Shareholders of Franklin Resources, Inc. (Franklin Templeton) (BEN) should be happy right about now. This is because, on February 18th, news broke that the firm had struck a deal to acquire rival Legg Mason (LM) in a transaction valuing the latter at about $4.5 billion. While this represents a significant premium over the price at which Legg Mason was trading for immediately prior to the deal’s announcement, the move will help to consolidate the space, diversify Franklin Templeton’s existing business and, management hopes, create material synergies for shareholders moving forward. In all, parties on both sides of the transaction appear to be walking away with upside.
A look at the transaction
At its core, the transaction proposed by Franklin Templeton and agreed to by Legg Mason is a simple one. In exchange for $50 per share in consideration, all cash in nature, the former entity is acquiring the latter. Prior to the deal, Legg Mason’s shares were going for $40.72 a piece. This translates to a premium of 22.8% for shareholders in Legg Mason and it’s nearly 90% higher than the low point shares traded at over the past 52 weeks. Generally speaking, when a deal takes place, the market responds by pushing the acquirer’s share price down. This occurs because the acquirer is typically perceived as paying a premium for the company in question. In this case, however, the picture was different. Just as shares of Legg Mason soared, shares of Franklin Templeton jumped over 6.9% for the day as well.
It appears, based on the data provided, that Franklin Templeton is completing this transaction with cash and cash equivalents on hand. As of its latest update for shareholders, the company had $8.6 billion in cash and cash equivalents on its books. In addition to this, Legg Mason itself has $1.2 billion worth on its books. Instead of paying off the $1.97 billion in debt on Legg Mason’s books, Franklin Templeton appears to be absorbing that. This effectively leaves the company with $9.8 billion in cash and short-term investments to work with, which is more than double what it needs to complete the transaction.
A wise move
Reviewing the data associated with both firms, it becomes quite clear that this transaction is perfectly sensible. Let’s start off from the macro perspective and then zoom in from there. Both firms are large, diversified independent players in the asset management space. Despite the fact that Franklin Templeton is the entity performing the acquisition, it’s actually the smaller of the two firms as measured by AUM (assets under management). As of this writing, its AUM stands at $698 billion. Legg Mason’s, by comparison, was $804 billion. Put together, the firms will have total AUM of nearly $1.5 trillion. This will allow Franklin Templeton to leapfrog over a number of its competitors, rising as a result to become the sixth-largest independent asset manager in the world.
Geographically, the picture is interesting. As the image below illustrates, both firms are pretty global in nature. Franklin Templeton has operations in plenty of countries that Legg Mason doesn’t, but the opposite is not so true. In fact, pretty much everywhere that Legg Mason does business, so too does Franklin Templeton. If you break down its operations between US-based and international, the combined company will see 70% of its business come from the US. This compares to 69% for Franklin Templeton as a standalone entity.
Just because the two firms are very similar geographically does not mean they are similar when it comes to business composition. Today, for instance, 72% of Franklin Templeton’s AUM comes from the retail investor market. Legg Mason is more heavily focused on the institutional side. Following the completion of the deal, Franklin Templeton will actually see just 47% of its AUM come from the retail side of the equation. By comparison, its institutional exposure will rise from only 25% to 51%. To put this in perspective, its institutional AUM will soar from $176 billion in value to $757 billion. Another way to look at the picture is through the lens of asset class instead of client. The biggest change is that Franklin Templeton will see its multi-asset exposure halve from 18% of AUM to 9%, while its equity business will drop from 39% of AUM to 33%. The biggest growth will come from Fixed Income, which management estimates will make up 46% of the combined firm’s AUM compared to the 36% seen today.
One big motivator for Franklin Templeton appears to be the synergies it can generate from the move. The company believes that it can generate around $200 million in annual run-rate synergies, with most of these getting completed within the first year of closing. It does intend to incur, though, $350 million in integration costs in order to make this happen. The firm actually stated that this move will be accretive to GAAP EPS (earnings per share) by the upper 20% range in 2021 if you exclude one-time integration costs, and other non-recurring and acquisition-related expenses. Generally speaking, when companies acquire other firms, the way they generate synergies is through cutting duplicate operations. In this case, however, the company intends to allocate $350 million toward new equity-based retention and performance awards and it will largely leave Legg Mason’s current businesses and leadership in place.
On the whole, it looks like the company struck a pretty good deal for Legg Mason. Yes, the premium was significant, but probably not as high as it should have been. According to management, the TTM (trailing twelve-month) EBITDA associated with Legg Mason stands at about $0.6 billion. With an implied EV (enterprise value) on the deal of $5.27 billion, this works out to a multiple of 8.8 for the firm. Not low, but surprisingly not too high either. If the company is capable of generating the synergies it hopes to achieve, this multiple dips quite a bit to 6.6. That starts to get quite low no matter how you look at it.
Judging by the market’s reaction to this acquisition by Franklin Templeton, investors are happy. Legg Mason is being acquired at a perfectly fine price and Franklin Templeton is realizing nice upside potential from the deal. In all, this is the kind of acquisition where both sides come out looking pretty nice. In all likelihood, Legg Mason probably did leave some money on the table, but in all it looks like a solid move by two industry giants looking for the opportunity to consolidate.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.