KKR & Co Inc (KKR) 2009 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to KKR's Third Quarter 2009 Conference Call.

During today's presentation, all parties will be in a listen-only mode.

Following management's prepared remarks, the conference will be open for questions.

(Operator Instructions)

This conference call is being recorded.

I would now like to turn the conference over to Jon Levin, Treasurer and Head of Investor Relations for KKR.

Jon, please go ahead.

Thank you, Operator.

And welcome, everyone, to KKR's Third Quarter Conference Call.

I am Jon Levin, Treasurer and Head of Investor Relations for KKR.

I am joined on today's call by Paul Raether, a Member of KKR, Scott Nuttall, a Member of KKR, and Bill Janetschek, also a Member, and our CFO.

We refer you to our website, www.kkr.com, for important information, including a press release and financial report, detailing the financial results of KKR and KKR Guernsey, the entity formerly known as KPE.

We would like to remind everyone that the following prepared remarks contain forward-looking statements regarding future events and the future performance of KKR, and representatives from KKR may make additional forward-looking statements in response to your questions.

These statements do not guarantee future events or performance; therefore, undue reliance should not be placed upon them.

KKR does not assume any obligation to revise any forward-looking remarks that may be made in today's release or call.

Also, please note the risk factors in the consent solicitation document on our website.

I'd like to make a few comments before we begin today.

First, the KKR-KPE business combination closed on October 1 so, for the third quarter ended September 30, which we are covering on today's call, the businesses were not yet combined.

In the press release, however, we have provided information on both KKR and KKR Guernsey on a standalone basis, and are prepared to discuss both entities' performance on this call.

We also provided some directional information in the press release to help investors think about the impact of the combination on our numbers.

We will report the business on a combined basis when we report the fourth quarter.

Second, we've received a lot of investor inquiries about guidance.

And as I have talked about with many of you, there are elements of our business that are quite predictable, such as management fees and monitoring fees, and there are other elements that are quite hard to predict, such as transaction fees, carry generation, investment income, and the fundraising environment.

In light of this, we will not be providing guidance or specific earnings estimates; however, we have tried to organize our disclosure such that analysts and investors can more readily analyze and make judgments about our prospects.

As we have stated in conversations with many of you, transparency is important to us.

We added elements to our disclosure this quarter, and we welcome your feedback on further modifications and improvements.

We also hope that our efforts to increase analyst coverage of KKR will enhance the investor-education process.

Lastly, let me address the prospect of the US listing.

As announced previously with the business combination, we have the ability, as early as February of 2010, to seek a U.S.

listing.

We believe the prospects of a US listing are quite attractive, and we'll be considering this seriously.

The US listing entails registering with the SEC, which can be a several-month process.

As appropriate, we will keep investors informed with respect to notable events on this front.

With that, I will turn the call over to Scott.

Thank you, Jon, and thank you, everyone, for being on the call today.

My name is Scott Nuttall.

I'm a Member of the Firm, and a member of the Firm's Management Committee.

My responsibilities at KKR include helping to oversee our Asset Management and Capital Markets businesses, as well as our Client and Partner Group.

With Bill and Jon, I will be talking to you quarterly about how we see the environment and how our business is developing.

Last quarter, we characterized the environment as one of stabilization.

We talked about calming capital markets and improving liquidity.

There are now signs pointing to a stronger outlook for the economy to accompany this stabilization.

GDP in the US grew in the third quarter, and economic conditions strengthened in Asia, particularly in China and India.

While Europe displayed continued weakness, the rate of decline slowed.

Stronger market conditions complemented this improved economic picture.

Global equity markets continued to rise, and debt markets showed further strength in the quarter.

Transaction activity was strong, including M&A, debt issuance, and equity offerings.

In summary, the capital markets proved to be accessible for the right businesses, against the stronger economic backdrop.

But let us be clear -- while there are signs of improving trends, we have concerns about the sustainability, given certain troubling elements, such as high unemployment, the fragility of consumer and business confidence, continued weakness in the housing market, as well as the one time nature of much of the government stimulus.

These issues cause us to remain cautious.

Overall, however, the improving conditions are positive for our business.

Turning to the investment environment, I will start with what we are seeing in our private equity business.

There is a common misconception that private equity firms cannot put capital to work when capital markets are not conducive to large public to private transactions; that is not the case.

Private equity investing is cyclical.

But we have found that with the right experience and approach, you can invest capital, and make money throughout the cycle.

The key is adapting your investment approach to suit the investing environment.

When capital is plentiful, we are cognizant of what usually follows.

Looking to history, capital was plentiful in the late 1980s, the late 1990s, and in 2005 through 2007.

This type of environment is usually followed by some form of credit dislocation and economic recession.

This was certainly true of the late 1980s, which were followed by the credit issues and recession of the early 1990s; the late 1990s, which were followed by the bursting of tech and credit bubbles in the early 2000s; and the 2005-to-2007 period, which has, of course, been followed by the credit and economic pain we have all been experiencing.

In periods with plentiful credit, we have been able to buy large-scale businesses, oftentimes by taking public companies private.

It is important to understand that in our Private Equity business we are in the illiquid, long-term investing business.

So, if you were going to buy businesses in the robust part of the credit cycle, it is important to identify businesses with strong global and diversified franchises, significant recurring revenues, flexible and long-term capital structures, and meaningful operational improvement opportunities, as we expect to own these businesses through difficult credit and economic periods.

In these environments, the targets are larger, the leverage higher, and the hold periods tend to be longer than average.

We find that this part of the cycle affords us the ability to buy great companies that are unavailable in other parts of the cycle.

It is in this part of the cycle that we have bought companies like Beatrice, Duracell, Amphenol, and Willis -- great global enterprises, with long-term potential, and the ability to weather economic downturns that often follow.

In the most recent robust credit environment, we again focused on buying companies we thought could weather and take share during the ensuing storm -- companies like Alliance Boots, HCA, EFH, First Data, Biomet, and Dollar General, to name a few.

While people know us best perhaps for our large transactions, over 90% of our more than 170 private-equity transactions have been smaller than $5 billion, and almost 80% have been smaller than $2 billion.

This is, in part, the case, because we have often invested in those parts of the economic cycle where credit was less plentiful.

In an environment like today's - with constrained credit availability and a tougher economic backdrop - we tend to make smaller investments.

Instead of public to private transactions, the focus in periods like this shifts to non-core subsidiary sales from corporations dealing with liquidity issues, growth equity investments, and rescue capital investments.

These investments tend to be made at lower valuations, with less leverage and more equity.

This is the type of environment that has defined many of our private equity investments over the last 33 years.

We are seeing investment opportunities like these today.

Recent examples include our acquisition of Oriental Brewery, discussed last quarter, and the pending acquisition of TASC from Northrop Grumman.

We invested $1.1 billion of equity across six transactions in our private equity business during the third quarter, and have $14.2 billion of dry powder remaining.

To deploy this capital, we will remain focused on sourcing through our solid relationships, industry knowledge, and geographic flexibility, as well as utilizing our operational proficiency.

While we carefully consider and diligence an active pipeline of new private-equity investment opportunities, we remain highly focused on our existing private equity portfolio.

As we noted last quarter, we believe that, because of this focus, and also the strong franchises in which we invested, most of the companies in our private equity business are performing better than most comparable companies in their industry.

During the quarter, we marked our private equity portfolio up by 18.5%, comparing favorably to the MSCI World Index, which rose 17.6% during the quarter, and the S&P 500 Index, which rose 15.6%.

The value increase was driven by a 41.4% mark-up in our holdings of publicly listed companies, and a 14.3% markup in our private company holdings.

Publicly listed companies represent approximately 20% of the fair market value of our private equity investments, as of September 30.

Given our cautious outlook, we remain vigilantly focused on cost control, operational improvement, and expanding market share at our portfolio companies.

We think that an improving economic environment will show significant operating leverage in many of our businesses.

We also remain highly focused with respect to our companies' capital structures.

As a result of our firm-wide effort to extend debt maturities, over $13 billion of debt in our portfolio companies has been refinanced so far this year.

Last quarter we talked about the Avago IPO, completed on August 5, and, recently, Dollar General completed its own IPO at $21 per share.

As of yesterday, Dollar General stock closed at $22.87 per share, which compares to our cost of $8.75.

A substantial proportion of the offering's primary proceeds were used to pay down debt.

Typically, the majority of the proceeds generated from IPOs of our portfolio companies are primary in nature, and used to de-leverage the business.

Once we take a company public, we typically remain shareholders for many more years.

While we cannot predict when future realizations will occur, we will continue to focus on monetizing private-equity investments when opportunities present themselves.

Now, turning to our Asset Management business -- KKR Asset Management is, today, focused primarily on investing third-party capital in the global capital markets, and we are seeing exciting opportunities to invest capital and grow this business.

When deploying capital and making investment decisions across any of our businesses, the rigor of our investment process benefits, as appropriate, from the entire resource and intellectual base of KKR, including the industry knowledge and relationships of executives across the firm.

During the first half of the year, we primarily invested in senior secured term loans and high yield securities when prices were significantly dislocated.

While we continue to invest capital in these parts of the capital structure, we are also looking at opportunities available in mezzanine, structured securities and distress.

We have built the business to manage investments up and down the debt capital structure in performing, stress and distressed opportunities that we know well.

Today, we manage over $13 billion in our Asset Management business, and are actively deploying capital with a strong focus on generating attractive risk adjusted returns.

As the credit markets have improved this year, we have seen significant improvements in the value of our credit investments.

Using the portfolio of our publicly traded permanent-capital vehicle, KFN, as example, as of quarter end, our corporate-debt investment portfolio had an estimated fair value of 83% of par.

In comparison, our portfolio was marked at 74% of par as of June 30, and 59% of par, as of December 31, 2008.

The private pools of credit capital we manage in our Asset Management business have shown similar strengths.

Similar to our private-equity portfolio, we are pleased with the fundamental performance of the companies in which we hold investments.

We went through a difficult period of mark-to-market pain, which we believe was driven more by market technicals than credit fundamentals.

As the technical pressures in the credit markets abated, the fundamental quality of our credit holdings generally proved strong.

Our portfolio today is well positioned in names we know and like.

Finally, I would like to spend a minute on the capital raising environment and the strategic priorities we have for our business.

The capital raising environment is tough.

Investors remain cautious.

Many are undergoing a review of optimal capital-allocation strategies, and assessing long-term goals.

That means it is a longer selling period, and we need to be patient.

We are investing in our relationships globally, and have tripled the size of our Client Relationship team over the last two years.

We are focused both on servicing existing investors, and finding new solutions to meet their needs, as well as cultivating new investor relationships.

We continue to build our Asset Management business, including a specific focus on mezzanine and other credit strategies.

This business has over $13 billion in assets under management today, and we believe it will be a growth engine for us going forward.

We are seeing interesting opportunities today in separately managed accounts, and are having meaningful conversations with investors, focused on capital solutions, distressed, and other multi-product mandates.

As shown by their active involvement in the pending TASC acquisition, and the recently completed Dollar General IPO, we continue to build our KKR Capital Markets business, which provides us with proprietary access to capital, allows us to market KKR products directly to our investors and close relationships, helps our portfolio companies, and generates incremental economics for the firm.

In the TASC transaction, our Capital Markets team was able to place the entire mezzanine tranche of the capital structure.

Our access to capital provided the seller with differentiated certainty of closing.

In the Dollar General IPO, our broker-dealer was one of the three book runners that led the offering.

These are just two of the several transactions we participated in since the beginning of this year.

It has been a difficult 18 months for the markets and the economy; however, we have remained true to certain core principles: one, protecting our investors' capital, and positioning investments to generate a return; two, servicing our investors; three, retaining, motivating and attracting talented people; and, four, staying focused on what we know and do well.

As a result of these priorities, we are able to focus on the long term -- making investment decisions by thinking over the long term, improving assets over the long term, and building our firm in an integrated fashion for the long term.

Thank you, and now I'm going to turn the call over to Bill.

Thank you, Scott.

As Jon mentioned earlier, for this quarter, we are still reporting the two businesses, KKR and KKR Guernsey, on historical standalone basis.

Starting with the financial results for the fourth quarter ended December 31, we will report results of KKR and KPE on a combined basis.

As of September 30, 2009, KKR's assets under management were $54.8 billion versus $50.8 billion, as of June 30, 2009.

AUM grew 7.9% over last quarter, primarily due to the increase in the fair market value of our private equity funds.

For the three months ended September 30, 2009, KKR's fee-related earnings were $61.5 million, compared to $54.3 million for the quarter ended June 30, 2009, and $106.2 million for the three-month period ended September 30, 2008.

Fee-related earnings increased over the second quarter, primarily as a result of higher transaction fees due to increased investment activity, and higher monitoring fees as a result of the termination payment on one of our monitoring agreements with a portfolio company.

Fee-related earnings decreased from the prior year, primarily as a result of an increase in compensation expense as a result of certain non-cash accrual of performance based compensation in both of our segments, and higher than normal management fees in the 2008 period, resulting from the reversal of accrued management fee refunds in the amount of approximately $40 million.

Typically, when our funds are above cost, we defer 20% of our management fees, and receive higher carry upon realizations; however, when our funds are below cost, we accrue 100% of the management fee for GAAP purposes.

During the third quarter of 2008, certain funds switched from positive to negative, which resulted in us picking up deferred management fees from prior periods.

For the three months ended September 30, 2009, KKR's economic net income was $656.6 million, compared to economic net income of $366.9 million for the three months ended June 30, 2009, and an economic net loss of $465.6 million for the three months ended September 30, 2008.

Economic net income increased over the prior quarter, primarily due to the increase in the fair value of our private equity funds.

Economic net income is more volatile than fee-related earnings, and is driven significantly by the mark-to-market changes in our valuations.

The vast majority of the economic net income this quarter is related to unrealized gains.

I would like to note that economic net income can be earned even when the remaining assets in a fund are below cost, due to the reversal of previously recorded mark-to-market losses.

It is important to note that ENI reported for periods prior to October 1, 2009 does not reflect certain adjustments as a result of the business combination, which includes items such as the exclusion of the 40% of the carry allocated to KKR principals, the exclusion of the capital invested by the general partners of KKR's private-equity funds before the completion of the business combination, and the exclusion of the economic interests associated with the KKR 1996 fund.

The impact of these adjustments would have reduced ENI by approximately $300 million for the quarter ended September 30.

So while the $657 million of reported ENI for the quarter would have been reduced by these adjustments that total $300 million, keep in mind, had the businesses been combined for the third quarter, we would have picked up the earnings from the assets on KPE's balance sheet, which total approximately $475 million for the quarter.

So the $657 million would have been reduced by approximately $300 million, to $357 million, but then would have been increased by approximately $475 million, to total approximately $830 million.

A full discussion of the adjustments associated with the business combination is included in the consent solicitation statement available on our website.

I also want to highlight a few changes we have made in response to investor requests to enhance our disclosure.

First, we introduced a new metric called fee paying assets under management.

Fee paying assets under management represents assets where we are entitled to, and receive a fee.

The main contributors to the difference between fee paying AUM and AUM are the mark-to-market changes on our PE funds and certain of our CLOs where we are entitled to collect a fee, but are currently rebating those fees back to vehicles we manage.

Second, we provided a more detailed breakout of our fee revenues.

We split advisory fees into transaction and monitoring fees, and we are now showing both of those items gross of fee credits returned to our limited partners.

We now report those fee credits as a separate line item.

As a reminder, fee credits are created by agreements with our limited partners of our traditional private-equity funds to share a portion of any transaction and monitoring fees received from portfolio companies.

Fee credits exclude fees that are not attributable to a fund's investment in the portfolio company, and generally amount to 80% of gross transaction and monitoring fees after fund related expenses are recovered.

We invested $1.1 billion of private equity capital during the quarter, which was more than the entire first half of the year.

We have $14.2 billion of dry powder across our private equity funds, and significant liquid investments that we are managing in our credit business.

We have disclosed details on our private equity funds in our press release, showing the size of the funds, the remaining cost, fair-market value and remaining uncalled capital.

We hope people find this information helpful.

I will turn the call back over to Jon, who will cover some of the key highlights of our balance sheet, before we open up the call to Q&A.

Thank you, Bill.

As of September 30, 2009, the net asset value of the KKR balance sheet, formerly the KKR Guernsey or KPE balance sheet, was $3.5 billion, compared to $3.0 billion at June 30, for an increase of 15.8%.

Based on the pro forma fully diluted units outstanding of $683 million, this represents NAV of $5.09 per unit.

Net assets increased predominantly due to unrealized gains during the quarter.

The balance sheet's investment portfolio totaled $3.8 billion net of related financing, consisting of private-equity fund investments of $1.6 billion in six KKR private-equity funds, co-investments of another $1.6 billion in 13 companies within these funds, negotiated equity investments of $0.4 billion, and a $115 million investment in a non-private equity fund.

Turning to liquidity for a minute -- I'll provide a few key pieces of data.

As of the quarter end, we have cash at KKR of $207 million, and drawn debt at KKR of $203.2 million.

KKR Guernsey and the KPE Investment Partnership have combined cash of $759.6 million, and drawn debt of $949 million.

The revolvers at KKR and the KPE Investment Partnership mature in 2013 and 2012, respectively.

Subsequent to the quarter end, we repaid $150 million of outstanding borrowings under the credit facility at the KPE Investment Partnership.

Remaining commitments at KKR and the KPE Investment Partnership, both of which will be obligations of the company on a go-forward basis, totaled $1.3 billion.

We expect to fund these commitments using cash on hand, as well as cash from realizations that may occur in the future.

We expect these capital commitments to be drawn over a multi-year time horizon.

Lastly, I wanted to remind everyone that our distribution policy, on a go-forward basis, is to pay off substantially all of the cash, fee, and carry earnings on a quarterly basis, but to retain capital that relates to our balance-sheet investments, other than making necessary tax distributions.

Due to our distribution policy that segregates fee and carry earnings from the balance sheet earnings, as well as the significance of our balance sheet on our overall valuation, we expect to continue to disclose meaningful data on our balance sheet going forward.

Thank you for all your attention.

We can now open the line for questions.

(Operator Instructions)

We'll hear from Sanjay Sakhrani, with KBW Investment Bank.

Hi.

Thank you.

I was wondering if you could just walk us through some of the moving parts related to the Dollar General transaction.

I'm just kind of thinking ahead to the next quarter, and wondering what we should expect as far as the movement through the P&L.

Thank you.

Hi, Sanjay.

This is Bill Janetschek.

With regard to KKR's balance sheet, we have roughly $310 million of cost in Dollar General, which equates to roughly 35 million shares.

As of September 30, the value per share was $16.625 per share.

Based upon the offering price of $21, you would see an uplift in value on our balance-sheet assets of roughly $155 million.

As it relates to cash, the sale-generated cash proceeds to our balance sheet of roughly $36 million -- the math is that we, again, own about 35 million shares; and we sold approximately 5% of our original position.

Sanjay, just to add to what Bill said, I think the other elements that you think about from a P&L perspective is, clearly, KKR Capital Markets played a role in that transaction.

And you can read about that around the prospectus from Dollar General.

So, that'll obviously affect our fee income for the quarter.

And the other element is the fund has an investment in Dollar General; that's in the 2006 Fund.

So you'll see that, obviously, run through the P&L as well, to the extent that the closing price at the end of the quarter is different from where it was at 9/30.

To that point the 2006 Fund, which has an investment in Dollar General -- the increase in value from September 30 to the offering price of $21 was an increase of roughly $500 million.

So if you use 20% as a rough guide as what the general partner would receive on that that's approximately $100 million in ENI for the Dollar General transaction alone in the fourth quarter.

And, I guess -- would any of this factor into the distribution you guys potentially make?

No, it would not.

The reason being is remember, any sales that take place on our balance sheet, we're going to more or less keep and reinvest in the business.

With regard to the 2006 Fund, we are actually -- right now, the fund is under water.

So although there is a gain for our fund, there is no flow-through with regard to any cash economics to the general partner at this time.

The only thing you'd see, Sanjay, is just to the extent that there was fee income from the transaction, either because of the capital-markets role, or the termination of the monitoring-fee arrangement; to the extent that that picks up in cash -- that would be part of the regular distribution.

Okay.

All right, great.

And, then, Scott, you kind of mentioned capital-raising is tough.

I was just wondering how we should think about assets under management for the remainder of this year, and kind of into next.

Should we expect kind of the growth rate that we've seen, or stable for the near term?

Thanks.

Sure.

A lot of the assets-under-management number, Sanjay, is going to be driven by the value of the portfolio.

So the biggest movement will come from whether the portfolio is marked up or down in the fourth quarter -- not able to speculate on that, but that's going to be subject to FAS 157, which we've talked about in the past.

The environment is tough for fundraising.

We, as I've said, have invested meaningfully in our Client Relationship team, and are developing strong dialogues.

Our hope is that we will be successful raising capital over time -- not going to be able to give you a sense as to whether it'll happen in Q4 or later.

But we're finding that at least the relationships we're developing are developing in a nice way.

Okay, great.

Thank you.

Thank you.

And the next question will come from Michael Loungo with Liberum Capital.

Hi.

Good afternoon, guys.

Michael.

The adjustment to ENI -- the $300 million adjustment in this quarter -- can you go over what that analogous adjustment would be in the first two quarters of 2009?

Hey, Michael.

It's Bill Janetschek.

Just to give you a rough idea -- the adjustment in the second quarter would have been approximately $175 million.

And for the nine-month period, it would have been approximately $400 million.

Okay.

I'm sorry.

For the nine-month period, what was that number?

$400 million.

$400 million.

Okay.

And that's -- Michael, just so you have it that obviously implies that the first quarter goes the other direction, and that's just because of where the mark were for that quarter.

Right.

We actually marked down in the first quarter, and up in the second and third.

Okay -- right.

And on the US listing I guess right now, the common units of KKR that trade in the Netherlands can only be acquired by qualified purchasers.

How will that change on the US listing?

Anyone will be able to buy, if we were to pursue that path.

And, then, just one final question, on the carry [pool] that's taken -- could you just go over again what -- how that applies to the legacy KPE balance sheet i.e., is there any carry pool taken on any of the investments in the legacy KPE balance sheet?

Hey, Michael.

This is Bill.

With regard to the KPE balance sheet, it was a co-investment.

There will not be a 40% adjustment taken through the carry pool; however, for the investments that KPE has made on its balance sheet through the traditional private-equity funds, it will be an adjustment with regard to the 40% carry pool.

And that will roll off over time, Michael, because, going forward, we'll be making our investments on the balance sheet as a GP.

So that's just for the current investments that are through the fund.

Okay, perfect.

Good.

Okay, thanks, guys -- good quarter.

Thanks.

And the next question will come from George Krijgh with Rabo Securities, Inc.

Good afternoon.

Two questions -- one is about the deferred fees for KFN.

What condition should be met for those deferred fees to be earned by KKR?

That's the first question.

And the second question also relates to the KBW question about the capital-raise.

I read that Blackstone has some plans to raise capital in China.

Is that interesting for KKR as well?

Okay, well, Scott, why don't you take the first question on KFN?

Sure.

Thanks, George.

On the deferred fees for KFN, I think it was announced that the fees have been deferred into the fourth quarter.

The Board is going to have to take a look at whether it deems it appropriate for those fees to be paid, which determination we would expect would be made later this year, or some time early next year.

But that's subject to the determination of the independent Board of KFN.

And with respect to your second question on a China fund, we've obviously seen reports in the press of -- to varying degrees.

We're focused today on investing our Asian Fund, which is our private-equity fund in that part of the world.

We have no current plans around a China fund, but we're studying the market.

Okay, thanks.

And about the listing in Amsterdam -- is it already determined that you will skip the listing here and only have US listing, or that is still not known?

Sure.

George, it's Jon.

Hi, Jon.

As we've talked about it -- it's still -- we still haven't made that determination.

I think what we've talked about and consistent with the remarks made up front is we think that some of the elements of improved liquidity, and the ability to reach a larger investor base in the US listing are highly attractive, and that's something we'll look at.

And in terms of a split listing, as you and I have a talked about in the past, that's still something that we'll have to make a final determination on when we decide what we're going to do around the US.

Okay.

Thank you very much.

Thank you.

(Operator Instructions)

We'll hear next from Alex Blostein with Goldman Sachs.

Hey, guys.

Good afternoon.

Hey, Alex.

Hey, Alex.

Just want to stay with Dollar General for one more second -- to start this question you guys discussed the ENI impact of about $100 million, even though the funds are still below cost.

Is that just by virtue of reversing some of the net loss-sharing agreement, as well as the reverse of the clawback, or why would that $100 million be flowing through ENI?

So, to just be clear, with Dollar General, specifically -- because the 2006 Fund is, right now, under water, and we haven't realized any gains, there won't be, actually, no impact with regard to Dollar General in the fourth quarter of $100 million.

I was just using that as -- by example.

Okay, makes sense.

And, then, on the monitoring fees, it's my understanding that there's $60 million or so of an accelerating monitoring fee that's supposed to come through, I guess, between you and a few other sponsors.

How, exactly, would that work and, I guess, what the split on that will be between you and the funds?

What will happen -- and you're right, with regard to the monitoring fee -- is that whatever termination of a monitoring fee we receive, we will look to the fee applicable to our funds, and the fee applicable to syndicated equity.

And, obviously, as I mentioned earlier, the fee applicable to our funds -- we had captured 20% of the economics as the GP.

And with regard to the fee applicable to [syndicated] equity, we would actually receive the full 100%.

Got you.

And that number, again, was at $60 million total, with a pro rata share for you, or what's the number for you guys?

That's right.

That's for the whole sponsor group.

So we would get our pro rata share, there, according to our ownership in the business, roughly.

Understood.

Okay.

Then, briefly want to switch to the fixed-income business.

You guys have done a decent job of growing the business, obviously, from scratch, really, a couple years ago.

Any sort of pipeline, or any idea on what kind of assets you guys are looking to bring into the business for the next year or so?

Sure, Alex.

It's Scott speaking.

Hi, Scott.

Hey.

A couple different areas of focus -- one is mezzanine.

Yes.

Where we've, I think you know, built a team, and are focused on the mezzanine market.

In addition to that, we are spending a significant amount of time on the -- what we refer to the capital solutions and distressed market, and talking to a variety of potential investors about giving us mandates in that area.

Those are the two areas of intense focus today.

More broadly, we are having conversations with institutions around multi-product separate accounts, which may include several of our strategies in the fixed-income business.

Okay.

And, then, I believe, earlier in the call, you mentioned that there is a chance that some of the earlier rebates on CLOs might come back as -- can you help us size that?

Is that the entire roughly -- and I think there's like $5 billion or so in CLOs that you're currently not earning any management fees on -- and what does that depend on?

So how is that decision being made?

Sure.

And just to clarify, I don't -- if we made that comment, I don't -- I think you might have misunderstood it, because I don't think we -- we're making that point at all.

I think what we tried to do this quarter was, obviously -- with fee-paying AUM, and for that public-market segment.

So, we show $13 billion for the whole segment and $6 billion of fee-paying AUM.

And the large difference there of the $7 billion is the fact that we're only earning fees on $1 billion of the $8 billion of CLOs that we manage.

And so, in terms of -- the reason that's always been that way is just because we effectively use the CLOs, as you know, Alex, to finance the equity of other vehicles we manage.

So if we were to charge fees when -- especially in a period of time when credit markets were down that would be incremental fees to the investor.

So in terms of whether that changes going forward, that's not something we'd speculate on right now.

Understood.

Then, the last question that I had -- I know Blackstone recently talked about eight or so portfolio companies that they are considering, at least partially, IPO-ing.

Is that -- do you guys have any similar update in terms of how many portfolio companies are being considered for potential IPO?

Hey, it's Scott.

No.

I mean, I think our focus is on creating value in our portfolio.

And what we find is if we're able to do that successfully, the exits tend to take care of themselves.

So, we're not going to speculate on a number or timing.

But our hope is that if we can create value, and the markets cooperate, there will be more to do over time.

Great.

Thanks a lot for taking my questions.

Thank you.

And the next question will come from Michael Kim with Sandler O'Neill.

[Dirk Cohen], filling in for Mike Kim.

First, I know you guys had mentioned that, historically, when you IPO your portfolio companies, it's usually for de-leveraging purposes.

Are you getting any push-back from LPs in terms of a lack of distribution?

Hey, it's Scott again.

Thus far, no -- I mean, I think the LPs understand that this is typically the way that we operate.

Most of our limited partners in our private-equity funds have invested with us for an extended period of time.

We're very fortunate that we have longstanding relationships with our investors.

And they understand, having been through this with us before, over several decades, in some instances, that we tend to take the proceeds of the IPO and de-lever the balance sheet of the Company.

And our goal and plan is that that's the lowest the stock price will ever be, and that we will be able to, over time, execute secondary offerings into improved performance.

So I think LPs, generally, would like to see cash back, but we haven't heard a lot of noise on that front recently.

And they do understand our general practices, as we discussed.

Okay.

My next question is -- in terms of allocations to private equity, more broadly -- I know you had said that the cap-raising environment was tough, but could you provide any more color on that?

Sure.

I think it is tough.

This year, it was much more -- earlier this year, it was very tough.

So I'd say that the first half of the year, our investors and institutions, in general, were very cautious and concerned about the environment and their own liquidity.

What we've seen as we've kind of headed into the third and fourth quarter is an improvement in the outlook, and people feeling like they really want to get capital to work over time.

So while it is tough, it's better than it was -- seems to be on a good trajectory, but we're a long way from a good fundraising environment.

So it's better than it was, but a long way to go.

And what we're focused on is creating value.

And if our portfolios perform well, we find that we're able to raise capital.

Okay.

And, then, on the public-market side, can you walk us through the reasons for the decline in AUM?

I mean, I would have thought the assets would be up, given the market environment during the quarter.

Sure.

You're --

From what quarter?

From June 30 to September 30 is the -- AUM increased by roughly $4 billion.

In the --

I think you're focused on the public-markets bridge, which shows a slight decline from the second quarter to the third quarter.

Right.

Oh, I'm sorry.

That's it.

And you're definitely right about your guess there that the mark-to-market in most of the portfolios that we manage were up.

That was offset by, effectively, the distribution of one of the CLOs that we manage as part of the broad restructuring of KFN.

So the mark-to-market was up, and then it was offset by one of the CLOs going away.

Right.

One of the CLOs that went away accounted for $1 billion of "value," that wasn't [managed] prospectively.

But it is fair to say fee-paying AUMs did increase in the quarter.

Okay, and my last question -- what's your outlook for carried interest, looking out to next year and beyond, particularly given where you stand with potential clawbacks and net loss-sharing provisions?

I think the best way, really, to look at that -- and we've gone kind of to some lengths here to help with the disclosure on this front -- is on page seven in the press release, where we really show each of the funds, and we show where they are from a remaining-cost and from a fair-value standpoint; and we show that on a fund-by-fund basis, which is how carry is calculated.

And, clearly, there's been significant progress in terms of that fair value, relative to its cost, over the past couple of quarters, as we've marked the assets up.

And so that's really the way to think about it is -- ultimately, you need that fair value to get above that cost, and then you need to see some realization.

But in terms of how and when, that's not something we'll predict, other than to say that we're focused day in and day out on getting the operations up.

And so that when capital markets or other exit opportunities present themselves, we're ready to go.

Okay, great.

Thanks, guys.

Thank you.

Your next question will come from Doug Rothschild with Scoggin Capital.

Hey, guys.

Congratulations on a nice quarter.

Can you talk a little bit about the banking business and the brokering business; what you guys have built so far, and what you see that -- in a few years right now?

Hey, Doug.

It's Scott Nuttall.

The Capital Markets business is a firm we really started building in 2006 and, in earnest, in 2007.

The focus of the business, really, is to help our portfolio companies access capital, and to provide access to capital for new transactions that we are working on.

And so the business, today, is participating in both the equity and debt portions of the capital structures of our company -- both existing companies, and for new transactions.

And I think, as you think about how the business will develop, we will continue to build the business in that manner, and have it participate in what is going on at more of the portfolio companies, and more of the new deals that we're working on, with a particular focus on expanding the efforts to a greater degree into Europe and Asia.

So I think increasing penetration of the portfolio, and the firm's overall efforts, will be the primary development.

And those fees that you earned on that business like on the Dollar General IPO, what line item will those be in?

Prospectively, they're going to be in the principal segment.

So right now, we have two segments; the private segment and the public segment.

Once the combination has taken place, we will actually show a third segment, which we'll report our broker activities, as well as our principal investments.

Okay.

And, then, on the distributions, do you anticipate making those quarterly, semi-annually, annually?

We are anticipating making quarterly distributions.

Okay.

And last question -- your -- the investments, when you guys consolidate the $3.5 billion in net assets from KPE, I guess, next quarter, how should I think about those investments in terms of value to the GP; to KKR?

Is that a net value, or is there something I should be deducting for taxes or for compensation?

And the growth that you guys reported this quarter of about $500 million -- is that net, or is there compensation that has to be taken out of that?

Sure.

This is Jon.

The $3.5 billion of net asset value of what was formerly KPE's balance sheet now, effectively, just becomes the balance sheet of the combined company.

So that $3.5 billion is a net-asset-value number.

And the combined business or -- us all as shareholders will, effectively, own the gains on that income, and the -- and those assets on a go-forward basis.

To the earlier question that was asked the only effective deduct from that would be a 40% carry allocation, but only as it relates to the investments on the balance sheet or on KPE that are through the funds -- so not the co-invest or some of the other investments, but only that that's through the funds.

And that'll actually go away over time, as we recycle that capital.

But, to be clear, the $3.5 billion today there's no carry due on it, given the cost is closer to $4.5 billion to $5 billion.

So if the -- one way to make it be clear -- if the whole $3.5 billion were sold today, there wouldn't be any compensation load, per se, against it.

Or taxes -- it would be just net value to KKR?

Right -- no taxes at the public-company level.

Obviously, it would just be people's individual taxes.

You can think about it as the net balance sheet of the firm.

And, I'm sorry.

I didn't understand your point about some other assets that you haven't accrued the 40% that are on the balance sheet.

What are those?

Right.

So if you look at the balance sheet of $3.8 billion of investments, $1.6 billion is investments through the traditional private-equity fund.

And the remainder is co-investments in specific deals, or in a couple other smaller investments -- opportunistic investments.

So the only point I was making is that the 40% carry allocation -- that only applies to those investments that are actually through the traditional private-equity funds, if they end up generating a carry.

Okay, but they -- and how do I split the -- oh, I see what you're saying.

So, out of the $3.5 billion net, only $1.6 billion of it is traditional; the other $2.2 would never have a carry on it, even above the cost.

That is correct.

And this is Bill.

And to Scott's point earlier, the cost on those assets right now is $1.8 billion.

So we'd actually --

Of the $1.6 billion -- okay.

And, then, above the $1.8 billion, you would report the net of compensation growth in that number, on the balance sheet?

Correct.

Okay.

Thank you, guys.

And the next question will come from Sam Martini with ECI.

Good afternoon, guys.

A question for you, maybe, on just a clarification -- when we look at the public markets, and we look at the private markets, and we look at the two entities -- and let's just assume, for simplicity's sake that KKR comes out of Amsterdam, and comes to the New York, or some other exchange here that's easier and more liquid stock -- how would you -- what's the strategy in terms of asset growth as you gauge the opportunities available to KKR as a firm?

How do you differentiate the opportunities available to KKR & Co., as opposed to KFN?

Because it seems that one is a private equity, and one is a more public-markets play.

But I'm -- I think I'm getting confused.

And I was wondering if you could just clarify for me how you view the strategy and the delegation of which entity is going to pursue which path.

Sure.

Sam, it's Scott Nuttall.

Thanks for the question.

Just to be clear in terms of the way that we think about it -- in the KKR entity that we're talking about today, the Private Markets business and the Public Markets business are really the GPs of the funds.

And they're advising various different clients, and getting paid a fee and a carry for that advice and work.

So, it's really kind of the asset-management entity that relates to our underlying fund.

If you, then, look within the public-market segment of our business, what you'll find is that there are several pools of capital that that business is managing today.

Some of those pools -- most of those pools are private pools of capital.

And one of those pools, KFN, is a public permanent capital vehicle.

So it's -- they're a bit distinct.

So what I would tell you is, as it relates to the firm and the subject of this call, KKR benefits from KFN to the tune of the management agreement that it has in place with the KFN public entity.

So KFN pays KKR a management fee and a carry, as a manager of the vehicle.

So as we think to build KFN, what we would be doing is, potentially, if we were to grow that vehicle, raise capital at that entity.

And, theoretically, what that would do is that would lead to incremental economics for KKR's public-markets segment.

So, for KKR, you're saying, it's sort of six of one, half a dozen of the other, because the fees are the fees, regardless of what entity they sit in?

Correct.

That's right.

And as you've thought about -- you've talked about growing the Mezz business, the Capital Solutions business -- I'm certain there's a litany of incremental paths that you discuss all the time.

How do you think about where those most logically fit?

I think it depends on the mandate of the -- that the investor has entrusted us with.

So, as an example, there are mezzanine investments -- to go back to your questions sitting in with the KFN vehicle.

There are also mezzanine investments sitting in some of the separate accounts that we manage for private pools of capital.

So, it really depends on the mandates.

We will, over time, I would guess, raise capital focused on capital solutions and distress.

And there may be different separate accounts or funds that we manage that will have, as part of their mandate, investing in capital solutions or distress.

So the way to think about it is we, as a firm, will develop an investing strategy.

And, then, we may have a single pool of capital, or multiple pools of capital, that will invest in that strategy.

Okay, so there -- so, at the end of the day, each opportunity is going to be evaluated individually.

There is no sort of rule of thumb to think about -- this is going to be in the realm of responsibility for this entity, as opposed to this other group of opportunities are going to fall over in this other entity.

Well, I think the way it works in practice -- and you have to understand we're a registered investment advisor, so we have specific allocation policies and procedures in place.

So we will have a series of separate accounts that we're managing, and a series of funds that we're managing, all of which have different strategies and allocations of capital across those sub-strategies.

And so when we find an investment that we like in a particular market, if it's a leveraged loan, there's an allocation procedure across the relevant pools of capital; same is true of mezzanine, distressed, high-yield, et cetera.

So, it's really subject to those allocations' policies and procedures across the platform.

But at the end of the day, KKR & Co.

is basically indifferent?

KKR & Co., as the GP of those entities, is basically indifferent because it is getting paid economics by each of those underlying accounts or funds -- correct.

Thank you very much for the clarification.

Thank you, Sam.

And with no further questions, I'd like to turn the call back to our speakers for any additional or closing remarks.

Thank you, Operator, and thank you, everyone, for your participation on today's call.

And, ladies and gentlemen, that does conclude today's teleconference.

Thank you all again for your participation.

Company Disclaimer - This transcript has not been verified for accuracy or completeness by the Company.