It’s been nearly four months since I last checked on Ares Management (ARES), and since then, the shares haven’t really budged at all. Since June 8th, the shares have returned about 2%, when dividends are factored in. While this performance may not be inspiring for some, I don’t believe it tells the full story.
As seen below, Ares Management is a relatively low-beta stock, which means that its stock price has swung relatively little compared to the rest of the market. For this reason, I believe Ares is a relatively good place for investors who are seeking a place to park cash, while remaining in equity market. In addition, I see upside potential from where the stock trades today; so let’s get started.
A Look Into Ares Management
Ares Management is a leading investment manager that has shown resiliency and an ability to thrive during recessions and the current pandemic-induced downturn. It was founded in 1997 that operates in the three segments of Credit, Private Equity, and Real Estate.
Ares currently has $106 billion in total FPAUM (fee-paying AUM), with about 75% of assets in credit-related investments, 16% in private equity assets, and the remaining 9% in Real Estate. It has a stable and high-quality investor base that includes pension funds, insurance companies, banks, sovereign wealth funds, and university endowments.
What I find impressive is that the Ares continued to grow FPAUM both sequentially and YoY, by 3.4% and 18%, respectively, in the latest quarter. This translated into a 26% YoY growth in FRE (fee-related earnings), as many of Ares’ funds are mature, and therefore have lower administrative and setup costs than newer funds. This translates into higher profitability, which is why FRE grew faster than FPAUM.
(Source: Company Earnings Presentation)
Overall, I see Ares as having recession-resistant business model, as investors gravitate towards the perceived safety of Ares’ investments over the riskier equity market during times of distress. As seen below, Ares has a strong track record of attracting investment capital in both good times and bad, which includes the Great Financial Crisis of 2008-2009.
(Source: Q1 ’20 Investor Presentation)
Meanwhile, Ares appears to have plenty of firepower. As of the last quarter, Ares has $25B worth of AUM not yet paying fees that is available for future deployment. By management’s estimates, this could generate approximately $279M in potential incremental annual management fees. By my estimate, this alone could drive between 20% and 25% earnings growth, based on the current $105B that Ares has in FPAUM. In addition, management appears fairly confident in its continued fundraising efforts for the remainder of the year, as noted below during the last conference call:
“Our fundraising momentum is continuing, and our entire organization is highly focused on surpassing at least $30 billion of capital commitments this year, which we’ve only done once before in 2018. We currently have at least nine commingled fundraises, either in the market or to be launched in the next six to nine months, including our four largest private commingled successor funds. These nine funds showcase the breadth of our offering and, together, represent at least $25 billion of incremental equity capital commitments targeted to be raised through the end of this year and into early 2021.”
Based on the analyst estimates below, Ares is expected to post an average 21.4% annual EPS growth over the next two years.
With this in mind, I wanted to calculate what the PEG ratio is, with the following inputs:
- Price: $41.00
- EPS: $1.68 (2020 EPS Estimate)
- EPS Growth Rate: 21.4 (based on average of 2021-2022 growth rates)
With the inputs above, I arrive at a PEG ratio of 1.14. Using a PEG ratio of 1 as a standard for fair value, the shares appear to be slightly overvalued. However, I believe a higher valuation is warranted for Ares, especially given its demonstrated track record of growth through both the prior and the current recession. Analysts seem to share a favorable opinion of the stock, an average price target of $45.33, with an overall bullish rating (score of 4.2 out of 5).
Risks To Consider
As with any asset manager, management reputation is extremely important as perceived transgressions can lead to an exodus of capital and materially reduce assets under management, thereby reducing the management fee revenues they receive. While Ares has had a strong track record of rewarding investors since its founding in 1997, this is something investors should be mindful of.
In addition, fee compression can occur if there are unfavorable supply and demand dynamics for its funds, especially if there is increased competition for private investment dollars. While Ares has consistently grown its AUM over time, it is something investors should keep a watchful eye on.
As seen in the current downturn, investors have gravitated towards Ares for the perceived safety and shelter from equity market volatility. I expect this momentum to continue, as Ares has plenty of dry powder remaining to be deployed and expects solid fundraising for the remainder of the year. Based on the valuation exercise, I see further upside for the shares due to “all-weather” nature of Ares’ business model through various economic cycles.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: This article is for informational purposes and does not constitute as financial advice. Readers are encouraged and expected to perform due diligence and draw their own conclusions prior to making any investment decisions.