Apollo Global Management, Inc. (APO) Earnings Call Transcript & Summary

Good afternoon, everyone. I'm Mike Cyprys, Morgan Stanley's brokers and asset managers analyst, and thanks for coming back to the Morgan Stanley Financials Conference here. Before we get started, I've been asked to direct your attention to some important disclosures on the Morgan Stanley research disclosure website at morganstanley.com/research disclosures. And if you have any questions around those disclosures, please reach out to a Morgan Stanley sales representative. So with that out of the way, welcome to our fireside chat with Apollo Global Management. And it's my pleasure to welcome and introduce Jim Zelter, Co-President and Chief Operating Officer of credit for Apollo. Founded in 1990, Apollo is an alternative asset manager that is differentiated in their contrarian, value-oriented investing style. The company went public in March of 2011. And today, Apollo manages about $315 billion of client assets across credit, private equity and real estate. Jim, welcome. Thanks for joining us today.

Mike, thank you very much. Always a pleasure to be participating in this event. And yes, glad to have the opportunity to talk about the markets and talk about Apollo in light of what's going on.

Great. So I'm going to kick off the discussion with some questions, and we'll leave some time towards the end for investors to ask questions via the web portal. So feel free to submit any questions on your mind.

So let's start off with the current environment. In the first quarter, Apollo was very active on the deployment front, about $40 billion of gross purchases. Has that momentum continued into the second quarter? And how would you describe the shifting opportunity set here, Jim?

Well, Mike, I guess, I would say is, as we've said on our quarterly call, we were quite active in the first quarter and into April. And yes, the numbers we put around, $40 billion in the first quarter and then another $10 billion in April. And I think what we saw is really -- we see the backdrop of what's occurred because of the crisis is really a 3-stage opportunity. And the first stage has been this market dislocation. We saw what happened in the indexes on the down side and then back on the rally because of all the Fed activity. Second stage is a lot of capital solutions, which has really continued. And then the third is this broader, gradual recovery, which will be more of a distressed opportunity set. And certainly, we captured the first one quite well. We were very active. As the second stage has opened up here, we've announced transactions for companies like Albertsons, the $1.750 billion convertible preferred for one of the large food and drug companies in the U.S. We also announced a transaction last week for NGL. That was a $250 million term loan? So I think we are still in the view that as the markets have reset, there are opportunities for our flexible capital in the platform, whether it's from our hybrid value vehicles or other longer-dated vehicles. So certainly, we've been able to redirect the platform. And I think the activity has been a bit more muted. But certainly, and I expect it to be a bit more muted over the next several weeks. But I think that the breadth and shape of what the economy is confronted with, notwithstanding the headlines and the indexes in the equity markets, I still think we feel like it's one thing to turn the economy off on a dime, with a light switch and another one to turn it on. And there will be some prolonged impacts to that, which we expect to be very, very active across the breadth of our platform. I'd also add that our insurance companies have been incredibly active in the U.S. and Europe, as spreads widened and captured some of that as well. So we've continued, and I think those 3 stages that I've discussed, certainly, we'll probably pass the first stage of the broad market dislocation. But I think the second stage of companies needing to bolster their balance sheets, garner the liquidity, because we are in unprecedented times, will continue.

Great. And someone suggests that the equity markets here are pricing at a fair amount of optimism, with the significant rally that we've seen in recent weeks. So I guess as you look across credit markets, what's priced in, in your view? And how does that square with your expectations for the economic recovery, default rates and, ultimately, recovery values?

Yes. Well, if you look at High Yield over the last 30 or so years, the spreads have historically averaged in the mid-500s over, which is sort of where we are right now, around 550 over. And I think, if you were to ask the layman how does the current situation in terms of risk and reward and challenges compared to the last 30 years, one would say it's probably a bit higher for a number of reasons than over the last 30 years at any moment in time. So -- and if you look at the implied on the loan index and then the High Yield Index the various banks put out, if you look at where they're trading on spread and what that implies, if you look through on a risk-free rate and in terms of implied defaults and recoveries, the defaults are somewhere and implies like a 3% or 4% number. And with unemployment at the high levels we have right now, notwithstanding the move this past month, we would think that the financial markets are a bit ahead of the Main Street economy. And so very happy. We were quite aggressive in March, when you were behind 800, 900, and 1,000 over, High Yield and loans have shown to be a very good asset class over that same 20-plus years at those spreads. You have a very high likelihood, almost 100% positive returns. And in those cases, well north of 16%, 18%, certainly, as we stand here today, it's a little bit more challenging to see that. So we're of the view that we had the -- as a firm, we underwrote the V, the U and the extended L as a firm in March. And I think, into April as the V got a little bit more questionable of that outcome, we certainly weighed our probabilities more of the U or extended L. And certainly, the equity market headlines are really discounting the earnings of 2020 and looking into '21 and beyond, which maybe makes sense. But our experience tells us that, that's a little bit aggressive, and one is probably going to have an opportunity to be more thoughtful and measured about putting capital to work. But again, I think what we've seen is the continuation of the -- our platform. If anything, this last 6 months has proven to us and as leadership that the robust nature of the alternative space, the robust nature of the Apollo platform between credit, real assets and private equity, in terms of our ability to be really on offense, I would say, 75%, 80% of the time, and then in our ability to have this permanent capital, which, as others are dealing with the redemptions or technical to the market, we've been able to have our nose in the grindstone and invest through thick and thin, which -- so if anything, I think that -- we believe that this environment has shown the robust nature of our platform from start to finish.

Great. And now that we're mostly through the second quarter, what are you seeing around covenant breach activities, a look across either your portfolio or the broader marketplace?

If we look across the portfolio in real estate, which is a slower moving accident in time just because of the way it works, and the landlord-lender relationship, we're actually positively surprised by what we're seeing now. We're not surprised by some of the food retailers. We have a large triple net lease business, which is doing quite well. Car dealers are actually paying their rents. So for our real estate debt business, which has a great deal of exposure across the economy, except for some specific hospitality and leisure businesses, certainly, we're pleasantly surprised by what people are paying and the dialogue that most people are conducting with us as a counterparty. I'd say on the amendment side, you saw a -- as we all know, a lot of capital draws on revolvers, which we funded through mid-cap and all our other vehicles. And I think people are being very measured in looking for some kind of a moratorium or a deferral. They're putting in some equity. They're doing the right things. So I think it's still early. I wouldn't want to make any mass generalizations yet. So we're seeing people be pretty measured, pretty responsible, and they're having really commercial dialogues with us. So for the most part, we expect it's early yet though. I hate to use the baseball analogy, but I think we are early. And we expect the second half of the year to be a bit more challenging, as the real numbers of the second quarter come in, as you mentioned. And then you really understand what the trajectory of these businesses are over the next 12 to 18 months.

What sort of impact would you say terms, such as the increased use of covenant-light issuance and so forth, has had on maybe delaying some inevitable defaults? What sort of impact are you seeing there?

Well, I think covenant light, while it's been beaten up by a lot of investors. I think the folks that really that should be the most upset are distressed investors because, for the most part, it gives the equity the option to play it out over a much longer period of time and not get pulled away from the table early. So it's been our view that, notwithstanding what the loan market has been, I suspect you will see some downgrades and you will see some impact of the broadly syndicated loan market in due course and which has a -- then an impact on the structured credit business, with certain loans getting downgraded to CCC or B3, B minus. And the impact of both downgrades to the CLO market will probably occur in the third quarter, which I think is, as we talk about some of the second and third derivative impacts. Certainly, companies have had access. And certainly, the government programs -- and then you've got to tip your hat to what the Fed and treasury did in March. They really brought a lot of confidence to the financial markets, especially the IG market, which was really a once-in-a-generation opportunity in terms of investing on March 23 to first week in April in terms of those kind of spreads. But I think if '08 was really about the banks and residential real estate, and it happened over 18 months, this was an event would happen over a few weeks. The impact obviously is to the consumer. The impact is going to be to travel, entertainment, leisure. And I think there will be some legacy impacts to, certainly, commercial real estate and any types of investments that are very much with implied importance to the rating agencies that there will be a second and third derivative of the downgrades. What I would also add in, I'm not an economist or a historian, but a lot of work has been done on pandemics over time in terms of over the last -- the Fed -- since the Fed has done a bunch of work in that area. And in terms of -- since the 1400s, there actually has been 15 pandemics in time and 2 big impacts, a secular shift towards greater precautionary spending and also interest rates usually decline. So those are sort of the consumer behavior issues that, I think, will have a greater legacy impact over the next 12 and 24, 36 months, which we've not seen yet, but I suspect we will in a low rate environment and greater consumer caution and savings.

Maybe we could dig out a little bit more on the Apollo platform and the portfolio here. What sort of challenges or issues have come up in any parts of the portfolio given this crisis? And maybe you could talk about how you're navigating through that and resolving any sort of situations.

Sure. Well, we were -- listen, we're all fortunate in this business that you can operate. I think to the degree to which we've had engagement has been -- we've had an amazing group of employees across the firm, almost 1,400 in 15, 16 offices really engaged from day 1. Technologies worked in our behalf. We were pretty fortunate. We -- in those first couple of weeks in mid-March, we were, obviously -- the mad dash for cash in terms of how it impacted our business. In terms of our lending businesses, we had a lot of capital draws, and we funded all of those. We had very little financed in by Wall Street, if you would, a lot of concerns about repo. We had very few vehicles that had any kind of short term. We had virtually no short-term repo. We had all term financing, if we did have any financing at all. So we came into this. We've had a conservative bent in credit. We've really -- we -- since '15 and '16, we've had a much lower exposure to energy, which we still feel is the prudent move. We've had very little -- except for specialty retailer and a handful of names, we've really been avoiding that space. So we've continue to upgrade. We've continued to be senior. As you know, over $200 billion of our capital is in credit, a lot of that insurance capital. So we were very active in the private space. We were very active in RMBS and resi mortgages. We were very active in investment grade. So we pivoted to make sure that we were using this opportunity. But again, if you said to me, what's the question we get asked about how much offense versus defense, I feel like we were on defense the first couple of weeks, about 25% of the time. And then we've really been on offense the remainder of the time. So we've been on offense in terms of investing. We've been public about the transactions we did for Expedia and Cimpress and Albertsons and NGL. We have a few more in the pipeline. We were forward in our offense on fundraising. We put out a number of $20 billion to fundraise over the coming period. And we had one vehicle Accord, which is our short-term market dislocation vehicle, which we created that concept about 5 years ago, and now that strategy has got several billion. And we did a short add-on to Accord III, which was Accord III B, and we raised $1.750 billion in a matter of weeks. So I would also say that I think it's my view that the world is really short duration, long investing. And people crow about what's going on in NASDAQ, up 8%, but the loan bond is up 23% year-to-date. And NASDAQ is up around 11% today, I guess, year-to-date. And so we've done very well by high-quality bonds, non-call life, long duration. We think those will be phenomenal investments for us. And we're very focused on making sure that what people see as the 6%, 8% or 10% coupon day 1, based on the duration of the callability of that piece of paper, that it looks great from the outset, but you may be better off buying a 5% or 6% piece of paper that has a long, non-call duration. And we've been very, very focused on that. So that ability to have that -- I don't want to say eliminate, but try to minimize that reinvestment risk with long duration has been a key theme we've been focusing on.

Great. And maybe just shifting over to the growth of the credit platform. When we think of Apollo today, I guess, a very large credit platform that you've built out over the years, around $250 billion in pro forma assets here, how much runway would you say here is left for growth, Jim?

Well, I think that when we think about the growth and we get excited, we talked about it at our annual meeting, our annual day last fall, we still believe that there is a tremendous amount of evolution going on with the lending markets and the solution capital markets. And certainly, when we think about our platform, and you've been -- we've talked about them, whether it's our mid-cap, whether it's PK, whether it's Amerihome, we believe that there's a power of incumbency that occurs in these kinds of environments. And there will be opportunities for us to bring on more of those origination platforms during this period. We're certainly always on the lookout, always on the search. With the embedded affiliate capital we have with Athene and with the insurers over in Europe, they are looking for this type of origination. And being able to put those 2 together is critical to our success. So we are constantly on the prowl. I do believe these kind of environments, and I talked about this power of incumbency, I think if you are a successful brand that it has shown an ability to make money in different dislocations, capital is going to come to you, opportunities will come to you. And I think people that have smaller platforms will be possibly a bit more challenged to raise capital or to have that capital. And we've always said that the great thing is there's certain business lines that we can bring some very interesting capital to our -- to an opportunity set if it is indeed unique origination. So I suspect you'll see a couple situations that we are working on, on covering to really add to that arsenal. And I believe that the large incumbents like ourselves will be able to figure out ways to capitalize on that.

And when we think about the direct origination platforms that you mentioned, whether it's the aircraft leasing, the lending, the mortgage equipment, financial services, lending and so forth, what's left at this point in terms of direct origination that you don't have, that could make sense to add or maybe that doesn't make much sense to add? How do you think about that marketplace?

Yes. Well, I think even the nonsponsor and sponsor direct origination, there's some white space. I mean when you think about all the capital that's been raised in private lending, a lot of it has been around middle market sponsors or smaller sponsors. When you think about the broadly syndicated group, that's grown as well. But I would argue that there's a group in between that there's a variety of companies that are going to be confronted with either challenging ratings. And therefore, the path that they might have gone in the past with broadly syndicated, we think, there's an opportunity in that space to open up. I think there's more to do in Europe, candidly, in terms of some of the platforms we've built in the U.S., bringing those out to a more regional effort. And I would say a lot of the consumer businesses that were done -- built over the last 3 to 5 -- 3 to 7 years, the online businesses, I think some of those may be a bit challenged in terms of how they funded themselves and the absolute level of success they've had on the underlying business. So I'm being a little bit coy because I -- this is such a critical aspect of our business, but we still feel like this customized origination, customized platforms. And I think that's -- there will be a few that we believe that we'll find a great desire to be part of our platform. The other thing I would say is it does connect to the bigger, broader picture, Mike, in terms of -- we all know what the Fed has done and Treasury have done in the investment-grade world. But the evolution of how companies finance themselves through insurance companies, through pension funds, through alternative managers, there's more and more of that getting done over the last 5 to 7 years, 10 years because of regulatory and a variety of other ways. And I think those companies, they're going to be a bit slower. They've not been as quite the beneficiary of some of the economic projects or programs that have been put out by the Fed and Treasury. So I think you're going to find other areas, inventory finance, floor finance, other areas that it may make sense for folks like us to be in those going forward in the future. So a lot of work is going on in that area, and I expect further progress as the platform develops.

Athene has been a big success story for you guys, and Apollo's grown that platform to nearly $125 billion in assets here. How do you think about growing that from here? And what impact does this current environment have on the growth outlook and the timing, particularly as it relates to potential inorganic opportunities? So does this backdrop accelerate? Or does it extend that?

I think it extends to accelerate a bit. Certainly, the challenge, when you think about the folks that are the obvious targets and challenges they have with their existing liabilities or challenges they have in navigating the asset side, again, I think the period of March through today has only reinforced our belief and the market's belief that we are a very successful counterparty and can navigate it quite well. And Athene has been quite public in a variety of calls with what they did during the crisis, how they navigated. The market price is reflecting that. So I think in periods of deep dislocation, boardrooms are probably a little hesitant to make dramatic actions. But I still feel like the key items that were in place to make the Athene and Athora platforms compelling as an inorganic buyer are still there. And I will tell you, the teams are quite busy, and there's been no rest for the weary in those things. So nothing to discuss today, but we still certainly feel very comfortable that, that opportunity is right in front of us.

Your European Athene-like platform called Athora, that now has over $60 billion of AUM, I believe it is, post the close of VIVAT in April. What's the next step, would you say, at this point for Athora?

I think Athora, you're right. We did -- it didn't get -- it got some press, but in the heat of all the noise of the crisis, we quietly closed that. A lot going on to make sure that, that affiliate-manager relationship is there in terms of overseeing the portfolio. They did a tremendous job navigating this market in terms of having a portfolio in pristine shape. And it's ended in an environment which we have a lot of firepower. That being said, rates over in Europe are, broadly speaking, dramatically lower. And in the U.S., if you're trying to make in the mid-4s for Athene or in those types of spread businesses, in Europe, it's decidedly different under Solvency II. So I think the key move right now with VIVAT within Athora is just be patient, properly onboard it, digest it, if you will, and show the expertise, which we have done so well in the U.S., show commensurate gains in Europe. And if we do that, I think there will be some more opportunities that come forth through us. So now we're really just in execution mode. We wanted to do a couple transaction like this, which really put us on the map. We were on the map before, but this is a transformational, like some of the transformational transactions we did in the U.S. So now it's about execution, and those other opportunities will open up to us as the regulators and Boards see the success we've had.

Great. And maybe shifting gears a little bit to your investment process. Apollo prides itself on its more value-oriented investing style. I was hoping we could maybe peel the onion back a little bit more on your investment process and the competitive edge. How are you thinking about that? And what's, in your view, so differentiated versus the marketplace?

Well, I do think, as we've been pretty public about it, Scott and I in the last 3 years have really continued to hone on integrated platform. And I just think the evidence is pretty strong where, in the last 12 weeks, a handful of interesting transactions that weren't controlled private equity, weren't senior secured loans, we found ways to really be a partner with borrowers in the marketplace. So that investment process, yes, you've got to be creative, you've got to be flexible, but you also got to go back to that downside protection. So I do think it's hard for private equity for -- to do a lot of activity other than the things that we do in distressed investing is a challenge for a lot of private equity. And if you can be really solution capital and really make sure you bring the best folks at the table -- right to the table, we've been able to be -- it's really about putting -- being on offense. So I think it's time tested into -- in terms of our value bent, but I think it's also this gang tackle approach in terms of making sure that we know how to bring the right resources on an opportunity and arrive at the right opportunity with folks from different perspectives, but the creativity and speed to be responsive to our partners.

Great. And we're just about running up on the clock here, so maybe just the final question. It's been about 9 months into life as a C-corp for Apollo. How has the experience been versus your initial expectations?

Well, I think it's been tremendous. And I don't have the numbers handy with me right now. But certainly, the breadth of investors that we have brought into the Apollo story, certainly, some of the indexes, MSCI, and as you might have seen Russell last week, really, it's adding a much broader spectrum of investors that see the secular impact of our business. So today, I think 70% or double what it was are between long-only and passive owners, and that's a big change. So we've been very, very engaged and enthused by the folks who want to hear about our story. We've been able to not only events like this, but a lot of investor dialogue over the last several months from this remote nature. And so certainly, while our ownership base has transformed meaningfully since amounting -- we're still -- we still feel we're under-owned or not owned by some sizable long-only investors. And we think we're still in the early innings, as people get to know our business and really see the secular opportunity, the intersection that we're at right now. So it's been a great experience. It's early, and we look forward to a lot more dialogue from a broad swath of investors.

Great. Well, I'm afraid we're going to have to leave it there as we're out of time. Jim, thanks so much for joining us today.

Mike, appreciate the opportunity, and be safe and be well.

Great. And everyone, please join us for our next session that will be starting shortly at 1:45 p.m. Thanks so much.