Investment research company Morningstar has outlined that the prospective merger between Platinum Asset management and L1 Capital is likely to stabilise funds under management and improve earnings for Platinum.
In an ASX statement on Monday, Platinum Asset Management announced it had entered into a binding agreement to merge with global long/short fund manager L1 Capital.
In its statement, the asset manager said the Platinum board had unanimously recommended in favour of merging with L1 Capital.
The firm said the merger would create a market-leading provider of listed and alternative investment strategies with funds under management of $16.5 billion.
Commenting on the announcement of a binding agreement, Morningstar equity analyst Shaun Ler said the combined entity will have greater asset class and client diversity, which would facilitate cross-selling and customer retention.
“This should help stabilise funds under management and improve earnings, mainly from cross-selling L1’s product set to Platinum clients,” Ler said.
However, Morningstar warned that the merger was unlikely to improve flows into Platinum’s suite of funds given their poor performance.
“More broadly, the structural challenges facing traditional active managers like Platinum and L1 remain – namely, fee pressure and market share loss to passive vehicles such as ETFs,” it said.
Morningstar has retained its fair value estimate of AU$0.50 per share for no-moat Platinum.
“Assuming net outflows from the combined entity slows – with net inflows into L1 partially offsetting losses from Platinum – and the entity reduces costs in line with targets; our fair value estimate would increase to AU$0.60–AU$0.70 per share depending on the rate of outflows,” Ler said.
Overall, Ler said Platinum’s merger with L1 should be “value-accretive”.
“The investment style and firm cultures are broadly aligned,” he said.
“Product overlap is marginal. L1 has a much more diversified client base and manages a select few niche strategies – such as long/short and catalyst-driven funds – that are less replicable by passive options.”
He also noted that investment performance for its suite of funds has been solid over the longer term.
“We estimate it has broadly gained consistent net flows over the last seven years with the exception of the coronavirus-stricken fiscal 2020,” Ler said.
Ler said the merger would do little to improve the combined entity’s competitive positioning relative to passive investment houses or larger active peers with better scale advantages.
“L1’s – and Platinum’s – management fees remain above peer averages, already a disadvantage for fee-conscious investors. This places its fortunes on performance, which can vary significantly year on year,” he said.
“Notably, unlike traditional active managers, L1’s business is heavily dependent on performance fees. Performance fees have accounted for roughly 60 per cent of revenue over the last three years, presenting significant earnings and margin volatility.”
However, Ler said the merger did offer the potential to reduce costs.
“The combined Platinum–L1 entity aims to further reduce operating costs by 25 per cent–30 per cent by fiscal 2027. We estimate the combined entity’s cost/income ratio (excluding performance fees) exceeds 60 per cent,” he said.
“At the current fiscal 2027 target, it will likely continue to remain as such if Platinum’s revenue continues to compress and L1’s performance normalises as we expect.”
Cost reductions from the merger will likely involve consolidating technologies and processes, further removal of mainly non-investment staff, and additional adjustments to remuneration for the investment team.
“However, this would entail another round of corporate transition following the range of recent corporate changes,” Ler said.
These include portfolio manager departures – including the replacement of Andrew Clifford and Clay Smolinski – previous workforce downsizing, the closure of various UCITS and Cayman funds, and remuneration adjustments, Morningstar said.
“Such events typically warrant a cautious view from research houses and investors for an extended period. Under the proposed merger, L1 shareholders would own around 74 per cent of the combined entity, with existing Platinum shareholders retaining around 26 per cent.
“Platinum shareholders are guaranteed a share of performance fees from L1’s long/short funds and mandates, based on the first 3.5 per cent of annual absolute returns (after performance fees). This helps Platinum shareholders receive a more stable income stream from these performance fees rather than being exposed to the full ups and downs of fund performance.”
