KKR & Co. Inc. (KKR) Earnings Call Transcript & Summary

Before we get started, I've been asked to direct your attention to some important disclosures on Morgan Stanley research disclosure website at morganstanley.com/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley sales representative. Good afternoon, everyone, and welcome back to Morgan Stanley's financials conference. I'm Mike Cyprys, equity analyst covering brokers, asset managers and exchanges from Morgan Stanley research, and welcome to our fireside chat with KKR. We're excited to have with us today, Ralph Rosenberg, who's Global Head of Real Estate at KKR. As many of you know, KKR is a global investment firm that offers alternative asset management and capital market and insurance solutions. KKR has nearly $370 billion of assets under management. Ralph, thanks so much for joining us today.

All right. Thanks for giving me the opportunity to spend the time with you and your clients. What I thought I would do is walk everybody through a handful of high-level overview slides on KKR and the real estate business within KKR, and then open it up to questions that Mike can pepper me with. So I'm going to refer to the slide deck that has been distributed to all of you, and I'll reference page by page where I'm looking. So if you look on Page 3, I thought I would just start with a couple of slides to give a high-level overview of KKR. We are a global asset manager. We have about a USD 50 billion market cap. As you can see at the top of the slide, we run a little under $400 billion of AUM. And importantly, we segment our business between our asset management activities and our insurance activities, the insurance activities created by the acquisition of Global Atlantic in February of this year. And that's why we are now reporting in the 2 segments identified on Page 3. Importantly, if you look at the asset management segments, as you would expect, we are very, very scaled and formidable in the private markets within which the real estate activity sits and also in the public markets. Importantly, there are 2 differentiators that we have here at KKR relative to others in the marketplace, in our view. One is we have a prolific Capital Markets business that supports all of our activities in private equity, infrastructure, real estate, et cetera. For reference, in the last 12 months, that activity generated about $530 million of revenues. And then the second differentiator is our balance sheet, our ability to invest directly in our products and directly in investment opportunities for the purpose of creating strategic growth across the firm, but also importantly, doubling down on investments that we think are attractive. And to give you context, with respect to that principal activity is identified in Page 3, we have about $26 per share of book value, just in terms of the balance sheet investment activity that we hold on the balance sheet. If you turn to Page 4, all roads lead back to are we good at what we do with respect to generating investment performance. This just gives you a snapshot of all of our key investment areas in our private markets, and it shows you that we've been really meaningfully outperforming any benchmark that you might refer to. You can see, relative to the conversation this morning, just to give you a snapshot. While we run several real estate verticals that I'll reference today, you can see just in our Americas and our European opportunistic strategies. Our in-place IRRs are meaningfully above any relative benchmark, the Odyssey index, risk-free rates, BAA credit, pick your flavor of the day in terms of benchmarking the real estate asset class. And so really, I just wanted to start by giving you a sense of how the firm is set up. And how real estate fits within the asset management activities of KKR. Now to dive right into the real estate activity. I promise you I'm not going to read every box on Page 5. But this just shows you the trajectory and the arc of the evolution of the business. So to give you context, when I joined KKR in 2011, I joined the firm where we had no incumbent real estate AUM. We invested directly in real estate-related activities selectively through our private equity funds historically. But the real opportunity was to create a formidable global real estate investing franchise that leveraged our brand, our balance sheet, our culture and to allow our LPs to have the ability to think of KKR as a trusted partner across not only private equity and credit and infrastructure and public credit, but also in the real estate asset class. And so you can see the arc of this curve is really the journey that we've been on to not only provide access to differentiated real estate investments for our institutional clients, but also, as I'll reference for our retail clients as well. If you turn to Page 6. Mike and I were talking about this a little bit before we went live, it is really, really hard to scale a global real estate franchise. The reason that we've been able to do so successfully over the last decade is really because we have a 40-year history as a trusted global asset manager and other asset classes that the real estate team has been able to leverage on the backs of across the globe. And you can see on this chart, the large blue circles represent the investment professionals across KKR within each of these markets, and the smaller blue circles represent the number of real estate dedicated professionals within each of these markets. So globally, we have 113 real estate professionals. That's purely on the investing and the asset management side of the business that effectively is on my headcount. It doesn't include all the important infrastructure-related professionals in distribution and fundraising and finance and legal and risk, et cetera. So in order to create a best-in-class global franchise, you need to leverage off of all of the appropriate incumbent infrastructure associated with KKR to be best-in-class. And that is a huge competitive advantage for us. If you turn to Page 7, the proof is a little bit in the pudding. If you're very good, which we believe we are in terms of creating returns, and if you're really good at leveraging off of our differentiated attributes of the balance sheet, the culture, the brand and the global footprint, you can effectively grow a formable business over a 10-year period that many people in the real estate industry haven't been able to scale to this level over literally 30 or 40 years of being in existence. As you can see, just referencing Page 7, our last Investor Day in July of 2018, we ran about $6 billion of dedicated AUM and real estate. You can see, as of today, we're approximately $28 billion. We're split $15 billion of credit, $13 billion of equity. And as I'll reference in a moment or so, that growth trajectory is continuing to be real and visible in the near term. I will tell you when you flip to Page 8. There is method to the madness as to how we've scaled. Our vision when we started the business was really to be an integrated market-facing participant of both credit and equity to be global and to be able to solve any problem or opportunity across the capital structure in the real estate industry for any counterpart or intermediary. And so you can see on Page 8 that on the top of the page, it's effectively a sign of the risk return profile within the space. And on the left-hand side of the page, you can see the diagramming of equity, securities and being in the credit space. And if you think about this like a little -- as a matrix that over time, you just want to continue to fill in, what you're really doing is really 5 different things if you think about it. Number one, you're looking at how to expand geographically to leverage the firm's footprint in the United States, in Europe and in Asia. Secondly, you're thinking about creating successor fund activity that continues to give you scale. So Real Estate Partners America I, then Real Estate Partners America II. We're now raising Real Estate Partners America -- Real Estate Partners America III. So successor funds. The third way you scale is to create adjacent products. So at the top of the page, you see we started with opportunistic, and now we've been filling in the core plus product, and you should continue to expect that to expand from the United States to Europe and to Asia. Fourthly, you can think about scale and growth in terms of institutional products and retail products. You can see in the center of this Page 8, we recently went live with what we call KREST, which is our 40 act REIT that will be available starting at the end of this month to retail institutional -- retail investors through platform distribution. We're starting with UBS and with Santander. We also think about scaling our business with respect to running closed-end vehicles like our traditional opportunistic funds and open-ended perpetual vehicles, like KREST, in like our open-ended mortgage REIT, which is called KREF. And then lastly and importantly, we think about scaling using our balance sheet to do strategic transformative acquisitions and that's most identifiable through our Global Atlantic acquisition, which was transformative, not only to the firm's access to AUM, but specific to the real estate AUM. Of that $28 billion of captive AUM, about $12 billion of that traveled into my business unit through the Global Atlantic acquisition. And so if you take a step back, you can expect us to continue to fill out this mosaic on Page 8. Geographic expansion, retail and institutional expansion, open-ended and closed-end expansion in credit and in equity, that is the winning footprint, and that will be driven and accelerated by our balance sheet. If you look on Page 9, it shows you visually the evolution of what I just described by product. And importantly, every one of these products exist independent of one another, meaning the economics to KKR from an asset management fee perspective, promote realization perspective and the return on our balance sheet from directly investing in these strategies. From those 3 perspectives, each one of these products functions independently, and that is a very powerful attribute of our platform so that we can constantly be in the market relevant to both institutional and retail investors, showing them products that we are continuing to fundraise for, where importantly, the firm is continuing to invest capital behind. If you turn to Page 10. In all of our strategies, while we have the ability to be very flexible in terms of what we do with our capital and to be tactical and nimble and scrappy is a KKR buzzword you've probably heard before. We are very disciplined in terms of being thematic about how we invest capital. We leverage the takeaways from our private equity portfolio companies in terms of what they're seeing in terms of the behavior within their industry verticals. We leverage our global macro team. We leverage what we're seeing. In terms of our CMBS positions and our ability to control special servicing in terms of the behavior of underlying real estate supply demand activity. And to bring that to life to all of you on Page 10, this just shows you the themes that we're focused on today. But these change quarter-to-quarter, year-to-year. I promise you if we have been having this discussion pre-COVID, this chart would look very different than it looks today. And I think I'm going to pause there. Mike, I'm not going to go through the appendix, but I'm happy to address any questions about any of the slides that I referenced or handle any other questions that you're interested in asking me.

Great. Awesome. Thank you so much, Ralph. I'll kick off with some questions. We'll see if we can save time towards the end for any questions that investors can submit through the webcast, so feel free to submit any questions you have. So Ralph, that was a great overview. You touched on a lot of different topics. One to dig in, why don't we start with fundraising. If we go back to your Investor Day in April, your most recent Investor Day, KKR outlined a path to raise over $100 billion in assets in 2021 and 2022 with the real estate contributing, I believe it was about $10 billion to $15 billion or so expected to come from real estate. Can you talk about which strategies are going to be the biggest contributors there? And how do you see the market environment and LP demand driving any potential for upside here?

Sure. Well, thanks for the question. As I mentioned a couple of minutes ago, each one of these strategies in aggregate, they currently are 10, and we're going to add 3. We're going to add a core plus European strategy, an Asian core plus strategy, and an opportunistic credit strategy. But of those incumbent 10 strategies, I think you're going to see real growth in a handful of ways. Number one, take, for example, the Successor Fund comment that I made. Our first U.S. fund was $1.5 billion, our second U.S. fund was $2.5 billion. We are in market right now with our third fund, and I can't really discuss fundraising, but we've already done a first closing of over $3 billion. And so that sort of shows you, as an example, the power of raising successor funds. The same is true in Europe. We're about to do a final close on our second European opportunistic fund next Wednesday. Our first fund was USD 750 million. This fund will be over double that size. So you're going to see a lot of growth opportunity just from successor funds. Additionally, to answer your question, Mike, in the retail space, as I mentioned, we just went live with KREST. We're going to start bringing in capital to that vehicle at the end of the month, and you're going to start seeing every month us being able to add to that strategy. Thirdly, with the Global Atlantic acquisition, we are reinvesting the proceeds associated with the interest that we're creating on the Global Atlantic credit book. So that's going to be effectively a captive way to scale AUM in the credit book without raising any third-party capital. Additionally, as I mentioned, we're going to launch 3 new products this year, and we're going to open a incumbent core plus U.S. equity fund, which is open-ended that has $2 billion of capital today to third-parties literally at the beginning of July. And so if you sort of go product by product, it's not crazy. In fact, it's quite realistic to see us taking a $28 billion platform and literally doubling that over the next handful of years and taking a revenue base in the real estate business, which is the combination of fee-related earnings, return on balance sheet and promote, which, call it, this year or last year as plus or minus $300 million and seeing how that can grow reasonably to over $1 billion in the next handful of years as we continue to scale our AUM. And by the way, I would say as an aside, Mike, none of what I'm describing is reflecting what the power of the Capital Markets business is to the real estate franchise because as we continue to scale our AUM, we continue to use our Capital Markets activity to be an intermediary and an adviser to our real estate funds at market advisory fees but that also is a huge engine room that you should not dismiss. It's real that comes along with scaling the platform.

Maybe we could dig in a little bit more into the business. What part of the market would you say is a sweet spot for KKR, just in terms of the types of transactions and deal sizes that you do? And maybe you can kind of answer it separately on the debt versus the equity side. As I imagine, there are different answers there.

Sure. So let's start with credit. In the credit space, we're really in the large loan business, where there's very little competition and where you can be very efficient in terms of being relevant to market participants in terms of putting out real scale as an originator. And we do that uniquely across the capital structure. We have the Global Atlantic balance sheet, which is the safer risk return, loan-to-cost or loan-to-value, a piece of the capital structure, and we have our publicly traded mortgage REIT, KREF, which is more of a transitional lender. And we're going to be in the market later in the year, as I mentioned, raising an opportunistic credit vehicle. In addition to that, in the credit space, we are the largest player in the risk retention B-Piece market with captive funds. We've raised 2 funds, both approximately $1 billion in size. You should expect that fund series to continue. But the short summary on credit is large loans that are driven by a lot of the themes that I highlighted on the slide that I put up earlier. In the equity space, it's actually quite different. We are in the large deal business. Don't be confused. They're -- there is somebody other than Blackstone in the world that can do a very large multibillion-dollar transactions, and that's us. We can do that with the combination of our captive funds, but also importantly, our balance sheet. So we are in the big ticket business. Again, focused on the themes that we mentioned before. Additionally, we have built several captive platforms that are really targeted to some of the real estate asset classes that are very fragmented in size and therefore, require a lot of hand-to-hand combat in terms of doing transactions that require equity of $20 million, $30 million, $40 million, up to call it, $100 million in scale. So what would examples of that be? We have a captive student housing platform in the United States. We have a very affordable captive industrial logistics platform in the United States. We have a similar captive platform in the U.K. We have a similar platform in Continental Europe. We have 1 in Australia. We have 1 now in China, and we've got a platform in Korea. So you should expect that over time, we will continue to build out platforms that allow us to be aggregators of fragmented asset classes in themes that we really like. The next one, for example, is self-storage. And we just launched a hospitality captive platform that are just literally getting underway. But they also allow us not only to aggregate small assets and take advantage of what we call portfolio premium that's available to us in terms of aggregating small assets and then selling to large global institutions. But also it allows us to have the captive management teams to allow us to underwrite very large deals in those sectors when they actually are on offer. And because we have a capital that ranges from core, core plus on the equity side to opportunistic. When we see one of these very large scaled platforms available to us in one of these asset classes that's fragmented, we can effectively use our captive teams to underwrite those transactions and then have a home for that asset base across all the different funds that we manage.

Maybe just dig in just a little bit further there on the equity side. Once KKR buys a property, can you talk about your strategy and approach for driving value creation? And do you rely on third-party property management and other resources? Or do you use your own internal operators?

Great question. It's really a combination. So in each of these asset classes that I touched on that we control operating capability, for sure, the asset management and the day-to-day operating of the assets is done internally. In other asset classes, we do have effectively strategic or semi exclusive relationships with market participants who are operators, where we control decision-making and we control capital markets decisions, and we control all major decisions, but the day-to-day activities of running a property or portfolio are actually handled by third-party partners who also co-invest directly in these deals. So it's really a hybrid model. It allows us -- if you think about it, Mike, it allows us to be relevant really in every market in the world where we can use our own capability sometimes, but also be good complementary partners to local or regional operators who are looking for capital partners. If you think about a global player, who's got a vertically integrated model, who does everything from owning and operating property to developing and buying property in a sector, whether or not that's office or hospitality, et cetera, effectively, they're perceived in the market as being a stand-alone player where they don't really partner with other participants who are looking for capital partners. They're sort of going at it alone. I'd like to equate the way we're set up is a little bit like we're in Switzerland. We can survive independently, but we can be partners and allies with a lot of market participants as a complement.

And how do you think about the opportunity set for driving incremental value for maybe owning more of the value chain around property management development? You mentioned the capital markets business that you have at KKR. Could there be opportunities for incremental fee revenues if you were to expand further across the value chain?

The candid, honest answer for all of you is that if we were to ever be in the business of providing those services, it's really more because you want to control the quality of the service as opposed to creating the margin associated with those services. The services that Mike referenced are honestly low-margin businesses. To be in the real estate property management business, it's a very people-intensive business. The margins are, call it, 20% or 25%. It's very inconsistent with what we think of across KKR is being in the high margin, high value-add business of whatever we're doing, whether or not that's capital markets activity or being a GP to real estate investors or being a GP to private equity or credit investors. So the answer to your question, Mike, is I don't think anybody should expect that like there's a strategic growth initiative that is meaningful associated with some of these services. It's really about how we provide the right quality to create value at the asset level to make sure that we continue to outperform our benchmarks and provide our LPs with what their expectations are from a return perspective, that will ultimately be the engine room to how we take $28 billion of AUM to $60 billion to $120 billion over the next decade.

Maybe shifting gears a little bit to competition. Who would you say you view as your key competitors on the credit side and then separately on the equity side? And how does that competitive set evolve and change as you scale the business as you were just alluding to?

It's a great question. And one of the -- I think you'll hear by my answer that one of the great attributes of our business model is that it is very, very high barrier to entry to be able to be global and scaled across credit and equity across the risk-return spectrum. And I think that's most obvious when you think about my next comment, which is that our competition is a little different in every one of the products that we control by region and within credit and within equity. So I think it'd be disingenuous for me not to say that the biggest player in the space -- in the real estate AUM space, that's in the high-margin business is Blackstone. One guy's, obviously, biased opinion is that they are 6 or 7x bigger than we are. They've been doing it for 40 years. We've been doing it for 7 years. I think when we're all having this conversation 5 years from now, the spread between Blackstone and KKR is not going to be 7x. I think it's going to be a lot smaller than that. And I think if that's a reflection of the attributes that I mentioned earlier that we're able to leverage globally in addition to our balance sheet. In terms of our competition, more specifically in credit, with our Global Atlantic capital, it's really balance sheet lenders and insurance companies, in our opportunistic credit business, which is publicly listed, it's really BXMT and Starwood Mortgage REIT are really the only 2 relevant competitors in my opinion. In the risk-retention space, really Rialto, which is now owned by Stone Point, is, I think, the #2 player in the space, and we're the #1 player. If you think about the -- in the open-ended retail world in equity, there are 2 players really that are relevant, Blackstone in BREIT and Starwood in their REIT. And we're going live this month. And I promise you the spread between our franchise and their franchises are going to continue to narrow every month, starting on July 1, and we can go on and on and on. But I think the simple punchline, Mike, without continuing the stream of thought is within each of the products that we run, there is a specific competitive set that's regional and across credit and equity and across the risk-return profile. And because each one of those competitive sets are very different, it just shows you how important it is to be able to leverage off of a brand like KKR to scale the franchise that we have across the world and be a #1, 2 or 3 player in every one of these regions, in every one of these products, competing against different players in every one of them. I mean, I'm very proud of what we've accomplished, but I'm not confused. It doesn't happen without the culture, the brand, the balance sheet and the global footprint.

We have about 4 minutes left, and I did want to touch on at least 2 more topics if we're able to. First was KREST that's your new REIT that you're launching that you were referencing. Can you just talk a little bit about the investment strategy, the return targets and how it's differentiated from some of the other products that already exist in the marketplace?

Sure. So we -- as I mentioned, we've now launched, and it's listed on NASDAQ, we call it KREST, k-R-E-S-T. It's designed to be a retail product that allows investors to be able to access the real estate asset class, be able to get a predictable recurring cash yield that we're targeting in the 5.75% range to be able to get diversification, not only with respect to exposure to real estate equity but also to real estate credit and also to give investors some exposure outside the United States to both Europe and Asia. Importantly, as a differentiator, not only in terms of our strategic portfolio construction, we're also in the business of providing a daily mark. So literally, you can go on a ticker and see the value of our stock every day, which is different from our competitors. And additionally, importantly, KKR is putting in $150 million of capital. We're also providing a line to the vehicle to allow us to scale. That shows you that the balance sheet matters in terms of differentiation. And it also shows you that there's alignment of interest with our balance sheet with the retail investor. And then importantly, our compensation is going to be earned in shares as opposed to in cash. And again, that will continue to align our interest with those of the retail shareholders. And so we think it's a very unique and differentiated product. That is a very important complement to the 2 players that exist in the market and that will be well received, not only here in the United States, but also globally, as we're not going to be subjected to domestically controlled REIT issues here in the United States because we're set up as a -- effectively as a real estate publicly traded enterprise. And so that is also a differentiator.

Great. Well, maybe in the last 1.5 minutes that we have left, shifting gears maybe to deployment, if you could just touch upon some of the themes and areas that you're excited about that you're deploying capital into today? And maybe what areas are you avoiding at betting?

Sure. We've been -- we can debate whether or not it was skill or luck, but we've sort of been on the right side of history in terms of what's happened to the real estate asset class over the last handful of years. And I say that in the context of being very, very, very underweight or no exposure to hospitality, to retail, and to what we call traditional antiquated office product anywhere in the world. And from a portfolio construction perspective, we've been very overweight. The industrial logistics complex, all things residential, that means multifamily apartments, that means student housing, it means exposure to for rent single-family homes, which we're scaling more rapidly today. And we've really been -- and we have selectively played in the office sector, but really in innovation growth markets with high-quality footprints of real estate space that are conducive to attracting talent, even in light of the disruption that we're all experiencing today with respect to this debate about work from home versus in office working. So we're leaning into the demand drivers that have been accelerated by COVID, proof-of-concept residential logistics, where COVID -- and also in the net lease space in a meaningful way where COVID has proven that those themes are resilient. We've been selectively playing in what we call like a slightly disrupted COVID opportunities for the leisure sector of lodging, for example, where we're about to close on a very large portfolio of 48 drive to leisure hospitality assets in the United States. We've been staying away from some of these very, very disrupted asset classes because we just have no visibility on when demand is going to come back and what form that demand is going to come in. I would put in that category our retail and call it, 70s and 80s benches, vintage office buildings in major markets. So that just gives you a flavor for how we're thinking about the world. And again, it's not just me and 114 people sitting in our garage, brainstorming, this is us leveraging off of our private equity insights, our global macro insights, our credit insights, the look-through that we're seeing in our securities portfolio, through our B-Piece control. It's talking to our public affairs team about what's happening fiscally and politically across the world. It's leaning off of David Petraeus in terms of geopolitical risk. All these things are filtering into our funnel as to how we're facing the market and where we're willing and interested in leaning in to create risk return distributions that are asymmetrically skewed, in our opinion, to the upside and really minimizing the tail risk of outcomes as we invest.

Great. Well, I'm afraid we'll have to leave it there, Ralph. We're out of time. Thank you so much for joining us today.

Pleasure. Thank you all. Take care.