BlackRock’s Current Share Price Doesn’t Capture Its Long-Term Growth Prospects

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Investors were not impressed with BlackRock’s (NYSE:BLK) results for the second quarter of the year earlier this week, sending the asset management giant’s stock 3% lower over trading on Monday, July 17, after the company missed revenue and earnings expectations. One issue here was that investor expectations for the company were too steep. Considering the fact that BlackRock is the largest asset manager in the world by far – and the rapid growth in its iShares ETF offerings will ensure that it remains entrenched in the top spot – it is easy to see why investors have high expectations. However, we believe that this reaction was excessive, and likely failed to take into account the company’s operational strength.

It should be noted that BlackRock is currently facing headwinds from a very clear, industry-wide trend of investors shifting cash from actively-managed funds to low-cost funds. At the same time, the price war among incumbents in the global ETF industry has also intensified considerably over recent years – putting additional pressure on margins. Bearing this in mind, the fact that BlackRock managed to report strong net inflows across nearly all of its fund offerings is a commendable feat.

BlackRock enjoys significant economies of scale compared to its competitors thanks to its industry-leading assets under management of almost $5.7 trillion, as well as its diversified geographical presence. This improves BlackRock’s ability to compete in the relatively undifferentiated industry (where fund offerings by different companies are largely identical) as it can make its marketing dollars work better compared to its peers. In light of the better-than-expected asset growth across offerings, we have revised our price estimate for BlackRock’s shares upwards from $400 to $440.

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See our full analysis for BlackRock

The table above summarizes the factors that aided BlackRock’s pre-tax profit figure for Q2 2017 compared to the figures in Q2 2016 and Q1 2017. Strong improvements in valuation, coupled with extremely strong inflows across asset classes, helped BlackRock’s investment advisory fees increase to an all-time high of almost $2.7 billion for the period – representing a nearly 6% jump quarter-on-quarter. While revenues from BlackRock’s advisory platform (“Aladdin”) also increased sequentially, the company’s performance-related fees for the quarter were the lowest since Q1 2016.

With BlackRock’s headcount remaining constant around 13,000 for the fifth consecutive quarter, the changes in compensation expenses over this period have been almost entirely from performance-linked payouts. Although there was a notable increase in non-compensation costs, this is largely justified given the growth in the asset base which would have required an increase in marketing expenses. Overall, BlackRock’s operating margin (adjusted basis) for Q2 2017 was identical to the Q2 2016 figure of 43.9%, although this represents an improvement from the 42.6% figure for the previous quarter. You can see how changes to BlackRock’s operating margin affects our price estimate by modifying the chart below.

BlackRock Makes The Most Of Upbeat Market Conditions

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. The company witnessed strong inflows for nearly all its fund classes over Q2 2017, with its long-term funds roping in more than $93.5 billion in net new cash – a record for any quarter. The strong inflows, coupled with significant improvements in market valuation of securities, helped BlackRock grow its total long-term assets to almost $5.3 trillion in Q2 2017 from just over $5 trillion at the end of the previous quarter. Taken together with cash management fund assets of over $400 billion, BlackRock’s total assets under management (AUM) now stand at a record $5.69 trillion.

Inflows continued to be led by BlackRock’s extremely popular iShares offerings, which reported net inflows in excess of $73.7 billion. Equity iShares added almost $51.8 billion, followed by fixed income iShares with almost $21 billion. In fact, the only asset classes to witness net outflows were active equity as well as indexed equity funds – with outflows of $7.6 billion and $5.4 billion, respectively. This is largely in keeping with industry-wide trends, though.

The chart below captures the proportion of BlackRock’s assets under management distributed across its various offerings. Notably, BlackRock’s iShares offerings now account for 26.5% of its total asset base, compared to a figure of just over 23% in Q2 2016. At the same time, actively-managed funds are now down to below 19% of total AUM from roughly 22% a year ago.

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