So the main points of my long thesis are the following (I'm assuming some familiarity with Ashmore's business here):
1. Ashmore has a scalable, very profitable business model with recurring income
2. Ashmore is out of favor because of negative EM flows. These fears are overdone. The long term outlook is good, not bad, even if not much could happen to earnings and cash flow in the short term.
3. Ashmore has sustainable economic moats
4. Ashmore has great management with lots of skin in the game. It has a culture that I like and recognize from great fund management companies: low fixed salaries, long term share based comp, not star driven but focused on long term team effort.
5. EM unrest has resulted in undervaluation.
I will go through these points quickly below, one by one:
1. Fund management is a great business once a company reaches critical mass. I will not go into this in detail but this is self-evident. *In the case of ASHM, this is certainly the case. Looking at historical ROE, ROIC and EBIT margins (9 yr averages are 50%, 49% and 74% respectively), it is obvious that this is a truly great business.
2. Although negative EM flows in general have impacted AHM as well as the latest AUM report indicated, the media reports are misleading. First of all, the data most often quoted is EPFR data. This is an incomplete data set, because it doesn't properly account for investment flows from pension funds, sovereign wealth funds etc. Looking at IIF data, it becomes obvious that (for now) the media reports exaggerate the negative asset flows from EM. I suggest looking up the recent IIF flow report online for details. It is my contention that due to the make-up of ASHMS investor base, this is the most relevant data set, since ASHM has virtually no retail money. A whopping 81% of ASHMs AUM is from public and private pension funds and government sources. These assets are more long term and a lot stickier than retail funds. So the amount of hot money in ASHMs mandates is limited. Numbers from JP Morgan confirm the IIF estimates which show that it is retail money that has been flowing out for the most part in 2013 and 2014.
Admittedly, we don't know how long asset flows will be negative or how much worse things could get, or if institutional flows will turn more negative. But long term, the case for increased flows is good, not bad, in my opinion.
The reasons are:
a. EMs have less sophisticated capital markets which will evolve and grow over time. Low but rising disposable income in the local population will be supportive also. The BIS estimates that equity and debt markets in EM will grow from 28 Trn USD today to 79 Trn USD in 2020. My contention is that more sophistiocated, bigger EM debt and equity markets + growing disposable income in local economies means a big opportunity for ASHM.
b. That the developed world is dramatically underweighted in EM assets. If investors would have been properly weighted in EMs as implied by the MSCI world index, EM weightings should have been 15-16% instead of a paltry 5% today. This is the equivalent of 4 Trn USD in debt and equity instruments. Ashmore has a market share of a little less than 2% of this (my numbers are not exact, but close enough).
Every percent increase in allocation to EM assets would mean about 800 Bn USD. If ASHM should maintain its market share on this 800 Bn, that’s 16 Bn USD in increased AUM. 10 x 16 Bn is 160 Bn…
Now of course, 160 Bn may be unlikely, but I think it’s obvious that with the severe underweighting and growing underlying capital markets, the ASHM opportunity is huge.
3. ASHMs moats are mainly cost and distribution advantages from scale and relationships with capital allocators and government officials that have been built up since Mark Coombs first got started in the 80s. These moats are very real (I know, I have spent a few years starting a small fund management company and have experienced first hand the barriers to entry in this business).
4. Mark Coombs is brilliant and owns 42% of the company. Reading interviews with the man (hard to come by mostly), you come away with a solid impression. He’s building something to outlast him, and is always thinking long term.
5. ASHM is undervalued! It has no debt, and about 20% of the market cap in cash, and looking beyond a P/E of 15 and an EV/EBITDA of 9 for 2014, it is actually very modestly valued. These multiples are «distorted» by ncreased investment in distribution capacity which has elevated costs temporarily. I expect a 15% increase in COGS and OPEX in 2014, and 10% increases every year after that in my forecast period thru 2019 (this increase shows that management truly believes in substantial further growth, btw). I am way below consensus on EPS for 2014 and 2015 (25 pence and 29 pence respectively) at 21 and 20 pence. This is mainly because I assume costs will rise, but also because I think that AUM stays flat this year, after which I assume 15% annual growth in AUM through 2019.
Based on normalized historical numbers, I think a fee margin of 0.85% on the AUM is realistic (marigns lately have been depressed because of larger than usual currency AUM inflows, which have lower margins). In my valuation I assume a gradual recovery toward the normalized fee margin of 0.85% by 2016.
In my model, EBIT will thus increase from about 185m in 2015 to about 400 in 2019. My numbers imply a reduction in EBITDA margin in the long term from 70% a few years ago to 60% or thereabouts.
Based on this EBIT estimate and other reasonable assumptions based partially on historical numbers and management guidance, I get a DCF value of 5.2 GBP:
DCF calculation
Discount rate 10.0 %
Terminal FCF gr. rate 3.0 %
Forecast period value 687
Terminal value 2,501
Net cash/debt 500
Equity value 3,688
Shares outstanding 707
Per share 5.2
Interestingly, if you assume no growth in FCF at all i the future, and use the avg FCF number from the last 3 years, you get a value 3.3 GBP, which means there is virtually no growth priced in today:
Avg FCF 2011-2013: 182
Disc rate 10 %
growth rate 0 %
plus cash 500
/ no shares 707.4
Base case fair value 3.28
So my conclusion is that ASHM is a good opportunity here. Sure, it can get cheaper if the shit really hits the fan with a debt crisis in China/emergin markets, but it is a fantastic company trading at a reasonable price. It may also be a takeover target in my opinion, but Coombs is unlikely to sell unless the price is sky high I think.
