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Text: Please note that the financial results to be presented in this commentary are preliminary.
These and other risks, uncertainties and other important factors are described in more detail in Franklin's recent filings with the Securities and Exchange Commission, including in the Risk Factors and the MD&A sections of Franklin's most recent Form 10-K and 10-Q filings.
Lexington's business provides us the exposure to a critical growth area in the alternative asset business, and we cannot be happier with this new partnership.
We will cover on this transaction in a few minutes.
I'll start by reviewing this year's milestones.
Then Matt will go through our financial results for the quarter and the fiscal year, as well as spend some time discussing today's important transaction in greater detail.
Throughout Franklin Templeton history we have invested in our business to build a truly diversified and resilient organization that performs across market cycles with a commitment to serving our clients, employees and shareholders.
The results that we announced today represent the first full fiscal year since we closed the Legg Mason acquisition, a transformational transaction that created a more balanced business across asset classes, client mix and geographies.
We are pleased to report that the strategic and financial benefits from our acquisition of Legg Mason exceeded our goals, and we have added important growth opportunities.
We have maintained our culture while invigorating collaboration and innovation across the firm.
Through the hard work and dedication of our employees we've successfully brought two firms together to maximize our collective potential, one that successfully combines the attributes of global strength with boutique specialization.
We've made strong progress, and yet in so many ways, we're just getting started.
Turning to investment performance, there's been an improvement in performance across a broad base of investment strategies.
Through September, 71%, 69%, 72% and 77% of strategy composites outperformed their respective benchmarks across the four key time periods.
During the year, we focused on updating our global distribution efforts by enhancing our generalist, specialist model, reshaping client coverage and deepening relationships in each sales region, particularly with the largest global financial institutions.
Fiscal year long-term inflows doubled to $365 billion from the prior year, notably, the U.S., which is our largest sales region with over $1.1 trillion in AUM was net flow positive for the year.
In terms of notable organic growth, we saw positive net flows in our core growth areas, including alternatives, SMAs, wealth management and ESG-specific strategies.
We executed important acquisitions to further grow and diversify our business in alternative assets, customization and distribution of investment strategies.
In terms of other accomplishments, our alternative asset strategies, an important area of focus for us, generated positive net flows in each quarter during the year and grew by 19% from the prior year to $145 billion in AUM with contributions from a diverse group of strategies, including real estate infrastructure, private debt and hedge funds.
Several years ago, we announced our intention to create a full suite of alternative strategies and we've been very deliberate in building our capabilities.
In 2018, the acquisition of Benefit Street Partners brought us a leading alternative credit manager.
In 2020, we added a world-class real estate manager with Clarion Partners.
This focus on alternative led us to today's announcement of the acquisition of Lexington Partners, a leader in secondary private equity and co-investments.
We now have top tier specialist investment managers in all of the key alternative categories, with Benefit Street Partners, Clarion Partners, Franklin Venture Partners, K2 and now Lexington Partners.
Specifically with the Lexington Partners transaction I'm excited that Franklin will be partnering with such an outstanding firm that is led by an experienced and talented team, immediately bringing a scale and capabilities in an interactive and growing global market.
There will be no changes to the team or its independent investment management process, and they will continue to operate autonomously as Lexington Partners.
Upon the close of this transaction, we expect our alternative AUM to approach approximately $200 billion and over $1 billion in revenue, excluding performance fees.
Matt will review the additional details of the transaction shortly.
Another core growth area is our separately managed account business.
We are a top three provider in SMAs with $125 billion in assets under management, which is one of the fastest growing segments in retail.
Our SMA business grew by 22% in AUM year-over-year and generated positive net flows in each quarter during the fiscal year.
Our recently announced acquisition of O'Shaughnessy Asset Management and its Custom Indexing Platform, Canvas, will take our existing strength in SMAs to the next level, enhancing our tax management factor-based and ESG customization capabilities.
Canvas was launched in late 2019 and has seen strong growth since its inception and now represents $1.9 billion of the firm's total AUM of $6.3 billion as of September 30.
The transaction will bring compelling benefits to the clients that both companies serve across multiple channels.
There's no question that investors are more focused on ESG goals than ever before.
Increasingly, there are three dimensions to ESG that investors consider; ESG factors as understood risks in a portfolio, how ESG contributes to overall returns, and the overall impact of ESG considerations to society and the environment.
As an active manager approximately 95% of our AUM represents strategies that consider ESG factors as part of the investment process and ESG specific strategies representing over $200 billion in AUM were net flow positive in each quarter this fiscal year.
All this being said, none of our accomplishments this past year would be possible if it weren't for our employees.
We're extremely fortunate to have such dedicated colleagues who are focused on achieving investment excellence, fostering enduring relationships and delivering superior service to our broad range of investors around the globe.
Fourth quarter long-term net outflows were $9.9 million, which were partially offset by the acquisition of Diamond Hill's high yield focused U.S. corporate credit mutual funds, which added $3.5 billion in AUM and closed in July.
This quarter included the previously disclosed $5.4 billion 529 plan redemption, which included $4.7 billion of long-term assets and $2 billion fixed income, institutional redemption that have minimal impact to revenue and $800 million of fixed income outflows from the non-management fee, earning India credit funds that are in the process of liquidation.
Reinvested dividends were $2.3 billion in this quarter.
1% higher average assets under the management of $1.55 trillion compared to the prior quarter, plus $69 million of performance fees generated $1.66 billion in adjusted revenue for the fourth quarter.
Investment management fees, excluding performance fees was 3% higher compared to the prior quarter.
Adjusted operating expenses of $1.01 billion for the quarter were 3% lower due to lower compensation and lower G&A as a result of last quarter's upfront closed-end fund expenses.
This led to an 80% increase in adjusted operating income of $647 million and an adjusted operating margin of 39%.
Fourth quarter adjusted net income and adjusted diluted earnings per share increased 31% to $645 million, or $1.26 per share.
These results include favorable discrete tax items of $135 million or $0.30 per share for the quarter.
Turning to 2021 fiscal year financial results, which benefited from favorable market conditions and a full year of Legg Mason versus two months last year.
For the full year, adjusted revenues were $6.32 billion and adjusted operating expenses were $3.94 billion, an increase of 63% and 65% respectively.
This led to fiscal year adjusted operating income of $2.38 billion, which was 60% higher compared to the prior year.
Our adjusted operating margin was 37.7%.
Compared to the prior year, fiscal year adjusted net income increased 46% to $1.92 billion and adjusted diluted earnings per share increased 43% to $3.74 per share, which included the impact of favorable discrete tax items of $175 million or $0.34 per share for the full year.
As planned, we have achieved a run rate of 85% of our targeted merger-related cost synergies of $300 million this year.
We anticipate that 100% of these synergies will be achieved by the end of fiscal year 2022.
As a reminder, none of these cost efficiencies involved our specialist investment managers or our investment teams.
Moving on to capital management, we believe our strong balance sheet continues to provide us with financial and strategic flexibility to evolve our business.
For the fiscal year ended September 30, we returned $782 million to shareholders through dividends and share repurchases.
During the year, we also pre-financed a large portion of legacy Legg Mason debt with lower cost of debt, reflecting our credit profile.
Specifically, we issued $850 million of 1.6% senior notes due 2030 and $350 million, 2.95% notes due 2051.
We redeemed $250 million of 6.38% Legg Mason Junior subordinated notes due 2056 on March 15, 2021, and $500 million of 5.45% Legg Mason Junior subordinated notes due 2056 on September 15 2021.
We ended the quarter with $6.93 billion of cash and investments.
We will continue to prioritize our dividend and intend to repurchase enough shares to at least offset our employee equity grants.
The remainder of our capacity will focus on continued investments in our business and acquisitions to further diversify and increase our sources of cash flow, while positioning our firm for new growth opportunities as the industry continues to evolve.
As outlined in the transaction summary document, Lexington Partners is a global leader in secondary private equity and co-investments with current fee based AUM of $34 billion.
Since its founding in 1994, Lexington has raised over $55 billion in aggregate capital commitments and currently has a team of 135 employees across eight global offices.
It is expected to generate revenue of approximately $350 million and EBITDA of approximately $150 million in 2022.
With this acquisition, we now have strong and complementary capabilities in alternative credit, real estate, hedge fund solutions and PE related activities.
Given the overall size and growth of private equity and the likelihood of further private market expansion, having a specialist investment manager tied to this sector alternative assets is a logical step in the diversification of our business.
Furthermore, providing access to diversified versions of high returning investments will continue to increase in importance to meet savings and retirement goals of our broad group of clients.
This could also be important in both our multi-asset solutions business and the continued development of our customization capabilities.
As Jenny mentioned earlier, this transaction takes us one important step further in creating a larger and more diversified alternative asset business that will result in pro forma fiscal year 2022 alternative asset AUM of approximately $200 billion, producing approximately $1 billion in annual management fee revenue, excluding performance fees at a margin of approximately 40%.
We intend to continue adding complementary business in both wealth management and asset management, including asset class and geographic expansion.
This will be both organic investment through allocating capital into our existing specialist investment managers and via acquisitions.
Given our global reach, financial flexibility, business model and experience in execution, we're able to attract highly talented teams and partnerships, looking for a combination of independence, support and collaboration on a global and local scale to create new growth opportunities in what is a very large and expanding segment of the asset management industry.
Turning to financial terms of the transaction, we're acquiring 100% Lexington Partners for $1 billion in cash at closing plus a further $750 million in cash over the next three years.
We have also structured this transaction to ensure continuity and strong alignment of interest with Lexington's clients, partners and employees over the long-term.
Consistent with this, we will be simultaneously issuing grants equal to 25% of Lexington to employees of Lexington, subject to five year vesting and establishing a performance based cash retention pool of $338 million to be paid over the next five years.
The transaction is expected to close by the end of our fiscal second quarter, subject to customary approvals.

user
compname reports q4 adjusted earnings per share of $1.26.
q4 adjusted earnings per share $1.26.
qtrly total assets under management were $1,530.1 billion at september 30, 2021, down $22.0 billion during the quarter.

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