BlackRock Looks Good For $330 As Improving Economic Outlook Bolsters Asset Growth
BlackRock ( BLK ) surprised investors last week by beating already high expectations with a record performance for the last quarter of 2013. The global asset management leader continued to cash in on the growing demand for ETFs among retail as well as institutional investors through its popular iShares offerings. The results also received a boost from a notable increase in the demand for fixed income investment options over Q4 thanks to the impending changes in the U.S. interest rate environment.
The largely positive market conditions across the globe over the quarter also played a role in helping BlackRock's long-term assets under management (AUM) past the $4-trillion mark for the first time. Inflows of $40.5 billion were complemented by net market appreciations of just under $160 billion to help the company churn out record fee revenues of $2.3 billion for the period. Including cash management and advisory assets, BlackRock's total AUM at the end of the year was $4.32 trillion.
A visible increase in the size of actively-managed as well as high-risk investment options, which hold higher revenue potential, among other factors have led us to raise our price estimate for BlackRock's stock from $296 to $330 . The revised price is about 5% ahead of current market prices.
The Asset Base Showed Several Positive Trends
A quick glance through BlackRock's asset base under various categories shows an encouraging fact: the growth was driven across asset classes, not just mostly from iShares as has been witnessed for several quarters now. There was net positive growth for each of the asset classes - equities, fixed-income, multi-asset and alternatives. More importantly, the multi-asset class and core alternatives showed the most quarter-on-quarter growth (10.7% and 16.9% respectively) - highlighting the shifting risk preference among investors. The conclusion that investors' risk appetite seems to be growing is good news for the asset manager as this indicates higher revenue potential from its offerings over the future.
Also, there was a healthy growth in the size of assets for active equity funds (6.6%) which presents another upside to BlackRock's value. This is because equity-based funds present a higher revenue potential than their fixed income counterparts both in terms of management fees as well as performance fees, just as actively-managed funds earn more fees than passive ones. To put things in perspective, BlackRock's fee revenue as a percentage of assets in actively-managed equity funds (~0.58%) is 10 times that for passively-managed fixed-income funds (~0.058%).
Operating Margins Also Moving In The Right Direction
Early last year, we detailed the importance of cutting costs for BlackRock to ensure profitability as it moves towards the retail investor market ( Here's Why BlackRock Strikes The Right Note With Its Cost-Cutting Plan ). This is because the largely untapped retail investor market is heavily influenced by the price of the products offered - requiring BlackRock to keep its fees from these products low. Profit under such circumstances are only possible if operating costs are shrunk as low as possible.
BlackRock has been working to cut costs in the last few quarters, shifting things around in units that have been laggards of late to get them back in shape (see BlackRock Looks To Steady Its Flagging Active Equity Business). And over the last quarter it also rejigged its European ETF business to get rid of redundancies introduced by its acquisition of Credit Suisse's ETF unit (see BlackRock Consolidates European ETF Offerings After Credit Suisse Deal)
These efforts have made a tangible impact on the bottom line over recent quarters. Although BlackRock reported operating expenses of $1.6 billion for Q4 - 9% higher than the figure for Q3 - most of this increase comes from higher compensation fees for a very profitable quarter as revenues grew by 12% this quarter. So overall the operating margins improved from 39% in Q3 2013 as well as Q4 2012 to cross 40% for the first time ever in Q4 2013.
BlackRock's share price is very sensitive to its operating expenses - something that can be best understood by making changes to the chart below.
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