfolio of investments. The
organization is subject to the risk of asset volatility, resulting from changes
in the domestic and global financial and equity markets. In addition, because we
generally derive higher revenues and income from our equity assets, a shift in
assets from equity to fixed-income and hybrid/balanced funds reduces total
revenue and thus, net income. Despite such risk of asset volatility, we believe
that we are more competitive as a result of the greater diversity of sponsored
investment products available to our customer base.
B. TYPES OF INVESTMENT MANAGEMENT AND RELATED SERVICES
A majority of our revenues are derived from providing investment management,
advisory, distribution, transfer agency and related services for the Franklin
Templeton mutual funds. We advise, manage and implement the investment
activities of and provide other administrative services necessary to operate our
registered investment companies, the related U.S.-open-end and closed-end funds
or series and our many non-U.S. based sponsored investment products.
1. FUND ADVISORY SERVICES
We earn investment management fee revenues by providing investment advisory and
management services pursuant to investment management agreements with each fund.
This business is primarily conducted through our wholly-owned direct and
indirect subsidiary companies, including, among others, the following:
Fiduciary International, Inc. ("FII"), a registered investment adviser under the
Investment Advisers Act of 1940 (the "Advisers Act"), provides investment
advisory and portfolio management to certain mutual funds and separate accounts;
Franklin Advisers, Inc. ("FAV"), a registered investment adviser under the
Advisers Act, provides investment advisory, portfolio management and
administrative services to various Franklin Templeton mutual funds, sub-advisory
services to non-affiliated entities and advisory services to institutional
accounts;
Franklin Advisory Services, LLC ("FAS"), a registered investment adviser under
the Advisers Act, provides investment advisory and portfolio management services
to certain of the Franklin Templeton mutual funds and also provides sub-advisory
services to non-affiliated entities;
Franklin Mutual Advisers, LLC ("FMA"), a registered investment adviser under the
Advisers Act, provides investment and portfolio management services to the
Mutual Series funds and also to several of the Franklin Templeton Variable
Insurance Products Trust funds;
Franklin Templeton Alternative Strategies, Inc. ("FTAS"), a registered
investment adviser under the Advisers Act and a registered Commodity Pool
Operator under the Commodity Exchange Act, provides investment advisory,
portfolio management and administrative services to certain of our sponsored
investment products with mandates in alternative investments;
6
Franklin Templeton Institutional, LLC ("FTI"), a registered investment adviser
under the Advisers Act, provides investment advisory, portfolio management and
administrative services to institutional clients;
Franklin Templeton Investment Management Limited ("FTIML"), a registered foreign
equivalent investment adviser in the United Kingdom and a registered investment
adviser under the Advisers Act, serves as an investment adviser to various of
our investment companies registered in foreign jurisdictions, including Europe;
Franklin Templeton Investment Trust Management Co., Ltd. ("FTITMC"), a
registered foreign equivalent investment adviser in Korea, provides investment
trust management services and also manages equity and fixed income products in
Korea;
Franklin Templeton Investments (Asia) Limited ("FTIL"), a registered investment
adviser under the Advisers Act and a foreign equivalent of an investment adviser
in Hong Kong, provides certain advisory services and distributes investment
products in Hong Kong;
Franklin Templeton Investments Corp. ("FTIC"), a registered foreign equivalent
investment adviser with many of the Canadian securities commissions, a mutual
fund dealer with the Ontario Securities Commission and Alberta Securities
Commission and an investment adviser under the Advisers Act, provides investment
advisory, portfolio management, distribution and administrative services for
Canadian registered retail funds and sub-advisory services to certain
institutional and private accounts;
Franklin Templeton Investments Japan Limited ("FTIJL"), a registered foreign
equivalent investment adviser in Japan, provides investment advisory, portfolio
management and administrative services to certain of our funds in Japan and
manages Japan equity funds that are sold in other regions;
Templeton Asset Management (India) Private Limited ("TAMPL"), an "Asset
Management Company" approved by the Securities and Exchange Board of India,
provides investment advisory, portfolio management and administrative services
to certain mutual funds in India;
Templeton Asset Management Ltd. ("TAML"), a registered investment adviser under
the Advisers Act and a registered foreign equivalent investment adviser in
Singapore and Hong Kong, provides investment advisory and related services to
certain Templeton developing markets funds and portfolios;
Templeton Global Advisors Limited ("TGAL"), a registered investment adviser
under the Advisers Act, provides investment advisory, portfolio management, and
administrative services to certain of the Templeton funds and advisory services
to institutional and private accounts; and
Templeton Investment Counsel, LLC ("TICL"), a registered investment adviser
under the Advisers Act, provides investment advisory, portfolio management and
administrative services to certain of the Templeton funds, sub-advisory services
to certain of the Franklin Funds and advisory services to institutional and
private accounts.
Our subsidiary investment advisers conduct investment research and determine
which securities the U.S.-registered open-end and closed-end funds will
purchase, hold or sell under the supervision and oversight of the fund's board
of trustees, directors or administrative managers. In addition, the subsidiary
companies take all steps necessary to implement such decisions, including
selecting brokers and dealers, executing and settling trades in accordance with
detailed criteria set forth in the management agreement for each fund, internal
policies, and applicable law and practice. In addition, certain of our
subsidiary companies provide similar investment management and administrative
services to a number of non-U.S. open-end and closed-end investment companies,
as well as other U.S. and international private and institutional accounts,
including certain of our sponsored investment companies organized in Luxembourg
and Ireland.
Our investment advisory services include fundamental investment research and
valuation analyses, including original economic, political, industry and company
research, company visits and inspections, and the utilization of such sources as
company public records and activities, management interviews, company prepared
information, and other publicly available information, as well as analyses of
suppliers, customers and competitors. In addition, research services provided by
brokerage firms are used to support our findings.
Investment management and related services are provided pursuant to agreements
in effect with each of our U.S.-registered open-end and closed-end funds.
Comparable agreements are in effect with foreign-registered funds and private
accounts. In general, the management agreements for our U.S.-registered open-end
and closed-end funds must be renewed each year, and must be specifically
approved at least annually by a vote of
7
such funds' board of trustees or directors or by a vote of the holders of a
majority of such funds' outstanding voting securities. Foreign-registered funds
and private and institutional accounts have various termination rights, and
review and renewal provisions that are not discussed in this report.
Under the majority of investment management agreements, the U.S.-registered
open-end and closed-end funds pay us a fee payable monthly in arrears based upon
a fund's average daily net assets. Annual fee rates under the various global
investment management agreements generally range from 0.15% to a maximum of
2.50% and are often reduced as net assets exceed various threshold levels. The
funds generally pay their own expenses such as legal, custody and audit fees,
reporting costs, board and shareholder meeting costs, the United States
Securities and Exchange Commission ("SEC") and state registration fees and
similar expenses.
We use a "master/feeder" fund structure in certain situations. This structure
allows an investment adviser to manage a single portfolio of securities at the
"master fund" level and have multiple "feeder funds" that invest all of their
respective assets into the master fund. Individual and institutional
shareholders invest in the "feeder funds" which can offer a variety of service
and distribution options. An advisory fee is charged at the master fund level,
and administrative and shareholder servicing fees are charged at the feeder fund
level.
Our investment management agreements permit us to serve as an adviser to more
than one fund so long as our ability to render services to each of the funds is
not impaired, and so long as purchases and sales for various advised funds are
made on an equitable basis. Our management personnel and the fund directors or
boards of trustees regularly review the fund advisory and other administrative
fee structures in light of fund performance, the level and range of services
provided, industry conditions and other relevant factors. Advisory and other
administrative fees are generally waived or voluntarily reduced when a new fund
is established and then increased to contractual levels within an established
timeline or as net asset values reach certain levels.
Each U.S. investment management or advisory agreement between certain of our
subsidiary companies and each fund automatically terminates in the event of its
"assignment", as defined in the Investment Company Act of 1940 (the " `40 Act").
In addition, either party may terminate the agreement without penalty after
written notice ranging from 30 to 60 days. If management agreements representing
a significant portion of our assets under management were terminated, it would
have a material adverse impact on our Company. To date, none of our management
agreements with any of our retail Franklin Templeton mutual funds have been
involuntarily terminated.
2. UNDERWRITING AND DISTRIBUTION
A large portion of our revenues under the investment management operating
segment are generated from providing underwriting and distribution services.
Franklin/Templeton Distributors, Inc. ("FTDI"), a wholly-owned subsidiary of the
Company, acts as the principal underwriter and distributor of shares of most of
our U.S.-registered open-end mutual funds. During fiscal year 2003,
Templeton/Franklin Investment Services, Inc. ("TFIS") served as principal
underwriter and distributor for several of our U.S. funds. We earn underwriting
and distribution fees primarily by distributing the funds pursuant to
distribution agreements between FTDI or TFIS and the funds. Under each
distribution agreement, we offer and sell the fund's shares on a continuous
basis and pay certain costs associated with underwriting and distributing the
funds, including the costs of developing and producing sales literature and
printing of prospectuses, which may be then either partially or fully reimbursed
by the funds.
Most of our U.S. and non-U.S.-registered retail funds are distributed with a
multi-class share structure. We adopted this share structure to provide
investors with greater sales charge alternatives for their investments. Class A
shares represent a traditional fee structure whereby the investor pays a
commission at the time of purchase unless minimum investment criteria are met.
Class B shares, which are available in many of our funds in the U.S. and
globally, have no front-end sales charges but instead have a declining schedule
of sales charges (called contingent deferred sales charges) if the investor
redeems within a number of years from the original purchase date. Class C shares
have a pricing structure combining aspects of conventional front-end, back-end
and level-load pricing. Class R shares with reduced sales charges are available
for purchase by certain retirement plan accounts in the U.S. only.
Globally, we offer Advisor Class shares in many of our Franklin Templeton mutual
funds and in the U.S. we offer Z Class shares in Mutual Series funds on a
limited basis, both of which have no sales charges. Franklin Global Trust offers
four series of funds, managed by our subsidiary FII, which are sold with no
sales charge to high net-worth clients of Fiduciary Trust. The Advisor and Z
Class shares are available to our officers,
8
directors, current and former employees, and are also offered to institutions
and investment advisory clients (both affiliated and unaffiliated), as well as
individuals generally investing $5 million or more. In the U.S., we also sell
money market funds to investors without a sales charge. Under the terms and
conditions described in the prospectuses or the statements of additional
information for some funds, certain investors can purchase shares at net asset
value or at reduced sales charges. In addition, investors may generally exchange
their shares of a fund at net asset value for shares within the same class of
another Franklin Templeton mutual fund without having to pay additional sales
charges.
Our insurance product funds offered for sale in the U.S. have a two-class share
structure, Class 1 and Class 2, which are offered at net asset value without a
sales load directly to the insurance company separate accounts (the
shareholder). The only difference between the two classes is that Class 2 shares
are assessed a distribution and service fee ("12b-1 fee") (as described below)
payable to those who sell and distribute Class 2 shares and provide services to
shareholders and contract owners (e.g., FTDI), the insurance company or others.
These 12b-1 fees are generally assessed quarterly at an annual rate of 0.25% of
the average daily net assets of the class.
Globally, we offer other types of share classes based on the local needs of the
investors in a particular market. In the majority of cases, investors in any
class of shares within the U.S. or globally may exchange their shares for a like
class of shares in another fund, subject to certain fees that may apply.
The following table summarizes the sales charges and distribution and service
fee structure for various share classes of our U.S.-registered retail mutual
funds. The fees below generally apply to our U.S.-registered retail mutual
funds, however, there are exceptions to this fee schedule for some funds.
SALES CHARGES AND DISTRIBUTION AND SERVICE FEES FOR MOST U.S.-REGISTERED RETAIL FUNDS
- -------------------------------------------------------------------------------------
CLASS A CLASS B CLASS C SHARES
U.S. RETAIL FUNDS SHARES SHARES (c) (d) CLASS R SHARES
- ------------------------------- ------------- -------------- ------------------ ---------------------
Sales Charge at Time of Sale
Equity 5.75% (a) None. 1.00% None.
Fixed-income 4.25% (a) None. 1.00% None.
- ------------------------------- ------------- -------------- ------------------ ---------------------
Contingent Deferred Sales None. (b) 4% maximum 1% if 1% if shareholder
Charge declining shareholder sells shares
to zero sells shares within 18 months
after 6 within 18 of investment.
years of months of
each investment.
investment.
- ------------------------------- ------------- -------------- ------------------ ---------------------
Maximum Yearly 12b-1 Plan Fees
Equity 0.35% 1.00% 1.00% 0.50%
Fixed-income
Taxable 0.25% 0.65% 0.65% 0.50%
Tax-free 0.10% 0.65% 0.65% None.
- ------------------------------- ------------- -------------- ------------------ ---------------------
Types of investors that may Any. Any. Any. See Note (f) below.
purchase this share class
- ------------------------------- ------------- -------------- ------------------ ---------------------
9
U.S. RETAIL FUNDS ADVISOR CLASS SHARES Z CLASS SHARES (e)
- ------------------------------- ---------------------------- ---------------------------------------
Sales Charge At Time of Sale None. None.
Equity
Fixed-income
- ------------------------------- ---------------------------- ---------------------------------------
Contingent Deferred Sales None. None.
Charge
- ------------------------------- ---------------------------- ---------------------------------------
Maximum Yearly 12b-1 Plan Fees None. None.
- ------------------------------- ---------------------------- ---------------------------------------
Types of investors that may Officers, directors and Officers, directors and current and
purchase this share class current and former former employees of Franklin
employees of Franklin Templeton Investments; institutions,
Templeton Investments; investment advisory clients,
institutions, investment individuals investing $5 million or
advisory clients, more in Franklin Templeton mutual
individuals investing $5 funds or Mutual Series funds and
million or more in shareholders that hold shares of the
Franklin, Templeton mutual Mutual Series funds reclassified as Z
funds or Mutual Series Class shares.
funds.
- ------------------------------- ---------------------------- ---------------------------------------
(a) Reductions in the maximum sales charges may be available depending upon the
amount invested and the type of investor. In some cases noted in each
fund's prospectus or statement of additional information, certain investors
may invest in Class A shares at net asset value (with no load). In
connection with certain of these no-load purchases, FTDI may make a payment
out of its own resources to a broker/dealer involved with that sale.
(b) For Net Asset Value ("NAV") purchases over $1 million, a contingent
deferred sales charge ("CDSC") of 1.00% may apply to shares redeemed within
18 months.
(c) Class B shares convert to Class A shares after eight (8) years of
ownership.
(d) FTDI pays a 2.00% dealer commission to brokers of record of Class C shares,
which consists of a 1.00% sales charge assessed to the investor at the time
of sale, and 1.00% of which is paid by FTDI. FTDI recovers a portion of the
amount it pays to brokers by retaining certain 12b-1 fees assessed during
the first 12 months and from collecting contingent deferred sales charges
on any redemptions made within 18 months of the time of sale.
(e) When the Company entered into management contracts for the Mutual Series
funds, the outstanding shares of Mutual Series funds were reclassified as Z
Class shares on October 31, 1996. Current shareholders who held shares of
any Mutual Series funds on October 31, 1996 may continue to purchase Z
Class shares of any Mutual Series fund. Shareholders of the Z Class shares
may also exchange into Advisor Class shares of other Franklin Templeton
mutual funds if otherwise meeting the Advisor Class shares' eligibility
requirements. Alternatively, Z Class shareholders may exchange into Class A
shares of other Franklin Templeton mutual funds at net asset value, which
are subject to 12b-1 fees. FTDI may make a payment out of its own resources
to a broker/dealer involved in selling Z Class shares.
(f) The types of investors that may purchase Class R shares include, employer
sponsored retirement plans; plans serviced by FTIS with assets of less than
$10 million; any trust or plan established as part of a qualified tuition
program under Section 529 of the Internal Revenue Code; DCS Plans with
assets of less than $10 million; and investors who open a rollover account
with less than $1 million or a rollover account from a Franklin Templeton
money purchase plan in existence prior to January 1, 2002 to a new or
existing profit sharing plan.
Our non-U.S.-registered funds, including the Tax Class shares offered in Canada,
have various sales charges and fee structures that are not discussed in this
report.
The distribution agreements with the U.S.-registered Franklin Templeton mutual
funds generally provide for FTDI to pay commission expenses for sales of fund
shares to broker/dealers. These broker/dealers receive various sales commissions
and other fees from FTDI, including fees from the investors in the funds and the
funds themselves, for services in matching investors with funds whose investment
objectives match such investors' goals and risk profiles. Broker/dealers may
also receive fees for their assistance in explaining the operations of the
funds, in servicing the investor's account, reporting and various other
distribution services. Franklin Templeton mutual fund shares are sold primarily
through a large network of independent intermediaries, including broker/dealers,
banks and other similar financial advisers. We are heavily dependent upon these
distribution channels and business relationships. There is increasing
competition for access to these channels, which has caused our distribution
costs to rise and could cause further increases in the future as competition
continues and service expectations increase. As of September 30, 2003, over
3,700 local, regional, and national securities brokerage firms offered shares of
the U.S.-registered Franklin Templeton mutual funds for sale to the investing
public. In the U.S., we have approximately 69 general wholesalers and 7
retirement plan wholesalers who interface with the broker/dealer community.
10
Most of the U.S.-registered Franklin Templeton mutual funds, with the exception
of certain Franklin Templeton money market funds, have adopted distribution
plans (the "Plans") under Rule 12b-1 promulgated under the `40 Act ("Rule
12b-1"). The Plans are established for an initial term of one (1) year and,
thereafter, must be approved annually by the particular fund's board of
directors/trustees and by a majority of its disinterested fund
directors/trustees. All such Plans are subject to termination at any time by a
majority vote of the disinterested directors/trustees or by the particular fund
shareholders. The Plans permit the funds to bear certain expenses relating to
the distribution of their shares, such as expenses for marketing, advertising,
printing and sales promotion. The implementation of the Plans provided for a
lower fee on Class A shares acquired prior to the adoption of such Plans. Fees
from the Plans are paid primarily to third-party dealers who provide service to
the shareholder accounts, and engage in distribution activities. FTDI may also
receive reimbursement from the funds for various expenses that FTDI incurs in
distributing the funds, such as marketing, advertising, printing and sales
promotion subject to the Plans' limitations on amounts. Each fund has a
percentage limit for these types of expenses based on average daily net assets
under management.
Similar arrangements exist with the distribution of our global funds and in all
cases the distributor of the funds in the local market arranges for and pays
commission.
Class B and C shares are generally more costly to us in the year of sale, but
they allow us to be competitive by increasing our presence in various
distribution channels. We have arranged to finance Class B and certain Class C
share deferred commissions arising from our U.S., Canadian and European
operations through Lightning Finance Company Limited, a company in which we have
a 49% ownership interest. The repayment of the financing advances is limited to
the cash flows generated by the funds' 12b-1 Plans and by any contingent
deferred sales charges collected in connection with early redemptions (within
six years after purchase on Class B shares).
The sales commissions and payments below, payable to qualifying broker/dealers,
generally apply to our U.S.-registered retail funds, however, there are
exceptions to this schedule for some funds.
SALES COMMISSIONS AND OTHER PAYMENTS PAID TO QUALIFYING BROKER/DEALERS AND
OTHER INTERMEDIARIES FOR MOST U.S.-REGISTERED RETAIL FUNDS
U.S. RETAIL FUNDS CLASS A SHARES CLASS B SHARES CLASS C SHARES CLASS R SHARES (g)
- ----------------------------------- --------------- --------------- -------------- ------------------
Dealer Commission at Time of Sale
Equity 5.00% 4.00% 2.00% 1.00%
Fixed-income 4.00% 3.00% (b) 2.00% 1.00%
- ----------------------------------- --------------- --------------- -------------- ------------------
Maximum Yearly 12b-1 Plan Fees
Equity 0.25% (a) 1.00% (c) 1.00% (e) 0.35%
Fixed-income 0.35%
Taxable 0.25% (a) 0.65% (d) 0.65% (f)
Tax-free 0.10% 0.65% (d) 0.65% (f)
- ----------------------------------- --------------- --------------- -------------- ------------------
(a) The fees referenced above generally apply, however, there are certain
individual funds that may apply a different fee structure, including the
Rising Dividends Fund whose 12b-1 fee is 0.50%, certain equity funds whose
12b-1 fees are 0.35% and certain taxable fixed-income funds whose 12b-1
fees are 0.15%.
(b) Certain fixed-income funds now pay 4.00%.
(c) FTDI receives a fee equal to 0.75% and pays 0.25% to the broker/dealer on
the daily average assets in the account. After 8 years from the date of the
investment, Class B shares are converted into Class A shares.
(d) FTDI receives a fee equal to 0.50% and pays 0.15% to the broker/dealer on
the daily average assets in the account. After 8 years from the date of the
investment, Class B shares are converted into Class A shares.
(e) FTDI retains a fee equal to 0.75% and pays 0.25% to the dealer/broker on
the average assets in the account for the first twelve (12) months
following the sale, after which the full 12b-1 fee is paid to the
broker/dealer.
(f) FTDI retains a fee equal to 0.50% and pays 0.15% to the dealer/broker on
the assets in the account for the first twelve (12) months following the
sale, after which it is paid to the broker/dealer.
(g) With respect to Class R Shares, dealers may be eligible to receive a 12b-1
fee of 0.35% starting in the 13th month. During the first 12 months, the
full 12b-1 fee will be paid to FTDI to partially offset commission paid at
the time of purchase. Starting in the 13th month, FTDI will receive 0.15%.
Dealers may be eligible to receive the full 0.50% 12b-1 fee starting at the
time of purchase if they forego the prepaid commission of 1%.
Our various foreign subsidiaries provide underwriting and distribution services
for our non-U.S.-registered open-end mutual funds, and pay various sales
commissions and other payments to qualifying broker dealers and other
intermediaries who are not discussed in this report.
11
3. SHAREHOLDER SERVICES
Our subsidiary, Franklin Templeton Investor Services, LLC ("FTIS"), provides
shareholder record keeping services and acts as transfer agent and
dividend-paying agent for the U.S.-registered Franklin Templeton open-end funds.
FTIS is registered with the SEC as a transfer agent under the Securities
Exchange Act of 1934. FTIS is compensated under an agreement with each fund on
the basis of an annual fee per account, which varies with the fund and the type
of services being provided, and is reimbursed for out-of-pocket expenses. In
addition, certain funds compensate FTIS based on assets under management. Other
subsidiaries provide the same services to the open-end funds offered for sale in
Canada, Europe, Asia, and other regions internationally, under similar fee
arrangements.
4. ADMINISTRATIVE SERVICES
Generally, the funds themselves have no paid employees. Through our
subsidiaries, including Franklin Templeton Services, LLC ("FTS"), we provide and
pay the salaries of personnel who serve as officers of our U.S.-registered
open-end and closed-end funds, including the President and other administrative
personnel as necessary to conduct such funds' day-to-day business operations.
These personnel provide information, ensure compliance with securities
regulations, maintain accounting systems and controls, prepare annual reports
and perform other administrative activities. FTS is compensated under an
agreement with certain funds on the basis of assets under management.
C. HIGH NET-WORTH INVESTMENT MANAGEMENT
Through our subsidiary, Fiduciary Trust, and our Canadian high net-worth
business unit, Bissett, we provide global investment management services to and
market and sell our sponsored investment products to high net-worth individuals
and families. At Fiduciary Trust, these services focus on managing family wealth
from generation to generation through a full service package including wealth
management, estate planning, private funds, private banking, and custody
services. Our high net-worth client business seeks to maintain relationships
that span generations and help families plan the best method of
intergenerational wealth transfer.
Individual client assets are held in accounts separately managed by individual
portfolio managers. These portfolio managers determine asset allocation and
stock selection for client accounts, taking into consideration each client's
specific long-term objectives while utilizing our macroeconomic and individual
stock research.
We offer clients personalized attention and estate planning expertise in an
integrated package of services under the Family Resource Management(R) ("FRM")
brand. Services under FRM provide clients with an integrated strategy to
optimize wealth accumulation and maximize after-tax wealth transfer to the next
generation. These services include advice concerning strategic planning and
asset allocation, investment management, and custody and reporting.
D. INSTITUTIONAL INVESTMENT MANAGEMENT
We provide a broad array of investment management services to institutional
clients, focusing on foundations, endowment funds and government and corporate
pension funds. Our subsidiaries offer a wide range of both domestic and
international equity, fixed-income and specialty products through a variety of
investment vehicles, including separate and commingled accounts and open-ended
domestic and offshore mutual funds.
We operate our institutional business through a series of legal entities
globally, including FTI. These entities distribute, and market our investment
advisory capabilities to our institutional accounts under the Franklin,
Templeton, Mutual Series, Bissett and Fiduciary Trust brand names globally. We
primarily attract new institutional business through our strong relationships
with pension and management consultants and through additional mandates from our
existing client relationships.
The Retirement Group, a division of our U.S. subsidiary FTDI, services sponsors
of defined contribution plans, including 401(k)'s, bundled defined contribution
plans, variable annuity products and individual retirement accounts. This
business unit allows us to focus on expanding sales of our asset management
capabilities to the retirement industry by offering a number of investment
options, including sub-advised portfolios, mutual funds, education savings plans
and variable insurance trusts.
12
E. MANAGED ACCOUNTS
Through our subsidiaries, Franklin Private Client Group, Inc. ("FPCG"), a
registered investment adviser, and Templeton Private Client Group ("TPCG"), a
division of TFIS, we provide private portfolio management services and advisory
services through third party broker/dealer wrap fee programs. Our subsidiary,
TFIS, also serves as a direct marketing broker/dealer for institutional
investors in the Franklin Templeton mutual funds. Through our various
subsidiaries, we also market and distribute our sponsored investment products to
individually managed and separate accounts.
F. TRUST AND CUSTODY
Our subsidiary, Fiduciary Trust, provides trust and custody business including
global master custody and support services to high net-worth and institutional
clients. Through various trust company subsidiaries, including Fiduciary Trust,
we offer a wide range of investment-related services, including, custody and
administration, trust services, estate planning, tax planning, securities
brokerage, trade clearance and private banking to high net-worth individuals,
families and institutional clients in the U.S. and abroad. In addition to
custody services, we also offer clients a series of other services, including
foreign exchange, performance measurement, securities lending and brokerage
services. We provide planned giving administration for non-profit organizations
and related custody services, including pooled income funds, charitable
remainder trusts, charitable lead trusts and gift annuities, for which we may or
may not act as trustee.
Our other subsidiaries involved in the trust business, either as trust companies
or companies investing in trust companies, include Fiduciary Investment
Corporation, an investment company incorporated under New York State Banking Law
and an indirect holding company for many of the trust company subsidiaries;
Fiduciary Trust International of the South, a Florida state-chartered limited
purpose trust company; Fiduciary Trust International of California, a California
state-chartered limited purpose trust company; Fiduciary Trust International of
Delaware, a Delaware state-chartered limited purpose trust company; FTI-Banque
Fiduciary Trust, a Swiss bank based in Geneva, Switzerland; FTCI (Cayman) Ltd.,
an offshore trust company licensed as a bank and trust company (with a type "B"
license) in the Cayman Islands; and Franklin Templeton Bank & Trust, F.S.B.
("FTB&T"). All of the trust companies referenced above have full trust powers.
FTB&T, among other things, exercises full trust powers and serves primarily as
custodian of Individual Retirement Accounts ("IRA") and business retirement
plans.
G. SUMMARY OF OUR SPONSORED INVESTMENT PRODUCTS
Our sponsored investment products are offered to retail, institutional, high
net-worth and separate account clients, which include individual investors,
qualified groups, trustees, tax-deferred (such as IRAs in the U.S., RSP's in
Canada) or money purchase plans, employee benefit and profit sharing plans,
trust companies, bank trust departments and institutional investors in
approximately 137 countries.
1. INVESTMENT OBJECTIVES
The sponsored investment products that we offer accommodate a variety of
investment goals, including growth, growth at a reasonable price, value, capital
appreciation, growth and income, income, tax-free income and preservation of
capital. In seeking to achieve such objectives, each portfolio emphasizes
different investment securities.
Our equity investment products include some that are value-oriented, others that
reflect a growth style of investing and some that use a combination of growth
and value. Value investing focuses on identifying companies, which our research
analysts and portfolio managers believe are undervalued, based on a number of
factors. Portfolios that seek capital appreciation invest primarily in equity
securities in a wide variety of international and U.S. markets; some seek broad
national market exposure, while others focus on narrower sectors such as
precious metals, health care, emerging technology, large-cap companies,
small-cap companies, real estate securities and utilities. Growth investing
relies on the review of macroeconomic, industry and sector trends to identify
companies that exhibit superior growth potential relative to industry peers and
the broad market. Unlike other management styles that focus on short-term market
trends, our growth portfolio investment management team invests in companies
demonstrating long-term growth potential, based mainly on proprietary in-house
analysis and research.
13
Portfolios seeking income generally focus on taxable and tax-exempt money market
instruments, tax-exempt municipal bonds, global fixed-income securities,
fixed-income debt securities of corporations and of the U.S. government and its
sponsored agencies and instrumentalities such as the Government National
Mortgage Association, the Federal National Mortgage Association, and the Federal
Home Loan Mortgage Corporation, and of the various states in the U.S. Still
others focus on investments in particular countries and regions, such as
emerging markets.
Again, we also provide investment management and related services to a number of
closed-end investment companies whose shares are traded on various major U.S.
and some international stock exchanges. In addition, we provide investment
management, marketing and distribution services to SICAV ("Societe
d'Investissement a Capital Variable") funds and umbrella unit trusts organized
in Luxembourg and Ireland, respectively, which are distributed in international
market places, as well as to locally organized funds in various countries
outside the U.S.
Our sponsored investment products also include portfolios managed for some of
the world's largest corporations, endowments, charitable foundations, pension
funds, wealthy individuals and other institutions. We use various investment
techniques to focus on specific client objectives for these specialized
portfolios.
2. TYPES OF SPONSORED INVESTMENT PRODUCTS
As of September 30, 2003 we had $301.9 billion in assets under management. Our
U.S.-registered open-end mutual funds (excluding our insurance products trust)
accounted for $175.5 billion of our assets under management. As of September 30,
2003, the net assets under management of our five (5) largest funds were
Franklin Income Fund ($16.1 billion), Templeton Growth Fund ($14.7 billion),
Franklin California Tax-Free Income Fund, Inc. ($13.7 billion), Templeton
Foreign Fund ($11.7 billion), and Franklin U.S. Government Securities Fund ($9.1
billion). These 5 mutual funds represented, in the aggregate, 21.6% of our
assets under management. Currently no single sponsored investment product
revenues represent more than 10% of total revenues.
Franklin Templeton Variable Insurance Products Trust, our insurance products
trust, offers 22 funds, with assets of $9.9 billion as of September 30, 2003.
The insurance product funds are available as investment options through variable
insurance contracts. Most of the funds have been fashioned after some of the
more popular funds offered to the general public and are managed, in most cases,
by the same investment adviser.
Our U.S. closed-end and interval (floating rate) funds accounted for $4.5
billion of our assets under management. U.S. wrap fee, partnership, and trust
accounts made up $6.3 billion of our assets under management. On a Company-wide
basis, institutional separate and high net-worth accounts accounted for $68.9
billion of assets under management.
In addition, $36.8 billion of our assets under management were held in
foreign-based funds and open-end and closed-end accounts whose investment
objectives vary, but are primarily international and global equity-oriented.
The following table shows the various types of our U.S.-registered open-end
mutual funds and dedicated insurance product funds as of September 30, 2003, and
is categorized using the Investment Company Institute ("ICI") definitions, which
are more detailed than the broad investment objective definitions used in MD&A
and in our Consolidated Financial Statements.
14
U.S.-REGISTERED OPEN-END MUTUAL FUNDS (a)
NO. OF
CATEGORY NO. OF INSURANCE
(AND APPROXIMATE ASSETS UNDER MUTUAL PRODUCT
MANAGEMENT, AS OF SEPTEMBER 30, INVESTMENT OBJECTIVE FUNDS FUNDS
2003)
IN BILLIONS
- ----------------------------------- ------------------------------------------- --------- ----------
I. EQUITY FUNDS ($97.3)
- ----------------------------------- ------------------------------------------- --------- ----------
A. Capital Appreciation Funds Seek capital appreciation; dividends are
($22.1) not a primary consideration.
- ----------------------------------- ------------------------------------------- --------- ----------
1. Aggressive Growth Funds Invest primarily in common stocks of
small, growth companies. 5 2
- ----------------------------------- ------------------------------------------- --------- ----------
2. Growth Funds Invest primarily in common stocks of
well-established companies. 9 2
- ----------------------------------- ------------------------------------------- --------- ----------
3. Sector Funds Invest primarily in companies in related 8 2
fields.
- ----------------------------------- ------------------------------------------- --------- ----------
B. World Equity Funds Invest primarily in stocks of foreign
($50.5) companies.
- ----------------------------------- ------------------------------------------- --------- ----------
1. Emerging Market Funds Invest primarily in companies based in
developing regions of the world. 2 1
- ----------------------------------- ------------------------------------------- --------- ----------
2. Global Equity Funds Invest primarily in equity securities
traded worldwide, including those of U.S. 13 2
companies.
- ----------------------------------- ------------------------------------------- --------- ----------
3. International Equity Funds Invest primarily in equity securities of
companies located outside the United 6 1
States.
- ----------------------------------- ------------------------------------------- --------- ----------
4. Regional Equity Funds Invest in companies based in a specific
part of the world. 3 0
- ----------------------------------- ------------------------------------------- --------- ----------
C. Total Return Funds ($24.7) Seek a combination of current income and
capital appreciation.
- ----------------------------------- ------------------------------------------- --------- ----------
1. Growth and Income Funds Invest primarily in common stocks of
established companies with the potential
for growth and a consistent record of 8 3
dividend payments.
- ----------------------------------- ------------------------------------------- --------- ----------
II. HYBRID/BALANCED FUNDS May invest in a mix of equities, fixed-income
($17.5) securities, and derivative instruments.
- ----------------------------------- ------------------------------------------- --------- ----------
A. Asset Allocation Funds ($0.5) Invest in various asset classes
including, but not limited to, equities,
fixed-income securities, and money market
instruments. They seek high total return
by maintaining precise weightings in 5 1
asset classes.
- ----------------------------------- ------------------------------------------- --------- ----------
B. Income-Mixed Funds ($17.0) Invest in a variety of income-producing
securities, including equities and
fixed-income securities. These funds
seek a high level of current income
without regard to capital appreciation. 1 1
- ----------------------------------- ------------------------------------------- --------- ----------
III. TAXABLE BOND FUNDS ($16.4)
- ----------------------------------- ------------------------------------------- --------- ----------
A. High Yield Funds ($3.0) Invest two-thirds or more of their
portfolios in lower-rated U.S. corporate
bonds (Baa or lower by Moody's and BBB or
lower by Standard & Poor's rating 2 1
services).
- ----------------------------------- ------------------------------------------- --------- ----------
(a) This table excludes separately managed accounts, trust and partnership accounts and closed-end
funds. A significant number of institutional assets are invested in U.S. open-end mutual funds
and are disclosed in the table.
15
NO. OF
CATEGORY NO. OF INSURANCE
(AND APPROXIMATE ASSETS UNDER MUTUAL PRODUCT
MANAGEMENT, AS OF SEPTEMBER 30, INVESTMENT OBJECTIVE FUNDS FUNDS
2003)
IN BILLIONS
- ----------------------------------- ------------------------------------------- --------- ----------
B. World Bond Funds ($1.0) Invest in debt securities offered by foreign
companies and governments. They seek the
highest level of current income available
worldwide.
- ----------------------------------- ------------------------------------------- --------- ----------
1. Global Bonds Funds: Invest in debt securities worldwide with no
General stated average maturity or an average
maturity of five years or more. These
funds may invest up to 25 percent of
assets in companies located in the United 1 2
States.
- ----------------------------------- ------------------------------------------- --------- ----------
2. Global Bond Funds: Invest in debt securities worldwide with
Short Term an average maturity of one to five years.
These funds may invest up to 25 percent
of assets in companies located in the 1 0
United States.
- ----------------------------------- ------------------------------------------- --------- ----------
3. Other World Bond Funds Invest in international bond and emerging
market debt funds, foreign government and
corporate debt instruments. Two-thirds
of an international bonds fund's
portfolio must be invested outside the
United States. Emerging market debt
funds invest primarily in debt from 1 0
underdeveloped regions of the world.
- ----------------------------------- ------------------------------------------- --------- ----------
C. Government Bond Funds Invest in U.S. government bonds of varying
($11.1) maturities. They seek high current income.
- ----------------------------------- ------------------------------------------- --------- ----------
1. Government Bond Funds: Invest two-thirds or more of their
Intermediate Term portfolios in U.S. government securities
with an average maturity of five to ten
years. Securities utilized by investment
managers may change with market 0 1
conditions.
- ----------------------------------- ------------------------------------------- --------- ----------
2. Government Bond Funds: Invest two-thirds or more of their
Short Term portfolios in U.S. government securities
with an average maturity of one to five
years. Securities utilized by investment
managers may change with market 1 0
conditions.
- ----------------------------------- ------------------------------------------- --------- ----------
3. Mortgage-Backed Funds Invest two-thirds or more of their
portfolios in pooled mortgage-backed 3 0
securities.
- ----------------------------------- ------------------------------------------- --------- ----------
D. Strategic Income Funds ($1.1) Invest in a combination of U.S.
fixed-income securities to provide a high
level of current income. 4 2
- ----------------------------------- ------------------------------------------- --------- ----------
E. Corporate Bond Funds ($0.2) Seek current income by investing in high-
quality debt securities issued by U.S.
corporations.
- ----------------------------------- ------------------------------------------- --------- ----------
1. Corporate Bond Funds: Invest two-thirds or more of their portfolios
Short Term in U.S. corporate bonds with an average
maturity of one to five years. These funds
seek a high level of income with less price 1 0
volatility than intermediate-term bond funds.
- ----------------------------------- ------------------------------------------- --------- ----------
16
NO. OF
CATEGORY NO. OF INSURANCE
(AND APPROXIMATE ASSETS UNDER MUTUAL PRODUCT
MANAGEMENT, AS OF SEPTEMBER 30, INVESTMENT OBJECTIVE FUNDS FUNDS
2003)
IN BILLIONS
- ------------------------------------------------------------------------------- --------- ----------
IV. TAX-FREE BOND FUNDS ($49.9)
- ------------------------------------------------------------------------------- --------- ----------
A. State Municipal Bond Invest primarily in municipal bonds
Funds ($35.0) issued by a particular state. These
funds seek high after-tax income for
residents of individual states.
- ----------------------------------- ------------------------------------------- --------- ----------
1. State Municipal Bond Invest primarily in the single-state
Funds: municipal bonds with an average maturity
General of greater than five years or no specific
stated maturity. The income from these
funds is largely exempt from federal as
well as state income tax for residents of 29 0
the state.
- ----------------------------------- ------------------------------------------- --------- ----------
2. State Municipal Bond Invest primarily in single-state municipal
Funds: bonds with an average maturity of one to
Short Term five years. The income from these funds is
largely exempt from federal as well as state 2 0
income tax for residents of the state.
- ----------------------------------- ------------------------------------------- --------- ----------
B. National Municipal Bond Invest primarily in the bonds of various
Funds ($14.9) municipal issuers in the United States.
These funds seek high current income free
from federal income tax.
- ----------------------------------- ------------------------------------------- --------- ----------
1. National Municipal Bond Invest primarily in municipal bonds with
Funds: an average maturity of more than five
General years or no specific stated maturity. 4 0
- ----------------------------------- ------------------------------------------- --------- ----------
2. National Municipal Bond Invest primarily in municipal bonds with
Funds: an average maturity of one to five years.
Short Term 1 0
- ----------------------------------- ------------------------------------------- --------- ----------
V. MONEY MARKET FUNDS ($4.3)
- ------------------------------------------------------------------------------- --------- ----------
A. Taxable Money Market Invest in short-term, high-grade money
Funds ($3.4) market securities and must have average
maturities of 90 days or less. These funds
seek the highest level of income consistent
with preservation of capital (i.e.,
maintaining a stable share price).
- ----------------------------------- ------------------------------------------- --------- ----------
1. Taxable Money Market Invest primarily in U.S. Treasury
Funds: obligations and other financial
Government instruments issued or guaranteed by the
U.S. government, its agencies, or its 2 0
instrumentalities.
- ----------------------------------- ------------------------------------------- --------- ----------
2. Taxable Money Market Invest primarily in a variety of money
Funds: market instruments, including
Non-Government certificates of deposit from larger
banks, commercial paper, and bankers' 5 1
acceptances.
- ----------------------------------- ------------------------------------------- --------- ----------
B. Tax-Exempt Money Market Invest in short-term municipal securities
Funds ($0.9) and must have average maturities of 90
days or less. These funds seek the highest
level of income - free from federal and, in
some cases, state and local taxes -
consistent with preservation of capital.
- ----------------------------------- ------------------------------------------- --------- ----------
17
NO. OF
CATEGORY NO. OF INSURANCE
(AND APPROXIMATE ASSETS UNDER MUTUAL PRODUCT
MANAGEMENT, AS OF SEPTEMBER 30, INVESTMENT OBJECTIVE FUNDS FUNDS
2003)
IN BILLIONS
- ------------------------------------------------------------------------------- --------- ----------
1. National Tax-Exempt Invest in short-term securities of various
Money Market Funds U.S. municipal issuers. 1 0
- ----------------------------------- ------------------------------------------- --------- ----------
2. State Tax-Exempt Invest primarily in short-term securities
Money Market Funds of municipal issuers in a single state to
achieve the highest level of tax-free
income for residents of that state. 2 0
- ----------------------------------- ------------------------------------------- --------- ----------
The following table sets forth the types of our non-U.S. open-end mutual funds as of September 30,
2003 and is categorized by investment objectives and sales region.
NON-U.S. OPEN-END MUTUAL FUNDS (A)
NO. OF
CATEGORY MUTUAL
(AND APPROXIMATE ASSETS UNDER FUNDS BY SALES
MANAGEMENT, AS OF SEPTEMBER 30, INVESTMENT OBJECTIVE REGION
2003)
IN BILLIONS
- ----------------------------------- ------------------------------------------- --------------- ----
I. EQUITY FUNDS ($19.8)
- ----------------------------------- ------------------------------------------- --------------- ----
A. Global/International Equity Invest in securities of companies traded Asia Pacific: 34
($18.5) worldwide, including foreign and U.S. Canada: 18
companies. U.K./Europe: 27
- ----------------------------------- ------------------------------------------- --------------- ----
B. Domestic (U.S.) Equity ($1.3) Invest in equity securities of U.S. Canada: 5
companies. U.K./Europe: 11
- ------------------------------------------------------------------------------- --------------- ----
II. FIXED-INCOME FUNDS ($10.2)
- ------------------------------------------------------------------------------- --------------- ----
A. Global/International Invest worldwide in debt securities Asia Pacific: 30
Fixed-Income ($3.4) offered by foreign companies and Canada: 4
governments. These funds may invest U.K./Europe: 7
assets in debt securities offered by
companies located in the U.S.
- ----------------------------------- ------------------------------------------- --------------- ----
B. Domestic Fixed-Income ($6.8) Invest in debt securities offered by U.S. Asia Pacific: 1
companies and the U.S. government and/or U.K./Europe: 5
municipalities located in the U.S.
- ----------------------------------- ------------------------------------------- --------------- ----
III. HYBRID/BALANCED May invest in a mix of global equity, Asia Pacific: 21
FUNDS ($1.2) fixed-income securities and derivative Canada: 5
instruments. U.K./Europe: 4
- ----------------------------------- ------------------------------------------- --------------- ----
IV. TAXABLE MONEY Market securities issued or guaranteed by Asia Pacific: 7
FUNDS ($1.5) domestic or global governments or Canada: 3
agencies. U.K./Europe: 2
- ----------------------------------- ------------------------------------------- --------------- ----
(a) Does not include the Franklin Templeton Global Fund, the Fiduciary Emerging Markets Bond Fund plc,
nor fund-of-fund mutual funds. For purposes of this table, we consider the sales region to be where
a fund is based and primarily sold and not necessarily the region where a particular fund is invested.
Many funds are also distributed across different sales regions (e.g., SICAV funds are based,
primarily sold in and therefore considered to be within the U.K./Europe sales region, although
also distributed in the Asia Pacific sales region), but are only designated a single sales region
in the table.
3. FUND INTRODUCTIONS, MERGERS AND LIQUIDATIONS
In an effort to address changing market conditions and evolving investor needs,
from time to time we introduce new funds, merge existing funds or liquidate
existing funds. During the fiscal year ended September 30, 2003, we added and
introduced a number of funds in the U.S., Canada and other regions
internationally.
18
In the U.S., we expanded our product line, recognizing shifts in market and
investor sentiment. We added three new limited term tax-free products, providing
investors with additional fund options to tailor their fixed income portfolios.
We introduced two new fund-of-fund mutual funds, providing investors with equity
performing portfolios consisting of many of our core funds. We also expanded our
efforts in the U.S. education savings market and were awarded New Jersey's 529
mandate for marketing and managing investments through NJ-BEST and the Franklin
Templeton 529 College Savings Plan. We also made available an array of mutual
funds and alternative investment products to our institutional and high
net-worth clients.
In Canada, we introduced a portfolio of funds that provided our Canadian clients
with diversified investment choices. We also introduced Tapestry Pooled
Portfolios, a program of eleven actively managed pooled portfolios offering a
blend of investment styles and asset classes, including alternative investments.
Additionally, we added a new diversified income portfolio to the Quotential
Program, a growing dealer-distributed wrap program in Canada.
In other regions internationally, we launched new funds and investment products
that addressed the unique needs of local markets. Through our
Luxembourg-domiciled SICAV, seven new funds were introduced. In other country
specific markets, including the United Kingdom, Korea, Singapore and India, we
initiated new local products to support expansion in these regions.
During the fiscal year ended September 30, 2003, the following fund mergers and
liquidations occurred: 1 variable annuity fund merged into another variable
annuity fund and 1 variable annuity fund was liquidated; 5 U.S. registered open
end mutual funds were merged into other U.S. registered open end mutual funds; 7
non-U.S. registered open end mutual funds were merged into other non-U.S.
registered open end mutual funds and 5 non-U.S. registered open end mutual funds
were liquidated; 4 Dublin-domiciled Fiduciary Trust funds were liquidated and 4
merged into U.K products.
II. BANKING/FINANCE OPERATIONS
Our secondary business segment is banking/finance, which offers select
retail-banking and consumer lending services.
Our subsidiary, Fiduciary Trust, is a New York state chartered bank and provides
private banking services primarily to high net-worth clients who maintain trust,
custody and/or investment management accounts with Fiduciary Trust. Fiduciary
Trust's private banking and credit products include, among others, loans secured
by marketable securities, foreign exchange services, deposit accounts and other
banking services. As discussed in Investment Management and Related Services,
Fiduciary Trust also offers investment management, trust and estate, custody and
related services to institutional accounts and high net-worth individuals and
families.
Franklin Capital Corporation ("FCC") is a subsidiary of FRI, which engages
primarily in the purchase, securitization and servicing of retail installment
sales contracts ("automobile contracts") originated by independent automobile
dealerships. FCC is incorporated and headquartered in Utah and conducts its
business primarily in the Western region of the U.S. As of September 30, 2003,
FCC's total assets included $130.0 million of outstanding automobile contracts.
During fiscal 2003, FCC securitized approximately $446.7 million of automobile
contract receivables for which it maintains servicing rights. As of September
30, 2003, FCC serviced $680.7 million of receivables that have been securitized
to date. See Note 7 in the Notes to the Financial Statements.
Our securitized automobile contracts business is subject to marketplace
fluctuation and competes with businesses with significantly larger portfolios.
Auto loan portfolio losses can be influenced significantly by trends in the
economy and credit markets, which reduce borrowers' ability to repay loans. A
more detailed analysis of loan losses and delinquency rates in our consumer
lending and dealer auto loan business is contained in Note 6 in the Notes to the
Financial Statements.
Our subsidiary Franklin Templeton Bank & Trust, F.S.B. ("FTB&T"), with total
assets of $174.4 million, as of September 30, 2003, provides FDIC insured
deposit accounts and general consumer loan products such as credit card loans,
unsecured loans, loans secured by marketable securities, mortgage loans, debit
card products and auto loans. FTB&T (formerly known as Franklin Bank) became
chartered as a federal savings bank on May 1, 2000 when the Office of Thrift
Supervision approved FTB&T's application to convert from a California state
banking charter to a federal thrift charter. Immediately following the
conversion of FTB&T's state charter
19
to a federal thrift charter, Franklin Templeton Trust Company, a California
chartered trust company, was merged into FTB&T and continues to perform its
prior activities as a division of FTB&T.
Our other banking subsidiaries include, FTI-Banque Fiduciary Trust, a Swiss bank
based in Geneva, Switzerland, which provides an array of private banking trust
and investment services to clients outside of the U.S., and FTCI (Cayman) Ltd.,
a licensed bank and trust company in the Cayman Islands.
REGULATORY CONSIDERATIONS
Virtually all aspects of our business, including those conducted through our
various subsidiaries, are subject to various federal, state, and foreign
regulation, and supervision. Domestically, we are subject to regulation and
supervision by, among others, the SEC, the National Association of Securities
Dealers ("NASD"), the Federal Reserve Board (the "FRB"), the Federal Deposit
Insurance Corporation ("FDIC"), the Office of Thrift Supervision and the New
York State Banking Department. Globally, we are subject to regulation and
supervision by, among others, the Ontario and Alberta Securities Commissions in
Canada, the Monetary Authority of Singapore, the Financial Services Authority in
the United Kingdom, the Central Bank of Ireland, the Securities and Futures
Commission of Hong Kong, the Korean Ministry of Finance and Economy and the
Financial Supervisory Commission in Korea, and the Securities Exchange Board of
India. The Advisers Act imposes numerous obligations on our subsidiaries, which
are registered in the U.S. as investment advisers, including record keeping,
operating and marketing requirements, disclosure obligations and prohibitions on
fraudulent activities. The `40 Act imposes similar obligations on the investment
companies that are advised by our subsidiaries. The SEC is authorized to
institute proceedings AND impose sanctions for violations of the Advisers Act
and the `40 Act, ranging from fines and censure to termination of an investment
adviser's registration.
As part of various ongoing investigations by the SEC, the U.S. Attorney for the
Northern District of California, the U.S. Attorney for the District of
Massachusetts, the New York Attorney General and the Secretary of State of
Massachusetts relating to certain practices in the mutual fund industry,
including late trading, market timing and sales compensation arrangements, the
Company and its subsidiaries (as used in this section, together, the "Company"),
as well as certain current or former executives and employees of the Company,
have received requests for information and/or subpoenas to testify or produce
documents. The Company and, where applicable, the relevant individuals, are
providing documents and information in response to these requests and subpoenas.
In addition, the Company is responding to requests for similar kinds of
information from regulatory authorities in some of the foreign countries where
the Company conducts its global asset management business. See also Note 13 in
the Notes to the Consolidated Financial Statements.
FRI and many of the investment companies advised by our various subsidiaries are
also subject to the federal and state laws affecting corporate governance,
including the Sarbanes-Oxley Act of 2002, as well as rules adopted by the SEC.
As a New York Stock Exchange ("NYSE") listed company, we are also subject to the
rules of the NYSE, including the corporate governance standards that were
recently approved by the SEC.
Since 1993, the NASD Conduct Rules have limited the amount of aggregate sales
charges which may be paid in connection with the purchase and holding of
investment company shares sold through brokers. The effect of the rule might be
to limit the amount of fees that could be paid pursuant to a fund's 12b-1 Plan
to FTDI, our principal underwriting and distribution subsidiary, which earns
underwriting commissions on the distribution of fund shares in the U.S. Such
limitations would apply in a situation where a fund has no, or limited, new
sales for a prolonged period of time. None of the Franklin Templeton mutual
funds are in, or close to, that situation at the present time.
Following the acquisition of Fiduciary Trust, in fiscal 2001, the Company became
a bank holding company under the BHC Act and is subject to supervision and
regulation by the FRB. Pursuant to the GLB Act, as a qualifying bank holding
company, we also became a financial holding company, which enables us to
affiliate with a far broader range of financial companies than had previously
been permitted for bank holding companies. Permitted affiliates include
securities brokers, underwriters and dealers, investment managers, mutual fund
distributors, insurance companies and companies engaged in other activities that
are "financial in nature or incidental thereto" or "complementary" to a
financial activity. The FRB has issued interim rules specifying that organizing,
sponsoring, and managing a mutual fund are activities that are permissible for
financial holding companies under certain guidelines. A bank holding company may
elect to become a
20
financial holding company if, as in our case, each of its subsidiary banks and
other depository institution subsidiaries is well capitalized, is well managed
(with the exception of Fiduciary Trust, which is exempt from the Community
Reinvestment Act ("CRA")) and has at least a "satisfactory" rating under the
CRA.
The FRB may impose limitations, restrictions, or prohibitions on the activities
or acquisitions of a financial holding company if the FRB believes that the
Company does not have the appropriate financial and managerial resources to
commence or conduct an activity, make an acquisition, or retain ownership of a
company. The GLB Act establishes the FRB as the umbrella supervisor for
financial holding companies and adopts an administrative approach to regulation
that generally requires the FRB to defer to the actions and requirements of the
U.S. "functional" regulators of subsidiary broker/dealers, investment advisers,
investment companies, insurance companies, and other regulated non-depository
institutions.
FRB policy provides that, as a matter of prudent banking, a bank holding company
generally should not pay dividends unless its net income is sufficient to fully
fund the dividends and the prospective rate of earnings retention appears to be
consistent with the capital needs, asset quality and overall financial condition
of the holding company and its bank and thrift institution subsidiaries. As we
are a bank holding company, this policy may be applied to us even though we are
also a financial holding company.
Almost every aspect of the operations and financial condition of our banking and
thrift subsidiaries are subject to extensive regulation and supervision and to
various requirements and restrictions under federal and state law, including
requirements governing capital adequacy, management practices, liquidity,
branching, earnings, loans, dividends, investments, reserves against deposits,
and the provision of services. Under federal law, a depository institution is
prohibited from paying a dividend if the depository institution would thereafter
be "undercapitalized" as determined by the federal bank regulatory agencies. The
relevant federal banking regulatory agencies, and the state banking regulatory
agencies, also have authority to prohibit a bank or a bank holding company from
engaging in what, in the opinion of the regulatory body, constitutes an unsafe
or unsound practice.
Each of our banking subsidiaries is subject to restrictions under federal law
that limit transactions with FRI and its non-bank subsidiaries, including loans
and other extensions of credit, investments or asset purchases. These and
various other transactions, including any payment of money to FRI and its
non-bank subsidiaries, must be on terms and conditions that are, or in good
faith would be, offered to companies that are not affiliated with these
companies.
Federal banking agencies are required to take prompt supervisory and regulatory
actions with respect to institutions that do not meet minimum capital standards.
There are five defined capital tiers, the highest of which is "well
capitalized". A depository institution is generally prohibited from making
capital distributions, including paying dividends, or paying management fees to
a holding company if the institution would thereafter be undercapitalized.
Undercapitalized institutions may not accept, renew or roll over brokered
deposits. To remain a financial holding company, each company's banking
subsidiaries must be well capitalized and well managed. As of September 30,
2003, our bank and thrift subsidiaries continued to be considered "well
capitalized" and "well managed". If a banking subsidiary of a financial holding
company has not received a rating of at least "satisfactory" on its most recent
CRA examination, the FRB may prohibit the financial holding company or its
banking subsidiary from engaging in additional financial activities.
The FRB has adopted various capital guidelines for bank holding companies. The
GLB Act authorizes the FRB to establish consolidated capital requirements for
financial holding companies. The GLB Act generally prohibits the FRB from
imposing capital requirements on functionally regulated non-bank subsidiaries of
a financial holding company, such as broker/dealers and investment advisers. The
FRB has not published consolidated capital requirements specific to financial
holding companies, but may do so in the future.
The federal banking agencies have broad enforcement powers, including the power
to terminate deposit insurance, impose substantial fines and other civil and
criminal penalties and appoint a conservator or receiver. Failure to comply with
applicable laws, regulations and supervisory agreements could subject FRI, our
thrift and banking subsidiaries, as well as officers, directors and other
so-called "institution-affiliated parties" of these organizations, to
administrative sanctions and potentially substantial civil money penalties. In
addition, the appropriate federal banking agency may appoint the FDIC as
conservator or receiver for a banking institution, or the FDIC may appoint
itself if any one or more of a number of circumstances exist.
21
COMPETITION
The financial services industry is highly competitive and has increasingly
become a global industry. There are approximately 8,200 open-end investment
companies of varying sizes, investment policies and objectives whose shares are
being offered to the public in the U.S. Due to our international presence and
varied product mix, it is difficult to assess our market position relative to
other investment managers on a worldwide basis, but we believe that we are one
of the more widely diversified investment managers in the U.S. We believe that
our equity and fixed-income asset mix coupled with our global presence will
serve our competitive needs well over the long term. We continue to focus on the
performance of our investment products, service to customers and extensive
marketing activities with our strong broker/dealer and other financial
institution distribution network as well as high net-worth customers.
We face strong competition from numerous investment management, stock brokerage
and investment banking firms, insurance companies, banks, savings and loan
associations and other financial institutions, which offer a wide range of
financial and investment management services to the same institutional accounts,
separate accounts and high net-worth customers that we are seeking to attract.
In recent years, there has been a trend of consolidation in the financial
services industry, resulting in stronger competitors with greater financial
resources than us.
We rely largely on intermediaries to sell and distribute Franklin Templeton
mutual fund shares. In addition to offering our products, many of these
intermediaries also have mutual funds under their own names that compete
directly with our products. These intermediaries could decide to limit or
restrict the sale of our fund shares, which could lower our future sales and
cause our revenues to decline. We have and continue to pursue sales
relationships with all types of intermediaries to broaden our distribution
network. We have experienced increased costs related to maintaining our
distribution channels and we anticipate that this trend will continue.
We have implemented an award winning Internet platform to compete with the
rapidly developing and evolving capabilities being offered with this technology.
Together with several large financial services companies, we made a capital
investment in the development of an industry-wide Internet portal, known as
Advisorcentral.com, which provides our broker, dealer and investment adviser
customers with the ability to view their clients' holdings using one log-in ID.
As investor interest in the mutual fund industry has increased, competitive
pressures have increased on sales charges of broker/dealer distributed funds. We
believe that, although this trend will continue, a significant portion of the
investing public still relies on the services of the broker/dealer or financial
adviser community, particularly during weaker market conditions.
We believe that we are well positioned to deal with changes in marketing trends
as a result of our already extensive advertising activities and broad based
marketplace recognition. We conduct significant advertising and promotional
campaigns through various media sources to promote brand recognition. We
advertise in major national financial publications, as well as on radio and
television to promote brand name recognition and to assist our distribution
network. Such activities include purchasing network and cable programming,
sponsorship of sporting events, and extensive newspaper and magazine
advertising.
Diverse and strong competition affects the banking/finance segment of our
business as well, and limits the fees that can be charged for our services. For
example, in the banking segment we compete with many types of institutions for
consumer loans, including the finance subsidiaries of large automobile
manufacturers, which have offered special incentives to stimulate automobile
sales, including no-interest loans. These product offerings by our competitors
limit the interest rates that we can charge on consumer loans.
FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS
Information on our operations in various geographic areas of the world and a
breakout of business segment information is contained in Note 18 in the Notes to
the Consolidated Financial Statements.
INTELLECTUAL PROPERTY
We have used, registered, and/or applied to register certain trademarks and
service marks to distinguish our sponsored investment products and services from
those of our competitors in the U.S. and in foreign countries
22
and jurisdictions, including, but not limited to, Franklin(R), Templeton(R),
Bissett(R), Mutual Series(R), and FiduciaryTM. We enforce our trademark, service
mark and trade name rights in the U.S. and abroad.
EMPLOYEES
As of September 30, 2003, we employed approximately 6,500 employees and operated
offices in 28 countries. We consider our relations with our employees to be
satisfactory.
AVAILABLE INFORMATION
Franklin Resources, Inc. files reports with the SEC. Copies of any of these
filings can be obtained from the SEC's Public Reference Room at 450 Fifth
Street, N.W., Washington, D.C. 20549. Information on the operation of the Public
Reference Room can be obtained by calling the SEC at 1-800-SEC-0330.
We also file reports with the SEC electronically via the Internet. The SEC
maintains an Internet site that contains reports, proxy and information
statements, and other information regarding issuers who file electronically with
the SEC, at http://www.sec.gov. Additional information about Franklin Resources,
Inc. can also be obtained at our website at http://www.franklintempleton.com. We
make available free of charge on our website our annual report on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to
those reports filed or furnished pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 as soon as reasonably practicable after we
electronically file such material with, or furnish it to, the SEC.
CORPORATE GOVERNANCE GUIDELINES. The Company has adopted Corporate Governance
Guidelines. The Corporate Governance Guidelines are posted on the Company's
website and are available in print to any shareholder who requests a copy.
COMMITTEE CHARTERS. The Board of Directors has an Audit Committee, Compensation
Committee and Corporate Governance Committee. The Board of Directors has adopted
written charters for each committee, which are posted on the Company's website
and are available in print to any shareholder who requests a copy.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following information on the executive officers of FRI, including their
principal occupations for the past five (5) years, is given as of December 1,
2003.
PENELOPE S. ALEXANDER
AGE 43
Vice President, Human Resources - U.S. of FRI since May 2003; officer of other
FRI subsidiaries; employed by FRI or its subsidiaries in various other
capacities for more than the past five (5) years.
JAMES R. BAIO
AGE 49
Senior Vice President and Chief Financial Officer of FRI since May 2003; officer
of other FRI subsidiaries; employed by FRI or its subsidiaries in various other
capacities for more than the past five (5) years.
JENNIFER J. BOLT
AGE 39
Senior Vice President and Chief Information Officer of FRI since May 2003;
officer and/or director of other FRI subsidiaries since June 1994; employed by
FRI or its subsidiaries in various other capacities for more than the past five
(5) years.
23
HARMON E. BURNS
AGE 58
DIRECTOR SINCE 1991
Vice Chairman and Director of FRI; formerly Executive Vice President and
director of FRI for more than the past five (5) years; Member - Office of the
Chairman of FRI; officer and/or director of many other FRI subsidiaries; officer
and/or director or trustee in 49 investment companies of Franklin Templeton
Investments.
MARTIN L. FLANAGAN
AGE 43
President of FRI; formerly Senior Vice President and Chief Financial Officer for
more than the past five (5) years; officer and/or director of many other FRI
subsidiaries; officer, director and/or trustee in 49 investment companies of
Franklin Templeton Investments. Mr. Flanagan has been appointed to serve as
Co-Chief Executive Officer of FRI effective January 1, 2004.
HOLLY E. GIBSON
AGE 37
Vice President - Corporate Communications of FRI since May 2003 and Director of
Corporate Communications for the past five (5) years.
BARBARA J. GREEN
AGE 56
Vice President and Deputy General Counsel of FRI since January 2000 and
Secretary of FRI since October 2003; officer of many other FRI subsidiaries;
officer in 52 investment companies of Franklin Templeton Investments.
DONNA S. IKEDA
AGE 47
Vice President, Human Resources - International of FRI since May, 2003 and
formerly Vice President - Human Resources of FRI for more than the past five (5)
years.
CHARLES B. JOHNSON
AGE 70
DIRECTOR SINCE 1969
Chairman of the Board, Chief Executive Officer and director of FRI for more than
the past five (5) years; Member - Office of the Chairman of FRI; officer and/or
director of many other FRI subsidiaries; officer and/or director or trustee in
46 investment companies of Franklin Templeton Investments. Effective January 1,
2004, Mr. C. B. Johnson will no longer serve as Chief Executive Officer of FRI,
but will continue to serve as Chairman of the Board and a director of FRI.
GREGORY E. JOHNSON
AGE 42
President of FRI; formerly Vice President of FRI for more than the past five (5)
years; officer of many other FRI subsidiaries and in two investment companies of
Franklin Templeton Investments. Mr. G. Johnson has been appointed to serve as
Co-Chief Executive Officer of FRI effective January 1, 2004.
RUPERT H. JOHNSON, JR.
AGE 63
DIRECTOR SINCE 1969
Vice Chairman of FRI; formerly Executive Vice President and director of FRI for
more than the past five (5) years; Member - Office of the Chairman of FRI;
officer and/or director of many other FRI subsidiaries; officer and/or director
or trustee in 49 investment companies of Franklin Templeton Investments.
24
LESLIE M. KRATTER
AGE 58
Senior Vice President (since 2000) and Assistant Secretary (since 2003) of FRI;
formerly Secretary from March 1998 to October 2003 and Vice President of FRI
since March 1993.
KENNETH A. LEWIS
AGE 42
Vice President and Treasurer of FRI since June 2002 and officer of many other
FRI subsidiaries for the past five (5) years.
MURRAY L. SIMPSON
AGE 66
Executive Vice President and General Counsel of FRI since January 2000; officer
in 51 investment companies of Franklin Templeton Investments. Previously
Managing Director and Chief Executive Officer of Franklin Templeton Investments
(Asia) Limited (formerly, Templeton Franklin Investment Services (Asia),
Limited) from 1994-2000.
CHARLES R. SIMS
AGE 42
Vice President of FRI and officer of many other FRI subsidiaries for the past
five (5) years.
ANNE M. TATLOCK
AGE 64
Vice Chairman, Member - Office of the Chairman and director of FRI; Chairman of
the Board, Chief Executive Officer (since 2000), and Director of Fiduciary
Trust, a subsidiary of FRI; formerly President of Fiduciary Trust for more than
the past five (5) years; officer and/or director of certain other subsidiaries
of FRI. Director, Fortune Brands, Inc. and Merck & Co., Inc.
FAMILY RELATIONS. Charles B. Johnson and Rupert H. Johnson, Jr. are brothers.
Peter M. Sacerdote, a director of FRI, is a brother-in-law of Charles B. Johnson
and Rupert H. Johnson, Jr. Gregory E. Johnson is the son of Charles B. Johnson,
the nephew of Rupert H. Johnson, Jr. and Peter Sacerdote and the brother of
Jennifer Bolt. Jennifer Bolt is the daughter of Charles B. Johnson, the niece of
Rupert H. Johnson, Jr. and Peter Sacerdote and the sister of Gregory E. Johnson.
ITEM 2. PROPERTIES
We conduct our worldwide operations using a combination of leased and owned
facilities. While we believe we have sufficient facilities to conduct business
during fiscal 2004, we will continue to lease, acquire and dispose of facilities
throughout the world as necessary.
We lease space domestically primarily in California, Connecticut, Delaware,
Florida, Michigan, New Jersey, New York, Utah, Washington and the District of
Columbia, and internationally in various locations, including Australia,
Belgium, Brazil, Canada, China, England, France, Germany, Holland, Hong Kong,
India, Ireland, Italy, Japan, Korea, Luxembourg, Poland, Russia, Scotland,
Singapore, South Africa, Spain, Sweden, Switzerland, Taiwan, Turkey and the
United Arab Emirates. As of September 30, 2003, we leased and occupied
approximately 865,000 square feet of space. We have also leased and subsequently
subleased to third parties a total of 297,000 square feet of space.
In addition, we own 6 buildings near Sacramento, California, 5 buildings in St.
Petersburg, Florida, 2 buildings in Nassau, Bahamas, 5 buildings in India, as
well as space in office buildings in Argentina, China and Singapore. In
addition, we operate 4 buildings in San Mateo, California under an operating
lease with a related lessor trust. The buildings we own consist of approximately
1.67 million square feet. We have subleased to third parties approximately
104,000 square feet of excess owned space. Since we operate on a unified basis,
corporate activities, fund related activities, accounting operations, sales,
real estate and retail-banking and consumer lending operations, management
information system activities, publishing and printing operations,
25
shareholder service operations and other business activities and operations take
place in a variety of such locations.
ITEM 3. LEGAL PROCEEDINGS
In October and November, 2003, three lawsuits were brought against subsidiaries
of the Company alleging breach of fiduciary duty with respect to the valuation
of the portfolio securities of certain Franklin Templeton funds and seeking
monetary damages and costs. BRADFISCH v. TEMPLETON FUNDS, INC. AND TEMPLETON
GLOBAL ADVISORS LIMITED, Case 2003 L 001361, was filed on October 3, 2003 in the
Circuit Court for the Third Judicial Circuit, Madison County, Illinois, and
relates to the Templeton World Fund. WOODBURY v. TEMPLETON GLOBAL SMALLER
COMPANIES FUND, INC. AND TEMPLETON INVESTMENT COUNSEL, LLC, Case 2003 L 001362,
was filed on October 3, 2003 in the Circuit Court for the Third Judicial
Circuit, Madison County, Illinois, and relates to the Templeton Global Smaller
Companies Fund, Inc. Both cases were removed to the United States District Court
for the Southern District of Illinois on November 14, 2003. The complaint in
KENERLEY v. TEMPLETON FUNDS, INC. AND TEMPLETON GLOBAL ADVISORS LIMITED, Case
No. 03-770 GPM, was filed in the United States District Court for the Southern
District of Illinois and served on the defendants on November 25, 2003. This
lawsuit relates to the Templeton World Fund and alleges breach of fiduciary
duties imposed by Section 36(a) of the Investment Company Act of 1940 and
pendant state law claims.
Management strongly believes that the claims made in each of these lawsuits are
without merit and intends vigorously to defend against them.
Except for the matters described above, there have been no material developments
in the litigation previously reported in our Form 10-Q for the period ended June
30, 2003 as filed with the SEC on August 14, 2003. 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
During the fourth quarter of the fiscal year covered by this report, no matter
was submitted to a vote of security holders.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is traded on the New York Stock Exchange ("NYSE") and the
Pacific Exchange under the ticker symbol "BEN", and the London Stock Exchange
under the ticker symbol "FRK". On September 30, 2003, the closing price of FRI's
common stock on the NYSE was $44.21 per share. At December 1, 2003, there were
approximately 4,900 shareholders of record.
The following table sets forth the high and low sales prices for our common
stock on the NYSE.
2003 FISCAL YEAR 2002 FISCAL YEAR
- ------------------------------------ -------------- -------------- ------ ------------ --------------
QUARTER HIGH LOW HIGH LOW
- ------------------------------------ -------------- -------------- ------ ------------ --------------
October-December $37.85 $27.90 $37.85 $30.85
January-March $37.01 $29.99 $44.15 $34.52
April-June $40.85 $32.84 $44.48 $39.45
July-September $46.95 $38.66 $43.15 $29.52
We declared dividends of $0.30 per share in fiscal 2003 and $0.28 per share in
fiscal 2002. We expect to continue paying dividends on a quarterly basis to
holders of our common stock depending upon earnings and other relevant factors.
26
ITEM 6. SELECTED FINANCIAL DATA
FINANCIAL HIGHLIGHTS
(IN MILLIONS, EXCEPT ASSETS UNDER MANAGEMENT, PER SHARE AMOUNTS AND EMPLOYEE HEADCOUNT)
AS OF AND FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001 2000 1999
- ------------------------------------------------ --------- ---------- ---------- ---------- ---------
SUMMARY OF OPERATIONS
Operating revenues $2,624.4 $2,518.5 $2,354.8 $2,340.1 $2,262.5
Net income 502.8 432.7 484.7 562.1 426.7
FINANCIAL DATA
Total assets $6,970.7 $6,422.7 $6,265.7 $4,042.4 $3,666.8
Long-term debt 1,108.9 595.1 566.0 294.1 294.3
Stockholders' equity 4,310.1 4,266.9 3,977.9 2,965.5 2,657.0
Operating cash flow 548.0 736.8 553.2 701.7 584.5
ASSETS UNDER MANAGEMENT (IN BILLIONS)
Period ending $301.9 $247.8 $246.4 $229.9 $218.1
Simple monthly average 269.8 263.2 243.4 227.7 219.8
PER COMMON SHARE
Earnings
Basic $1.98 $1.66 $1.92 $2.28 $1.69
Diluted 1.97 1.65 1.91 2.28 1.69
Cash dividends 0.30 0.28 0.26 0.24 0.22
Book value 17.53 16.50 15.25 12.17 10.59
EMPLOYEE HEADCOUNT 6,504 6,711 6,868 6,489 6,650
- ---------------------------------------------------------------------------------------------------
ITEM 7. 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. In addition to historical information, we also make some statements
relating to the future, which are called "forward-looking statements". These
forward-looking statements involve a number of risks, uncertainties and other
important factors that could cause our actual results and outcomes to differ
materially from any future results or outcomes expressed or implied by such
forward-looking statements. For this reason, you should not rely too heavily on
them and should review the "Risk Factors" section, where we discuss these
statements in more detail.
GENERAL
We derive the majority of our operating revenues, operating expenses and net
income from providing investment advisory and related services to retail mutual
funds, institutional, high net-worth, private accounts and other investment
products. This is our primary business activity and operating segment. The
mutual funds and other products that we advise, collectively called our
sponsored investment products, are distributed to the public globally under five
distinct names:
* Franklin * Templeton * Mutual Series * Bissett * Fiduciary Trust
Our sponsored investment products include a broad range of global/international
equity, U.S. domestic, hybrid/balanced, fixed-income 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 depends largely on the level and relative mix of
assets under management. To a lesser degree, our revenues also depend 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 with our sponsored
investment products or our clients. These arrangements could change in the
future.
27
Our secondary business and operating segment is banking/finance. Our
banking/finance group offers selected retail-banking services to high net-worth
individuals, foundations and institutions, and consumer lending services. Our
consumer lending activities include automotive lending related to the purchase,
securitization, and servicing of retail installment sales contracts originated
by independent automobile dealerships, consumer credit and debit cards, real
estate equity lines, and home equity/mortgage loans.
RESULTS OF OPERATIONS
The table below presents the highlights of our operations for the last three
fiscal years.
(IN MILLIONS EXCEPT PER SHARE AMOUNTS)
2003 2002
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001 VS 2002 VS 2001
- ---------------------------------- ----------- ------------- ------------- -------------- -----------
NET INCOME $502.8 $432.7 $484.7 16% (11)%
EARNINGS PER COMMON SHARE
Basic $1.98 $1.66 $1.92 19% (14)%
Diluted 1.97 1.65 1.91 19% (14)%
OPERATING MARGIN 25% 23% 22% -- --
- ---------------------------------- ----------- ------------- ------------- -------------- -----------
Net income increased by 16% and diluted earnings per share increased by 19% in
fiscal 2003. The increase was primarily due to higher operating revenues
consistent with a 3% increase in our simple monthly average assets under
management, higher gross sales, and an increase in billable shareholder
accounts, as well as higher investment and other income in fiscal 2003 due to an
other-than-temporary decline in the value of certain investments in fiscal 2002.
These increases were partially offset by higher underwriting and distribution
expenses and a higher effective tax rate in fiscal 2003 as compared to the prior
year. An increase in repurchases of our stock, resulting in a decline in diluted
weighted-average shares outstanding from 262.1 million in fiscal 2002 to 254.7
million in fiscal 2003, also contributed to the increase in diluted earnings per
common share.
Net income decreased by 11% and diluted earnings per share decreased by 14% in
fiscal 2002 primarily due to lower investment and other income related to an
other-than-temporary decline in the value of certain investments and increased
operating expenses, partially offset by higher revenues.
ASSETS UNDER MANAGEMENT
(IN BILLIONS)
2003 2002
AS OF THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001 VS 2002 VS 2001
- ------------------------------------ --------- ------------- ------------- -------------- -----------
EQUITY
Global/international $99.8 $76.5 $80.2 30% (5)%
Domestic (U.S.) 55.4 41.4 44.5 34% (7)%
- ------------------------------------ --------- ------------- ------------- -------------- -----------
TOTAL EQUITY 155.2 117.9 124.7 32% (5)%
HYBRID/BALANCED 45.8 36.6 36.1 25% 1%
FIXED-INCOME
Tax-free 52.2 52.8 48.4 (1)% 9%
Taxable
Domestic (U.S.) 31.1 26.1 24.4 19% 7%
Global/international 11.8 8.6 7.2 37% 19%
- ------------------------------------ --------- ------------- ------------- -------------- -----------
TOTAL FIXED-INCOME 95.1 87.5 80.0 9% 9%
MONEY MARKET 5.8 5.8 5.6 -- 4%
- ------------------------------------ --------- ------------- ------------- -------------- -----------
TOTAL $301.9 $247.8 $246.4 22% 1%
- ------------------------------------ --------- ------------- ------------- -------------- -----------
Simple monthly average for the $269.8 $263.2 $243.4 3% 8%
year /1/
- ------------------------------------ --------- ------------- ------------- -------------- -----------
/1/ Investment management fees from approximately 50% of our assets under management at
September 30, 2003 were calculated using daily average assets under management.
28
Our assets under management at September 30, 2003 were $301.9 billion, 22%
higher than they were a year ago, due to excess sales over redemptions ("net
inflows") of $14.4 billion and market appreciation of $42.0 billion, primarily
in the latter half of fiscal 2003. Simple monthly average assets under
management, which are generally more indicative of investment management fee
revenue trends than the year over year change in ending assets under management,
increased 3% during fiscal 2003.
The simple monthly average mix of assets under management for the last three
fiscal years is shown below.
AS OF THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- -----------------------------------------------------------------------------------------------------
PERCENTAGE OF SIMPLE MONTHLY AVERAGE ASSETS UNDER MANAGEMENT
Equity 49% 52% 59%
Fixed-income 34% 31% 29%
Hybrid/balanced 15% 15% 10%
Money market 2% 2% 2%
- -----------------------------------------------------------------------------------------------------
Total 100% 100% 100%
- -----------------------------------------------------------------------------------------------------
The following table presents industry data showing average effective investment
management fee rates /2/ for the years ended September 30, 2003, 2002 and 2001.
The data was obtained from Lipper(R) Inc. and our actual effective fee rates may
vary from these rates.
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ------------------------------------ ---------------------- ---------------------- ------------------
EQUITY
Global/international 0.71% 0.71% 0.72%
Domestic (U.S.) 0.54% 0.55% 0.55%
HYBRID/BALANCED 0.42% 0.45% 0.46%
FIXED-INCOME
Tax-free 0.42% 0.43% 0.43%
Taxable
Domestic (U.S.) 0.43% 0.43% 0.45%
Global/international 0.60% 0.59% 0.59%
MONEY MARKET 0.27% 0.27% 0.28%
- ------------------------------------ ---------------------- ---------------------- ------------------
/2/ Calculated by Franklin Templeton Investments based on asset-weighted averages of management
fee rates provided by Lipper(R) Inc. Industry effective investment management fee rates
are calculated using all U.S.-based, open-ended funds that reported expense data to Lipper(R)
Inc. as of the funds' most recent annual report date, and for which management fee rates were
greater or equal to zero. Industry effective fee rates reflect the investment management expenses
of retail and institutional funds drawn from all distribution channels, without exception. The
averages reflect combined retail and institutional funds data and include all share classes, and
all distribution channels, without exception. Variable annuities are not included.
For the 2003 fiscal year, our effective investment management fee rate
(investment management fees divided by simple monthly average assets under
management) declined to 0.55% from 0.56% in fiscal 2002. The change in the mix
of assets under management, resulting from higher relative net inflows and
appreciation for fixed-income as compared to equity products, led to the slight
decrease in the effective investment management fee rate. Generally,
fixed-income and hybrid/balanced products carry a lower management fee than
equity assets.
The decline in the effective management fee rate to 0.56% in fiscal 2002 as
compared to 0.58% in fiscal 2001 was largely due to the inclusion of the assets
under management of Fiduciary Trust Company International ("Fiduciary Trust")
beginning in fiscal 2001 and market depreciation in equity assets in fiscal
2002. Approximately 64% of Fiduciary Trust's assets under management were
classified as hybrid/balanced assets at the time of acquisition in April 2001.
29
Assets under management by shareholder location were as follows:
(IN BILLIONS)
AS OF THE YEAR ENDED SEPTEMBER 30, 2003
- ---------------------------------------- ------------
United States $239.9
Canada 21.5
Europe 19.9
Asia/Pacific and other 20.6
- ---------------------------------------- ------------
Total $301.9
- ---------------------------------------- ------------
Investors in the United States owned approximately 79% of our assets under
management at September 30, 2003 and approximately 72% of our revenues
originated in the United States in fiscal 2003. Investment advisory and
administrative services related to these assets may be provided in jurisdictions
outside the United States in accordance with contractual arrangements with our
sponsored investment products.
Components of the change in our assets under management were as follows:
(IN BILLIONS)
AS OF AND FOR THE YEARS ENDED 2003 2002
SEPTEMBER 30, 2003 2002 2001 VS 2002 VS 2001
- ------------------------------------- -------- ------------- ------------- --------------- ---------
Beginning assets under management $247.8 $246.4 $229.9 1% 7%
Sales 81.3 72.4 58.5 12% 24%
Reinvested dividends 3.7 4.8 9.0 (23)% (47)%
Redemptions (66.9) (57.5) (58.6) 16% (2)%
Distributions (6.0) (7.2) (12.0) (17)% (40)%
Acquisitions -- 0.8 49.5 (100)% (98)%
Appreciation (depreciation) 42.0 (11.9) (29.9) N/A (60)%
- ------------------------------------- -------- ------------- ------------- --------------- ---------
Ending assets under management $301.9 $247.8 $246.4 22% 1%
- ------------------------------------- -------- ------------- ------------- --------------- ---------
During fiscal 2003 and 2002, our sponsored investment products experienced
overall net inflows in contrast to the slight net outflows experienced in fiscal
2001. Gross product sales increased 12% while redemptions increased 16% in 2003.
Our acquisition of Pioneer ITI AMC Limited ("Pioneer"), an Indian investment
management company, in July 2002 increased our assets under management by $0.8
billion as of the date of this acquisition. In 2001, the acquisition of Bissett
and Associates Investment Management Ltd. ("Bissett"), in October 2000,
increased our assets under management by $3.7 billion, and the Fiduciary Trust
acquisition, in April 2001, increased our assets under management by $45.8
billion, as of the dates of those acquisitions.
Our products experienced $42.0 billion in appreciation in fiscal 2003 as
compared to market depreciation in both fiscal 2002 and 2001 consistent with an
overall increase in domestic and global equity markets in the latter half of
2003.
30
OPERATING REVENUES
The table below presents the percentage change in each revenue category between
fiscal 2003 and fiscal 2002 and between fiscal 2002 and fiscal 2001.
2003 2002 PERCENTAGE OF TOTAL REVENUES
VS 2002 VS 2001 2003 2002 2001
- ------------------------------------------ --------- ----------- ------------ ------------- ---------
Investment management fees 2% 4% 57% 58% 60%
Underwriting and distribution fees 7% 12% 32% 31% 30%
Shareholder servicing fees 14% (4)% 8% 8% 8%
Consolidated sponsored investment
products income, net N/A N/A -- -- --
Other, net 5% 86% 3% 3% 2%
- ------------------------------------------ --------- ----------- ------------ ------------- ---------
TOTAL OPERATING REVENUES 4% 7% 100% 100% 100%
- ------------------------------------------ --------- ----------- ------------ ------------- ---------
SUMMARY
In fiscal 2003, total operating revenues increased 4% over the prior year due to
increased investment management, shareholder servicing and underwriting and
distribution fees, consistent with a 3% increase in simple monthly average
assets under management, an increase in billable shareholder accounts and higher
gross product sales.
In fiscal 2002, total operating revenues increased 7% over the prior year.
Investment management and underwriting and distribution fees increased due to
higher net sales and higher average assets under management. Other, net revenue
increased due to the inclusion of Fiduciary Trust revenues for a full fiscal
year in 2002, as well as higher net gains related to auto loan securitizations
included in other, net revenue.
INVESTMENT MANAGEMENT FEES
Investment management fees, accounting for 57% of our operating revenues in
fiscal 2003, include both investment advisory and administration fees. These
fees are generally calculated under contractual arrangements with our sponsored
investment products as a percentage of the market value of 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.
Investment management fees increased 2% in fiscal 2003 consistent with a 3%
increase in simple monthly average assets under management, partially offset by
a slight decline in our effective investment management fee rate resulting from
a shift in average asset mix toward fixed-income products, which generally carry
a lower management fee than equity assets.
Investment management fees increased 4% in fiscal 2002 primarily due to
increased net sales, which increased assets under management, and the impact of
including Fiduciary Trust for a full fiscal year. This increase was partially
offset by a shift in our average asset mix toward fixed-income investment
products, which led to a decrease in our effective investment management fee
rate.
UNDERWRITING AND DISTRIBUTION FEES
We earn underwriting fees from the sale of some classes of sponsored investment
products on which investors pay a sales commission at the time of purchase.
Sales commissions are reduced or eliminated on some classes of shares and for
sales to shareholders or intermediaries that exceed specified minimum amounts.
Therefore, underwriting fees will change with the overall level of gross sales
and the relative mix of sales between different share classes.
Many of our sponsored investment products pay distribution fees in return for
sales, marketing and distribution efforts on their behalf. While other
contractual arrangements exist in international jurisdictions, in the United
States, distribution fees include "12b-1 fees". These fees are subject to
maximum payout levels based on a percentage of the assets in each fund and other
regulatory limitations. We pay a significant portion of
31
underwriting and distribution fees to the financial advisors and other
intermediaries who sell our sponsored investment products to the public on our
behalf. See the description of underwriting and distribution expenses below.
Overall, underwriting and distribution fees increased 7% in fiscal 2003.
Underwriting fees increased 8% primarily due to a 12% increase in gross product
sales, partially offset by a change in the sales mix. Distribution fees
increased 6% consistent with a 3% increase in simple monthly average assets
under management and a change in the asset mix.
Underwriting and distribution fees increased 12% in fiscal 2002. Underwriting
fees increased 24% consistent with a 24% increase in gross product sales, and
distribution fees increased 5% consistent with an 8% increase in simple monthly
average 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
some instances, sponsored investment products are charged these fees based on
the level of assets under management. We receive fees as compensation for
providing transfer agency services, including providing customer statements,
transaction processing, customer service and tax reporting. In the United
States, transfer agency service agreements provide that accounts closed in a
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 calendar year remain billable for four months after the
end of the calendar year. Accordingly, the level of fees will vary with the
growth in new accounts and the level of closed accounts that remain billable.
Shareholder servicing fees increased 14% in fiscal 2003. The increase reflects
an increase in the overall number of billable shareholder accounts, partially
offset by a decline in fee rates chargeable on accounts closed in the prior
calendar year, under revised shareholder service fee agreements in the United
States that became effective on January 1, 2003. The 0.7 million shareholder
accounts added in July 2002 as a result of the acquisition of Pioneer also
contributed to the increase in average billable accounts in fiscal 2003.
Shareholder servicing fees decreased 4% in fiscal 2002 consistent with a
decrease in the quarterly average number of billable accounts.
OTHER, NET
Other, net consists primarily of revenues from the banking/finance operating
segment as well as income from custody services. Revenues from the
banking/finance operating segment include interest income on loans, servicing
income, and investment income on banking/finance investment securities, and are
reduced by interest expense and the provision for probable loan losses.
Other, net increased 5% in fiscal 2003 as a result of higher net interest income
and auto loan servicing income, partially offset by lower custody fees. Other,
net increased 86% in fiscal 2002 primarily due to the inclusion of Fiduciary
Trust's banking and custody activities for a full fiscal year in 2002 and
increased gains recognized on auto loan portfolio sales.
32
OPERATING EXPENSES
The table below presents the percentage change in each expense category between
fiscal 2003 and fiscal 2002 and between fiscal 2002 and fiscal 2001.
2003 2002 PERCENTAGE OF TOTAL EXPENSES
VS 2002 VS 2001 2003 2002 2001
- ---------------------------------------------- -------------- ----------- -------- ------ -------
Underwriting and distribution 6% 12% 38% 37% 35%
Compensation and benefits 1% 5% 33% 33% 33%
Information systems, technology and occupancy (3)% 12% 14% 15% 14%
Advertising and promotion (14)% 1% 5% 6% 6%
Amortization of deferred sales commissions 9% (2)% 4% 3% 4%
Amortization of intangible assets (1)% (70)% 1% 1% 3%
September 11, 2001 (recovery) expense, net N/A (100)% 0% 0% 0%
Other 19% (2)% 5% 5% 5%
- ---------------------------------------------- -------------- ----------- -------- ------ -------
TOTAL OPERATING EXPENSES 2% 5% 100% 100% 100%
- ---------------------------------------------- -------------- ----------- -------- ------ -------
SUMMARY
Operating expenses increased 2% during fiscal 2003 primarily due to higher
underwriting and distribution and other expenses, which were partly offset by
lower advertising and promotion, and information systems, technology and
occupancy costs.
Operating expenses increased 5% during fiscal 2002. This increase was primarily
due to increased underwriting and distribution fees consistent with higher
underwriting and distribution revenue, and higher compensation and benefits and
technology and occupancy costs primarily due to the inclusion of Fiduciary
Trust's activity for a full fiscal year in 2002. The increase in these expense
categories was offset in part by a decline in amortization of intangible assets
on discontinuation of the amortization of goodwill and indefinite-lived
intangible assets.
UNDERWRITING AND DISTRIBUTION
Underwriting and distribution includes expenses paid to financial advisers and
other third parties for selling, distributing and providing ongoing services to
investors in our sponsored investment products.
Underwriting and distribution expenses increased 6% in fiscal 2003 and 12% in
fiscal 2002 consistent with similar trends in underwriting and distribution
revenues.
COMPENSATION AND BENEFITS
Compensation and benefits increased 1% during fiscal 2003. Although we
experienced a decrease in retention bonus commitments related to the acquisition
of Fiduciary Trust, we have also experienced increases in employee insurance and
other benefits costs in fiscal 2003. We employed approximately 6,500 people at
September 30, 2003 compared to approximately 6,700 at the same time last year.
In order to hire and retain 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.
Compensation and benefits increased 5% during fiscal 2002. This increase was
primarily due to the inclusion of Fiduciary Trust's activity for a full fiscal
year, partially offset by an overall decline in employees as well as 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%
and, in July 2002, we reinstated employee salaries in the 10% reduction
category.
33
INFORMATION SYSTEMS, TECHNOLOGY AND OCCUPANCY
Information systems, technology and occupancy costs decreased 3% in fiscal 2003.
This decrease was primarily due to decreased purchases of information system and
technology equipment leading to decreased depreciation (certain of our
technology equipment is periodically replaced with new equipment under our
technology outsourcing agreement) and lower expenditures on technology projects.
While continuing to work on new technology initiatives and investment in our
technology infrastructure, we have slowed down a number of initiatives and
delayed the start of other technology projects given the recent economic
slowdown and our focus on cost control and management.
Information systems, technology and occupancy costs increased 12% in fiscal
2002. This increase was primarily due to the inclusion of costs related to the
outsourcing of the management of our data center and distributed server
operations and added technology and occupancy costs of the Fiduciary Trust
acquisition for a full fiscal year in 2002.
Details of capitalized information systems and technology costs for the last
three fiscal years were as follows:
(IN THOUSANDS) 2003 2002 2001
- ----------------------------------------------------------------------------------------------------
Net carrying amount at beginning of period $121,486 $162,857 $156,895
Additions during period, net of disposals and other
adjustments 25,812 35,570 69,794
Net assets purchased through acquisitions -- 206 11,266
Amortization during period (68,172) (77,147) (75,098)
- ----------------------------------------------------------------------------------------------------
Net carrying amount at end of period $79,126 $121,486 $162,857
- ----------------------------------------------------------------------------------------------------
ADVERTISING AND PROMOTION
Advertising and promotion decreased 14% during fiscal 2003 and increased 1% in
fiscal 2002. During fiscal 2002 we incurred higher promotion and advertising
costs to educate the sales channels and the investing public about the strong
relative investment performance of our sponsored investment products. We are
committed to investing in advertising and promotion in response to changing
business conditions, which means that the level of advertising and promotion
expenditures may increase more rapidly or decrease more slowly than our
revenues.
AMORTIZATION OF DEFERRED SALES COMMISSIONS
Certain fund share classes, including Class B, are sold without a front-end
sales charge to shareholders, although our distribution subsidiaries pay a
commission on the sale. In the United States, Class A shares are sold without a
front-end sales charge to shareholders when minimum investment criteria are met.
However, our U.S. distribution subsidiary pays a commission on these sales.
Class C shares are sold with a front-end sales charge that is lower than the
commission paid by the U.S. distributor. We defer and amortize all up-front
commissions paid by our distribution subsidiaries over 18 months to 8 years
depending on share class or financing arrangements.
We have arranged to finance our Class B and C 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 a 49% ownership
interest. In the United States, LFL has entered into a financing agreement with
our U.S. distribution subsidiary and we maintain a continuing interest in the
assets until resold by LFL. As a result, we retain DCA sold to LFL under the
U.S. agreement in our financial statements and amortize them over an 8-year
period, or until sold by LFL to third-parties. In contrast to the U.S.
arrangement, LFL has entered into direct agreements with our Canadian and
European sponsored investment products, and, as a result, we do not record DCA
from these sources in our financial statements.
Amortization of deferred sales commissions increased 9% in fiscal 2003 from the
prior year primarily due to increased gross product sales and because LFL did
not sell any U.S. DCA in a securitization transaction in
34
fiscal 2003, while it sold approximately $61.5 million U.S. DCA in fiscal 2002.
Amortization of deferred sales commissions decreased 2% in fiscal 2002, due to
changes in sales mix and existing financing arrangements.
AMORTIZATION OF INTANGIBLE ASSETS
Amortization of intangible assets decreased 1% in fiscal 2003, primarily due to
foreign currency movements. Amortization of intangible assets decreased 70% in
fiscal 2002 due to the adoption of Statement of Financial Accounting Standards
No. 142 "Goodwill and Other Intangible Assets" ("SFAS 142"), on October 1, 2001.
Under SFAS 142, we ceased to amortize goodwill and indefinite-lived intangible
assets. This resulted in a reduction in amortization expense of approximately
$50 million in fiscal 2002 as compared to the prior year. As of March 31, 2003,
we completed our most recent annual impairment test of goodwill and
indefinite-lived and definite-lived intangible assets and we determined that
there was no impairment to these assets as of October 1, 2002.
OTHER INCOME (EXPENSE)
Other income (expense) includes investment and other income and interest
expense. Beginning July 1, 2003, realized and unrealized gains (losses), net, of
sponsored investment products that were consolidated in our financial statements
on adoption of the Financial Accounting Standards Board ("FASB") Interpretation
No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"), are also
included in this classification. See the description of FIN 46 in Critical
Accounting Policies below.
Investment and other income is comprised primarily of the following:
* dividends from investments
* interest income from investments in bonds and government securities
* realized gains and losses on investments
* foreign currency exchange gains and losses
* miscellaneous income, including gain or loss on disposal of property.
Net other income was $52.1 million in fiscal 2003 as compared to a net expense
of $7.2 million in fiscal 2002 due to a $60.1 million other-than-temporary
decline in value of some of our investments recognized in the fourth quarter of
fiscal 2002. Net other income was $125.8 million in fiscal 2001 due to net
realized gains of approximately $34.2 million on the sale of certain sponsored
investment products held for investment purposes and other realized gains of
$24.6 million related to the sale of our former headquarters building in San
Mateo.
TAXES ON INCOME
As a multi-national corporation, we provide investment management services to a
wide range of international investment products, often managed from locations
outside the United States. Some of these jurisdictions have lower tax rates than
the United States. The mix of income (primarily investment management fees)
subject to these lower rates, when aggregated with income originating in the
United States, produces a lower overall effective tax rate than existing U.S.
Federal and state tax rates. Our effective income tax rate for fiscal 2003
increased to 28% compared to 25% in fiscal 2002 and 24% in fiscal 2001. The
effective tax rate will continue to reflect the relative contributions of
foreign earnings that are subject to reduced tax rates and that are not
currently included in U.S. taxable income, as well as other factors.
MATERIAL CHANGES IN FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
At September 30, 2003, we had $1,053.7 million in cash and cash equivalents, as
compared to $980.6 million at September 30, 2002. Cash and cash equivalents
include cash, U.S. Treasury bills and other debt instruments with maturities of
three months or less from the purchase date and other highly liquid investments
that are readily convertible into cash, including money market funds. Liquid
assets, which consist of cash and cash equivalents, investments
available-for-sale and current receivables, increased to $3,272.3 million at
September 30, 2003 from $2,826.0 million at September 30, 2002. Liquid assets
have increased in fiscal 2003 primarily due to cash provided by operating
activities, proceeds received from auto loan securitizations and the issuance of
medium-term notes, offset in part by common stock repurchases and loan
origination activity.
35
Outstanding debt, including Federal Home Loan Bank advances and current
maturities of long-term debt, increased to $1,123.7 million at September 30,
2003, compared to $611.5 million at September 30, 2002. The balance at September
30, 2003 included $520.3 million in principal and accrued interest related to
outstanding convertible notes, $420.0 million in five-year senior notes and
$168.8 million in other long-term debt, including current maturities. Other
long-term debt consisted primarily of deferred commission liabilities recognized
in relation to U.S. DCA financed by LFL that had not yet been sold by LFL in a
securitization transaction (see Note 11 to the consolidated financial statements
for a further description of debt outstanding).
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. On
May 12, 2003, at the option of the holders, we repurchased convertible notes
with a face value of $5.9 million principal amount at maturity, for $3.5 million
in cash, the accreted value of the notes as of May 11, 2003. We may have to
repurchase the convertible notes at their accreted value, at the option of the
holders, on May 11 of 2004, 2006, 2011, 2016, 2021 and 2026. In this event, we
may choose to pay the purchase price in cash or shares of our common stock. The
amount of convertible notes that will be redeemed depends on, among other
factors, the performance of our common stock.
As of September 30, 2002, outstanding debt included $514.2 million related to
the convertible notes and $88.8 million of other long-term debt, including
current maturities. The increase in outstanding debt from September 30, 2002 is
primarily due to the issuance of the five-year senior notes in April 2003, the
increase in U.S. DCA financed by LFL, and the accretion of interest on the
convertible notes.
As of September 30, 2003, we had $500.0 million of commercial paper and $300.0
million of debt and equity securities available to be issued under shelf
registration statements filed with the Securities and Exchange Commission. Our
committed revolving credit facilities at September 30, 2003 totaled $420.0
million, of which, $210.0 million was under a 364-day facility. The remaining
$210.0 million facility is under a five-year facility that will expire in June
2007. In addition, at September 30, 2003, our banking/finance operating segment
had $559.5 million in available uncommitted short-term bank lines under the
Federal Reserve Funds system, the Federal Reserve Bank discount window, and
Federal Home Loan Bank short-term borrowing capacity. Our ability to access the
capital markets in a timely manner depends 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 valuation levels
of equity markets. In extreme circumstances, we might not be able to access this
liquidity readily.
Our banking/finance operating segment periodically enters into auto loan
securitization transactions with qualified special purpose entities, which then
issue asset-backed securities to private investors. Gross sale proceeds from
these transactions were $464.4 million in fiscal 2003 and $565.2 million in
fiscal 2002. The outstanding loan balances held by these special purpose
entities were $680.7 million as of September 30, 2003 and $530.9 million as of
September 30, 2002. Our ability to access the securitization market will
directly affect our plans to finance the auto loan portfolio in the future.
The sales commissions that we have financed globally through LFL during fiscal
2003, were approximately $161.3 million compared to $135.3 million in fiscal
2002. LFL's ability to access credit facilities and the securitization market
will directly affect our existing financing arrangements.
We expect that the main uses of cash will be to:
* expand our core business
* make strategic acquisitions
* acquire shares of our common stock
* 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.
36
We believe that we can meet our present and reasonably foreseeable operating
cash needs and future commitments through the following:
* existing liquid assets
* continuing cash flow from operations
* borrowing capacity under current credit facilities
* ability to issue debt or equity securities
* mutual fund sales commission financing arrangement.
In particular, we expect to finance future 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.
CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
Our contractual cash obligations and commitments as of September 30, 2003 were
as follows:
PAYMENTS DUE BY PERIOD
------------------------------------------------------
LESS MORE
(IN THOUSANDS) TOTAL THAN 1 1-3 4-5 THAN 5
YEAR YEARS YEARS YEARS
- ---------------------------------------------- ----------- ---------- --------- ----------- ---------
Long-term debt obligations $1,108,881 $22,450 $46,300 $468,236 $571,895
Operating lease obligations 268,577 34,760 60,881 49,189 123,747
- ---------------------------------------------- ----------- ---------- --------- ----------- ---------
In addition, at September 30, 2003, the banking/finance operating segment had
commitments to extend credit aggregating $280.5 million, primarily under its
credit card lines and had issued financial standby letters of credit totaling
$5.5 million on which beneficiaries would be able to draw upon in the event of
non-performance by our customers, primarily in relation to lease and lien
obligations of these banking customers. These standby letters of credit, issued
prior to January 1, 2003, were secured by marketable securities with a fair
value of $15.2 million as of September 30, 2003 and commercial real estate.
OFF-BALANCE SHEET ARRANGEMENTS
As discussed above, we obtain financing for sales commissions that we pay to
brokers on Class B and C shares through LFL, a company incorporated in Ireland
whose sole business purpose is to finance our DCA. We hold a 49% ownership
interest in LFL and we account for this ownership interest using the equity
method of accounting. Our exposure to loss related to our investment in LFL is
limited to the carrying value of our investment and loans, and interest and fees
receivable from LFL. At September 30, 2003, those amounts approximated $54.7
million. During fiscal 2003, we financed approximately $161.3 million of sales
commissions through LFL and we recognized pre-tax income of approximately $0.7
million for our share of the net income of LFL.
As discussed above, our banking/finance operating segment periodically enters
into auto loan securitization transactions with qualified special purpose
entities, which then issue asset-backed securities to private investors. Our
main objective in entering in securitization transactions is to obtain financing
for auto loan activities. Securitized loans held by the securitization trusts
totaled $680.7 million at September 30, 2003 and $530.9 million at September 30,
2002. In relation to these transactions, we are obligated to cover shortfalls in
amounts due to the holders of the notes up to certain levels as specified under
the related agreements. As of September 30, 2003, the maximum potential amount
of future payments was $13.7 million relating to guarantees made prior to
January 1, 2003. In addition, our consolidated balance sheet at September 30,
2003 included a $0.1 million liability to reflect obligations arising from an
auto securitization transaction that we entered into in June 2003.
We are contingently liable for approximately $145.0 million in residual
guarantees under an operating lease for our global corporate headquarters campus
in San Mateo, California. This represents about 85% of the total construction
costs of $170.0 million. We are also contingently liable to purchase the
corporate headquarters campus for an amount equal to the final construction
costs of $170.0 million if an event of default occurs under the agreement. An
event of default includes, but is not limited to, failure to make lease payments
when due and
37
failure to maintain required insurance. Management considers the possibility of
default under the provisions of the agreement to be remote.
Currently, the lease is treated as an operating lease, as none of the
capitalization criteria under Statement of Financial Accounting Standards No.
13, "Accounting for Leases", were met at the inception of the lease. We
anticipate that we will consolidate our corporate headquarters campus under the
requirements of FIN 46 in the period ending December 31, 2003.
CRITICAL ACCOUNTING POLICIES
Our financial statements and accompanying notes are prepared in accordance with
generally accepted accounting principles in the United States. The preparation
of these financial statements requires us to make estimates and assumptions that
impact our financial position and results of operations. These estimates and
assumptions are affected by our application of accounting policies. Below we
describe certain critical accounting policies that we believe are important to
understanding our results of operations and financial position. In addition,
please refer to Note 1 to the consolidated financial statements for further
discussion of our accounting policies.
INTANGIBLE ASSETS
At September 30, 2003 our assets included intangible assets as follows:
(IN THOUSANDS) NET CARRYING
AMOUNT
- ------------------------------------------------------------ -----------------
Goodwill $1,335,517
Intangible assets - definite-lived 205,636
Intangible assets - indefinite-lived 478,645
- ------------------------------------------------------------ -----------------
Total $2,019,798
- ------------------------------------------------------------ -----------------
Under SFAS 142, we are required to test the fair value of goodwill and
indefinite-lived intangibles when there is an indication of impairment, or at
least once a year. As of March 31, 2003, we completed our annual impairment test
of goodwill and indefinite-lived and definite-lived intangible assets and we
determined that there was no impairment to these assets as of October 1, 2002.
The fair value of indefinite-lived intangible assets is determined based on
anticipated discounted cash flows. Goodwill is impaired when the carrying amount
of the reporting unit exceeds the implied fair value of the reporting unit. In
estimating the fair value of the reporting unit, we use valuation techniques
based on discounted cash flows similar to models employed in analyzing the
purchase price of an acquisition target. Intangible assets subject to
amortization are reviewed for impairment at each reporting period on the basis
of the expected future undiscounted operating cash flows, without interest
charges, to be derived from these assets.
In performing our analysis, we used certain assumptions and estimates including
those related to discount rates and the expected future period of cash flows to
be derived from the assets, based on, among other factors, historical trends and
the characteristics of the assets. While we believe that our testing was
appropriate, if these estimates and assumptions change in the future, we may be
required to record impairment charges or otherwise increase amortization
expense.
INCOME TAXES
As a multinational corporation, we operate in various locations outside the
United States. We have not made a provision for U.S. taxes on the cumulative
undistributed earnings of foreign subsidiaries as those earnings are intended to
be reinvested for an indefinite period of time. These earnings approximated $2.1
billion at September 30, 2003. Changes to our policy of reinvesting foreign
earnings may have a significant effect on our financial condition and results of
operation.
38
VALUATION OF INVESTMENTS
We record substantially all investments in our financial statements at fair
value or amounts that approximate fair value. Where available, we use prices
from independent sources such as listed market prices or broker or dealer price
quotations. For investments in illiquid and privately held securities that do
not have readily determinable fair values, we estimate the value of the
securities based upon available information. However, even where the value of a
security is derived from an independent market price or broker or dealer quote,
some assumptions may be required to determine the fair value. For example, we
generally assume that the size of positions in securities that we hold would not
be large enough to affect the quoted price of the securities when sold, and that
any such sale would happen in an orderly manner. However, these assumptions may
be incorrect and the actual value realized on sale could differ from the current
carrying value.
We evaluate our investments for other-than-temporary decline in value on a
periodic basis. This may exist when the fair value of an investment security has
been below the current value for an extended period of time. As most of our
investments are carried at fair value, if an other-than-temporary decline in
value is determined to exist, the unrealized investment loss recorded net of tax
in accumulated other comprehensive income is realized as a charge to net income,
in the period in which the other-than-temporary decline in value is determined.
In fiscal 2002, we recognized $60.1 million for an other-than-temporary decline
in the value of certain investments. While we believe that we have accurately
estimated the amount of other-than-temporary decline in value in our portfolio,
different assumptions could result in changes to the recorded amounts in our
financial statements.
LOSS CONTINGENCIES
We are involved in various lawsuits and claims encountered in the normal course
of business. When such a matter arises and periodically thereafter, we consult
with our legal counsel and evaluate the merits of the claim based on the facts
available at that time. In management's opinion, an adequate accrual has been
made as of September 30, 2003 to provide for any probable losses that may arise
from these matters.
VARIABLE INTEREST ENTITIES
FIN 46, issued in January 2003, requires consolidation of a variable interest
entity ("VIE") by the enterprise that has the majority of the risks or rewards
of ownership, referred to as the primary beneficiary. The consolidation and
disclosure provisions of FIN 46 are effective immediately for VIEs created after
January 31, 2003, and, originally, for interim or annual reporting periods
beginning after June 15, 2003 for VIEs created before February 1, 2003. However,
in October 2003, the FASB issued Staff Position FIN 46-6, "Effective Date of
FASB Interpretation No. 46, Consolidation of Variable Interest Entities" ("FSP
FIN 46-6"), deferring the consolidation provisions of FIN 46 to interim or
annual reporting periods ending after December 15, 2003 for VIEs created before
February 1, 2003.
Six VIEs, all sponsored investment products with inception dates after January
31, 2003, have been consolidated in our financial statements at September 30,
2003. The effect of this consolidation was to increase our consolidated net
income by $1.1 million and our financial position by $10.4 million for and as of
the year ended September 30, 2003. Our exposure to loss related to our
investment in these consolidated VIEs is limited to our investment and fees
earned, but not yet received, totaling $38.7 million at September 30, 2003.
We are continuing our evaluation of sponsored investment products and will adopt
the consolidation provisions of FIN 46 for products created before February 1,
2003 in the quarter ending December 31, 2003, in accordance with FSP FIN 46-6.
Based on the current requirements of FIN 46, we estimate that the effect of
adoption on our consolidated balance sheet as of December 31, 2003 will be to
increase assets by approximately $1,119.2 million, based on September 30, 2003
values. Our exposure to loss as a result of our investment in these VIEs is
limited to our investment, totaling $167.1 million at September 30, 2003, and
fees earned but not yet received. In addition, as the primary beneficiary of our
corporate headquarters campus, a lessor trust, we anticipate that we will
consolidate the trust under the provisions of FIN 46 as of December 31, 2003.
The impact of consolidating the trust will be to increase property and
equipment, net by approximately $157.6 million and current maturities of
long-term debt, by approximately $164.9 million as of this date.
39
In relation to our purchase of Darby Overseas Investments, Ltd. and Darby
Overseas, L.P., we anticipate that we will consolidate sponsored investment
products with total assets of approximately $444.4 million as of October 1,
2003.
Evaluating whether related entities are VIEs and determining whether we qualify
as the primary beneficiary of these VIEs, is highly complex and involves the use
of estimates and assumptions. In general, when we estimate the expected residual
returns of a VIE based on discounted cash flows, we make certain assumptions
about discount rates. In addition, we determine the volatility of the VIE's
expected returns based on available historical information and management's
estimates. While we believe that our testing and approach were appropriate,
future changes in estimates and assumptions may affect our decision to
consolidate one or more VIEs in our financial statements. See Note 14 to the
consolidated financial statements for additional FIN 46 disclosures.
BANKING/FINANCE GROUP INTEREST INCOME AND MARGIN ANALYSIS
The following table presents the banking/finance group's net interest income and
margin for the fiscal years ended September 30, 2003 and 2002:
2003 2002
- -------------------------------------- ----------- --------- ---------- --------- --------- -----------
AVERAGE AVERAGE AVERAGE AVERAGE
(IN THOUSANDS) BALANCE INTEREST RATE BALANCE INTEREST RATE
- -------------------------------------- ----------- --------- ---------- --------- --------- -----------
Federal funds sold and securities
purchased under agreements to resell $59,799 $889 1.49% $91,496 $1,438 1.57%
Investment securities, available-for-sale 421,320 18,207 4.32% 368,693 18,366 4.98%
Loans receivable /3/ 460,295 30,354 6.59% 490,729 33,523 6.83%
- -------------------------------------- ----------- --------- ---------- --------- --------- -----------
Total earning assets $941,414 $49,450 5.25% $950,918 $53,327 5.61%
Interest-bearing deposits $697,273 $6,374 0.91% $814,159 $9,812 1.21%
Inter-segment debt 121,489 2,501 2.06% 150,566 5,415 3.60%
Federal funds purchased and securities
sold under agreements to repurchase 16,325 261 1.60% 19,233 392 2.04%
- -------------------------------------- ----------- --------- ---------- --------- --------- -----------
Total interest-bearing liabilities $835,087 $9,136 1.09% $983,958 $15,619 1.59%
- -------------------------------------- ----------- --------- ---------- --------- --------- -----------
Net interest income and margin $40,314 4.28% $37,708 3.97%
- -------------------------------------- ----------- --------- ---------- --------- --------- -----------
/3/ Non-accrual loans are included in the average loans receivable balance.
40
QUARTERLY INFORMATION (UNAUDITED)
(IN THOUSANDS EXCEPT PER SHARE DATA)
QUARTER FIRST SECOND THIRD FOURTH
- ---------------------------------------------------------------------------------------------------
2003
Revenues $605,451 $613,135 $683,907 $721,955
Operating income $139,455 $139,706 $169,375 $199,540
Net income $109,760 $109,603 $131,388 $152,079
Earnings per share:
Basic $0.43 $0.43 $0.52 $0.61
Diluted $0.43 $0.43 $0.52 $0.61
Dividend per share $0.075 $0.075 $0.075 $0.075
Common stock price per share:
High $37.85 $37.01 $40.85 $46.95
Low $27.90 $29.99 $32.84 $38.66
- ---------------------------------------------------------------------------------------------------
2002
Revenues $618,207 $625,968 $666,050 $608,307
Operating income $142,865 $148,019 $153,852 $140,766
Net income $118,519 $119,996 $125,690 $68,518
Earnings per share:
Basic $0.45 $0.46 $0.48 $0.26
Diluted $0.45 $0.46 $0.48 $0.26
Dividend per share $0.070 $0.070 $0.070 $0.070
Common stock price per share:
High $37.85 $44.15 $44.48 $43.15
Low $30.85 $34.52 $39.45 $29.52
- ---------------------------------------------------------------------------------------------------
2001
Revenues $564,074 $577,413 $609,473 $603,883
Operating income $148,978 $144,473 $124,696 $93,848
Net income $149,465 $131,684 $119,703 $83,869
Earnings per share:
Basic $0.61 $0.54 $0.46 $0.32
Diluted $0.61 $0.54 $0.46 $0.32
Dividend per share $0.065 $0.065 $0.065 $0.065
Common stock price per share:
High $45.50 $48.30 $47.40 $46.07
Low $34.00 $34.20 $36.05 $31.65
- ---------------------------------------------------------------------------------------------------
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
41
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 financial and equity markets
due to the continuing threat of terrorism. 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 generally 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 ABILITY TO SUCCESSFULLY INTEGRATE THE WIDELY VARIED SEGMENTS OF OUR BUSINESS
CAN BE IMPEDED BY SYSTEMS AND OTHER TECHNOLOGICAL LIMITATIONS. Our continued
success in effectively managing and growing our business both domestically and
abroad, depends on our ability to integrate the varied accounting, financial,
information and operational systems of our various businesses on a global basis.
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 and C 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.
CERTAIN OF THE PORTFOLIOS WE MANAGE INCLUDING OUR EMERGING MARKET PORTFOLIOS AND
RELATED REVENUES ARE VULNERABLE TO MARKET-SPECIFIC POLITICAL OR 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 or in some cases zero interest rates. 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.
WE ARE SUBJECT TO FEDERAL RESERVE BOARD REGULATION. Upon completion of our
acquisition of Fiduciary Trust in April 2001, we became a bank holding company
and a financial holding company subject to the supervision and regulation of the
Federal Reserve Board. We are subject to the restrictions, limitations, or
prohibitions of the Bank Holding Company Act of 1956 and the Gramm-Leach-Bliley
Act. The Federal Reserve Board may impose additional limitations or restrictions
on our activities, including if the Federal Reserve Board believes
42
that we do not have the appropriate financial and managerial resources to
commence or conduct an activity or make an acquisition. The Federal Reserve
Board may also 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.
VARIOUS ONGOING GOVERNMENTAL INVESTIGATIONS AND REGULATORY ACTIONS AND REFORMS
RELATING TO CERTAIN PRACTICES IN THE MUTUAL FUND INDUSTRY COULD ADVERSELY IMPACT
OUR ASSETS UNDER MANAGEMENT, FUTURE FINANCIAL RESULTS AND INCREASE OUR COSTS OF
DOING BUSINESS. As part of various ongoing investigations by the U.S. Securities
and Exchange Commission ("SEC"), the U.S. Attorney for the Northern District of
California, the U.S. Attorney for the District of Massachusetts, the New York
Attorney General and the Secretary of State of Massachusetts relating to certain
practices in the mutual fund industry, including late trading, market timing and
sales compensation arrangements, Franklin Resources, Inc. and its subsidiaries
(as used in this section, together, the "Company"), as well as certain current
or former executives and employees of the Company, have received requests for
information and/or subpoenas to testify or produce documents. The Company and,
where applicable, the relevant individuals, are providing documents and
information in response to these requests and subpoenas. In addition, the
Company is responding to requests for similar kinds of information from
regulatory authorities in some of the foreign countries where the Company
conducts its global asset management business.
The Company also has been conducting its own internal fact-finding inquiry with
the assistance of outside counsel. The Company is seeking to determine whether
any shareholders of the Franklin, Templeton and Mutual Series Funds (each a
"Fund" and together, "Funds"), including Company employees, were permitted to
engage in late trading or in market timing transactions contrary to the policies
of the affected Fund and, if so, the circumstances and persons involved. The
Company is committed to taking action to protect the interests of our Funds'
shareholders, including appropriate action against any Company personnel found
to have knowingly permitted or personally engaged in improper trading practices.
To date, the Company has identified some instances of frequent trading in shares
of certain Funds by a few current or former employees in their personal 401(k)
plan accounts. These individuals include one trader and one officer of the
Funds. These two individuals have been placed on administrative leave and the
officer has resigned from his positions with the Funds. Although our inquiry is
not complete, to date we have found no instances of inappropriate mutual fund
trading by any portfolio manager, investment analyst or officer of Franklin
Resources, Inc.
The independent directors of the Funds and the Company have retained independent
outside counsel to review these matters, to determine if any violations of law
or policies or inappropriate trading occurred, to conduct such further inquiries
as counsel may deem necessary and to report their findings and recommendations
to the independent directors of the Funds and the Company's board of directors.
The Company's internal inquiry regarding market timing and late trading is still
ongoing, and we have not yet completed the gathering or evaluation of the
relevant facts. Although we have not identified any late trading problems, we
have identified various instances of frequent trading where we have questions
about the propriety of what occurred and what responsibility, if any, the
Company may bear. Pending completion of the fact-finding process, one officer of
a subsidiary of the Company has been placed on administrative leave. If the
Company finds that it bears responsibility for any unlawful or inappropriate
conduct that caused losses to our Funds, we are committed to making the Funds
whole.
Separately, in connection with the SEC's private investigation that resulted in
a proceeding against Morgan Stanley DW, Inc., the Company has been asked to
furnish documents and testimony relating to its arrangements to compensate
brokers who sell Fund shares. Effective November 28, 2003, the Company
determined not to direct any further brokerage where the allocation is based on
sale of Fund shares in order to satisfy preferred list or other shelf space
arrangements, which determination may have a material adverse financial impact
on the Company.
43
The Company cannot state with certainty the eventual outcome of the foregoing
governmental investigations, the review by independent outside counsel or the
Company's own internal investigation, which could have a material negative
financial impact on the Company. However, public trust and confidence are
critical to the Company's business and any material loss of investor and/or
client confidence could result in a significant decline in assets under
management by the Company, which would have an adverse effect on future
financial results.
In addition, pending regulatory and legislative actions and reforms affecting
the mutual fund industry may significantly increase the Company's costs of doing
business and/or negatively impact its revenues, either of which could have a
material negative impact on the Company's financial results.
ITEM 7A. 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 adverse changes in interest rates, foreign exchange and/or equity prices.
Management is responsible for managing this risk. Our Enterprise Risk Management
Committee is responsible for providing a framework to assist management to
identify, assess and manage market and other risks.
We are exposed to changes in interest rates primarily through financing
transactions and portfolio debt holdings available-for-sale, which are carried
at fair value in our financial statements. As of September 30, 2003, a
significant percentage of our outstanding debt was at fixed interest rates. In
our banking/finance operating segment, we monitor the net interest rate margin
and the average maturity of interest earning assets, as well as funding sources.
In addition, as of September 30, 2003, we have considered the potential impact
of the effect on the banking/finance operating segment balances, 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. A significant portion 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 also exposed to equity price fluctuations through securities we hold that
are carried at fair value. To mitigate this risk, we maintain a diversified
investment portfolio.
44
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Index of Consolidated Financial Statements for the years ended September 30,
2003, 2002, and 2001.
CONTENTS PAGE
Consolidated Financial Statements of Franklin Resources, Inc.:
Consolidated Statements of Income
for the years ended September 30, 2003, 2002, and 2001 46
Consolidated Balance Sheets
as of September 30, 2003 and 2002 47
Consolidated Statements of Stockholders' Equity and Comprehensive Income
as of and for the years ended September 30, 2003, 2002, and 2001 49
Consolidated Statements of Cash Flows
for the years ended September 30, 2003, 2002, and 2001 51
Notes to Consolidated Financial Statements 52
Report of Independent Auditors 78
All schedules have been omitted as the information is provided in the financial
statements or in related notes thereto or is not required to be filed as the
information is not applicable.
45
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
2003 2002 2001
FOR THE YEARS ENDED SEPTEMBER 30,
- ----------------------------------------------------------------------------------------------------
OPERATING REVENUES
Investment management fees $1,487,331 $1,462,655 $1,407,202
Underwriting and distribution fees 844,674 792,697 709,476
Shareholder servicing fees 217,225 191,302 199,525
Consolidated sponsored investment products income, net 93 -- --
Other, net 75,125 71,878 38,640
- ----------------------------------------------------------------------------------------------------
Total operating revenues 2,624,448 2,518,532 2,354,843
OPERATING EXPENSES
Underwriting and distribution 760,843 716,234 636,868
Compensation and benefits 649,882 645,104 615,281
Information systems, technology and occupancy 285,329 294,161 263,297
Advertising and promotion 92,399 106,877 106,261
Amortization of deferred sales commissions 73,501 67,608 68,977
Amortization of intangible assets 16,961 17,107 56,590
September 11, 2001 (recovery) expense, net (4,401) -- 7,649
Other 101,858 85,939 87,925
- ----------------------------------------------------------------------------------------------------
Total operating expenses 1,976,372 1,933,030 1,842,848
Operating income 648,076 585,502 511,995
OTHER INCOME (EXPENSES)
Consolidated sponsored investment products gains, net 1,645 -- --
Investment and other income 70,392 5,075 136,351
Interest expense (19,910) (12,302) (10,556)
- ----------------------------------------------------------------------------------------------------
Other income (expenses), net 52,127 (7,227) 125,795
Income before taxes on income 700,203 578,275 637,790
Taxes on income 197,373 145,552 153,069
- ----------------------------------------------------------------------------------------------------
NET INCOME $502,830 $432,723 $484,721
- ----------------------------------------------------------------------------------------------------
Earnings per share
Basic $1.98 $1.66 $1.92
Diluted $1.97 $1.65 $1.91
Dividends per share $0.30 $0.28 $0.26
See accompanying notes to the consolidated financial statements.
46
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
AS OF SEPTEMBER 30, 2003 2002
- ----------------------------------------------------------------------------------------------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $1,017,023 $850,940
Receivables 338,292 292,325
Investment securities, trading and available-for-sale 1,521,933 1,121,011
Prepaid expenses and other 91,579 97,783
- ----------------------------------------------------------------------------------------------------
Total current assets 2,968,827 2,362,059
BANKING/FINANCE ASSETS
Cash and cash equivalents 36,672 129,664
Loans receivable, net 470,672 444,338
Investment securities, available-for-sale 358,387 432,081
Other 52,694 45,889
- ----------------------------------------------------------------------------------------------------
Total banking/finance assets 918,425 1,051,972
NON-CURRENT ASSETS
Investments, other 280,356 263,927
Deferred sales commissions 215,816 130,617
Property and equipment, net 356,772 394,172
Goodwill 1,335,517 1,321,939
Other intangible assets, net 684,281 697,246
Receivable from banking/finance group 102,864 100,705
Other 107,891 100,101
- ----------------------------------------------------------------------------------------------------
Total non-current assets 3,083,497 3,008,707
- ----------------------------------------------------------------------------------------------------
TOTAL ASSETS $6,970,749 $6,422,738
- ----------------------------------------------------------------------------------------------------
See accompanying notes to the consolidated financial statements.
47
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
2003 2002
AS OF SEPTEMBER 30,
- ----------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Compensation and benefits $225,446 $228,093
Current maturities of long-term debt 287 7,830
Accounts payable and accrued expenses 112,630 117,246
Commissions 95,560 81,033
Income taxes 43,500 12,510
Other 11,103 8,307
- ----------------------------------------------------------------------------------------------------
Total current liabilities 488,526 455,019
BANKING/FINANCE LIABILITIES
Deposits 633,983 733,571
Payable to parent 102,864 100,705
Other 65,133 49,660
- ----------------------------------------------------------------------------------------------------
Total banking/finance liabilities 801,980 883,936
NON-CURRENT LIABILITIES
Long-term debt 1,108,881 595,148
Deferred taxes 203,498 175,176
Other 57,756 46,513
- ----------------------------------------------------------------------------------------------------
Total non-current liabilities 1,370,135 816,837
- ----------------------------------------------------------------------------------------------------
Total liabilities 2,660,641 2,155,792
- ----------------------------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES (NOTE 13)
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; 245,931,522 and 258,555,285 shares
issued and outstanding, for 2003 and 2002 24,593 25,856
Capital in excess of par value 108,024 598,196
Retained earnings 4,129,644 3,702,636
Accumulated other comprehensive income (loss) 47,847 (59,742)
- ----------------------------------------------------------------------------------------------------
Total stockholders' equity 4,310,108 4,266,946
- ----------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $6,970,749 $6,422,738
- ----------------------------------------------------------------------------------------------------
See accompanying notes to the consolidated financial statements.
48
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
(IN THOUSANDS)
SHARES CAPITAL IN
AS OF AND FOR THE YEARS ENDED COMMON COMMON EXCESS OF
SEPTEMBER 30, 2003, 2002, AND 2001 STOCK STOCK PAR VALUE
- -------------------------------------------------------- -------------- --------------- ------------
BALANCE, OCTOBER 1, 2000 243,730 $24,373 $--
Net income
Other comprehensive income:
Net unrealized loss on investments
Currency translation adjustments
Total comprehensive income
Purchase of stock (4,200) (420) (163,438)
Cash dividends on common stock
Issuance of restricted shares, net 716 71 32,313
Employee stock plan (ESIP) shares 359 36 13,077
Stock issued to acquire Fiduciary Trust 20,187 2,019 773,768
Exercise of options and other 6 1 2,158
- -------------------------------------------------------- -------------- --------------- ------------
BALANCE, SEPTEMBER 30, 2001 260,798 26,080 657,878
- -------------------------------------------------------- -------------- --------------- ------------
Net income
Other comprehensive income:
Net unrealized loss on investments
Currency translation adjustments
Minimum pension liability adjustment
Total comprehensive income
Purchase of stock (3,929) (393) (124,538)
Cash dividends on common stock
Issuance of restricted shares, net 842 84 27,469
Employee stock plan (ESIP) shares 436 44 14,323
Proceeds from issuance of put options 6,954
Exercise of options and other 408 41 16,110
- -------------------------------------------------------- -------------- --------------- ------------
BALANCE, SEPTEMBER 30, 2002 258,555 25,856 598,196
- -------------------------------------------------------- -------------- --------------- ------------
Net income
Other comprehensive income:
Net unrealized gains on investments
Currency translation adjustments
Minimum pension liability adjustment
Total comprehensive income
Purchase of stock (15,275) (1,528) (574,153)
Cash dividends on common stock
Issuance of restricted shares, net 913 91 28,282
Employee stock plan (ESIP) shares 524 52 16,785
Net put option premiums and settlements 1,335
Reclassification of put options to liability (7,289)
Exercise of options and other 1,215 122 44,868
- -------------------------------------------------------- -------------- --------------- ------------
BALANCE, SEPTEMBER 30, 2003 245,932 $24,593 $108,024
- -------------------------------------------------------- -------------- --------------- ------------
[Table continued on next page]
See accompanying notes to the consolidated financial statements.
49
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
[Table continued from previous page]
(IN THOUSANDS) ACCUMULATED
OTHER TOTAL TOTAL
AS OF AND FOR THE YEARS ENDED RETAINED COMPREHENSIVE STOCKHOLDERS' COMPREHENSIVE
SEPTEMBER 30, 2003, 2002, AND 2001 EARNINGS OTHER INCOME (LOSS) EQUITY INCOME
- ---------------------------------------------- ---------------- ----------- -------------- ---------------- --------------
BALANCE, OCTOBER 1, 2000 $2,932,166 $(3,422) $12,376 $2,965,493
Net income 484,721 484,721 $484,721
Other comprehensive income:
Net unrealized loss on investments (58,170) (58,170) (58,170)
Currency translation adjustments (3,247) (3,247) (3,247)
--------------
Total comprehensive income $423,304
Purchase of stock (8,255) (172,113)
Cash dividends on common stock (65,653) (65,653)
Issuance of restricted shares, net 3,422 35,806
Employee stock plan (ESIP) shares 13,113
Stock issued to acquire Fiduciary Trust 775,787
Exercise of options and other 2,159
- ---------------------------------------------- ---------------- ----------- -------------- ---------------- --------------
BALANCE, SEPTEMBER 30, 2001 3,342,979 -- (49,041) 3,977,896
- ---------------------------------------------- ---------------- ----------- -------------- ---------------- --------------
Net income 432,723 432,723 $432,723
Other comprehensive income:
Net unrealized loss on investments (4,084) (4,084) (4,084)
Currency translation adjustments (837) (837) (837)
Minimum pension liability adjustment (5,780) (5,780) (5,780)
-------------
Total comprehensive income $422,022
Purchase of stock (124,931)
Cash dividends on common stock (73,066) (73,066)
Issuance of restricted shares, net 27,553
Employee stock plan (ESIP) shares 14,367
Proceeds from issuance of put options 6,954
Exercise of options and other 16,151
- ---------------------------------------------- ---------------- ----------- -------------- ---------------- --------------
BALANCE, SEPTEMBER 30, 2002 3,702,636 -- (59,742) 4,266,946
- ---------------------------------------------- ---------------- ----------- -------------- ---------------- --------------
Net income 502,830 502,830 $502,830
Other comprehensive income:
Net unrealized gains on investments 72,222 72,222 72,222
Currency translation adjustments 30,727 30,727 30,727
Minimum pension liability adjustment 4,640 4,640 4,640
------------
Total comprehensive income $610,419
Purchase of stock (575,681)
Cash dividends on common stock (75,822) (75,822)
Issuance of restricted shares, net 28,373
Employee stock plan (ESIP) shares 16,837
Net put option premiums and settlements 1,335
Reclassification of put options to liability (7,289)
Exercise of options and other 44,990
- ---------------------------------------------- ---------------- ----------- -------------- ---------------- --------------
BALANCE, SEPTEMBER 30, 2003 $4,129,644 $-- $47,847 $4,310,108
- ---------------------------------------------- ---------------- ----------- -------------- ---------------- --------------
See accompanying notes to the consolidated financial statements.
50
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- --------------------------------------------------------------------------------------------------------------------------
NET INCOME $502,830 $432,723 $484,721
ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH PROVIDED BY OPERATING
ACTIVITIES:
(Increase) decrease in receivables, prepaid expenses and other (49,205) 66,266 (88,360)
Net advances of deferred sales commissions (158,942) (102,092) (86,305)
Increase (decrease) in other current liabilities 50,643 (4,705) 5,517
(Decrease) increase in deferred income taxes and taxes payable (20,894) 72,025 (21,038)
Increase (decrease) in commissions payable 14,526 (2,485) 6,552
Increase in accrued compensation and benefits 30,367 26,655 54,056
Depreciation and amortization 177,420 183,121 223,846
Losses (gains) on asset disposal, net and other 1,280 5,224 (45,687)
Other-than-temporary decline in investments value -- 60,068 --
September 11, 2001 asset write-offs -- -- 19,885
- --------------------------------------------------------------------------------------------------------------------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 548,025 736,800 553,187
Purchase of investments (2,344,548) (1,502,820) (947,615)
Liquidation of investments 1,977,077 1,284,557 463,276
Purchase of banking/finance investments (275,407) (273,099) (103,872)
Liquidation of banking/finance investments 439,264 209,678 187,082
Net proceeds from securitization of loans receivable 442,961 558,082 139,295
Net origination of loans receivable (471,234) (426,386) (294,557)
Additions of property and equipment (52,653) (53,062) (107,326)
Proceeds from sale of property and equipment 2,494 9,569 10,392
Acquisitions of subsidiaries, net of cash acquired -- (51,779) (99,058)
Insurance proceeds related to September 11, 2001 event 10,643 28,562 --
- --------------------------------------------------------------------------------------------------------------------------
NET CASH USED IN INVESTING ACTIVITIES (271,403) (216,698) (752,383)
(Decrease) increase in bank deposits (99,588) 9,963 67,297
Exercise of common stock options 43,435 17,047 2,158
Net put option premiums and settlements 1,335 6,059 --
Dividends paid on common stock (75,441) (71,778) (63,471)
Purchase of stock (575,681) (124,931) (172,113)
Increase in debt 523,627 103,794 711,847
Payments on debt (23,218) (75,859) (496,320)
- --------------------------------------------------------------------------------------------------------------------------
NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES (203,531) (135,705) 49,398
Increase (decrease) in cash and cash equivalents 73,091 384,397 (149,798)
Cash and cash equivalents, beginning of year 980,604 596,207 746,005
- --------------------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS, END OF YEAR $1,053,695 $980,604 $596,207
- --------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest, including banking/finance group interest except
inter-segment interest $19,260 $16,746 $17,746
Income taxes 142,799 125,083 148,268
SUPPLEMENTAL DISCLOSURE OF NON-CASH INFORMATION
Value of common stock issued, primarily restricted stock $28,465 $28,009 $28,640
Value of common stock issued to acquire Fiduciary Trust -- -- 775,786
Fair value of Fiduciary Trust assets acquired -- -- 1,538,084
Fair value of Fiduciary Trust liabilities acquired -- -- 757,722
- --------------------------------------------------------------------------------------------------------------------------
See accompanying notes to the consolidated financial statements.
51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES
We derive the majority of our revenues and net income from providing investment
management, administration, distribution and related services to the Franklin,
Templeton, Mutual Series, Bissett and Fiduciary Trust funds, institutional, high
net-worth and other investment products, collectively called our sponsored
investment products. Services to our sponsored investment products are provided
under contracts that set forth the level and nature of the fees to be charged
for these services. The majority of our revenues relate to mutual fund products
that are subject to contracts that are periodically reviewed and approved by
each mutual fund's Board of Directors/Trustees and/or its shareholders.
Currently, no single sponsored investment product's revenues represent more than
10% of total revenues.
BASIS OF PRESENTATION. The consolidated financial statements are prepared in
accordance with generally accepted accounting principles in the United States of
America, which require us to estimate certain amounts. Actual amounts may differ
from these estimates. Certain comparative amounts for prior years have been
reclassified to conform to the fiscal 2003 financial statement presentation.
The consolidated financial statements include the accounts of Franklin
Resources, Inc. and its subsidiaries ("Franklin Templeton Investments")
consolidated under Financial Accounting Standards Board ("FASB") Accounting
Research Bulletin No. 51 "Consolidated Financial Statements" and FASB
Interpretation No. 46, "Consolidation of Variable Interest Entities" (see Note
2). All material inter-company accounts and transactions have been eliminated
except that we have not eliminated the receivable from banking/finance group and
payable to parent from our consolidated balance sheets which represent balances
outstanding related to the funding of banking activities, including auto and
credit card loan financing. In addition, the related inter-company interest
expense is included in other, net revenue and the inter-company interest income
is included in investment and other income in our consolidated statements of
income (see Note 20). This treatment provides additional information on funding
sources available to the banking/finance group and on its operations.
CASH AND CASH EQUIVALENTS include cash on hand, demand deposits with banks, debt
instruments with maturities of three months or less from the purchase date and
other highly liquid investments, including money market funds, which are readily
convertible into cash.
INVESTMENT SECURITIES, TRADING are carried at fair value with changes in fair
value recognized in our consolidated net income. Trading securities relate to
securities held by sponsored investment products that have been consolidated in
our financial statements under FASB Interpretation No. 46, "Consolidation of
Variable Interest Entities" (see Note 2).
INVESTMENT SECURITIES, AVAILABLE-FOR-SALE are carried at fair value. Fair values
for investments in our sponsored investment products are based on the last
reported net asset value. Fair values for other investments are based on the
last reported price on the exchange on which they are traded. Realized gains and
losses are included in investment income currently based on specific
identification. Unrealized gains and losses are recorded net of tax as part of
accumulated other comprehensive income until realized.
When the cost of an investment exceeds its fair value, we review the investment
for an other-than-temporary decline in value. In making the determination of
whether the decline is other-than-temporary, we use a systematic methodology
that includes consideration of the duration and extent to which the fair value
is less than cost, the financial condition of the investee, including industry
and sector performance, and our intent and ability to hold the investment. When
a decline in fair value of an available-for-sale security is determined to be
other-than-temporary, the unrealized loss recorded net of tax in accumulated
other comprehensive income is realized as a charge to net income.
DERIVATIVES. Generally, we do not hold or issue derivative financial instruments
for trading purposes. Periodically, we enter into interest-rate swap agreements
to reduce variable interest-rate exposure with respect to our commercial paper,
designated as cash flow hedges, and to hedge exposures or modify the interest
rate characteristics of fixed-rate borrowings with maturities in excess of one
year, designated as fair value hedges. As of September 30, 2003, we held
interest rate swaps with a total notional amount of $43 million and these were
reported at their fair value of $2.6 million.
52
We periodically enter into spot and forward currency contracts as principal to
facilitate client transactions and, on limited occasions, hold currency options
for our own account. It is our policy that substantially all forward contracts
be covered no later than the close of business each day. Gains or losses on
these contracts are reflected in the consolidated statements of income. The
gross fair market value of all contracts outstanding that had a positive fair
market value totaled $2.9 million at September 30, 2003. This represents a
credit exposure to the extent that counterparties fail to settle their
contractual obligations. This risk is mitigated by the use of master netting
agreements, careful evaluation of counterparty credit standings, diversification
and limits.
From time to time, we sell put options giving the purchaser the right to sell
shares of our common stock to us at a specified price upon exercise of the
options on the designated expiration dates if certain conditions are met. The
likelihood that we will have to purchase our stock and the purchase price is
contingent on the market value of our stock when the put option contract becomes
exercisable. At September 30, 2003, there were approximately 1.9 million put
options outstanding. These options expire in December 2003 and January 2004 and
have an average exercise price of $34. All of these options were issued prior to
June 1, 2003, and through June 30, 2003 were treated as equity instruments. The
related premium received was recorded in stockholders' equity as capital in
excess of par value. Beginning in July 2003, these put options were recognized
as liabilities and carried at fair value in our books and records in accordance
with SFAS 150 (see Note 2). We recognized total gains of $6.9 million from put
options in investment and other income in fiscal 2003, including $4.6 million
related to the cumulative effect of a change in accounting principle on
adoption, and $1.9 million in realized gains when 1.0 million options expired in
July 2003.
LOANS RECEIVABLE. Our banking/finance group offers retail-banking and consumer
lending services. We accrue interest on loans using the simple interest method.
The majority of retail-banking loans are at variable rates, which are adjusted
periodically. Loans originated and intended for sale are carried at the lower of
cost or estimated fair value in the aggregate. Net unrealized losses, if any,
are recognized through a valuation allowance included in other, net revenues.
ALLOWANCE FOR LOAN LOSSES. An allowance for loan losses on our consumer loan
portfolio is maintained at a level sufficient to absorb probable losses inherent
in the loan portfolio. Probable losses are estimated for the consumer loan
portfolio based on contractual delinquency status and historical loss
experience. The allowance on our consumer portfolio is based on aggregated
portfolio segment evaluations, generally by loan type, and reflects our judgment
of portfolio risk factors such as economic conditions, bankruptcy trends,
product mix, geographic concentrations and other similar items. A loan is
charged to the allowance for loan losses when it is deemed to be uncollectible,
taking into consideration the value of the collateral, the financial condition
of the borrower and other factors. Recoveries on loans previously charged-off as
uncollectible are credited to the allowance for loan losses. The allowance for
loan losses on our auto loan portfolio includes a portion of acquisition
discounts from our purchase of automobile installment loan contracts, commonly
referred to as dealer holdbacks. This allocation represents our estimate of the
losses expected over the life of the loan.
We have not recorded an allowance for probable loan losses on our retail-banking
loans and advances as these loans are generally payable on demand and are fully
secured by assets under our custody. Advances on customers' accounts are
generally secured or subject to rights of offset and, consistent with past
experience, no loan losses are anticipated.
Past due loans 90 days or more in both our consumer lending and retail-banking
portfolios are reviewed individually to determine whether they are collectible.
If warranted, after considering collateral level and other factors, loans 90
days past due are placed on non-accrual status. Interest collections on
non-accrual loans for which the ultimate collectibility of principal is
uncertain are applied as principal reductions; otherwise, such collections are
credited to income when received.
INVESTMENTS, OTHER include investments that we intend to hold for a period in
excess of one year.
Investments are accounted for using the equity method of accounting if we are
able to exercise significant influence, but not control, over the investee.
Significant influence is generally considered to exist when an ownership
interest in the voting stock of the investee is between 20% and 50%, although
other factors, such as representation on the investee's board of directors and
the impact of commercial arrangements are also considered in determining whether
the equity method of accounting is appropriate. Lower thresholds are used for
our investments in limited partnerships in determining whether we are able to
exercise significant influence.
53
Companies in which we hold in excess of 50% ownership interest are consolidated
in our financial statements. We are also required to consolidate variable
interest entities in relation to which we are the primary beneficiary as defined
in FASB Interpretation No. 46, "Consolidation of Variable Interest Entities"
(see Note 2).
Investments are accounted for under the cost method if we are not able to
exercise significant influence over the investee. In addition, investments,
other include debt instruments carried at fair value in accordance with our
treatment of investment securities, available-for-sale. These include
collateralized debt obligations ("CDOs"), which are valued based on cash flow
projections.
Investments, other are adjusted for other-than-temporary declines in value. When
a decline in fair value of an investment carried at fair value is determined to
be other-than-temporary, the unrealized loss recorded net of tax in accumulated
other comprehensive income is realized as a charge to net income. When a decline
in fair value of an investment carried at cost is determined to be
other-than-temporary, the investment is written down to fair value and the loss
in indicated value is included in earnings.
DEFERRED SALES COMMISSIONS. Sales commissions paid to brokers and other
investment advisors in connection with the sale of shares of our mutual funds
sold without a front-end sales charge are capitalized and amortized over periods
not exceeding eight years - the periods in which we estimate that they will be
recovered from distribution plan payments and from contingent deferred sales
charges.
PROPERTY AND EQUIPMENT are recorded at cost and are depreciated on the
straight-line basis over their estimated useful lives. Expenditures for repairs
and maintenance are charged to expense when incurred. We amortize leasehold
improvements on the straight-line basis over their estimated useful lives or the
lease term, whichever is shorter.
SOFTWARE DEVELOPED FOR INTERNAL USE. Some internal and external costs incurred
in connection with developing or obtaining software for internal use are
capitalized. These capitalized costs are included in property and equipment, net
on our consolidated balance sheets and are amortized beginning when the software
project is complete and the application is put into production, over the
estimated useful life of the software.
GOODWILL AND OTHER INTANGIBLE ASSETS. Intangible assets consist primarily of the
estimated value of mutual fund management contracts and customer base resulting
from our acquisition of the assets and liabilities of Templeton, Galbraith &
Hansberger Ltd. in October 1992 and Heine Securities Corporation in November
1996, as well as the purchase of the following companies:
* Bissett and Associates Investment Management Ltd. ("Bissett") in October
2000;
* Fiduciary Trust Company International ("Fiduciary Trust") in April 2001;
and
* Pioneer ITI AMC Limited ("Pioneer") in July 2002.
We amortize intangible assets over their estimated useful lives, ranging from 5
to 15 years, using the straight-line method, unless the asset is determined to
have an indefinite useful life. Amounts assigned to indefinite-lived intangible
assets primarily represent the value of contracts to manage mutual fund assets,
for which there is no foreseeable limit on the contract period.
Goodwill represents the excess cost of a business acquisition over the fair
value of the net assets acquired. In accordance with Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS
142"), indefinite-lived intangible assets and goodwill are not amortized.
We review goodwill and other indefinite-lived intangible assets when there is an
indication of impairment, or at least annually, to determine whether the value
of the assets is impaired. If an asset is impaired, the difference between the
carrying amount of the asset reflected on the financial statements and its
current fair value is recognized as an expense in the period in which the
impairment occurs.
For intangible assets with indefinite lives, fair value is determined based on
anticipated discounted cash flows. Goodwill is impaired when the carrying amount
of the reporting unit exceeds the implied fair value of the reporting unit. In
estimating the fair value of the reporting unit, we use valuation techniques
based on discounted cash flows similar to models employed in analyzing the
purchase price of an acquisition target. Goodwill has been assigned to our
investment management operating segment.
54
Intangible assets subject to amortization are reviewed for impairment at each
reporting period on the basis of the expected future undiscounted operating cash
flows, without interest charges, to be derived from these assets. See Note 9 for
additional information regarding goodwill and other intangible assets.
DEMAND AND INTEREST BEARING DEPOSITS. The fair value of demand deposits are, by
definition, equal to their carrying amounts. The interest-bearing deposits are
variable rate and short-term and, therefore, the carrying amounts approximate
their fair values.
REVENUES. We recognize investment management fees, shareholder servicing fees,
investment income and distribution fees as earned, over the period in which
services are rendered. Investment management fees are determined based on a
percentage of assets under management. Generally, shareholder servicing fees are
calculated based on the number of accounts serviced. We record underwriting
commissions related to the sale of shares of our sponsored investment products
on the trade date.
ADVERTISING AND PROMOTION. We expense costs of advertising and promotion as
incurred.
FOREIGN CURRENCY TRANSLATION. Assets and liabilities of foreign subsidiaries are
translated at current exchange rates as of the end of the accounting period, and
related revenues and expenses are translated at average exchange rates in effect
during the period. Net exchange gains and losses resulting from translation are
excluded from income and are recorded as part of accumulated other comprehensive
income. Foreign currency transaction gains and losses are reflected in income
currently.
DIVIDENDS. For the years ended September 30, 2003, 2002, and 2001, we declared
dividends to common stockholders of $0.30, $0.28 and $0.26 per share.
STOCK-BASED COMPENSATION. As allowed under the provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"), we have elected to apply Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees", and related
interpretations in accounting for our stock-based plans. Accordingly, no
compensation costs are recognized with respect to stock options granted when the
exercise price is equal to the market value of the stock, or with respect to
shares issued under the Employee Stock Investment Plan ("ESIP"). We recognize
compensation expense for the matching contribution that we may elect to make in
connection with the Employee Stock Investment Plan over the 18-month holding
period and for the full cost of restricted stock grants in the year that they
are earned.
If we had determined compensation costs for our stock option plans and our ESIP
(see descriptions in Notes 15 and 16) based upon fair values at the grant dates
in accordance with the provisions of SFAS 123, our net income and earnings per
share would have been reduced to the pro forma amounts indicated below. For pro
forma purposes, the estimated fair value of options was calculated using the
Black-Scholes option-pricing model and is amortized over the options' vesting
periods.
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ---------------------------------------------------------- ------------- --------------- -----------
Net income, as reported $502,830 $432,723 $484,721
Less: additional stock-based compensation expense
determined under the fair value method, net of tax 65,294 59,339 39,421
- ---------------------------------------------------------- ------------- --------------- -----------
PRO FORMA NET INCOME $437,536 $373,384 $445,300
- ---------------------------------------------------------- ------------- --------------- -----------
BASIC EARNINGS PER SHARE
As reported $1.98 $1.66 $1.92
Pro forma 1.72 1.43 1.76
DILUTED EARNINGS PER SHARE
As reported $1.97 $1.65 $1.91
Pro forma 1.72 1.42 1.76
- ---------------------------------------------------------- ------------- --------------- -----------
55
The weighted-average estimated fair value of options granted on the date of
grant using Black-Scholes option-pricing model was as follows:
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ---------------------------------------------------------- ------------- -------------- ------------
Weighted-average fair value of options granted $14.67 $16.14 $19.58
Assumptions made:
Dividend yield 1% 1% 1%
Expected volatility 40% 42% 40%
Risk-free interest rate 4% 4% 5%
Expected life 3 - 8 years 3 - 6 years 2 - 9 years
- ---------------------------------------------------------- ------------- -------------- ------------
ACCUMULATED OTHER COMPREHENSIVE INCOME is reported in our consolidated
statements of stockholders' equity and includes net income, minimum pension
liability adjustment, unrealized gains (losses) on investment securities
available-for-sale, net of income taxes and currency translation adjustments.
The changes in net unrealized gains (losses) on investment securities include
reclassification adjustments relating to the net realized gains on the sale of
investment securities of $9.3 million, $5.7 million and $34.2 million during
fiscal 2003, 2002, and 2001. The tax effect of the change in unrealized gains
(losses) on investment securities was $28.2 million, $(1.7) million and $(18.4)
million during fiscal 2003, 2002, and 2001.
EARNINGS PER SHARE. We computed earnings per share as follows:
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS) 2003 2002 2001
- ----------------------------------------------------------------------------------------------------
Net income $502,830 $432,723 $484,721
- ----------------------------------------------------------------------------------------------------
Weighted-average shares outstanding - basic 253,714 261,239 252,628
Incremental shares from assumed conversions 967 815 1,035
- ----------------------------------------------------------------------------------------------------
Weighted-average shares outstanding - diluted 254,681 262,054 253,663
- ----------------------------------------------------------------------------------------------------
Earnings per share:
Basic $1.98 $1.66 $1.92
Diluted $1.97 $1.65 $1.91
- ----------------------------------------------------------------------------------------------------
NOTE 2 - NEW ACCOUNTING STANDARDS
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"). Under FIN 46, a variable interest entity
("VIE") is defined as a corporation, trust, partnership or other entity where
the equity investment holders have not contributed sufficient capital to finance
the activities of the VIE or the equity investment holders do not have defined
rights and obligations normally associated with an equity investment. FIN 46
requires consolidation of a VIE by the enterprise that has the majority of the
risks and rewards of ownership, referred to as the primary beneficiary. See Note
14 for a discussion of the impact of FIN 46 on our consolidated results of
operation and financial position.
In April 2003, Statement of Financial Accounting Standards No. 149, "Amendment
of Statement 133 on Derivative Instruments and Hedging Activities" ("SFAS 149"),
was issued. SFAS 149 amends and clarifies financial accounting and reporting for
derivative instruments, including certain derivative instruments embedded in
other contracts and for hedging activities under FASB Statement of Financial
Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities". SFAS 149 is effective for contracts entered into or modified after
June 30, 2003, and for hedging relationships designated after June 30, 2003. The
adoption of SFAS 149 did not have a significant impact on our consolidated
operating results or financial position.
56
In May 2003, Statement of Financial Accounting Standards No. 150, "Accounting
for Certain Financial Instruments with Characteristics of both Liabilities and
Equity" ("SFAS 150"), was issued. SFAS 150 clarifies the accounting for certain
financial instruments with characteristics of both liabilities and equity and
requires that these instruments be classified as liabilities in statements of
financial position. SFAS 150 was effective immediately for financial instruments
entered into or modified after May 31, 2003, and for interim or annual periods
beginning after June 15, 2003 for transactions entered into before June 1, 2003.
The adoption of SFAS 150, which affected our treatment of put options on our
stock, did not have a significant impact on our consolidated operating results
or financial position.
NOTE 3 - ACQUISITIONS
On October 1, 2003, we completed the acquisition of the remaining interest in
Darby Overseas Investments, Ltd. and Darby Overseas Partners, L.P. (collectively
"Darby"), in which we formerly held a 12.7% interest, for an additional
investment of approximately $75.9 million in cash, and we recorded the
transaction as of this date. The excess of the purchase price, including our
acquisition costs, over the fair value of the net assets acquired resulted in
goodwill of approximately $37.0 million and we recognized other intangible
assets of approximately $3.4 million. At September 30, 2003, Darby had
approximately $0.9 billion in assets under management relating to private
equity, mezzanine and emerging markets fixed-income products.
On July 26, 2002, our 75% owned subsidiary, Templeton Asset Management (India)
Private Limited, acquired all of the issued and outstanding shares of Pioneer,
an Indian investment management company with approximately $0.8 billion in
assets under management as of the purchase date. This all-cash transaction was
valued at approximately $55.4 million. Our consolidated financial statements
include the operating results of Pioneer from July 26, 2002. We recognized
goodwill of $38.7 million and indefinite-lived management contracts of $13.1
million from this acquisition.
On April 10, 2001, we acquired Fiduciary Trust. Each share of Fiduciary Trust's
common stock was exchanged for 2.7744 shares of our common stock, resulting in
the issuance in the aggregate of approximately 20,187,000 shares of our common
stock. The value of the shares issued in exchange for Fiduciary Trust was
approximately $775.8 million. We accounted for this transaction using the
purchase method of accounting. The excess of the purchase price, including our
acquisition costs, over the fair value of the net assets acquired resulted in
goodwill of $559.5 million. Net assets acquired included $235.5 million of other
intangible assets. As of September 30, 2001, we wrote off the net intangible
asset related to Fiduciary Trust's headquarters lease of $8.2 million as a
result of the September 11, 2001 terrorist attack. See Note 19. The estimated
life of the other intangible assets is 15 years.
On October 2, 2000, we acquired all of the issued and outstanding shares of
Bissett, a Canadian asset management company. The all-cash transaction was
valued at approximately $95 million. Intangible assets of approximately $89
million with lives ranging from 15 to 40 years were recorded as a result of the
acquisition. We accounted for this transaction using the purchase method. Our
consolidated financial statements include the operating results of Bissett from
October 2, 2000.
We have not presented proforma combined results of operations for these
acquisitions, because the results of operations as reported in the accompanying
consolidated statements of income would not have been materially different.
NOTE 4 - CASH AND CASH EQUIVALENTS
Cash and cash equivalents at September 30, 2003 and 2002, consisted of the
following:
(IN THOUSANDS) 2003 2002
- ------------------------------------------------------------------------- ------------- ------------
Cash and due from banks $260,530 $224,214
Federal funds sold and securities purchased under agreements to resell 3,741 82,150
Other 789,424 674,240
- ------------------------------------------------------------------------- ------------- ------------
TOTAL $1,053,695 $980,604
- ------------------------------------------------------------------------- ------------- ------------
57
Cash and cash equivalents, other includes money market mutual fund investments
and U.S. Treasury bills. Federal Reserve Board regulations require reserve
balances on deposits to be maintained with the Federal Reserve Banks by banking
subsidiaries. The required reserve balance was $1.5 million at September 30,
2003 and $5.3 million at September 30, 2002.
NOTE 5 - INVESTMENT SECURITIES AND OTHER INVESTMENTS
Investment securities at September 30, 2003 and 2002, consisted of the
following:
AMORTIZED GROSS UNREALIZED FAIR
(IN THOUSANDS) COST GAINS LOSSES VALUE
- -------------------------------------------------- ----------- ------------ ----------- ------------
2003
INVESTMENT SECURITIES, TRADING $39,903 $1,510 $(34) $41,379
INVESTMENT SECURITIES, AVAILABLE-FOR-SALE
Sponsored investment products 412,414 20,392 (7,634) 425,172
Securities of U.S. states and political subdivisions 11,423 593 -- 12,016
Securities of U.S. Treasury, federal agencies and
other 1,375,087 6,940 (1,132) 1,380,895
Equities 20,953 561 (656) 20,858
- -------------------------------------------------- ------------- ---------- ----------- ------------
Total investment securities, available-for-sale 1,819,877 28,486 (9,422) 1,838,941
- -------------------------------------------------- ------------- ---------- ----------- ------------
TOTAL INVESTMENTS, TRADING AND AVAILABLE-FOR-SALE $1,859,780 $29,996 $(9,456) $1,880,320
- -------------------------------------------------- ------------- ---------- ----------- ------------
INVESTMENTS, OTHER
Investment in equity-method investees $77,919 $-- $-- $77,919
Equities and other 170,885 31,978 (426) 202,437
- -------------------------------------------------- ------------- ---------- ----------- ------------
TOTAL INVESTMENTS, OTHER $248,804 $31,978 $(426) $280,356
- -------------------------------------------------- ------------- ---------- ----------- ------------
2002
INVESTMENT SECURITIES, AVAILABLE-FOR-SALE
Sponsored investment products $421,612 $7,309 $(66,888) $362,033
Securities of U.S. states and political subdivisions 10,758 597 -- 11,355
Securities of U.S. Treasury, federal agencies and
other 1,159,126 18,058 -- 1,177,184
Equities 1,264 1,269 (13) 2,520
- -------------------------------------------------- ------------- ---------- ----------- -------------
TOTAL $1,592,760 $27,233 $(66,901) $1,553,092
- -------------------------------------------------- ------------- ---------- ----------- -------------
INVESTMENTS, OTHER
Investment in equity-method investees $65,347 $-- $-- $65,347
Equities and other 189,008 18,702 (9,130) 198,580
- -------------------------------------------------- ------------- ---------- ----------- -------------
TOTAL $254,355 $18,702 $(9,130) $263,927
- -------------------------------------------------- ------------- ---------- ----------- -------------
Investments, other included investments that we intend to hold for a period in
excess of one year. Investments in equity method investees include investment
partnerships where we have significant influence. Equities and other investments
include debt, including CDOs, and other securities with a determinable fair
value as well as investments carried at cost.
Gross unrealized losses on investment securities, available-for-sale and
investments, other at September 30, 2003 were deemed to be temporary in nature.
See Note 1 for a description of our investments valuation methodology.
As of September 30, 2003 and 2002, banking/finance operating segment investment
securities with aggregate book values of $28.4 million and $19.5 million were
pledged as collateral as required by federal and state regulators and the
Federal Home Loan Bank.
58
At September 30, 2003, maturities of securities of the U.S. Treasury and federal
agencies and the U.S. states and political subdivisions were as follows:
(IN THOUSANDS) AMORTIZED COST FAIR VALUE
- -----------------------------------------------------------------------------------------------------
SECURITIES OF U.S. TREASURY AND FEDERAL AGENCIES
Due in one year or less $1,056,963 $1,057,495
Due after one year through five years 111,417 116,711
Due after five years through ten years -- --
Due after ten years 206,707 206,689
- -----------------------------------------------------------------------------------------------------
TOTAL $1,375,087 $1,380,895
- -----------------------------------------------------------------------------------------------------
SECURITIES OF U.S. STATES AND POLITICAL SUBDIVISIONS
Due in one year or less $1,578 $1,597
Due after one year through five years 6,584 6,988
Due after five years through ten years 2,767 2,901
Due after ten years 494 529
- -----------------------------------------------------------------------------------------------------
TOTAL $11,423 $12,016
- -----------------------------------------------------------------------------------------------------
NOTE 6 - LOANS AND ALLOWANCE FOR LOAN LOSSES
A summary of banking/finance operating segment loans receivable by major
category as of September 30, 2003 and 2002 is shown below. Included in
installment loans to individuals are auto and credit card receivables. Other
loans include secured loans made to Fiduciary Trust clients. No loan loss
allowance is recognized on Fiduciary Trust's retail-banking loans and advances
as described in Note 1.
(IN THOUSANDS) 2003 2002
- -----------------------------------------------------------------------------------------------------
Commercial $60,541 $67,772
Real estate (subject to collateral) 67,598 99,935
Installment loans to individuals 190,754 158,159
Other 160,329 127,506
- -----------------------------------------------------------------------------------------------------
Loans receivable 479,222 453,372
Less: allowance for loan losses (8,550) (9,034)
- -----------------------------------------------------------------------------------------------------
LOANS RECEIVABLE, NET $470,672 $444,338
- -----------------------------------------------------------------------------------------------------
At September 30, 2003, real estate (subject to collateral) loans included $3.0
millions of loans held for sale, which are carried at the lower of cost or
estimated fair value in the aggregate.
Maturities of loans at September 30, 2003 were as follows:
AFTER 1
ONE YEAR OR THROUGH 5 AFTER 5
(IN THOUSANDS) LESS YEARS YEARS TOTAL
- -----------------------------------------------------------------------------------------------------
Commercial $60,541 $-- $-- $60,541
Real estate (subject to collateral) 20 4,487 63,091 67,598
Installment loans to individuals 62,844 112,603 15,307 190,754
Other 148,126 12,203 -- 160,329
- -----------------------------------------------------------------------------------------------------
TOTAL $271,531 $129,293 $78,398 $479,222
- -----------------------------------------------------------------------------------------------------
59
The following table summarizes contractual maturities of loans due after one
year by repricing characteristic at September 30, 2003:
(IN THOUSANDS) CARRYING AMOUNT
- --------------------------------------------------------------------------------
Loans at predetermined interest rates $133,172
Loans at floating or adjustable rates 74,519
- --------------------------------------------------------------------------------
TOTAL $207,691
- --------------------------------------------------------------------------------
Changes in the allowance for loan losses during 2003 and 2002 were as follows:
(IN THOUSANDS) 2003 2002
- -----------------------------------------------------------------------------------------------------
Balance, beginning of year $9,034 $9,568
Provision for loan losses 13,423 13,890
Charge-offs (8,046) (8,639)
Recoveries 2,393 1,845
- -----------------------------------------------------------------------------------------------------
Total allowance for loan losses before other adjustments 16,804 16,664
Loans securitized (12,020) (10,903)
Dealer holdback and other 3,766 3,273
- -----------------------------------------------------------------------------------------------------
BALANCE, END OF YEAR $8,550 $9,034
- -----------------------------------------------------------------------------------------------------
Total net loan charge-offs as a percentage of average total loans 1.23% 1.38%
Allowance as a percentage of total loans 1.78% 1.99%
- -----------------------------------------------------------------------------------------------------
The following is a summary of delinquency information for fiscal 2003, 2002, and
2001:
(IN THOUSANDS) 2003 2002 2001
- ------------------------------------------------------- -------------- --------------- --------------
Commercial loans, 90 days or more delinquent $13,063 $300 $300
Installment loans, 90 days or more delinquent 897 750 292
Non-accrual loans 510 439 306
- ------------------------------------------------------- -------------- --------------- --------------
NOTE 7 - SECURITIZATION OF LOANS RECEIVABLE
From time to time, we enter into auto loan securitization transactions with
qualified special purpose entities and record these transactions as sales. The
following table shows details of auto loan securitization transactions for the
years ended September 30, 2003, 2002 and 2001:
(IN THOUSANDS) 2003 2002 2001
- -----------------------------------------------------------------------------------------------------
Gross sale proceeds $464,372 $565,154 $145,385
Net carrying amount of loans sold 446,672 544,831 142,541
- -----------------------------------------------------------------------------------------------------
PRE-TAX GAIN $17,700 $20,323 $2,844
- -----------------------------------------------------------------------------------------------------
When we sell auto loans in a securitization transaction, we record an
interest-only strip receivable. The interest-only strip receivable represents
our contractual right to receive interest from the pool of securitized loans
after the payment of required amounts to holders of the securities and certain
other costs associated with the securitization. Gross sales proceeds include the
fair value of the interest-only strips.
60
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 at the date of securitization were as follows:
2003 2002 2001
- -----------------------------------------------------------------------------------------------------
Excess cash flow discount rate (annual rate) 12.0% 12.0% 12.0%
Cumulative life loss rate 3.7% / 4.3% 3.3% / 3.8% 3.5%
Pre-payment speed assumption (average monthly rate) 1.8% 1.5% 1.5%
- -----------------------------------------------------------------------------------------------------
We determined these assumptions using data from comparable transactions,
historical information and management's estimate. Interest-only strip
receivables are generally restricted assets and subject to limited recourse
provisions.
We generally estimate the fair value of the interest-only strips at each
period-end based on the present value of future expected cash flows, consistent
with the methodology used at the date of securitization. The following shows, as
of September 30, 2003 and September 30, 2002, the carrying value and the
sensitivity of the interest-only strip receivable to hypothetical adverse
changes in the key economic assumptions used to measure fair value:
(IN THOUSANDS) 2003 2002
- ----------------------------------------------------------------------------------------------------
CARRYING AMOUNT/FAIR VALUE OF INTEREST-ONLY STRIPS $36,010 $29,088
EXCESS CASH FLOW DISCOUNT RATE (ANNUAL RATE) 12.0% 12.0%
Impact on fair value of 10% adverse change $(493) $(400)
Impact on fair value of 20% adverse change $(971) $(789)
CUMULATIVE LIFE LOSS RATE 3.9% 3.6%
Impact on fair value of 10% adverse change $(2,412) $(1,787)
Impact on fair value of 20% adverse change $(4,725) $(3,579)
PRE-PAYMENT SPEED ASSUMPTION (AVERAGE MONTHLY RATE) 1.8% 1.7%
Impact on fair value of 10% adverse change $(3,505) $(2,632)
Impact on fair value of 20% adverse change $(7,501) $(5,155)
- ----------------------------------------------------------------------------------------------------
Actual future market conditions may differ materially. Accordingly, this
sensitivity analysis should not be considered our projections of future events
or losses.
We receive annual servicing fees ranging from 1% to 2% of the loans securitized
for services we provide to the securitization trusts. We also 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 cash flows received from and paid to
securitization trusts during fiscal 2003, 2002, and 2001:
(IN THOUSANDS) 2003 2002 2001
- ----------------------------------------------------------------------------------------------------
Servicing fees received $10,598 $7,921 $4,538
Other cash flows received 18,283 15,375 7,401
Purchase of loans from trusts (10,804) (8,659) (521)
- ----------------------------------------------------------------------------------------------------
Amounts payable to the trustee related to loan principal and interest collected
on behalf of the trusts of $34.4 million as of September 30, 2003 and $24.9
million as of September 30, 2002 are included in other banking/finance
liabilities.
61
The securitized loan portfolio that we manage and the related delinquencies as
of September 30, 2003 and September 30, 2002 were as follows:
(IN THOUSANDS) 2003 2002
- --------------------------------------------------------------------------------
Securitized loans held by securitization trusts $680,695 $530,896
Delinquencies 12,911 9,317
- --------------------------------------------------------------------------------
Net charge-offs on the securitized loan portfolios were $12.6 million in fiscal
2003, $6.5 million in fiscal 2002 and $3.5 million in fiscal 2001.
NOTE 8 - PROPERTY AND EQUIPMENT
The following is a summary of property and equipment at September 30, 2003 and
2002:
(IN THOUSANDS) USEFUL LIVES
IN YEARS 2003 2002
- ----------------------------------------------------------------------------------------------------
Furniture, software and equipment 3 - 5 $558,435 $526,256
Premises and leasehold improvements 5 - 35 207,191 195,024
Land -- 71,383 66,923
- ---------------------------------------------------------- ------------- --------------- -----------
837,009 788,203
Less: Accumulated depreciation and amortization (480,237) (394,031)
- ---------------------------------------------------------- ------------- --------------- -----------
PROPERTY AND EQUIPMENT, NET $356,772 $394,172
- ---------------------------------------------------------- ------------- --------------- -----------
NOTE 9 - GOODWILL AND OTHER INTANGIBLE ASSETS
Intangible assets at September 30, 2003 and September 30, 2002 were as follows:
GROSS NET
CARRYING ACCUMULATED CARRYING
(IN THOUSANDS) AMOUNT AMORTIZATION AMOUNT
- ----------------------------------------------------------------------------------------------------
BALANCE, SEPTEMBER 30, 2003
Amortized intangible assets:
Customer base $232,800 $(39,057) $193,743
Other 31,546 (19,653) 11,893
- ----------------------------------------------------------------------------------------------------
264,346 (58,710) 205,636
Non-amortized intangible assets:
Management contracts 478,645 -- 478,645
- ----------------------------------------------------------------------------------------------------
TOTAL $742,991 $(58,710) $684,281
- ----------------------------------------------------------------------------------------------------
BALANCE, SEPTEMBER 30, 2002
Amortized intangible assets:
Customer base $231,935 $(23,358) $208,577
Other 31,546 (18,181) 13,365
- ----------------------------------------------------------------------------------------------------
263,481 (41,539) 221,942
Non-amortized intangible assets:
Management contracts 475,304 -- 475,304
- ----------------------------------------------------------------------------------------------------
TOTAL $738,785 $(41,539) $697,246
- ----------------------------------------------------------------------------------------------------
62
The change in the carrying amount of goodwill during the year ended September
30, 2003 was as follows:
(IN THOUSANDS)
- --------------------------------------------------------------------------------
Balance, October 1, 2002 $1,321,939
Foreign currency movements 13,578
- --------------------------------------------------------------------------------
BALANCE, SEPTEMBER 30, 2003 $1,335,517
- --------------------------------------------------------------------------------
We adopted Statement of Financial Accounting Standards No. 141, "Business
Combinations" ("SFAS 141") and SFAS 142 on October 1, 2001. SFAS 141 and SFAS
142 address the initial recognition and measurement of intangible assets
acquired and the recognition and measurement of goodwill and other intangible
assets after acquisition. Under the new standards, all goodwill and
indefinite-lived intangible assets, including those acquired before initial
application of the standards, will not be amortized but will be tested for
impairment at least annually. Accordingly, on October 1, 2001, we ceased
amortization on goodwill and indefinite-lived assets.
The following table reflects our results as though we had adopted SFAS 142 on
October 1, 2000.
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ------------------------------------------------------------------------------------------------------
Net income as reported $502,830 $432,723 $484,721
Goodwill amortization -- -- 29,443
Indefinite-lived intangibles amortization -- -- 13,152
Tax effect at effective tax rate -- -- (10,223)
- ------------------------------------------------------------------------------------------------------
NET INCOME AS ADJUSTED $502,830 $432,723 $517,093
- ------------------------------------------------------------------------------------------------------
Basic earnings per share as reported $1.98 $1.66 $1.92
Diluted earnings per share as reported $1.97 $1.65 $1.91
Basic earnings per share as adjusted $1.98 $1.66 $2.05
Diluted earnings per share as adjusted $1.97 $1.65 $2.04
All of our goodwill and intangible assets, including those arising from the
purchase of Fiduciary Trust in April 2001, relate to our investment management
operating segment. Indefinite-lived intangible assets represent the value of
management contracts with our sponsored investment products.
Estimated amortization expense for each of the next 5 fiscal years is as
follows:
(IN THOUSANDS) FOR THE YEARS ENDING SEPTEMBER 30,
- --------------------------------------------------------------------------------
2004 $16,991
2005 16,991
2006 16,991
2007 16,991
2008 16,991
- --------------------------------------------------------------------------------
As of March 31, 2003, we completed the impairment testing of goodwill and
indefinite-lived intangible assets under the guidance set out in SFAS 142 and we
determined that there was no impairment in the value of goodwill and
indefinite-lived assets recorded in our books and records as of October 1, 2002.
63
NOTE 10 - DEPOSITS
Deposits at September 30, 2003 and 2002 were as follows:
(IN THOUSANDS) 2003 2002
- --------------------------------------------------------------------------------
DOMESTIC
Interest-bearing $570,854 $670,448
Noninterest-bearing 41,337 45,332
- --------------------------------------------------------------------------------
Total domestic deposits 612,191 715,780
- --------------------------------------------------------------------------------
FOREIGN
Interest-bearing 12,893 12,725
Noninterest-bearing 8,899 5,066
- --------------------------------------------------------------------------------
Total foreign deposits 21,792 17,791
- --------------------------------------------------------------------------------
TOTAL $633,983 $733,571
- --------------------------------------------------------------------------------
Maturities of time certificates in amounts of $100,000 or more at September 30,
2003 were:
(IN THOUSANDS) DOMESTIC
(U.S.) FOREIGN TOTAL
- --------------------------------------------------------------------------------
3 months or less $5,303 $12,893 $18,196
Over 3 months through 6 months 1,080 -- 1,080
Over 6 months through 12 months 298 -- 298
Over 12 months 893 -- 893
- --------------------------------------------------------------------------------
TOTAL $7,574 $12,893 $20,467
- --------------------------------------------------------------------------------
NOTE 11 - DEBT
Outstanding debt at September 30, 2003 and September 30, 2002 consisted of the
following:
(IN THOUSANDS) 2003 2002
WEIGHTED WEIGHTED
AVERAGE AVERAGE
2003 RATE 2002 RATE
- ------------------------------------------- ------------------ ------------ ----------- ------------
CURRENT:
Federal funds purchased $-- 1.49% $-- 1.57%
Federal Home Loan Bank advances 14,500 1.19% 8,500 1.94%
Current maturities of long-term debt 287 7,830
- ------------------------------------------- ------------------ ------------ ----------- ------------
14,787 16,330
NON-CURRENT:
Convertible Notes (including accrued interest) 520,325 1.88% 514,190 1.88%
Medium Term Notes 420,000 3.70% -- N/A
Other 168,556 80,958
- ------------------------------------------- ------------------ ------------ ----------- ------------
1,108,881 595,148
- ------------------------------------------- ------------------ ------------ ----------- ------------
TOTAL DEBT $1,123,668 $611,478
- ------------------------------------------- ------------------ ------------ ----------- ------------
Federal funds purchased and Federal Home Loan Bank advances are included in
other liabilities of the banking/finance operating segment. Other long-term debt
consists primarily of deferred commission liability recognized in relation to
U.S. deferred commission assets financed by Lightning Finance Company Limited
("LFL") that were not sold by LFL in a securitization transaction as of
September 30, 2003 and September 30, 2002.
64
As of September 30, 2003, maturities of long-term debt were as follows:
(IN THOUSANDS) CARRYING AMOUNT
- --------------------------------------------------------------------------------
2004 $22,450
2005 22,913
2006 23,387
2007 23,871
2008 444,365
Thereafter 571,895
- --------------------------------------------------------------------------------
TOTAL LONG-TERM DEBT $1,108,881
- --------------------------------------------------------------------------------
In April 2003, we completed the sale of five-year senior notes due April 15,
2008 totaling $420.0 million (the "Medium Term Notes"). The senior notes, which
were offered to qualified institutional buyers only, carry an interest rate of
3.7% and are not redeemable prior to maturity by either us or the note holders.
Interest payments are due semi-annually.
In May 2001, we received approximately $490.0 million in net proceeds from the
sale of $877.0 million principal amount at maturity of zero-coupon convertible
senior notes due 2031 (the "Convertible Notes"). The Convertible Notes, which
were offered to qualified institutional buyers only, carry an interest rate 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. On May 12, 2003, at the option of
the holders, we repurchased Convertible Notes with a face value of $5.9 million
principal amount at maturity, for $3.5 million in cash, the accreted value of
the notes as of May 11, 2003. We may have to repurchase the Convertible Notes at
their accreted value, at the option of the holders, on May 11 of 2004, 2006,
2011, 2016, 2021 and 2026. In this event, we may choose to pay the purchase
price in cash or shares of our common stock. The amount of Convertible Notes
that will be redeemed depends on, among other factors, the performance of our
common stock.
At September 30, 2003, approximately $500.0 million was available to us under an
unused commercial paper program and an additional $300.0 million was available
to us under shelf registration statements with the Securities and Exchange
Commission permitting the issuance of debt and equity securities.
Our committed revolving credit facilities at September 30, 2003 totaled $420.0
million, of which, $210.0 million was under a 364-day facility. The remaining
$210.0 million facility was under a five-year facility that will expire in June
2007. The agreements related to the revolving credit facilities include various
restrictive covenants, including: a capitalization ratio, interest coverage
ratio, minimum working capital and limitations on additional debt. In addition,
at September 30, 2003, our banking/finance operating segment had $559.5 million
in available uncommitted short-term bank lines under the Federal Reserve Funds
system, the Federal Reserve Bank discount window, and Federal Home Loan Bank
short-term borrowing capacity.
NOTE 12 - TAXES ON INCOME
Taxes on income for the years ended September 30, 2003, 2002, and 2001 were as
follows:
(IN THOUSANDS)
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ---------------------------------------------------------- ------------- --------------- -----------
Current
Federal $125,743 $71,400 $84,220
State 13,846 17,065 16,694
Foreign 31,329 38,653 41,532
Deferred expense 26,455 18,434 10,623
- ---------------------------------------------------------- ------------- --------------- -----------
TOTAL PROVISION FOR INCOME TAXES $197,373 $145,552 $153,069
- ---------------------------------------------------------- ------------- --------------- -----------
65
Included in income before taxes was $305.2 million, $283.7 million and $357.0
million of foreign income for the years ended September 30, 2003, 2002, and
2001. The provision for U.S. income taxes includes benefits of $6.3 million for
the year ended September 30, 2003 related to the utilization of net operating
loss carry-forwards.
The major components of the net deferred tax liability as of September 30, 2003
and 2002 were as follows:
(IN THOUSANDS) 2003 2002
- --------------------------------------------------------------------------------
DEFERRED TAX ASSETS
State taxes $5,975 $5,088
Loan loss reserves 3,251 4,007
Deferred compensation and employee benefits 27,259 26,117
Restricted stock compensation plan 38,074 32,925
Severance and retention compensation 3,250 20,735
Net operating loss and foreign tax credit carry-forwards 74,729 70,030
Investments -- 2,144
Other 14,169 16,260
- --------------------------------------------------------------------------------
Total deferred tax assets 166,707 177,306
Valuation allowance for tax carry-forwards (74,629) (64,939)
- --------------------------------------------------------------------------------
Deferred tax assets, net of valuation allowance 92,078 112,367
DEFERRED TAX LIABILITIES
Depreciation on fixed assets 13,523 14,271
Goodwill and other purchased intangibles 153,009 145,110
Deferred commissions 17,056 14,968
Interest expense on convertible notes 21,116 11,863
Investments 1,951 --
Other 19,307 22,511
- --------------------------------------------------------------------------------
Total deferred tax liabilities 225,962 208,723
- --------------------------------------------------------------------------------
NET DEFERRED TAX LIABILITY $(133,884) $(96,356)
- --------------------------------------------------------------------------------
At September 30, 2003, there were approximately $43.6 million of foreign net
operating loss carry-forwards, approximately $21.8 million of which expire
between 2004 and 2011 with the remaining carry-forwards having an indefinite
life. In addition, there were approximately $710.0 million in state net
operating loss carry-forwards that expire between 2004 and 2023. There were also
approximately $17.4 million in federal foreign tax credit carry-forwards, which
will expire between 2004 and 2007. A valuation allowance has been recognized to
offset the related deferred tax assets due to the uncertainty of realizing the
benefit of the loss and credit carry-forwards.
We have made no provision for U.S. taxes on $2,140.9 million of cumulative
undistributed earnings of foreign subsidiaries as those earnings are intended to
be reinvested for an indefinite period of time. Determination of the potential
amount of unrecognized deferred U.S. income tax liability related to such
reinvested income is not practicable because of the numerous assumptions
associated with this hypothetical calculation; however, foreign tax credits
would be available to reduce some portion of this amount.
66
The following is a reconciliation between the amount of tax expense at the
Federal statutory rate and taxes on income as reflected in operations for the
years ended September 30, 2003, 2002 and 2001:
(IN THOUSANDS)
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ---------------------------------------------------------- ------------- --------------- -----------
Federal statutory rate 35% 35% 35%
Federal taxes at statutory rate $245,071 $202,396 $223,226
State taxes, net of Federal tax effect 9,640 10,661 11,716
Effect of foreign operations (63,841) (52,269) (75,963)
Other 6,503 (15,236) (5,910)
- ---------------------------------------------------------- ------------- --------------- -----------
ACTUAL TAX PROVISION $197,373 $145,552 $153,069
Effective tax rate 28% 25% 24%
- ---------------------------------------------------------- ------------- --------------- -----------
NOTE 13 - COMMITMENTS AND CONTINGENCIES
GUARANTEES
Under Financial Accounting Standards Board Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others", we are required, on a prospective basis,
to recognize in our financial statements a liability for the fair value of any
guarantees issued or modified after December 31, 2002 as well as make additional
disclosures about existing guarantees.
In October 1999, we entered into an agreement for the lease of our corporate
headquarters campus in San Mateo, California from a lessor trust under an
operating lease that expires in fiscal 2005, with additional renewal options for
a further period of up to 10 years. In connection with this lease, we are
contingently liable for approximately $145.0 million in residual guarantees,
representing approximately 85% of the total construction costs of $170.0
million. We would become liable under this residual guarantee if we were unable
or unwilling to exercise our renewal option to extend the lease term or buy the
corporate headquarters campus, or if we were unable to arrange for the sale of
the campus for more than $145.0 million.
We are also contingently liable to purchase the corporate headquarters campus
for an amount equal to the final construction costs of $170.0 million if an
event of default occurs under the agreement. An event of default includes, but
is not limited to, failure to make lease payments when due and failure to
maintain required insurance. Management considers the possibility of default
under the provisions of the agreement to be remote. Currently, the lease is
treated as an operating lease as none of the capitalization criteria under
Statement of Financial Accounting Standards No. 13, "Accounting for Leases",
were met at the inception of the lease. We anticipate that we will consolidate
our headquarters campus under the requirements of FIN 46 in the period ending
December 31, 2003.
In relation to the auto loan securitization transactions that we have entered
into with a number of qualified special purpose entities, we are obligated to
cover shortfalls in amounts due to the holders of the notes up to certain levels
as specified under the related agreements. As of September 30, 2003, the maximum
potential amount of future payments was $13.7 million relating to guarantees
made prior to January 1, 2003. In addition, our consolidated balance sheet at
September 30, 2003 included a $0.1 million liability to reflect obligations
arising from an auto securitization transaction in June 2003.
At September 30, 2003, our banking/finance operating segment had issued
financial standby letters of credit totaling $5.5 million on which beneficiaries
would be able to draw upon in the event of non-performance by our customers,
primarily in relation to lease and lien obligations of these banking customers.
These standby letters of credit, issued prior to January 1, 2003, were secured
by marketable securities with a fair value of $15.2 million as of September 30,
2003 and commercial real estate.
67
MUTUAL FUND INVESTIGATIONS
As part of various ongoing investigations by the U.S. Securities and Exchange
Commission ("SEC"), the U.S. Attorney for the Northern District of California,
the U.S. Attorney for the District of Massachusetts, the New York Attorney
General and the Secretary of State of Massachusetts relating to certain
practices in the mutual fund industry, including late trading, market timing and
sales compensation arrangements, Franklin Resources, Inc. and its subsidiaries
(as used in this section, together, the "Company"), as well as certain current
or former executives and employees of the Company, have received requests for
information and/or subpoenas to testify or produce documents. The Company and,
where applicable, the relevant individuals, are providing documents and
information in response to these requests and subpoenas. In addition, the
Company is responding to requests for similar kinds of information from
regulatory authorities in some of the foreign countries where the Company
conducts its global asset management business.
The Company also has been conducting its own internal fact-finding inquiry with
the assistance of outside counsel. The Company is seeking to determine whether
any shareholders of the Franklin, Templeton and Mutual Series Funds (each a
"Fund" and together, "Funds"), including Company employees, were permitted to
engage in late trading or in market timing transactions contrary to the policies
of the affected Fund and, if so, the circumstances and persons involved. The
Company is committed to taking action to protect the interests of our Funds'
shareholders, including appropriate action against any Company personnel found
to have knowingly permitted or personally engaged in improper trading
practices.
To date, the Company has identified some instances of frequent trading in shares
of certain Funds by a few current or former employees in their personal 401(k)
plan accounts. These individuals include one trader and one officer of the
Funds. These two individuals have been placed on administrative leave and the
officer has resigned from his positions with the Funds. Although our inquiry is
not complete, to date we have found no instances of inappropriate mutual fund
trading by any portfolio manager, investment analyst or officer of Franklin
Resources, Inc.
The independent directors of the Funds and the Company have retained independent
outside counsel to review these matters, to determine if any violations of law
or policies or inappropriate trading occurred, to conduct such further inquiries
as counsel may deem necessary and to report their findings and recommendations
to the independent directors of the Funds and the Company's board of directors.
The Company's internal inquiry regarding market timing and late trading is still
ongoing, and we have not yet completed the gathering or evaluation of the
relevant facts. Although we have not identified any late trading problems, we
have identified various instances of frequent trading where we have questions
about the propriety of what occurred and what responsibility, if any, the
Company may bear. Pending completion of the fact-finding process, one officer of
a subsidiary of the Company has been placed on administrative leave. If the
Company finds that it bears responsibility for any unlawful or inappropriate
conduct that caused losses to our Funds, we are committed to making the Funds
whole.
Separately, in connection with the SEC's private investigation that resulted in
a proceeding against Morgan Stanley DW, Inc., the Company has been asked to
furnish documents and testimony relating to its arrangements to compensate
brokers who sell Fund shares. Effective November 28, 2003, the Company
determined not to direct any further brokerage where the allocation is based on
sale of Fund shares in order to satisfy preferred list or other shelf space
arrangements, which determination may have a material adverse financial impact
on the Company.
The Company cannot state with certainty the eventual outcome of the foregoing
governmental investigations, the review by independent outside counsel or the
Company's own internal investigation, which could have a material negative
financial impact on the Company. However, public trust and confidence are
critical to the Company's business and any material loss of investor and/or
client confidence could result in a significant decline in assets under
management by the Company, which would have an adverse effect on future
financial results.
68
In addition, pending regulatory and legislative actions and reforms affecting
the mutual fund industry may significantly increase the Company's costs of doing
business and/or negatively impact its revenues, either of which could have a
material negative impact on the Company's financial results.
LEGAL PROCEEDINGS
In October and November, 2003, three lawsuits were brought against subsidiaries
of the Company alleging breach of fiduciary duty with respect to the valuation
of the portfolio securities of certain Franklin Templeton funds and seeking
monetary damages and costs. BRADFISCH v. TEMPLETON FUNDS, INC. AND TEMPLETON
GLOBAL ADVISORS LIMITED, Case 2003 L 001361, was filed on October 3, 2003 in the
Circuit Court for the Third Judicial Circuit, Madison County, Illinois, and
relates to the Templeton World Fund. WOODBURY v. TEMPLETON GLOBAL SMALLER
COMPANIES FUND, INC. AND TEMPLETON INVESTMENT COUNSEL, LLC, Case 2003 L 001362,
was filed on October 3, 2003 in the Circuit Court for the Third Judicial
Circuit, Madison County, Illinois, and relates to the Templeton Global Smaller
Companies Fund, Inc. Both cases were removed to the United States District Court
for the Southern District of Illinois on November 14, 2003. The complaint in
KENERLEY v. TEMPLETON FUNDS, INC. AND TEMPLETON GLOBAL ADVISORS LIMITED, Case
No. 03-770 GPM, was filed in the United States District Court for the Southern
District of Illinois and served on the defendants on November 25, 2003. This
lawsuit relates to the Templeton World Fund and alleges breach of fiduciary
duties imposed by Section 36(a) of the Investment Company Act of 1940 and
pendant state law claims.
Management strongly believes that the claims made in each of these lawsuits are
without merit and intends vigorously to defend against them.
OTHER COMMITMENTS AND CONTINGENCIES
We lease office space and equipment under long-term operating leases expiring at
various dates through fiscal year 2017. Lease expense aggregated $39.5 million,
$34.8 million and $41.3 million for the fiscal years ended September 30, 2003,
2002, and 2001. Future minimum lease payments under non-cancelable operating
leases are as follows:
(IN THOUSANDS) AMOUNT
- --------------------------------------------------------------------------------
2004 $34,760
2005 31,614
2006 29,267
2007 25,327
2008 23,862
Thereafter 123,747
- --------------------------------------------------------------------------------
TOTAL MINIMUM LEASE PAYMENTS $268,577
- --------------------------------------------------------------------------------
At September 30, 2003, the banking/finance operating segment had commitments to
extend credit aggregating $280.5 million, primarily under its credit card lines.
In July 2003, we renegotiated an agreement to outsource management of our data
center and distributed server operations, originally signed in February 2001. We
may terminate the amended agreement any time after July 1, 2006 by incurring a
termination charge. The maximum termination charge payable will depend on the
termination date of the amended agreement, the service levels before our
termination of the agreement, costs incurred by our service provider to
wind-down the services and costs associated with assuming equipment leases. As
of September 30, 2003, we estimate that the termination fee payable in July
2006, not including costs associated with assuming equipment leases would
approximate $14.3 million and would decrease each month for the subsequent two
years.
69
NOTE 14 - TRANSACTIONS WITH VARIABLE INTEREST ENTITIES
FIN 46, issued in January 2003, requires consolidation of a variable interest
entity ("VIE") by the enterprise that has the majority of the risks and rewards
of ownership, referred to as the primary beneficiary. The consolidation and
disclosure provisions of FIN 46 are effective immediately for VIEs created after
January 31, 2003, and, originally, for interim or annual reporting periods
beginning after June 15, 2003 for VIEs created before February 1, 2003. However,
in October 2003, the FASB issued Staff Position FIN 46-6, "Effective Date of
FASB Interpretation No. 46, Consolidation of Variable Interest Entities" ("FSP
FIN 46-6"), deferring the consolidation provisions of FIN 46 to interim or
annual reporting periods ending after December 15, 2003 for VIEs created before
February 1, 2003.
Six VIEs, all sponsored investment products with inception dates after January
31, 2003, have been consolidated in our financial statements as of and for the
quarter-ended September 30, 2003. The effect of this consolidation was to
increase our consolidated net income by $1.1 million and our financial position
by $10.4 million for and as of the year ended September 30, 2003. Our exposure
to loss related to our investment in these consolidated VIEs is limited to our
investment and fees earned, but not yet received, totaling $38.7 million at
September 30, 2003.
The tables below present the effect of consolidating these VIEs in our
consolidated financial statements as of and for the year ended September 30,
2003:
(IN THOUSANDS) AMOUNTS
BEFORE FIN 46 FIN 46
FOR THE YEAR ENDED SEPTEMBER 30, 2003 ADJUSTMENTS ADJUSTMENTS CONSOLIDATED
- --------------------------------------------------------------------------------------------------------------------------
OPERATING REVENUES
Investment management fees $1,487,465 $(134) $1,487,331
Underwriting and distribution fees 844,712 (38) 844,674
Shareholder servicing fees 217,227 (2) 217,225
Consolidated sponsored investment products income, net -- 93 93
Other, net 75,125 -- 75,125
- --------------------------------------------------------------------------------------------------------------------------
Total operating revenues 2,624,529 (81) 2,624,448
- --------------------------------------------------------------------------------------------------------------------------
TOTAL OPERATING EXPENSES 1,976,372 -- 1,976,372
Operating income 648,157 (81) 648,076
OTHER INCOME (EXPENSES)
Consolidated sponsored investment products realized gains, net -- 169 169
Consolidated sponsored investment products unrealized gains, net -- 1,476 1,476
Investment and other income 70,349 43 70,392
Interest expense (19,910) -- (19,910)
- --------------------------------------------------------------------------------------------------------------------------
Other income, net 50,439 1,688 52,127
Income before taxes on income 698,596 1,607 700,203
Taxes on income 196,907 466 197,373
- --------------------------------------------------------------------------------------------------------------------------
NET INCOME $501,689 $1,141 $502,830
- --------------------------------------------------------------------------------------------------------------------------
70
(IN THOUSANDS) BALANCE BEFORE
FIN 46 FIN 46
AS OF THE YEAR ENDED SEPTEMBER 30, 2003 ADJUSTMENTS ADJUSTMENTS CONSOLIDATED
- --------------------------------------------------------------------------------------------------------------------------
ASSETS
Current assets $2,958,469 $10,358 $2,968,827
Banking/finance assets 918,425 -- 918,425
Non-current assets 3,083,497 -- 3,083,497
- --------------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $6,960,391 $10,358 $6,970,749
- --------------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities $486,458 $2,068 $488,526
Banking/finance liabilities 801,980 -- 801,980
Non-current liabilities 1,361,845 8,290 1,370,135
- --------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES 2,650,283 10,358 2,660,641
- --------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 4,310,108 -- 4,310,108
- --------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $6,960,391 $10,358 $6,970,749
- --------------------------------------------------------------------------------------------------------------------------
We will adopt the consolidation provisions of FIN 46 for VIEs created before
February 1, 2003 in the quarter ending December 31, 2003, in accordance with FSP
FIN 46-6. Based on the current requirements of FIN 46 and using September 30,
2003 values, the table below summarizes our best estimate of the increase in
assets in our consolidated balance sheet on adoption on December 31, 2003. The
table also provides detail on the total assets of VIEs in relation to which we
are a significant variable interest holder but not the primary beneficiary, and
our exposure to loss as a result of our interest in these VIEs as of September
30, 2003. It should be noted that our measure of exposure does not reflect our
estimate of the actual losses that could result from adverse changes.
(IN MILLIONS) PRIMARY BENEFICIARY SIGNIFICANT VARIABLE INTEREST
HOLDER
- ----------------------------------------------------------------------------------------------------
DESCRIPTION TOTAL ASSETS RECOURSE /1/ TOTAL ASSETS EXPOSURE
- ----------------------------------------------------------------------------------------------------
Sponsored investment products $1,119.2 None
Corporate headquarters campus /2/ $157.6 $12.4
Collateralized debt obligation
entities $1,785.5 $17.4
Lightning Finance Company Limited $328.6 $54.7
- ----------------------------------------------------------------------------------------------------
/1/ This column reflects the extent, if any, to which investors have recourse
to Franklin Templeton Investments beyond the carrying value of assets held
in the VIE.
/2/ Based on estimated carrying values as of December 31, 2003.
Exposure to loss arising from our investment in the sponsored investment
products that we believe that we will consolidate on December 31, 2003 is
limited to our investment, totaling $167.1 million at September 30, 2003, and
fees earned but not yet received. As the primary beneficiary of our corporate
headquarters campus, a lessor trust, we anticipate that we will consolidate the
trust under the provisions of FIN 46 as of December 31, 2003. The impact of
consolidating the trust will be to increase property and equipment, net by
approximately $157.6 million and current maturities of long-term debt, by
approximately $164.9 million as of this date.
In relation to our purchase of Darby, we anticipate that we will consolidate
sponsored investment products with approximately $444.4 million in total assets
as of October 1, 2003.
71
NOTE 15 - EMPLOYEE STOCK AWARD AND OPTION PLANS
We sponsor a Universal Stock Incentive Plan ("USIP") and an Annual Incentive
Compensation Plan ("AICP"). Under the terms of these plans, eligible employees
may receive cash and stock awards based on the performance of Franklin Templeton
Investments and that of the individual employee. The USIP provides for the
issuance of up to 36.0 million shares of our common stock for various
stock-related awards, including those related to the AICP. As of September 30,
2003 and prior to considering fiscal 2003 grants, we had approximately 11.1
million shares available for grant under the USIP, including those related to
the AICP. In addition to the annual award of stock under the plan, we may award
options and other forms of stock-based compensation to some employees. The
Compensation Committee of the Board of Directors determines the terms and
conditions of awards under the plans. Total stock-based compensation cost during
fiscal 2003, 2002 and 2001 was $37.2 million, $42.1 million and $26.6 million.
Information regarding stock options is as follows:
2003 2002 2001
- ------------------------------------ -------------------- ---------------------- ------------------
(SHARES IN THOUSANDS) WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
- ------------------------------------ ---------- --------- ---------- ----------- -------- ---------
Outstanding, beginning of year 11,679 $37.00 8,397 $36.94 2,222 $32.52
Granted 3,565 $33.18 4,208 $37.10 6,640 $38.41
Exercised/cancelled (1,955) $36.06 (926) $37.03 (465) $36.70
Outstanding, end of year 13,289 $36.11 11,679 $37.00 8,397 $36.94
Exercisable, end of year 8,654 $36.40 5,479 $36.66 2,602 $35.65
- ------------------------------------ ---------- --------- ---------- ----------- -------- ---------
The range of exercise prices for these outstanding options at September 30, 2003
was from $28.19 to $45.73. Of the exercisable options, 91% were exercisable at
prices ranging from $32.63 to $38.38. The weighted-average remaining contractual
life for the options was 7 years. Generally, these options vest over a 3-year
period and are exercisable for up to 10 years from the grant date.
NOTE 16 - EMPLOYEE STOCK INVESTMENT PLAN
We have a qualified, non-compensatory Employee Stock Investment Plan ("ESIP"),
which allows participants who meet certain eligibility criteria to buy shares of
our common stock at 90% of their market value on defined dates. Our stockholders
approved 4 million shares of common stock for issuance under the ESIP. The ESIP
is open to substantially all employees of U.S. subsidiaries and some employees
of non-U.S. subsidiaries. At September 30, 2003, approximately 1,651,000 shares
had been purchased on a cumulative basis under the ESIP at a weighted-average
price of $31.61.
In connection with the ESIP, we may, at our election, provide matching grants to
participants in the ESIP of whole or partial shares of common stock. While
reserving the right to change this determination, we have indicated that we will
provide one half-share for each share held by a participant for a minimum period
of 18 months. We made our first matching grant in fiscal 2000. During fiscal
2003, 2002, and 2001, we issued approximately 104,000, 85,000 and 81,000 shares
at an average market price of $39.47, $35.47 and $45.04.
NOTE 17 - OTHER COMPENSATION AND BENEFIT PLANS
Fiduciary Trust has a noncontributory retirement plan (the "retirement plan")
covering substantially all its employees who were hired before our acquisition
of Fiduciary Trust, have attained age 21 and completed one year of service.
Fiduciary Trust also maintains a nonqualified supplementary executive retirement
plan ("SERP") to pay defined benefits that are in excess of limits imposed by
Federal tax law, to participants in the retirement plan who attain age 55 and 10
years of service. In addition to these pension retirement plans, Fiduciary Trust
sponsors a defined benefit healthcare plan that provides post-retirement medical
benefits to
72
full-time employees who have worked 10 years and attained age 55 while in
service of Fiduciary Trust. As of the date of acquisition, the defined benefit
healthcare plan was closed to new entrants.
The following table shows the funded status of the plans, accrued benefit
liability we recognized for amounts not yet funded, and assumptions used as of
September 30, 2003 and 2002:
PENSION BENEFITS NON-PENSION BENEFITS
(IN THOUSANDS, EXCEPT ASSUMPTIONS) 2003 2002 2003 2002
- --------------------------------------------- ------------- ------------ --------------- -----------
Benefit obligation $29,515 $31,635 $6,968 $5,094
Fair value of plan assets 15,091 16,592 -- --
Funded status at year end (14,424) (15,043) (6,968) (5,094)
Unrecognized actuarial losses (gains) 1,140 6,861 2,170 300
Unrecognized prior service (credit) cost -- (128) (150) --
- ----------------------------------------------------------------------------------------------------
NET AMOUNT RECOGNIZED $(13,284) $(8,310) $(4,948) $(4,794)
- ----------------------------------------------------------------------------------------------------
AMOUNTS RECOGNIZED IN THE CONSOLIDATED
BALANCE SHEETS
Accrued benefit cost recognized $(14,424) $(14,090) $(4,948) $(4,794)
Intangible asset -- -- -- --
Accumulated other comprehensive income 1,140 5,780 -- --
- ----------------------------------------------------------------------------------------------------
NET AMOUNT RECOGNIZED $(13,284) $(8,310) $(4,948) $(4,794)
- ----------------------------------------------------------------------------------------------------
WEIGHTED-AVERAGE ASSUMPTIONS
Discount rate 5.50% 6.50% 6.00% 6.50%
Expected return on plan assets 5.31% 8.00% N/A N/A
Increase in compensation rate 8.00% 4.50% 4.50% 4.50%
Following the acquisition of Fiduciary Trust, we established an $85 million
retention pool aimed at retaining key Fiduciary Trust employees, under which
employees will receive both cash payments and options. Salaried employees who
remain continuously employed through the applicable dates are eligible for
compensation under the program. Excluding the value of options granted, the
value of the retention plan is $68 million, and is being expensed over a period
ranging from one to five years. We expensed $10.2 million, $25.5 million and
$24.4 million in fiscal 2003, 2002 and 2001, including the acceleration of
retention payments related to the September 11, 2001 events as described in Note
19.
NOTE 18 - SEGMENT INFORMATION
We have two operating segments: investment management and banking/finance. We
based our operating segment selection process primarily on services offered. The
investment management segment derives substantially all its revenues and net
income from providing investment advisory, administration, distribution and
related services to the Franklin, Templeton, Mutual Series, Bissett and
Fiduciary Trust funds, and institutional, high net-worth and private accounts
and other investment products. The banking/finance segment offers selected
retail-banking services to high net-worth individuals, foundations and
institutions, and consumer lending services. Our consumer lending activities
include automotive lending related to the purchase, securitization, and
servicing of retail installment sales contracts originated by independent
automobile dealerships, consumer credit and debit cards, real estate equity
lines, and home equity/mortgage loans.
73
Financial information for our two operating segments for the years ended
September 30, 2003, 2002, and 2001 is presented in the table below. Operating
revenues of the banking/finance segment are reported net of interest expense and
provision for loan losses.
(IN THOUSANDS)
INVESTMENT BANKING/
AS OF AND FOR THE YEAR ENDED SEPTEMBER 30, 2003 MANAGEMENT FINANCE TOTALS
- ---------------------------------------------------------- ------------- --------------- -----------
Assets $6,052,324 $918,425 $6,970,749
Operating revenues 2,563,577 60,871 2,624,448
Interest revenue - inter-segment 2,501 -- 2,501
September 11, 2001 recovery, net (4,401) -- (4,401)
Interest expense 19,910 N/A 19,910
Income before taxes 658,571 41,632 700,203
- ---------------------------------------------------------- ------------- --------------- -----------
AS OF AND FOR THE YEAR ENDED SEPTEMBER 30, 2002
- ---------------------------------------------------------- ------------- --------------- -----------
Assets $5,370,766 $1,051,972 $6,422,738
Operating revenues 2,463,086 55,446 2,518,532
Interest revenue - inter-segment 5,415 -- 5,415
Interest expense 12,302 N/A 12,302
Income before taxes 546,396 31,879 578,275
- ---------------------------------------------------------- ------------- --------------- -----------
AS OF AND FOR THE YEAR ENDED SEPTEMBER 30, 2001
- ---------------------------------------------------------- ------------- --------------- -----------
Assets $5,036,406 $1,229,244 $6,265,650
Operating revenues 2,323,085 31,758 2,354,843
Interest revenue - inter-segment 9,778 -- 9,778
September 11, 2001 expense, net 7,649 -- 7,649
Interest expense 10,556 N/A 10,556
Income before taxes 629,908 7,882 637,790
- ---------------------------------------------------------- ------------- --------------- -----------
Operating revenues of the banking/finance segment included above were as
follows:
(IN THOUSANDS)
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ---------------------------------------------------------- ------------- --------------- -----------
Interest and fees on loans $31,134 $33,523 $34,296
Interest and dividends on investment securities 18,595 19,804 11,430
- ---------------------------------------------------------- ------------- --------------- -----------
Total interest income 49,729 53,327 45,726
Interest on deposits 6,119 9,812 10,768
Interest on short-term debt 436 392 1,003
Interest expense - inter-segment 2,501 5,415 9,778
- ---------------------------------------------------------- ------------- --------------- -----------
Total interest expense 9,056 15,619 21,549
Net interest income 40,673 37,708 24,177
Other income 33,621 31,628 17,166
Provision for loan losses (13,423) (13,890) (9,585)
- ---------------------------------------------------------- ------------- --------------- -----------
TOTAL OPERATING REVENUES $60,871 $55,446 $31,758
- ---------------------------------------------------------- ------------- --------------- -----------
Inter-segment interest payments from the banking/finance segment to the
investment management segment are based on market rates prevailing at the
inception of each loan. As further described in Note 1, inter-segment interest
income and expense are not eliminated in our consolidated statements of income.
The investment management segment incurs substantially all of our depreciation
and amortization costs and expenditures on long-lived assets.
74
We conduct operations in the following principal geographic areas of the world:
the United States, Canada, the Bahamas, Europe, Asia, South America, Africa and
Australia. For segment reporting purposes, we have combined Asia, South America,
Africa and Australia into one category - Other. Revenues by geographic area
include fees and commissions charged to customers and fees charged to
affiliates.
Information by geographic area is summarized below:
(IN THOUSANDS)
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ---------------------------------------------------------- ------------- -------------- ------------
OPERATING REVENUES:
United States $1,883,563 $1,846,867 $1,685,108
Canada 222,782 206,287 267,007
Bahamas 327,029 258,745 294,922
Europe 98,801 134,252 129,090
Other 164,869 167,457 144,200
Eliminations (72,596) (95,076) (165,484)
- ---------------------------------------------------------- ------------- -------------- ------------
TOTAL $2,624,448 $2,518,532 $2,354,843
- ---------------------------------------------------------- ------------- -------------- ------------
PROPERTY AND EQUIPMENT, NET:
United States $303,457 $338,763 $394,082
Canada 4,007 5,151 7,246
Bahamas 6,861 7,299 7,916
Europe 6,045 6,371 7,159
Other 36,402 36,588 33,223
- ---------------------------------------------------------- ------------- -------------- ------------
TOTAL $356,772 $394,172 $449,626
- ---------------------------------------------------------- ------------- -------------- ------------
NOTE 19 - SEPTEMBER 11, 2001 EVENT
On September 11, 2001, the headquarters of our subsidiary company, Fiduciary
Trust, at Two World Trade Center was destroyed in the terrorist attacks on New
York City (the "September 11, 2001 Event"). We have since leased office space
for Fiduciary Trust in midtown Manhattan, to resume permanent operations. The
following table shows the financial impact of the event recognized at September
30, 2003, 2002 and 2001:
(IN THOUSANDS) 2003 2002 2001
- ----------------------------------------------------------------- ------------ ----------- ---------
Cumulative September 11, 2001 costs recognized as of end of year $68,945 $64,853 $50,185
September 11, 2001 (recovery) expense, net (4,401) -- 7,649
- ----------------------------------------------------------------- ------------ ----------- ---------
Approximately $19.9 million of the cumulative estimated costs recognized as of
September 30, 2003 pertain to the write-off of an intangible asset related to
leased office space and to the write-off of property and equipment lost in the
September 11, 2001 Event. In addition, as of September 30, 2003 we had
recognized a $16.7 million charge related to employee benefit expenses. These
expenses include the acceleration of payments under the employee retention bonus
plan related to the acquisition of Fiduciary Trust, and other payments made in
respect of victims of the tragedy. Cumulative insurance proceeds received
through September 30, 2003 were $67.4 million and included $57.2 million related
to property and equipment. At September 30, 2003, we were in the process of
pursuing a number of additional claims with our insurance carriers.
75
NOTE 20 - INVESTMENT AND OTHER INCOME
(IN THOUSANDS)
FOR THE YEARS ENDED SEPTEMBER 30, 2003 2002 2001
- ---------------------------------------------------------- ------------- ------------- -------------
Dividends $13,328 $12,934 $24,369
Interest 27,688 37,796 63,455
Realized gains on sale of assets, net 8,798 3,957 54,869
Other-than-temporary decline in investments value -- (60,068) --
Foreign exchange gains, net 10,069 (6,149) (3,629)
Other 10,509 16,605 (2,713)
- ---------------------------------------------------------- ------------- ------------- -------------
TOTAL INVESTMENT AND OTHER INCOME $70,392 $5,075 $136,351
- ---------------------------------------------------------- ------------- ------------- -------------
During fiscal 2002, we recognized a $60.1 million other-than-temporary decline
in value of investments. Substantially all of our dividend income was generated
by investments in our sponsored investment products. We realized a gain of $32.9
million on the sale of our former headquarters building in San Mateo in July
2000, which was amortized over 12 months, the period of our leaseback on the
building.
NOTE 21 - FAIR VALUES OF FINANCIAL INSTRUMENTS
The fair value of a financial instrument represents the amount at which the
instrument could be exchanged in a current transaction between willing parties,
other than in a forced sale or liquidation. The methods and assumptions used to
estimate fair values of our financial instruments are described below. See Note
1.
Due to the short-term nature and liquidity of cash and cash equivalents and
receivables, the carrying amounts of these assets in the consolidated balance
sheets approximated fair value.
Investment securities, trading are carried at fair value with changes in fair
value recognized in our consolidated net income.
Investment securities, available-for-sale are carried at fair market value as
required by generally accepted accounting principles.
Loans receivable, net are valued using interest rates that consider the current
credit and interest rate risk inherent in the loans and the current economic and
lending conditions. The amounts in the consolidated balance sheets approximated
fair value. Loans originated and intended for sale are carried at the lower of
cost or estimated fair value in the aggregate. Net unrealized losses, if any,
are recognized through a valuation allowance included in other, net revenues.
Deposits of the banking/finance segment are valued using interest rates offered
by comparable institutions on deposits with similar remaining maturities. The
amounts in the consolidated balance sheets approximated fair value.
Interest-rate swap agreements and foreign exchange contracts are carried at fair
value.
Debt is valued using publicly-traded debt with similar maturities, credit risk
and interest rates. The amounts in the consolidated balance sheets approximate
fair values.
Guarantees and letters of credit have fair values based on the face value of the
underlying instrument.
NOTE 22 - BANKING REGULATORY RATIOS
Following the acquisition of Fiduciary Trust 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 result in certain mandatory, and possibly
additional, discretionary actions by regulators that, if undertaken, could have
a direct material effect on our financial statements. We must meet specific
capital adequacy guidelines that involve quantitative measures of our assets,
liabilities, and certain off-balance sheet items as calculated under regulatory
accounting practices.
76
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 a minimum Tier 1 capital and Tier 1 leverage ratio (as
defined in the regulations), as well as minimum Tier 1 and Total risk-based
capital ratios (as defined in the regulations). Based on our calculations as of
September 30, 2003 and 2002, we exceeded the capital adequacy requirements
applicable to us as listed below.
MINIMUM FOR
OUR CAPITAL
ADEQUACY
(IN THOUSANDS) 2003 2002 PURPOSES
- ----------------------------------------------------------------------------------------------------
Tier 1 capital $2,122,167 $2,170,328 N/A
Total risk-based capital 2,130,717 2,179,363 N/A
Tier 1 leverage ratio 40% 45% 4%
Tier 1 risk-based capital ratio 64% 65% 4%
Total risk-based capital ratio 64% 65% 8%
- ----------------------------------------------------------------------------------------------------
77
REPORT OF INDEPENDENT AUDITORS
To the Stockholders and Board of Directors of Franklin Resources, Inc.:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, stockholders' equity and comprehensive income
and cash flows present fairly, in all material respects, the consolidated
financial position of Franklin Resources, Inc. and its subsidiaries at September
30, 2003 and 2002, and the consolidated results of their operations and their
cash flows for each of the three years in the period ended September 30, 2003,
in conformity with accounting principles generally accepted in the United States
of America. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these financial
statements in accordance with auditing standards generally accepted in the
United States of America, which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
San Francisco, California
December 5, 2003
78
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
The Company's management evaluated, with the participation of the Company's
principal executive and principal financial officers, the effectiveness of the
Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange
Act")) as of September 30, 2003. Based on their evaluation, the Company's
principal executive and principal financial officers concluded that the
Company's disclosure controls and procedures were effective as of September 30,
2003.
There has been no change in the Company's internal control over financial
reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act)
that occurred during the Company's fiscal quarter ended September 30, 2003, that
has materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item with respect to our executive officers is
contained in Item 1 of Part I of this Form 10-K under the section, "Executive
Officers of the Registrant".
CODE OF ETHICS. The Company has adopted a Code of Ethics and Business Conduct
(the "Code of Ethics") that applies to the Registrant's principal executive
officer, principal financial officer, principal accounting officer or
controller, or persons performing similar functions, as well as directors,
officers and employees of the Company. The Code of Ethics is posted on the
Company's website (www.franklintempleton.com) and available in print free of
charge to any shareholder who requests a copy. Interested parties may address a
written request for a printed copy of the Code of Ethics to: Secretary, Franklin
Resources, Inc., One Franklin Parkway, San Mateo, California 94403-1906. We
intend to satisfy the disclosure requirement regarding any amendment to, or a
waiver of, a provision of the Code of Ethics for the Registrant's principal
executive officer, principal financial officer, principal accounting officer or
controller, or persons performing similar functions by posting such information
on our website.
The information regarding directors of FRI, members of the Audit Committee, the
Audit Committee financial expert, and compliance with Section 16(a) of the
Exchange Act, is incorporated by reference from the information provided under
the section entitled "Proposal 1: Election of Directors" from our Proxy
Statement.
ITEM 11. EXECUTIVE COMPENSATION
The information in the Proxy Statement under the section entitled "Proposal 1:
Election of Directors" is incorporated herein by this reference.
79
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information about equity compensation
plans that have been approved by security holders and plans that have not been
approved by security holders.
EQUITY COMPENSATION PLAN INFORMATION /1/
NUMBER OF
SECURITIES
REMAINING
NUMBER OF AVAILABLE FOR
SECURITIES TO BE FUTURE ISSUANCE
ISSUED UPON WEIGHTED-AVERAGE UNDER EQUITY
EXERCISE OF EXERCISE PRICE COMPENSATION
OUTSTANDING OF OUTSTANDING PLANS (EXCLUDING
OPTIONS, OPTIONS, SECURITIES
WARRANTS AND WARRANTS AND REFLECTED IN
RIGHTS RIGHTS COLUMN (a))
PLAN CATEGORY (a) (b) (c)
- -----------------------------------------------------------------------------------------------------
Equity compensation plans approved
by security holders /2/ 13,288,991 /3/ $36.11 13,123,108 /4/
Equity compensation plans not
approved by security holders 0 0 0
- -----------------------------------------------------------------------------------------------------
Total 13,288,991 $36.11 13,123,108
1 The table includes information for equity compensation plans assumed by the
Company in connection with acquisitions of the companies, which originally
established those plans.
2 Consists of the 2002 Universal Stock Incentive Plan and the 1998 Employee
Stock Investment Plan (the "Purchase Plan"), as Amended.
3 Excludes options to purchase accruing under the Company's Purchase Plan.
Under the Purchase Plan each eligible employee is granted a separate option
to purchase up to 2,000 shares of Common Stock each semi-annual accrual
period on January 31 and July 31 at a purchase price per share equal to 90%
of the fair market value of the Common Stock on the enrollment date or the
exercise date, whichever is lower.
4 Includes shares available for future issuance under the Purchase Plan. As
of September 30, 2003, 2,007,662 of shares of Common Stock were available
for issuance under the Purchase Plan.
The information required by this Item with respect to Stock Ownership of Certain
Beneficial Owners and Management is incorporated by reference from the
information provided under the section entitled "Security Ownership of Principal
Shareholders" and "Security Ownership of Management" of our Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is incorporated by reference from the
information provided under the section entitled "Proposal 1: Election of
Directors - Certain Relationships and Related Transactions" of our Proxy
Statement.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Not applicable for the fiscal year ended September 30, 2003.
80
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) Please see the index in Item 8 on page 45 of this Annual Report for a
list of the financial statements filed as part of this report.
(a)(2) Please see the index in Item 8 on page 45 of this Annual Report for a
list of the financial statement schedules filed as part of this report.
(a)(3) Exhibits: See Index to Exhibits on Pages 83 to 88.
(b)(1) Form 8-K filed on August 6, 2003 reporting under Item 5 "Other Events"
and Item 7 "Financial Statements and Exhibits", a "press release issued
on August 4, 2003 by Registrant and Darby Overseas Investments, Ltd."
(c) See Item 15(a)(3) above.
(d) No separate financial statements are required; schedules are included
in Item 8.
81
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
Date: December 19, 2003 By: /s/ CHARLES B. JOHNSON
--------------------------------------------------
Charles B. Johnson, Chairman, Chief Executive
Officer, and Member - Office of the Chairman
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated:
Date: December 19, 2003 By: /s/ CHARLES B. JOHNSON
--------------------------------------------------
Charles B. Johnson, Chairman, Chief Executive
Officer, Member - Office of the Chairman, and
Director (Principal Executive Officer)
Date: December 19, 2003 By: /s/ JAMES R. BAIO
--------------------------------------------------
James R. Baio, Senior Vice President and Chief
Financial Officer (Principal Financial and
Accounting Officer)
Date: December 19, 2003 By: /s/ HARMON E. BURNS
--------------------------------------------------
Harmon E. Burns, Vice Chairman, Member - Office of
the Chairman, and Director
Date: December 19, 2003 By: /s/ CHARLES CROCKER
--------------------------------------------------
Charles Crocker, Director
Date: December 19, 2003 By: /s/ MARTIN L. FLANAGAN
--------------------------------------------------
Martin L. Flanagan, President
Date: December 19, 2003 By: /s/ ROBERT D. JOFFE
--------------------------------------------------
Robert D. Joffe, Director
Date: December 19, 2003 By: /s/ GREGORY E. JOHNSON
--------------------------------------------------
Gregory E. Johnson, President
Date: December 19, 2003 By: /s/ RUPERT H. JOHNSON, JR.
--------------------------------------------------
Rupert H. Johnson, Jr., Vice Chairman, Member -
Office of the Chairman, and Director
Date: December 19, 2003 By: /s/ THOMAS H. KEAN
--------------------------------------------------
Thomas H. Kean, Director
Date: December 19, 2003 By: /s/ JAMES A. MCCARTHY
--------------------------------------------------
James A. McCarthy, Director
Date: December 19, 2003 By: /s/ CHUTTA RATNATHICAM
--------------------------------------------------
Chutta Ratnathicam, Director
Date: December 19, 2003 By: /s/ PETER M. SACERDOTE
--------------------------------------------------
Peter M. Sacerdote, Director
Date: December 19, 2003 By: /s/ ANNE M. TATLOCK
--------------------------------------------------
Anne M. Tatlock, Vice Chairman, Member - Office of
the Chairman, and Director
Date: December 19, 2003 By: /s/ LOUIS E. WOODWORTH
--------------------------------------------------
Louis E. Woodworth, Director
82
EXHIBIT INDEX
EXHIBIT NO.
3(i)(a) Registrant's Certificate of Incorporation, as filed November 28, 1969,
incorporated by reference to the Company's Annual Report on Form 10-K
for the fiscal year ended September 30, 1994 (the "1994 Annual Report")
3(i)(b) Registrant's Certificate of Amendment of Certificate of Incorporation,
as filed March 1, 1985, incorporated by reference to the 1994 Annual
Report
3(i)(c) Registrant's Certificate of Amendment of Certificate of Incorporation,
as filed April 1, 1987, incorporated by reference to the 1994 Annual
Report
3(i)(d) Registrant's Certificate of Amendment of Certificate of Incorporation,
as filed February 2, 1994, incorporated by reference to the 1994 Annual
Report
3(ii) Registrant's Amended and Restated By-laws adopted November 12, 2002,
incorporated by reference to the Company's Annual Report on Form 10-K
for the fiscal year ended September 30, 2002 (the "2002 Annual Report")
4.1 Indenture between the Registrant and The Chase Manhattan Bank (formerly
Chemical Bank), as trustee, dated as of May 19, 1994, incorporated by
reference to the Company's Registration Statement on Form S-3, filed on
April 14, 1994
4.2 Indenture between Franklin Resources, Inc. and The Bank of New York
dated May 11, 2001, incorporated by reference to the Registrant's
Registration Statement on Form S-3, filed on August 6, 2001
4.3 Form of Liquid Yield Option Note due 2031 (Zero Coupon-Senior)
(included in Exhibit 4.2 hereto)
4.4 Registration Rights Agreement between Franklin Resources, Inc. and
Merrill Lynch, Pierce, Fenner & Smith Incorporated ("Merrill Lynch")
dated May 11, 2001, incorporated by reference to the Registrant's
Registration Statement on Form S-3, filed on August 6, 2001
4.5 Form of 3.7% Senior Notes due 2008, incorporated by reference to
Exhibit 4.5 to the Company's Quarterly Report on Form 10-Q for the
period ended March 31, 2003 filed on May 12, 2003
10.1 Representative Distribution Plan between Templeton Growth Fund, Inc.
and Franklin/Templeton Investor Services, Inc., incorporated by
reference to the Company's Annual Report on Form 10-K for the fiscal
year ended September 30, 1993 (the "1993 Annual Report")
10.2 Representative Transfer Agent Agreement between Templeton Growth Fund,
Inc. and Franklin/Templeton Investor Services, Inc., incorporated by
reference to the 1993 Annual Report
10.3 Representative Investment Management Agreement between Templeton Growth
Fund, Inc. and Templeton, Galbraith & Hansberger Ltd., incorporated by
reference to the 1993 Annual Report
10.4 Representative Management Agreement between Advisers and the Franklin
Group of Funds, incorporated by reference to the Company's Annual
Report on Form 10-K for the fiscal year ended September 30, 1992 (the
"1992 Annual Report")
10.5 Representative Distribution 12b-1 Plan between FTDI and the Franklin
Group of Funds, incorporated by reference to the 1992 Annual Report
10.6 Amended Annual Incentive Compensation Plan approved January 24, 1995,
incorporated by reference to the Company's Proxy Statement filed under
cover of Schedule 14A on December 28, 1994 in connection with its
Annual Meeting of Stockholders held on January 24, 1995*
10.7 Universal Stock Plan approved January 19, 1994, incorporated by
reference to the Company's 1995 Proxy Statement filed under cover of
Schedule 14A on December 29, 1993 in connection with its Annual Meeting
of Stockholders held on January 19, 1994*
83
10.8 Representative Amended and Restated Distribution Agreement between
Franklin/Templeton Distributors, Inc. and Franklin Federal Tax-Free
Income Fund, incorporated by reference to the Company's Quarterly
Report on Form 10-Q for the quarterly period ended June 30, 1995 (the
"June 1995 Quarterly Report")
10.9 Distribution 12b-1 Plan for Class II shares between Franklin/Templeton
Distributors, Inc. and Franklin Federal Tax-Free Income Fund,
incorporated by reference to the June 1995 Quarterly Report
10.10 Representative Investment Management Agreement between Templeton Global
Strategy SICAV and Templeton Investment Management Limited,
incorporated by reference to the June 1995 Quarterly Report
10.11 Representative Sub-Distribution Agreement between Templeton, Galbraith
& Hansberger Ltd. and BAC Corp. Securities, incorporated by reference
to the June 1995 Quarterly Report
10.12 Representative Dealer Agreement between Franklin/Templeton
Distributors, Inc. and Dealer, incorporated by reference to the June
1995 Quarterly Report
10.13 Representative Investment Management Agreement between Templeton
Investment Counsel, Inc. and Client (ERISA), incorporated by reference
to the June 1995 Quarterly Report
10.14 Representative Investment Management Agreement between Templeton
Investment Counsel, Inc. and Client (non-ERISA), incorporated by
reference to the June 1995 Quarterly Report
10.15 Representative Amended and Restated Transfer Agent and Shareholder
Services Agreement between Franklin/Templeton Investor Services, Inc.
and Franklin Custodian Funds, Inc., dated July 1, 1995, incorporated by
reference to the Company's Annual Report on Form 10-K for the fiscal
year ended September 30, 1995 (the "1995 Annual Report")
10.16 Representative Amended and Restated Distribution Agreement between
Franklin/Templeton Distributors, Inc. and Franklin Custodian Funds,
Inc., incorporated by reference to the 1995 Annual Report
10.17 Representative Class II Distribution Plan between Franklin/Templeton
Distributors, Inc. and Franklin Custodian Funds, Inc., on behalf of its
Growth Series, incorporated by reference to the 1995 Annual Report
10.18 Representative Dealer Agreement between Franklin/Templeton
Distributors, Inc. and Dealer, incorporated by reference to the 1995
Annual Report
10.19 Representative Mutual Fund Purchase and Sales Agreement for Accounts of
Bank and Trust Company Customers, effective July 1, 1995, incorporated
by reference to the 1995 Annual Report
10.20 Representative Management Agreement between Franklin Value Investors
Trust, on behalf of Franklin MicroCap Value Fund and Franklin Advisers,
Inc., incorporated by reference to the 1995 Annual Report
10.21 Representative Sub-Distribution Agreement between Templeton, Galbraith
& Hansberger Ltd. and Sub-Distributor, incorporated by reference to the
1995 Annual Report
10.22 Representative Non-Exclusive Underwriting Agreement between Templeton
Growth Fund, Inc. and Templeton/Franklin Investments Services (Asia)
Limited, dated September 18, 1995, incorporated by reference to the
1995 Annual Report
10.23 Representative Shareholder Services Agreement between
Franklin/Templeton Investor Services, Inc. and Templeton/Franklin
Investments Services (Asia) Limited, dated September 18, 1995,
incorporated by reference to the 1995 Annual Report
10.24 Agreement to Merge the Businesses of Heine Securities Corporation,
Elmore Securities Corporation, and Franklin Resources, Inc., dated June
25, 1996, incorporated by reference to the Company's Report on Form 8-K
dated June 25, 1996
84
10.25 Subcontract for Transfer Agency and Shareholder Services dated November
1, 1996 by and between Franklin/Templeton Investor Services, Inc. and
PFPC Inc., incorporated by reference to the Company's Annual Report on
Form 10-K for the fiscal year ended September 30, 1996 (the "1996
Annual Report")
10.26 Representative Sample of Franklin/Templeton Investor Services, Inc.
Transfer Agent and Shareholder Services Agreement, incorporated by
reference to the 1996 Annual Report
10.27 Representative Administration Agreement between Templeton Growth Fund,
Inc. and Franklin Templeton Services, Inc., incorporated by reference
to the 1996 Annual Report
10.28 Representative Sample of Fund Administration Agreement with Franklin
Templeton Services, Inc., incorporated by reference to the 1996 Annual
Report
10.29 Representative Subcontract for Fund Administrative Services between
Franklin Advisers, Inc. and Franklin Templeton Services, Inc.,
incorporated by reference to the 1996 Annual Report
10.30 Representative Investment Advisory Agreement between Franklin Mutual
Series Fund, Inc. and Franklin Mutual Advisers, Inc., incorporated by
reference to the 1996 Annual Report
10.31 Representative Management Agreement between Franklin Valuemark Funds
and Franklin Mutual Advisers, Inc., incorporated by reference to the
1996 Annual Report
10.32 Representative Investment Advisory and Asset Allocation Agreement
between Franklin Templeton Fund Allocator Series and Franklin Advisers,
Inc., incorporated by reference to the 1996 Annual Report
10.33 Representative Management Agreement between Franklin New York Tax-Free
Income Fund, Inc. and Franklin Investment Advisory Services, Inc.,
incorporated by reference to the 1996 Annual Report
10.34 1998 Employee Stock Investment Plan approved January 20, 1998,
incorporated by reference to the Company's Proxy Statement filed under
cover of Schedule 14A on December 17, 1997 in connection with its
Annual Meeting of Stockholders held on January 20, 1998
10.35 System Development and Services Agreement dated as of August 29, 1997
by and between Franklin/Templeton Investor Services, Inc. and Sungard
Shareholder Systems, Inc., incorporated by reference to the Company's
Annual Report on Form 10-K for the fiscal year ended September 30, 1997
10.36 1998 Universal Stock Incentive Plan approved October 16, 1998 by the
Board of Directors, incorporated by reference to the Company's Proxy
Statement filed under cover of Schedule 14A on December 23, 1998 in
connection with its Annual Meeting of Stockholders held on January 28,
1999*
10.37 Amendment No. 3 to the Agreement to Merge the Businesses of Heine
Securities Corporation, Elmore Securities Corporation, and Franklin
Resources, Inc., dated December 17, 1997, incorporated by reference to
the Company's Quarterly Report on Form 10-Q for the quarterly period
ended December 31, 1997
10.38 Representative Agreement for the Supply of Investment Management and
Administration Services, dated February 16, 1998, by and between
Templeton Funds and Templeton Investment Management Limited,
incorporated by reference to the Company's Quarterly Report on Form
10-Q for the quarterly period ended March 31, 1998
10.39 Representative Investment Management Agreement between Templeton
Investment Counsel, Inc. and Client (ERISA), as amended, incorporated
by reference to the Company's Annual Report on Form 10-K/A for the
fiscal year ended September 30, 1998 (the "1998 Annual Report")
10.40 Representative Investment Management Agreement between Templeton
Investment Counsel, Inc. and Client (non-ERISA), as amended,
incorporated by reference to the 1998 Annual Report
10.41 Representative Variable Insurance Fund Participation Agreement among
Templeton Variable Products Series Fund or Franklin Valuemark Fund,
Franklin/Templeton Distributors, Inc. and an insurance company,
incorporated by reference on Form 10-Q for the quarter ended December
31, 1998
10.42 Purchase Agreement between Mariners Island Co-Tenancy and Keynote
Systems, Inc. dated April 25, 2000, incorporated by reference to the
Company's Report on Form 10-Q for the quarterly period ended June 30,
2000
85
10.43 Acquisition Agreement dated July 26, 2000 among Franklin Resources,
Inc., FTI Acquisition and Bissett & Associates Investment Management,
Ltd., incorporated by reference to the Company's Report on Form 8-K
dated August 1, 2000
10.44 Agreement and Plan of Share Acquisition between Franklin Resources,
Inc. and Fiduciary Trust Company International dated October 25, 2000,
incorporated by reference to the Company's Report on Form 8-K/A
(Amendment No. 1) dated October 25, 2000 and filed on October 26, 2000
10.45 Representative Amended and Restated Distribution Agreement among
Templeton Emerging Markets Fund, Templeton Canadian Bond Fund,
Templeton International Stock Fund, Templeton Canadian Stock Fund,
Templeton Global Smaller Companies Fund, Templeton Global Bond Fund,
Templeton Treasury Bill Fund, Templeton Global Balanced Fund, Templeton
International Balanced Fund, Templeton Canadian Asset Allocation Fund,
Mutual Beacon Fund, Franklin U.S. Small Cap Growth Fund, Templeton
Balanced Fund, Templeton Growth Fund, Ltd., Templeton Management
Limited, and FEP Capital, L.P. dated December 31, 1998, incorporated by
reference to the Company's Annual Report on Form 10-K for the fiscal
year ended September 30, 2000 (the "2000 Annual Report")
10.46 Representative Purchase and Sales Agreement by and among
Franklin/Templeton Distributors, Inc., Franklin Resources, Inc., and
Lightning Finance Company Limited dated August 1, 1999, incorporated by
reference to the 2000 Annual Report
10.47 Representative Advisory Agreement between Templeton Global Advisors
Limited and Templeton Asset Management Limited dated December 21, 1999,
incorporated by reference to the 2000 Annual Report
10.48 Representative Amended and Restated Commission Paying Agreement between
Templeton Global Strategy Funds, Templeton Global Advisors Limited,
Templeton Global Strategic Services S.A., and Lightning Finance Company
Limited dated January 31, 2000, incorporated by reference to the 2000
Annual Report
10.49 Representative Variable Insurance Fund Participation Agreement among
Franklin Templeton Variable Insurance Products Trust (formerly Franklin
Valuemark Funds), Franklin/Templeton Distributors, Inc., and CUNA
Mutual Life Insurance Company dated May 1, 2000, incorporated by
reference to the 2000 Annual Report
10.50 Stock Purchase Agreement between Good Morning Securities Co., Ltd. and
Templeton Investment Counsel, Inc. dated June 29, 2000, incorporated by
reference to the 2000 Annual Report
10.51 Agreement entered into between NEDCOR Investment Bank Holdings Limited,
NEDCOR Investment Bank Limited, Templeton International, Inc., Franklin
Templeton Asset Management (Proprietary) Limited, and Templeton Global
Advisors Limited dated August 1, 2000, incorporated by reference to the
2000 Annual Report
10.52 Representative Amended and Restated Distribution Agreement between
Franklin/Templeton Distributors, Inc. and Franklin Growth and Income
Fund dated August 10, 2000, incorporated by reference to the 2000
Annual Report
10.53 Employment Agreement entered into on December 22, 2000 by and among
Anne M. Tatlock, Fiduciary Trust Company International and Franklin
Resources, Inc., incorporated by reference to the Company's Report on
Form 10-Q for the quarterly period ended December 31, 2000*
10.54 Amended and Restated 1998 Universal Stock Incentive Plan as approved by
the Board of Directors on October 28, 2000 and the Stockholders at the
Annual Meeting held on January 25, 2001, incorporated by reference to
the Company's Report on Form 10-Q for the quarterly period ended
December 31, 2000*
10.55 Representative Sub-Advisory Agreement between FTTrust Company, on
behalf of Templeton International Smaller Companies Fund, Templeton
Investment Counsel, LLC, and Templeton Asset Management Limited, dated
January 23, 2001, incorporated by reference to the Company's Report on
Form 10-Q for the quarterly period ended March 31, 2001
86
10.56 Managed Operations Services Agreement between Franklin Templeton
Companies, LLC, and International Business Machines Corporation dated
February 6, 2001, incorporated by reference to the Company's Report on
Form 10-Q for the quarterly period ended March 31, 2001
10.57 Representative Agency Agreement between FTTrust Company and
Franklin/Templeton Investor Services, LLC, dated April 1, 2001,
incorporated by reference to the Company's Report on Form 10-Q for the
quarterly period ended March 31, 2001
10.58 Lease between RCPI Landmark Properties, L.L.C. and Franklin Templeton
Companies, LLC dated September 30, 2001, incorporated by reference to
the Company's Annual Report on Form 10-K for the fiscal year ended
September 30, 2001 (the "2001 Annual Report")
10.59 Synthetic Lease Financing Facility Agreements dated September 27, 1999,
incorporated by reference to the 2001 Annual Report
10.60 Representative Amended and Restated Master Management Agreement between
Franklin Templeton Investment Corp., as Trustee of mutual funds and
Franklin Templeton Investment Corp., as Manager, dated May 31, 2001,
incorporated by reference to the 2001 Annual Report
10.61 Representative Master Management Agreement dated May 31, 2001 between
Franklin Templeton Tax Class Corp. and Franklin Templeton Investments
Corp., incorporated by reference to the 2001 Annual Report
10.62 Deferred Compensation Agreement for Director's Fees, as amended on
April 15, 2002, incorporated by reference to the Company's Report on
Form 10-Q for the quarterly period ended March 31, 2002
10.63 Franklin Resources, Inc. 1998 Employee Stock Investment Plan as amended
by the Board of Directors on October 10, 2002, incorporated by
reference to the Company's Report on Form S-8 filed on October 28, 2002
10.64 Amended and Restated Five Year Facility Credit Agreement dated June 5,
2002 between Franklin Resources, Inc. and The Several Banks Parties
Thereto, Bank of America, N.A. and The Bank of New York, as
Co-Syndication Agents, Citicorp USA Inc. and BNP Paribas as
Co-Documentation Agents and JP Morgan Chase Bank, as Administrative
Agent, incorporated by reference to the 2002 Annual Report
10.65 Amended and Restated 364 Day Facility Credit Agreement dated June 5,
2002 between Franklin Resources, Inc. and The Several Banks Parties
Thereto, Bank of America, N.A. and The Bank of New York, as
Co-Syndication Agents, Citicorp USA Inc. and BNP Paribas as
Co-Documentation Agents and JP Morgan Chase Bank, as Administrative
Agent, incorporated by reference to the 2002 Annual Report
10.66 Settlement Agreement and Release of All Claims dated July 7, 2002
between Franklin Resources, Inc. and Allen J. Gula, Jr., incorporated
by reference to the 2002 Annual Report
10.67 Stock Purchase Agreements dated July 23, 2002 between Templeton Asset
Management (India) Private Limited and Pioneer Investment Management,
Inc. and various employee shareholders, incorporated by reference to
the 2002 Annual Report
10.68 2002 Universal Stock Incentive Plan as approved by the Board of
Directors on October 10, 2002 and the Stockholders at the Annual
Meeting held on January 30, 2003, incorporated by reference to the
Company's Report on Form 10-Q for the quarterly period ended December
31, 2002
10.69 Amendments dated July 2, 2001, June 10, 2002 and February 3, 2003 to
the Managed Operations Services Agreement dated February 6, 2001,
between Franklin Templeton Companies, LLC and International Business
Machines Corporation, incorporated by reference to the Company's Report
on Form 10-Q for the quarterly period ended March 31, 2003
10.70 Representative Form of Franklin Templeton Investor Services, LLC
Transfer Agent and Shareholder Services Agreement, incorporated by
reference to the Company's Report on Form 10-Q for the quarterly period
ended March 31, 2003
10.71 Amendments dated July 1, 2003 and September 1, 2003 to the Managed
Operations Service Agreement dated February 6, 2001, between Franklin
Templeton Companies, LLC and International Business Machines
Corporation
87
10.72 Purchase Agreement by and among Franklin Resources, Inc., Darby
Holdings, Inc. and certain other named parties dated as of August 1,
2003
10.73 Amended and Restated 364 Day Facility Credit Agreement dated June 4,
2003 between Franklin Resources, Inc. and The Banks Parties Thereto,
Bank of America, N.A. and The Bank of New York, as Co-Syndication
Agents, Citicorp USA Inc. and BNP Paribas, as Co-Documentation Agents,
and JP Morgan Chase Bank, as Administrative Agent, incorporated by
reference to the 2003 Annual Report
12 Computation of Ratios of Earnings to Fixed Charges
14 Code of Ethics and Business Conduct
21 List of Subsidiaries
23 Consent of Independent Auditors
31.1 Certification of Chief Executive Officer
31.2 Certification of Chief Financial Officer
32.1 Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section
1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
32.2 Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section
1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
* Management/Employment Contract or Compensatory Plan or Arrangement
88