Pinnacle Investment Management Group Limited (PNI) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the PNI Full Year FY 2023 Financial Results Teleconference. [Operator Instructions] I would now like to hand the conference over to Managing Director, Mr. Ian Macoun. Please go ahead.

Thanks, Rachel. And welcome to everyone who's joined us on the call this morning. Thanks for being with us. As you have heard, this call is to discuss our results for the 2023 financial year. And we're coming to you from our new offices at levels 25 and 26 of Australia Square. We posted with the ASX last night our formal results announcement; our annual report, including the audited financial statements for the year; our corporate governance statement; and importantly, our corporate sustainability report; and also, importantly, our investor presentation. We'll be speaking to the presentation this morning or at least some parts of it. The colleagues with me on the call are Alan Watson, our Chairman; Andrew Chambers, Executive Director, with particular responsibility for institutional distribution and international; Kyle Mcintyre, who leads our wholesale and retail distribution function; and Dan Longan, our CFO. I'll call out the main themes and highlights of our results. And also briefly provide some further context and elaborate a few aspects that we feel are particularly important for analysts and shareholders to understand. We'll leave plenty of time for questions, which are welcome to direct to any of the Pinnacle representatives on the call. As you can see on the agenda, Slide 3, there are sections where the relevant executive will be Andrew or Kyle or Dan, rather than me, and some will be best directed to Alan. Slide 2 is a disclaimer that is important and we ask you to read this actual measure. Slide 3 is an agenda. Slide 5 is a summary of our themes for the 2023 financial year. We have continued and, in fact, increased somewhat our extensive program of investing in initiatives and adding to future growth, including in most of our affiliates. We've earned some performance fees, showing one of the benefits of our diversified platform, and new business conditions have remained challenging throughout the financial year, particularly in retail. The benefits of our diversified platform continue to be demonstrated not only by earnings and performance fees despite our largest performance fee fund strategies not delivering during this particular year for various reasons, but also the holding of FUM and flows and profits to levels that would not have been possible had we been exclusively in equities. And the benefit of us being able to provide to the market offerings that they are particularly seeking when traditional asset classes are out of favor. We are pleased with the strong performance rebound across multiple of our affiliates. Slide 14 provides further detail on these. Net inflows into our private market strategies have remained resilient with a growing product set, and with us offering these strategies to more and more end markets, both in Australia and overseas. We've had growing success offshore, and this is ongoing. As I said, our Horizon 2 investment program has continued, and this is setting us up to deliver additional future growth. These investments have been both within Pinnacle and within affiliates. We note that this has had a significant negative impact on our profits in the short term. Particular market and style shifts significantly impacted our funds under management and, therefore, revenues in certain areas. We spoke a lot about this in our half year results. This has now largely been reversed, particularly in relation to Hyperion, so you don't get back in your full year results the revenue lost in the first half. And in relation to Res Cap, REIT markets generally remain stubbornly down through the year. And the domestic retail market has been challenging for nearly 2 years now. And as far as we can tell, remains challenging. We have further increased our investment in our wholesale and retail distribution capability to ensure that we are well placed to generate very strong retail inflows again as investor confidence returns. Slides 6 and 7 elaborate these themes. The benefits of our diversified platform continued to be demonstrated. A diversified base of affiliates by asset class and style and investors by channel and geography has delivered positive net inflows, solid performance fees and steady revenues in a challenging and volatile market. The ongoing Horizon 2 investment across affiliates has established further strategies and products and added capacity, which will deliver additional growth in our funds under management and in our profits over and above the $300 billion or so of capacity in our pre-existing strategies over the medium term. As I said, we've enjoyed a strong performance rebound across multiple affiliates in the second half. Performance fees disappointed in the first half with the volatility in equities markets and rapid changes in the lending rate. But performance rebounded strongly in the second half, demonstrating the value of our diversified platform of affiliates. Net inflows into private market strategies have remained resilient, with a growing product set offering these strategies to more end markets both in Australia and overseas. We achieved over $2 billion of committed and/or drawn capital for private markets affiliates in the financial year and over $900 million of that was raised from wholesale or retail investors. We've enjoyed growing success offshore and expect this to continue. We now have $10.5 billion of FUM from 43 countries outside of Australia. We've achieved more than $5 billion of net international inflows over the past 3 years. Our 2 offshore domiciled start-up affiliates are experiencing early success: Aikya, which is based in London, has reached $1.5 billion of FUM in 3 years; Langdon, based in Toronto, has passed $100 million of wholesale or retail FUM in its first 12 months and is going very well; Palisade Americas, based in New York, is up and running and acquired its first 2 American infrastructure assets in the financial year and is building momentum. Continuing on Slide 7. Our Horizon 2 investment program has continued and is setting us up to deliver additional growth, both within Pinnacle and within affiliates, bringing significant short-term profit impacts. Pinnacle and the affiliates have continued to invest. This will drive strategic growth over the medium term. The short-term profit impact in FY '23, Pinnacle share, after tax, of this investment is equivalent to an estimated $14 million of NPAT. These initiatives create additional capacity, providing medium-term growth opportunities and have historically delivered high returns on investment. Slides 30 to 35 provides further detail. Remind everyone that co-investment from affiliates in the Horizon 2 initiatives reinforces focus from our partners on growing their businesses and delivering superior growth through the cycle. Our affiliate partners have a lot of skin in the game in the Horizon 2 initiatives. Our core business remains in excellent shape, notwithstanding the challenging flow environment during the year. In fact, it's been over 18 months now that we've had this challenging environment. Market and style factors significantly impacted funds under management and, therefore, revenues in certain areas. Style shift away from high-growth stocks impacted FUM in the first half, but recovered strongly in the second half. REIT markets underperformed major equity markets throughout the year, whilst most equity markets, but not REITs, ended the year ahead, there was significant volatility throughout. The domestic retail market remains challenging. Pinnacle has further increased its investment in this capability to ensure that we're well positioned to prosper again as confidence returns. The industry-wide flow environment has been negative. The numbers are really quite large, the net outflow numbers in the industry. Whilst net inflows in retail were modest, in aggregate, Pinnacle and affiliates were able to deliver a positive net result in both halves. We have invested and continue to invest in our retail capability to ensure that we have the right people and processes to capitalize on a market recovery when it comes. Turning to Slide 8, the financial highlights. We've reported net profit after tax of $76.5 million for the year, essentially the same as for FY '22 and about 14% above the record at the time FY '21 NPAT of $67 million when we had that big lift. We doubled our profits in FY '21. Our diluted EPS was $0.39 a share, down 1% on FY '22, but still 7% above the FY '21 level of $0.365. And we've declared a fully franked final dividend of $0.204 per share, taking total dividends for the year to $0.36 per share, up $0.03 on FY '22. To the left-hand side of the slide, our aggregate affiliate funds under management at 100% at 30th of June 2023 was $91.9 billion. This was up $8.2 billion or 10% on $83.7 billion at 30th of June 2022. Aggregate retail FUM was $22.7 billion at the 30th of June 2023, up $1.6 billion or 8% on a year earlier. The ASX 300 Index was up 9.4% over the year and the MSCI World Index, up 14.4%. The NASDAQ, which is relevant to Hyperion Global, was up 25%, and the REIT Index, relevant to Res Cap, was down 11.4%. Total net inflows for the year were $1.5 billion, of which $600 million was retail, $1.1 billion flows from international investors, and we had $200 million of net outflows from Australian institutions. Section 3 of the presentation provides an institutional and international market update, and Andrew Chambers will explain the factors that work in these markets during question time and in one-on-ones. Section 4 of the presentation provides a wholesale and retail market update, and Kyle Mcintyre will elaborate during questions and one-on-ones. Slide 9 shows our record of earnings growth over the 7 years that we have been listed Pinnacle. Slide 10 shows the detail of the affiliate platform and highlights of the 2023 financial year. Slide 11 provides the specifics of the 5-year performance track records of the 33 affiliate funds or strategies. Slide 14 and 50 to 53 provides further performance detail. Slide 12 elaborates our track record of strong earnings growth through periods which incorporate a range of stages of market cycles, the good and the bad. Slide 13 shows some detail on our performance fee record and opportunities. As mentioned, we've been growing the size and diversity of our performance fee potential, and we look forward to larger performance fee FUM strategies delivering in future years. Slide 14 provides some detail on our strong performance during the second half. Slide 15 shows our 17-year FUM and net flow history. FUM has grown at a CAGR of 22%. Our institutional pipeline remains strong and our client base is increasingly diversified, including overseas as we grow and evolve recognizing changing market circumstances. And again, Slide 16 provides some detail on increasing diversification of our business. Slide 18 updates on more recent major industry awards. Slide 19 has detail on our revenue and margin performance, and Slide 20 has further detail on our financial results. The main item I would point out there is the change in NPAT excluding the return on our principal investments and offsetting interest cost. I think of that as an important measure of our core earnings that was down 13% from last year. I'll skip over the rest of Section 2 and Section 3 and 4, leaving that detail to questions and one-on-ones. I think I've referred to the key points from those sections in any event. And I'll move to Section 5, titled Growth Agenda, Slides 28 through 38. On Slide 29, we remind shareholders that we think in terms of 3 horizons of growth. Horizon 1 is the main game, it is continuing to pursue net inflows into existing strategies of existing affiliates. We remain very confident of our ability to continue to do that. We conservatively estimate the capacity of affiliate existing strategies at $300 billion. So there is plenty of Horizon 1 runway left, with the attendant strong gains in operating leverage that will be accompanied by such growth. Horizon 2 is a subject of an enormous amount of activity, both within Pinnacle itself and within all of the affiliates, just about all of the affiliates. We've stated that we estimate this is costing in the order of $40 million to Pinnacle's bottom line NPAT. This is a slow, patient process where we invest now for medium-term gain. But we've been doing this for a long time and have a very strong record of very high returns on our past Horizon 2 investments, not even including the unrealized capital gains on the value of the businesses and strategies that we have built. And we are confident that we will -- this will continue to be the case in the future. Slide 31 contains 2 graphs, which show the return profile of past Horizon 2 investments. We've mentioned specific domestic Horizon 2 initiatives in Slides 31, 32 and 33, and the international Horizon 2 initiatives in Slide 35. Slides 36 and 37 provides some detail on the Horizon 2 initiatives within Metrics. In relation to Horizon 3, which, of course, is where we use capital to buy into existing businesses, we were pleased to have completed our acquisition of 25% of a private equity and venture capital manager Five V in December '21. In terms of potential new opportunities, Slide 38 explains in summary, that we have done a lot of work on a large range of opportunities. But in the final analysis, we haven't progressed with any feed Five V. This is because we have remained disciplined and patient, and we have not been convinced that the quality and valuations of the opportunities we've considered during that time were satisfactory. It also, by the way, gives us even more enthusiasm for Horizon 2, where we can build things of the right quality and at less cost. I'm out of time, but I really want to mention Section 6, Corporate Responsibility. We're proud of the progress we've made on so many fronts. In this regard, I'll leave it to shareholders to ask questions or read Slides 39 to 44 of the presentation and the corporate sustainability report that we tabled last night and is on our website. So then just in conclusion, referring to Slides 46 and 47, I'd like to remind shareholders of the basis on which we remain so confident of our company's ability to continue to grow and prosper, which is our distinctive business model. It was designed specifically to ensure sustained investment excellence. This is embedded in our DNA, call it our core ideology or our fundamental beliefs, which are the basis on which our business was built. And which will endure and guide us for many years, hopefully, decades into the future. This is the source of our competitive advantage. The most talented and experienced investment professionals love it, and more importantly, their clients love it. It delivers stability and sustainability and longevity, which traditional investment institutions are less able to facilitate. We are experts at the multi-affiliate model. We've been successfully executing on it for 2 decades. We execute on it better than others. We understand talented investment people and their needs, the subtle forces that sustain enduring excellence. And those that are inimical to it, we ensure succession when others don't seem able or willing to. Importantly, these basic principles are applicable to a very broad range of asset classes, geographies and markets. They will sustain our growth as we evolve and adapt and as the world changes. The need for investment excellence is massive, greater than ever, and more so as investing becomes more and more difficult and as market circumstances change. I'd like to turn the meeting over to questions now. I note the Appendix has some additional information people are often interested in. So if we can please invite questions to any of the team.

[Operator Instructions] Your first question comes from Tim Lawson with Macquarie.

Maybe just on the flows and the sort of green shoots sort of pipeline comment. Can you expand maybe in terms of stages? Are they sort of early stage? Or are we sort of talking about mandates not yet funded in terms of that sort of spectrum types of institutions in the asset classes as well? It'd be great to get some color on those sort of flows comments in the pipeline?

We'll ask Andrew to address that. In terms of retail, I can -- might also make a comment. But I would make the point that markets have moved up in the last 6 months. In fact, a lot of people are surprised at the market index numbers even over the whole year. But retail investors seem to follow market movements, and we don't really see a lot of evidence of that yet. That's in retail. But institutional is a different story. We talk about our pipeline. So I'll let Andrew speak to that.

Yes. So thanks for the question, Tim. So the pipeline remains pretty strong on the institutional and the international side. It's not really a function of people being positive on any asset class in particular. I mean, for example, you're seeing a lot of movement in the fixed income market that's really shoring up previous substantial underweight to the asset class rather than going overweight. But for us, it's really about our market share gain and the belief that we can take and seed market share for most of our competitors in a local context here in Australia. That has been evident in the last 6 months, which has been a complete turnaround, obviously, in our flow numbers from the first half domestically. And obviously, the story internationally continues on with $1.1 billion raised over the 12-month period. We feel pretty good about the outlook on the international side across several affiliates. And that's really a function of consultant ratings across the board, the search activity you're seeing, so the inbound from the consultants around RFP processes and where you sit in those processes. So we have a pretty substantial pipeline, which we think we can convert over the coming years. It's very hard to determine exactly when those things fall and whether they're going to fall in your favor. But we feel good about the sentiment towards our affiliated businesses. It's important to highlight in our flow numbers as well on the international side, that $370 million of the $1.1 billion offshore was sourced from wholesale and retail investors overseas. So of the $10.5 billion now of AUM outside of Australia, it's under $1 billion of that is from wholesale and retail investors through places like Canada, the U.K., Channel Islands, Luxembourg, Switzerland. And so that's a growing feature we'll continue to talk about over the coming years. So good diversification by channels and investor types, which is also giving us a lot of confidence around that pipeline. That sufficiently answers the question, or do you to expand sort of...

No, that's great. Maybe I'll just push on that point. In terms of pipeline, how much is sort of -- what you'd sort of consider early stage versus where mandates really just get finalized and funded? Is this sort of a maturity that you'd talk to of that pipeline?

So it's always [ late ], and I could tell you that somebody might be expected to fund in the next 3 months, might actually take 12 months or 18 months. It's just the way that investment committees operate. So it's very [ late ]. It was very hard to seek with confidence around the exact timing of it. So we're very comfortable about the pipeline as it is today. And based on our past experience, we will convert a number of those. We feel pretty good about it. But until it's in the door, it's not in the door. But it's as large as it's ever been in terms of our pipeline, our forward-looking pipeline across both international and institutional divisions.

Some of it is quite advanced, Tim, but we're just hesitant. As soon as you say, we're expecting it in a particular period, it doesn't come. So we just need to be cautious.

Yes. Okay. And then just sort of implications for base fees. Obviously, we understand retail and offshore typically being better. But are there other themes within the flows outside those you obviously mentioned that could impact sort of the level of base fee?

So this is an area that moves around a fair bit, Tim. We do believe that there is a sustained trend that the sort of things that we have outflows in tend to be old domestic equities, institutional mandates. And the inflows tend to be in more global alternative private markets, et cetera, tend to be at higher fees. And that was certainly quite pronounced a year ago, so pronounced that we felt we needed to call it out. It's been less clear this time now because -- and we've always said we don't target particular fee levels. So the fee trend is just the result of whatever the inflows and the outflows had been. And so the inflows in the last period haven't particularly been at higher rates than the outflows. But over time, that will tend to be the case. But we will also, from time to time, when significant amounts that are not at particularly high fees, which is good business, and we take it. But it does mix with our average rates a bit. And of course, the lack of big retail inflows has meant that our average fees haven't gone up as strongly as they do when we're getting large retail inflows.

And just one more question for me. In terms of the spending, you called out on the Horizon 2 in terms of sort of particularly the comment around the sort of peak nature of it. Can you sort of disaggregate that in terms of any sort of one-offs in that number? Or do they just become sort of normal operating costs as sort of strategies get to, I mean, not maturity, but sort of live or commercial, whatever you want to call it?

Yes. So it's hard for us to predict because we're always looking for opportunities, and we encourage our affiliates and they're very keen themselves to pursue things that are attractive. And we don't want to put artificial restraints on that. So for example, in Metrics, they've found some extra things in the last little while and gone for them, and that probably stepped it up a little bit. We try to guide -- we feel that we're basically at peak levels because there's just so much going on, we can't be absolutely certain. There's a bit of a sense, Tim, that a lot of it is one-off in that we're spending it now and as it produces revenue then, then the net expense goes down. So that -- and there's a natural reduction in it, unless we start new Horizon 2 initiatives. And we're not sure about the extent that we'll do that. We haven't started any new affiliates in recent times. So that would indicate that it will [ slide ] down. But hey, if I find a really good team and a good asset class, we'll do another Horizon 2 affiliate. So it's hard to say. But I think I know you have to model it and what we've guided in modeling is don't expect it to keep going up as it has been, but it's hard to predict what it will do. Probably the best estimate is to predict similar levels or down a little bit.

Yes. Just to be clear, we're talking about the net expenditure there, Tim. It's the costs will largely remain, but they'll drive revenues, which drives the net expenditure down.

Yes. So if you take a different example, it's no longer in Horizon 2. They're still spending. They're spending more than they were, but it's not counted as Horizon 2 anymore, and they're now contributing to our Pinnacle parent revenues, so that's gone. So that number that we calculate, the $40 million, that's a net number of Horizon 2 initiatives.

Your question comes from Nicholas McGarrigle with Barrenjoey.

Just on the Horizon 2 costs. Can you talk through any of the particularly notable ones accounting for proportions of that loss, just so we can get a sense of where we need to see success to defray those costs?

Yes. So that's [ $40 million ] number, that's a net to us. And in broad terms, that $7 million is in Pinnacle parent and $7 million is in affiliates. That $7 million net to us is about $21 million of gross expenditure by affiliate. So 27 -- 21 and 7 is about $28 million being spent on Horizon 2. Now, Dan, do you want to just talk to the parent one, but then roughly indicate like it's across a range. I said pretty much every affiliate has Horizon 2 happening. And that's great. We're very happy with that. But the biggest -- Metrics is the biggest one. It probably accounts for about half of that $21 million perhaps. Firetrail is quite substantial because there's a large global team in there. What are the other ones?

Just to clarify quickly upfront, that $21 million number that Ian refers to, that is the net Horizon 2 expenditure in affiliates at 100%. So that's net of revenues against those initiatives. As Ian said, that $21 million net expenditure at 100%, broadly half of that is in Metrics. And we've called out some specific details in a slide that explains how much of that was in the second half of the year. So there was a weighting of those expenses towards the second half rather than the first, and you can see that from the pack. Of the Pinnacle numbers, that's a $7 million cost, about half of that is foregoing service fees. That's where we're supporting start-up affiliate and not getting cost recovery for the provision of those services. And then the remaining half is building of teams such as their offshore distribution function and the offshore infrastructure function where we're not yet receiving revenues to cover those costs. Does that give you a bit of extra color, Nick?

And the other affiliates?

Sure. So the others that are doing things, the Firetrail has a small company and a global team. Those teams are fully staffed. The revenues are yet to come through to totally cover those costs. Palisade has 2 new sub-affiliates. We've talked about these before, real assets. In NPAT, they're progressing incredibly well, but still yet to become profitable. And there's also Palisade Americas, which is in a similar position. They've deployed about $200 million of assets into North America within the last 6 months. But again, that team is yet to become profitable on a stand-alone basis, so we include that cost as Horizon 2. Plato is growing a number of new initiatives. Resolution Capital has their real assets and global listed infrastructure teams, and then Spheria has its global small cap team. So all of these things currently are fully staffed. The teams are doing all the things they need to do to run those strategies at scale. Once the fund comes in, they'll become profitable, we'll then move them out of Horizon 2. But currently, they contribute towards that cost number.

And just to clarify, the $21 million is the net cost pretax and the $7 million at the parent...

That's right.

So the 21 is a pretax number in aggregate?

Yes, pretax net of revenues. That's correct.

Yes. So if we add up -- I mean if we take $28 million at 60 bps, it means kind of $5 billion of flows to get -- to defray that to the flow environment. It's very sensitive not just to the Pinnacle parent revenues, but also to defray those Horizon 2 costs.

That would be one way of looking at it.

Yes. I mean we do expect a lot of FUM growth over time from those initiatives. If you take Aikya, I'm not going to put numbers on it, but over the next year or 2, you'll see the benefit of the Horizon 2 investment we put into that, which was pretty substantial. Overseas, we had to do lots of new fund structures and compliance costs and that sort of thing, and a team, a sizable team, but the benefits will just be very large. Same thing with Langdon.

Yes. I mean there's one particular line on that. I think it's Slide 31 where it's like a $10 million year 1 initial investment that's now sort of reaching breakeven. Is that what -- I just can't -- is it Aikya? Or is it one of the other start-ups?

Yes, that's Firetrail, Nick. So there was a significant capital cost of Firetrail in the beginning. The business has been profitable for some time, but cumulatively now is approaching breakeven. That's what that line is.

On a cumulative basis. Got it. Yes.

Yes.

And just -- I mean it's an interesting point, if you sort of strip out the principal returns in the Pinnacle parent revenues, obviously, revenues were under some pressure. Can you just talk through the way that the flows drive revenue at the parent just so -- because obviously that was a big delta.

Yes. Well, flows and affiliate revenue are important to Pinnacle parent revenue? Sure. So of the distribution fees within the Pinnacle parent revenue, the split as to which of those are driven by FUM and by revenues is about 50-50. So probably about 30% of those fees are on a retainer, and then half of the balance is split between revenues driven by fund flows, and revenues driven by revenue share. So the revenue share, obviously, is partly driven by fund flows, the higher the fund, the higher the revenue, the higher the take to Pinnacle. It can also be, to a degree, impacted by performance fees. Concerns -- affiliates, we get a share of those performance fees. That was lower this year than it was last year. And then the remaining balance, as I said, is driven by FUM.