BlackRock faces challenge of keeping BGI assets

NEW YORK (Reuters) - With the $13.5 billion Barclays Global Investors takeover, BlackRock Inc Chief Lawrence Fink will soon manage more money than the U.S. Federal Reserve. Now he has to hang on to all those assets.

As was widely expected, BlackRock late on Thursday announced a deal to create the world's largest money manager with 9,000 employees and $2.7 trillion in assets: more than the U.S. municipal bond market, bigger than the GDP of France and twice the assets of its nearest rival, State Street Corp.

Yet the history of asset management mergers is filled with disappointments, as star money managers and clients walk out the door and two plus two often equals three.

"When you consider the execution risks, the challenges of integration and the chance they don't retain 100 percent of Barclays' assets, there are risks," said analyst Matthew Albrecht of S&P Equity Research.

"Considering their lofty multiple, there isn't much upside and a lot of downside," said Albrecht, who slapped a "sell" rating on BlackRock in April.

Heading into the deal, BlackRock was trading at 30 times estimated 2009 earnings after climbing 24 percent since speculation of a deal surfaced last month. The stock soared 87 percent since U.S. stocks bottomed out in early March, and now trades about 22 times pro forma 2010 earnings.

So even as analysts applauded the powerhouse created by the deal, BlackRock stock fell 4 percent. Barclays Plc, parent of BGI, fell 4 percent in London.

PITFALLS

Mergers are always tricky, especially money management combinations where executives and managers often quit, customers flee and businesses can clash.

Merrill Lynch acquired British money manager Mercury Asset Management Group for about $2.8 billion in 1997, only to see assets fly out the door. Charles Schwab Corp bought US Trust, but then shed the private bank in 2006 when it did not mesh with online brokerage.

BlackRock executives, though, said the combined companies have very little overlap.

BGI is dominant in exchange-traded index funds, or ETFs, with nearly 50 percent market share of what has been a rapidly growing part of the investment world. It also has a thriving indexing business for institutional investors.

These passive, benchmark-linked investments are less likely to run off than funds run by star managers, analysts said.

"If I'm an investor who owns iShares, am I really all that concerned whether BGI is owned by Barclays or BlackRock?" Sandler O'Neill + Partners analyst Michael Lee said.

Some analysts noted ETFs have been on a tear since markets tumbled last fall, a growth trend that may not be sustainable. Investors poured into ETFs, which allow rapid intraday trading, mindful of the rapid volatility in the markets.

BlackRock also gets credit for smoothly integrating past deals, including the second-largest money management merger, its $8.5 billion deal with Merrill Lynch's investment management unit in 2006.

Revenue has surged to $5 billion last year from $1.2 billion in 2005, driven by the Merrill deal as well as strong flows into its fixed income funds. BlackRock is the largest debt manager with $800 billion, and has another $427 billion coming with BGI.

The firm has emerged as the go-to manager for Uncle Sam, which tapped BlackRock to manage assets acquired from Bear Stearns and AIG.

Fink's biggest challenge, then, is sustaining revenue growth from a much much bigger base.

"How do they grow from here?" said Ted Gooden of asset management merger advisory firm Berkshire Capital. "Money managers get high multiples either because they have high margins or market growth. We have to see if can they continue to expand."

Aside from the Friday sell-off in shares, investors showed they have their doubts: short-selling interest in BlackRock, or bets that the stock will fall, has doubled to more than 2 million shares this year.

Still, the consensus for now is that BlackRock has scored a unique franchise and created the undisputed heavyweight of the investment business.

"They have two category killers: dominant market share fixed income as well as in index funds and ETFs," said Eric Weber, chief operating officer of investment bank Freeman & Co and an adviser to money management firms. "ETFs are here to stay, and I'd rather own the number one player."

(Reporting by Joseph A. Giannone; Editing by Gary Hill)