VINP - Waiting For A Brazilian Recovery Vinci Partners Remains Resilient

2024-01-17 22:28:45 ET

Summary

• Vinci Partners is a leading alternative asset manager in Brazil with around BRL 65 billion in assets.
• The company has formed a strategic partnership with Ares Management, which includes cross-collaboration in fundraising activities and an equity investment of $100 million.
• Vinci has shown resilience and growth in its private strategies, raising BRL 1.2 billion in capital and benefiting from a potential decrease in interest rates in Brazil.
• VINP is well-suited to benefit from Brazil's rates decreasing and trades at an acceptable multiple of recurring earnings.

Vinci Partners ( VINP ) is one of Brazil's leading alternative asset managers. The company manages around BRL 65 billion in assets, a substantial portion of which is dedicated to private or long-term capital commitment strategies.

I have followed Vinci since November 2021 , and have recommended it in articles in June 2022 , and January 2023 . Those articles contain more details about the thesis, but summarily it is based on the following:

• Asset managers have interesting economics, including high ROIC, operational leverage, and moat-building capabilities.
• VINP has built an exciting track record across many of its strategies, particularly in the private and alternative space.
• The company is not leveraged and has a large (~$200 million) cash vault, although part of it is committed to its funds in the future.
• VINP trades at a reasonable multiple of current fee-based earnings, which leaves a substantial upside opportunity via a recovery in Brazilian markets.
• The company is operationally leveraged to that recovery via multiple fronts: more investor interest in Brazil and more AUM, higher performance fees, higher capital income from GP investments, and valuation multiple expansion of the stock.

In this article, I review three important developments of the latest quarters that indicate the company is following the intended path toward growth: its association with an equity infusion from Ares Management Corporation ( ARES ), the return to positive capital raising in private strategies, and the beginnings of a reduction in interest rates in Brazil.

Finally, I review the valuation of the company and arrive at the conclusion that VINP is still an opportunity for long-term holders.

The Ares partnership

In October 2023 , Ares Management (one of the world's largest alternative asset managers) and Vinci announced that they had reached a strategic partnership that included cross-collaboration in fundraising activities (Ares selling Vinci's funds outside Brazil and vice versa), the inclusion of one of Ares' partners in Vinci's board, and an equity investment from Ares in Vinci for a $100 million, in the form of preferred shares.

The strategic partnership benefits Vinci by providing the company with a reputational boost outside of Brazil. Vinci is very well known in the country, and more than 70% of its AUM is local, but it would greatly benefit from becoming the introducer of foreign capital in Brazil. By partnering, Ares is providing some of its clout (the company manages $378 billion) to Vinci.

The equity infusion helps Vinci continue growing its AUM inside Brazil because the law requires asset managers to have a 3% to 5% participation in funds. Therefore, Vinci requires capital to grow AUM. The $100 million (BRL 500 million equivalent) investment would potentially allow Vinci to increment AUM by BRL 10 billion.

One thing I was worried about where the terms of the investment. However, as detailed in the company's 3Q23 financial statements (note 26), the preferred shares are convertible into common equity at $13.6 per share (a 30% to the then prevailing $10.2 price) and are entitled to an 8% dividend, which is close to the yield then prevailing for common (then at 7%). This implies a similar or more expensive treatment than that provided to common shareholders.

Although management has never mentioned the issue (as far as I know), the injection opens the door for a potential acquisition on the part of Ares. The Ares appointed director is Peter Ogilvie , who is profiled as having 'co-founded the Corporate Strategy Group to drive growth and development across the Ares platform through acquisitions, balance sheet investments, partnerships and new team onboarding.' That is, the director has experience with acquisitions and equity investments in other asset managers.

Growing the private strategies again

When I first analyzed Vinci, one of my fears was that the substantial growth in AUM registered between 2018 and 2021 was a one-off situation fueled by historically rock-bottom interest rates in Brazil. Also, the liquid strategies would suffer significantly from redemptions. Fortunately, there are signs of resilience and durability in the latest results.

First and most importantly, during 3Q23 , Vinci was able to raise BRL 1.2 billion into its private strategies, adding to a total of BRL 3.5 billion for the LTM3Q23 period. This is important because it shows that the company can replace the capital distributions on its more vintage vehicles. Also, the funds that invest during liquidity-strained periods will be the ones that reap the most benefits during liquidity-plentiful periods. By raising and investing in 2023, VINP is sowing the seeds of great returns in 5/10 years.

Second, the company suffered outflows on its liquid strategies, particularly in the managed accounts for pension funds' segment (IP&S) of BRL 2.2 billion in the LTM3Q23 period. This is a significant drawdown of approximately 10% of the beginning of period AUM. According to management, pension funds have decided to take the opportunity to allocate long-term Brazilian government bonds at 7% or short-term rates at 13%+, which is logical.

This leads to the latest point, which is the incipient taming of inflation in Brazil and a decrease in short and long-term rates that would push large allocators into alternatives and asset prices up.

Rates decreasing

Brazil was one of the earliest countries to quickly raise its interest rates to cope with an increase in inflation. The federal funds rate, SELIC, went from 2% to 13% in 15 months.

The speed and magnitude of the spike are an important backdrop when considering Vinci's strategies resilience, and the feat of raising capital in this environment. Brazil's rate increase was twice as fast as that of the US.

Fortunately, this, coupled with other factors like fiscal prudence (reform of the labor market and the pension system during Bolsonaro's government, and a stringent fiscal rule proposed by Lula), and a substantial trade surplus of 6% of GDP appreciating the currency, have led to a decrease in inflation rates, inflation expectations, and long-term bond yields.

The decrease in rates improves VINP's position via many channels:

• Lower long-term rates imply that Brazilian pension funds will need to reallocate outside of government bonds because otherwise, they will not be able to fulfill their actuarial requirements (estimated by VINP's management at inflation IPCA + 5%, or 8% nominal according to 3/3.5% inflation expectations). This increases AUM and fee-based revenues.
• More allocation outside government bonds pushes up liquid asset prices and illiquid asset exit prices. This also increases AUM and boosts performance-based revenues.
• Vinci has GP participation in its funds and benefits from asset price gains via capital gains.

Although rates might take time to decrease, and they may rise again if inflation becomes more entrenched, these are promising signs. However, if rates remain higher for longer, VINP has also shown that it can continue raising funds, providing a form of safety margin.

Revisiting the valuation

VINP generates profits from four sources currently: fee revenues from managing assets, performance revenues from the return obtained on those assets, GP capital gains from its investments in its funds, and interest on the cash that it has not invested in its funds yet.

The fee revenue side is the more resilient one, given that a large portion of VINP's AUM (50%+) is committed long-term, while the rest is in relatively solid and long-term-oriented hands (pension funds and HNWI).

VINP has consistently pulled about BRL 50 million in fee-related earnings per quarter (fee revenues minus allocated costs). From this, we remove BRL 5 million in other expenses and a 20% income tax rate (because of Brazil's presumed tax rate rule) and arrive at a net income of BRL 36 million per quarter, BRL 144 million per year (about $28 million). From this, we also remove Ares' $8 million dividend.

If we compare this number with VINP's current market cap of $600 million, it yields a frothy 30x PE ratio. However, we need to consider several additional aspects.

First, the company has BRL 1.7 billion ($340 million) in net cash and investments after Ares' investment or more than half its market cap. That would already move the PE ratio to 13x. In my opinion, this is the worst-case scenario and the margin of safety. It implies that the company does not grow AUM (or decreases it), cannot generate any performance on its AUM, and does not generate any investment income from the $340 million it has invested in its funds or short-term fixed income assets.

Therefore, any additional upside is not embedded in that 13x multiple. The bull case presents itself via more fundraising (either in Brazil or abroad with the help of Ares) and primarily via lower rates, leading to even more fundraising and higher AUM, performance fees, and GP capital gains. Also, if generally asset prices in Brazil grow, then VINP's earnings multiple might also be repriced. Brazil's P/E ratio is now a sordid 7x.

I believe VINP is a good investment opportunity for long-term holders. A conservative valuation removing all cyclical profitability components yields a relatively high but not extreme multiple (13x), leaving most positive developments as upside when Brazil's market is bottoming, and the company's negative cyclical profitability factors are peaking.

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