Tuesday, January 26

Many Ways To Win With AllianceBernstein And Its 11% Yield

AllianceBernstein (AB) may be under the same fee pressures in the asset management space, but it does have its advantages. To be clear, AB isn’t the highest quality name in the space (that would be BlackRock (BLK)), but given the resilient flows and margin potential, as well as the growth potential in alternatives, there are still many ways to win here. Plus, the yield is attractive and should continue to rise, while the tax-efficient MLP structure could serve as a hedge in a higher corporate tax rate scenario.

Sustaining Net Inflows Across Channels

Amid the challenged industry backdrop, AB’s ability to generate positive organic growth in its active equity strategies is positive, in my view. That said, the rest of the equity business is under pressure – AB’s higher-fee value equity strategies, for instance, have seen AuM declining to ~$76bn in 3Q20. Other callouts include Private Wealth, which surprised to the upside with ~$0.3bn of inflows, reversing from the consistent outflows seen over the past year.

Source: Investor Presentation

In aggregate, AB saw net inflows of $3.1bn in 3Q. Note that this includes ~$2.2bn of low-fee AXA outflows, without which the net inflows would have been ~$5.3bn. The AXA headwind is not over, though, with ~$2.9bn of outflows still to go and expected to be completed by 1Q21.

Fee Rates Remain Pressured

Fee rates also came under pressure in 3Q20, as the ongoing mix shift away from high-fee, value equity products, and a decline in the retail fee rate weighed. Within retail, the modestly lower contribution from American Income and Global High Yield drove the weakness (in addition to the mix shift). Net, using the adj base fee revenue of $599m and AUM of $624bn, this implies a base fee rate of ~38.2bps (-0.8% QoQ).

Source: Company Filings

The silver lining is the $17bn institutional pipeline (+46% YoY), where the fee rate is currently tracking above the current institutional fee rate. Expect more growth ahead, as some of the mandates will fund over the next 12-18 months. That said, it’s hard to see overall institutional growth outpacing a low-single-digit % organic growth run-rate in 2021, given the ~$1.5bn of additional outflows from the AXA mandate in 1Q21.

Margin Expansion Potential in Focus

On an adjusted basis, AB’s adj. operating margins rose to 29.7% (vs. 27.9% in 2Q20) despite the lower revenues, as lower expenses provided some offset. Looking ahead to 4Q, I see a path toward an >30% adj. operating margin, given the historical 1-2% point decline in the comp ratio in prior years.

Source: Investor Presentation

Over the longer term, as the buildout in Nashville comes to a close in 1H21 and the NY leases expire, AB should reap the benefits of even more net cost savings. While the initial impact should filter through to the bottom line in FY21, the full savings of ~$75-80m will only be realized further down the line by FY25 or so. Still, I think AB’s focus on expense management should help offset fee rate pressure, with the targeted 30% operating margin looking very achievable, in my view.

Low Rates Remain a Headwind for Fixed Income

3Q20 also saw a surprisingly improved performance in AB’s fixed income franchise, with ~49% of the AUM outperforming over a three-year period, up from ~45% in 2Q. That said, the one-year performance remains lackluster, with only ~24% of the AUM outperforming, reflecting the difficult rate backdrop.

Source: Investor Presentation

And AB’s bond funds could still come under pressure given their heavier allocation to structured products, as well as emerging markets. Amid the continued low rate backdrop and deteriorating credit quality, fixed income may not provide the same income and diversification benefits as it did in prior years, and thus, I see a slow migration into fixed income ahead, providing limited offset to outflows into equities and alternatives.

Alternatives a Key Focus for the Long Term

The key medium to long-term growth driver for AB is its venture into alternatives. While alts only contribute ~20% of AB’s ~$17bn institutional pipeline, alts do make up about half of the pipeline’s fee base. This reflects the fee-rich nature of AB’s growing alternatives business, comprising Arya, as well as US real estate debt and private credit, which has grown at a steady >10% CAGR.

Source: Investor Presentation

Plus, there’s also plenty of untapped potential overseas, and AB (backed by EQH) could gain materially by scaling some of its more successful platforms into underrepresented geographies.

Other Advantages – a Potential ~14% FY22 Yield and a Tax Hedge

AB currently benefits from a <10% effective corporate tax rate (~11% points below the federal rate). But even if corporate tax rates are raised in the coming year, AB’s structure protects it from potential tax leakage. By contrast, AB’s peers, which have a more traditional structure, could see earnings pressure from any increases in the tax rates of their US businesses.

Source: AB Investment Opportunity Investor Presentation

The attractive yield has been well-covered on Seeking Alpha – the latest $0.69/share distribution equates to a ~9% annualized yield, which makes AB a compelling bond proxy in the current low rate environment. But not only do I see the dividend as sustainable, I also see an upward bias given the 3Q AUM strength and the potential for margin expansion in the coming years. During the quarter, AB also repurchased ~0.3m shares for $7m, bringing the total annualized yield (dividend + buybacks) to ~11%. Based on the current market cap, I see the total yield rising to ~14% by FY22 assuming status quo.

Source: Company Filings, Author’s Est

Many Ways to Win with AB

Overall, I like AB given its resilient flows, margin expansion potential, and alternative-driven growth outlook. Plus, the current ~11% total yield (buybacks + distribution) could quite easily rise to ~14% by FY22, in my view, making AB a very attractive bond proxy. Lastly, the MLP structure could also be an advantage under a Biden administration, with less potential tax leakage in a rising corporate tax rate scenario. Key downside risks include weaker fund performance, a decline in net flows, and the outsized fixed income exposure.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Credit: SeekingAlpha

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