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Money Management

American Century shifting gears, turns to acquisitions

American Century CEO Jonathan Thomas
Jonathan Thomas wants to add quantitative equity and specialty fixed-income managers.

American Century Investments expects to finalize in the next few days a private placement debt offering that will give it the funding for planned purchases of two asset managers specializing in quantitative equity and fixed-income strategies, respectively, CEO Jonathan Thomas said in an interview.

Because the private placement deal is not complete, Mr. Thomas declined to disclose the exact amount the Kansas City, Mo., money manager is looking to raise.

The potential acquisitions would be the first in more than 20 years for American Century, which has $168 billion under management and is primarily known as an equity and fixed-income asset manager. Forty-four percent of American Century's AUM is institutional.

Mr. Thomas said the current environment is a good time to acquire firms given that multiples paid for money managers are at historic lows and distribution has become more difficult for smaller managers.

"There is a tremendous amount of dislocation going on in the industry," he said. "All of those things have combined to create an interesting opportunity for us to add scale and capabilities."

Mr. Thomas hopes the acquisitions could happen within the next several months but is not wedded to a specific date.

More than half of American Century's AUM is invested in U.S. active equity strategies.

The firm's largest equity strategy is global growth, with $16.3 billion managed primarily in separate accounts for sovereign wealth funds and other large institutional investors, said American Century spokesman Chris Doyle. The strategy has topped its benchmark, the MSCI All Country World index, for the one-, three- and five-year periods ended June 30, company data show.

Diversify to reduce volatility

Mr. Thomas said executives at American Century, which saw $1.1 billion in net inflows in 2016, believe increasing diversification of investment options and strategies is important, because it reduces company earnings volatility.

The purchase of a quantitative equity manager would add to American Century's existing $15 billion in such strategies. A 10-person investment team manages the quantitative equity strategies from American Century's Mountain View, Calif., office.

The team's investment returns improved in the year ended June 30, but have been challenged over longer periods.

The team's largest strategy, U.S. disciplined large-cap core, returned 17.97% in the 12 months ended June 30, compared to the 17.9% of its benchmark, the S&P Total Return index. But on a three-year basis, the $6.4 billion separate account strategy returned an annualized 6.67%, compared to the benchmark's 9.61%; for five years, 12.39%, vs. 14.63%; and for 10 years, 6.2% against 7.18%.

Mr. Thomas said in addition to growing quantitative assets, he hopes the acquisition of a quantitative firm will add new capabilities, such as machine learning and artificial intelligence that could be used in other investment strategies.

His plans to add to the firm's more than $40 billion fixed-income operations involve buying a money manager with specialty fixed-income strategies that are in demand by investors, such as private market lending or collateralized loan obligations. Mr. Thomas envisions buying a fixed-income firm with up to $25 billion under management.

Like many active managers, American Century has seen its assets under management rise in the bull market, but it has also seen outflows from its active U.S. stock strategies as investors move to passive approaches.

American Century's U.S. equity mutual funds have seen net outflows of $3.4 billion through July 30 of this year, Morningstar Inc. data show. That follows $1.9 billion in 2016, $2.3 billion in 2015 and $4 billion in 2014. The data don't include separate accounts and collective investment trusts, but Mr. Doyle confirmed flows for those accounts were going in the same direction.

"They're definitely struggling with the same issues that many active managers are struggling with," said Gretchen Rupp, a Morningstar analyst in Chicago who covers American Century. The firm is struggling with "just how you fight the flight to passive and how you stand out and still ensure that you are relevant in asset management going forward," she said.

But growing the firm by acquisition might not be easy to complete, investment analysts and investment bankers said.

For one thing, Mr. Thomas is competing with other large asset managers also looking to acquire capabilities in quantitative equity and fixed income, they said. For another, when it comes to quantitative managers, the pickings are slim.

"Their two areas of focus ... are among the higher-interest acquisition areas," said Aaron H. Dorr, a principal and head of asset management at investment banking firm Sandler O'Neill Partners, New York.

Specialty inflows

Mr. Dorr said active money managers see both areas as adding potential specialty inflows to counter outflows from equities.

He said an acquisition of a quant firm that would bring technological expertise would be particularly difficult because so few firms have those capabilities or are only in the early stages of developing them.

Donald Putnam, managing director at investment banking firm Grail Partners LLC, San Francisco, said American Century will have a hard time finding a quant manager.

"I know the quant space particularly well and there are very few targets, and those targets are very hard to buy," he said.

Another issue, he said, is that American Century already has a quant team.

"How do you go buy a quant firm when you have a quant firm," Mr. Putnam asked. "They have a sizable team, sizable assets and terrible performance. So any firm they buy, what are they going to say? 'Are you buying us so that we can take over that nightmare? Or are you buying us to become part of that nightmare?'"​

In fixed income, he said, American Century would have a better chance of an acquisition: "There's a macro argument against it, which is that in an era of rising rates, even high yield depreciates. However, I think the quest for yield and special situation fixed income has just begun. I do think that's workable."

Ms. Rupp said her concern is that American Century does not have recent experience making significant acquisitions.

"A newly acquired firm has the potential to reinvigorate a pretty traditional asset management shop," she said. "But it could also upset the current culture and detract from the current fund holders' experience if it's not done well."

Mr. Thomas said American Century has a history of collaborative relationships, including one with Nomura Group, the Japanese financial giant that took a 41% stake in American Century in 2016.

He said the American Century and Nomura combination has resulted in $2.5 billion to $3 billion in new assets under management from Asian investors, including a recent $900 million commitment from Taiwan's $110 billion Bureau of Labor Funds.

"We are not sitting here doing only organic stuff," Mr. Thomas said.

The American Century CEO defended the firm's quantitative investment team saying it had a successful investment track record. Mr. Thomas said the potential acquisition is only intended to enhance capabilities, not replace the quantitative investment team.

American Century disclosed on June 28 that Scott Wittman, who served as multiasset strategies and disciplined (quantitative) equity chief investment officer, had left the firm. Mr. Thomas said Mr. Wittman left on his own accord but said he could not discuss the matter further. Richard Weiss and Vinod Chandrashekaran were promoted in June to chief investment roles overseeing the multiasset strategies and disciplined equity teams, respectively.

Pressure to cut fees

American Century's primary owner, controlling 44% of the company, is the Stowers Institute for Medical Research, a non-profit basic biomedical research organization that was founded by the late James Stowers, founder of American Century, and his wife, Virginia. Employees own the remaining 15% of the firm.

American Century does not report profits or revenue. Mr. Thomas said American Century is highly profitable, but is facing pressure from investors, like other active managers, to cut fees, which it has been doing in various investment strategies. Because it wants to retain its earnings margins, Mr. Thomas said American Century is cutting $55 million in expenses over the next year, including reducing its 1,300-person workforce by 30 to 40 employees.

As for the acquisitions, Mr. Thomas said an internal search committee is in the process of visiting potential target firms.

"When we find the right firms with the right products and processes and the right performance, that we believe have a cultural match, we will move quickly," he said.