StepStone Group Inc. (STEP) Earnings Call Transcript & Summary

Good morning, and welcome once again to the UBS Virtual Financials Conference. For our next session with StepStone Group, we're very pleased to have Scott Hart, Co-CEO; and Mike McCabe, Head of Strategy. Before we get started, just a quick administrative note. UBS Research is required to make certain important disclosures about our business. You can find those at www.ubs.com/disclosures. And with that, thank you again, Scott and Mike for joining us today. We really appreciate your time. I look forward to getting in depth with StepStone Group.

No. Thank you, Adam. We appreciate you having us, and it's great to be here with you today.

So just to start off, for those who may still be a little bit less familiar with, number one, the step stone story, but also where StepStone and other solutions providers sit in the private assets ecosystem. Could you maybe talk a little bit about that, how the firm came to be and the customer need that this segment of firms is really addressing?

Sure. No, look, I think that's probably a great place to start. And I think the way that we like to think about it, Adam, is that we sit in between our clients, the limited partners, which are typically institutional and increasingly individual investors. We're looking to gain access to the private markets. And in between them and the fund managers or GPs who are looking to raise capital to allow them to invest directly into companies, properties or other private market assets. We're not trying to intermediate that relationship, but we are trying to facilitate, in our case, the commitment of over $50 billion into the private markets on an annual basis. And the way we do that is by reviewing, sourcing, analyzing, et cetera, over 3,200 investment opportunities that come to us in the form of primary fund investments, secondaries and co-investments from those fund managers or GPs. I mean I think to your question a little bit of how we got there, I think one of the things that we recognized when we were founded back in 2007 was that the private markets were evolving. They were growing in size, the LP community was growing more and more sophisticated. And as a result, some of the existing solutions in the market were no longer meeting the needs of those clients. And so we really came to the table, looking to build portfolios specifically designed to meet the needs of our clients. We look to do that again through a combination of primary funds, secondaries and co-investments. We did that in a, sort of, hybrid way between advisory relationships and asset manager relations, which I'm sure we'll get into. But that was really what drove -- both the [ foundry ] and the firm has really been a founding principle since that time. I think the other important question to ask is, why does that position in the ecosystem matter? Why is that an important place to sit? And I think, clearly, it's a well-known, private markets are in high demand today. But there are a number of barriers that exist for investors, whether big or small, that are trying to access the private markets. One is many of those LPs are resource constrained. They may have a small team that sits in a single office, may have limited ability to travel. This is not true of all LPs, but certainly many, yet they are being asked to cover an increasingly complex private markets landscape. It's become more global over time. We've seen a proliferation of managers, both in terms of the number of different funds, the number of strategies, the number of sub strategies. And so again, trying to cover an increasingly complex market with a relatively small team. Access is important and whether we're talking about trying to gain access or gain allocation to a highly oversubscribed in-demand fund or whether it's frankly just trying to identify which managers what one should consider. And for many, the approach is not simply to invest with a small number of the largest funds out there. To give you a sense for our business, we are consistently approving over 200 new fund investments on an annual basis. And so it is a significant community of GPs and funds that we are evaluating and covering on behalf of our clients. Those clients, they're looking for something that is customized that's specifically designed to meet their needs, their needs may be very different. If they are a new investor to the asset class that's just getting started relative to one that's been actively investing in the private markets for the last 20 and 30 years. And so they're not necessarily looking for a one-size-fits-all approach, but an approach that's designed specifically to meet their needs. And then lastly, I'd say they are trying to do it in a relatively cost-effective, fee-efficient way. And I think we offer certain strategies and certainly being able to leverage our platform allows them to do just that, again, in a more cost-effective way than perhaps trying to build those same capabilities, those same resources themselves. And so when you think about those challenges, I think clearly, the specialized expertise, the scale, the breadth of coverage that StepStone brings to the table pretty uniquely positions us to serve our clients, to get them access to the full array of private market investment opportunities to customize a solution to meet their needs and really, again, do that in a cost-effective way.

Excellent. No, that's perfect, Scott. And you've hit on a couple of points that I think would be good to follow up on. One is, you alluded to the complexity, it's not nearly as simple for an LP, particularly a smaller-sized LP or institution to just allocate, right, to private assets or even a certain asset class. There's the complexity, the huge number of funds and GPs out there as well as the specific client needs around liquidity, the J-curve, managing the cash flow. One of the things I think that sets StepStone apart is your data capabilities and the systems that you've built out around that. Could you talk a little bit about how that helps you design customized solutions for your LP?

Sure. Well, look, again, I think it goes back to some of the observations that we made at the time that we were founded. I think even back 14 years ago, we were talking about the importance of data, the fact that in the private markets, unlike the public markets, data is not available to everyone. It's available to those that are participating in these investments and as one of the most active private market participants today, we clearly have access through a tremendous amount of data. It's high-quality data and that it comes directly from the GPs. It's very detailed and then it goes down to the underlying asset level. And so we decided early on to make a heavy investment in the technology that would allow us to capture and then analyze that data. And I think it's proven to be an incredibly useful tool for us at StepStone, as you can imagine, we are the most active users of that technology and of that data. But I think we've also found over time that giving our clients the same access to the same tools that we are using is very much appreciated, helps them do their job more effectively and more efficiently and ultimately creates a stickier and stronger relationship with our clients. So I think in a lot of ways, utilizing that data to make better investment decisions, utilizing the technology to improve the efficiency of our process. But also, I think we're finding ways that, that data can help power new investment solutions. And whether it's thinking about some of the multi-asset class portfolios that we are building, whether it's thinking about. For example, the CPRIM product that we offer to high net worth investors where we're very focused on making sure we don't have a significant cash drag, but to be able to model from a strategic asset allocation standpoint. It's important to have that data, not only in private equity, but really across asset classes to help with that exercise.

Excellent. No, that's perfect. And it's interesting that and LPs may or may not realize on the inbound as they get into the private asset space, how important the data is. Is there a typical migration in terms of LPs, either -- what's their first touch point with StepStone? Is it to invest in a commingled fund? Do they start by accessing some of the database and admin services? How does that usually work?

Yes. Yes, I think one of the things we struggle with a question like that is just, it's hard to generalize because I think we've seen it happen in many different ways. I think we certainly have a number of examples where we start to work with the client on an advisory basis, over time, you develop a tremendous amount of trust and a very good relation with that client. And as new challenges pop up, they look to the StepStone partnership to try to help address that issue. And I think it goes to being a solutions provider. And so over time, perhaps they then expand the relationship into areas like co-investments because they're trying to bring down the overall fee burden across their portfolio. Perhaps they're trying to replicate the success we've had working with them on the private equity side across other asset classes and the relation may expand. It's certainly not a requirement. I think we have many clients where we work with them in a single way, but we talked about the fact that about 35% of our clients today work with us across multiple asset classes close to 40% of them of our advisory clients work with us on both an advisory and an asset management basis. And so I think that gives you a sense for how the relation develops over time. But again, I think it does come back to this question, what does it mean to be a solutions provider. And I think for us, look, again, that really starts with looking to build portfolios specifically designed to meet the needs of our clients. I think to be a successful solution provider, you need to have a number of different tools in your toolbox to be able to address a wide variety of challenges that may crop up. Again, in our case, that toolbox consists of 4 asset classes, private equity, infrastructure, real estate and private debt across those 3 -- those 4 asset classes, we really pursue 3 different key strategies, investing in funds, secondaries and co-investments, which we think just have a tremendous amount of synergy between them. When you think about the due diligence benefits, what you learn when you're in the trenches working on a direct opportunity alongside of GP. Which then can be applied to the fund investment due diligence, or determining whether you're investing alongside of a GP in their sweet spot based on all the analysis that you've done of their track record and their team, we think has tremendous benefits from a diligence standpoint. Also has tremendous benefits from a portfolio construction standpoint, when we're thinking about helping clients to mitigate the J-curve, thinking about how we can help them bring down the overall fee burden across their portfolio. And then finally, I think the last part of the toolbox that I would talk about is we're willing to work with clients in whatever way works best for them. And that kind of goes back to your question about where does the relationship start. For us, we're just as happy working on advisory, separate account or increasingly a commingled fund basis for our clients. And I think that's something that's worked incredibly well for us over time, being able to engage with them in the way that works best for them as opposed to enforcing or insisting on a specific structure based on our needs.

Perfect. You alluded in your remarks, a couple of times actually, to the co-invest idea, which is becoming more of a theme. Could you talk a little bit about how that helps, maybe, mitigate the J-curve, maybe mitigate the fee structure, the level of demand you're seeing there? And how you're able to go about sourcing those, especially from the GP sweet spots that you mentioned? I found that intriguing.

Yes. Look, it's interesting. I think as clients portfolios grow in size, I think over time, one of the things they become quite focused on is how do I continue to access the private markets, but in a relatively cost-effective way. And what you see -- and I'll use private equity as an example, and private equity has been a 2 and 20 model for the most part for a long period of time. A part of that is because the returns that have justified that fee structure. But what's really emerged are only a couple of ways that LPs can typically bring down the fee burden on their portfolio. One of them is through scale. I think certainly, if you're able to make a very large scale commitment, that may warrant a reduced management fee or even a reduced carry; and two is through co-investments, which oftentimes, we're able to pursue on a either no fee, no carry or at least a reduced fee and reduced carry basis, on behalf of those clients. Now when you think about those being 2 of the key ways that one can manage their fee burden many clients on an individual basis, either aren't large enough to execute on that, that scale benefit or don't have the team or the resources to pursue a direct co-investment strategy. And so we'll look to a group like StepStone to help execute on those opportunities and really achieve that fee advantage in that way. On the second part of your question around sourcing those opportunities. Look, clearly, when GPs think about who they want to partner with, they want to partner with some of their largest and most important limited partners. They want to partner with groups that have the capability to execute on to investments. I think we continue to hear that co-investments are the kind of thing that everyone talks about, but a smaller group can actually execute upon increasingly, as we've seen the co-invest market move from a post-signing syndicated market to a pre-signing co-underwriting market, even more important to have the capabilities and the team to move quickly there. And so those are really some of the keys when it comes to sourcing opportunities combined with having a large universe of GPs to source those opportunities from. I think, clearly, given the level of activity across the StepStone platform, the $50 billion per year that we and our clients are allocating to the private markets, we're pretty well positioned there to tap into that deal flow.

Excellent. Yes, you alluded to the benefits of scale, which I think is, especially for some who may be new to this subsector of the industry, the idea in a traditional asset manager scale ways against returns, right? As you get scaled up in a fund or what have you, it more and more resembles the index. Whereas I think one of the important features of alternative asset investing, and in particular, the solutions provider business that StepStone runs is the benefits of scale. Do you want to talk a little bit more about that? And we'll talk about one area in particular where you scaled up recently.

Yes. I actually might ask Mike to jump in on that one, if you don't mind, Mike.

Great. Thanks, Scott. Yes, I mean, we say scale matters in this industry for a very clear reason. If you just think about 2 LPs, one who has, say, $50 million to allocate and another who has $5 billion to allocate to the asset class, the investment opportunities available to each investor is going to be remarkably different. And the larger-scale investor is going to have the comparative advantage and can develop a different kind of relationship with GPs simply through purchasing power. And so the benefits of scale come in the form of allocation, preferential fees, first call for co-investments, secondary investments and even softer benefits like access to market intelligence, industry trends and just a daily dialogue with the manager. So this is why we, at StepStone have identified scale as a strategic priority for the firm. And so as our asset footprint is now nearly almost $0.5 trillion, and we allocated, as Scott mentioned, more than $50 billion a year, the benefits from StepStone's scale accrue to all of our clients. And so both large and small, and that feeds this flywheel effect that Scott often discusses. So scale has been and will continue to be a really important strategic advantage for StepStone as those benefits accrue to everyone that we work with.

One of the ways that you've scaled up recently was through an inorganic opportunity that with the recently announced Greenspring acquisition. Tell us a little bit about that, in particular, given your focus on providing customized services and solutions, how does Greenspring fill out the StepStone offering in that way?

Yes. So it's a great question. I think -- look, the first thing I would say is that we've got a history and a track record of pursuing similar types of inorganic opportunities. And I think the Greenspring acquisition fits into that mold in the sense that we have, in a number of cases throughout our history, brought on large, experienced senior teams to help to either build out or accelerate the build-out of certain capabilities within StepStone. That's clearly the case here with Greenspring in the venture and growth equity space. We have been operating in venture in growth, really, since the inception at StepStone. But I think one of the things that we have found over time is that the conversation has really changed. And I think in the early days, at StepStone the question was really probably purely around access. Do I have access to the top-tier venture managers for some of our larger clients who may be committing a significant amount of capital to each fund. The question was, can I really even invest in the venture space in an effective way. And I think one of the things that we've seen over time is that as companies have been staying private for longer as we've seen technology touching more and more parts of the private markets or just the broader economy, I think that conversation with clients has really shifted in a way. And in fact, one of the most common conversations we seem to be having today, including with our large-scale clients is how do I build a venture and growth equity portfolio at scale. And so I think clearly, what the Greenspring acquisition does for us creates what we think is a pretty clear market leader in the venture and growth solution space. We'll have one of the largest and most experienced team in that area will allow our clients to pursue that conversation that I just mentioned in a much more effective way. And I think the announcement has been received in that way. I think the strategic rationale is well understood and clearly clients on our part, recognize that this will significantly enhance our capabilities in the venture and growth space.

How is venturing growth, particularly venture, different from other types of private assets categories that you might be involved with? People think in terms a lot of, I think, buyouts and sort of established portfolio companies that are already at scale, whereas in VC, it tends to be small but very fast-growing companies. How does that affect the way you invest?

Look, I think it affects the way that we invest in a few different ways. And I think, again, it's an area that we have been active for a number of years. There are certain challenges that exist. But I think with the platform that we've built, there are ways to address those challenges. I'll maybe give you an example from the pre-Greenspring days. But one of the commingled fund offerings that we have that focuses really on the venture and growth space, I think this ties into how we think of ourselves as a solutions provider and how that can be true even in the case of a commingled fund, which in a way is not customized for each individual investor, but I think can be viewed as a solution nevertheless. And I think one of the things our team did a number of years ago was looked at what are some of the challenges associated with investing in the venture space, whether those may be the loss ratios, whether it may be the time to -- from investment until liquidity, again, at this point I made around companies staying private for longer, the access component that I mentioned. And what we really did was design a strategy that we thought helped to alleviate some of those challenges and really to capture some of the upside associated with investing in venture and growth, but to do it in a risk-mitigated way. And I think that what we've seen in our discussions with Greenspring, and we found this early on, is that we speak the same language. We've taken a very similar approach to investing in the asset class again through a combination of funds, secondaries and co-investments are in their case, a bit more of a direct strategy. And I think this is also in recognition of the fact that while there are a number of similarities, and this is true when we look at our different asset class business as well. There are a lot of similarities, but there are some key differences as well. And I think one of the things that we see in the venture space is that given the nature of some of the financing rounds being done in multiple series is that there are oftentimes may be an opportunity to step up and lead around as a direct investor, still very much doing it in partnership with our GP relationships, leveraging that relation, leveraging the data and information that we have at our fingertips, but doing that in more of a lead way, which is a bit unlike what we've done on the buyout space. And so I think that's another key difference. And frankly, one that the Greenspring team has done a particularly good job of.

Excellent. There's 2 questions that I get from investors that maybe you'd want to address. And -- about the Greenspring acquisition and which, as you say, has generally been very well received. Number one is the question, and it's not very pointed, but there's a sense that in the VC space, the big important funds are closed and that would affect the investment landscape, possibly in a limiting way. And then the other question -- well, maybe go ahead and ask that one first, and then I'll burden you with the second one.

Mike, do you want to jump in at all or I can keep going?

Why don't you continue on, I'll grab the next question, Scott.

Yes. So look, Adam, I think what I'd say there is, one, in the case of Greenspring we have the benefit, this is a group that's been around and doing this for 20 years. And so they've got a lot of fantastic relationships with GPs, very long-standing relationships. And frankly, what the combination will do will result in a multiple of the number of relationships that we both oversee and part of that is because of the nature of our business where we work with individual clients in a customized way. And that has resulted in a large breadth of relationship across both the venture and the growth space. And I think the other thing I would say is, interestingly, as we kind of look at the overlap in what we were doing, there maybe was less overlap than you would have expected in a sense that Greenspring has been more venture focused, we've probably been a bit more growth focused. We were probably both heading in the other's direction. So very, very excited about the opportunities in both venture and growth. But I think that's certainly a part of it. The other part is what I mentioned earlier, which is I think over time, it's become less of a pure access game. I think that certainly is still the perception. But I think over time, as we've seen the asset class scale as we've seen the asset class become more global as we've seen the emergence of a number of leading venture and growth platforms where there may be multiple strategies, maybe multiple stages ranging from early to late stage to growth equity I think it has -- the game has started to change a bit. And I think in our view, having not only the capabilities that our team has, but also having the scale to bring to the table and maybe create solutions for the GP side as well. When you think about the StepStone mission is really to be the trusted partner of choice in private markets globally. And that's a partner of choice for both LPs and GPs. And I think this really helps facilitate them in a lot of ways.