Mutual fund companies are having a hard time making sales, and analysts don’t expect that to change anytime soon. As a result, Bay Street analysts are cutting estimates on AGF Management Ltd., and suggesting more consolidation could be on the way for the industry.

In a research report, BMO Nesbitt Burns downgraded AGF to an “Underperform” rating, noting that the fund company has reduced its 2005 earnings per share and EBITDA estimates to $1.10 and $275 million, respectively, from $1.15 and $295 million. Nesbitt also cut its target price for AGF to $16.00 from $18.50.

“We have downgraded AGF to underperform, reflecting our diminished expectations for the Canadian mutual fund industry and concerns over the potential for elevated net outflows from retail and institutional clients over the next three to six months,” Nesbitt said in the report.

“Given current trends, we believe AGF could experience $1 billion in net redemptions over the next few months, despite improving performance. In addition, we believe that a subtle amount of fee pressure is building in the industry and that AGF may need to consider lowering its fees on some of the largest funds, which would negatively affect margins,” Nesbitt said. It also noted that fund company AIC Ltd., which is experiencing heavy net redemptions of its own, is AGF’s largest shareholder, and may need to sell shares to meet redemptions.

In its own report on AGF, CIBC World Markets also observed the AIC factor, noting, “Assuming AIC continues to generate net outflows, over the near term, we will likely see continued weakness in CI and AGF and to a lesser extent, IGM Financial.”

CIBC WM also cut its estimates for AGF, citing Manulife Financial’s intention to close AGF fund mandates totaling almost $900 million in early 2005. It reduced its 2005 earnings and EBTIDA per share to $1.06 (from $1.16) and $3.06 (from $3.19), respectively. As well, CIBC WM also lowered its target price on AGF to $19.00, but reiterated its “Sector Outperformer” rating.

“While the discount remains and fund performance is still relatively strong – we believe significant third party mandates with other companies, including the nearly $1.7 billion with Primerica Financial Services, could be at risk,” it said. “Accordingly, our revised investment thesis on the stock is that within 12 months, AGF will either successfully migrate toward positive net flows or management of the company will come to recognize that delaying the ultimate sale of the company will only further deteriorate its ultimate sale value. In either case, we believe investors will be rewarded from owning the stock at these levels.”

In its report, Nesbitt described AGF’s valuation as “compelling”. “However, since we believe industry conditions are unlikely to improve soon, it is hard to make a case for rising valuations,” Nesbitt said.

Looking ahead, Nesbitt estimates that net sales of long-term funds will be “close to zero but with pockets of strength among the banks and those fund companies with large income-orientated portfolios.”

Nesbitt said that CI is the only mutual fund company that it recommends given its attractive yield, positive net sales, strong strategic position and free cash flow generating ability. “While industry conditions remain challenging, we believe CI is well positioned to capitalize on growth opportunities once these conditions improve and in the meantime, investors are paid to wait via the high and attractive dividend yield.”