DigitalBridge Group, Inc. (DBRG) Earnings Call Transcript & Summary

Good morning, everyone. Thanks for joining us. I'm Eric Luebchow at Wells Fargo, covering Communications, Infrastructure and Telecom. Very happy to be joined by Liam Stewart, who's Chief Operating Officer at DigitalBridge. Thanks for joining us, Liam.

Thank you. Thanks for having us here today, Eric.

Yes, of course. So Liam, maybe you could give us a brief intro on your role within the DigitalBridge organization as COO, what you focus on, on a day-to-day basis along with the background about yourself?

So I've spent most of my career in the sort of infrastructure space. So I spent a fair bit of time at Macquarie. I've worked in the cell phone tower business, and I had worked with Marc before and then joined DigitalBridge about 3 years ago. The sort of primary focus of my role was really what are we doing to drive returns for our investors across what today is almost 50-individual equity investments in one way shape or form. We've also got a credit platform and really around sort of across the digital ecosystem that we invest in, what are we doing to grow cash flows, minimize risk and make those businesses more valuable ultimately for our investors over time.

Yes. All right. Great. So one of the big themes we've heard from DigitalBridge has been around capital formation this year. And the company has publicly commented it has certainly been a difficult environment to fund raise this year. Some of the large private equity peers have made similar pronouncements as well. DigitalBridge has already raised $5.4 billion as of the last earnings call, plan to hit $8 billion this year. Maybe you could just talk about what it's taken this year to put up those kind of results and what's clearly been a pretty tough macro environment, rising rates, rising risk premium, concerns around a recession, all of those factors?

Yes, you've probably got a couple of things that are sort of interacting with one another. One is I think the sort of backdrop is probably until 12 or 18 months ago, you had effectively a historically good fundraising market for alternative investments across the spectrum. I think that was a combination of -- yes, after those initial couple of months of COVID, most investments really started to perform as well, you had that. I think you also had really with people at home, a lot more sort of accessible people who allocate capital as well who are happy to get on a Zoom call and do all of that kind of stuff, whereas previously you might have had to go and knock on a few doors as well. And then look, I think for us specifically, I think what COVID has done is sort of really emphasized the infrastructure characteristics of digital as an asset class. And so most people have historically invested in infrastructure through diversified funds, which would typically be a combination of, say, in North America, like in energy businesses, utility businesses, transportation businesses. And so those asset classes, which we thought to be pretty defensive, Eric, have showed a lot more economic correlation like airports, in particular, which are a very large subsegment of the infrastructure as well. And we now have people -- now I think really, of digital was being pretty critical in terms of just day-to-day life. Think of your life during COVID, how much time you spent on an Internet connection as well and so that's really moved the asset cost to the forefront of people's minds. And we've been pretty fortunate about that. And then you've also got things like data centers, you've got AI emerging. It's the next leg of secular growth. So here, we've been are very privileged to be in an asset class where the demand pull has been so strong. And then look, I think for us, sort of performance has been pretty good in terms of fund performance across the spectrum individual asset performance as well, and so that's positioned us pretty well in terms of going to market. And just sort of touch on that thematic perspective in respect of the infrastructure fundraising, what's happened is sort of out of that diversified infrastructure model and that's certainly the model that I grew up in, particularly at Macquarie, you're really seeing the emergence of 2 specialist asset classes. One is digital infrastructure. And I think we would say that we are the preeminent alternative manager in the digital space globally. And then you're also seeing renewables effectively emerge as a specialist form of infrastructure. So now obviously, when you get to the data center space, there's some kind of intersection between the 2 of those. So I think, thematically, we've really been benefiting from that. And then I think there are so many touch points of digital now in everyday life, but it's a lot more tangible for people who are allocating capital. And then I think, not just us as well, but you've sort of seen people who have invested in digital in the alternative space have generally done pretty well. And there's probably some recognition that I think you've got to have the full spectrum of investment management capabilities as well. You've got to be able to acquire assets well. But I think really what you're looking to do is build a platform, right, as well. So you've got to be able to have a manager who can identify talent, identify opportunities, not just to acquire that asset originally, but help to grow it in tandem with the management team for 5, 7, 10 years.

Yes. That's a great overview. So when you look at kind of your fundraising successes this year, especially in a more difficult environment, I mean, are you hearing from a lot of LPs that they still feel like they're under allocated to digital infrastructure as an asset class? And as you said, like probably that and energy transition are some of the [ advocates ] that there's probably a lot more opportunity because you also have the denominator effect of public market as well, early on performing -- some of the larger cap stocks have actually ended up doing pretty well, but there was a little bit of concern around just general fundraising being quieter this year across the whole industry. We've heard that from some of the peers as well.

Yes, I think public markets have certainly come back a little bit over the course of the last 6 months -- no, last 6 weeks-or-so, not 6 months as well. We got hit sort of probably at the margin, the sort of under allocation point gets raised. I think it's also just reflective of what I spoke about earlier in terms of the downside protection and the asset class. So take for example, cell phone tower business, great business, would have been newsworthy at the moment, given some of the events over the last couple of days.

I don't know what you're are talking about.

But that's a pretty powerful business model, right? You've got long-dated contracts, investment-grade counterparties. You've got a business that's been around for 20 years-or-so. And then you've got upside in terms of incremental tenancy, amendment tenancy. So as 3G became 4G became 5G and will inevitably become 6G, you get great downside protection, but also with that ability to participate in the long-term secular growth. And that's pretty compelling in both the public space and the private space as well. So I think what we -- certainly, there's that sort of allocation point offset by your point around denominator effect in public markets in particular. But I also think sort of what we hear from LPs is that they want to invest through specialization as well. They don't necessarily like probably have a preference. And obviously, if they're investing with us, I think it probably speaks for itself a little bit in terms of being able to participate in digital directly with a specialized teams, who have operating experience, who have touch points across the carrier ecosystem globally as well rather than necessarily doing that in a diversified infra fund where 10% or 15% of the capital will be allocated to digital and maybe 10% or 15% of the team are allocated to that. Everyone at DigitalBridge has digital experience.

And you've also diversified the platform significantly in the last few years. I mean, historically, this was primarily focused on flagship funds. But now you have core credit, liquid strategies, ventures. So maybe you can talk about how that's been helpful as you go out to LPs, I mean, being able to have a much broader group of strategies beyond just a traditional flagship strategy, which I know is still obviously a critical part of the DigitalBridge story?

Yes. It's a good point. So I think for us, a couple of things. One, -- and I'll touch on a couple of the sort of products here. On the sort of alternative side, we have our core strategy really in terms of the infrastructure world, that would be a core part strategy, core typically indicates that the underlying asset class is regulated. And you're probably looking at sort of low mid-single-digit gross returns, call it, 6% to 8%. Our target return in our core strategy which is called the Strategic Assets Fund is marginally higher than that. We're not -- cellphone towers, as I said, are great businesses, but they're not regulated. So you're not getting kind of a regulatory rate base outcome. That's a really compelling strategy for people who effectively sort of want to have exposure on the digital side and want to have contracted revenues, but with less greenfield development risk, whereas what we try and do in the flagship products is, yes, really, to have that kind of great operating businesses and will then augment it either by developing, for example, new data centers or doing M&A on top of it. So we'll sort of typically look to blend up our returns by taking some development risk, whereas in that core plus strategy, we're effectively just buying the operating assets and will take some contracted execution risk. For example, one of the first acquisitions we did in that strategy with a carve-out of Belgian MNOs cellphone tower business. So we'll effectively stand up the management team, carve it out of Telenet, which is the Belgian mobile network operator. As part of that, we have a contracted commitment from the vendor for some build-to-suit, but we're not effectively taking market risk in terms of trying to find those towers as well. And that probably orients itself that product towards a little bit more return in the form of current income stabilization. Whereas, most of what we do on the flagship side and look, they're not mutually exclusive, but most of what we do on the flagship side is predicated towards building enterprise value at the point where we ultimately exit the business. So that's one thing. And I would say that was a very attractive product as well in the sense that it has an appropriate cost of capital to buy mature, stable businesses. And I think sort of notwithstanding some of what you're seeing on the public side in terms of public markets. On the private side, those sort of platforms still fetch very compelling multiples as well. The other sort of areas of adjacency expansion, you would have seen in a press release that came out yesterday around fundraising for our credit strategy. Yes, clearly, across the alternative space, private credit is experiencing a bit of a golden moment as well. And we really think that sort of in the digital space, there's an opportunity, particularly given, I think, some of the tightness you've seen in traditional financing markets, whether it just be bank liquidity, rising interest rates for effectively what's a bespoke credit product as well. So that product is obviously doing pretty well. I think many others who have private credit products are doing pretty well as well. I think the advantage for us we have is the ecosystem gets us in front of opportunities and just our degree of connectivity into the digital space allows us to really participate in things where there's an opportunity to really drive a bespoke return for our investors as well. And then we obviously have a liquid strategy, which is one product sort of more oriented towards long only. So that's done all right for the last 6 weeks-or-so. But till then probably just reflective, I think, on the long side of broader markets and then a market-neutral strategy as well, which is actually doing pretty well. And then the other thing that we did roughly slightly over 12 months ago, but it took a long time to close. We acquired AMP's global infrastructure equity business. Really for us, that will be sort of going forward a more middle market-oriented digital push strategy as well as you sort of think about our second fund, which was roughly an $8.3 billion fund, we'll have kind of 12 to 14 investments in that. So it denotes quite a large check size. And so -- but clearly, there's a great market globally in that sort of $250 million check size and that AMP, which is now called Infra Bridge platform, will enable us to pursue those opportunities.

So clearly, you've been pretty busy across all those product spectrums. I guess as you look forward, I mean, are there other strategies that might be interesting to fold into the ecosystem like a more traditional private equity strategy? Or do you kind of feel like you have the bases covered now with everything from flagship down to core and credit?

Yes. I think it's really -- for us, it's really -- was there a differentiated opportunity as well. So I wouldn't -- for example, I wouldn't envisage that we would launch like a kind of diversified PE strategy. Clearly, the sort of less contracted into the spectrum, there's a little bit of a Venn diagram between digital infrastructure and private equity anyway. So sort of at some point, that would be a logical area to look for expansion ride as well. But again, it comes back to differentiation. I think one of the things for us on the credit side was that we wanted it to be very digitally focused as well. And so that made it a more natural adjacency than just going out and doing a broader credit strategy.

And you've commented a bit on some of the internal investment you've had just bringing on particularly hiring new talent to run a lot of these strategies and some near-term cost impact on the bottom line, but it seems like you're through kind of the bulk of the investment into a lot of these new strategies. You've got the teams up and running, you've got the people that you want. So as you look into the future, a lot more of your fundraising will kind of fall to the bottom line for investors, is that a fair way to characterize it?

Yes. I think in terms of the existing product set, I think we're broadly in a position where we're kind of feeling as though the sort of bulk of the work is behind us. We've obviously also gone through the sort of rotation out of that legacy colony business model being asset-heavy real estate focused, and we've deconsolidated DataBank. We'd obviously love to sort of continue on the deconsolidation path with the other data center assets that we hold on our balance sheet as well. So without sort of prognosticating about what the crystal ball looks like, I think, for us, for what we have today, we're kind of thereabouts. So ultimately, as you said, sort of going forward, it really depends on what are the sort of incremental strategies we look to add to the platform and what that might mean on the expense side.

And touching on the deconsolidation of DataBank, you've gotten that past due. The Vantage SDC portfolio is coming up next. Obviously, DigitalBridge has a lot of exposure to data centers right now. Maybe you could talk about what the market might look like for a more stabilized data center asset like Vantage SDC not as much of a development platform. Obviously, rates have risen substantially this year, although they backed off a little bit recently presume that's probably had at least some impact on valuations just based on the type of buyer who may look to acquire a streamlined data center asset? Like what do you see it today in terms of pipeline...

I think sort of rather than sort of answer it specifically to Vantage SDC and we're obviously keen to deconsolidate that one quickly just as we've done with DataBank. Maybe if I could speak a little bit more broadly about what we're seeing sort of on the private market side as well, where I think notwithstanding the degree of, I would say, particularly in the first 9 months of the year, degree of dislocation and volatility that you've seen on the public side. I think broadly speaking, prices on the private side seem to have held up pretty well. Now you obviously -- you're not seeing the same exact prices you were kind of 2 years ago. There's a little bit of the impact of higher rates. But certainly, you haven't seen the kind of full drop-through that you might have seen on the public side in the first 6 to 9 months of the year. And I think they remain very good assets as well. Conversely, you obviously also haven't seen a massive amount of transactions as well. So a little bit hard to get a beat on exactly where things might be priced right at the moment. We've got, I think, sort of on our side, like on the M&A landscape for all of our portfolio companies. You haven't seen the same degree of dislocation that you saw in the first half of the year on the public side.

Yes. Yes. And data center is a fascinating topic. Obviously, you've talked about this a lot on your calls. Some of your larger portfolio investments, Vantage, Switch, DataBank have performed phenomenally well this year. I mean, from our seat, we've seen record demand this year, returns that have improved. We've seen pricing that historically was deflationary, is now growing. And then you've got this generative AI workloads that are maybe just adding fuel to the fire of data center demand. So maybe you could talk about your outlook for your data center footprint as we look into 2024 in terms of demand continuing to scale, pricing remaining firm, the kind of development returns that you're able to achieve today and how those have improved versus a few years ago in a lower rate environment where perhaps there's even more competition for data center development?

Well, I would say you've done a very nice job there of describing how positive the environment is as well. I think we are, yes, sort of -- and we probably have roughly slightly over 1/3 of our AUM allocated to the data center space globally. We're in the hyperscale business pretty much around the globe, the enterprise business in Europe and North America as well. But I think everything that you have said resonates with what we are seeing, and I think I'd sort of unpack it on a couple of levels. One is you still have the tailwinds of the secular movement from on-prem to off-prem and whether that manifests itself in the form of public cloud or private cloud, right? So if you think about our portfolio, you have Vantage, you have Switch, which benefit from both of those trends, right? You then have the increasing deployment of hyperscale that is sort of down into second-tier geographies, right? And so that within the context of our portfolio, obviously, benefits the likes of DataBank. In North America and AtlasEdge, which is our JV with European Fund II, our JV with Liberty in Europe as well. You then add on to that, the sort of massive tailwinds of AI, which even in its very early iterative phases is providing significant tailwinds across the ecosystem as well. How does that impact us? Our credit business, which I spoke about a couple of minutes ago, it just participated in the financing round for CoreWeave, a large GPU aggregator as well. And so it really just adds from our perspective, another secular tailwind to what's already a pretty strong secular growth story, right, which is just driven, as I said, by that movement off-prem and the sort of, I guess, the deepening integration of cloud within your life as well. And then sort of adding the other factors as well that you have. One, I think, sort of pricing environment that's reversed from typically being, as you said, deflationary to one where we have actually seen development yields across the portfolio generally outstrip the impact of inflation. So massive continued demand on behalf of the hyperscalers and then the other thing as well. Constraints in terms of access to power as well. So it does 2 things. One, I think it sort of increases the value of what you already have in the ground because of the grid constraints, but the second one is it really advantages those who have a differentiated way to develop new data centers, who can manage the power as well. So I think overwhelmingly positive in terms of the sort of short- and medium-term outlook in that space.

Yes. And I think the power discussion is particularly interesting with data centers today. I mean it seems like there are some markets like Northern Virginia that have run into a transmission crunch and these issues take years for them to rectify, right? They don't happen overnight. So when you look at your data center markets today, I mean, places like Las Vegas and Reno where Switch has a lot of renewable energy. Are you seeing like new markets of interest pop up beyond where the kind of traditional data center hubs like in Ashburn, Virginia, or Santa Clara, California, another place that is severely limited by power, all of a sudden, are you really seeing more distribution of demand, new markets that have become interesting within your data center platform that might not have been 25 years ago?

Yes. Without giving sort of too much away geographically, we are seeing very much the emergence of areas that have access to firm power outside of the traditional data center markets that you mentioned, whether it's Santa Clara. Ashburn, Virginia is one sort of being very much advantaged in terms of new development capacity as well. So that's kind of one element, that's sort of around the U.S. and around the world around -- where there's sort of ample supply power, good grid connectivity. I think there's sort of 2 other things for us that we're sort of spending a fair bit of time thinking about. The first one is, what does this look like in the sort of medium to long term as well. You've clearly got grid congestion issues, some massive lead times in order to solve them on the one hand, yet on the other hand, you've got this burgeoning demand for compute power, which will only become more compute-intensive as we move into the various phases of artificial intelligence. So that's, I think, sort of one thing. And then the second one that we're also thinking about is, if you think about AI and its early iterations, it's not as latency sensitive as a lot of hyperscale applications are. But how do you think about where does that lead development to go from a geographic perspective? And then what are the implications for the other parts of the digital ecosystem as a result of that? It's not often spoken about in the context of AI, but clearly moving light around with fiber networks is probably a little bit easier to moving electrons around as well. And so how do we think about the other touch points across all of the digital infrastructure investing ecosystem and the implications of AI for that.

Yes. And that sometimes -- I think data centers have gotten the most press, but certainly, a company like Zayo, for instance, in terms of building fiber backhaul or connectivity into new data centers and on to of the opportunities they have in the wireless space, I feel like that may be somewhat underappreciated. And I assume you've talked about how your fiber segment has started to see improvements in terms of demand and activity levels. And maybe we could touch on that briefly as well?

Yes. Yes. I think sort of on the -- and we've got here, again, just as we do on the data center side, I think we've got all shapes and forms of fiber investment. Clearly, Zayo was one of the larger investments that we did in Fund I. I think -- and then we have other investments in Fund I playing field. The AMP business we acquired has a couple as well. I think what we've sort of generally seeing is residential demand has actually been super strong. So Playing field, which is our Canadian fiber business have had really 2 segments. It had a sort of residential segment, focus more on MDUs, which is quite a neat business model in the sense that you take the fiber to the condominium and then it routes through the whole building as well, so you're effectively selling the large block of MDUs at any one time. I'd say the enterprise side has been probably slower than we might have anticipated, but that's also reflective of the fact that coming out of COVID Canadian office has been very slow in terms of returning to work, but the MDU side has kind of more than compensated for that as well. And then we think for Zayo, sort of acquisition was premised on being more capital efficient and effectively lighting on-net buildings, and we're doing both of those.

Yes. And I guess to touch on towers as well. You have -- obviously, you have a history in the tower space. I would love to get your perspective. A lot of volatility in the public tower stocks this year, probably driven more by interest rates than anything else. But there is also this concern around 5G investments slowing to some degree, a little in the U.S. specifically, activity levels that have normalized a little bit. And so you've seen the tower business go through various cycles and peaks and troughs almost like a sine wave over time. I mean, do you think this is just part of the normal cycle of demand where you have maybe an early rush of demand in the U.S. markets, a little bit of a normalization period. And then as you look at densification opportunities in the next few years, things pick back up?

Yes, I don't think it's anything sort of outside of the ordinary and sort of reflective of what we've seen in the past, right, and the sort of deployment cycle goes from macro down to micro over time. And so as people complete the macro build out eventually, it filters down into small cells and that sort of thing as well. So nothing I will be concerned about there. And I think for us specifically, our U.S. tower platform, Vertical Bridge, which is one of the original DigitalBridge businesses when it started 10 years ago as well, I think, you will see, and this is all public, the JV they're doing with Verizon as well, which should see them extend their runway for growth as well. And I think the advantage sort of on the private side is that you don't have the quarterly earnings cycle, and it means you can really pursue flexible solutions with carriers that we think are mutually beneficial. In this case, each of Verizon and Vertical Bridge as well but wouldn't necessarily compute in the context of having to do starting June 30, September 30, December 31 as well. As we then sort of in -- we're a global tower investor as well. And then I think you'll see all around the world sort of various iterations of that same thing. In some places, it's 3G to 4G at the moment. So for example, in our second fund, we have an investment in a business called EdgePoint, which is focused in Southeast Asia, that is very much sort of seeing what we saw in the U.S. 7 or 8 years ago in terms of that transition from 3G to 4G and the massive densification requirements that follow that.

That's good to hear. So I wanted to ask you about maybe the buy versus build equation across some of the key swim lanes of digital infrastructure right now. And it seems like probably building is going to be the preferable choice for many of them, just given the fact that multiples are still fairly elevated and financing markets are a little more constrained than they were a few years ago. But data centers, towers, fiber and maybe small cells being 4 of the key areas. I realize there are even more verticals now that have been created. When you look at the buy versus build equation, is building -- and is greenfield development or brownfield still kind of the preferred path for growth going forward? Or do you think that you're going to see more M&A opportunities emerge in the next couple of years as well?

It's funny, I would have thought like had you said 18 months ago that interest rates would go from 0% to 5% over the course of what's probably the shortest tightening cycle with the most velocity. But certainly, I've seen in my career, and I imagine most people who have seen in theirs as well. I would have thought you would have seen more buying opportunity actually, as well. I would have thought, particularly at the margin, you'd see people kind of throwing in the towel. Not only have you not seen a lot of buying opportunity, but everything that's sort of -- like on the private market side, most things have been very, very well priced as well, whether that be on the tower side or the data center side. And clearly, if you follow that market, people have seen that good assets continue to attract very good bids. I think the smaller universe probably on the fiber side as well. But I would say, and sort of this is reflective of the strategy for our business. Building continues to make sense if you have accretive tuck-in opportunities whether that's for new fiber out, whether you're doing something that's contract backed where you may be able to deploy a couple of strands and have some incremental operating upside from reselling a second or third strand, that probably makes more sense. Clearly, though, on the public side, where you're seeing the most price compression for public stocks is on the fiber side, but it's obviously for a lot of those, there's a fair bit of balance sheet complexity attached to it as well, but you're going to have to knuckle down and sort out as well. And then I think on the small cell side, again, pretty small limited universe. But again, consistent with our strategy where we have small cell exposure, we're continuing to build as well like it remains a place where you can deploy capital for pretty good unit economics as well. So surprisingly, I think it's still build relative to buy.

Right, right. And as you look at the financing market today, whether it's for investing in greenfield development or potential acquisitions and maybe you could talk about what the debt markets look like today in terms of attractiveness and ease of access to capital? I know DigitalBridge, some of the portfolio companies were one of the industry leaders in using ABS financing. We've seen that in towers originally then data centers and even more recently, we've seen residential fiber securitization. So that market seems to be broadening in terms of its reach. But it still seems like it's a pretty open market for high-quality digital infrastructure today.

Yes. I think most markets remain open for quality issues. So I think it's also -- if you think about the securitization space, like it sort of originated being like mortgages and credit cards and effectively things that were diminishing assets over time. So we like to think that sort of the assets that go into a digital securitization area are ones that will increase in value and, therefore, the collateral increases over time as well. But that remains a market that is pretty robust. Obviously, base rates have moved up. Coupons haven't really reflected all of the increase in base rates. I think there's probably been a little bit of spread compression. But people are certainly getting paid more to their money than they used to. The advantage is issued in that market. In the last couple of months, we have a number of other portfolio companies looking at it. And clearly, the sort of the curve compressing a little bit is quite favorable. I think on the sort of bank side, when we typically don't do a massive amount of bank financing in the U.S. as a form of term funding, you typically do it in the context of an acquisition or if you have some assets you want to season before you put them into some kind of term funding vehicle. Whether that be a securitization or another form of bond, that's probably a little bit harder than it may have been. But again, I think quality issuers are getting deals done. We sort of, outside of a few bespoke scenarios, haven't been massive issuers in the traded term loan or high-yield market. The one thing we did do across the portfolio whether it was foresight or just good planning as well, spent a lot of time after COVID had normalized really trying to push out maturities as well. And then maybe sort of broadly speaking, the portfolios levered at sort of roughly in the 40% range on the private side as well. So -- and businesses are very high-margin businesses. So even a material tick up in base rates like we've seen doesn't have the same impact on debt service, you might see and say, for example, a consumer discretionary industry.

Right. Hopefully, they're heading back down next year, but we'll have to wait and see for that. So well, we're out of time now. So I appreciate, Liam, you giving us your latest thoughts and...

Thank you very much for having us and thank you for the continued support from Wells.

Absolutely. Thank you.

Thank you.