FRANKLIN RESOURCES, INC. FORWARD-LOOKING STATEMENTS In this section, we discuss and analyze the results of operations and financial condition ofFranklin Resources, Inc. ("Franklin") and its subsidiaries (collectively, the "Company"). In addition to historical information, we also make statements relating to the future, called "forward-looking" statements, which are provided under the "safe harbor" protection of theU.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements are generally written in the future tense and/or are preceded by words such as "will," "may," "could," "expect," "believe," "anticipate," "intend," "plan," "seek," "estimate" or other similar words. Moreover, statements that speculate about future events are forward-looking statements. These forward-looking statements involve a number of known and unknown risks, uncertainties and other important factors that could cause actual results and outcomes to differ materially from any future results or outcomes expressed or implied by such forward-looking statements. You should carefully review the "Risk Factors" section set forth below, which describes these risks, uncertainties and other important factors in more detail. While forward-looking statements are our best prediction at the time that they are made, you should not rely on them and are cautioned against doing so. Forward-looking statements are based on our current expectations and assumptions regarding our business, the economy and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict. They are neither statements of historical fact nor guarantees or assurances of future performance. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. If a circumstance occurs after the date of this Form 10-Q that causes any of our forward-looking statements to be inaccurate, whether as a result of new information, future developments or otherwise, we do not have an obligation, and we undertake no obligation, to announce publicly the change to our expectations, or to make any revision to our forward-looking statements, unless required by law. 21
--------------------------------------------------------------------------------
Table of Contents
The following discussion should be read in conjunction with our Form 10-K for the fiscal year endedSeptember 30, 2019 ("fiscal year 2019") filed with theU.S. Securities and Exchange Commission , and the consolidated financial statements and notes thereto included elsewhere in this Form 10-Q. OVERVIEW We are a global investment management organization and derive our operating revenues and net income from providing investment management and related services in jurisdictions worldwide for investors in our investment products, which include our sponsored funds, as well as institutional and high-net-worth separate accounts. In addition to investment management, our services include fund administration, sales and distribution, and shareholder servicing. We may perform services directly or through third parties. We offer our services and products under our various distinct brand names, including, but not limited to, Franklin®, Templeton®, Balanced Equity Management®, Benefit Street Partners®, Darby®, Edinburgh Partners™, Fiduciary Trust™, Franklin Bissett®, Franklin Mutual Series®, K2® and LibertyShares®. We offer a broad product mix of equity, multi-asset/balanced, fixed income and cash management investment objectives and solutions that meet a wide variety of specific investment goals and needs for individual and institutional investors. We also provide sub-advisory services to certain investment products sponsored by other companies that may be sold to investors under the brand names of those other companies or on a co-branded basis. The level of our revenues depends largely on the level and relative mix of assets under management ("AUM"). As noted in the "Risk Factors" section set forth below, the amount and mix of our AUM are subject to significant fluctuations and can negatively impact our revenues and income. The level of our revenues also depends on mutual fund sales, the number of shareholder transactions and accounts, and the fees charged for our services, which are based on contracts with our funds and our clients. These arrangements could change in the future. During our first fiscal quarter, the global equity markets provided strong positive returns as global trade tensions eased, central banks continued their accommodative monetary policies and economic data remained stable. The S&P 500 Index and MSCI World Index increased 9.1% and 8.7% for the quarter. The global bond markets remained positive as the Bloomberg Barclays Global Aggregate Index increased 0.5% during the quarter. Our total AUM atDecember 31, 2019 was$698.3 billion , 1% higher than atSeptember 30, 2019 and 7% higher than atDecember 31, 2018 . Simple monthly average AUM ("average AUM") for the three months endedDecember 31, 2019 increased 2% from the same period in the prior fiscal year. Uncertainties regarding the global economy remain for the foreseeable future. As we continue to confront the challenges of the current economic and regulatory environments, we remain focused on the investment performance of our products and on providing high quality service to our clients. We continuously perform reviews of our business model. While we remain focused on expense management, we will also seek to attract, retain and develop employees and invest strategically in systems and technology that will provide a secure and stable environment. We will continue to seek to protect and further our brand recognition while developing and maintaining broker-dealer and client relationships. The success of these and other strategies may be influenced by the factors discussed in the "Risk Factors" section set forth below. RESULTS OF OPERATIONS Three Months Ended December 31, Percent (in millions, except per share data) 2019 2018 Change Operating revenues$ 1,412.7 $ 1,411.5 0 % Operating income 392.7 411.5 (5 %) Net income attributable to Franklin Resources, Inc. 350.5 275.9 27 % Diluted earnings per share$ 0.70 $ 0.54 30 % Operating margin1 27.8 % 29.2 % __________________
1 Defined as operating income divided by total operating revenues.
Operating income decreased$18.8 million for the three months endedDecember 31, 2019 , as compared to the same period in the prior fiscal year, due to a 2% increase in operating expenses. Net income attributable toFranklin Resources, Inc. increased$74.6 million for the three months endedDecember 31, 2019 primarily due to investment and other income, net, as compared to net losses in the prior year, less the portion attributable to noncontrolling interests, partially offset by the decrease in operating income. 22
--------------------------------------------------------------------------------
Table of Contents
Diluted earnings per share increased for the three months endedDecember 31, 2019 , consistent with the increase in net income and the impact of a 3% decrease in diluted average common shares outstanding primarily resulting from repurchases of shares of our common stock during the twelve-month period endedDecember 31, 2019 . ASSETS UNDER MANAGEMENT AUM by investment objective was as follows: December 31, December 31, Percent (in billions) 2019 2018 Change Equity Global/international$ 163.5 $ 166.0 (2 %) United States 117.0 97.1 20 % Total equity 280.5 263.1 7 % Multi-Asset/Balanced 136.5 124.8 9 % Fixed Income Tax-free 66.7 62.0 8 % Taxable Global/international 136.7 147.7 (7 %) United States 67.5 42.2 60 % Total fixed income 270.9 251.9 8 % Cash Management 10.4 10.1 3 % Total$ 698.3 $ 649.9 7 % AUM atDecember 31, 2019 increased 7% fromDecember 31, 2018 as a$58.8 billion increase from net market change, distributions and other and$26.4 billion from an acquisition were partially offset by$36.8 billion of net outflows. Average AUM and the mix of average AUM by investment objective are shown below. (in billions) Average AUM Mix of Average AUM for the three months ended Percent December 31, 2019 2018 Change 2019 2018 Equity Global/international$ 160.4 $ 179.4 (11 %) 23 % 26 % United States 114.0 106.4 7 % 17 % 16 % Total equity 274.4 285.8 (4 %) 40 % 42 % Multi-Asset/Balanced 135.1 132.1 2 % 19 % 19 % Fixed Income Tax-free 66.4 62.7 6 % 10 % 9 % Taxable Global/international 140.9 149.7 (6 %) 20 % 22 % United States 67.1 43.4 55 % 10 % 7 % Total fixed income 274.4 255.8 7 % 40 % 38 % Cash Management 9.9 9.5 4 % 1 % 1 % Total$ 693.8 $ 683.2 2 % 100 % 100 % 23
--------------------------------------------------------------------------------
Table of Contents
Components of the change in AUM are shown below. Net market change,
distributions and other includes appreciation (depreciation), distributions to
investors that represent return on investments and return of capital, foreign
exchange revaluation and net cash management.
Three Months Ended
December 31, Percent
(in billions) 2019 2018 Change
Beginning AUM $ 692.6 $ 717.1 (3 %)
Long-term sales 22.7 21.7 5 %
Long-term redemptions (45.7 ) (42.4 ) 8 %
Long-term net exchanges (0.1 ) (0.5 ) (80 %)
Long-term reinvested distributions 10.8 13.9 (22 %)
Net flows (12.3 ) (7.3 ) 68 %
Net market change, distributions and other 18.0 (59.9 ) NM
Ending AUM $ 698.3 $ 649.9 7 %
Components of the change in AUM by investment objective were as follows:
(in billions) Equity Fixed Income
for the three months Taxable Taxable
ended Global/ United Multi-Asset/ Global/ United Cash
December 31, 2019 International States Balanced Tax-Free International States Management Total
AUM at October 1,
2019 $ 158.4 $ 112.1 $ 134.3 $ 66.3 $ 144.6 $ 67.4 $ 9.5 $ 692.6
Long-term sales 3.8 4.4 3.5 2.0 6.6 2.4 - 22.7
Long-term redemptions (10.7 ) (7.6 ) (6.2 ) (1.9 ) (16.2 ) (3.1 ) - (45.7 )
Long-term net
exchanges (0.2 ) 0.1 0.1 0.1 (0.7 ) 0.5 - (0.1 )
Long-term reinvested
distributions 2.4 4.8 1.9 0.4 1.0 0.3 - 10.8
Net flows (4.7 ) 1.7 (0.7 ) 0.6 (9.3 ) 0.1 - (12.3 )
Net market change,
distributions and
other 9.8 3.2 2.9 (0.2 ) 1.4 - 0.9 18.0
AUM at December 31,
2019 $ 163.5 $ 117.0 $ 136.5 $ 66.7 $ 136.7 $ 67.5 $ 10.4 $ 698.3
(in billions) Equity Fixed Income
for the three months Taxable Taxable
ended Global/ United Multi-Asset/ Global/ United Cash
December 31, 2018 International States Balanced Tax-Free International States Management Total
AUM at October 1,
2018 $ 194.4 $ 115.2 $ 138.9 $ 63.9 $ 150.6 $ 44.8 $ 9.3 $ 717.1
Long-term sales 4.3 4.0 2.8 1.6 7.4 1.6 - 21.7
Long-term redemptions (9.7 ) (6.3 ) (6.8 ) (3.9 ) (12.1 ) (3.6 ) - (42.4 )
Long-term net
exchanges (0.4 ) 0.1 (0.2 ) (0.2 ) 0.2 - - (0.5 )
Long-term reinvested
distributions 4.4 5.0 1.9 0.5 1.8 0.3 - 13.9
Net flows (1.4 ) 2.8 (2.3 ) (2.0 ) (2.7 ) (1.7 ) - (7.3 )
Net market change,
distributions and
other (27.0 ) (20.9 ) (11.8 ) 0.1 (0.2 ) (0.9 ) 0.8 (59.9 )
AUM at December 31,
2018 $ 166.0 $ 97.1 $ 124.8 $ 62.0 $ 147.7 $ 42.2 $ 10.1 $ 649.9
AUM increased $5.7 billion during the three months ended December 31, 2019 due
to $18.0 billion of net market change, distributions and other, partially offset
by $12.3 billion of net outflows. Net market change, distributions and other
primarily consists of $27.4 billion of market appreciation and a $2.2 billion
increase from foreign exchange revaluation, partially offset by $12.5 billion of
long-term distributions. The market appreciation occurred in all long-term
investment objectives, primarily in the equity and multi-asset/balanced
investment objectives, and reflected positive returns in global equity markets
as evidenced by increases of 9.1% and 8.7% in the S&P 500 Index and MSCI World
Index. The foreign exchange revaluation resulted from AUM in products that are
not U.S. dollar denominated, which represented 14% of total AUM as of
December 31, 2019 , and was primarily
24--------------------------------------------------------------------------------
Table of Contents
due to weakening of theU.S. dollar against the Pound Sterling, Euro, Canadian dollar and Australian dollar. The net outflows included outflows of$6.0 billion from four global/international fixed income funds,$1.3 billion from aU.S. equity fund and$0.8 billion from an institutional separate account. Long-term sales increased 5% to$22.7 billion , as compared to the prior-year period, due to higher sales in all investment objectives other than global/international objectives, and long-term redemptions increased 8% to$45.7 billion , primarily due to higher redemptions of global/international fixed income products. AUM decreased$67.2 billion during the three months endedDecember 31, 2018 due to$59.9 billion of net market change, distributions and other, and$7.3 billion of net outflows. Net market change, distributions and other primarily consists of$43.5 billion of market depreciation,$15.8 billion of long-term distributions and a$1.4 billion decrease from foreign exchange revaluation. The market depreciation occurred primarily in equity and multi-asset/balanced products, partially offset by appreciation in global/international fixed income products, and reflected sharp declines in global equity markets as evidenced by decreases of 13.5% and 13.3% in the S&P 500 Index and MSCI World Index and slightly positive returns in global fixed income markets as evidenced by a 1.2% increase in the Bloomberg Barclays Global Aggregate Index. The net outflows included$1.4 billion from a multi-asset/balanced fund. Average AUM by sales region was as follows: Three Months Ended December 31, Percent (in billions) 2019 2018 Change United States$ 478.1 $ 458.6 4 % International Europe, Middle East and Africa 89.3 93.3 (4 %) Asia-Pacific 89.3 88.5 1 % Canada 23.6 27.9 (15 %) Latin America1 13.5 14.9 (9 %) Total international 215.7 224.6 (4 %) Total$ 693.8 $ 683.2 2 % __________________
1
The percentage of average AUM inthe United States sales region was 69% and 67% for the three months endedDecember 31, 2019 and 2018. The region in which investment products are sold may differ from the geographic area in which we provide investment management and related services to the products. Investment Performance Overview A key driver of our overall success is the long-term investment performance of our investment products. A standard measure of the performance of these products is the percentage of AUM exceeding benchmarks and peer group medians. Our global/international fixed income products generated notable long-term results with at least 75% of AUM exceeding the benchmark and peer group median comparisons for the ten-year period, however, lower performance of these products during the three months endedDecember 31, 2019 resulted in significant decreases fromSeptember 30, 2019 to the comparisons for the three-year period. The performance of our multi-asset/balanced products significantly exceeded the peer group median for the ten-year period, but has lagged in the other period comparisons and against the benchmarks during the periods presented, reflecting the performance of a fund that represents 69% of this category. Lower relative investment performance by this fund during the three months endedDecember 31, 2019 resulted in a significant decrease fromSeptember 30, 2019 to the peer group median comparison for the one-year period. The performance of our tax-free andU.S. taxable fixed income, as well as of our global/international equity products, has mostly lagged the benchmarks and peer group medians during the periods presented. Improved performance of ourU.S. taxable fixed income products during the three months endedDecember 31, 2019 resulted in significant increases fromSeptember 30, 2019 to the benchmark and peer group median comparisons for the one-year period. 25
--------------------------------------------------------------------------------
Table of Contents
The performance of our products against benchmarks and peer group medians is presented in the table below.
Benchmark Comparison1, 2 Peer Group Comparison1, 3
% of AUM Exceeding Benchmark % of AUM in Top Two Peer Group Quartiles
as of December 31, 2019 1-Year 3-Year 5-Year 10-Year 1-Year 3-Year 5-Year 10-Year
Equity
Global/international 29 % 23 % 20 % 25 % 41 % 26 % 24 % 31 %
United States 33 % 32 % 31 % 17 % 61 % 43 % 56 % 62 %
Total equity 31 % 27 % 25 % 21 % 50 % 34 % 39 % 45 %
Multi-Asset/Balanced 7 % 9 % 8 % 1 % 12 % 14 % 17 % 76 %
Fixed Income
Tax-free 40 % 35 % 36 % 43 % 46 % 39 % 43 % 50 %
Taxable
Global/international 12 % 11 % 14 % 75 % 11 % 25 % 46 % 80 %
United States 53 % 16 % 12 % 54 % 39 % 18 % 10 % 6 %
Total fixed income 27 % 18 % 20 % 60 % 26 % 28 % 38 % 57 %
__________________1 AUM measured in the 1-year benchmark and peer group rankings represents 85%
and 86% of our total AUM as of
2 The benchmark comparisons are based on each fund's return as compared to a
market index that has been selected to be generally consistent with the
investment objectives of the fund.
3 The peer group rankings are sourced from Lipper, a
Morningstar or eVestment and various international third-party providers in
each fund's market and were based on an absolute ranking of returns. © 2019
Morningstar, Inc. All rights reserved. The information herein: (1) is
proprietary to Morningstar and/or its content providers; (2) may not be
copied or distributed; and (3) is not warranted to be accurate, complete or
timely. Neither Morningstar nor its content providers are responsible for any
damages or losses arising from any use of this information.
For products with multiple share classes, rankings for all share classes with applicable history in their respective time periods are included. Rankings for most institutional separate accounts are as of the prior quarter-end due to timing of availability of information. Private equity and debt funds, certain privately-offered emerging market and real estate funds, cash management funds and certain hedge and other funds are not included. Certain other funds and products were also excluded because of limited benchmark or peer group data. Had this data been available, the results may have been different. These results assume the reinvestment of dividends, are based on data available as ofJanuary 15, 2020 and are subject to revision. While we remain focused on achieving strong long-term performance, our future benchmark and peer group rankings may vary from our past performance. OPERATING REVENUES The table below presents the percentage change in each operating revenue category. Three Months Ended December 31, Percent (in millions) 2019 2018 Change
Investment management fees
31.5 29.8 6 %
Total Operating Revenues $ 1,412.7 $ 1,411.5 0 %
26--------------------------------------------------------------------------------
Table of Contents
Investment Management Fees Investment management fees are generally calculated under contractual arrangements with our investment products and the products for which we provide sub-advisory services as a percentage of AUM. Annual fee rates vary by investment objective and type of services provided. Fee rates for products sold outside of theU.S. are generally higher than forU.S. products. Investment management fees increased$7.9 million for the three months endedDecember 31, 2019 primarily due to higher performance fees and a 2% increase in average AUM, partially offset by a lower effective investment management fee rate. The increase in average AUM occurred primarily in theU.S. taxable fixed income investment objective, as well as all other objectives other than the global/international objectives which decreased. The increase occurred primarily in theU.S. sales region, and was partially offset by declines in all international sales regions exceptAsia-Pacific . Our effective investment management fee rate excluding performance fees (annualized investment management fees excluding performance fees divided by average AUM) decreased to 55.2 basis points for the three months endedDecember 31, 2019 , from 56.2 basis points for the same period in the prior fiscal year. The rate decrease was primarily due to lower weighting of AUM in the global/international investment objectives, which generally have higher fee rates, partially offset by higher rates and mix of AUM in theU.S. taxable fixed income investment objective. Performance-based investment management fees were$17.4 million and$4.1 million for the three months endedDecember 31, 2019 and 2018, with the increase primarily due to performance fees earned from a private debt fund and separate accounts. Our product offerings and global operations are diverse. As such, the impact of future changes in AUM on investment management fees will be affected by the relative mix of investment objective, geographic region, distribution channel and investment vehicle of the assets. Sales and Distribution Fees Sales and distribution fees primarily consist of upfront sales commissions and ongoing distribution fees. Sales commissions are earned from the sale of certain classes of sponsored funds at the time of purchase ("commissionable sales") and may be reduced or eliminated depending on the amount invested and the type of investor. Therefore, sales fees will change with the overall level of gross sales, the size of individual transactions, and the relative mix of sales between different share classes and types of investors. Our sponsored mutual funds generally pay us distribution fees in return for sales, marketing and distribution efforts on their behalf. The majority ofU.S. -registered mutual funds, with the exception of certain money market funds, have adopted distribution plans under Rule 12b-1 (the "Rule 12b-1 Plans") promulgated under the Investment Company Act of 1940. The Rule 12b-1 Plans permit the funds to pay us for marketing, marketing support, advertising, printing and sales promotion services relating to the distribution of their shares, subject to the Rule 12b-1 Plans' limitations on amounts based on daily average AUM. Similar arrangements exist for the distribution of non-U.S. funds. We pay substantially all of our sales and distribution fees to the financial advisers and other intermediaries who sell our funds on our behalf. See the description of sales, distribution and marketing expenses below. Sales and distribution fees by revenue driver are presented below. Three Months Ended December 31, Percent (in millions) 2019 2018 Change Asset-based fees$ 287.8 $ 302.4 (5 %) Sales-based fees 59.8 49.6 21 % Contingent sales charges 3.9 2.8 39 %
Sales and Distribution Fees
Asset-based distribution fees decreased$14.6 million for the three months endedDecember 31, 2019 primarily due to decreases of$8.7 million from a lower mix ofU.S. Class C assets which have higher fee rates than other share classes and$4.1 million in non-U.S. product fees primarily due to a 4% decrease in the related average AUM. 27
--------------------------------------------------------------------------------
Table of Contents
Sales-based fees increased$10.2 million for the three months endedDecember 31, 2019 primarily due to$12.4 million from an 18% increase in total commissionable sales, partially offset by a$2.1 million decrease mainly from a higher mix ofU.S. product fixed income sales, which typically generate lower sales fees than equity products. Commissionable sales represented 8% and 7% of total sales for the three months endedDecember 31, 2019 and 2018. Contingent sales charges are earned from investor redemptions within a contracted period of time. Substantially all of these charges are levied on certain shares sold without a front-end sales charge, and they vary with the mix of redemptions of these shares. Shareholder Servicing Fees Substantially all shareholder servicing fees are earned from our sponsored funds for providing transfer agency services, which include providing shareholder statements, transaction processing, customer service and tax reporting. These fees are primarily determined based on a percentage of AUM and either the number of transactions in shareholder accounts or the number of shareholder accounts, while fees from certain funds are based only on AUM. Shareholder servicing fees also include fund reimbursements of expenses incurred while providing transfer agency services. Shareholder servicing fees decreased$5.1 million for the three months endedDecember 31, 2019 primarily due to lower levels of transactions and fund expense reimbursement revenue. Other Other revenue increased$1.7 million for the three months endedDecember 31, 2019 primarily due to higher miscellaneous fee revenues, largely offset by lower interest and dividend income from consolidated investment products ("CIPs"). OPERATING EXPENSES The table below presents the percentage change in each operating expense category. Three Months Ended December 31, Percent (in millions) 2019 2018 Change
Sales, distribution and marketing
389.4 355.0 10 %
Information systems and technology 62.5 60.9 3 % Occupancy
34.5 31.2 11 %
General, administrative and other 89.7 108.4 (17 %) Total Operating Expenses
$ 1,020.0 $ 1,000.0 2 % Sales, Distribution and Marketing Sales, distribution and marketing expenses primarily relate to services provided by financial advisers, broker-dealers and other third parties to our sponsored funds, including marketing support services. Substantially all sales expenses are incurred from the same commissionable sales transactions that generate sales fee revenues and are determined as a percentage of sales. Substantially all distribution expenses are incurred from assets that generate distribution fees and are determined as a percentage of AUM. Marketing support expenses are based on AUM, sales or a combination thereof. Also included is the amortization of deferred sales commissions related to upfront commissions on shares sold without a front-end sales charge. The deferred sales commissions are amortized over the periods in which commissions are generally recovered from related revenues. Sales, distribution and marketing expenses by cost driver are presented below. Three Months Ended December 31, Percent (in millions) 2019 2018 Change Asset-based expenses$ 360.8 $ 370.3 (3 %) Sales-based expenses 62.8 52.5 20 % Amortization of deferred sales commissions 20.3 21.7 (6 %) Sales, Distribution and Marketing$ 443.9 $ 444.5 0 % 28
--------------------------------------------------------------------------------
Table of Contents
Asset-based expenses decreased$9.5 million for the three months endedDecember 31, 2019 primarily due to$8.4 million from a 2% decrease in the related average AUM and$5.6 million from a lower mix ofU.S. Class C assets which have higher expense rates than other share classes, partially offset by a$2.0 million increase in placement fees. Distribution expenses are generally not directly correlated with distribution fee revenues due to certain international fee structures that do not provide full recovery of distribution costs. Sales-based expenses increased$10.3 million for the three months endedDecember 31, 2019 primarily due to a$12.1 million increase from an 18% increase in total commissionable sales, partially offset by a$1.1 million decrease mainly from a higher mix ofU.S. product fixed income sales which typically generate lower sales commissions than equity products. Amortization of deferred sales commissions decreased$1.4 million for the three months endedDecember 31, 2019 , as lower expense related to non-U.S. shares sold without a front-end sales charge was largely offset by higher expense resulting from increased sales ofU.S. shares. Compensation and Benefits Compensation and benefit expenses increased$34.4 million for the three months endedDecember 31, 2019 due to increases of$22.1 million in salaries, wages and benefits, and$12.3 million in variable compensation. Salaries, wages and benefits increased primarily due to increases of$16.6 million from acquisition-related retention compensation,$5.7 million for annual salary increases that were effectiveDecember 1, 2019 and 2018, and$5.4 million in termination benefits, partially offset by a$6.5 million decrease from lower average staffing levels. Variable compensation increased primarily due to a$16.1 million increase for acquired firms' performance bonus plans, partially offset by decreases of$4.2 million in bonus expense due to lower expectations of our annual performance and$3.1 million in stock and stock unit award amortization. We expect to incur additional acquisition-related retention expenses of approximately$60 million during the remainder of the current fiscal year, and annual amounts beginning at approximately$70 million in the fiscal year endingSeptember 30, 2021 and gradually decreasing by approximately$10 million per year in the following three fiscal years. We also expect to incur additional termination benefit expenses of approximately$11 million during the remainder of the fiscal year primarily related to moving certain positions to lower cost jurisdictions and outsourcing our fund administration services. Variable compensation as a percentage of compensation and benefits was 32% for the three months endedDecember 31, 2019 and 2018. AtDecember 31, 2019 , our global workforce had decreased to approximately 9,600 employees from approximately 9,800 atDecember 31, 2018 . We continue to place a high emphasis on our pay for performance philosophy. As such, any changes in the underlying performance of our investment products or changes in the composition of our incentive compensation offerings could have an impact on compensation and benefit expenses going forward. However, in order to attract and retain talented individuals, our level of compensation and benefit expenses may increase more quickly or decrease more slowly than our revenue. Information Systems and Technology Information systems and technology expenses increased$1.6 million for the three months endedDecember 31, 2019 primarily due to higher software costs, partially offset by lower technology consulting costs. Details of capitalized information systems and technology costs are shown below. Three Months Ended December 31, (in millions) 2019 2018
Net carrying value at beginning of period
7.6 9.5
Amortization (11.5 ) (11.8 )
Net Carrying Value at End of Period
29--------------------------------------------------------------------------------
Table of Contents
Occupancy
We conduct our worldwide operations using a combination of leased and owned facilities. Occupancy expenses include rent and other facilities-related costs including depreciation and utilities. Occupancy expenses increased$3.3 million for the three months endedDecember 31, 2019 primarily due to higher depreciation and other expenses related to our new buildings inSan Mateo, California and Poznan,Poland which we occupied beginning in the second half of fiscal year 2019. General, Administrative and Other General, administrative and other operating expenses primarily consist of fund-related service fees payable to external parties, professional fees, travel and entertainment, advertising and promotion, and other miscellaneous expenses. General, administrative and other operating expenses decreased$18.7 million for the three months endedDecember 31, 2019 primarily due to a prior-year$13.9 million litigation settlement. Professional fees decreased$4.3 million and intangible asset amortization increased$4.1 million , both primarily related to the prior-year acquisition ofBenefit Street Partners L.L.C. ("BSP"). We are committed to investing in advertising and promotion in response to changing business conditions, and to advance our products where we see continued or potential new growth opportunities. As a result of potential changes in our strategic marketing campaigns, the level of advertising and promotion expenses may increase more rapidly, or decrease more slowly, than our revenues. OTHER INCOME (EXPENSES) Other income (expenses) consisted of the following: Three Months Ended December 31, Percent (in millions) 2019 2018 Change Investment and other income (losses), net$ 59.6 $ (59.1 ) NM Interest expense (6.7 ) (6.4 ) 5 % Other Income (Expenses), Net$ 52.9 $ (65.5 ) NM Investment and other income (losses), net consists primarily of dividend and interest income, income (losses) from equity method investees, gains (losses) on investments held by the Company and investments of CIPs, rental income and foreign currency exchange gains (losses). Other income (expenses), net increased$118.4 million for the three months endedDecember 31, 2019 primarily due to the impact of increased market valuations on investment income, partially offset by foreign exchange losses. Equity method investees generated income of$39.1 million as compared to losses of$37.6 million in the prior year primarily due to investments held by a global equity fund. Net losses on investments of CIPs decreased$40.7 million primarily from holdings of aU.S. fixed income fund and various multi-asset/balanced and global/international funds. Investments held by the Company generated$7.8 million of net gains as compared to net losses of$15.8 million in the prior year primarily from various nonconsolidated funds and other equity and debt securities. Weakening of theU.S. dollar against the Euro resulted in$8.5 million of foreign exchange losses on cash and cash equivalents denominated inU.S. dollars held inEurope , as compared to net gains of$4.7 million in the prior year. Significant portions of the net gains (losses) of CIPs are offset in noncontrolling interests in our consolidated statements of income. Our investments in sponsored funds include initial cash investments made in the course of launching mutual fund and other investment product offerings, as well as investments for other business reasons. The market conditions that impact our AUM similarly affect the investment income earned or losses incurred on our investments in sponsored funds. 30
--------------------------------------------------------------------------------
Table of Contents
Our cash, cash equivalents and investments portfolio by investment objective and accounting classification atDecember 31, 2019 , excluding third-party assets of CIPs, was as follows: Accounting Classification1 Cash and Equity Cash Securities, Equity Direct Equivalents at Method Investments Total Direct (in millions) and Other2 Fair Value Investments in CIPs Portfolio Cash and Cash Equivalents$ 5,817.3 $ - $ - $ -$ 5,817.3 Investments Equity Global/international 9.4 106.7 656.5 162.5 935.1 United States 9.6 2.9 15.2 48.6 76.3 Total equity 19.0 109.6 671.7 211.1 1,011.4 Multi-Asset/Balanced 5.4 15.9 43.4 100.5 165.2 Fixed Income Tax-free - - - 11.1 11.1 Taxable Global/international 43.8 197.8 116.2 211.5 569.3 United States 28.4 613.1 139.4 212.9 993.8 Total fixed income 72.2 810.9 255.6 435.5 1,574.2 Total investments 96.6 936.4 970.7 747.1 2,750.8 Total Cash and Cash Equivalents and Investments$ 5,913.9 $ 936.4 $ 970.7 $ 747.1 $ 8,568.1 ______________
1 See Note 1 - Significant Accounting Policies in the notes to consolidated
financial statements in Item 8 of Part II of our Form 10-K for fiscal year
2019 for information on investment accounting classifications.
2 Other consists of $49.5 million of debt securities and $11.4 million ofinvestments in life settlement contracts, both of which are measured at fair
value, and
TAXES ON INCOME Our effective income tax rate was 21.9% and 24.9% for the three months endedDecember 31, 2019 and 2018. The rate decrease was primarily due to a statutory rate reduction enacted inIndia inDecember 2019 , which also resulted in a tax benefit from the revaluation of net deferred tax liabilities, and a higher forecasted mix of earnings in lower tax jurisdictions compared to the prior year. Our effective income tax rate reflects the relative contributions of earnings in the jurisdictions in which we operate, which have varying tax rates. Changes in our pre-tax income mix, tax rates or tax legislation in such jurisdictions may affect our effective income tax rate and net income. LIQUIDITY AND CAPITAL RESOURCES Cash flows were as follows: Three Months Ended December 31, (in millions) 2019 2018 Operating cash flows$ 31.7 $ 254.8 Investing cash flows (29.6 ) (99.1 ) Financing cash flows (9.3 ) (396.1 ) 31
--------------------------------------------------------------------------------
Table of Contents
Net cash provided by operating activities decreased during the three months endedDecember 31, 2019 primarily due to net purchases of our investments as compared to net liquidations in the prior year, and higher net purchases of investments by CIPs. Net cash used in investing activities decreased primarily due to lower net purchases of our investments and lower net deconsolidation of CIPs. Net cash used in financing activities decreased primarily due to lower repurchases of common stock, higher net subscriptions in CIPs by noncontrolling interests, and proceeds from debt of CIPs. The assets and liabilities of CIPs attributable to third-party investors do not impact our liquidity and capital resources. We have no right to the CIPs' assets, other than our direct equity investment in them and investment management and other fees earned from them. The debt holders of the CIPs have no recourse to our assets beyond the level of our direct investment, therefore we bear no other risks associated with the CIPs' liabilities. Accordingly, the assets and liabilities of CIPs, other than our direct investments in them, are excluded from the amounts and discussion below. Our liquid assets and debt consisted of the following: December 31, September 30, (in millions) 2019 2019
Assets
Cash and cash equivalents$ 5,817.3 $ 5,803.4 Receivables 710.9 740.0 Investments 2,082.2 2,029.4 Total Liquid Assets$ 8,610.4 $ 8,572.8 Liability Debt$ 697.0 $ 696.9 Liquidity Liquid assets consist of cash and cash equivalents, receivables and certain investments. Cash and cash equivalents atDecember 31, 2019 primarily consist of money market funds and deposits with financial institutions. Liquid investments consist of investments in sponsored and other funds, direct investments in redeemable CIPs, other equity and debt securities, and time deposits with maturities greater than three months. We utilize a significant portion of our liquid assets to satisfy operational and regulatory requirements and fund capital contributions to sponsored and other products. Certain of our subsidiaries are required by our internal policy or regulation to maintain minimum levels of capital, and may be restricted in their ability to transfer cash to their parent companies. Liquid assets used to satisfy these purposes were$3,442.2 million and$3,429.0 million atDecember 31, 2019 andSeptember 30, 2019 , including$271.4 million and$263.3 million that were restricted by regulatory requirements. Should we require more capital than is available for use, we could elect to reduce the level of discretionary activities, such as share repurchases or investments in sponsored and other products, or we could raise capital through debt or equity issuance. These alternatives could result in increased interest expense, decreased dividend or interest income, or other dilution to our earnings. Capital Resources We believe that we can meet our present and reasonably foreseeable operating cash needs and future commitments through existing liquid assets, continuing cash flows from operations, the ability to issue debt or equity securities and borrowing capacity under our uncommitted private placement program. In prior fiscal years, we issued senior unsecured unsubordinated notes for general corporate purposes, to redeem outstanding notes and to finance an acquisition. AtDecember 31, 2019 ,$699.4 million of the notes were outstanding with an aggregate face value of$700.0 million . The notes were issued at fixed interest rates and consist of$300.0 million at 2.80% per annum which mature in 2022 and$400.0 million at 2.85% per annum which mature in 2025. Interest on the notes is payable semi-annually. The notes contain an optional redemption feature that allows us to redeem each series of notes prior to maturity in whole or in part at any time, at a make-whole redemption price. The indentures governing the notes contain limitations on our ability and the ability of our subsidiaries to pledge voting stock or profit participating equity interests in our subsidiaries to secure other debt without similarly securing the notes equally and ratably. The indentures also include requirements that must be met if we consolidate or merge with, or sell all of our assets to, another entity. We were in compliance with all debt covenants atDecember 31, 2019 . 32
--------------------------------------------------------------------------------
Table of Contents
AtDecember 31, 2019 , we had$500.0 million of short-term commercial paper available for issuance under an uncommitted private placement program which has been inactive since 2012 and is unrated. 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. If we are unable to access capital markets in a timely manner, our business could be adversely impacted. Uses of Capital We expect that our main uses of cash will be to invest in and grow our business, repurchase shares of our common stock, invest in our products, pay stockholder dividends, income taxes and operating expenses of the business, enhance technology infrastructure and business processes, fund property and equipment purchases, and repay and service debt. We declare dividends on a quarterly basis. We declared regular dividends of$0.27 and$0.26 per share during the three months endedDecember 31, 2019 and 2018. We currently expect to continue paying comparable regular dividends on a quarterly basis to holders of our common stock depending upon earnings and other relevant factors. We maintain a stock repurchase program to manage our equity capital with the objective of maximizing shareholder value. Our stock repurchase program is effected through regular open-market purchases and private transactions in accordance with applicable laws and regulations, and is not subject to an expiration date. The size and timing of these purchases will depend on price, market and business conditions and other factors. We repurchased 4.6 million shares of our common stock at a cost of$123.6 million during the three months endedDecember 31, 2019 , and 10.7 million shares at a cost of$326.9 million in the prior-year period. AtDecember 31, 2019 , 42.6 million shares remained available for repurchase under the authorization of 80.0 million shares approved by our Board of Directors inApril 2018 . We invested$8.9 million and$6.5 million , net of redemptions, into our sponsored products during the three months endedDecember 31, 2019 and 2018. OnFebruary 1, 2019 , we acquired all of the outstanding ownership interests in BSP for a purchase consideration of$720.1 million in cash. During fiscal year 2019, we completed construction of two new buildings at our corporate headquarters campus inSan Mateo, California with a total cost of approximately$130 million and purchased an office building in Poznan,Poland with a total cost of approximately$86 million . The buildings are used in our business operations, and portions of theCalifornia campus are leased to third parties. The funds that we manage have their own resources available for purposes of providing liquidity to meet shareholder redemptions, including securities that can be sold or provided to investors as in-kind redemptions, and lines of credit. While we have no legal or contractual obligation to do so, as we have done in the past, we may voluntarily elect to provide the funds with direct or indirect financial support based on our business objectives. We did not provide financial or other support to our sponsored funds during the three months endedDecember 31, 2019 or during fiscal year 2019. CONTRACTUAL OBLIGATIONS AND COMMITMENTS AtDecember 31, 2019 , there were no material changes in our contractual obligations, commitments and federal transition tax liability as reported in our Form 10K for fiscal year 2019. CRITICAL ACCOUNTING POLICIES Our consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted inthe United States of America , which require the use of estimates, judgments, and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. These estimates, judgments, and assumptions are affected by our application of accounting policies. Actual results could differ from the estimates. The following are updates to our critical accounting policies disclosed in Management's Discussion and Analysis of Financial Condition and Results of Operations in our Form 10-K for fiscal year 2019. 33
--------------------------------------------------------------------------------
Table of Contents
Consolidation
We consolidate our subsidiaries and investment products in which we have a
controlling financial interest. We have a controlling financial interest when we
own a majority of the voting interest in a voting interest entity ("VOE") or are
the primary beneficiary of a variable interest entity ("VIE"). Substantially all
of our VIEs are investment products and our variable interests consist of our
equity ownership interests in and investment management fees earned from these
products. As of December 31, 2019 , we were the primary beneficiary of 33
investment product VIEs.
Business Combinations
Business combinations are accounted for by recognizing the acquired assets,
including separately identifiable intangible assets, and assumed liabilities at
their acquisition-date estimated fair values. Any excess of the purchase
consideration over the acquisition-date fair values of these identifiable assets
and liabilities is recognized as goodwill. Goodwill and indefinite-lived
intangible assets are tested for impairment annually and when an event occurs or
circumstances change that more likely than not reduce the fair value of the
related reporting unit or indefinite-lived intangible asset below its carrying
value. Definite-lived intangible assets are tested for impairment quarterly.
Subsequent to our annual impairment tests as of August 1, 2019 , we monitored
market conditions, including changes in our AUM and weighted-average cost of
capital, and their potential impact on the assumptions used in the annual
calculations of fair value to determine whether circumstances have changed that
would more likely than not reduce the fair value of the reporting unit below its
carrying value, or indicate that the indefinite-lived intangible assets might be
impaired. We also monitored fluctuations of our common stock per share price to
evaluate our market capitalization relative to the reporting unit as a whole.
During the three months ended December 31, 2019 , there were no events or
circumstances which would indicate that goodwill or indefinite-lived or
definite-lived intangible assets might be impaired.
While we believe that the assumptions used to estimate fair value in our
impairment tests are reasonable and appropriate, future changes in the
assumptions could result in recognition of impairment.
Fair Value Measurements
A substantial amount of our investments is recorded at fair value or amounts
that approximate fair value on a recurring basis. We use a three-level fair
value hierarchy that prioritizes the inputs to valuation techniques used to
measure fair value based on whether the inputs to those valuation techniques are
observable or unobservable.
As of December 31, 2019 , Level 3 assets represented 23% of total assets measured
at fair value, substantially all of which related to CIPs' investments in equity
and debt securities, and real estate. There were no transfers into or out of
Level 3 during the three months ended December 31, 2019 .
Revenues
We earn revenue primarily from providing investment management and related
services to our customers. In addition to investment management, services
include fund administration, sales and distribution, and shareholder servicing.
Revenues are recognized when our obligations related to the services are
satisfied and it is probable that a significant reversal of the revenue amount
would not occur in future periods. The obligations are satisfied over time as
the services are rendered, except for the sales and distribution obligations for
the sale of shares of sponsored funds, which are satisfied on trade date.
Multiple services included in customer contracts are accounted for separately
when the obligations are determined to be distinct.
Investment management fees, other than performance-based fees, and distribution
fees are determined based on a percentage of AUM, primarily on a monthly basis
using daily average AUM. Performance-based investment management fees are
generated when investment product performance exceeds targets established in
customer contracts.
AUM is generally based on the fair value of the underlying securities held by
investment products and is calculated using fair value methods derived primarily
from unadjusted quoted market prices, unadjusted independent third-party broker
or dealer price quotes in active markets, or market prices or price quotes
adjusted for observable price movements after the close of the primary market.
The fair values of securities for which market prices are not readily available
are valued internally using various methodologies which incorporate significant
unobservable inputs as appropriate for each security type. As of December 31,
2019 , our total AUM by fair value hierarchy level was 50% Level 1, 45% Level 2
and 5% Level 3.
NEW ACCOUNTING GUIDANCE
See Note 2 - New Accounting Guidance in the notes to consolidated financial
statements in Item 1 of Part I of this Form 10Q.
34--------------------------------------------------------------------------------
Table of Contents
RISK FACTORS For any capitalized terms used but not defined herein, see "Item 1 - Business - Regulation" included in Part I of our Form 10K for the fiscal year endedSeptember 30, 2019 . MARKET AND VOLATILITY RISKS Volatility and disruption of the capital and credit markets, and adverse changes in the global economy, may significantly affect our results of operations and may put pressure on our financial results. The capital and credit markets may from time to time experience volatility and disruption worldwide. Declines in global financial market conditions have in the past resulted in significant decreases in our AUM, revenues and income, and future declines may further negatively impact our financial results. Such declines have had, and may in the future have, an adverse impact on our results of operations. We may need to modify our business, strategies or operations and we may be subject to additional constraints or costs in order to compete in a changing global economy and business environment. The amount and mix of our AUM are subject to significant fluctuations. Fluctuations in the amount and mix of our AUM may be attributable in part to market conditions outside of our control that have had, and in the future could have, a negative impact on our revenues and income. We derive substantially all of our operating revenues and net income from providing investment management and related services to investors in jurisdictions worldwide through our investment products, which include our sponsored funds, as well as institutional and high-net-worth separate accounts, and sub-advised products. In addition to investment management, our services include fund administration, sales and distribution, and shareholder servicing. We may perform services directly or through third parties. The level of our revenues depends largely on the level and relative mix of AUM. Our investment management fee revenues are primarily based on a percentage of the value of AUM and vary with the nature and strategies of our products. Any decrease in the value or amount of our AUM because of market volatility or other factors, such as a decline in the price of stocks, in particular market segments or in the securities market generally, negatively impacts our revenues and income. We are subject to significant risk of asset volatility from changes in the global financial, equity, debt and commodity markets. Individual financial, equity, debt and commodity markets may be adversely affected by financial, economic, political, electoral, diplomatic or other instabilities that are particular to the country or region in which a market is located, including without limitation local acts of terrorism, economic crises, political protests, insurrection or other business, social or political crises. Global economic conditions, exacerbated by war, terrorism, natural disasters or financial crises, changes in the equity, debt or commodity marketplaces, changes in currency exchange rates, interest rates, inflation rates, the yield curve, defaults by trading counterparties, bond defaults, revaluation and bond market liquidity risks, geopolitical risks, the imposition of economic sanctions and other factors that are difficult to predict, affect the mix, market values and levels of our AUM. For example, changes in financial market prices, currency exchange rates and/or interest rates have in the past caused, and could in the future cause, the value of our AUM to decline, which would result in lower investment management fee revenues. Changing market conditions could also cause an impairment to the value of our goodwill and other intangible assets. Our funds may be subject to liquidity risks or an unanticipated large number of redemptions. Due to market volatility or other events or conditions described above, our funds may need to sell securities or instruments that they hold, possibly at a loss, or draw on any available lines of credit, to obtain cash to maintain sufficient liquidity or settle these redemptions, or settle in-kind with securities held in the applicable fund. While we have no legal or contractual obligation to do so, we have in the past provided, and may in the future at our discretion provide, financial support to our funds to enable them to maintain sufficient liquidity in any such event. Changes in investor preferences regarding our more popular products have in the past caused, and could in the future cause, sizable redemptions and lower the value of our AUM, which would result in lower revenue and operating results. Any decrease in the level of our AUM resulting from market declines, credit or interest rate volatility or uncertainty, increased redemptions or other factors could negatively impact our revenues and income. A shift in our asset mix toward lower fee products may negatively impact our revenues. Changing market conditions and investor preferences may cause a shift in our asset mix toward certain lower fee products, such as fixed income products, and away from equity and multi-asset/balanced products. This may cause a related decline in our revenues and income, as we generally derive higher fee revenues and income from our equity and certain multi-asset/balanced products than from our fixed income products. Increases in interest rates, in particular if rapid, as well as any uncertainty in the future direction of interest rates, may have a negative impact on our fixed income products. Although the shorter duration of the bond investments in many of these products may help mitigate the interest rate risk, rising interest rates or interest rate uncertainty typically decrease the total return on many bond investments due to lower market valuations of existing bonds. Further, changing market conditions and investor preferences also may cause a shift in our asset mix toward lower fee exchange-traded funds. Moreover, we generally derive higher investment management and distribution fees from our international products than from ourU.S. products, and higher sales fees from ourU.S. products than from our international products. Changing market conditions may cause a shift in our asset mix 35
--------------------------------------------------------------------------------
Table of Contents
between international andU.S. assets, potentially resulting in a decline in our revenues and income depending upon the nature of our AUM and the level of management fees we earn on that AUM. We may not effectively manage risks associated with the replacement of benchmark indices. The withdrawal and replacement of widely used benchmark indices such as the London Interbank Offered Rate ("LIBOR") with alternative benchmark rates may introduce a number of risks for our business, our clients and the financial services industry more widely. These include financial risks arising from potential changes in the valuation of financial instruments linked to benchmark indices, pricing and operational risks, and legal implementation and revised documentation risks. TheFCA in theU.K. , which regulates LIBOR, has announced that it will no longer compel panel banks to submit rates for LIBOR after 2021. Accordingly, the withdrawal and replacement of LIBOR may pose financial risks and uncertainties to our business. We also may face operational challenges adopting successor benchmarks. INVESTMENT AND PERFORMANCE RISKS Poor investment performance of our products could reduce the level of our AUM or affect our sales, and negatively impact our revenues and income. Our investment performance, along with achieving and maintaining superior distribution and client service, is critical to the success of our business. Strong investment performance often stimulates sales of our products. Poor investment performance as compared to third-party benchmarks or competitive products has in the past led, and could in the future lead, to a decrease in sales of our products and stimulate redemptions from existing products, generally lowering the overall level of AUM and reducing the management fees we earn. There is no assurance that past or present investment performance in our products will be indicative of future performance. If we fail, or appear to fail, to address successfully and promptly the underlying causes of any poor investment performance, we may be unsuccessful in repairing any existing harm to our performance and our future business prospects would likely be negatively affected. Harm to our reputation may negatively impact our revenues and income. Our reputation is critical to the success of our business. We believe that our brand names have been, and continue to be, well received both in our industry and with our clients, reflecting the fact that our brands, like our business, are based in part on trust and confidence. If our reputation is harmed, existing clients may reduce amounts held in, or withdraw entirely from, our products, or our clients and products may terminate their management agreements with us, which could reduce the amount of our AUM and cause us to suffer a corresponding loss in our revenues and income. In addition, reputational harm may prevent us from attracting new clients or developing new business. GLOBAL OPERATIONAL RISKS Our business operations are complex and a failure to perform operational tasks properly or the misrepresentation of our services and products resulting, without limitation, in the termination of investment management agreements representing a significant portion of our AUM, could have an adverse effect on our revenues and income. Through our subsidiaries, we provide investment management and related services to investors globally. In order to be competitive and comply with our agreements, we must properly perform our fund and portfolio administration and related responsibilities, including portfolio recordkeeping and accounting, security pricing, corporate actions, investment restrictions compliance, daily net asset value computations, account reconciliations, and required distributions to fund shareholders. Many of our operations are complex and dependent on our ability to process and monitor a large number of transactions effectively, which may occur across numerous markets and currencies at high volumes and frequencies. Although we expend considerable resources on internal controls, supervision, technology and training in an effort to ensure that such transactions do not violate applicable guidelines, rules and regulations or adversely affect our clients, counterparties or us, our operations are ultimately dependent on our employees, as well as others involved in our business, such as third-party vendors, providers and other intermediaries, and subject to potential human errors. Our employees and others involved in our business may, from time to time, make mistakes that are not always immediately detected, which may disrupt our operations, cause losses, lead to regulatory fines or sanctions, litigation, or otherwise damage our reputation. In addition, any misrepresentation of our services and products in advertising materials, public relations information, social media or other external communications could also adversely affect our reputation and business prospects. Our investment management fees, which represent the majority of our revenues, are dependent on fees earned under investment management agreements that we have with our products and clients. Our revenues could be adversely affected if such agreements representing a significant portion of our AUM are terminated. Further, certain of our subsidiaries may act as general partner for various investment partnerships, which may subject them to liability for the partnerships' liabilities. If we fail to perform and monitor our operations properly, our business could suffer and our revenues and income could be adversely affected. We face risks, and corresponding potential costs and expenses, associated with conducting operations and growing our business in numerous countries. We sell our products, such as our funds and strategies, and offer our investment management and related services, in many different regulatory jurisdictions around the world, and intend to continue to expand our operations internationally. As we do so, we will continue to face challenges to the adequacy of our resources, procedures and controls to operate our business consistently and effectively. In order to remain competitive, we must be proactive and prepared to implement 36
--------------------------------------------------------------------------------
Table of Contents
necessary resources when growth opportunities present themselves, whether as a result of a business acquisition or rapidly increasing business activities in particular markets or regions. Local regulatory environments may vary widely in terms of scope, adequacy and sophistication. Similarly, local distributors, and their policies and practices as well as financial viability, may vary widely and they may be inconsistent or less developed or mature than other more internationally focused distributors. Notwithstanding potential long-term cost savings, growth of our international operations may involve near-term increases in expenses, as well as additional capital costs, such as information systems and technology costs, and costs related to compliance with particular regulatory or other local requirements or needs. Local requirements or needs may also place additional demands on sales and compliance personnel and resources, such as meeting local language requirements, while also integrating personnel into an organization with a single operating language. Finding, hiring and retaining additional, well-qualified personnel and crafting and adopting policies, procedures and controls to address local or regional requirements remain challenges as we expand our operations internationally. Moreover, regulators in non-U.S. jurisdictions could also change their policies or laws in a manner that might restrict or otherwise impede our ability to distribute or authorize products or maintain their authorizations in their respective markets. Any of these local requirements, activities or needs could increase the costs and expenses we incur in a specific jurisdiction without any corresponding increase in revenues and income from operating in the jurisdiction. Certain laws and regulations both inside and outside theU.S. have extraterritorial application. This may lead to duplicative or conflicting legal or regulatory burdens and additional costs and risks. For example, although negotiations between theU.K. and EU regarding Brexit began inJune 2017 , it is still unclear what terms, if any, may be agreed to in the final outcome and for any transitional period, and the ultimate impact on us. In addition, from time to time, we enter into joint ventures or take minority stakes in companies in which we typically do not have control. These investments may involve risks, including the risk that the controlling stakeholder or joint venture partner may have business interests, strategies or goals that are inconsistent with ours. The business decisions or other actions or omissions of the controlling stakeholder, joint venture partner or the entity itself may result in liability to us or harm to our reputation, or adversely affect the value of our investment in the entity. Our increasing focus on international markets as a source of investments and sales of our products subjects us to increased exchange rate and market-specific political, economic or other risks that may adversely impact our revenues and income generated overseas. While we maintain a significant portion of our operations in theU.S. , we also provide services and earn revenues inEurope , theMiddle East andAfrica ,Asia-Pacific ,Canada , TheBahamas andLatin America . As a result, we are subject to foreign currency exchange risk through our non-U.S. operations. Fluctuations in the exchange rates to theU.S. dollar have affected, and may in the future affect, our financial results from one period to the next. While we have taken steps to reduce our exposure to foreign exchange risk, for example, by denominating a significant amount of our transactions inU.S. dollars, our situation may change in the future. Appreciation of theU.S. dollar could in the future moderate revenues from managing our products internationally, or could affect relative investment performance of certain of our products invested in non-U.S. securities. In addition, we have risk associated with the foreign exchange revaluation ofU.S. dollar balances held by certain non-U.S. subsidiaries for which the local currency is the functional currency. Separately, management fees that we earn tend to be higher in connection with non-U.S. AUM than withU.S. AUM. Consequently, downturns in international markets have in the past had, and could in the future have, a significant effect on our revenues and income. Moreover, our emerging market portfolios and revenues derived from managing these portfolios are subject to significant risks of loss from financial, economic, political and diplomatic developments, currency fluctuations, social instability, changes in governmental policies, expropriation, nationalization, asset confiscation and changes in legislation related to non-U.S. ownership. International trading markets, particularly in some emerging market countries, are often smaller, less liquid, less regulated and significantly more volatile than those in theU.S. As our business continues to grow in non-U.S. markets, any ongoing and future business, economic, political or social unrest affecting these markets, in addition to any direct consequences such unrest may have on our personnel and facilities located in the affected area, may also have a more lasting impact on the long-term investment climate in these and other areas and, as a result, our AUM and the corresponding revenues and income that we generate from them may be negatively affected. We may review and pursue strategic transactions that could pose risks to our business. As part of our business strategy, we regularly consider, and have discussions with respect to, potential strategic transactions, including acquisitions, dispositions, consolidations, joint ventures or similar transactions, some of which may be deemed material. There can be no assurance that we will find suitable candidates for strategic transactions at acceptable prices, have sufficient capital resources to accomplish our strategy, or be successful in entering into agreements for desired transactions. In addition, such transactions typically involve a number of risks and present financial, managerial and operational challenges. Acquisitions and related transactions pose the risk that any business we acquire may lose customers or employees or could underperform relative to expectations. We could also experience financial or other setbacks if transactions encounter unanticipated problems, including problems related to execution or integration. Strategic transactions typically are announced publicly even though they may remain subject to numerous closing conditions, contingencies and approvals, and there is no assurance that any announced transaction will actually be consummated. 37
--------------------------------------------------------------------------------
Table of Contents
Future transactions may also further increase our leverage or, if we issue equity securities to pay for acquisitions, dilute the holdings of our existing stockholders. COMPETITION AND DISTRIBUTION RISKS Strong competition from numerous and sometimes larger companies with competing offerings and products could limit or reduce sales of our products, potentially resulting in a decline in our market share, revenues and income. We compete with numerous investment management companies, securities brokerage and investment banking firms, insurance companies, banks and other financial institutions. Our products also compete with products offered by these competitors, as well as with real estate investment trusts, hedge funds and other products. The periodic establishment of new investment management companies and other competitors increases the competition that we face. At the same time, consolidation in the financial services industry has created stronger competitors with greater financial resources and broader distribution channels than our own. Competition is based on various factors, including, among others, business reputation, investment performance, product mix and offerings, service quality and innovation, distribution relationships, and fees charged. Further, although we may offer certain types of exchange-traded funds, to the extent that there is a trend among existing or potential clients in favor of lower fee index and other exchange-traded funds, it may favor our competitors who may offer such products that are more established or on a larger scale than we do. Additionally, competing securities broker-dealers and banks, upon which we rely to distribute and sell certain of our funds and other products, may also sell their own proprietary funds and products, which could limit the distribution of our products. To the extent that existing or potential clients, including securities broker-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 income could decline. Our ability to attract and retain AUM is also dependent on the relative investment performance of our products, offering a mix of products and strategies that meets investor demands, and our ability to maintain our investment management fees and pricing structure at competitive levels. Increasing competition and other changes in the third-party distribution and sales channels on which we depend could reduce our income and hinder our growth. We derive nearly all of our fund sales through third-party broker-dealers, banks, investment advisers and other financial intermediaries. Because we rely on third-party distribution and sales channels to sell our products, we do not control the ultimate investment recommendations given by them to clients. Increasing competition for these distribution and sales channels, and regulatory changes and initiatives, have caused our distribution costs to rise and could cause further cost increases in the future, or could otherwise negatively impact the distribution of our products. Higher distribution costs lower our income, and consolidations in the broker-dealer or banking industries could also adversely impact our income. A failure to maintain our third-party distribution and sales channels, or a failure to maintain strong business relationships with our distributors and other intermediaries, may impair our distribution and sales operations. Any inability to access and successfully sell our products to clients through such third-party channels could have a negative effect on our level of AUM and adversely impact our business. Moreover, there is no assurance that we will continue to have access to the third-party financial intermediaries that currently distribute our products, or that we will continue to have the opportunity to offer all or some of our existing products through them. If several of the major financial advisers that distribute our products were to cease operations or limit or otherwise end the distribution of our products, it could have a significant adverse impact on our income. Further, the standards of conduct and disclosure and reporting requirements, with respect to fees, products, services and possible conflicts of interest, applicable to broker-dealers and other financial intermediaries in theU.S. , remain subject to change and enhancement pursuant to business and regulatory developments and requirements, including with respect to investor suitability obligations, enhanced investor protections for retail customers, and increased compliance requirements. In addition, theU.K. ,the Netherlands and the EU, through MiFID II, have adopted regimes that ban, or may limit, the payment of commissions and other inducements to intermediaries in relation to certain sales to retail customers in those jurisdictions, and similar regimes are under consideration in several other jurisdictions. Depending on their exact terms, such regimes may result in existing flows of business moving to less profitable channels or even to competitors providing substitutable products outside the regime. Arrangements with non-independent advisers will also be affected as narrower rules related to the requirement that commissions reflect an enhancement of the service to customers come into effect, along with a prescriptive list of permissible non-monetary benefits. The interpretation of the inducements rules has also resulted in major changes to how fund managers, including us, finance investment research with many firms, by opting to pay for third-party investment research for client accounts covered by MiFID II. 38
--------------------------------------------------------------------------------
Table of Contents
THIRD-PARTY RISKS
Any failure of our third-party providers to fulfill their obligations, or our
failure to maintain good relationships with our providers, could adversely
impact our business. We currently, and may in the future, depend on a number of
third-party providers to support various operational, administrative, market
data, distribution, and other business needs of our company. In addition, we
may, from time to time, transfer vendor contracts and services from one provider
to another. If our third-party providers fail to deliver required services on a
timely basis, or if we experience other negative service quality or relationship
issues with our providers, we may be exposed to significant costs and/or
operational difficulties, and our ability to conduct and grow our business may
be impaired. In addition, we are in the process of outsourcing certain of our
fund administration services for our funds to a third-party provider. Such
administrative and functional changes are costly and complex, and may expose us
to heightened operational risks. Any failure to mitigate such risks could result
in reputational harm to us, as well as financial losses to us and our clients.
The failure of any key provider or vendor to fulfill its obligations to us could
result in outcomes inconsistent with our or our clients' objectives and
requirements, result in legal liability and regulatory issues for us, and
otherwise adversely impact us.
We may be adversely affected if any of our third-party providers is subject to a
successful cyber or security attack. Due to our interconnectivity with
third-party vendors, advisors, central agents, exchanges, clearing organizations
and other financial institutions, we may be adversely affected if any of them is
subject to a successful cyber attack or other information security event,
including those arising due to the use of mobile technology or a third-party
cloud environment. Most of the software applications that we use in our business
are licensed from, and supported, upgraded and maintained by, third-party
vendors. Our third-party applications include enterprise cloud storage and cloud
computing application services provided and maintained by third-party vendors.
Any breach, suspension or termination of certain of these licenses or the
related support, upgrades and maintenance could cause temporary system delays or
interruption that could adversely impact our business. Our third-party
applications may include confidential and proprietary data provided by vendors
and by us.
TECHNOLOGY AND SECURITY RISKS
Our ability to manage and grow our business successfully can be impeded by
systems and other technological limitations. Our continued success in
effectively managing and growing our business depends on our ability to
integrate our varied accounting, financial, information, and operational systems
on a global basis. Moreover, adapting or developing the existing technology
systems we use to meet our internal needs, as well as client needs, industry
demands and new regulatory requirements, is also critical for our business. The
introduction of new technologies presents new challenges to us. We have an
ongoing need to upgrade and improve our technology continually, including our
data processing, financial, accounting, shareholder servicing and trading
systems. Further, we also must be proactive and prepared to implement new
technology when growth opportunities present themselves, whether as a result of
a business acquisition or rapidly increasing business activities in particular
markets or regions. These needs could present operational issues or require
significant capital spending, and may require us to reevaluate the current value
and/or expected useful lives of the technology we use, which could negatively
impact our results of operations. In addition, technology is subject to rapid
advancements and changes and our competitors may, from time to time, implement
newer technologies or more advanced platforms for their services and products,
including digital advisers and other advanced electronic systems, which could
adversely affect our business if we are unable to remain competitive.
Any significant limitation, failure or security breach of our information and
cyber security infrastructure, software applications, technology or other
systems that are critical to our operations could disrupt our business and harm
our operations and reputation. We are highly dependent upon the use of various
proprietary and third-party information and security technology, software
applications and other technology systems to operate our business. We are also
dependent on the continuity and effectiveness of our information and cyber
security infrastructure, management oversight and reporting framework, policies,
procedures and capabilities to protect our computer and telecommunications
systems and the data that reside on or are transmitted through them and
contracted third-party systems. We use technology on a daily basis in our
business to, among other things, support our business continuity and operations,
process and transmit confidential communications, store and maintain data,
obtain securities pricing information, process client transactions, and provide
reports and other customer services to our clients. Any disruptions,
inaccuracies, delays, theft, systems failures, data security or privacy
breaches, or cyber or other security breaches in these and other processes could
subject us to significant client dissatisfaction and losses, and damage our
reputation. We have been, and expect to continue to be, the subject of these
types of breaches and/or attacks. Although we take protective measures,
including measures to secure and protect information through system security
technology and our internal security procedures, there can be no assurance that
any of these measures will prove effective. The technology systems we use remain
vulnerable to unauthorized access, computer viruses, potential human errors and
other events and circumstances that have a security impact, such as an external
or internal hacker attack by one or more cyber criminals (including through the
use of phishing attacks, malware, ransomware and other methods and activities
maliciously designed to obtain and exploit confidential information and to cause
damage) or an authorized employee or vendor inadvertently or recklessly causing
us to release confidential information, which could materially harm our
operations and reputation.
39--------------------------------------------------------------------------------
Table of Contents
Potential system disruptions, failures or breaches of the technology we use or
the security infrastructure we rely upon, and the costs necessary to address
them, could result in: (i) significant material financial loss or costs,
(ii) the unauthorized disclosure or modification of sensitive or confidential
client and business information, (iii) loss of valuable information, (iv) breach
of client and vendor contracts, (v) liability for stolen assets, information or
identity, (vi) remediation costs to repair damage caused by the failure or
breach, (vii) additional security and organizational costs to mitigate against
future incidents, (viii) reputational harm, (ix) loss of confidence in our
business and products, (x) liability for failure to review and disclose
applicable incidents or provide relevant updated disclosure properly and timely,
(xi) regulatory investigations or actions, and/or (xii) legal claims,
litigation, and liability costs. Moreover, loss or unauthorized disclosure or
transfer of confidential and proprietary data or confidential customer
identification information could further harm our reputation and subject us to
liability under laws that protect confidential data and personal information,
resulting in increased costs or a decline in our revenues or common stock price.
Further, although we take precautions to password protect and encrypt our
laptops and sensitive information on our other mobile electronic devices, if
such devices are stolen, misplaced or left unattended, they may become
vulnerable to hacking or other unauthorized use, creating a possible security
risk, which may require us to incur additional administrative costs and/or take
remedial actions. In addition, the failure to manage and operate properly the
data centers we use could have an adverse impact on our business. 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.
Our inability to recover successfully, should we experience a disaster or other
business continuity problem, could cause material financial loss, regulatory
actions, legal liability, and/or reputational harm. Should we experience a local
or regional disaster or other business continuity problem, such as an
earthquake, hurricane, tsunami, terrorist attack, pandemic or other natural or
man-made disaster, our continued success will depend, in part, on the safety and
availability of our personnel, our office facilities and infrastructure, and the
proper functioning of our technology, computer, telecommunication and other
systems and operations that are critical to our business. While our operational
size, the diversity of locations from which we operate, and our various back-up
systems provide us with an advantage, should we experience a local or regional
disaster or other business continuity event, we could still experience
operational challenges, in particular depending upon how such a local or
regional event may affect our personnel across our operations or with regard to
particular aspects of our operations, such as key executives or personnel in our
technology groups. Moreover, as we grow our operations in new geographic
regions, the potential for particular types of natural or man-made disasters,
political, economic or infrastructure instabilities, information, technology or
security limitations or breaches, or other country- or region-specific business
continuity risks increases. Past disaster recovery efforts have demonstrated
that even seemingly localized events may require broader disaster recovery
efforts throughout our operations and, consequently, we regularly assess and
take steps to improve upon our existing business continuity plans. However, a
disaster on a significant scale or affecting certain of our key operating areas
within or across regions, or our inability to recover successfully following a
disaster or other business continuity problem, could adversely impact our
business and operations.
HUMAN CAPITAL RISKS
We depend on key personnel and our financial performance could be negatively
affected by the loss of their services. The success of our business will
continue to depend upon our key personnel, including our portfolio and fund
managers, investment analysts, investment advisers, sales and management
personnel and other professionals as well as our executive officers and business
unit heads. Competition for qualified, motivated, and highly-skilled executives,
professionals and other key personnel in the investment management industry
remains significant. Our success depends to a substantial degree upon our
ability to find, attract, retain and motivate qualified individuals, including
through competitive compensation packages, and upon the continued contributions
of these people. Global and/or local laws and regulations could impose
restrictions on compensation paid by financial institutions, which could
restrict our ability to compete effectively for qualified professionals. As our
business develops, we may need to increase the number of individuals that we
employ. Moreover, in order to retain certain key personnel, we may be required
to increase compensation to such individuals and increase our key management
succession planning, resulting in additional expense without a corresponding
increase in potential revenues. There is no assurance that we will be successful
in finding, attracting and retaining qualified individuals, and the departure of
key investment personnel, in particular, if not replaced, could cause us to lose
clients, which could have a material adverse effect on our financial condition,
results of operations and business prospects. In addition, due to the global
nature of our business, our key personnel may, from time to time, have reasons
to travel to regions susceptible to higher risk of civil unrest, organized crime
or terrorism, and we may be unable to ensure the safety of our personnel
traveling to such regions.
40--------------------------------------------------------------------------------
Table of Contents
EXPENSE AND CASH MANAGEMENT RISKS Our future results are dependent upon maintaining an appropriate expense level. The level of our expenses is subject to fluctuation and may increase for the following or other reasons: (i) changes in the level and scope of our operating expenses in response to market conditions or regulations, (ii) variations in the level of total compensation expense due to, among other things, bonuses, merit increases and severance costs, (iii) changes in our employee count and mix, and competitive factors, (iv) changes in expenses and capital costs, including costs incurred to maintain and enhance our administrative and operating services infrastructure or to cover uninsured losses, and (v) increases in insurance expenses, including through the assumption of higher deductibles and/or co-insurance liability. Our ability to meet cash needs depends upon certain factors, including the market value of our assets, our operating cash flows and our perceived creditworthiness. If we are unable to obtain cash, financing or access to the capital markets in a timely manner, we may be forced to incur unanticipated costs or revise our business plans, and our business could be adversely impacted. Further, our access to the capital markets depends significantly on our credit ratings. A reduction in our long- or short-term credit ratings could increase our borrowing costs and limit our access to the capital markets. Volatility in the global financing markets may also impact our ability to access the capital markets should we seek to do so, and may have an adverse effect on investors' willingness to purchase our securities, interest rates, credit spreads and/or the valuation levels of equity markets. We are dependent on the earnings of our subsidiaries. Substantially all of our operations are conducted through our subsidiaries. As a result, our cash flow and our ability to fund operations are dependent upon the earnings of our subsidiaries and the distribution of earnings, loans or other payments by our subsidiaries. Our subsidiaries are separate and distinct legal entities and have no obligation to fund our payment obligations, whether by dividends, distributions, loans or other payments. Any payments to us by our subsidiaries could be subject to statutory or contractual restrictions and are contingent upon our subsidiaries' earnings and business considerations. Certain of our subsidiaries are subject to regulatory restrictions that may limit their ability to transfer assets to their parent companies. Our financial condition could be adversely affected if certain of our subsidiaries are unable to distribute assets to us. LEGAL AND REGULATORY RISKS We are subject to extensive, complex, overlapping and frequently changing rules, regulations, policies, and legal interpretations. There is uncertainty associated with the regulatory and compliance environments in which we operate. Our business is subject to extensive and complex, overlapping and/or conflicting, and frequently changing and increasing rules, regulations, policies and legal interpretations, around the world. Political and electoral changes, developments and conflicts have in the past introduced, and may in the future introduce, additional uncertainty. Our regulatory and compliance obligations impose significant operational and cost burdens on us and cover a broad range of requirements related to financial reporting and other disclosure matters, securities and other financial instruments, investment and advisory matters, accounting, tax, compensation, ethics, data protection, privacy, sanctions programs, and escheatment requirements. We may be adversely affected by a failure to comply with applicable laws, regulations and changes in the countries in which we operate. For a more extensive discussion of the laws, regulations and regulators to which we are subject, see "Item 1 - Business - Regulation" included in Part I of our Form 10-K for the fiscal year endedSeptember 30, 2019 . We may be adversely affected as a result of new or revised legislation or regulations or by changes in the interpretation of existing laws and regulations. The laws and regulations applicable to our business generally involve restrictions and requirements in connection with a variety of technical, specialized, and expanding matters and concerns. Over the years, theU.S. federal corporate governance and securities laws have been augmented substantially and made significantly more complex by various legislation. As we continue to address our legal and regulatory requirements or focus on meeting new or expanded requirements, we may need to expend a substantial amount of additional time, costs and resources. Regulatory reforms may add further complexity to our business and operations and could require us to alter our investment management services and related activities, which could be costly, impede our growth and adversely impact our AUM, revenues and income. Regulatory reforms also may impact our clients, which could cause them to change their investment strategies or allocations in a manner adverse to our business. Certain key regulatory reforms in theU.S. that impact or relate to our business, and may cause us to incur additional obligations, include: • Dodd-Frank. InJuly 2010 , Dodd-Frank was adopted in theU.S. Dodd-Frank is expansive in scope and has required the adoption of extensive regulations and the issuance of numerous regulatory decisions, while certain proposed rules remain subject to final adoption. 41
--------------------------------------------------------------------------------
Table of Contents
• Systemically Important Financial Institutions. Dodd-Frank authorized
the establishment of the FSOC, the mandate of which is to identify and
respond to threats to
other members of the G-20 group of nations have empowered the FSB to
identify and respond, in a coordinated manner, to threats to global
financial stability. To the extent that we or any of our funds are
designated as SIFIs by the FSOC or as global SIFIs by the FSB, such
designations add additional supervision and/or regulation, which could
include requirements related to risk-based capital, leverage,
liquidity, credit exposure, stress testing, resolution plans, early
remediation, and certain risk management requirements, that could
impact our business.
• Derivatives and Other Financial Products. Dodd-Frank, as well as other
legislation and regulations, impose restrictions and limitations on us
related to our financial services and products, resulting in increased
scrutiny and oversight. Under such regulations governing derivative
transactions, certain categories of swaps are subject to the exchange
of margin, while others are required to be submitted for clearing by a
regulated clearing organization. In both cases, swaps must be reported
on a swap execution facility. The EU and other countries have
implemented, or are in the process of implementing, similar
requirements. There is some risk that full mutual recognition may not
be achieved between the various regulators, which may cause us to incur
duplicate regulation and transaction costs. The
rule that would impose restrictions on the use of derivatives by
registered funds. In addition,
operation for certain types of money market funds, and certain
U.S. -registered funds are required to adopt liquidity management
programs.
• Privacy and Data Protection. There also has been increased regulation
with respect to the protection of customer privacy and data, and the
need to secure sensitive customer, employee and others' information. As
the regulatory focus on privacy continues to intensify and laws and
regulations concerning the management of personal data expand, risks
related to privacy and data collection within our business will
increase. In addition to the EU's GDPR data protection rules, we mayalso be or become subject to or affected by additional country, federal
and state laws, regulations and guidance impacting consumer privacy,
such as the recently enacted CCPA effective
provides for enhanced consumer protections for
statutory fines for data security breaches or other CCPA violations.
Noncompliance with our legal obligations relating to privacy and data
protection could result in penalties, legal proceedings by governmental
entities or affected individuals, and significant legal and financial
exposure.
• Rule 12b-1 Plans. In 2010, the SEC proposed changes to Rule 12b-1
promulgated under the Investment Company Act that, if adopted, couldlimit our ability to recover expenses relating to the distribution of
our U.S. -registered funds, which could decrease our revenues.
• SEC Regulation Best Interest. In June 2019 , the SEC adopted a packageof new rules, amendments and interpretations, including Regulation Best
Interest and a new form of relationship summary, designed to enhance
investor protections for all retail customers, that will, subject to a
transition period until June 30, 2020 , among other things: (i) requirebroker-dealers to act in the best interest of their retail customers
when recommending securities and account types, (ii) raise the
broker-dealer standard of conduct beyond existing suitability
obligations, and (iii) require a new relationship summary disclosure
document to inform retail clients of the nature of the broker-dealers'
relationships with investment professionals and registered investment
advisers, including a description of services offered, the legal
standards of conduct that apply to each, the fees a client might pay,
and conflicts of interest that may exist.
• Other Compliance Requirements. Compliance with the U.S. Bank Secrecy
Act of 1970, the
and economic sanctions, both domestically and internationally, has
taken on heightened importance as a result of efforts to, among other
things, combat terrorist financing and actions that undermine the
stability, sovereignty and territorial integrity of countries. In
addition, global regulatory, federal and/or state anti-takeover orbusiness combination laws may impose various disclosure and procedural
requirements on a person seeking to acquire control of us, which may
discourage potential merger and acquisition proposals and may delay,deter or prevent a change of control, including through transactions
that some stockholders may consider desirable.
The impacts of these and other regulatory reforms on us, now and in the future, could be significant. We expect that the regulatory requirements and developments applicable to us will cause us to continue to incur additional compliance and administrative burdens and costs. Any inability to meet applicable requirements within the required timeframes may subject us to sanctions or other restrictions by governments and/or regulators that could adversely impact our broader business objectives.
42--------------------------------------------------------------------------------
Table of Contents
Global regulatory and legislative actions and reforms have made the regulatory environment in which we operate more costly and future actions and reforms could adversely impact our financial condition and results of operations. As in theU.S. , regulatory and legislative actions outside theU.S. have been augmented substantially and made more complex, by measures such as the EU's Alternative Investment Fund Managers Directive and MiFID II. Further, ongoing changes in the EU's regulatory framework applicable to our business, including changes related to Brexit and any other changes in the composition of the EU's member states, may add further complexity to our global risks and operations. Moreover, the adoption of new laws, regulations or standards and changes in the interpretation or enforcement of existing laws, regulations or standards have directly affected, and will continue to affect, our business. With new laws and changes in interpretation of existing requirements, the associated time we must dedicate to and related costs we must incur in meeting the regulatory complexities of our business have increased. We may be required to invest significant additional management time and resources to address new regulations being adopted pursuant to MiFID II and other laws. For example, MiFID II requires the "unbundling" of research and execution charges for trading. The industry's response to the unbundling rules is still evolving and could lead to increased research costs. Outlays associated with meeting regulatory complexities have also increased as we expand our business into new jurisdictions.The EU's GDPR strengthened and unified data protection rules for individuals within the EU. GDPR also addresses export of personal data outside the EU. The primary objectives of GDPR are to give citizens control of their personal data and to simplify the regulatory environment for international business by unifying data protection regulation within the EU. Compliance with the stringent data protection rules under GDPR requires an extensive review of all of our global data processing systems. The failure to comply properly with GDPR rules on a timely basis and to maintain ongoing compliance with such rules may subject us to enforcement proceedings and significant fines and costs. For example, a failure to comply with GDPR could result in fines up to20 million Euros or 4% of our annual global revenues, whichever is higher. Compliance activities to address these and other new legal requirements have required, and will continue to require, us to expend additional time and resources, and, consequently, we are incurring increased costs of doing business, which potentially negatively impacts our profitability and future financial results. Finally, any further regulatory and legislative actions and reforms affecting the investment management industry, including compliance initiatives, may negatively impact revenues by increasing our costs of accessing or operating in financial markets or by making certain investment offerings less favorable to our clients. Failure to comply with the laws, rules or regulations in any of the jurisdictions in which we operate could result in substantial harm to our reputation and results of operations. As with all investment management companies, our activities are highly regulated in almost all countries in which we conduct business. Failure to comply with the applicable laws, rules, regulations, codes, directives, notices or guidelines in any of our jurisdictions could result in civil liability, criminal liability and/or sanctions against us, including fines, censures, injunctive relief, the suspension or expulsion from a particular jurisdiction or market, or the revocation of licenses or charters, any of which could adversely affect our reputation and operations. Moreover, any potential accounting or reporting error, whether financial or otherwise, if material, could damage our reputation and adversely affect our business. While management has focused attention and resources on our compliance policies, procedures and practices, the regulatory environments of the jurisdictions where we conduct our business, or where our products are organized or sold, are complex, uncertain and subject to change. Local regulatory environments may vary widely and place additional demands on our sales, investment, legal and compliance personnel. In recent years, the regulatory environments in which we operate have seen significant increased and evolving regulations, which have imposed and may continue to impose additional compliance and operational requirements and costs on us in the applicable jurisdictions. Regulators could also change their policies or laws in a manner that might restrict or otherwise impede our ability to offer our services and products in their respective markets, or we may be unable to keep up with, or adapt to, the ever changing, complex regulatory requirements in such jurisdictions or markets, which could further negatively impact our business. Changes in tax laws or exposure to additional income tax liabilities could have a material impact on our financial condition, results of operations and liquidity. We are subject to income taxes as well as non-income based taxes, and are subject to ongoing tax audits, in various jurisdictions in which we operate. Tax authorities may disagree with certain positions we have taken and assess additional taxes. We regularly assess the likely outcomes of these audits in order to determine the appropriateness of our tax provision. However, there can be no assurance that we will accurately predict the outcomes of these audits, and the actual outcomes could have a material impact on our net income or financial condition. Changes in tax laws or tax rulings may at times materially impact our effective tax rate. 43
--------------------------------------------------------------------------------
Table of Contents
TheU.S. Tax Cuts and Jobs Act includes various changes to the tax law, including a permanent reduction in the corporate income tax rate and one-time transition tax on certain non-U.S. earnings. Further, pursuant to ongoing efforts to encourage global tax compliance, theOECD has adopted CRS, aimed at ensuring that persons with financial assets located outside of their tax residence country pay required taxes. In many cases, intergovernmental agreements between the participating countries will govern implementation of the new CRS rules. CRS is being implemented over a multi-year period and we will continue to monitor the implementing regulations and corresponding intergovernmental agreements to determine our requirements. CRS may subject us to additional reporting, compliance and administrative costs, and burdens in jurisdictions where we operate as a qualifying financial institution. TheOECD has also undertaken a new project focused on "Addressing the Tax Challenges of the Digitalization of the Economy." This project may impact all multinational businesses by allocating a greater share of taxing rights to countries where consumers are located regardless of the current physical presence of a business, and by implementing a global minimum tax. There is significant uncertainty regarding such proposal and any unfavorable resolution could have an adverse effect on our effective tax rate. Our contractual obligations may subject us to indemnification costs and liability to third parties. In the ordinary course of business, we and our subsidiaries enter into contracts with third parties, including, without limitation, clients, vendors, and other service providers, that contain a variety of representations and warranties and that provide for indemnifications by us in certain circumstances. Pursuant to such contractual arrangements, we may be subject to indemnification costs and liability to third parties if, for example, we breach any material obligations under the agreements or agreed standards of care, or in the event such third parties have certain legal claims asserted against them. The terms of these indemnities vary from contract to contract, and future indemnification claims against us could negatively impact our financial condition. Regulatory and governmental examinations and/or investigations, litigation and the legal risks associated with our business, could adversely impact our AUM, increase costs and negatively impact our profitability and/or our future financial results. From time to time, we receive and respond to regulatory and governmental requests for documents or other information, subpoenas, examinations and investigations in connection with our business activities. In addition, regulatory or governmental examinations or investigations that have been inactive could become active. In addition, from time to time, we are named as a party in litigation. We may be obligated, and under our certificate of incorporation, by-laws and standard form of director indemnification agreement we are obligated under certain conditions, or we may choose, to indemnify directors, officers or employees against liabilities and expenses they may incur in connection with such matters to the extent permitted under applicable law. Even if claims made against us are without merit, litigation typically is an expensive process. Risks associated with legal liability often are difficult to assess or quantify and their existence and magnitude can remain unknown for significant periods of time. Eventual exposures from and expenses incurred relating to any examinations, investigations, litigation, and/or settlements could adversely impact our AUM, increase costs and/or negatively impact our profitability and financial results. Allegations, findings or judgments of wrongdoing by regulatory or governmental authorities or in litigation against us, or settlements with respect thereto, could affect our reputation, increase our costs of doing business and/or negatively impact our revenues, any of which could have a material negative impact on our financial results. 44
--------------------------------------------------------------------------------
Table of Contents
© Edgar Online, source
