Urbem's 'Wonderful Business' Series: SEI Investments
"CEOs need to be shareholders. They should have just as much at stake as their employees or their investors." - Alfred West, chairman and CEO of SEI Investments
Pennsylvania-based SEI Investments (NASDAQ:SEIC) is a global provider of investment processing, investment management and investment operations solutions that enables corporations, financial institutions, financial advisors and ultra-high-net-worth families to create and manage wealth. In 1968, its current chairman and CEO, Alfred West, who was just fresh out of college, founded the company as Simulated Environments to develop training simulation applications for banks. Over the next several decades, the business pivoted a couple of times and transformed from a small two-person operation into an almost 4,000-employee company as of today. In the meantime, West kept his salary low, and his equity stake high. He received a modest base salary of $650,000 in 2018 and personally owned over 12% of the company.
SEI Investments generates its revenue through "Asset management, administration, and distribution fees" (78% of fiscal 2018 sales) on its investment management and operations outsourcing platforms and "Information processing and software servicing fees" (22% of 2018 sales) on its investment processing platforms. As you may have realized, the company is both a fintech provider and an investment management shop. At the end of 2018, SEI had $307.3 billion in assets under management and $572.5 billion in client assets under administration. The U.S. is the primary geographic market for the company, accounting for 83% of 2018 sales, followed by the U.K. with a little over 10% revenue share.
Fees from SEI's proprietary technology-driven platform are highly recurring and predictable thanks to the high switching cost. The platform is hard to cast off, once installed, and embedded in the day-to-day, mission-critical operations of the client. The full spectrum of services provided (covering front-office to back-office) and some degree of scale advantage (to spread the research and development as well as sales and marketing costs) further widen the economic moat for SEI Investments.
According to the chart below, SEI Investments mostly outperformed its peers, including State Street (NYSE:STT), Invesco (NYSE:IVZ) and Waddell & Reed Financial (NYSE:WDR), in terms of return on assets for the past several decades.
Both technology and financial services businesses are highly cyclical. However, during both of the last two recessions, SEI was able to maintain its return on assets at a level above most of its competitors.
Although the revenue and operating income were down significantly during the financial crisis (see above), the company did not pull back on its research and development spending. On the contrary, it aggressively spent more cash on investments in 2009, as shown below.
Although it is sensitive to economic cycles, SEI can benefit from its durable competitive advantages and consistently above-average cash return on capital to invest for the long term during recessions and widen its gap against competitors.
The company's chief financial officer, Dennis McGonigle, replied to our recession concern previously as follows:
"If we have an upcoming recession that results in disrupted markets, we usually see additional market opportunity emerge as the markets we serve become more attracted to outsourcing of technology, operations and asset management. We are not immune to market moves, however as '08 and '09 showed our business is financially resilient, our balance sheet is strong and our willingness and ability to lean into clients pays off in the long-term."
The company's primary growth strategy lies in penetrating the current markets, expanding into new adjacencies (e.g., family office, independent registered investment advisor) and launching new products (e.g., data analytics, fintech cloud). The asset management industry will be offering both headwinds (e.g., passive investing, fee pressure) and tailwinds (e.g., tighter regulations, replacement of legacy systems) for SEI. Meanwhile, the stock market tends to go up in the long term, leading to more assets under management and administration, and hence, more fees generated for the business.
Disclosure: The mention of any stock in this article does not constitute an investment recommendation; investors should always conduct careful analysis themselves or consult with their investment advisors before acting in the stock market. We own shares of SEI Investments.
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This article first appeared on GuruFocus.
