Franklin Templeton is buying rival Legg Mason in a move that will create the world’s sixth largest asset manager with a total of $1.49tn in assets under management. As of the end of 2019, Franklin had $698bn, while Legg had $804bn.
Franklin is buying all of Legg Mason and its affiliates, bar one (which we will come back to shortly), and taking on Legg’s $2bn of debt.
It will pay $4.5bn for all this, in an all-cash deal which values Legg at $50 a share, a 23% premium on the firm’s share price from Friday, February 14. The deal will be funded by existing balance sheet cash and close by the third quarter of this year.
Morningstar head of global manager research Jeff Ptak tweeted that it appeared Franklin was not paying much, as a percentage of AUM, for Legg Mason.
Here's deck they ran through during this am's conf call announcing Franklin/Legg merger. The screenshot--taken from Legg's last earning's release--shows what they're acquiring from AUM/revenue standpoint. Doesn't look like they're paying much as % of AUM. https://t.co/zuOg2pO3Yt pic.twitter.com/9xEMj86gPP— Jeffrey Ptak (@syouth1) February 18, 2020
One reason might be the presence of activist investor Nelson Peltz on the Legg Mason board. Peltz and his colleague Ed Garden joined the board in May last year after their firm, Trian Fund Management, took a 4.5% stake in Legg Mason.
According to Bloomberg, Peltz said at the time that his top three priorities for the firm were to reduce costs, drive revenue both organically and through acquisition, and increase profitability.
Within days of Trian buying its stake, Legg announced plans to cut 120 jobs, or 12% of its workforce in an effort to reduce costs.
Peltz praised the deal in today’s press announcement:
‘Given the dynamics of today’s rapidly evolving and increasingly competitive asset management sector, I believe this transaction is compelling,’ he said. ‘In our view, it offers an attractive valuation for Legg Mason’s shareholders. I believe it will also enable Legg Mason’s investment affiliates to remain at the forefront of an industry where scale is increasingly vital to success.’
Another reason for the deal is that standing still is not really an option for either firm in the face of significant headwinds caused by the popularity, price and performance of passive investing.
As with many active managers, it has been a tough time for Franklin and Legg.
For the last year, up to January 31, Franklin had $26bn of outflows from its US mutual funds and ETFs, according to data from Morningstar Direct. This was the second worst result of any asset manager after Invesco, which suffered $38bn (more on this parallel later). Legg meanwhile did better, bringing in $10.4bn of flows over the same time period.
Still, in 2019 US passive funds and ETFs took in $475.9bn of assets while their active counterparts gave back $61.4bn, according to Morningstar. Active funds still have the larger market share ($12.2tn versus $8.5tn), but the direction of travel is only going one way. Scale is needed to be able to compete on cost and this deal puts the newly-combined firm in the $1tn club.
What about strategy overlap?
The firms have said that Franklin will purchase all of Legg Mason’s affiliates, which will continue to operate autonomously, with one exception.
The only affiliate not joining Franklin is alternative investment manager EnTrust Global, whose management team has decided to buy back the business.
The deal means the combined company has around half of its assets in fixed income strategies, with Legg affiliate Western Asset a major player in this asset class.
This raises questions about strategy overlap, something that was played down by executives on a call with reporters this morning.
Darlene DeRemer, managing partner at boutique merchant bank Grail Partners, said Western Asset's fixed income products would complement Franklin Templeton's offering.
'With the addition of Legg to Franklin Templeton, you're getting one of the top three preeminent global fixed income money managers in the world,' she said.
DeRemer also highlighted that the deal gives Franklin some skin the nascent active non-transparent ETF market.
'Legg also brings its equity ownership stake in Precidian and the active non-transparent ETF wrapper, where I would believe that you could accelerate bringing out all kinds of non-transparent ETFs across the Franklin product line as well as Legg, so it's just kind of a win-win,' she said.
Legg Mason took a majority stake in Precidian Investments earlier in February, giving the asset manager a greater stronghold on the first SEC-approved active non-transparent ETF structure.
'We'll see what they can do on the ETF front, but hopefully some of these stronger shops that are coming with this acquisition will help stabilize their flow profile,' said Karin Anderson, Morningstar's director of North American fixed-income strategies, who covers Franklin Templeton.
Will there be lots of exits?
The consistency of management teams is, unsurprisingly, a primary concern for gatekeepers.
'As a result of the transaction we will be watching closely the stability of the teams managing the strategies that we utilize on our platforms,' said Jeff Sutton, managing director of Oppenheimer Asset Management Consulting.
In their joint announcement, the firms said there will be no changes to senior management at Legg Mason, and that Jenny Johnson will remain as the chief executive of Franklin Templeton. While no word has been given on manager turnover, the promise that the boutiques will remain autonomous suggests this will be limited.
Two things are worth noting here, however:
- Both firms have been making steady headcount cuts over the last year. In April 2019 Franklin Templeton set out cost-cutting measures that included job cuts and fund administration outsourcing. As part of the measures, 2.5% of employees globally accepted a one-time voluntary separation incentive plan, while 1.5% of the global workforce was laid off. However, no portfolio or investment management personnel were involved. Franklin's job cuts mirror Legg Mason's aforementioned layoffs, which were announced in May 2019.
- The investor slide deck does refer to 'near-term effeciencies,' which include 'rationalization of the parent company functions' and 'integration of parent company distribution.' That same slide makes reference to $200m of anticipated run rate cost savings, in addition to Legg's existing cost-saving measures.
In general though, the slide deck emphasizes that the deal is not focused on 'maximising near-term cost savings.'
Will it work?
The deal sees Franklin Templeton and Legg Mason join the likes of Janus Henderson and Invesco Oppenheimer in the pantheon of recent asset management mega-mergers.
While no two deals are the same, the jury is still out the success of the ones mentioned above.
Still, analysts are open-minded about the prospects for Franklin and Legg Mason.
'This clearly puts the firm in a much stronger position to compete. I think it's just going to be interesting to see what kind of, hopefully good, changes can be made in terms of rationalizing the existing Franklin lineup,' Anderson said. 'From what we're seeing in terms of the actual deal itself, it seems like Franklin is getting a pretty good deal overall.'
DeRemer was equally optimistic.
'This is one of the most transformational transactions,' she said. 'Almost as big as when Franklin first bought Templeton a long time ago, which everyone thought was a very bold, aggressive move and that turned out to be brilliant.'