February 19, 2020

Breakingviews: Merger of active asset managers looks too passive

by Breakingviews.

Something is better than nothing. The over $12 billion asset manager Franklin Resources – also known as Franklin Templeton – said on Tuesday that it plans to acquire smaller rival Legg Mason for $4.5 billion. A deal is better than the status quo, with low-fee passive managers putting heavy pressure on margins in the active-management industry. But it’s mostly a defensive play.

Both firms need a boost. Franklin Templeton’s assets under management declined by about 10% from 2015 to 2019, and operating margins slipped to 27% in 2019 from over 38% four years earlier. Some of the company’s funds also suffered from massive losses on investments in Argentina last year.

Legg Mason, meanwhile, caught the attention of activist investor Trian Fund Management, run by Nelson Peltz, and agreed to cut costs last year. Legg Mason has also had success with the growth of its separately-managed accounts business, becoming a top three player serving investors who don’t want their assets pooled with others’.

Investors see the possibilities of a deal that would create the world’s sixth-largest independent asset manager with around $1.5 trillion in assets under management, providing scale for greater efficiency and potentially a broader offering of funds that may fuel top-line growth. Legg Mason’s share price spiked over 20% from Friday’s close after the deal was announced to near the deal price of $50 per share. Franklin Templeton’s shares also rose.

Yet the story for active managers of late has been firms trying to cut costs fast enough to keep up with fee pressures in the market, as well as flows to passive rivals. Franklin Templeton expects annual cost savings from the merger of $200 million. Taxed and capitalized, those would be worth over $1.5 billion. That would cover the premium it is paying – but the companies’ presentation suggests reducing costs is not the main focus of the deal.

That stance is understandable, given the sensitive client- and people-management issues with firms like Legg Mason, which allows its fund families considerable autonomy. Yet to compete with the likes of BlackRock, which has almost five times the AUM, plans for both cost cuts and growth need to be more aggressive. So far, they look too, well, passive.

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