ICG plc (I2X2.F) Earnings Call Transcript & Summary

Good afternoon, and thank you for joining us today. As you'll have read in the announcement this morning, over the last 5 years, ICG has doubled its fee-earning AUM. And within that, we have grown our equity-like strategies by 3x. These strategies have higher performance fee potential. And in order to make this component of the revenue more visible and to remove certain elements of management judgment, today, we are announcing a change to the way we recognize performance fees in our financial statements. These changes will be implemented at our H1 results, which we will announce on the 18th of November. I'm joined by our CFO, David Bicarregui, who will give an overview of the changes we are putting in place, and we will then take questions. The slides are available on our website along with the accompanying announcement. As a reminder, and unless otherwise stated, all financial information discussed today is based on alternative performance measures, which exclude the consolidation of some of our fund structures required under IFRS. You can also -- you can submit questions verbally or through the online platform. Details are available on the portal. And with that, I'll hand over to David.

Thank you, Chris, and good afternoon, everyone. I'd like to start with a bit of context. Over the last decade, we have grown organically to become a global player in a number of investment strategies where we believe there is significant runway of growth, such as structured capital, private equity secondaries, private debt and real assets. Over the last 5 years, our fee-earning AUM has doubled. And as a result of mix shift and growing in higher fee strategies, our weighted average management fee rate has grown from 86 basis points in FY '20 to 97 basis points in FY '25. So we are managing more of our clients' capital in higher return, higher fee strategies. This deliberate strategic decision about where to orientate our growth has positive implications for the future trajectory of management fees and for performance fees. We have 3 revenue streams. Management fees represents the majority of our fee income and are recurring in nature, visible and long term. Performance fees are small but increasingly valuable revenue stream for us. Over the last 5 years, they have represented 12% of our total fee income on average and the fair value movements in the balance sheet investment portfolio, which over the last 5 years have averaged 13%. Today, we are very fee-centric with management fees accounting for the large majority of our revenue line. So zooming in on performance fees and to recap on how our performance fee model works. On the left-hand side of the slide, we set out an illustrative representation of what performance fee pool would look like for an $8 billion fund, generating a gross MOIC of 2x. As you can see, ICG will be entitled to $280 million of performance fees, which will be received in cash over the life of the fund. The accounting for this, therefore, has 3 components, which we disclosed in our full year and our half year results. The cash received, in this case, $280 million in total, which is not impacted by today's change. These are sometimes referred to as realized performance fees. Secondly, the revenue recognition, which over the life of the fund will equal the cash received, but the timing will differ. The timing is the P&L component impacted by the changes announced today. And finally, the balance sheet asset of recognized but unrealized performance fees, which will also be impacted by the adjustments today. These 3 components as reported in full year results for FY '25 are set out on the right-hand side of this page. Going forward, we will continue to disclose all 3 metrics at a group level. Performance fees have been an important contributor to our top line. Over the last 5 years, the cumulative P&L has been almost GBP 300 million, and we have received GBP 210 million in cash. As of the 31st of March 2025, we had a balance sheet asset of GBP 108 million. As discussed at the beginning of the presentation, we have deliberately shifted the composition of our business and our fee-earning AUM moving towards higher return, higher fee strategies as part of our approach to diversifying the business. Our equity-like strategies, which have higher performance fee potential, have grown 3x in absolute terms and now represent over half our fee-earning AUM compared to 1/3 in March of 2020. Put another way, given the higher management fees these strategies earn along with the higher performance fee potential, the shape of our fee-earning AUM today has significantly more embedded value for shareholders than it did 5 years ago. So looking ahead, based on our waterfront of products today, we expect this trajectory to continue. The changes we're making today make the value of our performance fees more visible. The main change revolves around timing of when we start recognizing performance fees for a fund and how we will accrue that as the fund matures. Going forward, we will now recognize performance fees for a fund when the subsequent vintage holds a first close and the investment period of the current vintage ends. So taking a practical example, Europe Mid-Market, you will see Europe Mid-Market II recognizing performance fees once this investment period ends and Europe Mid-Market III holds a first close. We will accrue this on a linear basis, assuming a 12-year fund life compared to 10 years before. The valuation for the purpose of calculating the carry will continue to be based on the fund's current NAV. These changes combined also reduce the management judgment required in the P&L. On this page, we have set out a modeled example, and the team can talk you through this in more detail offline, if helpful. There are, therefore, 3 factors that feed into the performance fee recognized in any year. Firstly, a binary gate of whether the investment period of the prior fund has ended and the subsequent vintage has held a final -- a first close. The passage of time as the fund moves towards the end of its life and the development of the fund's NAV. Using the model from a few pages back of an $8 billion fund generating 2x MOIC, resulting in a potential carry pool to ICG plc of $280 million. For simplicity, we've assumed the fund has 10 assets in its portfolio, all of equal size and has the same value creation linearly deployed and linearly realized. As you can see, the P&L recognition starts in year 4, which is when we assume the following vintage has had a first close and the current vintage ends its investment period. At that point, we take the fund's MOIC 1.5x in year 4, best fees and expenses and reduce ICG share by the time factor. In future years, as the fund accretes value as it does, for example, between years 6 and 7, when the MOIC increases from 1.9 to 2x, the P&L recognition reflects both the passage of time and the value increase. If there's no value accretion, such as in year 10, the P&L is just the passage of time, in this case, 1/12 of $280 million, which is $23 million. A couple of things I'd flag here. Firstly, cash and P&L are the same at the end of the fund's life. And secondly, nowhere do you actually see the full value of the performance fees to ICG at any time in the P&L, cash flow or balance sheet because it's over a period of time and the in-year movements are small relative to the total. If we then apply this to one of our funds, here we show Europe VI, we can see how the new and old approaches differ in terms of recognition. Of course, cash is unchanged. Given the practical example, the current approach for Europe VI is based on the previous assumption of 10 years fund life compared to 12 years now, which in practice means the difference between the 2 initial recognition points, A and B is relatively small on this chart that, in fact, be larger. If Europe VI were discounted over the 12 years, but you can see the new approach would likely have resulted in smoother recognition and would have converted to cash quicker. So to recap on these changes and then looking ahead, there will be no impact to the timing or amount of cash received. We expect a one-off recognition in our upcoming half year results of between GBP 65 million and GBP 75 million to reflect the changes outlined today. This is largely a result of starting to recognize full performance fees for Europe VIII, Strategic Equity III and IV, Mid-Market I and Infrastructure Europe I. For the half year, we expect total performance fees to be in the range of GBP 90 million to GBP 95 million. We are also increasing our medium-term guidance for performance fees and FMC operating margin. Performance fees are now expected to be in the range of 10% to 20% of total fee income compared to 10% to 15% previously. And as a mechanical consequence of that change, the FMC operating margin is now expected to be in excess of 54% compared to 52% previously. In summary, as a result of our deliberate shift to high-return strategies over the last decade, there is significant potential value to shareholders from performance fees. The changes today serve to help underline that value and make it more visible in our reported financials. With that, I'll turn it back to Chris.

Great. Thank you, David. [Operator Instructions] And while we wait for a couple of people to ask questions verbally, a couple of questions have already come in online, David. Firstly, the -- what is the approach for funds with a U.S. style waterfall?

Yes. So good question. The answer is we are using IFRS to produce our consolidated financials. And so actually, the approach will not be different between different styles of waterfall, European or U.S. Obviously, in practice, that means the U.S. waterfalls tend to return cash sooner. But the recognition policy is a global policy and it's done under IFRS standards.

Thank you. And then a question on how does this performance fee recognition methodology affect the probability of a clawback?

So in practice, the biggest governor on the clawback or the unwind, as you're probably alluding to, is the fact that we space out the recognition over a long period of time. In the current model, we use 10 years. In the new model, we're using 12 years. And so the passage of time effect will only put in recognition over time, and we think that's appropriately prudent.

There's a question online from David McCann at Deutsche Bank.

So yes, just a quick one first. I mean you've touched on this partly in the prepared remarks, but maybe you can give us a context as to the why do this. But I guess the part that was may be missing is the why now, like why do it now, not 6 months ago, 12 months ago, 2 years ago because the funds are obviously increasing in size then as well but the ones that could generate performance fees. So yes, just the why now? So I would be interested to hear your answer there. And the second question, please. Where do you think this new policy will place you versus the accounting policies of peers? And have you specifically benchmarked yourself against any of them? And if you have, would you say that you're sitting conservatively middle of the pack or aggressive versus sort of other listed peers policies on this?

Yes. I think I'll take it in reverse order, David. I think the second question, yes, of course, we've looked at as far as we can discern other people's approaches, and we've done our own sort of internal analysis on that. I'll leave it for others to determine the relative between them, but we think this is certainly works for us and works under the standards that we're applying. So you can take it that we thoroughly thought about this. In terms of the why now, it's -- as you say, you could have done it 6 months, 6 down the line. It's not really that. It's more that this reflects where the business really is at this point in time. We called out at the beginning of the 3x growth in the equity-like strategies fee earning AUM. And over half now is in that category. So it feels like as good a time as any to make the change.

Thank you. A couple more have come in online. First of all, in the past, you've indicated the FMC operating margin was sort of underpinned as it were in the event there were no performance fees. Is this still the case?

No, I think we just need to remind everyone that the guidance is very simple guidance. It's FMC margin in totality. But obviously, every time we set a floor and an excess statement, then we're taking into account our confidence in that. And I feel very confident in 54% plus as the FMC margin guidance.

And could we please clarify whether the upgrade to performance fees as a percentage of total income, right, from that 10% to 15% to 10% to 20% is all due to the accounting change? Or is there actually an underlying upgrade to performance fee potential due to more funds being eligible for bigger performance fees now?

Yes. I mean we don't want the accounting change itself to be the story. There's a strategic message we're giving here, which is if you play this forward over the next few years, as we do, there's a lot more performance fee potential just inherent in what we've already got, let alone the new funds and the faster-growing funds and the faster-growing parts of the business. So we certainly wouldn't want this to be seen as just an accounting change. It's also full recognition. I used the word visibility a few times because we're talking about visible growth and visible operating margin. That's what you're actually seeing in the numbers, and it's also a sign of what's to come as well.

And then on the operating margin, the upgrade to operating margin guidance from 52% to 54%. Just to confirm, is that a reflection purely of this accounting change described it as mechanical in the prepared remarks? Or is there something else going on as well supporting it?

No, this is just mechanical, as I said. If you do the math and do the recognition change, you can see it's about 2%. So therefore, we got to 54%. But of course, on the go forward, we consider everything that's happened in the business, and we'll update the guidance as and when the business shifts again.

A question on the modeled example that you showed. And as a reminder, if people have detailed questions on the model, Kate and I can happily discuss that offline to make sure everyone understands it. Hopefully, it's helpful as people think about constructing fund models if that's what they wish to do. But a specific question, under the new approach, is it fair to assume that a fund will take 4 years to recognize performance fees from the first -- from the point of the first close?

I don't think you should make an assumption it's 4 years. I mean we've deliberately hooked this off of objective things, i.e. the end of an investment period. So I think you can take your own view on how quickly we're deploying through given funds, and we obviously update on that through our actual earnings announcements and in the data pack. And then obviously, the declaration of a first close of a new fund, that's an objective trigger. So I'd focus more on those things. The full year was purely illustrative and that will obviously change depending on where in terms of market cycles and speed of fundraising and other factors.

And another question on modeling. As I understand, there are 3 components of -- if we look to FY '26 of what's going to drive FY '26 performance fees. There will be the one-off fee, the one-off increase that you mentioned today. There will then be the passage of time, that 12-year spread that you mentioned. And then there will be the impact of the changes in the fund valuations. You've given us the number for the one-off uplift. The fund valuations are obviously unknown. But are you able to put any quantification on numbers around the passage of time accrual if there weren't any changes in fund valuations between FY '25 and FY '26?

Yes. I mean there's a lot of statements in there, but we can probably give a little bit of help here. I mean the -- we've announced obviously what the onetime recognition is. And so that's in the number for the financial year. It's included. Then if you just thought about the passage of time effect, maybe just keep fund valuations flat to FY '25, that's in the range of GBP 28 million to GBP 32 million. And then obviously, on top of that, as you said in the question, you have the potential for fund NAV uplift. But if you didn't have any, you'd be taking those 2 things into account for sure.

Then another question has come in around how performance fees work on evergreen funds? Would we recognize fee-related performance revenue like the U.S. alts? At the moment, we don't have evergreen funds that have fee-related performance revenues. So that isn't something that we are going into detail on now to the extent we do develop products that have those characteristics, we will provide suitable guidance on how we would account for performance fees for that. And if there are no other questions, thank you so much for your time as discussed. As mentioned, we're very happy to discuss offline if people would like to go into more detail on this. Otherwise, we will speak to you all on the 18th of November, if not before. Thank you very much. Thank you.