Pacific Current Group Limited (PAC) Earnings Call Transcript & Summary

Good day, and welcome to the Pacific Current 2021 Half Year Results Conference Call. Today's conference is being recorded. At this time, I would now like to turn the conference over to Mr. Paul Greenwood, CEO and CIO of Pacific Current. Please go ahead.

Thanks, Melinda. I would like to thank all of you for joining us on the half year earnings update for Pacific Current Group. We appreciate your time and interest and look forward to taking you through the results presentation. I'll start with some high-level thoughts and then get more granular, probably more granular than I typically do. 2020 was obviously a year dominated by the impact of the COVID pandemic on the entire world. The disruptive nature of the pandemic has had some short-term impact on PAC, but I believe our portfolio companies have navigated the year quite well. And as a result, I believe the majority of them are actually in a much better place competitively than they were a year ago. As noted at our AGM, the biggest specific challenge brought on by the pandemic has been related to capital raising. The inability to go out and meet prospects has slowed the capital raising efforts of numerous portfolio companies as well as PAC's efforts on their behalf. This challenge is heightened by the large number of boutiques that offer private capital strategies. This relates to the fact that when private capital strategies go to market to raise a new fund, the fund documents that govern the terms of the funds set out a finite period over which the fund is to be raised. This time period is typically 18 months. For obvious reasons, COVID delayed the beginning of fundraising for the next round of funds for multiple boutiques. This, combined with travel restrictions, meant that some of our portfolio companies were not in a position to grow as fast as they had planned. That said, as we began to emerge from the restrictions of the pandemic and as capital allocators have increased their level of activity, we expect essentially all our portfolio companies to be in full fundraising mode in the first half of fiscal '22. This, combined with some of the early data points that we have visibility into, give us confidence that we will see the next 12 to 18 months be one of building fundraising momentum across the portfolio. With that, I'm going to jump into the presentation. So starting on Page 3 of the presentation, we highlight some key metrics. You will note that substantial FUM growth of 24% over the last 6 months. In local currency, this number is actually 40%, so enormous growth. While GQG represents the biggest FUM growth, as you will see later in the presentation, the growth was actually widespread across the portfolio. Underlying earnings per share fell from $0.28 a share to $0.23 a share. I'll dig into the reasons for that in a minute. And then the interim dividend PAC declared was $0.10 per share, which was the same as last year. We have reiterated that we expect the full year payout ratio to be in the 60% to 80% range. And we expect, with the final dividend payment, the full year payout ratio will equal or exceed last year's payout ratio, which was about 69%. Moving on to Page 4. The reason for the decline in revenues is primarily related to performance fees in the period -- in this period versus the first half of FY '20. A year ago, performance fees were more than $7 million. In this period, they were $5 million lower. The reduction is primarily attributable to 2 managers: Carlisle and Victory Park. This period, Carlisle didn't recognize any performance fees, and I'll elaborate more on this later. Victory Park's were down but not due to performance, but rather the episodic nature of when they're received. Indeed, we expect more performance fees in the second half of the year from Victory Park than we did in the second half last year from them. Commission revenues declined by about $1 million, reflecting the runoff of GQG commissions, though there were some nice new commissions posted this period from sales related to Victory Park. The revenue highlight for the period was the strong growth in underlying management fee revenues, which make up the largest portion of our revenues. They increased by 10% but actually 16% in local currency. The increase was primarily driven by increased contributions from GQG and the annualization of results from Pennybacker and Proterra. Operating expenses continued to decline, reaching $6.9 million for the period, down 24% for the -- from the same period a year ago. Reduced travel cost and commission expenses were the main contributors. In terms of profitability, the net profit before tax fell 14% or 9% in local currency. The appreciation of the U.S. -- or I'm sorry, the Australian dollar cost us about $1 million in reported profit. Going to Page 5. I think Page 5 is actually the most important slide in this presentation, though I apologize that it -- there's a bit going on. So it may seem a little confusing to some. This slide shows how profitable PAC is based on management fee revenues alone. Obviously, management fee revenues tend to be more predictable than performance fees or commission revenues, which are episodic by nature. The stacked bars on the left side represent the management fee revenues less PAC's total underlying expenses. The bar on the bottom is the first half of the fiscal year, and the bar on the top is the second half. The bar on the right side is the total net profit before tax for the year or the period. There are several observations I want to make about this page. The first is that our profits from management fees tend to have a seasonal bias to them, whereby they are generally higher in the second half of the fiscal year as compared to the first half. This attribute is primarily a function of the structure of our investment in GQG, which pays us the most during the first quarter of each calendar year. The second observation I would make is that growth in manage -- is actually the growth in the management fee profitability. In this period, our pretax profits from management fees were $9.7 million, which is a 62% increase from the same period a year ago. This increase in profitability from management fees is being driven by lower cost of the business and higher management fee levels. Putting currency aside, it's our expectation that management fee profitability will continue to grow in the second half of the year. Moving on to Page 7, you will note some of the portfolio highlights during the period. Before touching on some specific developments, I should note how well our investment managers performed from an investment performance perspective during the year. This was particularly true of our active equity managers that, on average, exceeded their benchmarks by more than 1,000 basis points per year. That's sort of an average across all the products they manage. However, the strong performance was actually generally true across the portfolio, which, in light of the market environment, was something that we found quite encouraging. In terms of important developments at the portfolio company level, there are a few I'd like to highlight. First off, Carlisle experienced an increase in redemptions in its open-end fund as the pandemic progressed and investors sought liquidity at the same time where liquidity in the life settlement market was drying up. This occurred despite decent performance from Carlisle. The magnitude of the redemption request was such that Carlisle needed to halt the redemptions in order to protect investors in the fund. This gave Carlisle the opportunity to restructure its open-end fund. This work is largely but not entirely complete. Once completed, the restructure will have the effect of converting some of the open-end fund assets into closed-end assets. The net result is that at December 31, Carlisle managed about $2.4 billion, with about 85% of that in its open-end fund. After the completion of the restructure, we expect approximately the same firm-wide funds under management with about 40% in these contractual long-term revenues. In other words, those are revenues that are locked up 7 to 10 years. And the rest of the FUM will be committed for at least 2 years. So we're going to actually have very strong visibility into Carlisle's contributions here going forward. The reason that the FUM balance should stay relatively flat even in the -- even while restructuring the open-end fund is because of the progress Carlisle has made raising its closed-end fund vehicles. In January, they closed their second absolute return fund with a new $150 million allocation, which brought the fund's total assets to USD 290 million, which was $40 million above its target size. We expect post-restructure of the open-end fund that Carlisle will quickly deploy its most recent absolute return fund and then be back in market to raise its next fund by year-end. Moving on to GQG. They continue to experience enormous growth during the 6-month period, actually adding more than USD 20 billion to their funds under management and finishing the year at USD 67 billion. I think at last count, that number is certainly over USD 70 billion. Seizert. As previously noted, we sold our interest in Seizert back to management for USD 5 million. Given the challenging landscape in the U.S. active management industry, we thought that made the most sense for our shareholders. By doing so, we will be eligible for a $5.1 million tax rebate actually after filing our next tax return. And then Victory Park. I've received numerous questions about Victory Park and SPACs. For those not familiar with SPACs, they are special purpose acquisition companies. I think in Australia, they might be called cash boxes. But in the U.S., they're often called blank check companies. Once IPO-ed, these funds or these -- not funds, these companies have 2 years to find an acquisition target, which, if successful, is sort of a different approach to taking companies public. This area is very -- it's a very hot area in the U.S. right now. There have been more than 160 SPACs launched this calendar year to date, so roughly 4 per day. So far, Victory Park has launched 2 SPACs and has 2 more about to go public over -- in the next few days. The first SPAC has already announced business combination but has not yet reached the point of shareholder approval of that combination. I've received a lot of questions about how Victory Park SPACs impact PAC's financials. SPACs can be a little complicated, but I'll try to hit the highlights. To begin with, Victory Park sponsors these SPACs primarily from its investment vehicles and not the management company. This means that a successful SPAC will provide considerable value to Victory Park's clients by increasing the value of their accounts. Victory Park receives performance fees for all of its accounts. And thus, if its SPACs are successful, their performance fees will be enhanced, which benefits us given our participation in their performance fees. Some of these performance fees could be crystallized at calendar year-end, while other performance fees will be crystallized episodically, depending on where the sponsoring fund may be in its life cycle. Even one successful SPACs will be economically noteworthy for Victory Park and us. If they have success with multiple SPACs, so much the better. Moving on to Page 8. We did announce one new investment in the period in Astarte Capital Partners, a London-based real asset private equity firm. We're very excited about this for several reasons. First is that the firm has a distinctive business model, it's very unique actually, that offers an enormous amount of upside optionality for us. The second is it seems to be gaining business momentum quite rapidly. I'll be very excited to update shareholders on the progress of this business probably at the full year results. I expect it to be maybe a small drag on results in this period. But if it executes well, this could easily be one of our largest contributors in 3 or 4 years. Page 9 shows the growth of portfolio companies with funds under management. Only 2 of the businesses lost FUM during the last 6-month period. Those 2 were Blackcrane and Carlisle, while the other the others were stable or grew. Post 31 December actually, both Blackcrane and Carlisle have received net inflows. Page 10 provides an update on the investment pipeline. We have seen the level of opportunities accelerate fairly dramatically. And we're -- we expect that the current rate that we'll probably see more than 200 new investment opportunities this calendar year. Lastly, on Page 12, we provide some forward-looking thoughts. To begin with, I'm feeling really good about the growth prospects of our portfolio companies. Most of them have strong investment performance, which is, as everyone is aware, is generally a prerequisite for future growth. And they have new business pipelines that are growing, not shrinking. Some of our early-stage investments that have been trying to reach escape velocity seem to be trending in the right direction, which is encouraging. And lastly, we expect to make at least one more investment in this period. In terms of the financial outlook, there's a few things I'd like to say. First is we expect management fees and management fee profitability to continue to grow at least in local dollars. Commission revenues are lumpy and difficult to forecast. But as growth picks up within the portfolio, which we think is likely, that should translate into commission revenues trending upward, albeit not in a straight line. We expect stable expenses during the second half of the fiscal year. And as I noted earlier, we expect a full year dividend in that 60% to 80% range. Lastly, the -- obviously, the depreciation of the Australian dollar impacted results, and it's no secret to anyone that most of our revenues and expenses are not in Australian dollars. And so appreciation of the Australian dollar works against us. Depreciation helps our reported results. That's all I have to say about the presentation, but I'd also received a couple questions that I thought I'd sort of preemptively address since I suspect I'll be asked them anyways. And the first is, what is the status of raising outside investment capital? And what I'd say is that we continue to explore ways to access additional investment capital since our capacity to deploy that capital vastly exceeds our ability to fund investments organically. If we did obtain capital, then PAC would presumably benefit from the management fee revenues and the ability to invest alongside that pool of capital. Figuring this out is a high priority in the very near-term initiative that we will be spending a lot of time on in the near term. Another question I frequently get is why don't we buyback PAC stock, given where our stock price is? And what we'd say about that is every time we deploy capital, we compare the expected return to alternative uses of capital. And that includes considering repurchasing PAC shares. So we are certainly amenable to buying our stock back when that's the highest expected return for our capital. That said, our business is transactional by nature and -- as opposed to a lot of businesses. And so in reality, more often than not, we are engaged in sufficiently advanced discussions to buy or sell assets that would be viewed as material. And thus, we're actually prohibited from buying PAC's stock back because of -- when we're in possession of that sort of information. So this is something that's just sort of endemic to our particular situation here. So with that, I will stop. And Melinda, I'm happy to take any questions at this point in time.

[Operator Instructions] We'll take our first question from Nic Burgess, Ord Minnett.

Paul, just one quick question for me actually. Just commission revenue, can you just give us a bit more detail around what the commissions are earned on and how that behaves over time? What the mechanism is there?

Sure. Thanks for the question. So for the managers where we are engaged in sales activity, so our sales team is trying to raise capital on their behalf, that is an economic relationship that is independent of our equity investment in those businesses. And it is primarily sort of success-based revenues. And the way it typically works is if it is a long-only manager, we are generally paid over -- actually, we're generally paid over 3 years typically in a decremental way where we get more up front. And then each year, it sort of drops by half. And from a financial perspective, we recognize -- in that situation, we recognize those commission revenues as received because the -- so -- and that's somewhat different when we raise private capital strategies. We get -- we will recognize -- because it's sort of contractual, we recognize the commission amount -- the full commission amount up front, even though it comes in typically over 3 or 4 years. The actual commission schedules, I'd say, are typical sort of placement type fees as a rule of thumb. You could imagine that private capital strategies we receive about, whatever the management fee is, is sort of the -- if it's -- we'll call it a 1% management fee, and we raise $100 million, it might -- that commission might average to $1 million that would be then received over a multiyear period. And then with long-only managers, it varies. But it might be 20% of first year revenues, 15% of second, sorry, and 10% of third or -- that -- it varies because it's always negotiated. But that's a long-winded answer to your question.

We'll next go to Stuart Dodd, Renaissance Asset Management.

Question just on Slide 5 around seasonality, certainly in the last 2 years, not in fiscal '18. So the first question, why wasn't that seasonality there in fiscal '18? But then the real question is, 2/3 of your annual revenues for the management fees have come in the second half in the last 2 years. Is that the sort of skew we should be expecting?

Let's -- yes. So I'm sorry, Stuart. The first question is, actually, I don't think -- I think I was distracted because the -- I don't think the second statement is -- was accurate about the skewing of the revenues. I think the revenues aren't nearly...

Profitability, sorry, profitability.