New thinking drives fund manager mergers

Some big banks and insurers, having acquired fund managers in the past decade, decided to exit the sector, underlining the separation of manufacturing and distribution that has long been talked about. Other banks acquired hedge funds, attracted by growth prospects and the promise of capacity in top funds. Leveraged buyouts of asset managers hit record levels, although public markets offered the biggest premium for specialist boutiques.

On the one hand, it suggests a rosy outlook for fund managers over the next few years – and, by implication, decent returns for investors in their products. On the other, like the previous wave of fund management M&A in 1999 and 2000, it could signal the current business cycle for asset managers is reaching its zenith.

Insurers and banks, which dominated asset manager acquisitions in the late 1990s, were more often sellers this year. Many realised that investment manufacturing and distribution are separate activities that do not need housing under the same roof.

The year’s second-biggest deal involved Merrill Lynch, which bought Mercury Asset Management in 1997, selling its asset management business to BlackRock. Charles Schwab, which bought US Trust in 2000, sold it to Bank of America in November. European insurers and banks are likely to follow the lead of their US counterparts, according to bankers.

The desire for scale drove many mergers in the late 1990s. This time round the conventional wisdom is that a boutique approach to managing money is best and asset managers have been focused on acquiring investment expertise to fill product gaps. Mellon bought global equity manager Walter Scott & Partners and Morgan Stanley Investment Management made three acquisitions to fill out its alternative investments division.

Private equity buyers were more active, acquiring $186bn (€141bn) of assets, beating the previous record of $118bn in 2004. Gartmore, backed by Hellman & Friedman, secured the biggest management buyout in history, paying Nationwide Insurance of the US about $500m for $44.9bn of assets. The management of Munder Capital Management, with $25bn in assets, bought the firm from Comerica Bank.

Brett Bastin, a partner at advisory boutique Grail Partners, said the sector had undergone a re-rating. Bastin said: “If you look at how pricing for asset managers has trended over 12 to 15 years, Norton Reamer, head of United Asset Management, established the proxy for trading multiples at six to seven times cashflows in the early 1990s. We’re miles away from that now and financial buyers know that too.”

Reamer founded United Asset Management as a holding company for asset managers, arguably the most pure form of multi-boutique, and sold out to Old Mutual in 2000. Affiliated Managers Group, run by Sean Healey, follows a similar model.

However, the sums paid by private equity buyers for asset managers were eclipsed by valuations in the public markets. This year saw the most listings by fund managers, with nine IPOs. The previous record was four in 2004.

Managers that listed commanded a 20% to 30% premium on average to what they would have fetched through a buyout or trade sale. “Departing shareholders almost force you to do an IPO because the pricing is so much better,” said one adviser.

Ashmore, a specialist emerging market debt manager, raised $560m through an IPO in October at a multiple of 12 times cashflow. The management team looked at a trade sale before deciding on a float. BlueBay Asset Management, a specialist credit manager, chose the public market for similar reasons. Distressed debt investor Fortress Investments will be the largest float when it lists 10% of its shares in New York.

Some advisers said the public market should trade at a discount because of transparency requirements and the cost and complexity of listing. Bastin argued the opposite. He said: “Public ownership is an excellent architecture for an asset management firm. It gives them the freedom and operating independence that ensures investment independence, and they can be creative with their capital structures, which is a nice tool to have if you have any strategic ambition other than just organic growth.”

He also highlighted the quality of asset managers listed in the US, which are more robust than many privately held companies. AllianceBernstein, T Rowe Price and Legg Mason are well diversified investment managers with long records.

Frothy public markets meant it was difficult for some to see value in the sector. Janus chief executive Gary Black said he was yet to find an investment that offered better value than doing a share buyback on his own stock.

It is telling that AMG, which specialises in acquiring fund managers, has not been very active. In October, it made its first transaction since April last year, buying a 60% stake in Chicago Equity Partners, a US quantitative equity manager with $11.4bn in assets. Healey said the buyer pool for medium-sized firms was not as deep as it had been, which meant prices were lower than for bigger firms.

Quantitative managers and hedge funds were most highly valued, trading at a premium of two to three times cashflows, compared with the broad market. Federated Investors bought quantitative equity specialist MDT Advisors and Janus bought a further 5% stake in Intech, taking its ownership to 83%.

According to Putnam Lovell, an investment bank specialising in financial services, it was a record year for transactions involving alternative asset managers, with 46 deals. The previous record was 30, set last year. The bank noted that transactions involving hedge fund managers and funds of hedge funds made up the majority of deals, accounting for 32 transactions.

As well as outright acquisitions, investment banks bought minority stakes in hedge funds’ general partnerships. Credit Suisse bought a stake in Ospraie Management and Morgan Stanley bought stakes in Avenue Capital and Lansdowne Partners. Lehman Brothers acquired a 5% stake in BlueBay following its listing.

The high valuations being put on fund managers in part reflect improved operating margins and growing assets under management. However, investors may have grown complacent about some firms’ reliance on performance fees and lack of product diversification. A more difficult period for markets will soon see those risks priced back in.

What they said

"That’s the deal I’ve made with God" - Sandy Weill, chairman of Citigroup, on giving his fortune to charity

"We are a glass-half-empty organisation, which means you don’t rest on your laurels. You either accept that’s the nature of the organisation or you go and work for some happy-clappy place and make less money" - Nigel Williams, outgoing chief executive of BGI Europe and Asia

"Hedge funds are a catalyst for change and put the fear of God in management and boards of companies, which must be to the benefit of everybody" - Charlie McCreevy, the European Union internal markets commissioner