Blackstone Inc (BX) 2008 Q3 法說會逐字稿

Thank you, ladies and gentlemen, and welcome to the Third Quarter 2008 Blackstone Group Earnings Conference Call.

Our speakers today are Steve A.

Schwarzman, Chairman and Chief Executive Officer; Tony James, President and Chief Operating Officer; Laurence Tosi, Chief Financial Officer; and Joan Solotar, Senior Managing Director, Public Markets.

And now, I'd like to hand the call over to Joan Solotar, Senior Managing Director, Public Markets.

Thank you, Katina.

And good morning and welcome to our Third Quarter 2008 Conference Call.

Earlier this morning, we issued a press release announcing the quarterly results which is available on our website, and we will be releasing our 10-Q within the week.

So, on today's call, Steve Schwarzman will talk about what we're seeing in global markets.

Laurence Tosi will comment on the third quarter 2008 financial results and our liquidity position.

And Tony James will talk about the business segments.

Before we review the quarter and take your questions, I'd like to remind you that today's call may include forward-looking statements, which are based on current expectations and assumptions and are, by their nature, inherently uncertain and outside of the Firm's control.

Actual results may differ materially from these forward-looking statements due to many factors, including those described in the "Risk Factors" section of our 10-K report, which you can access on the SEC's website.

All of our statements are qualified by those and other disclosures in our reports filed with the SEC.

We do not undertake any duty to update forward-looking statements.

And for reconciliations of the non-GAAP financial measures to which we will refer during the call, to the most directly comparable measures calculated and presented in accordance with GAAP, you should refer to the press release that we issued this morning which, as I mentioned, is available in the Investor Relations section of our website at blackstone.com.

This audiocast is copyrighted material of The Blackstone Group and may not be duplicated, reproduced, or rebroadcast without consent.

So, as you've probably seen, we reported negative ENI per unit for the third quarter of $0.44 per unit, compared with positive ENI of $0.15 in the second quarter and $0.21 a year ago.

So, as you know, changes in carrying value and our investments get reflected on the income statement as changes in carried interest in the funds that we manage, as well as investment income, which reflects changes to Blackstone's own invested capital.

So, as in the last quarter, when we talked about it then, within Private Equity, we lowered the carrying value of a fund that didn't have accrued carried interest to reverse.

So, that decline will not be reflected in the carried interest line.

Where you will see the change in value is in the investment income line on the income statement and also as a reduction in unrealized value and some of the statistics that we give you in the back of the release.

But, I just wanted to be clear on that.

Adjusted cash flow from operations, or ACFFO, in the third quarter was negative $9 million, or about $0.10 per unit, and that compares with second quarter cash flow of $161.5 million, or $0.15 per unit, and third quarter 2007 cash flow of $0.29 per unit.

Our management and advisory fees are sufficient to cover all of our operating expenses and still generate a steady pretax profit, though marks on the Firm's investments in its liquid funds are included in our adjusted cash flow measurements.

So, this brings us to the distribution, which is declared to be $0.30 this quarter.

And as you know, in 2008 and 2009, the public will receive a preferential allocation of adjusted cash flow in the form of distributions, ahead of insiders, who currently own 75% of the Company.

Though in normalized periods, our management fees alone, less expenses, generate enough cash to distribute $1.20 per public unit during the priority period.

This year, markdowns on our liquid investments, which we treat as realized, have dragged cash flow below that level.

We have changed our composition of our liquid investments, such that there should be less movement around returns on those funds, and adjusted cash flows should more clearly reflect the model of generating management and advisory fees in excess of expenses, and enable us to generate at least enough cash flow to meet the public's distribution priority of $1.20 per public unit in 2009.

We're opting to continue paying out $0.30 per unit this quarter, which is above our adjusted cash flow, based on the view that these are unusual conditions.

The disclosure in the press release is meant to remind you really three things.

One, that Blackstone is a partnership and generally pays out distributions of cash flow as earned, not dividends, to its partners, and that public common unit holders are our partners and not shareholders.

Two, that prior to 2010, the public unit holders receive distributions ahead of insiders up to $1.20, and insiders have not received distributions this year.

And three, that each year stands on its own for purposes of determining distributions.

So, we typically expect management fees, less expenses, to generate more than enough adjusted cash flow from operations to pay the public priority.

For the fourth quarter, we will weigh the actual adjusted cash flow for the year versus the near-term outlook for 2009 at that time to determine how much we distribute.

As always, feel free to call me with any follow-up questions.

And I'd now like to turn the call over to Steve to talk about the environment.

Good morning.

What the world capital markets experienced the third quarter and the months since the third quarter ended, as you know, it's remarkable in both scope and depth.

The face of financial services has changed with many storied financial institutions globally either gone, under new ownership or rechartered to commercial banks.

Like all of you, we're living in this unsettled environment, and the questions we ask are, how and when is this going to settle out?

How does it affect industries we operate in?

And how is this going to affect us at Blackstone?

What's taking place today, as you know, it's a whole series of rolling credit crises starting with the subprime crisis which then, because the monoline guarantors and insurers had problems, will get to the municipal bond area and throughout the banking system, causing a whole variety of problems regarding extension of credit.

Now, as this rolling credit crunch hit each of the areas, it locked it up to the point where we ended up with a system that was more or less frozen in terms of extension of credit in almost every asset class, regardless of the health of the borrower.

Unfortunately, Lehman was a casualty that then materially worsened the situation.

As bleak as the reality was, I believe that the actions taken to date by the Fed, the Congress and other governments around the world will define the bottom of the credit crisis.

World governments have deployed their financial weapons, so that the global financial system now is secure with liquidity slowly returning as borrowing spreads have narrowed materially.

And all of these financial institutions are getting enormous pressure from governments to lend the money that the governments are putting into these institutions which, ultimately, will stop the contraction of credit.

These efforts, particularly on the lending side, will take time, but governments working together to bring back stability and confidence, I believe will be effective.

For example, LIBOR has declined from 4.8% in October to 2.5% currently.

While the spread to Fed funds rates remain wider than is typical, it's been trending lower from a mid-October high when the interbank lending model virtually shut down.

The same could be said of credit spreads for many large financial services corporations.

I think it is relatively clear at this point that we are headed towards a good-sized recession.

No one can accurately predict how deep or how long the recession will be, but we can see indicators from our portfolio companies that this is happening, particularly in the US and Europe.

In Asia, on the other hand, economic conditions are not nearly as bad and should remain in a growth position with China, for example, probably being in the 6% to 8% growth rate in 2009 and India in the 4% to 6% growth in 2009.

In many ways, the capital markets crisis accelerated and deepened the global economic slowdown by leading to a shutdown of lending, even to healthy companies.

Two weeks ago, we met with all of our portfolio company CEOs from around the world.

Our CEOs have been implementing plans for recession typically for greater than a year.

We have now determined that it is imperative for them to plan for recession that will be deeper than originally contemplated.

Consumers have capitulated on spending, resulting in significant and relevant decreases materializing in September and October.

As I was saying, our portfolio management team, which works with our portfolio company CEOs, is very busy.

The global equity market is down sharply this year.

That's 40% globally.

You should expect that some of our assets will temporarily decline in value on a mark-to-market basis as well.

We have made good investments and created strong financial structures for these investments.

This last point on financial structures is key.

Real Estate, for example, it can be everything.

We only have, for example, 4% of our real estate debt due prior to 2011.

In the meantime, we are still generating excess cash flow of those assets and not being forced to sell into a down market.

In Private Equity, we've taken a similar approach to building very sound capital structures for our portfolio companies.

And we've taken the same approach to our own financial structure here at Blackstone, BX.

And Laurence Tosi, our Chief Financial Officer, will take you through our liquidity position in a moment.

Fundamentally, we feel good, and you should feel assured about the state of our portfolios in both Private Equity and Real Estate.

Our capital structure is strong, and our portfolio fundamentals are favorable overall.

And Tony will talk more about that.

We will not be forced to sell an inopportune times because the capital in our funds is locked up for the life of the fund, and funds typically have 10-year lives in our Private Equity business, as well as the Real Estate business.

And we also have the ability to extend that with limited partner approvals.

Given depressed values in equity markets globally, you should not expect much in the way of realization.

While these conditions could change, one should not plan on large realizations occurring.

There's also a positive side of asset pricing declines when you have capital to invest.

We are convinced that we are going into a really remarkable period to buy assets at low prices in almost all of the asset classes that we invest in throughout the Firm.

For example, in Private Equity, a study done by Cambridge Associates, one of the leading consultants for Private Equity, of all transactions done by all firms from 1986 to the present on a year-by-year basis, shows that in the first and second year of recession, the returns for Private Equity deals historically have been approximately 30%, and that's for average firms.

And historically, we have done dramatically better than the average firms listed.

Those returns for the first and second years of a recession have averaged about double what the returns are and what look to be more a healthy time period.

And so, this is actually, from a historical perspective, a very interesting time to be investing capital.

And I believe that Blackstone itself will make some of its best investments these next two years.

In the hedge fund business, industry-wide redemptions are reaching record levels, and those funds needed to raise cash to meet redemptions has further exacerbated the pressure on stocks, particularly in the last month or two.

Most of our hedge funds are experiencing redemptions well below industry average.

And both GSO and BAM, our hedge-funded funds which are by far our largest pockets of hedge fund assets, will have net inflows for the year.

Institutional investors generally have seen their assets under management decline as part of this 40% global decrease in equities.

And in the near term, this may limit positive asset flows overall in the investment industry.

However, in each of our major investment businesses, we continue to outperform most of our peers, and we believe the track record will preserve our favorable competitive standing.

Outside of the investment business, our Advisory businesses, our expertise is being sought after with frequency.

Companies are increasingly seeking our advice in the midst of the stress and the stress itself is increasing quite rapidly.

Our restructuring and reorganization groups, as well as our corporate advisory and M&A businesses, are extraordinarily business (inaudible).

And compared to many people, they're likely to have record years this year.

Thank you very much.

And I'd like to turn this over to Laurence Tosi, who we call, and you'll learn to call, LT.

Thank you, Steve.

Good morning, and thank you for joining the call.

I will begin by walking through some of the highlights from our third quarter financial results.

I will also comment on the Firm's cash flow, balance sheet, and liquidity.

For the quarter ended September 30, 2008, economics net income, or ENI, after taxes, was a negative $502.5 million, or $0.44 per unit, as compared to an ENI after-tax gain of $165 million, or $0.15 per unit in the second quarter.

It also compares to the ENI after taxes of $234 million, or $0.21 per unit, from a year ago.

During the period, Blackstone had record management and fee income in the third quarter of $462.3 million, up 35% year-over-year.

The record results were driven by a combination of 28% growth year-over-year in fee-earning assets under management to just under $100 billion at $99.7 billion across Blackstone's businesses, and very strong financial advisory segment revenues of a record $160.7 million, up 91% year-over-year.

These revenue increases were offset by unrealized losses due to lower carrying values across corporate private equity and real estate, as well as a decline in the value of the Firm's excess cash invested in its own liquid funds.

Our adjusted cash flow from operations for the third quarter 2008 was a negative $9 million, or basically break-even, down from this year's second quarter cash flow of $161.5 million, or $0.15 per unit, and compared with $311 million, or $0.29 per unit, a year ago.

The adjusted cash flow from operations year-to-date is a positive $148 million.

Now, turning to our businesses on a segment basis, I'll begin with Corporate Private Equity.

Corporate Private Equity had negative third quarter revenues of $68.3 million as compared with revenues of $92.4 million for the second quarter and $227 million for the same period last year.

The principle cause for the change was a reduction in the carrying value of our private equity portfolio investments by approximately 8% compared to net appreciation of 5% in the comparable period last year.

The valuation changes were primarily driven by adjustments to future forecasted earnings to reflect the current market outlook, in addition to movements in foreign exchange and a market impact on the value of our public holdings.

Corporate Private Equity had total management fees of $83.8 million for the third quarter, offset by operating expenses of $58.1 million.

Total management fees were down from $94.2 million in the third quarter of '07, principally due to lower transaction fees reflecting lower deal activity levels.

Weighted average fee-earning assets under management in Private Equity rose to $25.26 billion from $24.62 billion from the third quarter of 2007.

Limited partner capital deployed totaled $1.5 billion for the third quarter of 2008, bringing the year-to-date total for the nine months to $2.3 billion.

On to Real Estate.

Real Estate reported negative revenues of $273.7 million due to an approximately 10% net decrease in the carrying value of our Real Estate Funds portfolio holdings in the quarter, as compared with net appreciation of 3% in the same quarter last year.

This reduction is reflected in both performance fees and investment income which includes unrealized losses on Blackstone capital invested in our Real Estate Funds.

We reported negative revenues of $14 million for the second quarter of 2008 in Real Estate and positive revenues of $109 million for the third quarter 2007.

Total management fees in Real Estate were up sequentially by 15% to $86 million in the third quarter and 13% year-over-year against expenses of $35.9 million.

Real Estate had another closing of its European-focused fund, bringing that fund to a total of nearly $4.5 billion which is included in the current quarter AUM.

Weighted average fee-earning assets under management for the quarter increased 33%, or $5.7 billion, to $22.79 billion from the prior year period.

Turning to Marketable Alternative Asset Management, which we refer to as MAAM.

MAAM had negative revenues of $48 million in the quarter, driven by negative returns in the Firm's investment of some of its excess capital in liquid MAAM funds.

The Firm books its investment gains or losses on its excess capital invested in liquid funds in the investment income line of the MAAM segment.

For the third quarter, the Firm had investment losses in the MAAM funds of $167.4 million, on approximately $1.29 billon invested in these liquid funds derived primarily from the IPO proceeds.

In MAAM, base management fees increased by $43.3 million to $131.3 million, or 49%, in the third quarter as compared to the third quarter of 2007.

That was offset by expenses of $86.3 million.

Base management fees totaled $127.4 million for the second quarter.

Weighted average fee-earning assets under management for the quarter totaled $55.07 billion compared with $34.83 billion for the prior year period, a 58% increase.

Limited partner capital deployed totaled $657 million for the quarter ended September 30, up from $97 million for the same period for 2007, primarily from activities in certain of Blackstone's newly launched debt funds.

Turning to the last segment, Financial Advisory.

Our Financial Advisory segment achieved record revenues of $160.7 million in this quarter, representing an increase of 120% compared to the $72.9 million in the second quarter of this year, and up 91% from the $84.3 million in the same period of 2007.

The Financial Advisory business once again benefited from Blackstone's balance between mergers and acquisitions, restructuring and the fund placement businesses.

While we expect the revenues for this segment to vary, sometimes substantially, on a quarter-to-quarter basis, the year-to-date revenues of $304.8 million are up 10% over the prior year period, which is in sharp contrast to the 30% or greater decline in comparable Advisory businesses across the industry over the same period.

Now, I'll turn to Firm-wide management fees.

In the third quarter, we had total management and advisory fees and interest income of $469.2 million, and operating expenses of $317.4 million, generating what we refer to as net fee-related earnings from operations of a positive $151.8 million for the quarter and $309.8 million for the year-to-date.

Blackstone views net fee-related earnings as a key measure of profitability and stability, and has included additional disclosures in the press release attached to our 8-K on exhibit five to break out the components of that measure.

Net fee-related earnings reflect cash.

As such, they can differ slightly from the ENI presentation in exhibit four of the attachment.

Finally, net fee-related earnings from operation also highlights the operating cash flow of the Firm by breaking out the impact of liquid investment gains or losses on cash flow, which are treated as realized for cash flow purposes, as Joan mentioned.

Expenses.

Our taxes for the quarter were again a net benefit, roughly break-even, reflecting lower earnings, but also interest in other deductions at the corporate level.

That said, we still generally guide investors to think about out tax rate in the range of 10% to 25% based on revenue mix over the long-term, though it could be lower or higher in any one quarter.

Last year, our tax rate was 15%.

As we have said before, over time, we expect our compensation ratio to fall in the 40% to 50% range annually.

For the third quarter, it was 49%, and for the first nine months of this year, it was 52%.

Varying components of revenue will drive that difference.

On to liquidity and capital resources.

I would now like to quickly turn to a few points on liquidity and capital.

The strength of the Firm's balance sheet, liquidity and cash flow-generating operations is a distinct competitive advantage in the current environment and provides us with the stability and flexibility to take advantage of opportunities across cycles, as Steve pointed out.

Blackstone's business model derives revenue primarily from third-party assets under management and from our Advisory businesses.

Blackstone is not a capital or balance sheet-intensive business and targets operating levels such that net management and advisory fees are sufficient to cover total operating expenses and create a steady stream of pre-tax, fee-related earnings from operations.

Blackstone has multiple sources of liquidity to meet its capital needs, including cash flow from fees, accumulated earnings in the businesses, investment of excess capital in our liquid fund, and access to our revolving credit facility.

At September 30, 2008, the quarter end, Blackstone had $1.13 billion in cash on the balance sheet and an additional $1.29 billion invested in liquid Blackstone funds against $845 million in short-term borrowings.

To optimally position the Firm for opportunities in the near-term, we expect to move a substantial portion of the Firm's capital currently invested in its liquid funds into a central treasury fund of cash and liquid equivalence.

This will allow us to provide greater liquidity and minimize the earnings impact of investment returns on that capital.

Additionally, in the midst of the worst part of a liquidity freeze-up by the banks, we opted to draw down our credit line, bringing the balance of our revolving credit line to $845 million.

Given the strength of the Firm's liquidity position and the other actions we have taken to strengthen the Firm's cash position and balance sheet over the last few months to match the current environment, we have begun to pay down the Firm's revolver.

We expect the balance of the revolver to return to the second quarter 2008 level of approximately $250 million by year-end.

Blackstone's $1.1 billion in cash and $1.29 billion in liquid investments allows the Firm to operate with no net debt, and we will continue to operate that way for the foreseeable future.

We have changed the composition of our liquid investments such as that there should be less movement around returns on those funds, and adjusted cash flow should more clearly reflect the model of generating management and advisory fees in excess of expenses.

And that should enable us to generate at least enough cash flow to meet the public's distribution priority of $1.20 per public unit in 2009.

In sum, this remains a challenging operating environment.

I went through a lot of detail, but if I can leave you with one point it is that the Blackstone business model was designed to not only have a steady cash flow and a strong balance sheet, but to be in a position over the long-term to capitalize on the opportunities presented in times like these.

Now, turning it over to Tony.

Okay.

Thanks, LT.

Good morning, everyone, and thanks for joining our call.

Steve gave you an overview of the financial services world, and I'm going to talk a little bit about how that translates into each of our businesses.

In every one of our businesses, the competitive landscape has changed and, in each case, we think to our advantage.

Some of our competitors are wounded.

Others have or will disappear.

Banks and security firms will need to change dramatically the way they compete as a consequence of new regulatory and capital requirements placed on them.

The hedge funds face large redemptions.

Some funds will disappear.

Others will shrink and be less able to make a liquid mezzanine of private equity investments.

In real estate and private equity, many fund managers are bogged down with troubled portfolios, can't access debt markets, and could have a hard time raising funds in the future as LPs focus more of their returns on just the top quartile investors.

Within Private Equity, I will touch on two areas-- the environment for investing and the health of our portfolio companies.

With the global markets down as much as they are we're seeing an increasing number of potential transactions able to meet our run rates without a lot of leverage.

And remember, for us, it is more than just looking at a stop price and thinking it's cheap.

It's getting inside of a company in helping us operations, and improving its EBITDA, an accelerating its growth.

During the quarter, as LT mentioned, which closed on a $1.6 billion of new equity investments and half a dozen small investments and three sizeable new transactions.

We leveraged buyouts of the Weather Channel and security firm Allied Barton, as well as the investment in Bluestar Chemicals in China.

The Weather Channel was a $3.5 billion deal done with General Electric.

Equity invested accounted for 60% of the purchase price, with debt, led by our GSO credit group, accounted for the 40% balance.

Allied Barton was a classic $750 million LBO-financed at $270 million of equity and $480 million in debt.

Bluestar was a $530 million investment of equity in China's national champion, the specialty chemical industry, that we think holds great promise, which does not require any leverage.

Just this month, we closed on Apria, the largest company in the US in home oxygen supply.

It is a company we had been looking at when valuations were considerably higher than today, and it's a business that is steady, with favorable secular trends given aging demographs and patients moving home more quickly.

We have hired a fantastic new management team and, alongside our operations group, we expect they can substantially improve the operating results.

Even in the current environment, we were able to get financing.

While there is less leverage on the company than we have seen in the past few years, this is more than offset by a purchase price of only 4.3 times pro forma EBITDA.

We are very excited by the prospects of this investment.

Access to debt for private equity, similar to access to debt generally for corporations, has been limited in this environment.

As a preferred customer of the banks, we think we are better situated than most for continuing to get bank support for deals like Apria and the others that I have described.

While access to leverage is terrific, it fuels bubbles, but not necessarily high returns.

The benefits of aggressive leverage go directly to the sellers of assets.

For the buyers, it pushes up purchase prices and adds to financial risk.

The highest returns, as Steve mentioned, come from buying companies cheaply, and we've-- the best returns for the entire private equity industry have typically been earned in times of turmoil, such as the downturns of 1990 to '92, and 2001 to 2003.

And of course, as Steve mentioned, we believe, today, it will be another example of that.

We have seen this before.

Prices crash.

And even with low leverage, when those companies recover with the overall economy, we've typically earned returns more than double normal cycle returns.

As you know, we mark our assets to market quarterly, even though they were long-term holdings.

We reduced the carrying values in Private Equity roughly 7% in the quarter, which is reflected in the change in unrealized values set forth in this morning's press release.

This reduction was based on several factors, but was largely due to more conservative assumptions about future operating cash flows and exit multiples.

It compares favorably to the declines in market averages due to solid continuing operating results of most of our portfolio companies.

Generally, the portfolio continues to be in good shape, with 70% of the Company at or below original underwritten projection-- sorry-- at or above original underwritten projections and 30% below.

This represents a pretty typical bell distribution around our base cases.

The picture's not worse because starting as far back as 2006, we began assuming a recession would occur in 2008 and 2009 in our expectations for new deals.

We also shifted our focus from asset-heavy industrial companies to non-cyclical companies in industries like healthcare and branded food and in regions with organic growth, like Asia.

73% of our companies have demonstrated year-over-year EBITDA growth so far this year.

I will say the recession now looks like it will be steeper and a slower recovery than we had anticipated back in 2006 but, all in all, we were pretty well prepared.

We also have strong capital structures.

50% of our debt has no maintenance covenants and there is an average cushion of 30% of EBITDA on those that do have covenants.

The first maturities in Private Equity do not come until 2013, on average.

Finally, our Private Equity portfolio company has substantial cushion and liquidity, averaging one full year's EBITDA.

There is just one company in our portfolio in which we have just a 5% interest that has exercised its options to pay interest on time.

We feel quite good about the portfolio, the structure of our Company's debt and the ultimate returns we expect our funds to earn, though you should expect to see some volatility in the short-term marks in the interim.

We are in the market currently with BCP-6, as you know, and we think that could prove to be one of our best performers based on marked conditions in which it will be investing.

We are seeing the most attractive set of investments since at least the early 1990s.

We've raised our return hurdles from the historical levels of about 20% to 25% or more.

Purchase multiples are way down, and the alternative sources of capital for companies looking to expand are essentially nonexistent, whether from banks, bond markets or equity offerings.

How the competitive landscape in private equity will eventually shake out is unclear, though it seems that some competitors may be in a less advantageous position.

Most visibly, hedge funds that were using side pockets to invest in private equity deals are unlikely to participate actively in the next cycle.

Aside from being the unfortunate recipients, in many cases, of adverse selection, a sharp decline in equity values, a significant amount of industry-wide hedge fund redemptions, has forced a closer look at liquidity mismatch.

As we have stated before, our private equity and our real estate LPs are locked up for the life of the fund, so we're not forced to sell it for a long time.

Moving to Real Estate, we believe we have the biggest war chest to invest in what we think will be one of the most attractive environments since the RTC days.

Between our global breadth fund, our European Real Estate Fund, and our Special Situations Real Estate Debt Fund, we have approximately $13 billion of uninvested equity capital.

We believe real estate values will come down further, and there will be many distressed sellers forced to liquid their assets as short maturity real estate debt comes due.

Fortunately, we have virtually none of these issues ourselves.

Anticipating a market peak, we sold a staggering $40 billion of real estate assets in 2007.

That's got to be some kind of record.

And we've extended the maturities of much of our remaining debt.

As Steve mentioned, only 4% of our debt matures prior to 2011.

We also have essentially no maintenance covenants in our real estate debt, and we are generating excess cash flow at the property level.

We are waiting patiently and have invested little in the past 15 months in real estate.

Our strategy is continue to wait for sellers to adjust expectations or to need capital.

We believe there are many holders at large portfolios of real estate who will not be able to refinance and will need to sell assets.

There are few, if any, other buyers who can put as much capital to work as we can.

The key to real estate investing is staying power.

We are careful to lock in non-recourse, long-term financing for our assets.

In our Office portfolio, we applied proceeds from realizations to pay down debt and significantly reduced the risk profile of the portfolio.

We did not invest in real estate development projects, and we avoided markets with significant building activity.

At all times, we bought below replacement cost.

This quarter, we reduced the carrying value of our real estate portfolio by about 10% across both our hotel and our operating properties.

We adjusted cash flow after expectations down and raised cap rates to reflect today's more conservative market outlook.

Of our major investment, Hilton continues to perform ahead of plan with EBITDA up 18% in the third quarter and 13% year-to-date.

In Hilton, we have approximately $1.4 billion in excess cash which, given the outperformance on the operating level, is about $800 million higher than we originally projected to have at this point.

While trends are clearly decelerating for the industry in general and we expect Hilton to be impacted as well, we remain optimistic about the long-term value being created in this investment.

In our Office portfolio, despite rising vacancies in mini markets, operating cash flow is about flat.

New supply of office buildings are still very limited in our market, and replacement costs remain above what can be justified based on today's level of rent.

Within our Special Situations Real Estate fund, there's an accelerating flow of interesting investments in real estate debt which offer very, very attractive on returns.

In Real Estate, the competitive landscape has already shifted with more likely to come.

Several of our largest competitors face liquidity problems and are unlikely to be active participants in this next cycle.

The major investment banks, whose principle operations were often our most aggressive competitors, are withdrawing from the business, and so they're shut down.

Most REITs have seen their shares plummet and are facing looming problems trying to refinance maturing debt.

Our goal is to stay disciplined.

When the market nears bottom, we think the $13 billion we have to invest can be deployed to produce excellent returns.

Our Marketable Alternatives business is comprised predominately by BAM, our hedge fund of funds business, and GSO, our credit businesses.

As you know, hedge funds are going through a shake out as market dislocations and diminished access to leverage has impaired a number of major industry players.

The third quarter provided one of the most challenging investment environments with no relief in October.

Our MAAM, our Marketable Alternatives business, however, we were fortunate that the large majority of funds, we managed to outperform market benchmarks and their peers, and our redemptions are considerably smaller than the industry.

Overall, we expect to have a net increase in AUM and our MAAM segment this year, a very unusual thing for a public-- for hedge funds.

The hedge fund industry has been under pressure as equity market values have declined globally by approximately [4%] year-to-date.

The credit product has been under pressure to a similar degree, and limited access to leverage has processed a deleveraging cycle, turning many investors into forced sellers, which only has exacerbated the issue.

As a fund of hedge funds, BAM is not immune to the market declines, but it is outperforming.

Through October, BAM composite return was down approximately 14% net of fees, as compared to 34% for the S&P 500.

Our BAM is institutional, not high net worth.

We often work as an advisor on the total pool of a client's investments, whether the products invested inside or outside of BAM.

This creates a stronger bond and provides greater value-add to the client.

And it's one reason why we believe our assets are sticky.

BAM's funds require a 90-day notice on redemptions.

Based on offsetting inflows, we believe we will actually have net inflows for the year.

In the credit area, GSO is operating in one of the most fascinating and ultimately, we think, one of the most attractive risk-award parts of the investment business at this point in the cycle.

Liquidity and fixed income [product] remains low with few buyers and many impaired sellers.

This has caused severe market dislocation and created a situation in which we believe credit is heavily oversold.

The high yield index, as an example, is trading at about 1,475 basis points spread in treasuries, the widest spread we've ever seen, even though corporate defaults are still relatively low.

The bank debt market has been under severe pressure as well in the past month-and-a-half, and we think generally represents a highly attractive area of investment.

Our Mezzanine fund at GSO is seeing attractive opportunities to buy debt, often with 14% to 15% coupons, with free warrants and moderately levered capital structures.

The Mezzanine fund is approximately 35% drawn down.

And although its pace of new investments is moderate, as M&A volume has fallen, we expect it to pick up in the medium term.

Lastly, equity across credit markets has made GSO one of the go-to financing problem solvers because they can play throughout the entire capital structure.

GSO was careful not to rely on excess leverage in its hedge funds, and uses predominately long-term financing structures that do not contain mark-to-market requirements or margin triggers.

For the Bank Debt portfolio that's purchased from banks, GSO used very flexible seller financing which has been the key stable structures.

These financing terms were made by motivated sellers and are not available in the marketplace today.

Additionally, we were careful to focus on senior secured loans, top tier capital structure and performing credits.

We believe GSO's third quarter performance once again places it at the top of its peers.

Through the end of September, GSO's Special Situations fund was up 22 basis points for the year, about flat, but a small victory nonetheless.

This compares to Lehman's high yield index which was down 15%, or 1,500 basis points for the year.

Like BAM, GSO has had modest redemptions and will have net inflows for the year.

GSO's AUM growth, year-to-date for the period ended September, was approximately 19%.

Overall, we view GSO as having substantial opportunities to grow in this environment.

Our Advisory business had a great quarter.

The business was particularly strong in corporate M&A and in the structuring and reorganization business.

The widely-publicized problems at all the major banks and securities firms are causing widespread cutback distraction and personnel defections.

This turmoil at our major competitors is clearly benefiting our Advisory business.

In M&A, we've been working as the global coordinator with a divestiture process for AIG.

This is a large mandate with a lot of senior attention from our Advisory team.

They've also opportunistically been hiring in the US and Europe, and have recently added new M&A teams in Hong Kong and in Beijing.

Our Restructuring and Reorganization business also had a strong quarter, and the backlog continues to grow as mandates flow in.

One outcome of the global credit crisis is that even healthy companies are being forced to seek help.

Revenues in this business are lumpy, but we expect to see at least two more strong years in the restructuring business.

Our Fund Placement business also continues to perform well.

A tough fundraising environment is making its services even more valuable to GPs looking to raise new funds.

We also have a number of new initiatives, and we continue to seed for future growth.

We have announced entry into the Cleantech Investment business and have already closed on our first two investments.

We've also assembled a highly experienced infrastructure team and are working on our first investment in that area, with three new credit funds in the market and two new equity-oriented hedge funds.

And finally, we continue to look opportunistically at tuck-in acquisitions, smaller asset managers that are sub-critical mass.

The economics of adding to our AUM in this way without the necessity of taking on additional staffing can be compelling.

Overall, we have structured each of our businesses to sustain the blows and down markets and to thrive on the opportunities which are typically produced during times like these.

We have a bulletproof balance sheet with no net debt, as LT said.

We have substantial liquidity and billions of dollars to invest.

We have management fees driven by long-term contracts that cover all our operating expenses and generate sizeable pretax profits even in the absence of any performance fees or investment gains on our capital.

We have many attractive new investment opportunities today across all our funds that should produce large gains in the future as they mature and are harvested.

Longer-term, we believe we will be operating in a different competitive environment with fewer strong players and none, we think, with our strength and broad capabilities.

From January 1, 2000, through the end of last quarter on September 30, our assets under management have grown at a compounded annual rate of more than 30%.

Notwithstanding the near-term challenges, we believe we are well-positioned to continue this record of growth for many years to come.

I thank you for your time, and we are happy to take your questions now.

Thank you.

(OPERATOR INSTRUCTIONS.) Prashant Bhatia, Citi.

Please proceed.

Hi.

It sounds like the distribution next quarter could be impacted as you reposition the portfolio and maybe realize losses, but should we think about 2009 distributions as being a fairly high probability because you will have, by then, repositioned the entire portfolio and the management fees can cover the distributions?

Prashant, it's Tony.

The reposition of the portfolio won't impact the dividend.

It won't-- and it doesn't trigger any realized losses.

All of our marks are mark-to-market.

They already reflect all markets.

All we're saying really is that the assets will be moved more to our cash account which doesn't have the kind of volatility going forward.

And just the management fees alone will pretty much secure the 2009 dividend.

As far as the fourth quarter dividend goes, we're just going to have to see how things feel at the time.

It's not a dividend.

It's a distribution.

And we might pay out more than we generate in adjusted cash flow if things look like-- it's a temporary bliss.

If things look like they're continuing to be very, very weak, we might consider a lower or possibly even no distribution.

But, we'll have to see how we deal with the fourth quarter at the time.

But, you're right.

I think the 2009 distribution looks pretty secure.

Okay, great.

Thanks for that.

And then, in terms of the marks that you've taken on the Real Estate and Private Equity portfolio, how reflective is that of the market environment in October and what we're seeing right now in November?

Because it sounds like you're adjusting your DCF model, so should we expect the marks--?

--Yes--.

--To be as big or--?

--The marks don't reflect October.

They are as of September 30, and let's be clear about that.

And in terms of what to expect for the fourth quarter, I really couldn't say.

As you know, the overall market averages have been weak in October, but our marks are affected by a lot of things like the performance of our portfolio companies.

And we take a long-term view when we do these DCF models, and it's not clear how those will be affected.

So, I would not want to speculate now where our fourth quarter marks would be.

It's early in the quarter.

I'm hoping for markups.

Okay.

And just maybe in general terms when you think about the marks on the Private Equity side, how much of the marks are determined by actual public comps versus your DCF model which would--?

--Well, that's not an answerable question in terms of a number.

We take public comps into account, but often we don't exit in the public market by doing IPOs, so they're sort of irrelevant.

Very, very often we'll exit by selling the asset to another LBO sponsor, in which case credit markets become a more determinative value than equity markets, or we'll sell to a strategic buyer, in which case synergies and other things are determinative value.

And those values tend to be much steadier than equity markets.

The other thing is we have a portfolio of companies, many in which there's no real comparable company out there.

There's no look-alike company.

So, it's a very imprecise science to say what the publics are doing.

Now, obviously, we have about 20% of our portfolio, so we have about 50 portfolio companies of which 40 are private, thereabouts, and about 10 are public.

The 10 publics are mark-to-market sort of daily.

Okay.

I guess then in terms of your fund six, what type of reaction are you seeing from investors - are prior investors that have put in money putting in more, less, or about the same, in terms of fund six?

Well, as I mentioned, it's a difficult fundraising environment, and a lot of our prior investors have what is called a denominator problem, where they've had to mark down, because they tend to get allocations from consultants as to what the ideal allocation is.

Frankly, private equity in general and our fund in particular has tended to way outperform the market averages, and their other assets classes.

So when they mark down the value of their equity portfolio or their debt portfolio, suddenly they become over-allocated in private equity.

And so that's definitely a factor.

It's early in the fundraising days.

We've closed on something like $7 billion.

But we have, you know, we're really- we didn't expect a lot of closings in 2008, frankly, because we're really looking for 2009 allocations from most of our big institutions, so we'll know more in the first quarter of 2009, which is when they give out most of their capital.

Okay, and just based on history, is there a risk of LPs not being able to meet capital calls?

Is that something that you've experienced in the past, and is that something we need to think about, going forward?

I guess there's a fear (inaudible) these guys-- our LPs do have a legal requirement to fund, and for the most part, I think we'd all look at the names on this, and say, these are very, very strong entities, with lots of liquidity, lots of value.

We- you know, we funded the- closed the Apria deal last week.

We had no problems.

We don't anticipate- we don't anticipate having problems going forward, other than temporary noise around the mechanics of getting 500 or 400 partners to do anything on the same day.

This is Steve.

In the firm's history, we've had-- all of our funds, in my memory, three limited partners who haven't funded commitments, two occurred in 1990-91.

They were savings and loans that were bankrupt, went bankrupt, and were seized by the Resolution Trust Corporation, which abrogated all of its obligations in bankruptcy.

The third was, you know, an LP that certainly could fund, that had a dispute (inaudible) someone else, and it took us a few months to resolve that, and they ultimately funded.

So out of the thousands of drawdowns that we've had over our history, those were the only three thus far that have been at all noteworthy.

Okay, and then just finally, you've got a lot of liquidity at the corporate level.

You've talked about that.

In addition to sub-scale asset managers, any plans to be even more opportunistic in this environment to pick up either entities or individuals and if you can maybe expand what businesses you think about investing in?

Well, we have-- I think I mentioned, we have three credit funds, two equity funds a (inaudible) fund an [interest rate fund] - all in terms of new initiatives on the firm.

That all reflects picking up individuals, so we continue to do that, and it's a really great time to pick up individuals now, with the turmoil, and the fact a lot of golden handcuffs that they typically earn (inaudible) them, at other firms, are not worth that much right now.

So it's a good time to get world-class talent, I think.

So we continue to do that.

In terms of major acquisitions, we don't have anything on the drawing boards now, or anything that I could say is likely.

Okay, thank you.

Roger Freeman, Barclays Capital.

Please proceed.

Oh, hi, good morning.

I just wanted to come back to Private Equity marks and approach to marketing.

So, Tony, I think you said on the media call earlier today that basically two-thirds of the private company holdings are either flat to up in terms of their marks.

And I guess-- and when you think about this past quarter, overall market declines 10% to 15% globally, what do you think-- I mean, how do we think about maybe the level of EBITDA growth or at least the trajectory of growth of those companies that would more than offset any either outright market declines or implied assumptions that you'd pick up in your more conservative DCF valuations?

And also, does that mean that that other third was actually marked down something like 20% to get to that level?

Okay.

First of all, welcome to Barclays, Roger.

Thank you.

Last time we were on the call, I think you were at Lehman.

Yes, a couple of things have changed.

I'm not sure I can answer the question with specific numbers, but I think I mentioned that the overall portfolio for the quarter we marked down an average of 7.5%.

And the reason it wasn't as much as the overall market declines or even more than the market declines, because you might expect if the market's going down 10% to 15% that, that with leverage, these would go down more--.

--Right--.

--It's because it's the other fact that I gave you, which is that about three-quarters of them are above last year in EBITDA.

So, they're growing their EBITDA even in what I think we all would agree is a soft economy.

And a lot of that EBITDA growth, I mean, this is a young portfolio.

It's only an average of 20 months old, and a lot of EBITDA growth in Private Equity is front end-loaded when you-- we often, about two-thirds of the time, we bring in a new management team.

We also have our operating people go in there, and usually they effectuate upfront a lot of efficiencies that come through in EBITDA.

And so, that somewhat sort of offsets the sort of multiple declines that you might infer from the public market.

The other thing is, in our accounting, we do take a somewhat longer-term view.

We use a DCF kind of analysis because there really just aren't, for most of these companies, really good comparables.

So, when we go into the deals, we look at the long-term median multiples.

So, you're usually looking over, like, a 15-year period, most typically, and guesstimating that we'll exit for something like a long-term median multiple.

So, as the world changes, we change those assumptions about both multiples and cash flows, as well as discount rates, and then they all go into a DCF model.

But, we don't necessarily move it up and down exactly precisely the way the S&P moves up and down.

Yes, got it, okay.

And I guess in terms of where the portfolio in aggregate is marked, based on what we see disclosed, it looks like, in aggregate, you're back to costs.

Now, that's probably not the reality because some of the investments are probably below.

Can you help us think about what is left still in incentive fees to be reversed, if there are additional market declines?

Boy, that's different for every fund.

And I don't have it aggregated across all funds, but I can say this.

In our biggest fund, BCP-5 which we're still investing, which is the young fund, there are no incentive fees to be reversed.

And then in some of the other funds, boy, I wouldn't-- I'd have to go back and assemble that.

Most of those funds are heavily in the money and have distributed multiples of costs to the LPs already.

Got it.

But, I guess in BCP-5, do you-- at some point, if you are marking below costs, do we need to be thinking about-- are there any kind of accounting entries we need to think about, for accounting for claw-backs, albeit maybe way down the road?

No, no.

BCP-5 can go below costs.

There's no claw-backs.

Okay.

So, there'd be no P&L impact from marking that down?

The one thing you should think about--.

--Other than your investments and funds.

Yes.

But, the one thing you should think about is that as valuations and cash flows move up, if there are companies in the portfolio that we're writing up, there's a catch-up.

So, you won't necessarily see that immediately flow through the carried interest revenue line.

Right, to the extent that they've been marked below cost, you have to get back to that before you can--

Right.

And Tony, you know, just in terms about- thinking about it, the go-forward investing environment, again, looking at some of your comments earlier this morning, it seems like you- my takeaway is that you view some of the biggest opportunities in the credit markets.

I mean, you commented that equities could be volatile-- maybe haven't reflected sort of the full environment yet.

Does that- when you think about your private equity opportunity, is it already-- are we at the point where, assuming you can get financing, or I guess, some of these, you don't even need financing, some the of opportunities you're looking at, but it is time to be buying equities?

Well, you know, I phrased it slightly differently, I think, Roger.

We're not like a mutual fund or a hedge fund, where we can decide it's time to buy equities and move into equities quickly and across the board.

We have to wait for good assets that we can actually operationally make a big difference in improving come for sale.

So, we can never be market timers in a precise way, which was sort of implicit in your question.

And, you know, right now, we're seeing some unbelievable values.

We're seeing companies at around four times EBITDA that typically trade for 8 to 10 times EBITDA.

We're still able to get leveraged.

Whether we're exactly at the low [tip] in terms of public values or not, I'm not sure.

But if we can buy a good company at half of the normal market multiple, borrow a portion of the purchase price, and significantly improve the EBITDA, we will get a wonderful return on that investment over a five- to seven-year period, which is the kind of holding period we go in, looking for.

So, selectively, where we see those opportunities and where we can buy companies whose businesses are not economically sensitive or impacted, where we're very, very confident that even in a really ugly recession, they'll hold their EBITDA cash flow to levels that we can underwrite, we'll nibble at that, but we're-- and do the occasional deal, but we're being just cautious.

I'm not sure I answered your question entirely, but maybe it gives you a flavor for how we look at it.

It does, thanks.

Okay, thanks.

Susan Katzke, Credit Suisse.

Please proceed.

Thank you.

This follows up, I guess, a little bit on Roger's last question, and that is your appetite on the real estate side and whether there are any geographies where you see values yet sufficiently attractive to really invest capital?

No.

Okay, that was easy.

I don't see any geographies that are really attractive where we'd plunge right into a big size right now.

I think, in general, real estate values lag corporate values, and I think they're still at an earlier stage of values improving, shall we say; that is, price is lower.

There's also very limited real estate debt available today.

And so, our strategy-- and I actually think that there's a lot of large holders of real estate that have financing structures.

Maybe they were very prudent long-term financial structures put in five or six years ago, that are maturing now.

And those people will have a hard time rolling that over.

If you just look at the yields that REIT paper is trading on, a REIT debt is trading on, and it tells you that the markets don't expect most REITs to be able to-- or many, many REITs to be able to roll over their debt.

And as that debt matures, we expect there'll be a lot of assets coming on the market at a time when there are few buyers with capital, with equity capital, and at a time when economies saw it.

And we expect there to be some much better values in the future than there are now.

And that's pretty much of a global view for us.

The difference between the US and Europe and Asia, there are regional differences.

I think Asia is both better because you've got organic growth, but you also have had much more aggressive building, so you have much more supply coming on there, which makes it-- net-net, it may even be worse.

Europe, you've got no more organic growth than the US but, in general, you have more supply.

But, it would-- you'd have to go ahead the different national-- the big cities in Europe, because it's somewhat different.

But, for example, there's a lot more new supply coming on in London than there is in New York.

So, we sort of-- I think we might see the best values in the United States first, all things considered.

Okay.

And this is Steve.

(Inaudible - multiple speakers)--.

--And then, a second question on compensation.

Can you remind us how it is that you accrue compensation?

Which part of the compensation do you mean?

There's really-- for Private Equity and Real Estate, there's really two pieces.

One is classic cash bonus.

The second piece would be we'd accrue for the proportion related to the carry balances.

Does that answer your question?

Yes.

You wanted a specific number.

So, on carry, we're typically, for the newer investments, accruing 40%.

Right.

Okay.

And then, there's going to be some level of fixed expense.

Obviously, that's in there.

Yes, we fully accrue for compensation as we go.

And candidly, looking at the year, how it's coming out, when I'm reading about what Wall Street firms are doing in terms of cutting costs, I wouldn't be surprised if our accrual rates were a little on the high side.

If your accrual rates had been a little bit on the high side in the first nine months this year, such that we see some catch-up in the fourth quarter?

Yes, we haven't made any decisions, so I'm-- don't-- I'm only saying that the compensation picture for Wall Street's getting pretty ugly.

So, we may have been accruing too high.

We'll have to see.

I mean, we won't make that determination until December.

Okay, thank you.

Guy Moszkowski, Merrill Lynch.

Please proceed.

Thanks, good morning.

I was wondering if we could just dig in a little bit more for some color on the $167 million of loss that you showed on the liquid investments.

And I'm looking at the number that was reflected on the cash flow line, but it's pretty close to the ENI line.

Just a sense for how much might have been realized versus unrealized, and again maybe you can just help us understand why, if it's not a realized loss, you do choose to reflect it as realized.

Guy, it's LT.

I think, first of all, it's all realized because they're all liquid securities, and they represent the investments in the various MAAM funds.

So, we realize 100%.

It's very typical for short-term liquid securities, for you to realize the losses as if it were cash.

Well, when you're say they're all realized, we book them as if they are realized.

We haven't necessarily liquidated the underlying investments so, as they bounce around, we'll mark it up or mark it down.

But, we treat that as a current period cash flow, the mark ups or downs.

Right.

It impacts your cash available, so it's different from the way we show-- you'll see a change in the investment income line in Private Equity and, obviously, those are longer-term, and so those are unrealized.

Okay, that's fair.

I just wanted to make sure I understood it.

And then, to the extent that you've talked about that you've repositioned some of this, that would indicate that you have, in fact, realized some of the losses because you said you put these things in much more cash-like instruments.

Is that fair?

We had begun the process of moving some of it out earlier in the year.

And I guess if you can out realization upon the moment of redemption, then that would be-- the answer is yes.

So, the P&L fully reflects the impact of the valuation.

And then, on a cash basis, we'd realize it when we pulled it out of the fund.

And this wasn't a change really in philosophy.

Just when the money was put in there after the IPO, there was an anticipated schedule of moving that out over time.

And so, we're moving along that continuum.

And if I could just add one thing.

The majority of it was in the BAM asset, the fund of funds, which has outperformed its competitors from the period of the IPO until now.

So, some of this is giving back the gains that were up to that date, and it was the right place to put it.

We're just changing the weighting.

Got you, okay.

So, that was invested in these products which, as you said, are down maybe 14% versus the broader hedge fund community, down over 30%.

Is that fair?

Yes.

Our weighted average on an actual BF capital is less now.

It's more like 11.5% to 12% in the third quarter.

But, as I said, the day that the IPO amount, the majority of it was just giving back some of those gains.

Right, okay, that's fair.

Maybe you could comment a little bit on some of the stuff that we've seen in the press about CalPERS and some other large institutional investors, starting to ask some of their private equity managers to hold off on calling capital, and how do you deal with something like that?

You know, we have a responsibility to all of our limiteds, to make the best investments we can, and we continue to do that.

And if that means we call capital, we call capital, and as we talked about before, so far, our limiteds have been, you know, perfectly prepared, and able, and willing to-- to fund those calls.

We haven't gotten anyone who said, ``You know, time out, I can't fund.''

Yeah, it almost sounds as if some of them were saying they don't want to, but it sounds as if-- from what I've seen in the press, but it also sounds as if you have not been the recipient of any of those requests?

Is that fair?

Well, whether they want to or not is really not the issue, because, you know, they have a legal requirement.

If they don't fund, there are, you know, onerous consequences to their remaining investment in the fund, and so it's not really a choice that they have.

But we are mindful of the desire of our limiteds, because that's our key customer constituency, so we're not-- so-- we're not cavalier, I think, I guess, having the upper hand in that.

But we do have a business to run, and they understand that.

Have you had to have some of those discussions recently?

You want to--

Guy, this is Steve.

Whenever you have-- you have a really violent market movements, like we've had in September and October in the equity markets, there are always some people whose portfolios, you know, develop some unusual sort of attributes.

And you know, we've had one or two contacts, you know, from people who've experienced that, and what tends to happen is that as markets find levels, then those types of issues get resolved.

And so we take a reasonably philosophic view about this, having watched people in some of other market declines have some very short-term issues, our sense of these things, and the future will flesh them out, is that this is very short-term stuff in response to really almost unprecedented levels of moves, not just in the equity markets, but in the credit markets.

So I think developing this into sort of some kind of systemic issue is, at least from my perspective, at this point, way overblown.

Fair enough.

And the final question that I'd like to ask you is just, you know, reading the press release this morning with respect to the [terms] on the potential impact on the fourth quarter dividend, and the dividend in '09, and then listening to the commentary on the phone, it sounds like there's a reasonably significant difference in the tone - that what we heard a couple of times during the conference call has been considerably more reassuring with respect to the dividend than what you actually- I'm sorry, I should call it distribution, to the distribution, than what we see on paper, in the press release, and I was wondering if you had some comment on kind of the difference in tone?

Yeah, Guy, just- there are a couple of things there.

One is that I want us to really clearly distinguish fourth quarter from 2009 and you know, re-emphasize that as you look at our management fees less expenses, we're more than covering that.

So if we take it off of third quarter, obviously we're in a very difficult public market environment and with the [caps] that we have in BAM, that movement which is certainly an aberration from its track record, and we opted to pay above the cash flow.

And to emphasize that for the fourth quarter, you know, we're going to, again, look at the cumulative cash- adjusted cash flow for the year, and make that determination.

I think when a lot of folks were reading the press release, you know, they were looking at that and saying, you know, ``Blackstone has decided to go (inaudible) for the fourth quarter and for 2009,'' because I think largely they're looking at it as a dividend, and not an adjusted cash flow distribution to partners, of which, you know, the public is a preferenced partner through 2009.

And Steve--

I think we maybe-- maybe it (inaudible) asking, simply put.

We didn't intend to, you know, worry people about 2009.

OK, thanks very much for the clarification.

Appreciate it.

Hojoon Lee, Morgan Stanley.

Please proceed.

Hi, thank you.

Just a few questions.

I recognize there's always some fee pressure for asset managers generally.

And I was just wondering, given the slowdown in industry-wide realizations and returns, do you expect fees, whether management or performance-based or any other negotiated terms, to come down for the industry broadly and for your funds in the coming year?

Well, I can't comment about the industry broadly.

I don't see a lot of specific fee pressure on our funds.

We've already had-- of the main fund that's in the market now, BCP-6, we've already had a couple of closings.

So, those fees are locked in.

I think there's a subtle fee pressure, if you will, that we're all dealing with, which comes in the form of co-invest.

So, LPs these days are very desirous of co-investment opportunities with the fund.

And I think partly the way they view it is they put up $4 in a fund, and if they then put $1 in co-invest, they've gotten a 20% fee discount, so to speak.

So, I think they're getting at it a different way.

And in fact, from our perspective-- this is Steve-- that it's not that-- historically, we have had co-investments with limited partners, and it also enables us to do larger types of transactions in a world that is somewhat constrained for capital.

And so, I think that can work out.

And also, historically, I don't know how familiar you are with the way firms like us price our products, that there also tends to be discounts on management fees, in particular, as the size of the LP gets to be really in a giant kind of category.

Sure.

And that is not a particular change.

So, I think for the strong firms that have had great results, there's less of this type of pressure than you would expect by the tone of the question.

And just a question on some of your new product initiatives.

Could you give us an update, if possible, on kind of the timing of the launch for Blackstone Altius, and if you could give us a sense of the level of interest in that product?

It's really too early to tell.

The launch will be sometime in early 2009.

And could you just elaborate?

I think you mentioned that you had two new equity-oriented funds that you were talking about.

So, is Blackstone Altius one of them and is there--?

--Yes.

And could you talk about the other one?

I'm reluctant to get too much into one fund, but they are in the market and we have private place invitations.

But, it's a long only India-Asia product.

Okay, great.

Thank you.

Dan Fannon, Jefferies.

Please proceed.

Thanks for taking my questions.

First off, on the fund of funds segment, this has been somewhat of an issue for other asset managers out there.

Can you talk specifically about what the flows have been there?

And given that you said there's a 90-day redemption notice period, can you talk about what you've seen as you look forward for fourth quarter in terms of redemptions?

Yes.

Well, the redemptions in our fund-to-fund, they're about 10%.

And as we mentioned, the new inflows sort of offset that.

Yes.

So, that 10% is a gross number, but that'll be actually positive for the year on inflows.

And the industry, we think, is somewhere in the 20% plus range, redemptions.

Got it, okay.

Excuse me.

That's helpful.

And then, can you-- you mentioned on the call that you guys drew down on your credit line during the period.

Can you give a little more color as to why you did that?

Sure.

We drew down the time when we weren't sure which of the lenders in the line would, frankly, be solid enough to fund if we needed the capital.

And we just wanted to be very, very conservative-- it's the way we run this place -- and make sure we had liquidity available in case really tempting opportunities or really compelling needs came along.

At this point, this was all pre-TARP and many other things.

So, at this point, I think we-- this was right on the heels of Lehman Brothers going under.

At this point, we feel like, as Steve mentioned, that I think we're out of the woods in terms of systemic meltdown.

Not to say we won't have bumps in the road in individual markets and securities.

But, in terms of the whole system melting down, we're kind of out of the woods.

So, at this point, we're actually in the process of repaying that.

And as I said in my comments, we'll pay it down to a $250 million level, but in the fourth quarter.

And going forward, I think we'll be in a position where it won't be-- we'll never see those levels again because, as we said, we're repositioning some of the liquid cash in the MAAM segment into a treasury function, so we'll be able to self-fund on that basis.

Okay, great.

Thank you.

George Denninghoff, Vista Research and Management.

Please proceed.

Hello, gentlemen.

Thanks for taking the time today.

I just have a quick question.

With the kind of demise of Lehman and Bear, and the systemic changes within investment banking, I wanted to know how you guys saw your Advisory business growing in the next three to five years and filling the void left by these investment banks departing?

Well, George, we don't-- I'm not-- I don't think any of us want to try to rebuild Lehman Brothers or a major firm like that.

The Advisory business, it's a very good business for us.

It's a very high margin business.

Strategically, it's important for the Firm because of the information, access information, access to industry expertise and access to deal flow, proprietary deal flow, that drives for the investment parts of the Firm.

But, we don't want it to grow to such a scale, and that's very advantageous.

But, we don't need to have dozens and dozens or hundreds of bankers to do that.

We need a relatively few, quite senior people with different sector expertise and different regional sets of contacts.

But, I don't want it to be so big that we start getting a lot of conflicts with the capital pools.

So, we like the business a lot.

As I mentioned, it's a very successful business for us, but it's always going to be constrained in terms of size.

It obviously does benefit when the competitors are in turmoil, but we're not going to take that to try to rebuild a major firm.

Okay.

And my next question is, obviously, we've had a significant change in Washington onto Democratic lines, and it seems as though the ideas of the carried interest bill and things like that are going to start coming out again.

Do you-- how do you guys see that affecting your business going forward into the next two years?

Well, I don't know.

It's a little early to say.

We've been anticipating that, at some point, the tax system that we've all been operating under will move in adverse ways for a long period of time.

And I don't think this really changes our view all that much.

Okay.

Those are all the questions I have.

Thank you.

Roger Smith, FDK.

Please proceed.

Thanks very much.

I just want to go back to the Alternative business a second, and really with the fund of funds.

It does sound like your flows are going to be, on a net basis, really quite good relative to expectations for the industry.

And I just want to understand what it is that you guys are doing differently.

Is it some different behavior from the investors that are investing in the fund of funds here, or is there some kind of underlying leverage that you're using in your business that the industry might be using, or that the industry was using that you guys weren't using?

Yes, okay.

All right, Roger, let me take a whack at that.

First of all, there's a lot of fund of funds out there that are levered.

We're not.

And so, when a market declines and you've got a lot of leverage, that magnifies the decline dramatically.

We're not leveraged.

Secondly, as I mentioned, our LPs are institutions.

Institutions tend to be much more stable investors in a product area than retail, which tends to be more emotional and tends to move its money around.

Institutions tend to be governed by asset allocation models that don't change with market cycles, whereas retail investors react to depression or fear, whatever, and pull their money and just randomly stick it in treasuries.

So, most fund of funds are retail-oriented products.

Ours is not.

Ours is almost no retail investors.

Thirdly, the investment performance of our funds has been superior.

Last year, we were up over 14%, which is higher than the market.

This year, we're down a lot less than market -- a lot less than the market.

So, I think the combination of outperformance in both up and down markets with the other factors accounts for the difference.

Oh, great.

Thanks a lot.

And then, on the underlying managers, is there any of the underlying managers that you guys are working with that are having any type of trouble where they are seeing redemptions more broadly and would result in their lifting their gates?

Inevitably, when you're in 175 managers, there are a few.

Obviously, we get paid to avoid those and anticipate them, and generally we do a pretty job at that.

As you know, we were about the fund to pull out of Amaranth early and actually pay a premium to get out because of what-- we were worried about what we saw there.

In this market, it's pretty broad, and there's definitely some of the hedge funds that we invest in that have had issues with performance and have got some gates, but all of that is reflected in our marks.

Great.

And then, just my last question really gets back to the unfunded commitments which I know you've sort of addressed a couple of times here.

But, should we think that if somebody does potentially have an unfunded commitment, that really the rest of their committed assets, that the carried interest on that reverts back to the fund?

And then, does that revert back to the fund in general where the other LP investors benefit from that?

Yes, the answer is yes.

Not just the carried interest, it's their entire, including their basis.

Right.

Yes.

Typically, what happens-- each fund's a little different-- is that they lose half of their--.

--Everything--.

--Investments, leave aside carried because that's sort of irrelevant in the calculation.

It's really half of their investment, then gets an effect spread over the other investors as a function of the relative size of every investor.

So, it's pro rata allocated to the other investors.

So, it is a very confiscatory type of approach and a devastating impact, if you will, for someone to lose half of their capital for not funding a call.

And all of our funds, in effect, are-- certainly the private equity funds and the real estate funds are very significantly invested, so that, unless it's a completely new fund with no investments, you're actually losing real money.

And it's built in to be an enormous disincentive, to have someone not fund.

Yes.

If an LP was going to not fund something, he's going to not fund a new fund with no investments in it because you don't have that same forfeiture clause, or an early fund with a weak investment record where there's been a lot of write-downs already, just because he can lose less.

But, we don't-- we think we'll be about the last to be not funded, so to speak.

I got you.

But, it wouldn't translate from one fund to another.

It would be contained with each fund.

Right.

Thank you very much.

Roger Freeman, Barclays Capital.

Please proceed.

Oh, thanks.

Just a couple of follow-ups.

I guess the first one, Steve, you mentioned the CDS market in that editorial that you put in the "Journal" a couple of days ago.

I guess I was wondering how much systemic risk do you think that market poses?

Specifically, we've heard from one dealer that they think there might be challenge around putting all of these contracts into a central clearing house because there could be some major balance sheet transfers because of the differences in marks in the single name space.

Do you agree with that?

I don't really have enough market-based knowledge to comment on the right answer to that question.

What I was focused on more was the aggregate amount of, in effect, off the books exposure and potential volatility in the system.

And however we end up regulating different types of instruments and asset classes, you'll have to ultimately bring that into the sunlight where people inspect what's going on.

Okay, all right, thanks.

And on the leveraged loan investments you've made, Tony, you talked a little bit about it over the past quarter, and I want-- can you tell us how much of that you had actually acquired?

And actually, I'm more interested in how much you've been able to turn around and sell at a profit.

I think you also mentioned that the dealer financing opportunities aren't there today, but you're still a buyer.

So, is that because the pricings come down so much, that the unlevered returns are that attractive now?

Yes, I think you can get some very attractive returns on an unlevered basis.

So, we've set up a bunch of sort of managed account products, just by loans on an unlevered basis.

With respect to the structures that we bought with the leverage from the sellers, we're able to buy and sell loans, keep that financing and that structure in place.

So, we've done some of that.

So, we really-- when you say have you sold the loans, we sold some, but we bought others.

We've managed around that.

The only-- so, I'm not sure exactly what you don't want to ask, but we still have the same kind of capital committed to the area.

In terms of total amount, I'm not exactly sure where it is now.

Last time I looked, across the Firm in different pockets.

We bought about $12 billion of loans.

Okay, I guess I was just getting at, whether there's been any sort of meaningful secondary market that you've been able to actually turn around and sell, the funds you have already acquired?

Or (inaudible) sort of deep value, you know, buy and hold.

I think you should think about it still as deep value, buy and hold.

But the secondary market has shown signs of life, as LIBOR has come down, and there are sort of pools of capital, even equity - what you think of equity funds - coming into the loan market now.

And you probably saw the Altria financing, which was, I think, yesterday, a $2 billion financing was heavily oversubscribed.

So, there was a lot of interest in that.

Admittedly, the rate was high, at 600 over treasuries for a BBB, but the fact that there was that much capital flowing into, you know, a long-term debt financing, it's the largest BBB debt financing in two years, is- so the market is showing signs of life.

Okay.

And just one more quick one -- you know, you've got a pretty good set of proprietary economic indicators you get out of your portfolio companies.

Just wondering, are those suggestive of-- are those consistent with the kind of dismal economic data we're getting today?

You sound pretty confident that we're going into a severe recession.

Is that coming of that?

Are those indicators, you know, forward-looking, worse, than what we're seeing in sort of general economic data points are?

Well, let me answer the question a slightly different way.

We-- those indicators showed surprising stability through about June, I'd say, of this year, and then in the third quarter, they got noticeably weaker, and they haven't improved.

Okay, thanks.

Ladies and gentlemen, this concludes all the time we have for our question-and-answer session today.

I will now turn the call back to Joan Solotar for closing remarks.

Yes, this is Steve.

I would just like to thank all of you on the call.

We go through a crap (inaudible) Tony and LT and Joan.

And I think you should keep in mind that this is a cyclical business that we're in, in terms of when we're making investments and when we're harvesting them.

And that, over the long-term, we've had terrific investment results.

Sometimes, we look like we're a little below trend, sometimes, we're over trend.

But, in terms of the strength of the Firm and the franchise and how we're positioned in the vast majority of our individual investments, in terms of their financial structure and the like, given the really the adverse environment, we think we're in very prudent and good shape.

I [would not] be surprised if the fourth quarter for the macroeconomic environment reeks really badly.

And it would be highly unlikely that that would not be the case.

When you have consumers do-- or basically in the midst of a financial panic in late September to mid-October, that normal people just stop buying things and reassess, and that's sort of the-- you will see the consequences of that reported at the end of the fourth quarter.

And I find it frankly surprising that when we're starting to see the first signs of that, people are surprised.

That doesn't necessarily mean-- we don't have a monopoly on what will happen, obviously, but that doesn't mean that beings won't right themselves after some period of time.

We'll have a more normal time than a flat recessionary environment.

But, expect a bunch of very severe consequences that are reported in the fourth quarter.

I think we'd expect that to happen, and I'm just sharing my view with you.

Thank you very much.

Ladies and gentlemen, thank you for your participation in today's conference.

This concludes your presentation.

You may now disconnect.

Good day.