Lukewarm Q1 Performance, Short-Term Market Concerns Force BlackRock To Slash 400 Jobs

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BlackRock

BlackRock (NYSE:BLK) reported worse-than-expected performance figures for the first quarter of the year late last week, as revenues for the world’s largest asset manager remained under pressure due to weak global economic conditions. ((1Q16 Earnings Release, BlackRock Investor Relations, Apr 14 2016)) While BlackRock’s CEO had warned about headwinds for the industry at the beginning of the year, revenues were particularly affected by sharp declines in fees for the company’s equity funds. [1] Performance-related fees also took a notable hit – resulting in total revenues that were the lowest since Q3 2013. With market conditions expected to remain depressed for a few more months, BlackRock is looking to maintain profitability by cutting as many as 400 jobs. [2] The resulting restructuring efforts also eroded $76 million from BlackRock’s profits for this quarter.

BlackRock’s asset base witnessed overall growth for the quarter, though, as strong inflows for its fixed income offerings more than offset outflows from equity funds. Net inflows for the quarter were $28 billion, as $36 billion in net new money flowed into long-term funds even as investors pulled out $8 from cash management funds. Combined with notable improvements in valuation for fixed income assets and positive FX changes, this helped BlackRock’s total assets under management reach $4.74 trillion at the end of Q1 2016 from $4.65 trillion at the end of 2015.

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We believe that BlackRock’s push into the retail investor market – especially with its exchange-traded fund (ETF) offerings – will continue to drive profits in the long run, and stick to our $375 price estimate for BlackRock’s shares. The price estimate is roughly 5% ahead of the current market price.

See our full analysis for BlackRock

Bad Period For Equity Funds, But Fixed Income Funds Bounce Back Into Favor With Investors

BlackRock offers a complete range of investment products including actively-managed as well as passively-managed (indexed) equity and fixed income funds, ETFs (iShares) and multi-class asset funds in addition to currency, commodities and other alternative investment funds. While $36 billion in net new assets were added by BlackRock across its long-term funds over the first quarter of the year, the gains are almost completely from fixed income funds. These funds brought in more than $52 billion in new cash over the quarter in comparison to net outflows of $18 billion for equity funds. Fixed income iShares saw the most new money ($27 billion). Notably, equity iShares witnessed net outflows of almost $5 billion in Q1 2016 – something that had not been seen for any quarter over the last few years. After all, BlackRock is the undisputed leader in the ETF industry, with its asset base of $1.1 trillion representing a market share of almost 40%.

An important factor that weighed on BlackRock’s results for the quarter was the decline in performance-related fees. The company reported just $34 million in these fees for Q1 2016 – well below the $108 million figure for Q1 2015 and $169 million in Q4 2014. These fees were lower across offerings, indicating that BlackRock’s actively managed equity as well as fixed income funds performed worse than the benchmarks they tracked. This conclusion is confirmed from the fact that only 50% of the assets in taxable fixed income funds and 37% of those in tax-exempt fixed income funds performed better than the benchmark or peer median over a one-year horizon. Assets in scientifically-managed equity funds also reported a similar low figure (41%).

Operating Margins Will Worsen, But Should See Improvement In The Long Run

We have detailed the importance of cutting costs for BlackRock on numerous occasions in the past, especially given its shifting focus on the retail investor market. This is because the largely untapped retail investor market is heavily influenced by the price of the products offered – requiring BlackRock to set low fees for these products. The company has put in considerable efforts over recent years to rein in costs, and has done well to keep quarterly costs roughly around the $1.65 billion mark over the last three years.

Operating expenses for Q1 2016, at $1.66 billion, were not significantly different. But there is an important thing to note here: this figure includes a $76 million restructuring cost. Without the impact of these one-time costs, total expenses would have been below $1.6 billion for the quarter – the lowest since Q3 2013. While one of the factors behind lower expenses is definitely the reduction in compensation expenses from sub-par performance of active funds, the year-on-year as well as quarter-on-quarter reduction under all expense categories is a good sign, as it points towards improving operating efficiency. BlackRock is likely to take additional restructuring costs over subsequent quarters as its streamlines its operations, but we expect long-term gains for the company from margin improvements.

As you can see by making changes to this chart, a decrease of just two percentage points in margin figures by the end of our forecast period pushes our price estimate down by more than 5%.

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Notes:
  1. BlackRock’s Fink Sees Another 10% Market Drop Before Rebound, Bloomberg, Jan 15 2016 []
  2. BlackRock to Cut About 400 Jobs, The Wall Street Journal, Mar 30 2016 []