KKR & Co. Inc. (NYSE:KKR) Q3 2023 Earnings Call Transcript

KKR & Co. Inc. (NYSE:KKR) Q3 2023 Earnings Call Transcript November 7, 2023

KKR & Co. Inc. beats earnings expectations. Reported EPS is $0.88, expectations were $0.82.

Operator: Ladies and gentlemen, thank you for standing by. Welcome to KKR’s Third Quarter 2023 Earnings Conference Call. During today’s presentation, all parties will be in a listen-only mode. Following management’s prepared remarks, the conference will be opened for questions [Operator Instructions]. As a reminder this conference is being recorded. I’ll now turn the call over to Craig Larson, Head of Investor Relations for KKR. Craig, please go ahead.

Craig Larson: Thank you, operator. Good morning, everyone. Welcome to our third quarter 2023 earnings call. This morning, as usual, I’m joined by Rob Lewin, our Chief Financial Officer; and Scott Nuttall, our co-Chief Executive Officer. We’d like to remind everyone that we’ll refer to non-GAAP measures on the call, which are reconciled to GAAP figures in our press release, which is available on the Investor Center section at kkr.com. And as a reminder, we report our segment numbers on an adjusted share basis. This call will contain forward-looking statements, which do not guarantee future events or performance. Please refer to our earnings release as well as our SEC filings for cautionary factors about these statements. So to begin, I’m going to walk through the quarter’s financial results before Rob discusses our key operating metrics.

Turning to our results for the quarter, we’re pleased to be reporting fee-related earnings per share of $0.63, and after tax distributable earnings of $0.88 per share. Management fees in the quarter came in at $759 million. This was up 13%, compared to Q3 of 2022, and up 16% over the trailing 12 months. Real assets management fees have been a bright spot for us, increasing 6% compared to last quarter, and 25% over the last 12 months, driven by growth across several infrastructure and real estate strategies. Net transaction and monitoring fees were $124 million in the quarter, $100 million of which came from our capital markets business. Fee-related compensation was right at the midpoint of our guided range at 22.5% of fee-related revenues. Other operating expenses were $142 million.

This expense figure is actually a little lower compared to both last quarter as well as Q3 of 2022. Here you’re really seeing us continue to invest for growth, while maintaining our discipline at the same time. So putting this together, fee-related earnings came in at $558 million or the $0.63 per share figure I mentioned a moment ago. In Q3, our FRE margin was 61.7%. We’ve talked consistently about our FRE margin being in this low-60s areas, and we’ve delivered on this. This is the 12th consecutive quarter where that margin has been at or above the 60% level. And we continue to feel very good about this migrating up from here into the mid-60s. Realized performance income was $329 million and realized investment income generated $231 million.

Both realized performance and investment income together were up over 2x from last quarter as exit activity increased in both our private equity as well as our U.S. real estate businesses. Realized performance investment income compensation ratios were again both right at the midpoint in the quarter. So in total, our asset management operating earnings were $869 million. Global Atlantic again had a very strong quarter with our insurance segment generating $210 million of pre-tax earnings. To spend a moment on GA, on the institutional front. GA’s blocked reinsurance transaction with MetLife remains on track to close in Q4 2023. We disclosed this transaction on last quarter’s call. We expect our AUM to increase by approximately $13 billion upon closing and looking farther ahead GA’s pipeline and level of dialogue on future block activity remains healthy.

And in terms of GA’s individual business, GA experienced an increase in activity in Q3. So overall business momentum within this channel continues to feel very good as well. Global Atlantic AUM pro forma for the MetLife block now totals $158 million. This is up from $72 billion or over two times since the announcement of our acquisition in July of 2020. In our view, this really demonstrates the strength of GA franchise, the power of the KKR, GA partnership, as well as the high level of execution we’ve seen since the onset. So back to our P&L, in aggregate after tax distributable earnings totaled $780 million, or $0.88 per share. Next, just turning to page 7 of our earnings release, you see investment performance summarized for the quarter as well as the trailing 12-month periods.

Looking at the figures on the page for the third quarter, our performance metrics broadly compare very favorably relative to public indices, which were mixed in the quarter. The traditional private equity portfolio was up 5% in the quarter, and over the 12 months is up 12%. And looking to add our inception to-date blended IRR for our most recent flagship funds, that figure continues to stay strong at 23%. In real assets, the real estate portfolio was up 1% for the quarter and down 9% over the last 12 months. Importantly, underlying NOI growth has remained strong across our portfolios. So the decline you see over the trailing 12 months reflects the change in interest rates as well as cap rate assumptions. Infrastructure was up 3% in the quarter and is up 14% over the last 12 months, as this asset class has continued to be resilient for us.

In credit, the leveraged and alternative composites were both up 3% in the quarter, and 14% and 9%, respectively over the last 12 months. And turning for a moment to page 25, our core private equity portfolio has performed. Today, we’re the largest manager of core PE capital with $35 billion of AUM, which includes third party capital alongside of our balance sheet. And as you can see on the page, the fair value of investments we’ve made off the balance sheet at 9/30 was $6.5 billion. As a reminder, core PE is a long duration investment strategy. We expect to hold these investments for 10 to 15 plus years. These investments generally have lower leverage over their hold periods compared to traditional PE and are more cash generative. The portfolio this at this point is global, spans a wide range of industries.

So we’ve continued to see strong growth in the portfolio that in our view is more stable and less cyclical in nature, which has really helped during periods of dislocation, such as the early stages of COVID, as well as over the last 12 to 18 months. We got into this asset class, and have really treated it as a strategic growth avenue for us since we started. Because it’s an area where we firmly believe that our business model, including our industry depth, geographic breadth, collaborative culture, and ability to drive business building all set us up very well to be the best global player in the asset class. We’re big believers in the earnings power this strategy can create, and we continue to think about how to unlock that potential. And with that summary, I’ll turn the call over to Rob.

Robert Lewin: Thanks a lot, Craig. I thought it’d be helpful this morning to go through what we are experiencing across the firm day-to-day. Despite what has been a dynamic operating environment, we find ourselves with a significant amount of momentum, especially across our key strategic growth areas. We are seeing a noticeable uptick in our pipelines around fundraising, deployment and monetizations. And I’ll take you through each today. Turning first to fundraising. This quarter, we raised $14 billion, bringing the past 12 months to $54 billion. While the fundraising environment has been tough, we feel as though we’re positioned very differently than a number of our peers. None of the $54 billion that we have raised over the LTM period has come from our flagship strategies, which are due to begin fundraising in the next year or so.

Global Atlantic continues to have a lot of success in this rate environment and remains incredibly well positioned. Across our private wealth strategies, while still early, our momentum is strong. And our conviction around the size of the addressable market, and our ability to take share continue to grow. And in the framework of KKR this is really all upside for us from here. Finally, many of our younger strategies continue to scale. Looking at the quarter in a bit more detail, first our K series suite of products. As a reminder, these primarily serve the private wealth and market globally, providing individuals with access to alternative investments that have traditionally have not been accessible to non institutional clients. We now have vehicles for all four of our major asset classes; private equity, infrastructure, real estate and credit.

And we continue to be added to more private wealth platforms as these vehicles ramp. Two years ago, we were on approximately 10 platforms. And today that number is closer to 40 across the suite of products that we manage, with more to come. Looking at our private equity and infra wealth product specifically, they are now raising approximately $500 million a month. So really strong start for us, especially relative to our expectations, only reinforcing our confidence in the scale and impact of the long term opportunity here. Second, we raised $1 billion of capital in credit and liquid strategies in the quarter, and we were particularly active in private credit. As a reminder, private credit is comprised of our direct lending, and our asset-based finance businesses where AUM has scaled significantly.

Today, in total, private credit AUM is $83 billion. That’s up roughly three times from $25 billion just three years ago. In direct lending, where we have $36 billion of assets under management, you’re seeing us raise capital in a variety of forms. In the quarter, we raised capital for our U.S. focused strategy in traditional fund format. And through evergreen structures in both the U.S. as well as in Europe. We’re seeing more interest in these perpetual vehicles, as the asset classes become more mature, and a more permanent part of institutions’ allocations. And we’re at the outset of fundraising for our private VDC and continue to raise capital in our separately managed accounts. In asset-based finance, we’re continuing to build on our leadership position here.

ABF is now close to $50 billion of AUM as of 9/30. We are raising capital in a variety of forms, including closed end and open ended fund structures, in both our high grade and opportunistic ABS strategies. There’ll be more to come here in future quarters, as interest in both direct lending and ABF remains very high. This all really builds on the back of strong performance within our leverage credit business, with many of our investment strategies ranking at the top of their respective peer categories. As an example, our investment returns in both our opportunistic leverage credit strategy, and our multi-asset credit strategy rank in the top one percentile against their peer universes since their inception in 2008. And the third area on fundraising I wanted to address for some of the more recent announcements that happened post 9/30.

We held the final close in Next Generation Technology 3 at approximately $3 billion. That represents an over 30% increase to its predecessor fund. Global Impact Fund 2 is our growth equity platform, investing behind proven companies that delivers scalable commercial solutions to global problems, also held its final close post-quarter end, totaling $2.8 billion, which is over twice the size of its predecessor fund. And Asia Infrastructure 2, we have already raised $6.1 billion of capital here, making it the largest dedicated infra fund in the region, and up from the $3.8 billion predecessor fund. And we have not yet held the final close. This is another sizable platform that we have added to our infrastructure franchise, and I think further cements our leadership position in Asia more broadly.

These three funds in aggregate have increased from $7 billion across their prior vintages to approximately $12 billion of total capital today. This is all very high margin AUM for us, and in strategies that are still relatively young for KKR. As we look to 2024 and 2025, we expect fundraising at KKR will accelerate relative to the last 12 months. We have 30 plus strategies in or coming to market, including a number of flagships such as global infrastructure, America’s Private Equity and Asia Private Equity, with the opportunity for continued scaling in our private wealth products alongside the traditional fund format. We are also launching a new climate investing strategy. We have recruited a really talented and experienced team, which is now fully integrated into a broader infrastructure platform, giving us confidence that we can become a real leader and a skilled player in the space.

Moving next to deployment, we continue to be very constructive on risk reward here across a number of our asset classes. We have about $100 billion of dry powder available to deploy. And we’ve seen an uptick in announced investment activity since June. However, only a small portion of that closed in the 90 days ended September 30. We do expect an increase in investment activity in Q4, given our pipelines here. This dynamic should help the invested capital figures in addition to our capital markets revenues in Q4. And finally our monetization activity has continued to pick up. In the quarter our realized performance and investment income totaled $560 million. Activity in the quarter came from a wide variety of strategies and products. And as we look into the fourth quarter, standing here today, we currently have visibility on $400-plus million of monetization related revenue.

One of the realizations in Q4 is from our investment in KOKUSAI ELECTRIC. KOKUSAI is a Japan-based manufacturer of semiconductor production equipment. We invested in the business back in December of 2017 through our Asia private equity platform. It is one of the three carve-out transactions where we’ve collaborated with the Hitachi Group. You’ve heard us talk about Japanese carve-outs as a key investment team, a number of times on these calls. Given our operational skills together with our relationships in the region, we feel particularly well positioned to pursue these investments. This is just the latest example for us. At the end of October, KOKUSAI was listed on the Tokyo Stock Exchange in the largest IPO in Japan since 2018, and the largest ever private equity backed IDM.

The stock has performed well since pricing, trading up approximately 35%. And based on last week’s closing price, our total investment is now marked at over 15 times multiple money on a gross basis. We continue to own 40% of the company. In addition to the positive outcome for our Asia private equity investors, the IPO also helps our branding across everything that we do in Japan, and likely as a result also creates more opportunity as we distribute K series products in this market. Turning to the firm as a whole, we still have $11-plus billion of embedded gains between our investments and carried interest. So the future around monetization-related revenue remains robust. This is compared to $9 billion of embedded gains at the beginning of the year.

So we’re up roughly 25% in and what has been a volatile environment, while at the same time having monetized the healthy amount of that embedded gain since 12/31. As you can hear, we continue to be really excited as a management team about our growth and our evolution. We’ve been executing on our plan of building a very high growth and high margin asset management business, which benefits from, and is accelerated by what we are doing across insurance and core private equity. With that Scott, Craig and I are happy to take your questions.

Operator: Thank you. At this time, we’ll be conducting a question-and-answer session. [Operator Instructions] Thank you. And the first question is can the line of Craig Siegenthaler with Bank of America. Please proceed with your question?

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Q&A Session

Craig Siegenthaler: Hey, good morning, Scott, Rob. I hope everyone’s doing well.

Scott Nuttall: Good morning, Craig.

Craig Siegenthaler: So two weeks ago, the press was reporting that at KKR entered into a relationship with two of the mega online brokers to sell some of your retail vehicles. Now this approach is different than the wirehouses, which are mainly selling your products like KREST, to high net worth investors. And so I believe this is mainly focused on the massive flow, and so I was wondering if you could provide an update on one, this strategy and what you’re looking to accomplish.

Scott Nuttall: Craig, you want to kick off?

Craig Larson : Sure. Hey, Craig. Why don’t I start off? I think the main takeaway from what you’re mentioning is the focus we have on broadening the funnel at the top end. And we’re going to be focused on the wirehouses. Here in the U.S., we’re going to be focused on independent broker dealers. We’re going to be focused on broad private wealth internationally. And the products that we’ve created are ones that are going to be designed and tailored for those markets, different markets geographically, and again, with a focus on broadening the funnel as much as we can. One of the topics we’ve been particularly focused on was making sure that we could appeal not only to the qualified purchaser market but the accredited investor market. Again, accredited investor market is eight or nine times the size of the qualified purchaser market. So again, that’s just one example of a focus for us as is again, just one wanting to broaden that funnel at the top end as much as we can.

Robert Lewin : Yeah the only thing I’d add Craig, I think it’s just part of the strategy. Our approach is really quite broad based. It’s global. It’s multi-channel all around the world. So what got picked up was just one element of that in the U.S.

Operator: Thank you. Our next question comes from the line of Glenn Schorr with Evercore. Please proceed with your question.

Glenn Schorr: Hi, thanks very much. Let’s focus on, I guess GA a little bit. I heard your comments about potential for more blocks ahead. In the quarter the cost of insurance went up a little bit more than the net investment income. I’m curious on your thoughts on how a higher for longer environment A, plays into that dynamic and B, plays into your distribution mix. And whether or not you saw much impact from the DOL rules that have been floated out there? Thanks very much.

Scott Nuttall: Yeah, Glenn, thanks a lot for the question. I take a step back, and we’re seeing a lot of momentum across really, all aspects of GA right now. Year-over-year bases are operating and comes up close to 30% in the business. We’re seeing success distributing through the individual channel, through the institutional channel, while of course, we’ve seen cost of insurance tick up over the past 12 months, given where crediting rates are and products I think you’ve also seen a commensurate step up in net investment income as well. And if you look quarter-over-quarter, our net investment income margin ticked up a little bit north of where cost of insurance was. And so net-net we came in about 15 basis points higher on return on asset basis in GA.

So we’re feeling like the team is executing across all aspects of their business right now. You mentioned the DOL rules. I’m glad you brought that up. A punch line from our perspective is based on the draft regs that we have seen. We don’t expect this to have a material impact on our business going forward. In many ways, the draft regs are similar to what came out in 2016. So I think the industry is well prepared for that, GA is well prepared for that. 90%-plus of our distribution today is through the bank and broker dealer channel. We feel to this channel that’s most prepared to be able to deal with wherever the regulations come out. But I think it’s important to note that fundamentally we support what the regulator here is trying to accomplish.

They want to make sure that consumers get the value they’re paying for when they buy an investment product. And I think that’s good for everybody in the space. So punch line, no material issues. And we continue to work very closely with the GA team to continue the momentum there.

Operator: Next question comes from Steven Chubak with Wolfe Research. Pleased proceed with your question.

Steven Chubak: Hi, good morning, Scott. Good morning, Rob.

Scott Nuttall: Good morning.

Robert Lewin : Good morning.

Steven Chubak: So wanted to start off with a question on capital markets where activity continues to be subdued. But as we think about what the business could generate in a more normalized environment, the growth in your PE real asset AUM versus the average level in ’19, so pre COVID baseline suggests normalized capital markets fees could be about 160% higher than 2019 levels. So closer to about a $1.2 billion fee bogey. And I was hoping you could frame what your view is on normalized capital markets activity, what that might look like, and is the increase in AUM the right lens for assessing the potential upside here?

Robert Lewin : Great, thanks a lot for the question. So a couple things on our capital markets business, and maybe I’ll just start with this year and then frame how we think about the go forward. So as you look at really 2022 and 2023, we’ve been a really tough operating environment for much of that period of time. IPO markets have been largely shut, secondary markets have been close to shut. The leveraged finance market has been up and down. But certainly more down than up. And we’re really proud of how that business has protected revenue in that down market. If you look, we were mid-$500 million (phon) in terms of revenue last year, while year-to-date, we’re averaging about $110 million $120 million a quarter in that range.

We do feel good about where our pipeline suggests our revenue should be in Q4. And so feel like the team has done a great job being able to protect revenue in a down market. Now. Mike, I think you raised an important question around more normalized environment. If you look at 2021, we generated $840 million of revenue in our capital markets business. And as you suggest, we’re doing more things today as a firm than we did in 2021. And I think we’ve got an opportunity to greater share with a third party component of our capital markets franchise. So we look at a more normalized environment. We feel like that plus or minus $200 million a quarter is very achievable but to us that’s not the top end. We’re building out a platform that we think over time can have real growth off that number.