HDFC AMC is coming out with an IPO at an Market cap of 23000 Crores whereas Profits in FY2018 was 722 Crores i.e. at a PE of 32. The Question is are you better off investing in a HDFC Mutual fund units or the company selling mutual Funds?
We at Stallion Asset study business models of Great Wealth Creators Globally and our findings are that the greatest business models are the one’s which depend on Brand Equity, i.e. no working capital or Fixed asset investment required to grow the business. Think about this deeply, this phenomena works in 2 Industries primarily i.e. Consumers and Financial Services. Hindustan Unilever the Leader of Consumer companies in India had Total Fixed Asset of 1500 Crores in 2008 and Made a cumulative Profit of 42000 Crores in last 10 years with no new capital employed, infact in FY2018 they made a Profit of 5500 Crores and this pool is growing. The Story is Similar with Proctor and Gamble, Nestle, Coke etc. In the Financial Services Industry, Credit Rating agencies are a proven business model for last 100 years and are great freecash flow machines.
Business model – Mutual Funds are a Similar Business Model where there is no new Fixed Cost Requirement or working capital employed if you are managing 10,000 Crore or 50,000 Crores. HDFC AMC had 60 Crores of Fixed Assets in 2008, today in 2018 after depreciation it has 32 Crores of Fixed Asset on its book, though the profits of Company has Increased 6x from 117 Crores in 2008 to 722 Crores in 2018.
Lets Understand HDFC AMC a little better, ofcourse you now know that it made 722 Crores of Profit in FY2018, but do you know how much money was Invested to make this money? – The Total Net worth of the Company is 2150 Crores in FY2018 though 1950 Crores is Invested in Cash Equivalents, i.e. the total money invested in the Business is just 200 Crores. The Company made a Profit of 650 Crores i.e. 320% Core ROCE (722 Crores is Total Profit and 72 Crores is post tax Interest Income). This is just too kickass, a machine of free cash flow.
The Business Primarily Depends on Three things primarily 1) Performance of the Fund 2) Distribution Reach 3) Trust factor.
Performance –> Now let me be honest with you, most mutual fund managers have the same stocks and mutual fund managers in India are not given performance fees, the incentive structure is such that they are not paid to be the best performing ones, they are paid for being Bullish all the time and getting New AUM.
Trust – This is a Game Changer, most mutual fund investors put their money in brands they are familar with as it is their life savings. The top 5 mutual fund companies have one thing in common, they all belong to big corporate houses like ICICI, SBI, HDFC, Reliance etc. These people won’t shift to Stallion Asset for 3-4% excess returns, Stallion would have to perform a lot better and spend a lot of time to break their moat.
The Profit Pool (Opportunity Size)– The Total Profit of top 5 Mutual Funds in India who have a 57% Market shares is 2500 Crores in FY2018. Think about this for 2 mins, the Total Profit Pool of top 5 Asset Management companies in India is just 350 Million USD. James Simons of Renaissance Capital (Midsized Hedge fund in USA) alone made 1.7 Billion$ of Profit this year, that is 4x the total Profit Pool of top 5 Indian Asset Management Companies. We at Stallion Asset Believe that the Profit pool would go up 5-7x in next 10 years and HDFC AMC is the Shark in the Ocean.
How Would Growth Come – Growth would come due to 3 important factors
A) Existing Investors Increase Allocation via SIP, Lump Sum payments
B) New Investors coming in the Market
C) Stock Market Rising.
We at Stallion believe all 3 factors would play very well and AMC Companies are expected to Growth 6-7x in next 10 years.
Risks – When i first started reading the about HDFC AMC, my first question was what happens to the revenues of the company when the Market Falls – I was Surprised to see that Between 2008 and 2013, the profits of HDFC AMC rose 3x from 117 Crores to 318 Crores while asset under Management grew from 63000 Crores to 98000 Crores i.e. Growth of 50%, this happened because distributor fees took a knock after SEBI changed laws for Mutual Fund commissions in 2008 (This was a one time). We believe that since there wouldn’t be any change in law again hence the Revenues would be secular in the Long term though there would be some cyclical behavior in the short term.
Conclusion – HDFC AMC at 32 PE with 40%+ ROE for last 15 years and expected growth rate of 15-20% for next 10 years, with high quality management, 50%+ dividend Payout Ratio, Strong distribution network seems to be a build to last business and with a float of just 2300 Crores. We strongly believe that the profits of next 10 years of HDFC AMC would be more than the total Profit pool of Top 5 asset management companies today.