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

Good afternoon. My name is Patrick Davitt. I'm the U.S. asset manager analyst here at Autonomous. It's my pleasure to welcome KKR's Co-CEO, Joe Bae. Thanks for coming, Joe.

Thanks, Patrick.

As a quick reminder, if you want to ask any questions, you can submit them through Pigeonhole, and I'll get them on my pad here and try to work them in.

So maybe to start, since we have most of the large alternative manager CEOs here, I'm starting these discussions with some higher-level macro questions so we can compare and contrast. I sense there's increasing concern that sticky inflation, higher for longer, slower economic growth could be particularly bad for levered risk assets. So do you agree with that view? And through that lens, what is your outlook for inflation rates and the economy?

Sure. I mean, I feel like we've all been talking about sticky inflation and higher rates for longer for the last 24 months now, so not a new topic. I guess our fundamental house view in terms of rates is Fed is clearly done raising rates, we think. We don't expect any rate cuts in the back half of this year by the Fed and probably 4 rate cuts into 2025 with kind of a long-term 10-year treasury rate of about 4%. And that's pretty normal. If you look back the last 20 years in the U.S., that's not abnormally high or low, quite frankly. That's a pretty reasonable rate. I think what's important to know is we are a pretty diversified business not just in terms of asset classes but in terms of geographies. So when we're talking about these macro factors, we have businesses like our $177 billion insurance business in Global Atlantic, our Private Credit business that actually do reasonably well and enjoy higher rates in terms of their ability to make an absolute return. And in our Private Equity businesses, our infrastructure businesses, we're able to factor in these macro risks that we see going forward and how we price deals, right? So if financing costs are going to be higher or more constrained, we price that in. The key is really around the stuff you've done in the last 3 to 5 years, right? And that's more a question, I think, of refinancing and capital structures, making sure you're always on your front foot managing risk, managing those capital structures in a proactive way. I would say our firm, 2/3 of our offices are outside the United States so while the U.S. is our biggest market, we spend a lot of our time outside of the U.S. as we think about where to invest, where to allocate capital, which asset classes to lean into. And I know we'll talk about Asia a little bit later, but I just came back 2 weeks ago from a 10-day trip to China and to Tokyo. I would tell you what's happening in Japan is pretty exciting right now. And we've talked about this in the past, coming out of 2.5 decades of deflation, where you have now positive wage growth, you have small positive interest rates, you have a relatively low inflation, but you have this incredible country that has saved so much money in the last 30 years of deflation, right, $10 trillion in deposits in the banking system, $3 trillion in the annuity market in Japan, the biggest savings market potentially in the world in terms of those types of assets. That will slowly start rotating into risk assets over time as the economy is coming out of this deflationary period. It's an incredible backdrop actually for potential investing and growth and the asset classes that we participate in. We talk about China. I think China, we expect to have a pretty muted recovery. There are some enormous structural things that are holding back the economy beyond the geopolitical tension that's in the headlines every day. You've got a real estate overhang in the country. Real estate and construction represents 20% to 25% of their GDP. So when their real estate market is sick or slow, it's going to have real implications for growth in China. You don't have a lot of leverage at the central government or at the household level in China, but you have a significant amount of debt, whether it's nonbank debt or shadow debt at the local government level. So they've got a balance sheet issue to clean up at that part of their economy. That's going to constrain growth, and that's where a lot of the economic activity takes place. But we think the big debate still in China is whether they pivot back to domestic consumption versus export-light growth, right? I think that's the big question mark that a lot of foreign investors have and a lot of private entrepreneurs in China have is where is the government kind of try to stimulate at this point in the cycle? But China is probably going to be 4% to 5% type-ish growth for the next 3, 4 years as they start work through all these issues.

So as we think about what you're seeing real time in your portfolios, and we probably have the same discussion at this time last year, it feels like stress keeps getting pushed out. But are there any signs of significant slowing in any of the asset classes or particular exposures or stress emerging more broadly that you're seeing?

Yes. Listen, when the capital markets were frozen over the last couple of years, I would say in our traditional flagship private equity business, the risk was really around refinancing extended capital structures, like the markets need to be functioning for you to derisk capital structures. I think the positive signal and the reason why we are optimistic at this moment in time is in the first quarter of this year, you have really seen the capital markets start to open up for the first time in a couple of years, right? So leverage loan issuances in the first quarter were approximately $150 billion. That's a higher quarterly number than we've seen in the last 2 years in any quarter, right? IPO window, equity markets are reasonably healthy, at least in the United States. So you've seen IPO issuances up 170% versus a year ago. You've seen follow-on offerings and secondary offerings up 130% versus a year ago. So the capital markets are healing. They're open, capital is starting to flow back into the system, which is the foundational condition you need for the deal market to start picking up again, for M&A activity to start picking up again, for refinancing activity to pick up again. And that's really where we are, I think, coming out of the first quarter is that early signals that the market activity levels, the pipelines are really starting to build in a way that would lead you to believe '24 is going to be much more active than '23. And certainly, hopefully, '25 will be a strong year as well. But to your question about portfolio specifically, if you go back a couple of years, the bite inflation had in 2022 was real. That's when we first started seeing inflation spiking. So we had, across our 200-plus portfolio companies around the world in private equity, we saw low double-digit top line growth, 11% to 12% revenue growth in 2022 across all those companies on average. But we saw EBITDA growth of probably 6% to 7%, right? So there was clearly margin pressure because of inflation in 2022. In 2023, we started to see that inflation pressure starting to ease off. And we actually saw a reversal of those trends. So global growth started to slow in '23. So we saw top line growing at 8% to 9% versus 11% to 12%, but we saw EBITDA grow across our portfolio in 2023 at around 15%. So companies who are able to adjust cost structures, they were able to fix supply chain constraints. They were able to take price more aggressively where they needed to, and they were able to protect and grow EBITDA in 2023. And that's, again, across a large diverse portfolio of companies we have globally in private equity. So our portfolio is in great shape. The capital structures are in great shape. Like everyone, we have a handful of issues. They're much more idiosyncratic in the company, but kind of the big picture is our portfolio is in very good shape right now.

You mentioned your Asia exposure, and I think that feeds into what seems like relatively more optimism than we're hearing from some others. And your positioning in that region was a common theme throughout your recent Investor Day. I think you were the architect of KKR's strategy there. You mentioned you were recently in Japan. I think you met with the Prime Minister. So this is obviously a big part of that theme, right, Japan. So can you talk us through the opportunities emerging in Asia broadly, Japan more specifically. And are there any businesses you think will be particularly strong growers? Or is it really just every asset class?

Sure, yes. Asia, there's a lot to unpack, but the big picture for us is we've been in Asia now for a little over 18 years as a firm. We have, by far, the largest alternatives investment platform in the region today, the dominant private equity business in the region, the largest infrastructure investment franchise in the region, and a pretty strong rapidly growing private credit and real estate business in Asia. Our footprint is across 8 local offices in the region. I think we have 2 expats on the ground out of 570 employees in Asia today so it's a very localized business for us across these 8 offices. And we manage close to $70 billion today in region in Asia. The opportunity set is very different across the region. I'll talk about Japan in a second, but when you take a big step back, the reason we're so bullish on Asia long term, we are very long-term investors. The GDP growth in that part of the world is clearly going to be better long term than most other parts of the world. You've got 1.1 billion millennials. You've got massive tech penetration in terms of mobility and tech adoption across a lot of these economies. Coming back from China, I would say the Chinese on average are more tech-savvy than U.S. citizens in terms of their use of e-commerce and home delivery and all these other things. So like the backdrop for growth is, especially in the consumer and services sectors, which is really where we're spending a lot of our time is really extraordinary even in China today, but India, Southeast Asia. Korea, Japan are very different economies, obviously much more mature, huge conglomerate structures, trade at a massive discount to fair value because of these conglomerate structures so some of the cheapest markets in the world. In Japan today, we have around $20 billion of capital invested in the ground right now, so twice as much as any other country in Asia. We shared at our Investor Day that in our private equity business, since 2010, had been the best performing market for KKR globally in terms of buyouts, around 40% return since 2010 in Japan. It's a combination of low valuations, noncore businesses that are being acquired that are suboptimally managed, so massive operational improvement potential, probably the lowest financing cost we see anywhere for transactions in the Japanese context, and a market that's not very heavily competed, right? It's really hard to establish yourself in Japan reputationally, relationships with banks, relationships with these companies to be a trusted partner for them. So that cocktail of things leads to really extraordinary private equity opportunities. And we're at a moment in time again where Japan is coming out of this deflation, there's more of a risk appetite. Corporate CEOs are seeing their stocks go up by selling noncore assets. There's more shareholder activism in the marketplace. So Japan is going to be a hugely important market for us going forward, and it's busy today. One of our strategic acquisitions a couple of years ago is called KJRM. It's one of the largest public REIT complexes in Japan. We bought it from Mitsubishi and UBS. It's around $15 billion of AUM today. And as a lot of these corporates in Japan think about improving ROE, the easiest thing for them to do is sell noncore real estate, right? So we now have a permanent capital vehicle at scale in Japan where we can be a solutions provider, we could talk about buying noncore assets, noncore subsidiaries, noncore real estate. It just makes us that much more relevant in the Japanese context. In private equity holistically in the region is, or all the alt space, is massively underpenetrated. As a percent of GDP, alts in Asia is 9% penetrated. In the U.S., it's 26% penetrated. And in Europe, it's 16% penetrated. So just a ton of running room for the alts to grow. And like anything in our industry, the sources of capital -- you're competing with a lot of different sources. In Asia, the primary source of capital is traditional commercial banks. Almost all the lending activity in Japan is done by 3 of the big mega banks, right? They don't have a high-yield market in Japan. They don't have a private credit market in Japan. That's the opportunity for firms like ours to go there and help develop those asset classes and those elements of the capital markets.

Makes sense. Another big emphasis at Investor Day was your broader business model of asset management plus insurance plus strategic holdings on the balance sheet, which is obviously the newest piece, I guess, some people call core plus private equity. Could you maybe explain what exactly that is for those that aren't as familiar and the impact it could have on the business going forward?

Sure. So when you take a big step back, this is what Scott and I debate all the time and we talk about as a partnership all the time, is, how do we put together a business model that's not dependent on doubling our third-party AUM and asset management to $1 trillion to $2 trillion to $4 trillion to grow the firm? We're obviously going to grow our third-party asset management business. We think we'll get to $1 trillion reasonably soon. But we need multiple engines, multiple levers to create value for our shareholders. So the 3 big engines today are our third-party asset management business, $580 billion across all these things we talked about. It's 100% ownership now with Global Atlantic, our insurance subsidiary, $177 billion of AUM. And then the third piece, we introduced a new segment of our business in November of 2023 called Strategic Holdings. Now while this is a new segment from an accounting standpoint, we've been incubating this strategy for nearly a decade now. And the best way to describe this, and I talked about this at Investor Day, as you know, Scott and I, when we joined KKR back in 1996 together, Berkshire Hathaway had a market cap of $41 billion. Today, it's over $900 billion. So that's 28 years of compounding at a little north of 12%, right? So the magic in Berkshire Hathaway, I think, for us is a couple of lessons. It's obviously the power of compounding. It's the power of long-duration holds of great businesses and your ability to create a portfolio of world-class companies, right? If you get that right, you can compound and create a massive amount of shareholder value over a long period of time. That is what Strategic Holdings is for KKR today. We've been buying businesses with our balance sheet capital and side by side with a couple of large partners of ours that we expect to hold for 10, 15, 20, maybe forever, years. These are large businesses that we control. They're defensive in nature, really unique market positions and businesses that we think can continue to grow and compound in a mid-teens kind of rate of equity return. We now have 19 companies in this portfolio. And the guidance we gave is like these were all buyouts when we started. So some of these older buyouts that we did are at a point in time where now we have a lot of visibility in terms of the recurring dividend stream that we can get out of these companies as they continue to grow, right? So what we told the Street is this year, the dividends are going to be relatively modest. 2026, it's going to be $300-plus million of dividends coming to KKR for our proportionate ownership of these companies. By '28, that will be $600 million of dividends. By 2030, we feel very good about $1 billion-plus of annual dividend flow. So this will be a meaningful part of our operational cash flow at KKR. It's probably the most visible, the fastest-growing and the most stable piece of our cash flow long term. And if we could replicate even a portion of what Berkshire has created with their model, we're a different business, a different model, but it's going to be a super important part of how shareholders should think about value creation at KKR long term.

Makes sense. It's a good segue to capital more broadly, which is always a key focus for investors and KKR, given things like Strategic Holdings, given the larger balance sheet. And I sensed the CFO's comments highlighting $25 billion of excess capital generation over the next 5 years is something many investors I talk to were most excited about coming out of Investor Day. So how do you see the priorities for the deployment of that $25 billion evolving over the years?

Sure. I mean, listen, KKR, the partners and employees at KKR own 30% of the stock, so this is something we are also very excited about and focused on in terms of allocation of capital. So our CFO, Rob Lewin shared at the Investor Day that we think we'll generate $25 billion of free cash flow in the next 5 years relative to close to $15 billion in the last 5 years at KKR. So how we allocate that capital is going to be hugely impactful on shareholder value creation over time and our own value creation over time. And we think there are really 4 categories of things that we're going to use that cash for. The first is going to be to support the continued growth of Global Atlantic and our insurance business, right? So when we bought GA in 2020, it had roughly $70 billion of AUM. Four years later, $177 billion of AUM. So the synergies between our origination investment business and the insurance subsidiary are very, very powerful in scaling that. But that's a business that's capital consumptive. We're going to need to continue to invest in that. The second area is strategic M&A. So when you think about this Japanese REIT complex, for instance, that I described, KJRM, that's a strategic acquisition. It's permanent capital. It's accelerating our expansion of real estate in the region. It's synergistic with our private equity teams and unlocking deal flow in Japan. So that's a great example of what we consider to be strategic M&A at our firm. The third area is really this core PE, Strategic Holdings. We have 19 companies in that portfolio. We're going to continue to add businesses, great businesses around the world as we find them, and that will be a big destination of capital. And the fourth is obviously share buybacks at the right time at the right price.

You mentioned strategic M&A, but KKR is already among the most well-balanced managers in the alts space. So where do you see the most white space for [indiscernible] transactions?

Yes. I would start by saying we feel great about what we have today, the pieces, the 3 pillars of our strategy. I don't think we need to do anything more in terms of strategic M&A. We're not sitting here saying we're missing a piece of the puzzle right now. But if there was an opportunity to scale an international insurance platform similar to what GA is for us domestically, that could be very interesting and strategic for us. If there are some very niche areas like life sciences and biotech, that we could go buy a small platform or a boutique, we can certainly think about that. We've built and invested behind a number of origination channels for our credit business, asset-backed finance, et cetera. If there are acquisitions that we can make in terms of origination capabilities for some of our products, that's something we potentially would use capital for. But there's no big bang acquisition or strategic hole that we think we have in our business model, not today.

Makes sense. And with that said, you didn't really change your earnings targets that much. So should we assume the deployment of this $25 billion is already accounted for in those targets?

Yes, you're right. So for those of you who weren't at Investor Day, our near-term targets for FRE is $4.50-plus per share by 2026, total operating earnings of $7-plus, and adjusted net income of $7 to $8 per share. So those are the near-term targets we laid out for the Street. You're right, those include our ability to reinvest capital, I would say, everything other than strategic M&A. We have not factored in any strategic M&A incoming to those earnings levels.

Thanks. So let's move to retail. Obviously, another thing that had a heavy emphasis at your Investor Day, but still it's fairly small relative to other players, obviously seeing a pretty big ramp in growth so far this year. So let's start with the announcement you made last week. You made a fairly splashy announcement that you're partnering with Capital Group to build retail products with both liquid traditional sleeves and illiquid private credit sleeves, which should allow you to better address the mass affluent market. Just firstly, maybe help us understand, as much as you can, obviously it's not all public, how the economics of this could work going forward, and then why you think this is the best path forward versus doing things yourself.

Sure. I think it's important to both frame and understand this Capital Group announcement relative to everything else we're doing in private wealth. So just to level set, we manage $580 billion of AUM today across our asset management business. $70 billion of that AUM today already comes from the individual channel, okay? So we have been working with very sophisticated family offices, ultra-high net worth individuals for a long period of time. That group of investors traditionally comes directly into our fund products. So they are sophisticated enough that they are investing directly into our U.S. private equity fund, our global infrastructure fund, our credit funds as part of their alts allocation, right. So they've been with us for a decade-plus, and that channel continues to grow. We've launched, in the past couple of years, specific products that we have created for the next tier of investors, right? So these are qualified purchasers, the QP market, and accredited investors. So QP is $5 million of investable assets or above, accredited investors is $1 million or above in households. So that's the K-Series. We have private equity, we have infrastructure, we have real estate and credit. And we've been launching those products across platforms around the world in the last 2 years. We're on 70 platforms globally today. And we've raised around $9 billion through those K-Series products. Of the $70 billion, $9 billion is that. That number was $2.4 billion a year ago, so a tremendous amount of momentum. We feel great about the launch of these K-Series products. And again, we are targeting $1 million-plus wealth households at this point, right? So that's around 5% of the U.S. household base, call it, 6 million to 7 million homes or kind of in that category. The Capital Group announcement is really an opportunity for us to go even further down to the mass affluent in this country, below the accredited investor, below that $1 million threshold. So Capital Group is obviously one of the best mutual fund companies in the world, $2.6 trillion of AUM, 6 out of the 10 largest mutual funds in the country are their products. There's 290,000 financial advisers in the country today. 220,000 of those 290,000 work with Capital Group and sell their products. [indiscernible] They've got incredible brand presence in that channel. And what we announced was a partnership, my partner, Scott said a marriage, with Capital Group but small M marriage, not the big M marriage to co-brand, co-create product to market to the mass affluent universe. So distinct from our K-Series, distinct from big family offices that invest in our funds directly. We think long term, this is going to be a massive, massive opportunity. We're starting this partnership in the credit space because we think that's the easiest product for mass affluent to understand. So they already have a number of mutual funds that are in the fixed income space that are super successful in the marketplace. We're creating 2 hybrid funds with them to launch in 2025, which will be a combination of what they do a great job of, is public credit, liquid credit already, and we will manage a large private credit suite. So they'll be responsible for public credit, we'll be responsible for private credit, all the stuff that we are originating anyway through direct lending, asset-based finance. And on a combined basis, that's going to be like a core plus fixed income product. Should have a higher return than what they are doing by themselves because they get the benefit of the alpha in private credit. We're going to start with private credit, and then the vision is to create products like that across all of our major asset classes, private equity, real estate, infrastructure, et cetera. Well, but we're at the early stages still.

That's right. So more broadly, where do you think you are in terms of building out the U.S. and international distribution base for all these products and where you see most demand broadly?

Yes. So again in the K-Series, we're on 70-plus platforms today. We've got a lot of room to grow in that channel. We haven't really been gotten to markets like Japan in terms of distribution of that retail product. So there's a lot of upside. And I know you had John Bray on here earlier. The scale of what they've done in just real estate, right, is pretty amazing. But you think about the opportunity for private equity, for infrastructure, for credit for us, in real estate, we think this is a decades-long opportunity for us. The way we talk about it at a high level is historically around 15% of the capital we've raised has come from the individual channel, these super high net worth families and family offices. We're layering on the K-Series. We're going to be layering on Capital Group. We think over time, 30% to 50% of our total fundraising will be coming from the individual channel, right? So we're -- it's not that institutional's shrinking. Institutional is absolutely growing in terms of allocations and dollars into the alts. We're just tapping into a completely new segment of savers and investors that we historically have not had access to.

Makes sense. And one of the more interesting comments at least to me from Investor Day was that you're seeing institutional demand for the K-Series, which I don't think I've heard from any of the other large alternative managers. Can you expand on that a bit more? What kind of clients are interested in the K-Series? And could this be a big -- could this actually be a big incremental pool of AUM or is it just going to cannibalize existing wrappers?

I don't think it's going to cannibalize but it's worth explaining what we meant. If you are a small endowment, if you're a small pension fund or even a small family office that doesn't have a big staff, does not have a team that could go diligence and allocate to the alts in a sophisticated way, or if you're one of those institutions that really requires more of a liquidity option than being locked up for 10 to 12 years in a fund, those smaller institutions are taking a look at the K-Series and saying it's a way to get exposure to the alts without a huge infrastructure and team on their side and get the benefit of higher return in the alts. And I think that's the target universe that could consider going to the K-Series, but it's not going to be the majority of the capital. It's really geared towards retail investors.

Got it. All right. So let's move to fundraising. It feels challenged in some regards but still quite strong in others. You introduced a $300 billion fundraising target for the next 2 years at Investor Day. So what are you hearing from LPs as you look to raise some of your larger funds, in particular the flagship infrastructure and traditional private equity funds?

Yes. So just to be clear, we said $300-plus billion of new capital raised between now and 2026.