Acadian Asset Management Inc. (AAMI) Earnings Call Transcript & Summary

Good afternoon. I'm Mike Cyprys, Morgan Stanley's brokers and asset managers analyst. Before we get started, I've been asked to direct your attention to some important disclosures available on the Morgan Stanley research disclosure website at morganstanley.com/researchdisclosures. And if you have any questions, please reach out to your Morgan Stanley sales representative. So with that out of the way, welcome to our fireside chat with BrightSphere, and we're pleased to have with us Suren Rana, CEO of BrightSphere. Suren has been CEO since April and was previously the CFO. BrightSphere is a multi-boutique asset management company with over $160 billion of assets under management across 7 Affiliates, including firms such as Acadian, Landmark and Barrow Hanley, to name a few. Suren, welcome, and thanks for joining us today.

Thank you, Mike. Appreciate it. And thank you, everyone, for joining us. We appreciate you taking the time.

Great. So I'll kick off the discussion with some questions, and we'll leave some time for investor questions as well that can be submitted on the web portal. So why don't we start with the current backdrop. Suren, much has changed since you joined just a year ago at our conference, so thank you for coming back. Given most of your employees are working remotely now for a couple of months, can you talk about how the firm is managing through the current crisis here and how the transition to work from home has been like? And how are your teams engaging with clients?

Yes. Thanks, Mike. I would say from a day-to-day operations perspective, the crisis has had minimal impact on our operations. Everyone has been working from home quite effectively. And that's been true for most of the asset management industry, I guess. Our investment teams and back office teams are able to access all the systems from their homes. We always have these setups, so it was good that plans worked well. They're doing video calls internally and so obviously been helpful that the teams had strong bonds from years of working together. So it's been pretty seamless. And the client service teams and sales teams are doing both audio and video calls with clients, depending on how the clients are set up. But our teams are hoping to get back on the road soon in terms of seeing clients in person and conferences, et cetera. They do have value. But at least for now, everyone's been understanding and clients have improvised as well.

Now Suren, you joined the firm about a year ago as CFO, and now in your new role as CEO for about 2 months now, you've announced a number of strategic decisions. Can you talk about your transition to CEO and your priorities now?

Yes. My day-to-day job really hasn't changed that much since I stepped up to be the CEO, to be honest. As CFO, I was focusing on how we allocate capital to support our Affiliates and to other accretive uses like repurchases to maximize shareholder value. I was handling our holding company functions and our public company functions. My former partner, our former CEO, Guang, was primarily focused on the centralized initiatives we had in terms of supplementing the distribution of our Affiliates, looking at expanding into other countries, developing new products from the central side. But in the spirit of value maximization, we had been reviewing the role of centralized initiatives for some time now. Every quarter, we were looking at the data. And we took some strategic decisions as a result of this evaluation, and we decided to do away with the centralized efforts because we found that they weren't really effective. The affiliate-driven efforts were a lot more effective. So this will help us get better organic growth. And we would be -- and we'll be able to pass more of the earnings that we get from our Affiliates directly on to the shareholders. And to give you some preview on what we evaluated, and the reason we took this decision, the first thing to note is that our distribution was always primarily affiliate led. So the Center efforts were purely supplemental, but weren't generating much sales. And our 2 largest Affiliates, Acadian and Landmark, are our leading players in their respective fields. They have fully built distribution and product development capabilities, and they were very specialized, Acadian with the Quant capabilities and Landmark with secondary alternative strategies. So the specialists at these Affiliates just had way better level of success in selling these strategies. And then our 2 meaningful Affiliates in the Liquid Alpha segment that are handling TSW who contributes about 1/3 of our earnings or less. Even there, we found that the affiliate-level efforts were just much more productive because of the better coordination that the sales teams located at the affiliate add with the investment teams and client service teams. So that was one strategic decision that we took, which we think will generate better sales and better organic growth. But also importantly, it allows us to save $20 million plus of costs at the Center, which goes to the pretax income line. So that's a result of a long evaluation. And going forward, we've said we will leverage our positive business mix, which is very favorable. About 70% of our earnings comes from the 2 Affiliates I touched on, our 2 segments, Quant & Solutions, which is primarily Acadian, and our Alternatives segment, which is primarily Landmark, and we expect to generate strong organic growth from those 2. We would look at seeding new strategies in these segments that are enjoying secular tailwinds. And we have some optionality on our Liquid Alpha segment, which are primarily, generally have a value overlaying and value factor now has underperformed growth factor for 10-plus years. So we would expect some upside optionality whenever value comes back. And then we made some changes on our approach to capital management. Just given what our intrinsic value is and where we trade, we believe repurchases would be one of the best ways to deploy capital. So we reduced our dividend and we will redeploy that capital towards repurchases. And we've also decided we have looked pretty carefully at a lot of acquisition opportunities and our clearly no-brainer conclusion was that our own stock is a much more attractive acquisition, just given the earnings stream is high-quality position for growth and has little execution risk.

Great. And I remember back in the first quarter, BrightSphere saw some very strong positive inflows, quite positive surprise here for many, it was about $1 billion. It's the first quarterly inflows at BrightSphere in about 2 years. And it came at a time when the rest of the industry suffered from a large degree of risk of outflow. Can you talk about -- a bit about some of the strengths that attributed to that? And from your perspective, how repeatable is that level of flows in your view?

Yes, I'd say first quarter 2020 was, I guess, a lot of the factors that we have been talking about came together in the first quarter in the sense that it shows the strength in our Quant & Solutions segment and the Alternative segment. Because in the Quant & Solutions segment, we got very strong sales in our managed vol strategies, our factor-driven strategies, non-U.S. strategies. And we started a little bit of fundraising in our Alt segment, which also added to the sales. And we were having outflows in our Liquid Alpha segment, primarily driven by Vanguard, almost all of 2019. So with the Vanguard relationship ending, we had a major headwind removed. The overall outflows in Liquid Alpha segments are still negative, but they were less negative given that Vanguard relationship ending than what was in 2019. So it was a culmination of essentially our 2 segments, which are well positioned, Quant and Alternatives, more than offsetting Liquid Alpha. I would say, going forward, we would expect that trend generally to play out, though it may not happen necessarily every quarter without sales, because in the institutional side, flows can be lumpy. But yes, generally, we would expect that trend to hold in the coming years going forward.

And since March with the market stabilizing here, has any of the strong flow momentum that we saw in the first quarter continued into the second quarter? And any notable trends in terms of client activity, institutional reallocations that you can share with us? And maybe more broadly, any color on how the flows of the pipeline is shaping up so far in here in the second quarter?

Yes. The second quarter, generally, it is a continuation of the trends we have seen in our Quant & Solutions business. With Acadian, generally, clients are demanding managed vol strategies. There's continued demand for our factor-driven strategies and specific regional strategies outside the U.S. There is some rebalancing that happened in first quarter and some has continued to happen in the second quarter. And generally, you will see with the rebalancing that the clients would go to their existing manager rather than doing a manager search. So we've been beneficiary of that at times and at times that the client is rebalancing to another asset class, we've been at the receiving end of that or the giving end of that. So I'd say nothing too different from first quarter. And on our fundraising and the Alternatives, as we mentioned, we've kicked it off, but there's been a delay, but it's ongoing. And it's too soon to tell on the Liquid Alpha segment. It's similar trends that we saw. But oftentimes, a lot of decisions get taken at quarter end. So we don't know yet. As I said, we probably don't know every quarter how we would go. But generally, steady state, we would expect the Quant and all segments to offset the negative flows in Liquid Alpha segment.

Great. And maybe we could dive in a little bit on the fundraising side. I know you spoke about a potential delay on the Alternative fundraising given the crisis here and social distancing measures and so forth. So could you give us an update maybe on where we stand today in terms of the types of strategies that are coming to market on the private market side? How are you thinking about the timing of the upcoming fundraising cycle? And are we still on track to see this contribute to flows? Would you say later on this year? And do you anticipate this timing being pushed out much further than that?

Yes. As we've shared previously, in terms of the size, we would expect the overall fundraising size to be similar to the last time or if not higher, given the environment is probably more positive from a deployment of capital perspective. So we've given a point of reference was about $12 billion that we would expect across the 3 key strategies that we have on the secondary side, secondary private equity, secondary real estate and secondary real assets, just primarily infrastructure. From a timing perspective, just there is a delay we had initially guided to the back half of this year being -- when we start to see meaningful numbers. So that timing is delayed by it. That is now more towards the end of the year. So I would say that, yes, we still probably get some this year, but maybe the number would be probably less than $1 billion, give or take, for this year. And so a good chunk of the overall target would probably be in '21 and the rest would be in first half of '22.

Great. Thanks for the color there. And as you think about the direction of BrightSphere, in terms of taking the firm into the future from here, where do you see the biggest growth potential for BrightSphere going forward? And can you talk about how you're positioning the firm for that?

Yes. I would say that a very visible and meaningful from a size perspective as we clearly think our Alternatives is -- would be a very big driver of growth because the primary alternatives market continues to grow. There is more and more appetite from investors to allocate more towards the Alternatives away from public investments. And the secondary market, which we invest in, is a derivative of the primary market. One, it benefits directly from the growth of the primary market. But secondly, the penetration of secondary continues to increase, that more and more people are transacting their private equity and other alternative investments in secondary markets. So aside from the current fundraising cycle that we have, we would expect additional fundraising cycles in the coming years and expansion into other secondary areas over time. Secondly, on our Quant & Solutions segment, which is primarily Acadian, there continues to be demand for differentiated strategy, and we continue to get good traction from clients on the strategies that we had seeded that build on our core multi-factor models. So we've spoken about Multi-Asset Class strategy. We continue to get good traction from clients there. So we'd expect that strategy to be a growth driver. And then we have talked about how our factor-based strategies are offering solutions to clients or clients review their portfolios, and we help them evaluate what factors they may be underexposed or overexposed to, and we are able to provide that exposure in an active alpha-generating way. Our track record in China A strategy is good. So we would expect that to grow. And then some of our flagship strategies that manage volatility, particularly in these volatile times, we would expect them to grow. So those are, I would say, between Landmark and Acadian, we expect the majority of the growth. In our Liquid Alpha segment, we are diversifying, and we would expect those products to provide diversification and some offset to some of the secular challenges we're seeing in terms of the move away from value and the pressure from passive strategy. So we have seeded high-yield leverage loan strategies, and then we have regional strategies in emerging markets, and our global equity strategies, where we are seeing some traction.

So maybe just building off that, maybe we could talk a little bit more about some of the strategies that you are seeding, maybe an update on how much you've been moving in and out of the seed growth. What are some of the types of new strategies that you're seeding here? And how many would you think about seeding per year, and how that pace has been? And sort of the time frame to sort of recycle out into other strategies?

Our seeding approach is generally very opportunistic and market-driven, and it's driven by the Affiliates based on the feedback that they get from clients in terms of where -- what the clients are looking for, where the growth opportunity may be, and do we have that capability. So it's more of a bottoms-up process as opposed to a top-down in terms of how much we'd like to allocate. So it happened then that currently our seed portfolio last quarter was just shy of $130 million, which included some of our Alt strategies where we provided GP commitment on new funds and then a few strategies that I touched on earlier. For example, the Multi-Asset Class strategy, leverage loan and high-yield strategies that we have. Typical time frame would be about 2 to 3 years because that's enough time to build a track record and to start to get third-party clients. And -- or if the track record is -- it turns out to be not marketable or that market has meanwhile moved, that's probably enough time generally, sometimes it could be sooner. So some -- there have been times when we got third-party clients much earlier than anticipated, and we were able to take the capital back. And generally, what we would do is, with any strategies that definitively work or don't, we don't necessarily need to reallocate that capital to other seed opportunities. We view capital as fungible. So if there aren't any seeding opportunities, we could use that capital to delever or to do repurchases. So it's a very opportunistic program. We currently have pretty good seeds in place. And as we get traction in, for example, in Multi-Asset Class, we are getting traction, our leveraged loan strategies, we would take that capital back and see what other strategies are coming out from the Affiliates that merit seeding.

In the past, you've talked about initiatives to expand into global markets. How are you thinking about distribution and opportunities at this point outside the U.S. here?

Yes. I guess, no, we -- that's one of the learnings we had when we had a centralized initiative to expand into global markets, including China, and one of the learnings we had was that if we -- given our strategies are so different from each other, we have a generic expansion into China, for example. Ultimately, it wasn't very actionable because there is specific licensing or paperwork or specific types of clients that are required for different strategies. So we've pivoted to an affiliate-led approach and leading with specific strategies that are in demand for that particular market. So to stay on the China example. So we have a China A strategy that's built up a good track record. In the current version, it's for what's called the offshore market. It's a -- we are investing in China A, but for offshore investors. So we would want to continue building on that and leverage that to offer it to domestic investors as well with an actionable strategy that has a track record. So we've moved to a strategy product first approach with regards to expansion into global markets.

Maybe that's a good segue to talk about expenses and margins. You've trimmed costs in the Center already. And this crisis here that we're in naturally lowered the T&E expense as the business has been operating largely work from home. So I guess how has this changed your thinking around operating expenses here as you look out over the next couple of years?

Yes. We've certainly been prudent on operating expenses. I would also say that our Affiliates are very autonomous. We work with them on the operating expenses, but definitely provide them autonomy to spend where the opportunities may be. At the Center, as you alluded to, we have trimmed them quite a bit from $45 million, which we would expect about $20 million plus saves. And that includes -- it does include variable comp at the Center. So it's not pure operating expenses. But at the affiliate level, we would expect probably, this year, 2020, to be flattish because we've had some savings on the T&E and items like that. But at the same time, we are investing in growth in the fundraising, for example, in our Alternatives segment. And from there, we would expect -- we are investing in our Alternatives and in our Quant & Solutions segment. As we grow, there is some usual cost of living expenses that you expect some kind of inflation, but at the same time, we are being prudent elsewhere. So we would expect slow growth on the OpEx at the affiliate level. But we'd expect to maintain the savings that we've had at the headquarter level.

Great. We are coming up closely to the top of the hour. I'm just looking at the webcast here. I see a question on the expense side. You're talking here about some of the effectiveness of working from home. You quantify the cost saves at the Center. I understand your Boston lease is coming up in 2022 in terms of renewal there? Is there any way to save on that or even sublet as a new revenue source? How might you be thinking about that?

Yes. We have -- obviously, with the headcount reduction, we have more space in the headquarter than we need. We have a process underway in terms of subletting the excess portion. These things take time. But yes, we would expect some saving, which is part of the $20 million that I touched on earlier. But yes, with the lease expiring, then we would look to find a cost-efficient space that's right for the smaller team.

And would that be incremental to the $20 million, if you're able to reduce that footprint? Is that incremental there? And then on the rent side, is that already baked in, in terms of the sublet potential revenue? Is that baked into the $20 million? Or is that also incremental?

It is baked in.

On both sublet revenue and the reduction side?

Yes. In the sense that, I guess -- yes, any sublet would essentially be a reduction of our real estate costs.

Got it. Okay. And then just maybe turning over to capital allocation, M&A topics that often comes up. I guess just given some of the strategic changes you've made so far and given the low valuation in the stock, and what scenario could we see a sale of 1 or 2 of your Affiliates here potentially to unlock value and return capital to shareholders? How would we think about that?

Yes. That's definitely what we are focused on. Our #1 job is maximizing shareholder value. And when we look at the intrinsic value of our businesses, it's much higher than where we trade. Our -- the sum of the parts of our different businesses is much higher. We think it's well in excess of $20. Our -- the value of -- if we were to sell the company, then our value that the franchise would fetch would -- is also similarly very high. So our objective is to realize that intrinsic value, whether it's in public markets or other ideas that you touched on, we expect to realize that value one way or another. And it's obviously our fiduciary duty to look at all the options that would maximize value. And I guess to elaborate on this a little bit. When we look at our 3 main segments, the Alt, Quant and Liquid Alpha, the Alt segment is primarily our secondary Alternatives business, which is Landmark. And if you look at comparables of that business, Hamilton Lane is a very similar business, and you'll probably know this better than me, Mike, that business trades at more than 20x EBITDA. Similarly, our Quant business is one of the best. And the first quarter '20 showed how different it is than other Quant businesses. And that business is, again, there's no perfect comp for the business, but it's a highly valued business. We should be fetching if it were independent, a very strong multiple and then rest is our Liquid Alpha business. So when we look -- so when we divide up our EBITDA, if you think about it, our EBITDA for 2019 was $250 million. And if you divide it up between the 3 segments, we end up with our Alt segment having -- it's growing from $40 million of EBITDA to about $65 million of EBITDA with the fundraise. When we look at our Quant segment, we reported $150 million -- $155 million of EBITDA that maybe remains around there in our Liquid Alpha segment. The rest -- but at least 70% of our earnings are from those 2 wins. Taken together, they should be about a teens EV to EBITDA. So that's how we look at the value. And if there is -- there are folks willing to acknowledge the value we have, we would consider it, but we also believe that as we continue to execute our plan, the value of these businesses will be recognized in due course. And that's partly why we started reporting our segments.

Great. Well, I'm afraid we're out of time, Suren. Thank you so much for joining us today.

Thank you, Mike.

Great. And everyone, please join us for our next session starting shortly at 3:15. Thanks so much.