Asset management firm T Rowe Price Group Inc. has entered the Indian markets on a firm footing, acquiring a 26% stake in one of the largest domestic mutual funds, UTI Asset Management Co. Pvt. Ltd (UTI AMC). At first look, it seems like T Rowe Price managed to get a good deal, buying the stake at a valuation of around 3.3% of UTI’s assets under management (AUM).
But it is important to note that T Rowe has been talking to UTI’s selling shareholders—a cluster of public sector banks—for about a year now. The valuation amount has been doing the rounds for the past few months, which indicates that the deal was struck long ago and it is because of procedural hurdles that it has only been announced now. It would make more sense, therefore, to look at the average AUM of the fund house in the past year than just AUM at end-October. Especially since UTI’s assets have doubled in the past one year on the back of a surge in inflows into short-term debt funds.
Using the average AUM for the past year, the valuation works out to a higher level of 4.3% AUM, which is justifiable. True, Nomura Group acquired 30.5% of LIC Mutual Fund last June in a deal valued at 2.4% of AUM, while L&T Finance took 100% of DBS Cholamandalam at a valuation of 1.6% of AUM, but then these were small deals, and UTI is in a completely different league.
UTI, after all, has a wide distribution reach and a decent mix of equity schemes in its portfolio of products, which generate more fees than debt schemes. In the year till March, UTI AMC reported a net profit of Rs115 crore, which represented a healthy 32.5% of its revenue for the period.
What’s more, its return on capital employed (ROCE) was also decent, crossing 25% last year. Reliance Capital Asset Management Ltd, which is the largest fund house in AUM, has a net profit margin of 25.5% and an ROCE of around 20%. Reliance’s numbers are for the year ended March 2008 (the latest numbers are not available), during which time UTI’s margins and ROCE exceeded 35%.
The firm valuation of Rs2,508 crore translates into a reasonably high price-earnings multiple of 22 times past earnings, keeping in mind near-term concerns for the industry. In the near term, the fund house’s profit margins and return ratios are expected to fall because of a policy change on entry-level commissions. Market regulator Securities and Exchange Board of India (Sebi) has banned the deduction of entry loads by asset management companies and directed that investors should rather pay agents commissions directly. This is expected to result in an increase in distribution costs for fund houses and, hence, a drop in profit.
Even before the Sebi directive came out, there had been a drop in retail participation because of the market crash in 2008 and the new policy seems to have aggravated matters for fund houses, if only for the short term. In the long run, the mutual fund business is expected to grow handsomely since penetration is still low. Keeping that in mind, T Rowe Price’s investment is likely to provide bang for the buck.
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