Morningstar founder Joe Mansueto still dreams big

Brandon Noll was awestruck the first time he visited Morningstar Inc.'s spacious, glass-encased headquarters in Chicago. He was overwhelmed not only by its scale but also by its casual atmosphere, reminiscent of that portrayed in “The Social Network,” the 2010 biopic based on Facebook Inc. founder Mark Zuckerberg. “It's just a sea of computers - guys in jeans and T-shirts just grinding it out,” said Mr. Noll, a client of the firm who runs asset management for Shelton Financial Group Inc., a registered investment advisory firm in Fort Wayne, Ind., with $259 million under management. Morningstar is known for its fund research, an activity to which it dedicates 100 analysts, but its influence in the wealth management industry may have far more to do with the role of the nearly 1,000 employees in computer programming and other technology roles. Morningstar has shown a willingness to invest in technology this year with its $28 million acquisition of ByAllAccounts, an account aggregation service, and a $40.5 million outlay for a 81% share in HelloWallet, a software service that provides personalized financial guidance to consumers. It already owned a 19% stake in the company. It's all part of Morningstar's goal of making itself “ubiquitous” with investors, according to founder Joe Mansueto in an interview with InvestmentNews. “First and foremost, we are an investment research firm,” Mr. Mansueto said. “We monetize that through software, and we monetize that through creating actual investment solutions.”

WEB OF INTERESTS

Morningstar bills on a complex set of businesses, as well as a web of competing interests. On any given day, for instance, it licenses data and services to Charles Schwab Corp. for integration in that company's offering for affiliated advisers. At the same time, its salesforce competes with Schwab Performance Technologies for the business of financial advisers, and its analysts sharpen their criticism of Schwab-branded investment products (which they also sell against through their investment management arm). And that's just one third-party relationship. (A Schwab spokeswoman, Anita Fox, declined to make an executive available to discuss this story.) The April acquisition of ByAllAccounts added more layers to that complexity. The firm transmits data on $730 billion in assets every day, giving it unique insight into every corner of the wealth management business. “The idea is to keep ByAllAccounts as an industry utility that is open to all comers,” Mr. Mansueto said. “We sell to competitors. We sell to all advisers.” When Morningstar can't sell a firm an entire set of portfolio and practice management technology, it licenses a sliver. And that's helped the firm entrench itself in the Balkanized cartography that characterizes retail wealth management today. Its technology is the kind that underpins a financial adviser's daily life and, therefore, can't be replaced easily, even though many competitors exist — perhaps even with better offerings. In Morningstar speak, that's called building a moat. “Without Morningstar, we can't effectively manage money,” Mr. Noll said. Its main product for advisers, Morningstar Advisor Workstation, accounted for 13% of its revenue last year. But its offerings for advisers include Morningstar Office, a relationship and investment management dashboard, and Principia, a CD-ROM-based system it's winding down. Its third-largest product, an institutional investment platform called Direct, is also sold to advisers. The publicly traded firm lists 171 enterprise clients of Workstation, including outstanding license deals with Ameriprise Financial Inc., Raymond James Financial Inc. and Pershing. It also has 4,188 licenses for Morningstar Office. Reaching into technology and other areas beyond its traditional business of providing mutual fund analysis was not Morningstar's natural path. According to A. Michael Lipper, who sold his fund-analysis business in 1998 to Reuters, which is now Thomson Reuters Corp., Morningstar was forced into it. “What is clear to me is that their original base business is not producing, and therefore they felt they have to do other things,” said Mr. Lipper, who is now an investment consultant. “The question is, would the investment in technology be better served outside Morningstar?” Mr. Lipper, whose firm uses Morningstar data, said the rise of exchange-traded funds, derivatives and alternatives, such as hedge funds, has challenged the firm's core business. That's a fact Morningstar itself acknowledges to some degree. While it provides what it calls “extensive data” on thousands of ETFs, hedge funds and separate accounts, the firm has said in regulatory filings that softening demand for traditional investment products could hurt revenue. “We generate a significant portion of our revenue from products and services related to mutual funds,” Morningstar said in its 2013 annual report. “A continued lessening of investor interest in actively managed equity funds could decrease demand for our products.” While Morningstar has increased its share of the wealth management data sales space slightly — to 11.8% in 2013, from 10.4% in 2009, according to Burton-Taylor International Consulting — it still remains solidly in third place behind Bloomberg and Thomson Reuters, which together control half the $2 billion market. Startups are also nibbling at the business. Addepar Inc., for instance, builds an integrated investment analysis dashboard. It's won $66 million in funding from Silicon Valley types like the PayPal co-founder and venture capitalist Peter A. Thiel. Investors have not been overly enamored with the moves Mr. Mansueto and Morningstar have made. During a year in which stock market indexes are reaching record highs, Morningstar's shares have declined. Among publicly traded competitors, Envestnet Inc. shares have soared 35% this year through Nov. 14, while shares of S&P Capital IQ parent McGraw Hill Financial Inc. are up nearly 18%. Advent Software Inc. is down nearly 7%. Meanwhile, investors have trimmed 10% off Morningstar's value. After settling an intellectual-property-infringement lawsuit with Business Logic Holding Corp. for $61 million this year, the company told workers it would trim some expenses. (Mr. Mansueto said the expense cuts are unrelated to the lawsuit.)

PROFITS TOOK A HIT

Morningstar generated $193.1 million in revenue during the third quarter this year, an 11% increase from $173.5 million in the same period in 2013. But profits shrank 4% to $30.2 million from $31.5 million a year earlier. “We like the return to double-digit revenue growth this quarter, but it hasn't translated into much, if any, earnings growth,” due to increased spending on investments, according to an Oct. 22 report by Niamh Alexander and Kyle Voigt, analysts who cover Morningstar for Keefe Bruyette & Woods Inc. The analysts said it will take some time for ByAllAccounts and HelloWallet to become profitable. Morningstar's investments have been highly selective and most have also been aligned with the goal of serving advisers, according to Kunal Kapoor, who heads information products and client solutions at the firm. Advisers are “constantly being challenged to show the value you have for the fees that you're charging,” he said.

'SHARED MISSION'

“During the downturn, we continued to invest in that business and we continued to stand by advisers when they were going through a difficult time,” said Mr. Kapoor, a former fund analyst. “We have a shared mission with advisers in that we are ultimately trying to serve the end investor.” ByAllAccounts, with its ability to shine a light on “held-away” assets, and HelloWallet, with its focus on influencing behaviors and financial well-being, can be used to help advisers deliver more “holistic” advice, Mr. Mansueto said. Beyond integrating those firms, Morningstar is focused on improving its technology — namely, adding cloud-based services and mobile support to its earlier, desktop-driven software. “We're pushing aggressively to move things to the cloud,” said Mr. Mansueto. “Our mobile offerings will be strengthened in short order.” Meanwhile, Morningstar's increasing foray into investment management is taking off. Its managed portfolios business, also sold through advisers, held $8.8 billion in assets under advisement and management at the end of September, up 33% from the previous year, according to regulatory filings. Whether Morningstar knows it or not, its position across the wealth management business gives competitors pause, according to Joel P. Bruckenstein, a financial planner and former Morningstar contributor who founded the Technology Tools for Today conference. “There are many more companies worried about Morningstar's size and scale than people at Morningstar being worried about others' size and scale,” Mr. Bruckenstein said.