Affiliated Manager Group - A great buy

Affiliate Managers Group (Ticker AMG) announced on December 15th, that they hired Gordon Hogarth to head their distribution effort for Europe. I thought this was a good opportunity to highlight the stock.

Like all equity focused asset managers, the keys to growth are: the markets going up, good performance which will attract net new asset flows, and distribution. The news I mentioned pertains to distribution. As you may know, AMG owns stakes in boutique asset managers. For the most part, they just buy good asset managers and give them autonomy and strong incentives to grow. Of the various services that AMG provides to its affiliates, I think the most important is the global distribution platform they are building. They started with an office in Australia over a year ago, then opened an office in London to serve the Middle East market. Now they hired Gordon to head up their distribution effort for Europe out of the same London office.

As a shareholder, I was very glad to see this article. While most of us are shell-shocked by the volatility and economic developments, it was good to see management continuing to execute on their strategy. This will not generate $.20 of EPS next quarter, but it helps set the stage for longer term growth as these various distribution efforts ramp up over the next year or two.

For those of you that don't know this stock, the special thing about the business model is that they make new acquisitions that are accretive to cash earnings. This provides another growth driver in addition to the market and net new asset flows.

This is also part of why the stock performed so poorly this year, underperforming its asset manager peers. The company promotes the use of cash earnings and a pro-forma presentation of their accounting that give the thesis a level of complexity that investor shun in times of uncertainty. Additionally, they have a credit facility that has some covenants and investors have worried that they will either trip the covenants or they will be unable to make more accretive acquisitions because they need their cash to repay the credit line.

My analysis found that if the S&P 500 dropped to 750 and stayed there, they would not breach their covenant until Q3 or Q4 2009. They have enough cash (or availability to cash through a forward sale agreement) that they can pay off the credit line if it came to that. In the mean time, management is likely to be slow to make new acquisitions.

Investors often extrapolate and call it forecasting, and this is the case here. I think the current stock price only makes sense if you think they will loose 15% of their assets, brush up against their covenants, never make another accretive acquisition, and will never generate another performance fee. That mentality describes the current fearful environment, but I think the markets will normalize at some point and when that happens this stock will fly. This could easily run to $60 if investors start to believe the markets have stabilized. That would just be the the valuation bounce before growth kicked in again.

I like this management team. They are former investment bankers which is good and bad. It is bad because it makes them predisposed toward complicated financial structures and proforma earnings. Investors tend to frown on such things. It is good because they are very smart guys and they have raised equity and debt at incredibly attractive levels with good timing.

All that to say, nice job on the new distribution hire AMG and hang in there. The markets will get better and you can make me a lot of money.