Of significance is guidance for fiscal 2024 funds management operating expenses of AUD 95 million-AUD 100 million, 18%-22% below fiscal 2023, which surprised the market. Management says it will manage costs in line with the business size. This pragmatism is welcome and essential, given shrinking revenue.

Magellan Financial Group (ASX: MFG) is an active manager of listed equities and infrastructure. The firm historically had considerable success in growing funds under management, owing to its record of outperformance all the way from 2008 to 2019, product expansion initiatives, and strong distribution capabilities. Excess cash is invested in funds, listed shares, and unlisted investments under its principal investments segment. 

However, recently the firm has been hit by significant outflows. Funds under management for the asset manager were around AUD 40 billion in fiscal 2016, similar to now. However, the fiscal 2023 expense base is close to 70% higher.

Our analyst, Shaun Ler, believes that there will be further gradual declines in operating costs, partly offset by lower principal investment returns. This is promising for future earnings, as margin provides attractive protection in uncertain markets.

Our base case is that Magellan’s FUM and revenue shrink, but cost cuts stem the hit to earnings. We see further room for cost-outs from staff, automation, and less discretionary spending. But fee compression, wage inflation, and investment to expand products are likely to damp margins. At current prices, we see the benefits of cost-outs as priced in, but there’s upside if Magellan can cut costs further than we expect.

Ler currently has current fair value of $10.70 on the shares and they are currently trading as fairly valued after the shares surged following the earnings release.