2% Fee Compression And Heavy Outflows Will Derail Future Revenue

Key Takeaways

• Fee compression from a shift to lower-fee products is negatively impacting net revenue outlook, pressuring earnings.
  
• Substantial net outflows and challenges in delivering alpha in a narrow market could suppress future revenue growth and earnings.
  
• Strong ETF growth, positive net inflows, improved sales, and robust investment performance bolster T. Rowe Price's position and potential for increased revenue and earnings.

Catalysts

A publicly owned investment manager.

• T. Rowe Price Group is experiencing significant fee compression with a higher-than-average rate of 2% in 2024, due to a mix shift in sales towards lower-fee vehicles like ETFs and institutional accounts, impacting their net revenue outlook negatively.
  
• The company is currently grappling with substantial net outflows, totaling $43.2 billion for 2024, across various asset classes, including previously lucrative equity products, which might suppress future revenue growth.
  
• Real estate costs associated with moving into a new headquarters are expected to create a financial burden in 2025, potentially impacting net margins as much as $20 to $30 million due to double rents and additional capacity.
  
• T. Rowe Price is facing difficulties in delivering alpha in a narrow equity market dominated by large technology stocks, which challenges their active management strategies and could hinder future earnings.
  
• Although the company has invested in new growth areas like ETFs and alternatives, the resulting fee and revenue pressures from these lower-margin products might not suffice to counteract the revenue decline from the underperformance of traditional equity offerings.

T. Rowe Price Group Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on T. Rowe Price Group compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming T. Rowe Price Group's revenue will decrease by 0.6% annually over the next 3 years.
• The bearish analysts assume that profit margins will shrink from 28.8% today to 28.2% in 3 years time.
• The bearish analysts expect earnings to remain at the same level they are now, that being $2.0 billion (with an earnings per share of $9.01). The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 10.9x on those 2028 earnings, up from 9.4x today. This future PE is lower than the current PE for the US Capital Markets industry at 23.1x.
• Analysts expect the number of shares outstanding to decline by 0.3% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.09%, as per the Simply Wall St company report.

T. Rowe Price Group Future Earnings Per Share Growth

Risks

• T. Rowe Price has shown strong growth in their ETF business, ending 2024 with almost $8 billion in assets under management in ETFs, which could potentially improve revenue due to diversification and capturing a growing market trend towards ETFs.
  
• The company achieved significant net inflows of $16.3 billion in their target date franchise, which remains an industry leader, potentially leading to increased revenues and earnings through robust market positioning in retirement solutions.
  
• The decline in net outflows by nearly half year-over-year and substantial improvements in gross sales indicate positive customer sentiment and strategic growth, which might stabilize or increase future net revenues and earnings.
  
• T. Rowe Price's investment performance saw 61% of funds beating peer groups on an asset-weighted basis, which could enhance future sales and client retention, resulting in improved revenue and margins as investment performance typically drives asset growth.
  
• The company’s continued capital management, including returning over $1.4 billion to stockholders and maintaining a strong balance sheet with ample liquidity, suggests financial resilience that would support strategic investments and potential growth in earnings.

Valuation

• The assumed bearish price target for T. Rowe Price Group is $79.23, which represents one standard deviation below the consensus price target of $91.38. This valuation is based on what can be assumed as the expectations of T. Rowe Price Group's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $125.0, and the most bearish reporting a price target of just $78.0.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $7.0 billion, earnings will come to $2.0 billion, and it would be trading on a PE ratio of 10.9x, assuming you use a discount rate of 7.1%.
• Given the current share price of $86.66, the bearish analyst price target of $79.23 is 9.4% lower. The relatively low difference between the current share price and the analyst bearish price target indicates that the bearish analysts believe on average, the company is fairly priced.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.