Profit with Tatton’s unique model

The sector has seen a split develop between firms that handle the huge mandates pension funds hand out to manage money on their behalf, and those that cater to independent financial advisers who own brass plaque firms in county towns up and down the land on the other. Over the past year, it has been the asset managers with their own distribution networks (or at least deep-rooted relationships with a broad range of distributors) which have shown more resilience. In short, the key differentiator between companies is not the volume of fees they can generate when times are good for all, but the model that underpins the business when the situation is tougher. With this in mind, investors would do well to consider one player whose model looks particularly robust: Tatton Asset Management (TAM). 

The positives…

The sense of both resilience and progress was clear from Tatton’s latest results. In the six months to September, the group saw organic net inflows hit a record £907mn, an 8 per cent increase on opening assets under management (AUM) and a 39 per cent year-on-year jump during a period when most asset managers struggled to stay in positive territory. Whether that performance can hold up depends partly on factors beyond Tatton’s control, but management did comment that momentum had persisted into October and November. Throw in the £1bn of funds acquired in the merger with boutique asset manager 8AM Global, and that puts AUM and influence at £12.3bn, meaning client funds have grown by an average 23 per cent a year since September 2017. It also puts the group on track and within sight of a target to hit £15bn AUM by March 2024.

In addition to the 8AM deal, the group completed the acquisition of Fintel’s Verbatim range of funds last year for a £5.8mn cash consideration, adding around £650mn to the AUM pile. However, Tatton has largely managed to support growth organically, and most of its ability to add new funds comes from steadily building its distribution footprint via its network of independent financial advisers (IFAs).

As a representative sample, during the first half, the number of IFA businesses with which Tatton works grew almost 15 per cent to 806, while the total number of accounts jumped 21 per cent to more than 98,650. Three years ago, these figures stood at 522 and 61,250, respectively, suggesting momentum has been strong for some time.

What Tatton offers its IFA networks are tailored portfolios based on a few key strategies. This takes the burden of portfolio management out of IFAs’ hands, while at the same time limiting the legwork for Tatton as its portfolios are managed on a discretionary basis, which means Tatton can take investment decisions without needing to consult clients first. The customer base is also less volatile than those that use self-invested personal pensions (Sipps) or individual savings account (Isa) platforms, while attrition from IFA consolidation looks manageable (in the six months it meant the loss of just £125mn in AUM).

The combination of stable costs – no star managers to keep happy with bonuses – plus consistent organic growth rates means Tatton’s operating margin is one of the best in the industry. Since 2017, it has averaged 38 per cent, but should hit 50 per cent if forecasts for FY2024 are met. Maintaining that level of profitability will be a challenge, but given how fragmented the underlying IFA market is, the group has the luxury of being able to generate both organic and acquisition-led growth. How far and how big it intends to grow is the next strategic question for Tatton; once a fund manager grows beyond a certain level of AUM, the ability to generate meaningful growth becomes ever costlier. But, for now, the growth story helps explain and justify the shares’ premium rating when compared with the sector giants.

...and the negatives

The main downside to Tatton’s investment case concerns the regulatory requirements that come with increased scale and size. Fiduciary investment firms are highly regulated, and with good reason, but it also impacts on how firms manage their capital. For example, new rules that came into force last year mean that Tatton, and other fund managers, will likely have to increase the amount of reserve capital held on the balance sheet and enforce restrictions on the use of cash or debt for acquisitions. Whether this has much impact on a business that relies mainly on organic growth for expansion is not yet clear, but it will be a factor when management comes to decide how big the business can grow.

The other reality is that Tatton, despite having maintained its position as a leading discretionary manager during a period of rapid market growth, remains a minor player when toal AUM is compared to the overall asset base of the biggest wealth and asset managers. Consolidating its position must be a priority to avoid a low-ball buyout attempt, or the effort by a much larger house to muscle in on the market by matching its offering.

Tatton’s unique selling point is how it has put together the various elements of the asset manager business together into a new and interesting model. Individually, however, there are few barriers to entry for competitors with deep pockets who could build their own distribution network and undercut what Tatton is doing through sheer ruthlessness. Schroders, for one, has made a notable push in this market segment (see table).

Tatton's shares are currently priced at 22 times Singer Capital’s earnings forecast for the year to March – a clear premium to most companies in the sector, including wealth management behemoth St. James’s Place (STJ). The call for investors is whether Tatton has found a way to generate growth for itself, without adding vast costs in a way that undercuts the business model. We feel that the last results in particular – which landed in the teeth of both market retrenchment and spiralling costs for asset managers – suggest it has and justify Tatton’s growth stock rating. If anything, recent momentum suggests FY2024 forecasts could prove a little stingy, assuming markets do not implode.

Fundamentally, if you want people to stick with you, the key is to develop a deeper business relationship and make sure that maintaining it does not cost the earth. In this respect, we think Tatton has succeeded.