Ares Management Corp (ARES) 2015 Q4 法說會逐字稿

Welcome to the Ares Management LP's fourth-quarter earnings conference call.

(Operator Instructions)

As a reminder this conference call is being recorded on Monday February 29, 2016. I'll now turn the call over to Carl Drake, Head of Ares Management Public Investor Relations.

Good after and thank you for joining us today for our fourth-quarter and year-end earnings conference call. I'm joined today by Michael Arougheti, our President; and Michael McFerran, our Chief Financial Officer. In addition, Tony Ressler, our CEO; Greg Margolies and Kipp Deveer, the co-heads of our newly combined credit group; and Bennett Roesenthal, co-head of our private equity group will also be available for questions.

Before we begin I want to remind that you comments made during the course of this conference call and webcast contain forward-looking statements and are subject to risks and uncertainties. Our actual results could differ materially from those expressed in such forward-looking statements for any reason including those listed in our SEC filings. We assume no obligation to update any such forward-looking statements.

Please also note that past performance is not a guarantee of future results. Moreover, please note that performance of and investment in our funds is discrete from performance of and investment in Ares Management LP.

During this conference call we will refer to certain non-GAAP financial measures. We use these as measures of operating performance not as measures of liquidity. Measures should not be considered in isolation from or as a substitute for measures prepared in accordance with Generally Accepted Accounting Principles.

These measures may not be comparable to like titled measures used by other companies. In addition please note that our management fees include ARCC Part 1 fees. Please refer to our earnings release and form 10K we that filed this morning for definitions and reconciliations of these measures to the most directly comparable GAAP measures.

I would like to remind you that nothing on this call constitutes an offer to sell or a solicitation of an offer to purchase an interest in any securities of Ares or any other person including any interest in any fund. We've also posted a new fourth-quarter and full-year earnings presentation under the investor resources section of our website at www.Aresmgt.com which can be used as a reference for today's call.

I will now turn the call over to Michael Arougheti.

Thanks, Carl. Good afternoon, everyone. So despite challenging market conditions throughout 2015, we delivered strong results in many important respects, fund raising, AUM and fee growth, deployment and investment performance. But before I discuss last year's highlights let me provide some context on the current market environment.

During 2015, the major loan and high yield indices both ended with negative returns. To put this in a historical context in the last two decades, the Credit Suisse leverage loan index has been negative only twice, and the Bammal high yield index only four times. 2015 actually marked the first year that both had been negative since 2008.

Fears of slowing global growth, currency devaluation and economic deceleration in China, the knock on effects from the energy and commodity collapse and uncertain Fed policy have all contributed to heightened volatility and significant fund outflows. The dislocation that started in Oil & Gas expanded across commodities and is now bleeding into other select sectors.

In the face of this we've remained cautious and defensibly positioned with generally low or equal weight Oil & Gas exposure in most of our funds. So while we're not immune to these market pressures we did deliver strong relative performance for our investors, outperforming the benchmark indices for loans and high yield for the year.

We believe that continued volatility in 2016 will create buying opportunities for Managers like us who are able to identify oversold assets. At current levels we continue to deepen our work on individual assets as we believe that this is a classic credit pickers market where there are growing number of securities that are priced at valuations that more than compensate us for the uncertainty and fundamental risk.

Outside of the liquid and tradable credit markets recent market volatility and risk aversion are improving investment opportunities in our other credit related strategies such as global asset backed securities, US and European direct lending and US real estate debt. While still early, we're beginning to see more interesting distress for control opportunities outside of energy in our North American and European flexible capital private equity strategy.

In our EIF power and infrastructure private equity strategy regulation, the abundant supply and the continued low cost of natural gas continue to force competing forms of power generation namely coal and nuclear into retirement. This is paving the way for construction of new efficient natural gas fired electric power plants to back fill that growing supply gap and to insure reliability of the power grid which all play into our strength and experience in these assets.

In addition, the dislocation in the Oil & Gas market is leading towards frequent attractive buying opportunities as distressed upstream companies sell off high quality, non-core assets in the midstream and downstream energy sectors. Lastly we on our real estate private equity strategies we haven't seen any material impact to market conditions yet; however, if the illiquidity in the CMBS market continues we expect to see additional opportunities to reequitize real estate owners, reposition properties as capital becomes more scarce, or to purchase distressed properties in our opportunistic funds.

Importantly, we operate flexible strategies and have the ability to take advantage of market volatility including distressed situations in every investment group at Ares. As a reminder, we grew our assets under management at a higher than average compound annual growth rate of approximately 39% during the 2007 to 2009 time frame because of this ability to perform in down markets.

2015 was a record year for Ares with gross new capital raised of more than $23 billion including $10.6 billion in the fourth quarter alone. In total, we raised capital in more than 60 different funds in a wide range of strategies across private equity, credit and Real Estate with a healthy 42% from investors outside of North America. Our investors continued to entrust us with their capital as over 75% of the direct institutional capital we raised came from existing investors within the Ares system.

In addition, investors committed to more than one funded Ares had increased from 24% in 2011 up to 41% at the end of 2015. We believe that this strongly validates our performance and the overall value proposition that we're providing to our valued investors. We're also successful at attracting a variety of new institutional investors to our platform increasing our number of investors by more than 10% during the year.

Focusing on our fourth quarter fund raising specifically, we secured $10.6 billion in gross new capital commitments with a majority of our commitments higher fee earning private equity strategies. Included in these commitments was our first dry closing for our fifth North American and European flexible capital private equity fund of $5.7 billion. Through February 29, we've raised a total of $6.8 billion, in excess of our $6.5 billion target and the predecessor fund of $4.7 billion.

During the fourth quarter, we raised approximately $500 million in our EIF power and infrastructure private equity strategy including a first closing for our fifth co-mingled fund and additional co-investments. We also raised approximately $580 million for our US and European real estate private equity strategies including $450 million for our second US opportunity fund and related co-investments. And finally, we continued to enjoy significant investor demand for our market leading direct lending platform both in the US and Europe as we raised approximately $3 billion in the fourth quarter and approximately $8.7 billion for all of 2015.

In particular, we continued to see demand for our third European direct lending co-mingled fund raising over $400 million in the fourth quarter bringing our total commitments to date to $2.8 billion with $1.9 billion equity commitments and $900 million in debt commitments. We plan to continue to raise capital and close out these co-mingled funds along with our other funds currently in the market such as our third global asset backed fund and our commercial finance fund. We also plan to focus on new SMAs in liquid and illiquid credit and Real Estate debt, and we plan to launch other co-mingled funds in certain new strategies in this market environment.

Importantly, the nature of the capital that we raised should only improve our revenues and margins since as I mentioned most of the new capital we raised in 2015 is in higher fee generating strategies. We built up over $22 billion of dry powder or about 24% of our AUM at a time when our investable Markets are becoming much more interesting. We have a considerable amount of AUM not yet earning fees that we also refer to as shadow AUM.

Our shadow AUM increased approximately 68% for the full year to a record $15.5 billion. Michael McFerran will walk you through this in detail later in the call, but we're in a great position to invest given the heightened market volatility and the improving investment opportunities that we're now seeing. We believe this leaves us well positioned for a step up in our fee related earnings although the exact timing is uncertain and will depend on the attractiveness of the investment opportunities and prevailing market conditions.

So while asset and fee growth has been challenging for many traditional and alt asset Managers, the long dated nature of our capital and our strong fund raising enabled us to continue to generate solid growth with assets under management and fee earning assets under management increasing 15% and 11% compared to 2014. This growth along with generally flat compensation costs drove the increase in our FRE of over 20% since 2014.

Now turning to our investing activities we continue to find attractive investment opportunities across our diverse global platform with relatively active deployment across all of our groups. We remain focused on leveraging the power of our broad and expanding platform to invest in high quality franchise assets where we have a sourcing or research advantage and where we can purchase at a price level that allows us to create and realize value.

Over the last 12 months, we deployed $20.5 billion in gross capital of which $9 billion was tied to our draw down funds where the recycling of capital and CLOs or some of our permanent capital vehicles is excluded. This $9 billion that we invested in 2015 was up materially from $4.3 billion in 2014 as we expanded our investments in European and US direct lending, increased our activities in various special situation strategies including our new global asset backed strategy. We added power and infrastructure private equity through EIF, and we ramped up our commercial Real Estate lending activities.

While our fund investors generally think of our performance over longer periods than a year, we believe that we generated relatively strong returns in calendar 2015. In our liquid credit strategies our loan and high yield composite gross returns were 63 basis points and minus 1.35% respectively but they outperformed their benchmarks by 101 and 326 basis points demonstrating our continued leadership in these asset classes. In direct lending, our European strategy had had another solid year with the return of 13.1% and our US strategy represented by Ares Capital Corp, generated 7.2% annual return through dividends and net asset value.

Our real estate private equity funds performed well in 2015 as well as our US real estate value add funds VII and VIII generated net returns of 14.9% and 11.1%. And within corporate private equity our composite of North American and European flexible capital funds outperformed the public equity markets by a very wide margin in 2015 with an average net asset value return of approximately 11.5% compared to the S&P 500 which generated a total return of 1.4%.

And lastly, as you may have seen during the first quarter of 2016, we announced the combination of our two powerful credit platforms into a single credit group. With total combined AUM of more than $62 billion the credit group is one of the largest credit platforms in the alternative manager space. The group has approximately 200 investment professionals engaged in origination, research, syndication and trading across the US and Europe.

We believe that by sharing information more freely, we expect the integration will enhance cross platform origination, research, due diligence and portfolio management. This combination puts us in a much better position to offer more comprehensive and global credit solutions to our investors and will able us to manage Ares' broad array of credit products in a more cohesive manner. Particularly in these volatile markets the ability to approach the market as a cohesive group with coverage of over 1000 companies across 50 sectors and 500 plus global financial sponsor relationships is a critical differentiator that we expect will enable us to continue to deliver top tier results and further expand our market share.

We also believe that this credit group is well positioned to capitalize on the financing gap being created by growing constraints on traditional bank capital particularly as the lines continue to blur between middle market and broadly syndicated credit. During 2016, we expect to launch new funds where we can dynamically allocate between liquid and illiquid strategies and to offer access to more credit products in a single over arching fund. We'll begin reporting the new credit group as an operating segment for the quarter ending March 31, 2016.

And with that I'd now like to turn the call over to Michael McFerran our CFO to give you his perspectives on our financials.

Thanks, Mike. As Mike stated we are generally pleased with our results as we meaningfully grew our various categories as assets under management, management fees, and our fee related earnings during 2015. Like others in the industry, market volatility impacts our performance related earnings with unrealized marks on our assets, but we view these market price fluctuations as an opportunity for long term value creation.

We are fortunate to be in the business of investing long dated capital where we can be very patient and opportunistic, as asset prices fluctuate. We continue to have relatively low Oil & Gas and related services exposure which represented just over 3% of our AUM at year-end.

Looking forward we are heavy into 2016 with a backlog of shadow AUM that we expect will generate a significantly higher level of run rate management fees by the end of 2016 than where we started the year. Keep in mind that we are in a period of meaningful business expansion where we are continuing to invest in new products and incremental distribution. We view these expenditures as investments in growth in areas like infrastructure and a business development, and these investments are front loaded compared to the revenue generated.

For this reason, we likely will not have a linear progression of growth in management fees and fee related earnings during the course of 2016. Instead we expect our management fees and fee related earnings growth to be more of a step function.

Now, with those comments let me turn to our financial results. For the fiscal year ended 2015, our AUM increased by about $12 billion to approximately $94 billion, a year-over-year increase of approximately 15%. Our total fee earning AUM increased to about $68 billion up 11% year-over-year.

Of our total $22.4 billion and available capital at the end of the fourth quarter we reached a record $15.5 billion in AUM, not earning fees or shadow AUM, an increase of 68% over the prior year. Of that $15.5 billion as of year-end, we consider about $13.5 billion available for deployment which includes $5.4 billion from our fifth North American and European private equity fund, $2.9 billion from direct lending separately managed accounts, $1.9 billion from our third European direct lending fund, and $0.9 billion from our fourth special situations fund.

The AUM not yet earning fees is currently weighted toward our higher average returning and higher fee generating strategies and is expected to generate significant management fees and performance fees over the longer term, once we begin the investment periods or deploy the capital for these funds. Our incentive eligible AUM increased 22.5% to a record $45.8 billion.

For the full year 2015, we generated management fees of $650.9 million including ARCC Part 1 fees which reflects 9% growth over 2014. The growth was primarily attributable to the deployment of new capital in our European direct lending funds, incremental fees from various funds that we raised and the contribution from the acquisition of EIF within our private equity group. Our growth in management fees led to year-over-year growth in fee related earnings of 20% with broad based growth coming from private equity, direct lending, and our tradable credit groups.

For the fourth quarter we generated year-over-year management fee growth of 3%, and our fee related earnings were relatively flat compared to the same period in 2014. Our fourth-quarter fee related earnings was impacted by higher G&A expenses as we continue to scale our infrastructure as well as a decrease in real estate management fees as certain funds moved past their reinvestment periods. In addition, our fourth-quarter 2014 results included certain, one-time catch up management fees.

On a comparable basis that excludes the impact of one-time management fee catch ups, our fourth-quarter 2015 management fees and fee related earnings increased by 8% and 23% year-over-year respectively. As I stated given the nature of the new capital we raised we eventually expect a meaningful step up in our fee related earnings. In particular, our fifth flexible capital private equity fund which has received commitments to date of $6.8 billion will not begin earning fees until that fund begins investing, and there is a step down in the fee rate for the predecessor fund.

The fourth quarter was a continuation of trends for the full year and our performance related earnings. While our Asian private equity portfolio regained some ground driving our overall investment income higher, our aggregate net performance fees were lower due to the reversal of unrealized performance fees in certain credit funds. Our forth quarter distributable earnings were $50.8 million compared to $64.5 million a year ago but up compared to $39.6 million for the third quarter of 2015.

Our realizations were led by tradable credit funds and wind down as well as realizations and distributions from certain real estate private equity funds. For the year, our distributable earnings were roughly flat which translated into DE per common unit of $0.91 in 2015 and $0.92 in 2014. Our expectation is that our distributable earnings will be bolstered by the expected eventual pick up in our fee related earnings and FRE margins as we benefit from deploying our shadow AUM; however, distributable earnings may continue to be lumpy due to volatile market conditions.

This morning we announced the distribution of $0.20 per common unit for the fourth quarter or approximately 85% of our distributable earnings per common unit bringing our total distribution for the year to $0.84. The distribution will be payable on March 28 to common unit holders of record as of March 14.

Now I'll turn it back to Mike for some closing thoughts.

Great, thanks, Mike. So sitting here at times I know our business may seem complex and difficult to understand particularly during volatile markets, but I remind everybody it's actually quite simple. Our core business is and always has been to deliver consistent and attractive investment returns to our fund investors.

If we can deliver compelling investment performance through business cycles, which we've done over the past 15 plus years, then we'll naturally grow our assets, as has been our experience assets follow great performance. And if we grow our assets, then we'll grow our fees and core earnings and ultimately create lasting value for our unit holders. So keep in mind that volatile markets present opportunities for us to grow our Company and create value.

Ironically at a time when our stock in the entire sector are at their lows we see more drivers of future value creation than we've ever had in the past. We're experiencing great fund raising success. Our underlying investment performance is strong, and this continues to feed our capital raising momentum.

Nearly 25% of our AUM is dry powder of which the majority will earn fees when we start investing, also at a time when the investment environment is increasingly more interesting than we've witnessed in recent years. We've improved our operating margins by double digits year-over-year, and we expect to continue to do so by year-end 2016. And we have over $140 million of net accrued performance income and a meaningful amount of our $45.8 billion of incentive eligible AUM is tied to undeployed capital and recent fund raising.

So in summary we're continuing to invest in our future to support both organic and inorganic growth, developing ancillary products, expanding geographies and developing new distribution channels. We're very excited about where we are and even more excited about where we're going. And I just want to thank everybody for their time and support, and with that we'll open it up for questions.

(Operator Instructions)

Our first question is from Mike Carrier, for Bank of America Merrill Lynch.

This is Mike Needham in for Mike Carrier. First on the reversal of ARCC part 2 fees in Q4 and the $9 billion of assets leaving incentive generating AUM, how much would performance have to improve for those assets to move back into incentive generating AUM, and if they don't how does that impact the part 2 fees for 2016?

Sure. I think there are actually two separate questions, so maybe we'll handle the second one first. Part of this is definitional, but the movement of GE related assets out of our global credit group took the form not just of leverage leaving ARCC through a transition of the SSLP away from GE to Veragon AIG, but also a reduction in leverage available in our European SSLP as well as our European loan opportunity fund.

I think it's important to understand though that of that $8.7 billion only about $700 million of it was actively generating incentive income, so I think we have to disconnect the $8.7 billion from the question of ARCC part 2. So, speaking to the first part of the question, as you look at where ARCC finished the year, and you look at our accruals going into Q4, at the end of Q3, based on performance and the significant amount of realized gains that we had witnessed at ARCC throughout the course of 2015, the expectation was that there would be a Part 2.

Obviously given the volatile markets we saw a reversal on largely the unrealized gain portion. As Kipp Deveer mentioned in the ARCC earnings call last week though the bulk of that NAV move was due to mark-to-market volatility as opposed to any kind of fundamental credit deterioration.

If you look at the formula roughly $90 million would be the number that would get us back to --somewhere between $90 million and $100 million would get us back to the part 2 hurdle. And remember that's on a $9 billion asset portfolio.

Okay, got it, thank you. And then just as a follow-up on expenses and FRE, I heard your comments that for the full year, you should expect FRE to increase I think meaningfully, and in Q4 we saw a pick up in G&A by a few million. I guess what drove that and then for the full year just on the expense base, I don't know if you could give us more details on what you have planned in terms of just core expense growth for the year? Thanks.

Sure. Put this in context. We may refer to this in our prepared remarks. As the business expands, expense is going to increase, and they're generally front loaded as we make investments in our infrastructure whether that be related to complain capabilities, middle or back office or our footprint in different geographies and our capital raising capabilities.

So if you look at the full year, we raised over $20 billion, and with that is going to come some expense growth. Where we believe the opportunity for margin expansion lies is we believe the revenue derived from the new AUM is going to out pace that expense growth albeit probably lagging behind it. As you look at for 2016, I think this is what we've wanted to headline for people is while you'll see our expenses have stepped up, and you saw that in Q4, you will see the revenue that's going to benefit from those coming during the year as revenues activated from deployment and funds coming online.

I think from a practical standpoint, I would look at for G&A specifically the fourth quarter is probably a pretty decent proxy for what we would expect in the next few quarters in 2016. And for compensation, as you'll see compensation was effectively flat year-over-year. I think that will continue to grow modestly as we grow our firm, but I think you've witnessed over the past year it was a fairly flattish number, and we don't expect it to be significantly increased in the future.

I'd just also reference a comment that Michael McFerran made on our last earnings call is that while there is a lag and a little bit of a step function, our expectation is given the fund raising momentum and the controlled expense base that we're going to be moving towards a run rate 30% FRE margin target through the course of 2016.

Okay, thanks for taking my questions.

Next question is from Ken Worthington of JPMorgan.

Hi. Good afternoon. First I wanted some more details on the combination of the credit groups. It kind of seems from your prepared remarks the combination is really about revenue opportunities here. So I guess maybe first why did you need to combine the groups to kind of get those synergies and how did the roles of the investment professionals change?

Like are they now sitting together, are doing their morning meetings and reviews together? Like does the investment side change at all? And then are there efficiencies on the cost side like what happens to servicing and sales? Are there any changes there? Thanks.

Sure. So I appreciate the question, because for those of you who have followed our Company, the businesses today run very collaboratively and cohesively. There's a lot of information sharing that already exists, so this is really the culmination of years and years of managing these two businesses in a changing global credit environment.

So in terms of the day-to-day not a lot changes for the vast majority of folks that work within the credit group. Those that are following and investing in the liquid Markets will generally continue to be focused there and those that are executing in the private credit Markets will generally continue to be focused there. But what you articulate in terms of the revenue opportunity is really the driver.

As we've talked about before what we're seeing more and more within our global LP base is people are looking to, A, consolidate their assets and their relationships with fewer strategic partners, and that's showing up in the disproportion at growth we're experiencing. It's also in the disproportion at growth that our peers are experiencing. Part and parcel to that consolidation trend is a desire to have what I would call more flexible and more dynamic strategies.

I think the large LPs are beginning to understand particularly when you have volatile Markets that the ability to move in and out of liquid Markets and illiquid Markets, European Markets and US Markets is a huge driver of investment performance and long term value. And so part of putting these groups together is to just put us in a position as one business to more efficiently and more effectively invest capital more dynamically as I just described but also to start to create, as I mentioned in our prepared remarks, products that are more integrated.

The structure of the Markets for years was very much siloed between liquid strategies and illiquid strategies, and as a result our separation of those two businesses historically was really just a function of the structure of the business. There's a couple things happening now particularly in the bank market where as I mentioned the lines are blurring between what used to be thought of as middle market and what used to be thought of as liquid. And as Ares continues to stake out a meaningful position in the credit Markets as an underwriter and distributer of product, as a meaningful buyer of product, having these two businesses operate as one I think is going to allow us to continue to preserve and grow that share that we're already experiencing given some of the de-risking that the banks are going through right now.

So for those that are here in Ares it's a little bit of what I would call a nuanced week to the day the businesses are running, but we think is going to but a lot of fruit. Not a lot of cost synergies, but there are going to be a lot of information synergies, and I do think that we can do a better job making sure that the portfolio Management functions, our access to research due diligence and information embedded in the over thousand companies we have investments in will just make us better investors across the entire platform.

So this is all about revenues. It's all about investment performance. It's really not a cost story.

Great. Just stocks trading near the lows. We've seen some of your peers start to consider moving towards a buyback in addition to a distribution. What are your thoughts? Does that kind of serve the needs of investors and Ares here?

I think each Company has to go through its own evaluation, and it's always a function as you know when you are talking about buybacks of the embedded return opportunity in buying back your stock versus the embedded opportunity of investing that capital elsewhere.

The frank answer is I think the biggest challenge that we have in our stock is the lack of public float, and there's a circular issue between the float and performance and the ability to breakthrough. So while we're looking at the stock, and you saw a lot of insider buying of the stock, it's hard for us right now given the size of the float to start reducing that float at a time as I just articulated when we think the opportunity is in front of us or about as good as we've seen.

So for the time being it's not something we're pursue but it is appropriately always going to be part of the ongoing discussion.

Great, thank you very much.

The next question is from Alex Blostein at Goldman Sachs.

Hi, good morning or good afternoon I guess. I understand that capital deployment will probably vary to your point earlier with the opportunity set, and obviously things could be lumpy, but given the fact that we're two-thirds of the way into the first quarter I was wondering if you could provide us with an update of how the deployment picture looks so far in the first quarter as we try to formulate our view for fee related earnings for this year?

Yes, I'll let Greg, Kipp or Bennett chime in here with regard to any specifics around deployment, but I would say generally when the Markets are transitioning like they have early in 2016, we as a firm tend to be much more measured about the way we go into that market environment. We articulated this on our ARCC call last week so we're incredibly enthusiastic about the opportunity that sits in front of us, but we are slower to deploy as the market starts to show signs of volatility.

So I'd say generally speaking deployment in Q1 will be slower but as the year continues to progress we would expect that we'll accelerate deployment into the volatility.

Great and then, Mike, to your point about the revenue synergies and combining some of the credit businesses, I thought the point about dynamic asset allocation between liquid and illiquid stuff was pretty interesting. Can you talk a little bit about whether it's an external demand that you're seeing with clients now that hasn't really been there before and the way these vehicles will be set up more like a separate Manager account format, and I guess the fees associated with that would be also in that kind of institutional SMA range, or I guess how should we think about the revenue opportunity from this combination?

It's actually both, and it is very much being driven by a change in investor appetite but with counseling from us. The reason being I said the structure of the market has changed just in terms of how we and others function within it, how the position that we occupy relative to the banks.

But at its core when you think about what institutional investors are looking for from us, they're looking for alternative credit exposure that's going to generate 8% to 12% rates of return for them, and they are looking to express that yield appetite by getting good risk adjusted return, good relative value to other product they're invested in and to the extent they can non-correlated risk adjusted return.

And so it depends on the investor, but a lot of folks will lock at a direct lending strategy in the US alongside a direct lending strategy in Europe, but they're missing part of that global allocation. So typically what's happening is people are coming to us with SMA requests, with large pools of capital and asking us to work with them on an allocation strategy that works for them.

Levered, unlevered, senior secured, unsecured, liquid, illiquid, US, Europe and then we put that allocation in place and run that SMA. It's less about fee savings, and it's more about capturing the best available market opportunity, but it's not just about SMA. As I said by putting these groups together we're seeing a pretty significant opportunity to create co-mingled fund product as well that we can bring to both the institutional and retail investor that captures the best of everything we do -- we do in credit.

So fees on SMAs generally to your point come in at slightly lower fee than co-mingled fund product do, but I remind everybody when they do come in they come in in meaningful size and at very high marginal profit contribution. And that's the tradeoff, but as I mentioned this consolidation trend is forcing the consolidation on the Asset Management side, so in order to be able to deliver the investment solution to the institutional investor and also even with standard entertain a conversation about a lower fee you have to have the economies of scale that we and a handful of others have.

That makes sense, and is that something we should expect to see kind of move the needle for you guys in 2016, again given the dislocation and credit and the opportunity set, or would this be more of a 2017 story?

I think it's emerging in 2016 and will accelerate into 2017. I mentioned it in our prepared remarks. If you use history as a guide and you look at 2007 through 2009 the way we think about growing our asset base through volatile Markets or even market downturns is you have to appreciate that the core in place AUM is very sticky.

It's long date. It's very flexible. So we don't see assets leaving the platform, and while we're seeing more appetite and interest in our credit product now, we haven't gotten far enough into the development of this part of the cycle to see what I would call opportunistic and tactical allocations.

Case in point in 2008, 2009 we were seeing multi-billion dollar portfolio acquisition opportunities coming to us from the market and marrying that market opportunity with investor demand and investor appetite. So our experience has been early in the cycle people are strategically allocating into our asset classes, and then as we continue to get deeper and deeper into it I would expect that we'll see a fair amount of opportunistic opportunities that come to us both on the investment side and as a direct result on the capital raising side as well.

Got it. Thanks so much for that. Maybe one more just around the M&A opportunities, and I think you touched on that almost a little bit in your last answer, but thinking through lots of kind of closed in fund vehicles in the space right now, whether it's other BDCs or maybe some of the other closed end vehicles trading well below book values, should we expect you guys to participate in any of that whether from an investment perspective from Ares or buying some of these things breaking them up and lumping them into your existing investment products.

Because it seems like there's a number of those dislocations and I wonder how meaningful of an opportunity that could be for you?

I think it could be meaningful and I think Kipp did a great job talking about that opportunity on the ARCC call. The issue if there is any issue is that we're incredibly disciplined value oriented buyers, and our hope is it's not necessarily an expectation but our hope is at least right now that some of these opportunities will clear at prices that are attractive and make sense for us.

But just to take a quick step back as we do talk about M&A to your question, what's nice about our platform is we have three businesses in credit, private equity and Real Estate each of which is run by an incredibly deep bench of business leaders who focus on organic and inorganic growth. So I would expect that in each of those businesses, and you've seen this historically, there is an opportunity to make acquisitions.

And obviously as we get to a phase of the cycle where valuations are challenged and credit Managers are dealing with outflows or energy exposure or risk retention that that should free up assets or platforms within the three investment groups. And the good news is we've got Management talent and experience in each of those groups to make those acquisitions.

That's not mutually exclusive with the opportunity to make acquisitions at the Management Company as well. And as you've seen in the past we have an appetite and willingness and ability to make acquisitions and either step out strategies or new geographies that in our opinion accelerate the growth of the Company. So again it's too early to tell, but I hope that we'll see opportunities in each of our businesses as well as at Ares Management to continue to grow in businesses that we know and understand. So stay tuned. Understood, great, thanks.

The next question is from Robert Lee of KBW.

Good afternoon, everyone.

Hi there.

Hi. Just since it seems like at least a decent amount maybe of the step up in Management fees at some point this year maybe into next year does relate to turning on I guess Fund V and PE. Can you kind of maybe update us on where you're thinking is around the timing of that where does Fund IV stand with kind of what's left for it to, how much invested capital is left in Fund IV and when we should be thinking about that switch taking place?

Yes, I think our comments are --

Go ahead, Bennett.

I was just going to say that we're -- got about $1 billion left to deploy excluding reserves in Fund IV, and at the pace we're going, we've targeted sort of starting towards the end of the Third Quarter beginning in the fourth quarter, but that's -- it's obviously dependent on the opportunities in the market plus, and that's at our current pace that would be a logical timing for turn on it of Fund V.

Okay and I'm just with Fund V I know you mentioned post year-end the commitments were up to 6.8 so you originally targeted 6.5, so are you still fund raising for Fund V, or have you pretty much got to the point where you're capping it out, and it's a matter of when you can turn it on?

We have stopped our Marketing activities. There are still other investors in the pipeline, and we would expect a final close probably some time towards -- in the beginning of the Second Quarter.

Okay, great, and I guess a question for you, Mike. Clearly 2015 was a pretty good year for capital raising, and you seem pretty bullish or optimistic about the opportunity ahead of you in 2016 and beyond. So I know it hard to be specific but just curious do you think that there's a reasonable shot of replicating the capital formation in 2016, the $20 billion that you did in 2015, or is the absence of the fifth PE fund from part of that make that more challenging? But just trying to get a sense what you think is doable in 2016.

Yes, so again, it's still early in the year, and as I mentioned we've been surprised in the past that when Markets start to dislocate we see a fair amount of interest in the platform but pretty reasonable to expect given the amount of activity that we experienced in 2015 not just in PE Fund V but in our third European direct lending strategy, some of our Real Estate funds that 2016 would probably show lower aggregate fund raising and AUM growth.

So I don't want to say that 2016 will be meaningfully deteriorated relative to 2015, but given the amount of capital and dry powder that's in the platform I think 2016 will be all about disciplined deployment of that capital, turning the fees on through that deployment, turning on fund V and then obviously exiting 2016 at what we think is going to be a really attractive run rate FRE given the fund raising queue that we're sitting on now.

So I think that by definition it's going to be lower. There's still things in the pipeline, there are things in Product Development but the absence of two or three of those flagship funds is going make it hard to replicate that momentum in 2016.

Sounds reasonable and one last question. I'm just curious the European direct lending EBIT you raised a lot of capital there and seems like you've been deploying capital there. Just curious about the nature of the capital deployment is it -- and maybe this doesn't fall in this business as much and I'm curious about if you -- the outlook for not just originations of lending but also kind of buying portfolios.

Have you seen much of that? Do you feel like that's an opportunity for you guys that's actually picking up, just trying to get a feel for it.

Sure, so just to remind everybody what we have in Europe at least on the credit side. We have a direct lending business as you just highlighted, Rob, has scaled dramatically. We started that business in late 2007 and with the closing of now our third co-mingled fund and other managed accounts alongside of it, Kipp, that's up to $9 billion plus of AUM.

Our Tradable Credit liquid strategies continue to scale there as well, and now Real Estate and our corporate private equity are well positioned for growth there. So as we think about primary and secondary market opportunities we're absolutely looking at both. Up until now, the bulk of the activity on the secondary side has been in what I'd call non-corporate.

So its been in NPLs either consumer or Real Estate related, and we have taken advantage through that opportunity through some of our special situations and liquid credit funds as well as opportunistic Real Estate funds, but we are now beginning to see the opportunity to buy corporate credit assets. Specifically a good example of that is in the Fourth Quarter we actually bought a portfolio of middle market loans from Barclays which just by way of reminder going into the credit crisis was probably the largest middle market lender in that market.

I think they had a middle market loan book of about GBP10 billion, and the portfolio purchase that we just made I think was the remaining out standings of that business at about $750 million, so the business -- for years the European banks were not really selling meaningful portions of their corporate assets. I think now the combination of asset values going up and some of the continued focus on recapitalizing their balance sheet is going to free up some of these.

So we were encouraged with that portfolio acquisition that we made in the fourth quarter and again hope that we see more. Can't guarantee that we will, but we're encouraged to see it occurring in more traditional corporate assets as opposed to the NPL space where we had been predominantly focused.

Great, that's what I had. Thanks for taking my questions.

Next question is from Chris Harris at Wells Fargo.

Thanks, guys. Just wanted to follow-up on a question earlier about the M&A environment and maybe ask a specific question related to your Real Estate group. As I'm sure you guys have been following Apollo is merging its two mortgage REITs, and your mortgage REIT is probably operating a little bit sub scale at this point and trading at a discount to book. Wondering if you guys are thinking about strategic actions specifically for ACRE, if there's anything else you might be contemplating there?

Yes so I can't comment specifically on that. Obviously ACRE is a public Company. They're reporting their earnings tomorrow, and for anybody interested I'd encourage them to listen in on the conference call to get that Management team's perspective. What I can say is our ambitions for our commercial Real Estate lending business are larger than what it currently is.

We have had success scaling our lending activities away from ACRE, but ACRE is a big part of the future opportunity for us. So without getting into specifics I would just highlight we've been frustrated both by the sub scale nature of that REIT, but we've been incredibly encouraged by the fundamental performance of those portfolios.

And again I'd encourage people to listen in on the call just to get a sense for how well they're doing in that portfolio in terms of the underlying credit quality as well as the origination capacity that they have, so I think we still have work to do generally in our commercial Real Estate lending business in ACRE and outside of ACRE. But, as I said earlier, assets typically follow good performance, and the performance in those loan books has been great, so we'll just keep working it.

Okay understood, and just the one follow-up I wanted to ask relates to your dividend and distributable earnings. It sounds like you guys think that you have a pretty decent shot at maybe growing the dividend in 2016, and I know the fee earnings ramp will certainly help with that. The other sort of unknowable of course I guess is realization activity and wanting to know if the credit Markets stay as volatile as they are and perhaps don't get much materially better from here, do you still think that you have a decent shot at growing the dividend based on the investments you have in the ground and some of the gains you've built up?

We do. Why don't we put this in two compartments. First our core contribution to our distribution, so our FRE contribution given which is let's call it as we start 2016 is in the midteens.

As we look ahead during the course of 2016 as we expect Management fees on FRE to grow, we seem to have core contribution which should take our distribution on a run rate basis to $0.20 or better by the end of 2016. So if you think about today's distribution we would like to sit here from a year from now and say that was just the core Management fee contribution of the number, absent any contribution of performance or other investment income.

Separate from that we have touched on the call we have $140 million of accrued performance income in our books and a fair amount of incentive eligible AUM that's not deployed. And usually there's clearly a time lag of investing working in the harvesting of that, but if I was just to take that $140 million, you pick the date whether you want to say over 8 quarters to 10 quarters to straight line that in, there's always been a contribution of performance to our distribution, and we expect that to continue albeit in a volatile fashion probably as we're working through the current cycle.

Got it, thank you.

The next question is from Doug Mewhirter at SunTrust.

Hi, good afternoon. I just had two questions. First, on your financial statements, on your balance sheet investments, you separate out an other category, I just wanted to know what the general nature of those investments are and what kind of general returns, not -- no exact numbers obviously. Is it a cash substitute or is it a pseudo private equity or something in between?

Sure so the $78.9 million, let's put it into three pieces. $11 million relates to the strategic reinvestment we had announced I believe it was last year or in 2014 in DMOS. A little over $40 million of that relates to a co-investment we have in a commercial Real Estate debt strategy, and then the remainder call it just over $27 million relates to the investments we have made to date in certain Cane Anderson funds which we had previously announced.

So the way to think about that any time a balance sheet investment doesn't fit into one of our core three verticals or businesses, it will fall into the other, and that's typically where we're making "strategic investments" at the Management Company so I'd highlight that $40 million. It's in partnership with an insurance provider and is really serving to help buildout our investment insurance solutions, so you'll continue to see that when we're making step out investments to grow the platform away from one of our three vertical that's typically where you'll see growth and the other.

Great and my last question on energy, it sounds like midstream downstream and project finance or Power Plants seems to be the most attractive assets right now. You aren't quite willing to go shopping for reserves yet. On the ARCC call, they were talking about especially in California the low natural gas prices however were putting pressure on the economics of Power Plants just because the absolute dollars they can make has gone down even though their cost of goods sold is going down. Has that affected your EIF project business, or is their economics somewhat insulated from that?

Yes that was so that as was discussed on the ARCC call that was a Company and market specific issue, not a commentary on the project finance or power generating market in general. Not to go into all of the detail, but obviously each of these projects is goring to have its own discrete set of economic risks and opportunities depending on what market it operates in whether it's a capacity market or not, whether they're taking merchant risk or there's a long term PPA, so each one is different.

I will say, though, that when you look at EIF, it really is a very interesting hedge against some of the volatility that is going on in the Oil & Gas market writ large, and the performance in the EIF funds has been quite good. As I mentioned if you were to look at the existing funds for example, our fourth power fund which is the predecessor fund to the fund that we're in the market with now is currently generating gross return since inception about 16.5%.

So what we like about this strategy is it's non-correlated to Oil & Gas, depending on the market you can actually see some modest benefit or some modest negative reaction to gas prices, but generally speaking, you've got contracted off takes, and you're generating very stable cash flow. So we think it is a unique infrastructure asset. It generates much higher rates of return than traditional infrastructure.

It generates slightly lower returns than corporate private equity, but it does so with typically long dated and contractual streams. To that end we were also happy that Preqin which I don't know if folks know is a large alternative asset consultant just named Ares EIF as I think the most consistent infrastructure Manager in the market So that performance that they're generating particularly against the volatile market back drop is starting to get some recognition.

Great thanks, that's all my questions.

The next question is from Michael [Hebris] at Morgan Stanley.

Hi, good afternoon. Thanks for taking the question. Just curious here as you're raising funds for your latest flagship fund here. Just in terms of how any of the terms may have changed relative to some of the earlier funds that you have just in terms of the Management fee, fee breaks, preferred return hurdles and so forth?

Yes, I'll make a general comment, and then if anybody wants to chime in here, but I think generally speaking, the fees that we're earning both in terms of percentages and structure are very consistent with our prior funds. And as I mentioned you may see some fee negotiation going on in the large managed account business. A lot of that is really just a function of fund structure, but in our core co-mingled fund business really no meaningful changes.

The market has moved to modest first close and size discounts, but that's something in the market for years now so I wouldn't actually say that that's anything new.

And then it seems like you're scaling this latest fund very nicely. Just is there anything we can expect here in terms of the carry comp pool to change relative to some of the earlier and smaller funds?

No -- go ahead, Bennett.

I was just going to say it's very consist went how we've done at the past in terms of percentages to the Management Company.

I think it's important for people to appreciate though that the scaling of that fund is a recognition of the tremendous track record that our PE team has generated both in terms of dollars but also consistency of return. But I'd remind folks that what makes our private equity business unique is that within those core private equity funds we have the ability to do regular way buyout and growth investing as well as distress for control.

So when you look at the scaling of that fund, yes, we've put resources in Europe and that's increasing the global opportunity for us, but I think it's really a commentary on performance and distress for control market opportunity starting to develop into 2016 and 2017.

Thanks. If I could just ask a follow-up here on the buyout side since you're raising a large buyout fund just how you're thinking about the availability and access to financing. At his point some of the industries suggest that it's all dried up and you' see more muted unit issuance levels generally. Just curious given your credit skew and the other part to your business what some of your thoughts are here and how you're thinking about accessing financing on the buyout side and to what extent would you consider, or do you already provide financing through the credit side to the buyouts that you do on the PE side?

Mike, you want me to take that?

Yes. Why don't you take that, and then I can talk about the private markets.

Yes, so for access to capital I'd just clear up the first point or your last point which is we don't provide capital to our own buyout. So that's both on a internal conflict policies as well as regulatorily with our BDC, so we've not done that in the past, and we don't expect to do that in the future.

In terms of availability of financing, for great companies, we've found that capital is available, might be at a slightly lower level certainly than it was in the past year, but frankly we have never historically been users of maximum leverage on portfolio companies. So for our buyout business it really doesn't affect us that much.

And as Mike said we have the flexibility, and frankly more of their activity today is focused on looking at the distressed market for distressed for control opportunities. So again, this creates an opportunity for us given we use lower leverage and given we have the flexibility to provide rescue capital or do distress for control buyouts, we love these market environments, and it gives us what we see as a big pool of opportunities.

So, Michael, just to put a finer point on that from the platform perspective, that financing constraint is exactly what's creating the opportunity in our credit business. So as the banks retrench, our ability to come in with scaled full balance sheet solutions either on a bought and held basis or a distributed basis is a big driver of the opportunity.

So when I reference the challenges that the banks are having, it's not just on the traditional commercial banking side in terms of risk appetite or availability of capital. It's also on the syndicated loan and high yield side and the ability for scaled managers like us to come in and provide certainty of close at a price at a time when financing is scarce as a big driver of the value proposition to our clients but also to our investors.

So how do you balance between the two, between the scarce financing that's available from the banks versus the vehicles that you have in place that are trying to provide financing, but on the buyout side it seems like that's a little bit more challenging these days, and how do you thread the needle on the buyout side of the equation? I get that maybe it's there for higher quality companies and maybe a little bit less available than in the past, but how do you think about balancing the two and also the use of more equity?

I think as Bennett highlighted just to rephrase when you go into a distress for control environment the availability of Financing becomes less of an issue. It's actually one of the catalysts for the opportunity, so when you're going in and taking ownership of the Company through a balance sheet restructuring and then trying to invest in the growth of that Company going forward, the financing constraint in the syndicated loan market and the high yield market don't come into play.

So, notwithstanding Bennett's comments, and you can see this in our historical portfolio notwithstanding the comments that we do not max out leverage in our core buyout business as we transition into fund V and what we think is a great vintage for distress for control, that doesn't become a balancing act for us because we're just not needing access to the financing Markets.

So I think it's less of an issue for us than some of the more regular way buyout shops, but it is the key driver of the opportunity in credit for us.

Got it so sounds like you pivot more towards the distress for control type strategies in this environment?

For sure.

Great thank you.

This concludes our question and answer session. I'd like to turn the conference back over to Mr Arougheti for closing remarks.

Great, I think that's all we had. We really appreciate all the great questions and robust discussion, and we look forward to speaking with everybody next quarter. Have a great day.

Ladies and gentlemen, this concludes our conference call for today. If you missed any part of today's call an archived replay of this conference call will be made available through March 29, 2016 by dialing 877-344-7529 and to international callers by dialing 1-412-317-0088. For all replays please reference conference number 10078855.

An archived replay will also be available on a Webcast link located on the homepage of the investor resources section of our website. Thank you. You may now disconnect.