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

Okay. Thank you very much. All right. Good morning, everyone. My name is Bill Katz. I cover the asset managers and retail brokers for Credit Suisse. Thank you all for coming out today. And on behalf of Credit Suisse, I'd like to welcome the management team of KKR. With us today is Rob Lewin, who is the CFO; and I believe Craig Larson from the IR team is here as well. So welcome both of you. At the end of 2022, AUM, we're seeing about $500 billion of assets, just north of that. Fee-paying AUM, were about $400 billion. Perpetual capital is now approaching $200 billion, and you're sitting on north of $100 billion of dry powder. And for many of you, Rob has been the CFO, and prior to that, ran a bunch of things, including helping develop the very differentiated Asia footprint. So welcome, Rob and Craig, and the audience, thank you guys so much for coming in this morning.

Maybe to kick off a little bit, and there will be a microphone going around, so if anyone would like to ask a question a little bit later on, please feel free to get your hand up. Still hard to see, but I'll make sure I'll try and accommodate that. You've laid out -- you and your management team have laid out sort of 6 core drivers to growth here as we look out over the next several years. Maybe we can sort of go through them a little bit one by one. Maybe the more timely one might be -- the most timely one might be, so what you're doing in real assets, which includes infrastructure and real estate. Can you give us a sense of how you think about that growth path from here?

Yes. And first, Bill, thank you for having us this morning. Good morning, everyone. So thanks for teeing it up. And we've talked about 6 key growth areas for us that we think we can achieve really outsized growth over the next number of years. The commonality really across all 6 of them, we've got real momentum in each of them today and a lot of conviction as a management team that we're going to be really successful here. And so the first one you mentioned, Bill, is around real assets. That is principally, for us today, our infrastructure and real estate business. We also manage a relatively small permanent capital vehicle on the energy side of our business. We have just a ton of momentum here. If you look back 3 years ago, so not that long ago, we had about $30 billion of assets under management and real assets. Today, that number is $120 billion. So 4x growth in a 3-year period of time. And we really do feel like, in a lot of ways, we're just getting started. The addressable markets here are huge, and our market share is still relatively small. So there's a lot more for us to do to be able to leverage the global teams that we've put in place really to take advantage of a number of different opportunities we're seeing across the real estate and infrastructure spectrums that we're confident we've got teams in place that can go take advantage of that.

Great. Great. Just the second one I was thinking about was APAC. I know you've -- you were very instrumental in sort of building that platform up a number of years ago. If my numbers are right, you have about $65 billion of assets. You've been very early there. And you've been diversifying the footprint, if you will. I mean I think this may have been a little stale, but I think you've spoke -- you and management have spoken about the possibility of the APAC footprint being as large as the then rest of the business. Now obviously, things have changed a little bit since that statement, if you will. But as you look ahead, what's the road map to success there? And maybe if you could help us just understand the diversification argument, both geographically and sort of the product opportunity.

Yes, sure. And so we started our Asia business in 2005. Bill, as you noted, I moved out there around that time and spent 5 years on the ground. We were principally building our private equity franchise during those early years and really spent much of our first decade-plus there focused on building now what has become a best-in-class franchise on private equity. Today, we manage a $15 billion pool of capital there in PE. But what you've seen over the last few years is really leveraging our, I think, best-in-class country teams, and we've got 9 offices today across all of Asia Pacific, and the brand that we've built up in that part of the term and marrying that up with our global capabilities across infrastructure, real estate, credit and now growth equity. And what that's translated to, 3 years ago, we had about $20 billion of AUM. Today, that number is right around $60 billion. So 3x growth in AUM in a 3-year period of time. And part of the reason why we're so excited about that part of the world -- and, Bill, you mentioned it, we've said a number of times, our expectation is that our Asia business one day could be bigger than our U.S. business. And part of that is secularly, we expect, over the next 10 years, for more than half of global GDP growth to come from that part of the world. That's point one. Point two, alternatives in Asia are still well underpenetrated versus the rest of the world. So if you look at alternatives as a percentage of GDP, it's about 25% of what it is in the U.S. And so we see lots of secular growth opportunities for the industry. And then given our market position in that part of the world right now, our brand, our more than 400 people on the ground, we feel like we're really well situated to be able to take more than our fair share of that addressable market as it matures over the next several years. That's why we're so excited about what we can create in that part of the world. And as I look forward over the next 5 years, to me, it continues to be building out our private equity business as well as adjacencies next to private equity and then, again, really marrying up those global capabilities in areas like infrastructure, real estate credit, growth equity, impact. We see lots of opportunity to really grow in those asset classes in that part of the world.

Yes. This came up a little bit last night, one of the themes that we talked a little bit about was just the -- and maybe you said it, and I was just sort of thinking about the questions here a little bit. In terms of your relatively diversified within the footprint, I wonder if you could just walk us through a little bit around sort of the Mainland China opportunity versus maybe some of the other regions. And just given some of the geopolitical cross wins out there, how should we think about any kind of exposure?

Yes. First thing is we are well diversified across Asia Pac. It's obviously a very large place. If you look at our AUM as a firm, we are roughly $500 billion of AUM, a little bit more than 1%, just a bit above 1% is exposed to China. And most of what we've done in China to date is really focused around domestic consumption. If you look through Asia Pac, and you look where our assets are most heavily concentrated, it's more in the developed buyout markets. So places like Japan, Korea and Australia, that's about 60% of our assets in that part of the world. Then the other 40% of our assets in Asia Pac are more around the emerging parts, whether that's in parts of Southeast Asia, India, China, where we've got large presences across each of those markets. And so, listen, geopolitical risks in that part of the world are real. I don't think they're just concentrated to that part of the world. They're, of course, more global in nature. But I think there's also some pluses to that. As you think about the institutional investor who feels like they need to allocate capital to that part of the world, given where global GDP growth is going, I think we are viewed very much as the leader in that area, a real safe pair of hands. And so that should inure, I think, to our advantage relative to that incremental dollar of capital going to an upstart competitor in the region. I think the more established players with brands and track records and significant resources on the ground are going to be better positioned to take that share of capital. So I think there's pluses and minuses to the geopolitical risks on the ground there...

Got you. Okay. Let's see, any hands up? So just keep going down the list. The other one is sort of intriguing. I think you've been spending a little more time with that, with The Street at your teach-in earlier in the year, which was a tremendous presentation, by the way. So thank you for that. You've been mentioning core PE as maybe even underappreciated asset and an unappreciated strategic opportunity. Can you maybe just sort of, for everyone, just help us understand where that sits, how it sort of flows through? And then you and I were talking a little bit last night about how to think about like the late earnings power that sits within that opportunity.

Sure. So for those a little bit less familiar with KKR, core private equity is an asset class that I think about as a private equity, but tends to be a little bit lower on the risk spectrum, more modest volatility, potential volatility of earnings, typically a little bit lower leverage than traditional private equity and importantly, investments that we intend to hold for 10- to 15-plus years. 6 years ago -- 6, 7 years ago, we weren't in the asset class some of our competitors were. And the reason why we entered the core private equity asset class was really 2 reasons. The first was the addressable market there is just really significant in size; and then secondarily and most important, we also really believed that we have the business model, we've got the industry expertise, the geographic depth. We've got real capabilities in building businesses over a long period of time, such that we had confidence that we could be the best in the world at this asset class. And that's a star to play out in the numbers. We manage about $18 billion of third-party capital. I think that's the largest in our space. And what -- and we also have a balance sheet portfolio that is exposed to these same investments, that today, is about $5.4 billion in size. And so it can impact our P&L in any number of ways. From the third-party capital we manage, we can generate management fees, we could generate carried interest. We also believe that these businesses that we're going to hold for 10- to 15-plus years will be very active issuers in the debt and equity capital markets, so should be synergistic with our Capital Markets business and drive transaction revenue. And over time, as they mature, should drive realized balance sheet earnings as well. And then, Bill, you referenced this point about latent earnings power of the firm, and we had put some measures of that in our teach-in document in early January. That's on our website, and so maybe I just can spend a minute on that right now, because I think it's an important part of the KKR story. Distributable earnings is really the core profitability measure that the alternative asset management industry has migrated around as a core profitability measure on a non-GAAP basis. I think on a non-GAAP basis, that is the best profitability measure, undoubtedly. But I do think the one thing it does is that it understates earnings potential for a growing alternative asset management firm, and that's because the investments that you're realizing today that are generating monetization-related revenue today come from deals that were probably done 5, 6, 7 years ago when funds were smaller, deal sizes were smaller, you just had less capital on the ground. And I think for KKR, in particular, probably understates it even more versus our competitors for 2 reasons: one, we just have a higher percentage of our AUM as carry-eligible; and two, really, it's our balance sheet strategy. And principally, our core private equity strategy, which by design, is generating a very negligible amount of DE today from the investments that sit on our balance sheet. And so we put together what I think is both simplistic but very supportable set of assumptions to look at what latent earnings power is inside of KKR today. So we used actuals as it relates to our fee-related earnings and insurance earnings. Then we just look at our capital on the ground today, put some return assumptions on those numbers, which is in line or below history for those asset classes. And it would suggest that resident inside of KKR today is around $6 of earnings power. And that compares to the $3.90 per share of TDE we generated in 2022. And so that's without growing KKR dollar from here, that's without deploying another dollar of capital. We think that is what is resident inside the firm today in terms of earnings power, in part -- certainly not wholly, but in part, that is what gives us confidence in being able to achieve our longer-term profitability targets, which include generating north of $7 per share of TDE in 2026.

Okay. Another driver that's been coming up certainly at this conference and in our conversation with investors over the last several months intensifying is the opportunity in global wealth. You've been building that platform up, I think there's about $66 billion of assets there at the end of the year, but only about $6 billion or so "democratized" products. It's been about 15% of your flows, and I think you've stated attention, the management team has stayed attention, gaining somewhere at 30%, 50% over time.

Yes.

As you think about the road map from here to there, can you maybe walk us through how you start to increasingly scale the assets and the share of overall flow?

Sure. Well, I think let's start with the market. And the individual investor today has somewhere around 1% allocation of their wealth to alternatives. If the individual investor's allocation to alternative migrates up to the mid-single digits, that could be the equivalent of $10 trillion of additional addressable market. And so the opportunity set is very significant. Now if you look at our sophisticated institutional investors, their allocation to alternatives could be 30% to 50%. And we definitely don't think that's appropriate for the individual investor. But we do believe that with the right product creation, with the right managers, that their allocation to alternatives should go up. And so the addressable market here is one that is really significant. And we are, as a firm, investing for the long term to make sure we're really becoming a partner of choice for the private wealth community to be able to invest their dollars of liquidity. And so no timetable as it relates, Bill, on getting to 30% to 50% of our capital base coming from the individual investor, other than to say, over the next couple of quarters, our expectation is that we're going to have products across our core 4 investing verticals. So it's private equity, infrastructure, credit and real estate focused on, as you call, the democratized vehicles. Like a lot of what we do at KKR, the expectation shouldn't be that we're going to have a multitude of different vehicles. We want to have a small number of vehicles that we can create, that deliver best-in-class returns and an excellent client experience for a client base that will be new to alternatives and new to KKR. And so this is very much a long-term opportunity for us. We think that we have what it takes to be successful in the channel. Certainly, brand is important. Track record, we've got a 45-plus year of track record. Relationships with distribution, how does it -- scale of the firm is incredibly important because it is a big upfront investment to be able to be successful in this space. And so those are all things that we're focused on. Product creation is another one, innovation on the product side. We think we've got the right ingredients and the right level of investment, such that we will be a winner in the space over the coming years and for sure, over the long term. But the interesting thing here, too, Bill, is from an industry perspective, in fighting for the -- or competing for the marginal dollar of capital in the institutional business, we compete against 50 to 100-plus firms. There's not that many firms out there that have the brand, the length of track record, frankly, the scale to invest in the kind of resources that it takes to be successful in the channel. And so while there's a lot of competition from a small number of firms, our expectation is that there's not going to be competition from 50 to 100 firms over time here. So our ambition is not to come in #6 in the space over time, that's not how we've set our business up or what our expectations are. But I do think that the level of competition here is just one that's naturally going to be more narrow than what you would see across the institutional allocation of alternatives dollars.

Right. So what -- there's been a lot of mixed dynamics in the last few months and quarters, if you will. Interest rates are a bit higher. It's easy for a retail investor to just get equivalent type of yield to many of the sort of legacy products there in the market right now without taking on the illiquidity premium, if you will. Market volatility, there's been liquidity limitations in force, broadly speaking, across products, whether it be non-trade REITs, non-traded BDCs. What are you hearing from your distribution team in terms of the financial adviser behavior? Is he or she head down, just continuing to migrate that 1% up? Are they taking a little bit of a pause? Are they shifting the winners or the product demand? I know a lot in there, I apologize.

No, all good questions and all part of the equation and the variables that go into how we're approaching the marketplace. I think we continue to see flows from the individual investors into alternatives. Obviously, the pace slowed down in the second half of 2022. I think that happens during periods of volatility. I think that was -- I think it was also an interesting education moment, particularly for us, where it's still a very small part of our business today. So you mentioned, we've got $6 billion in democratized vehicles today at a $500 billion of AUM. So it's really upside for us from here. And so I think it allowed us to take a step back and make sure that the products that we were creating were tailored for the right way for this environment. But these products are going to, by their nature, be more semi-liquid. And that's why I don't think that the individual investors should have 30% allocation to alts. But I do think there is a pocket that can continue to migrate up over time with these semi-liquid products have sold in the right way with the right education, which we're very focused on as a firm. That should be an important part of many individual investors' portfolios over time. In terms of expectations on returns, we continue to feel, as a firm across everything we do, that we are set up in a way to continue to beat our benchmarks in a way that's consistent with how we've beaten them in the past. While the risk-free rate has gone up effectively, then so is our benchmarks and our confidence in beating those higher benchmarks remains there across everything we do.

Just one more. I'm sorry, to belabor this discussion.

Yes.

As you think about product evolution, right, I think the standard fare has been 2% monthly withdrawals on some funds, 5% quarterly withdrawals for many of the funds. Some of those have to -- sort of have to put up with those limitations. Whether it be the distributors, the gatekeepers, whether it be any sort of early-stage conversation with the regulators that might be looking at the holistic ecosystem, if you will, not suggesting there's anything wrong, but just in terms of any kind of incremental scrutiny, how do you sort of see the product evolution? And is it as leverageable if you were to have more -- a little bit of a leading question, a little bit more liquidity capability for the client at the end of the day, if that's the right answer?

Yes, I think it's too early to say whether or not that's the right answer. As said, I think some of these historical products were created in a way that is very consistent with what we think the individual investor wants. Do I think that it allows us a moment where we might be able to think about how we tweak product creation? I do. But I think there's different flavors of it that ultimately will appeal to the private wealth community. If it's been done in a way that is tailored probably to them, then it's done with institutional quality. And I think that's -- if you go back and look at history, you would have seen a lot of these products created pre-financial crisis, that sold well into the private wealth community. I think the issue there was that it didn't have the same institutional quality, they had very high fee loads. So ultimately, it didn't generate returns. But I think if you look at what's being created in our industry today, it is really of institutional quality. And so I've got conviction, I can speak certainly for what we're creating at KKR. Our belief is we're going to be able to deliver the returns that offset not having as much liquidity as you would have in potentially other products that generate less returns. And is there a place in somebody's portfolio for a product that's got less liquidity with higher return potential? I think there is. We certainly believe that as a firm and that you're going to continue to see a migration of market share in alts over time to those asset classes.