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CORRECTED-UPDATE 1-Puerto Rico weighs on Franklin Resources' muni funds

(Corrects reference to municipal funds as Franklin Resources funds throughout story)

July 30 (Reuters) - Franklin Resources Inc said on Wednesday investors withdrew $400 million from its municipal bond funds in the latest quarter, a trend that may continue in the short term on worries over Puerto Rico's chronic fiscal woes.

Chief Executive Officer Gregory Johnson said ongoing worries about Puerto Rico's ability to make good on its debt may continue to hurt municipal bond flows at Franklin Resources in the short term. His comments on a prerecorded call came as the company released results for the fiscal third quarter ended June 30.

The company's stock slid 3.3 percent in mid-day trade.

Average assets under management in its tax-free bond business, which includes U.S. municipal mutual funds with exposure to Puerto Rico, declined 15 percent in the quarter versus a year ago.

Its tax-free bond business started the latest quarter with $70.1 billion in assets under management. But it had net new outflows of $400 million as long-term redemptions of $2.4 billion outpaced sales of $2 billion.

Franklin Resources' funds alone have invested about $907 million in the Puerto Rico Electric Power Authority (PREPA), which could benefit from a recently passed law that would allow the agency to restructure its bond debt. That could hurt bondholders, which are mostly U.S. mutual funds and exchange-traded funds.

Franklin Resources' funds and OppenheimerFunds, which is a unit of insurer MassMutual Financial Group, sued PREPA last month in U.S. District Court in Puerto Rico. They want a federal judge to declare that the commonwealth's recently passed Public Corporation Debt Enforcement and Recovery Act violated the U.S. Constitution.

Meanwhile, uninsured bonds issued by PREPA took a beating in early July, spooking the $3.7 trillion U.S. municipal bond market. The S&P Municipal Bond Puerto Rico Index is down 1.48 percent in July.

A PREPA bond with a 5.25 percent coupon maturing in 2019 , for example, traded this week at 48 cents on the dollar. The yield on the bond, which moves inversely to price, was nearly 24 percent.

Average tax-free bond assets were $71.1 billion at the end of June, versus $83.3 billion a year ago.

Meanwhile, Franklin Resources reported that quarterly net income rose to $579 million, or 92 cents a share, from $552 million, or 86 cents, a year ago.

Overall, average assets under management at the company increased 8 percent to $903 billion.

Shares fell $1.90 to $55.20 on the New York Stock Exchange.

(Reporting by Tim McLaughlin; Editing by Jeffrey Benkoe)