Highbury Financial (OTC:HBRF) is a very high conviction name in our portfolio, representing 15% of the total assets as of 10/15/07.
The Company and Business
The company was started in July 2005 as a blank check company to acquire or acquire control of operating businesses in the financial services industry. The first acquisition of the company under the label Aston Asset Management (Highbury is a 65% owner of Aston) was of ABN AMRO's investment advisory, distribution and related services to their mutual funds in the United States which was completed in November 2006. The business combination was made by a subsidiary of Highbury called Aston Asset Management. As of 6/30/07, Aston was the advisor of approximately $5 billion in assets under management with 19 different mutual fund products as well as a small amount of separate account assets. During the third quarter of 2007, Aston added 3 additional new mutual funds, Resolution Global Equity (Quantitative Global Large Value strategy), Neptune International Fund (International Large Core) and ABN AMRO Global Real Estate Fund.
Below is Aston's current set of investment managers by style with associated assets as of 9/30/07 (Note that I do not have the asset levels for the 3 new funds as of yet):
Large Cap Growth Assets ($M)
ABN AMRO Growth (I,N,R) $ 434.6
Montag Growth (I,N,R) $1919.4
Optimum Large Cap N $ 34.8
Veredus Select Growth I, N $ 48.4
Large Cap Value Assets ($M)
Aston Value (I,N) $ 412.7
Aston TAMRO Lg Value $ 15.3
River Road Dynamic Eq $4.3
TOTAL $ 462.3
Mid Cap Assets ($M)
Optimum Mid Cap $ 884.4
Small Cap Growth Assets ($M)
Veredus Aggr Growth $ 221.6
Small Cap Value Assets ($M)
River Road Sm Value (I,N) $ 309.1
River Road SMID Value $ 9.7
TOTAL $ 318.8
Small Cap Core Assets ($M)
TAMRO Small Cap $ 352.9
Sector Assets ($M)
Veredus SciTech $ 3.1
Balanced Assets ($M)
Aston Balanced $ 35.7
Montag Balanced $ 17.3
TOTAL $ 53.0
Fixed Income Assets ($M)
TCH Fixed Income (I,N) $ 91.0
TCH Inv Grade (I,N) $ 16.2
McDonnell Muni Bd $ 16.2
TOTAL $ 123.4
Real Estate Assets ($M)
ABN ABNO Real Estate $ 91.7
TOTAL ASSETS (not including new funds or separate accounts): $4.95 Billion
Clearly, Aston's subadvisors have a significant growth bias especially in large cap. Aston has mentioned on all of their conference calls and in their investment presentations that they are planning to further diversify their allocation to add more international and value exposure over time which is starting to occur with the recent launches of the new funds.
Highbury Financial has experienced a dip in assets over the last 3 years primarily due to the struggles of their prior flagship ABN AMRO Growth Fund with the uncertainties related to the future of ABN AMRO. My expectation is that Aston is forming a base in their asset levels at the present time and they will begin to once again grow assets at a 15-20% rate in 2008 (assuming a general market appreciation). The largest single manager at the present time is Montag & Caldwell, which is a very well respected primarily mega cap growth manager out of Atlanta. Montag had excellent absolute returns from 2003-2006 but trailed the large cap growth index due to its larger than benchmark capitalization and high quality bias which were both headwinds during this period. Prior to 2003, Montag had fantastic returns during the bear market and will likely outperform in any future downturns which makes them very attractive to many institutional investors such as pension funds and foundations/endowments.
The newer funds such as those run by River Road Asset Management and Neptune are in my opinion high quality managers which should attract significant assets over time. Overall, Aston has a solid list of sub-advisors which should lead to consistent AUM growth in the future.
- Strong Management Team. Highbury was founded by executives from Berkshire Capital, a highly respected investment banking firm out of New York that specializes in mergers and acquisitions along with members from Praedium Group and Caledonia Investments. Meanwhile, Aston Asset Management is run by Stuart Bilton and Kenneth Anderson who were the original founders of the group in 1993 (as a sub of Chicago Title & Trust).
- Future Asset Growth. I anticipate that Highbury will steadily increase their asset base at 15-20% per year beginning in 2008 as the firm continues to add new sub-advisors, diversify their asset base as well as see continued improvement in performance of some of their managers which have had more difficult recent performance (but excellent long term performance). I also anticipate accretive acquisitions over the next 1-3 years when the firm can do so at attractive valuations which will improve both the top line and bottom line for the firm.
- Increased diversification of exposures. Highbury/Aston is in the process of diversifying their exposures so it is not as dependent on a couple of subadvisors or on one area of an asset class (such as large cap growth).
- No analyst coverage. The stock is traded on the OTC Bulletin Board and is outside of most investor's radar screens.
- Clean balance sheet and strong cash flows. Highbury is selling for $4.70 per share, has no debt, over $1/share in cash and is generating about 8 cents per quarter in fully diluted cash earnings. My expectation is that the company will use the large cash position and potentially borrow money to selectively make accretive acquisitions at attractive valuations which would increase shareholder value over time. Note that the company has both warrants (exerciseable at $5 or greater per share in January 2010 or if the stock trades above $8.50 for any 20 days within a 30 day period) and units that would be available as potential sources of cash if the above conditions are met.
- Thinly traded. The stock is thinly traded and therefore over the short term can have large price fluctuations on relatively small volume.
- Large equity exposure. Although, the Aston Funds are generally more defensively structured the levels of assets under management can be susceptible to any major downturns in financial markets.
- Large individual manager exposure. Montag & Caldwell currently comprises greater than 40% of the asset base of Aston. Any negative material events at Montag could result in significant declines in AUM. Montag is a well regarded investment management firm and I am not aware of any issues at this time. Montag's performance has traditionally done better in softer markets and also when mega-caps are performing well.
- Accretive Acquisitions. Highbury's strategy is to acquire majority interests in investment management firms that have significant growth potential and to develop partnerships with these firms to last a minimum of 7 years. The firm has over $1/share in cash, potential warrant/unit proceeds and a line of credit available to foster additional growth through acquisition.
- Improvements in AUM. After a period of fast growth in the late 90s to 2003 the firm (under ABN AMRO's umbrella until late 2006) has had a slow yet steady decline in AUM due to the pending sale of the then parent company ABN AMRO and a slower rate of investment manager growth. In recent months, the firm has introduced several new mutual funds and has started to witness improved short term performance by the largest manager, Montag & Caldwell as well as solid performance from the newer managers.
- Analyst coverage. The stock is not currently covered by any analysts and the initiation of coverage could help to spread the knowledge about the company.
- Move to a listed exchange. A move to a major exchange such as the NYSE, AMEX or NASDAQ would help to improve the visibility of the firm. The executives of the firm have recently begun to appear at more investor conferences which could also help to improve visibility.
My expectation is that cash net income will be roughly 40 cents for this year and then accelerate by 15-20% over the next 3 years as accretive acquisitions and increased AUM falls to the bottom line of the company. My estimate of fair value based upon the enterprise value of the company, cash flows and my growth projections gives the stock an estimated value of $8 per share or 70% above current levels over the next couple of years.
I would note that one other measure of valuation commonly used by investors for investment manager advisors is to look at the market capitalization/assets under management with the traditional benchmark that companies that are fairly valued would have a ratio of about 3% (note this would be shifted somewhat based on leverage and growth of AUM). The current enterprise value of the firm is approximately $30 million with a market cap of $49 million (assuming no warrant dilution) while 3% of AUM would give a value of around $150 million for the company. Regardless of what measure I use the stock looks very inexpensive with a nice cash cushion, very strong management and a great list of high quality sub-advised investment managers.
* Note that this stock is thinly traded and therefore I would recommend that any position changes be made in smaller increments or with all or none transactions.