STT - Invesco Performance Has Stabilized: Time To Buy
2023-10-26 10:54:38 ET
Summary
- Invesco shares have underperformed in 2023, with a YTD total return of -25% compared to the S&P 500 and financial sector.
- Q3 2023 results show signs of stabilization for IVZ including a return to inflows and margin stabilization.
- IVZ diversified business, strong passive franchise, and attractive valuation make it a buying opportunity for value investors.
- I am initiating IVZ with a buy rating.
Invesco ( IVZ ) shares have not been a good investment thus far in 2023. IVZ has delivered a YTD total return of -25% compared to a returns of 12% and -4.5% delivered by the S&P 500 and financial sector ( XLF ) respectively.
The weakness in IVZ shares can be attributed to a number of factors including a re-rating of valuation, a period of negative long-term flows, and margin compression.
IVZ recently reported Q3 2023 results which I believe represent a turning point as the business appears to have stabilized. Moreover, I believe IVZ is reasonably well positioned to navigate the changing landscape in the asset management business.
IVZ is an out of favor stock which I now believe represents a buying opportunity for value investors.
Q3 2023 Results
IVZ reported Q3 2023 Non-GAAP EPS of $0.35, a ~3% increase on a year-over-year basis, which missed analyst estimates by $0.01. Revenue for the quarter came in at $1.44 billion, a decline of 0.7% on a year-over-year basis, which beat consensus estimates by $340 million.
Operating margins came in at 28.2% compared to 27.7% during the previous quarter and 33.3% during the same period a year ago.
Total ending AUM was $1.49 trillion compared to $1.54 trillion in the previous quarter. It is important to note that this decline was driven by market moves and foreign exchange moves which decreased AUM by $34.2 billion and $6.5 billion respectively. Net long-term inflows totaled $2.6 billion during the quarter.
Return to Net Long-Term Inflows
IVZ returned to net long-term inflows during the quarter, posting net inflows of $2.6 billion. This represents a significant sequential improvement from Q2 2023 when the company reported $2 billion in net long-term outflows.
Retail net long-term inflows were $4.2 billion which were offset by $1.7 billion of institutional net long-term outflows. IVZ's passive products received inflows of $13.5 billion during the quarter which were offset by outflows of $10.9 billion in active products.
In terms of asset class breakdown, equities led the way recording $7.4 billion in inflows. This was offset by outflows of $1.3 billion from fixed income, $1.1 billion from balanced products, and $2.4 billion from alternative products.
As shown by the chart below, I believe this quarterly report affirms the fact that IVZ has turned the tide and stopped the trend of outflows which began in Q2 2022. IVZ's results were especially strong when considering the industry leader , BlackRock ( BLK ) reported quarterly inflows of just $3 billion on an AUM base of $9.1 trillion.
Author (based on company financials)
Margin Stabilization
As shown by the chart below, IVZ experienced significant margin pressures beginning in early 2021. Adj. Operating margins steadily decreased from 42% down to a low of 27.7% reached in Q2 2023.
Q3 2023 margins showed stabilization as IVZ posted an Adj. Operating margin of 28.2% which would have been 31.7% excluding $39 million of charges related to organizational restructuring. Thus, I believe IVZ Adj. Operating margins have stabilized around 30%. The stabilization in margins can also been seen in the stabilization of Adj. Diluted EPS which has stabilized over the past few quarters after falling sharply during 2022.
Asset Management Industry Dynamics
IVZ operates in a highly competitive business and competes against a host of very strong firms including BlackRock ( BLK ), Vanguard, State Street ( STT ), BNY Mellon ( BK ), Fidelity Investments, JPMorgan ( JPM ), Goldman Sachs ( GS ), UBS ( UBS ), Morgan Stanley ( MS ), Franklin Resources ( BEN ), AllianceBernstein ( AB ), T. Rowe Price ( TROW ), and many others.
IVZ, along with other large asset management firms, tends to enjoy very healthy profit margins. This is important as it indicates despite the fact that a lot of high quality firms are competing in the asset management space the intensity of the competition is lower. While active management fees have declined over-time due to pressures from passive, we have not seen active fund managers aggressively undercutting each other on fees. Part of the reason for this is that fund flows tend to be sticky (particularly in the retail segment) and once funds have been allocated to a given firm it is not easy for other players to win those dollars away.
Diversified Business with a Strong Passive Franchise
IVZ has built of a highly diversified business. Of particular importance is IVZs strength in the passive and ETF businesses. Passive assets now make up 35% of IVZs AUM. This is very important as passive currently makes up the biggest growth area in the asset management business. Moreover, given the relatively low management fees earned on passive products having scale is particularly important. IVZ's $521 billion in passively managed assets give it enough scale to compete with leading players.
Another positive regarding IVZ's business mix is the relatively high concentration of retail AUM compared to institutional AUM. Retail AUM tends to be stickier and less price sensitive relative to institutional AUM.
Shareholder Friendly Capital Allocation and Strong Balance Sheet
IVZ is focused on returning capital to shareholders and currently pays a quarterly dividend of $0.20 per share. The stock currently yields 6.5% and I believe the dividend is relatively safe given the payout ratio is just over 50%.
IVZ has also used share repurchases as a way to return capital to shareholders. Given the low level of the stock, share repurchases represent a very attractive way for IVZ to return capital to investors.
Given the current interest rate climate a strong balance sheet is more important than ever, and IVZ has one. The company has a leverage ratio of just 0.69x and total liquidity of $3.2 billion including $1.2 billion of cash.
IVZ has $ 4 billion of 5.9% fixed rate perpetual preferred stock outstanding relating to its 2019 acquisition of OppenheimerFunds. While dividends to the preferred shareholders represent a $236 million annual expense, the preferred stock is perpetual meaning the IVZ does not need to refinance this paper. Moreover, the 5.9% rate is a highly attractive funding vehicle in the current high interest rate environment.
Attractive Relative Valuation
IVZ earnings a valuation grade of A- from Seeking Alpha quant ratings and I agree.
IVZ trades at just 8.9x FY 2023 estimated earnings, 7.9x FY 2024 estimated earnings, and 6.9x FY 2025 estimated earnings. Comparably, the S&P 500 trades at ~ 17.4x projected 2024 earnings. Thus, IVZ is trading at a substantial discount to the broader market. While earnings growth has been highly volatile historically, IVZ does have a track record of growing EPS over time.
In addition to trading at a highly attractive valuation relative to the S&P 500, IVZ is also trading at an attractive valuation relative to peers. IVZ is trading at a significant discount to peers such as AB, TROW, BEN, and JHG. This is despite the fact that IVZ has a much stronger passive franchise than any of those players and passive remains the growth area in asset management.
Seeking Alpha
Attractive Valuation Relative to Historical Average
IVZ trades at a forward P/E which represents a ~25% discount to its historical average. On a trailing P/E basis, IVZ is trading at a ~32% discount to its historical average.
Risks to Consider
While IVZ appears to have turned the corner in terms of net long-term fund flows as well as margin performance, it is possible that the company experiences a further wave of outflows in the future. For this reason, investors must constantly monitor long-term fund flows to pick up on any potential changes in trends.
Another key risk to consider for IVZ is that the pace accelerates relating to active fund outflows being offset by passive inflows. Given that passive products tend to be lower fee in nature, the company would experience further margin pressure if the active to passive shift accelerates significantly from here. I believe IVZ is well positioned to weather this change given its relatively high percentage of retail AUM which tends to shift much slower than institutional AUM.
Conclusion
IVZ has performed very poorly as an investment thus far in 2023. However, the company reported encouraging Q3 2023 results which suggest to me that the business has stabilized.
The recent return to positive net long-term flows and stabilization in profit is a positive development.
While IVZ operates in a highly competitive business, I believe the company is well positioned relative to competitors due to its large passive business and economies of scale as one of the largest asset management firms in the world.
IVZ is currently trading at a low valuation relative to the S&P 500, industry peers, and its own historic norms.
At current levels, I believe IVZ represents an attractive investment opportunity and I am initiating coverage with a buy rating.
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Invesco Performance Has Stabilized: Time To Buy