The Better Buy In Financial Services

By Chad Henage - May 21, 2012 | Tickers: BLK, WDR | 0 Comments

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The financial services industry hasn't been the safest place to invest in the last few years. However, to deliver market beating returns, sometimes you have to invest where others fear to tread. With this in mind I recently used The Motley Fool CAPS Screener with the following criteria: 

• 3%+ yield

• 10%+ EPS growth last 3 years

• 4+ star rating on CAPS

• financial services industry

The screen returned just a few names, but two stood out as potentially attractive pays, BlackRock (NYSE: BLK) and Waddell & Reed (NYSE: WDR). These two asset managers should benefit if the economy continues to improve. More people working, means more people investing. Which one is the better buy? That's what we're here to find out.

Though the difference isn't much, Waddell & Reed seems the better buy at these levels. You get a company expected to grow slightly faster, for a slightly cheaper multiple. (BlackRock – 1, Waddell & Reed – 2)

If you're trying to figure out whether a company can meet earnings expectations in the future, it pays to look at the company's past performance. While there is no guarantee that the company will continue to beat estimates, it can give you a sense of whether the company can achieve analysts targets. Look at the comparison of the two firms in the last four quarters:

While Waddell & Reed struggled to meet estimates, BlackRock did better than expected every quarter last year. This more consistent performance along with the higher average beat, makes BlackRock the winner. (BlackRock – 2, Waddell & Reed – 1)

While earnings performance is important, dividends have been shown to be an important part of investors total return. While both companies pay good dividends of over 3%, that is just one-third of the dividend puzzle.

If investors just look at the yield, you would think these companies are nearly identical. That is actually not true. Overall, I like BlackRock's payout ratio and dividend growth combination. While in theory Waddell & Reed could increase their dividend because of the lower payout ratio, the company has not historically done so. When it comes right down to it, a company with a nearly 20% dividend growth rate is very hard to find. With future earnings expected to grow at close to 13%, I would expect future dividend growth to mirror this EPS growth. Since BlackRock's management seems more inclined to increase the dividend aggressively, that makes the company the winner for this category. (BlackRock – 2, Waddell & Reed – 1)

A company's ability to grow their operating cash flow is directly related to how much they can pay in dividends. Operating cash flow growth also allows the company to buy back shares, and increase capital expenditures to grow the business. In the last three years, BlackRock has grown operating cash flow by 34% on average. Waddell & Reed turned in an impressive performance as well, but falls short by producing 27.49% operating cash flow growth. (BlackRock – 2, Waddell & Reed – 1)

Last but not least, let's compare the two companies balance sheets. Using the debt-to-equity ratio we find that BlackRock comes in at 1.02, while Waddell & Reed's ratio is 0.24. With less debt comes less risk and more opportunity. Less leverage should allow Waddell & Reed to weather financial storms easier than BlackRock. (BlackRock – 1, Waddell & Reed – 2)

In total we see that BlackRock scores a 8 and Waddell & Reed scores a 7. It's close, but BlackRock wins. I tend to agree with this result. With similar expected growth, and similar dividends, it comes down to which company shows they want to reward shareholders the most. With a much faster dividend growth rate, BlackRock leads the way. Assuming this continues, BlackRock should be the better buy. Do you agree or disagree? Let me know in the comments section below.

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