2023-12-07 13:42:48 ET
Summary
- BlackRock is one of the largest asset managers in the world with AUM of $9.1 trillion.
- Despite the industry facing headwinds with investors moving to money markets yielding 5% rather than investing in equities, BLK has seen growth in revenue and EPS alike.
- With discussions around a potential rate cut gaining momentum, BLK's stock price surged, delivering a 1-month return of 13.6%.
- This surge has pushed BLK's valuation above its 5-year averages, and I foresee no significant gains in the next 6 months, prompting me to downgrade the stock.
- Yet, the company remains a dividend compounder, presently offering a yield of 2.64% alongside double-digit dividend growth and a healthy payout ratio.
BlackRock, Inc. ( BLK ) stands as one of the most influential asset management firms globally, overseeing trillions of dollars in assets for individual investors, institutions, and governments.
For me, it's a favorite among publicly traded asset managers, precisely because size matters in this industry. In an arena where small fees and large quantity of transactions aggregate into substantial revenue, scale enables the superior offerings and cost-competitive products to clients. As investors, we all seek low-cost indices, and that's precisely what BlackRock achieves. With $2.46 trillion in assets under management or "AUM" in ETFs and 426 ETF funds active, it stands as the largest ETF provider worldwide , offering ETFs with an average cost of 0.30%.
This very reason compelled me to write an article titled "BlackRock: A Dividend Compounder You Don't Want To Miss" back in September, with a "Strong Buy" rating, which you can access here . At that time, the stock price was under significant pressure due to a year-over-year decrease in total AUM as more people opted for money markets over equities. Since my recommendation, BlackRock has delivered an impressive 6.33% return, easily outperforming the market ( SPY ), which achieved a 1.95% return
Return Since Last Article (Seeking Alpha)
However, the longer-term picture is even more impressive. If you had invested $10,000 into BlackRock back in January 2005, assuming reinvestment of all dividends, today you would be sitting on $151,053. This stands true despite the lackluster performance over the last three years, during which BLK's stock remained virtually flat. This performance was still significantly better than the S&P 500, where you would have $54,135, and it is significantly better than the return rival Charles Schwab Corporation generated ( SCHW ) at $67,589.
This represents a 15.43% CAGR for BlackRock over 18 years, with slightly higher volatility than the market. Nevertheless, this underscores why I refer to this company as a compounder, attributing its success to a high-quality business model and the management of its current CEO, Larry Fink.
Growth of $10,000 Since 2005 (Portfolio Visualizer)
Naturally, BlackRock has expanded into a large firm that now manages $9.1 trillion in AUM. While similar growth might not be anticipated in the future, what remains promising is the company's transition into a reliable dividend compounder . Presently, it offers a 2.64% dividend yield or $5.00 per share. Over the last five years, the company has consistently increased its dividend at around a 10.7% CAGR.
However, the previous year witnessed a smaller increase of only 2.45% due to industry challenges. I expect this trend to diminish as the narrative shifts towards potential rate cuts as early as Q2 or Q3 2024. This shift would imply lower yields in cash markets, potentially prompting money to move to equities from cash, which is the key ingredient to BLK's successful growth going forward.
The company has been actively repurchasing its shares, resulting in a reduction of 12.66% over the last 10 years. It's notable that in each of the last three quarters, the company repurchased $375 million worth of shares. At this rate, the company buys back approximately 1.3% of its current $112 billion market cap every year.
Dividends & Buybacks (BLK IR)
Having said that, my conviction remains strong that BlackRock is a great company. However, due to the elevated valuation and the absence of anticipated market outperformance in the near-term, I'm downgrading my rating to 'Buy.' Yet, let me illustrate what has transpired since my last article.
Q3 2023 Earnings
For the first time in nearly two decades, clients are earning a real return in cash and can wait for more policy and market certainty before re-risking. This dynamic weighed on industry and BlackRock Q3 flows.
BLK has seen periods of uncertainty like this before – as recently as 2016 and 2018. Then, as now, BlackRock stayed connected with clients and across its platform. When investors were ready to put money back to work, they came to BlackRock, leading to record flows and share gains.
Despite the uncertainties, the company showcased remarkable resilience, delivering a robust performance. Its revenue surged by 5% year-over-year, primarily propelled by organic growth and the influence of market movements over the past twelve months on average AUM, along with increased revenue from technology services.
This revenue uptick, coupled with a $1.1 trillion or 14% rise in AUM year-over-year — comprising $307 billion in net inflows spread across ETFs, active funds, and cash management — combined with an 800 basis point improvement in Operating Margin, resulted in a 7% increase in Operating Income, reaching $1.69 billion.
Moreover, the lower effective tax rate, though partly offset by reduced non-operating income in the current quarter, culminated in an EPS of $10.91, marking a notable 14% year-over-year surge. This figure surpassed analysts' expectations by a significant margin of $2.57.
Financial Results (BLK IR)
The ongoing trend of clients consolidating more of their portfolios with BlackRock is gaining momentum, indicating sustained business strength.
While the current AUM stands only 10% lower than its peak of $10.1 trillion in 2021, I don't anticipate such significant gains in AUM as the markets stabilize moving forward. Consequently, while I do foresee revenue growth, I expect it to fall within the range of around 4-5%.
However, given the increased AUM, I anticipate a rise in Operating Income driven by the base fees, which account for 77% of the company's revenue. This in turn should contribute to a recovery in the operating margin, thereby boosting the EPS.
Profitability (BLK IR)
I'm particularly drawn to BlackRock's impressive diversification across different client categories, product offerings, and geographical regions. This diversity really showcases the company's strong foundational position.
What's interesting is how the AUM remains stable without significant fluctuations quarter over quarter, with changes of less than 1%. Among these, 56% is from Institutional Investors, 34% from ETFs, and 10% from Retail clients. While most base fees come from the expected sources, like ETF offerings and Institutional Clients due to their size, it's fascinating to note that Retail Clients, despite having the smallest share in AUM, contribute significantly to the company's overall revenue. This highlights the growing importance and impact of retail investing in recent years.
Geographically, the company's reach is mainly across the Americas, which account for 67% of AUM and 66% of Base Fees. Beyond that, BlackRock also has a substantial presence in the EMEA region, making up 25% of total AUM, and the Asia Pacific region with 8% AUM.
Business Diversification (BLK IR)
No Longer Trading At a Discount
Talking about valuation , this is where I see some limitations regarding total returns in the near-term.
Currently, BLK is trading at 20.73x its FY24 earnings.
Comparatively, its 5-year average forward PE sits at 19.44x its earnings. Considering the recent strong one-month stock performance of 13.6%, BLK is currently trading 6.7% higher than its 5-year average.
Simultaneously, looking at the EV/EBITDA, which stands at 16.76x today, reflects a 15% premium over its 5-year average.
In my view, the optimism surrounding anticipated rate cuts might have stretched a bit too far, particularly for BLK. Its significant returns over the last month have taken a toll on its valuation.
Given the numerous uncertainties persisting around the economic slowdown and the absence of confirmed rate cuts (even though inflation is notably receding), I'm not expecting any significant expansion in valuation to generate meaningful returns over the next six months.
In my opinion, BLK's earnings need to catch up with the current valuation first.
Valuation Grade (Seeking Alpha)
Looking beyond the current fiscal year, I estimate that BLK could experience meaningful EPS growth of around 5.0% CAGR between FY23 and FY27. This projection suggests a slightly higher EPS growth rate compared to the 4.6% CAGR in revenue, largely driven by the buyback initiatives.
Considering BLK's 5-year average Forward PE ratio at 19.5x its earnings, which I find reasonable for this model, I anticipate the stock to trade around $933 by the end of 2027. This would imply an approximate 5% annual capital appreciation from today's price of $743. Factoring in the 2.64% dividend yield, it's reasonable to expect returns just shy of 8% annually.
While I believe these returns are quite attainable and represent high single digits, I foresee them slightly trailing the total returns of the market in the next four years.
Fiscal Year | 2023 | 2024 | 2025 | 2026 | 2027 |
Revenue (b) | $ 17.8 | $ 19.1 | $ 20.5 | $ 21.4 | $ 22.3 |
Revenue Growth | -0.5% | 7.4% | 7.3% | 4.4% | 4.2% |
EPS | $ 37.5 | $ 39.5 | $ 43.0 | $ 46.0 | $ 47.9 |
EPS Growth | 5.0% | 5.3% | 8.9% | 7.0% | 4.0% |
Forward PE | 20.3 | 20.0 | 19.5 | 19.5 | 19.5 |
Stock Price | $ 760 | $ 790 | $ 839 | $ 897 | $ 933 |
Although I maintain a substantial stake in BLK and have no intention to sell, I strongly believe this stock suits every portfolio. If I were not already invested, I might wait for a slightly more favorable entry point around $675, which would indicate a valuation of 17x its FY24 earnings.
Takeaway
In my dividend growth portfolio, I hold a significant stake in BlackRock as I view this company as the best in class within the asset management industry.
However, due to the strong stock run delivering a return of 13.6% within the last month, the company is no longer as appealing as it was earlier this year. The earlier appeal was due to significant market pressure, with many investors opting to invest in cash markets instead of equities, leading to a drop in AUM.
Today's valuation is no longer cheap, yet I expect BlackRock to deliver high single-digit returns. However, these returns will likely fall short of the market returns over the next four years.
I still maintain a 'Buy' rating, but before adding to my existing position, I would like to see a pullback to around 17x its FY24 earnings. This would imply a stock price of $675, which I think is a good entry point.
For further details see:
BlackRock: Rating Downgrade, Yet I Am Still At A 'Buy'