KKR & Co Inc (KKR) 2019 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to KKR's Third Quarter 2019 Earnings Conference Call.

(Operator Instructions) Also, this call is being recorded.

I would now like to hand the call over to Craig Larson, Head of Investor Relations for KKR.

Craig, please go ahead.

Thanks, Norma.

Welcome to our third quarter 2019 earnings call.

Thanks for joining us.

As usual, I'm joined by the Bill Janetschek, our CFO; and Scott Nuttall, our Co-President and Co-COO.

We'd like to remind everyone that we'll be referring to non-GAAP measures on the call which are reconciled to GAAP figures in our press release, which is available on the Investor Center section at KKR.com.

And the call will contain forward-looking statements which do not guarantee future events or performance, so please refer to our SEC filings for cautionary factors related to these statements.

And like previous quarters, we've also posted a supplementary presentation on our website that we'll be referring to over the course of the call and I'm going to begin by referencing Pages 2 and 3 of that deck.

In summary, we're pleased with our fundamentals and how we're positioned looking forward.

Focusing on Page 2 of the deck.

Most importantly, the earnings power of the firm continues to grow nicely as can be seen by the charts on the left-hand side of the page.

Our AUM is now $208 billion, while book value is $18.22 per adjusted share.

As you know, we're big believers in the power of compounding and we've been seeing that power through our book value.

Over the last year, book value per share grew 9%, well ahead of equity and fixed income indices.

And over the last 3 years, we've compounded book value per share 15% each year, all while paying out dividends alongside of this.

Looking at the top right-hand chart on Page 2. Management fees have grown steadily, up 16% year-over-year on an LTM basis due to asset growth, in addition to a modest increase in the blended management fee rate in both private markets and public markets.

And after-tax distributable earnings totaled $1.5 billion for the trailing 12 months.

It's worth noting that strong investment performance has helped drive the 46% increase in the net unrealized carry figure on our balance sheet year-to-date, despite generating over $800 million in realized carried interest over the 9 months.

This increase in the net unrealized carry balance should bode well over time in terms of realized carry and, in turn, our distributable earnings.

Turning to Page 3 of the deck, you'll see some additional detail on our financial results.

And please remember as you look through these that we do include equity-based compensation charges within our operating expenses as well as within our after-tax distributable earnings as we report our results.

After-tax DE came in at $389 million for the quarter or $0.46 on a per adjusted share basis.

Our compensation margin came in right at that 40% level, and our pre-tax distributable operating earnings margin was a healthy 51%.

Fee-related earnings for the quarter were $250 million, and on an LTM basis are $1.1 billion.

As we evaluate our performance, there are 5 things we're focused on: we need to generate investment performance; raise capital; find attractive new investments; monetize existing investments; and finally, use our model to capture more economics for everything that we do.

I'll update you on our progress on the first 2 and Bill will cover the remaining 3.

Let's start with investment performance.

I'll be referencing Page 4 of the deck.

So beginning with private equity, the private equity portfolio in its entirety appreciated 12% over the trailing 12 months.

This compares favorably to the MSCI World that appreciated 2.4% on a total return basis.

Where we saw notable performance was in our flagship private equity funds as you see on the page.

The blended performance across these funds, these are our more recent vintages that have been investing for at least 2 years, was quite strong, appreciating 26% driven by Asia III.

Our flagship real estate and infrastructure funds appreciated 21% and 9%, respectively, while the commodity environment pressured our benchmark energy fund.

Energy Income and Growth declined 15% on an LTM basis but performed well ahead of its benchmark.

In credit, our alternative and leverage strategies have both appreciated 4% on a blended basis.

Turning to fundraising.

Capital inflows totaled $5 billion in the quarter and $29 billion over the last 12 months.

We held the first close in the successor to our technology growth strategy and had inflows across our European PE, real estate, credit and impact strategies as well as a number of credit strategies, including CLOs and leverage credit.

Capital inflows over trailing 12 months have contributed to $57 billion of dry powder at quarter-end.

Importantly, we also have approximately $20 billion of capital commitments that become fee-paying when they are either invested or enter their investment period at a weighted average rate of around 110 basis points providing direct line of sight towards future management fees.

And with that, I'll turn it over to Bill.

Thanks, Craig.

I'll start with the third thing we need to do well, which is invest in new opportunities.

Deployment this quarter in Public Markets was $2 billion, largely coming from our Private Credit strategies.

Year-to-date, Public Markets deployment is $6 billion, up over 20% compared to the first 9 months of '18.

In Private Markets, we invested $2.4 billion in the quarter driven by private equity investments in Europe and the U.S. in addition to $400 million across our real estate strategies.

Through the first 9 months of 2019, Private Markets deployment is $10 billion, up 8% year-over-year.

Now let's turn to monetization activity in the quarter.

As reported in our monetization update in late September, activity this quarter was driven by both strategic transactions and secondary sales.

We had just over $500 million of realized carried interest and investment income this quarter.

We had our final exit in the quarter in both PRA Healthcare and National Vision at a blended multiple of 5x our cost.

And we're beginning to see realized carry from Public Markets with $15 million in Q3 and $10 million last quarter.

Finally, the last thing we need to do well is use our model to capture greater economics for our investors and the firm.

In Capital Markets this quarter, transaction fees totaled $84 million.

Now periodically, we'll have transactions that can lift capital markets fees in a quarter.

We had 2 of those in the third quarter of last year that contributed over $100 million.

While we didn't have any transactions of this size this quarter, overall fundamentals remained quite healthy.

Fees this quarter were generated across approximately 50 transactions, 25% of revenue in the quarter and year-to-date came from third parties and a little over 40% of revenue this quarter was generated from outside the U.S. And year-to-date, that percentage is 55%.

So we're continuing to see diversification across the Capital Markets platform.

Finally, let me give you a little color on monetization activities as we stand here today.

Transactions that have closed or have been signed and are expected to close should contribute $925 million in realized carried interest and realized investment income in Q4 '19 or early 2020.

Of that $925 million, we expect $375 million to close in Q4, and it's only the end of October.

Turning to Page 5 of the supplement, you'll see a summary of our core fundamentals across the 5 categories.

The power of our model is evident in our results, and we are quite pleased with the momentum we're seeing.

And with that, I'll turn it over to Scott.

Thanks, Bill, and thank you, everybody, for joining our call.

Our results this quarter is straightforward, so I'm going to be brief.

Last quarter, I discussed the powerful combination of more mature track records and an expanding investor base.

As a reminder, 18 of our current 22 investment strategies were launched in the last 10 years.

And in our experience, it takes about a decade to start to achieve scale, so we have a lot of growth ahead.

But it is also important to remember that as we were building new investment businesses over the last 10 years, we've been simultaneously building our distribution capabilities.

The results have been encouraging, with our investor base growing from 275 investors 10 years ago to over 1,000 today.

But we still have a long way to go.

We see an opportunity to expand distribution to all channels: institutional, insurance and the retail and high net worth market.

As we continue to generate investment performance, mature our track records, expand our distribution footprint and create new products, we see significant growth ahead.

I want to put this in perspective.

Please take a look at Page 6 of the supplement.

There, you will see that our management fees have grown 50% over the last 3 years from about $800 million to $1.2 billion.

Over these 3 years, organic new capital raised exceeded $90 billion.

This was done with a significant number of first-time funds and a young distribution effort.

Now look at the right-hand side of the chart.

This shows the strategies where we expect to be fundraising over the next 3 years.

You will see the list includes our 3 largest funds: Asia PE, Americas PE and Global Infrastructure, which aggregated $30 billion in their last vintage.

But it also shows there's over 20 other strategies we expect to have in the market.

So given what's coming to market plus our ongoing distribution efforts, if the fundraising environment cooperates and we continue to perform, we believe we can grow our management fees by at least 50% again over the next 3 years.

With that, we're happy to take your questions.

(Operator Instructions) Our first question comes from Alex Blostein of Goldman Sachs.

So Scott, maybe on the last point that you mentioned starting on Slide 6. Definitely encouraging to hear the 50% management fee growth over the next 3 years, but how should we think about the incremental margin on that growth given the fact so much of the investments, I guess, are already in place?

Thanks for the question, Alex.

To be clear, I said at least 50% is what we're expecting if the market cooperates.

And I think as we've been talking about for the last several years, you're right, we've been investing in bringing on new teams and a lot of that investment was coming ahead of the revenues.

So we would expect there to be positive operating leverage over that period of time.

We will continue to be making investments in a variety of new products and other initiatives for the firm, including building out distribution further.

But even net of those new investments, we'd still expect the operating margin to increase somewhat.

Great.

That's helpful.

And then my follow-up for Bill or Craig.

Looking at $375 million and the $925 million in carry and realized income that you guys highlighted in 4Q and then into early 2020, does that include any sort of utilization from Fiserv on the margin loan arrangement you guys have set up?

Or any of that monetization activity will be on top of the numbers you provided?

Alex, this is Bill.

Embedded in the $925 million is some portion of an expected Fiserv dividend in the fourth quarter.

But keep in mind, that's only 1 monetization out of a total of 11 when I count.

And so when you think about at $925 million, 2 were already secondaries that have already been completed, which is SoftwareONE and Trainline.

But more importantly, we have several strategic sales that have been signed that are expected to close in between now and Q1 of 2020, and that's both in the U.S. and in Japan and Korea.

So a lot of opportunity from a monetization point of view.

Yes.

And Alex, it's Scott, just appreciate the question on Fiserv because we've been getting this question a bit from our shareholders.

And I think people have noted that the merger of Fiserv and First Data has caused Fiserv's stock to increase materially this year.

To be clear, from our standpoint, we think the market is still just beginning to understand the opportunity from that merger, and we don't think the upside is yet reflected in Fiserv's stock price.

And so to your point, we did put in place a modest margin loan, so we could return some capital back to our investors but keep the upside on those shares, because we think there's quite a bit remaining.

And our next question comes from Robert Lee of KBW.

So maybe following up on kind of the fundraising, and I know you've -- maybe, Scott, you've talked about this in the past.

But can you update us on where your LP base is now and maybe the success you have had so far in kind of getting investors invested in kind of multiple platforms?

Just trying to see some updated numbers.

Sure.

Rob, just thanks for the question.

I think we continue to make good progress.

So we're now a bit over 1,000 investors.

On average, the cross-sell is about 1.9 products per client.

But as you know, when you're meaningfully expanding your investor base that tends to happen in one product at a time.

So even today, we still only have 41% of our investors that are in more than one product.

But just to give you a sense for the opportunity, the top 70 average 4.5 products.

So we think that there's a significant amount of opportunity not only to expand the investor base further but also that cross-sell statistic.

And as we said in the prepared remarks, I think there's opportunity institutionally.

There's also opportunity in insurance.

We've gone from $8 billion to $26 billion from the insurance market since 2015.

There's also opportunity in the retail and high net worth market.

We've gone from $9 billion there to $35 billion since 2015, and those are areas where we see significantly more opportunity ahead.

So those are some stats for you, but long story short, we still see a lot of upside.

Great.

And maybe a follow-up for Bill, a little bit of a modeling question.

But the tax rate, it was pretty low, and I know it's hard to forecast quarter-to-quarter.

But if I look at the balance sheet, it looks like tax assets have come down pretty -- you've utilized a bunch of tax assets the last several quarters.

Should we be thinking that this changes, maybe accelerates the path to kind of a more normalized tax rate that you're maybe realizing some of the assets a bit faster?

Rob, that's a good question and one that we spend a lot of time on each quarter.

But based upon what we had originally said was where we thought that the tax rate was going to be in the high single digits and walk its way all the way up to 21% from the Federal corporate level over 5- to 6-year period, that's still going to be the case.

However, to your point and it's a very good point, to the extent that we actually have monetizations that are accelerating and we're using that tax asset up in years 1 and 2, we might (inaudible) tax rate and you could see it then go up.

So that's why you could see that, last quarter, our effective tax rate was 15%.

This quarter, for a whole host of different reasons, it was actually only 9%.

Again, I've said this probably on every call, it's incredibly hard to model out, but I would still stick with something in probably the low teens for the next year or 2. But again, we'll try to make sure that you have as much information as us and we'll update that number probably just about every quarter.

Our next question comes from Bill Katz with Citi.

First one would be just, could you provide -- I know performance is very strong in the quarter -- and this is Ben Herbert on for Bill.

Just maybe some portfolio company health update, just metrics quarter-over-quarter and year-over-year.

Yes.

Sure, Ben, it's Scott.

I mean the bottom line is it's been pretty consistent.

So last 12 months, about 10% revenue growth in the global PE portfolio and about 10% EBITDA growth.

And it's been in that area for the last several quarters.

Great.

And then a follow-up would just be how are you thinking about the fixed dividend policy currently and just kind of in light of pretty substantial cash build on the balance sheet year-to-date?

No news at this moment.

It's a topic we've historically addressed on the fourth quarter call.

But as we think about the dividend level, remember that we have a disposition towards compounding, so retaining capital to invest back in the firm is always going to be important to us and we want to preserve flexibility through share repurchases.

That said, we should see an upward bias to the dividend over time.

So the punchline is, stay tuned to next quarter.

Our next question comes from Craig Siegenthaler with Crédit Suisse.

So just first on Asia, can you update us on your strategy to broaden out the Asia business outside of the upcoming expected raise in the Asia buyout fund, including infrastructure, private debt and real estate?

Sure.

It's Scott.

So thanks for the question.

You're right, a big priority for the firm this year was expanding our Asia platform outside of private equity, and the summary is that we're on track.

We have launched efforts across infrastructure, real estate, credit and we're also going to be launching an effort in technology growth as well with an Asia focus.

So think 4 new businesses focused on Asia, leveraging the footprint we already have.

So you'll see us add people to be able to do that, but we're leveraging the team on the ground in the 8 offices we have in the region.

And just a CFO question here for Bill on the FRE math.

I'm just wondering, in the quarter, how much base comp and noncomp expense was allocated against investment income in the quarter?

Craig, it's the same methodology that we've been using.

If you take the fee income over the total income and then you take our operating expenses, backing out stock-based comp, and whatever that percentage is, is the amount allocated to fee-related earnings.

You take a fee income minus that number and that's how you get to the fee-related earnings number.

So nothing's changed this quarter.

Our next question comes from Mike Carrier of the Bank of America Merrill Lynch.

Maybe, first, just overall investment performance is strong across the board, ex the energy you pointed out.

How have some of the trade concerns impacted your performance or not in the Asia strategy, because it doesn't look like it has?

Or has it increased the demand in some of the private strategies given that some of the public markets have been more impacted?

Mike, it's Craig.

Thanks for the question.

Yes, I think when we look at -- and again this is something that we've looked at very closely as you'd expect, and the investments we've made in China have tended to be very focused on domestic consumption and not really subject to the whims of trade negotiations.

So when we look across the overall private equity portfolio, revenues as well as costs, the exposure to us is in that low single-digit range on both of those.

And I think there is -- on the flip side of that coin, I think you're right, there can be opportunities resulting from what's going on from the trade front as it relates to investment opportunities.

So I think the overall impact on the portfolio was one that is pretty small, and at the same point of time, we're trying to find ways to pursue opportunities if there are companies that have decided to exit the region.

All right.

That's helpful.

And then just as a follow-up.

You guys mentioned some of the fundraising in the growth equity area.

Just more curious whether it's investment opportunities or fundraising traction, like how that's been going with some of the recent like IPO issues relative to some of the private market that are out there in the growth space.

Look, I think there are 2 aspects of that.

There's the performance question within health care growth as well as the TMT Growth.

And the statistics there on the first funds is a very positive answer on both of those.

Again, we're fundraising on TMT, so that's -- again, you can certainly get a sense by looking at the fund table for the returns that we've seen.

But I think it's been a very pleasant experience to date as it relates to our LPs.

And on the IPO market question, look, I think a couple of thoughts overall.

First, look, the IPO market is a market of windows, and it always has been and they're going to be times when that market feels more accessible than others.

So remembering that current dynamics overall don't really feel all that out of the ordinary, and when investors are pushing back, I think from our standpoint, that can be a sign of a healthy functioning market.

I think the second point, to be clear, the IPO window is not shut.

So at the end of last week, we priced the IPO SoftwareONE, a European portfolio company of ours.

That IPO raised approximately $700 million.

It was a sizable IPO.

The book was well oversubscribed, and the stock traded up 3% in its first day of trading.

So investors may be more selective at the moment, but again, the window is not shut.

And then, Mike, just to add a little bit of flavor -- and this is not really related to the growth portfolio but in the framework of the firm overall.

I think when we're asked about the IPO market, the underlying question often relates to the outlook for future monetizations and, ultimately, whether the cupboard is bare and if we're going to be able to generate future DE.

And from that standpoint, what's a bigger factor here actually isn't the IPO market, remember we're typically not selling stock in an IPO, it's the significance as well as the performance of the public holdings as a whole.

So from that standpoint, the publics are about 25% of the PE portfolio as a whole.

Year-to-date, the publics are up 45%, so performance has been very strong.

Now a statistic like that is always going to be helped when your largest holding is up over 80%.

But just to be clear, performance is actually quite broad.

So if you take First Data/Fiserv out of that math, the publics are still up 27% through 9/30.

So again, performance overall has been quite good.

Yes.

The only thing I would add, Mike, is that we have seen some pushback on a couple of Australian IPOs.

But to Craig's point, it's a global market and I wouldn't extrapolate from that.

There is a positive.

To the extent we do see the IPO market difficult, it probably means it's less fun to be a public company.

And so that means there's more investment opportunities for us across the firm.

And our next question comes from Glenn Schorr of Evercore.

It might be related to Mike's question.

If you look at your macro team, the great Henry McVey, if you look at their outlook of something, whether it be a '01-like recession formally or something like a slowdown in '11, '12, his comments are interesting about a tipping point, underscoring that low interest rates are not going to be the help for you to credit creation or valuation.

So that's a long-winded lead-up to the question of how does that factor into both your capital deployment and capital markets activity.

And I'll do my follow-ups separate.

Thanks, Glenn.

Thanks for giving a nod to the great Henry McVey.

I will -- I'd tell you, here's what we're seeing.

I'd say we see basically an industrial recession, we think, now in the U.S. and Europe to a great extent.

Consumer and services look okay, but we're watching the data closely.

So to be clear, we are expecting whatever's coming to be kind of a more normal recession.

But we're seeing a bit of a rolling recession right now, we believe, really starting with the industrial sector U.S. and Europe.

Asia is a bit of a different story.

So we do see opportunity coming out of all of this.

But as we think about -- to your question on deployment, as we think about how to invest into it, what we're seeing is there's more volatility in the market, there's more dispersion in the market.

So we continue to see a have/have-not market, and to some extent, a have/have-not economy.

And so as a result of that, where we're spending time is where the market is undervaluing companies.

So we're finding complexity is punished, any change in outlook is punished and the market overall is quite skittish.

And so what we're seeing as a result of that is, at the 5-foot level where we operate, there's more interest in companies going private.

There's interest from companies that want to make themselves simpler, so they're selling noncore assets.

That's the global trend we continue to see.

Our strategy continues to be buy complexity and sell simplicity.

And we think that's the strategy that works as we go into this part of the cycle, which we think is going to be far more of a normal recession than what happened last time.

Very clear.

Just a quick follow-up.

When you look -- you talked about the statistics that you mentioned earlier on the penetration rates and the number of products.

I'm curious about how your relationship management function is going to change to improve those numbers and sell into your current LP base, while you have 20-plus new strategies being rolled over the -- or raising capital, some of them brand new, over the next 3 years?

Like, in other words, you raised $94 billion in the last 3 years, should we be thinking, semi-steady markets, that's a lot more over the next 3 years given all the additional strategies and the penetration rate efforts?

Well, I think if you look at the last 3 years, we did not have the big 3 funds that I mentioned, it's on the right-hand -- upper right-hand side of Slide 6, in the market in the way we will over the next 3. So that's the first thing I would say.

So all else equal, you'd expect that to have a positive bias on the $90-plus billion number.

And you're right, on the bottom right-hand side, there's more strategies than we have the last 3 years as well.

So I think what we're saying to you is, all else equal, we would expect to exceed that number for the next 3 years if the market cooperates.

I think in terms of your question about relationship management, part of that is that our relationships continue to mature and broaden.

And we actually have an approach from a marketing standpoint where the relationship management team that calls on an investor actually is calling with all KKR products in their bag, and then they're supplemented by product specialists that can help go deeper on any individual fund or strategy.

And so we think we're set up to be able to increase our cross-sell stats because you don't have to have 5 KKR people be successful in 1 client.

You need one to build trust and then to deliver the rest of the firm.

And I think, Glenn, if you think the way that works day to day, so for our first 35 years, we probably only had a dialogue with a handful of people at a pension plan, and that was very private equity focused.

And if you think of our team now, that dialogue will have expanded to the liquid credit professionals, the alternative credit professionals, within real assets, infrastructure, real estate credit and, equity, energy, et cetera.

And at the same time, having a dialogue above that with the CIO as it relates to potential partnership opportunities.

So I think there's an aspect of that that actually, as Scott said, building like and trust.

And that cross-sell focus is something that, when it works, can happen very naturally.

Yes.

And I think the other thing that's -- it's hard to give you a number on this, Glenn, but I think is a positive bias.

Back to the point I made about insurance and retail, kind of 4 years ago, roughly $17 billion of AUM, now $60 billion.

And we continue to invest in distribution in those areas, and I think, hopefully, that's a positive bias to the numbers as well.

And our next question comes from Patrick Davitt of Autonomous.

Just to double-check, the $375 million you expect in the fourth quarter, would that include kind of the normal pop in -- the normal 4Q pop in Public Markets incentive fees?

No.

So that does not include incentive fees at all.

What we're talking about is realized carry and realized balance sheet income.

It has nothing to do with incentive fees.

Awesome.

And then on the, I guess, flagship private equity LTM performance, I think you highlighted Asia III as being a big driver of that.

I guess could you kind of walk through maybe some more specifics into what drove such a big move in that number from last quarter?

Patrick, it's really broad performance across the portfolio.

But the -- I think the broad trends we're seeing within Asia continues.

And again, the experience with LPs continues to be, one, I think that's very positive, and that number as a whole as it relates to Asia III specifically.

And Patrick, one other thing to keep in mind when you're thinking about going from the second quarter to third quarter and that big pop, when I was talking earlier about the $925 million to come either in the fourth quarter or the first quarter, 3 of those positions were strategics in Asia III.

And so we've had them properly marked from a valuation point of view, but we did a little better on each of those exits and that's what actually really drove the big increase in the IRR quarter-over-quarter.

So if the -- that 26% you're showing includes 4Q '18, it's fair to assume that's probably going to come up pretty significantly again when that rolls off?

No.

So what happens from an IRR perspective, Patrick, is that as we got close those strategic sales happening, that was embedded in the valuation that was done as of September 30.

And so you actually saw some of the uplift in those positions in the third quarter.

So on a mark-to-market basis, a good amount but not all of it is embedded in our valuation.

That being said, the monetization will take place in the fourth quarter and first quarter.

And our next question comes from Michael Cyprys of Morgan Stanley.

Just curious, your perspectives on purchase price multiples today on new transactions as we look across the industry.

I think on average, we're seeing new deals at around 11x EBITDA in terms of purchase price multiples, which is a little bit above where we were pre-crisis, which some folks cite as riskier here late cycle.

But arguably, the mix and growth profile are perhaps a little bit different today.

So just curious your perspective looking under the hood there on that for the industry and then also for KKR specifically.

Mike, let me start there, and then Scott or Bill may chime in.

I think one of the things that's interesting when you look at private equity deployment is, look, we continue to see more dislocation, more opportunity and better risk/reward outside of the U.S. And part of that is exactly what you're talking about, which is valuation-related.

So if you look at total returns over the last 5 years, returns for S&P is more than 2x that of the MSCI Asia Pacific.

And so, overall, we are seeing greater value overall in the region.

And so if you look year to date in terms of investment activity, again, it's interesting, but dollars invested in Asia together with Europe are actually over 2.5x that of the U.S. And again, I think what you're seeing is, given overall valuation levels, a pretty disciplined approach as it relates to U.S. investments most specifically.

And just to give you a little more color, on the $2.4 billion that we've invested this quarter in Private Markets, only $400 million was in the U.S. And so to Craig's point, a majority of the capital that we're deploying right now is certainly outside the U.S. And when you look into what's in the pipeline right now on transactions that are signed but yet to close on the buy side, again, the amount in certainly U.S. private equity is a small component of the capital that we're deploying.

Great.

And just as a quick follow-up question, maybe just on the comp ratio.

Curious your latest thinking around that, I think, was around 40% in the quarter at a time when the realizations were a little bit higher off the balance sheet.

So just curious, given the 50% growth in management fees you're expecting over the next 3 years, how would you expect the comp ratio to trend from here?

Michael, this is Bill.

I'll echo what Scott said earlier.

As we continue to grow the platforms and as we continue to raise more capital, and to the extent that those management fees go up, you will see margin improvement.

That being said, when you look at where we are in 2019 and probably the early part of 2020, we have a lot of R&D going through our P&L as we continue expand a lot of the platforms, especially in Asia.

So I would say that, that 40% comp ratio that was reported in the third quarter is probably going to be close to that over, certainly, the next couple of quarters.

But again, as we continue to grow our business, there will certainly be operating improvement and you should see margin expansion.

And our next question comes from Chris Harris of Wells Fargo.

For the flagship funds to be launched over the coming 12 months, I just want to clarify, does that mean when you expect to start the fundraising or when those funds could potentially go live?

So I think we'll launch all 3 of those in the coming 12 months, Chris.

And then the question in terms of when they're going to be turned on is ultimately going to be a deployment question.

And so we'll have to play it by ear.

So I think in terms of your models, as you think over the next 12 to 18 months, again, knock on wood, should be helpful from an AUM standpoint, and then the fee-paying aspect will depend when those funds get turned on.

But just to be clear, Chris, I think the expectation we shared with you before in terms of the trajectory for management fees incorporates when we expect them to turn on as opposed to when the dollars are raised.

So it's when they hit revenue.

And the one subtlety about those 3 large flagship funds that we're talking about, the management fees get turned on based upon committed capital and not invested capital.

Got it.

Okay.

And just a quick one on the quarter.

What drove the upside to the guidance you previously gave on gross carry and realized investment income?

Between the time we actually sent out the press release, which was probably a week before quarter end, we ended up having some activity that was unknown to us that we that week earlier.

And so I would take that as nothing but good news.

And our next question comes from Devin Ryan of JMP Securities.

Just a follow-up on some of the commentary on the distribution investments you're making.

You spoke, I guess, to some of the specifics on the institutional side, but you alluded to and, I guess, referenced investments on the retail and high net worth effort.

So I'm just curious what's specifically incremental there?

I guess, reading between the lines, it sounds like maybe there's some new initiatives that maybe haven't been launched yet.

I'm just trying to think about what exactly that is, and also expectations for fundraising in that channel.

Devin, it's Scott.

So great question.

So there's 2 channels that we were referring to.

One is the insurance market where we've seen a significant amount of growth and interest in what we're doing.

And I'd say if you back up even to a higher level for a second, given we have $17 trillion or $18 trillion of negative rates in the world, we are seeing a number of investors in all channels struggle with how to make money in this environment.

So as we travel around the world and talk to a number of different types of investors, the basic theme is it's very hard to make money in a negative rate world.

We believe we need more alternatives in order to achieve our objectives.

So I'd say before this dynamic and this more recent significant increase in negative rates, we had a lot of wind at our back.

I would say the velocity of the wind at our back as an industry has only increased as a result of that dynamic.

As part of that, there's the institutional fees which we talked a lot about the historically.

There's insurance, which we really began to focus on really in earnest over the course of the last 4 or 5 years.

And we're seeing significant early returns both in our regular way products but also structured products that are packaged in a way that it's easier for insurance companies to invest in.

So think about taking a portfolio of alternatives, using structure and trying to figure out how to create investment-grade notes off the back of a portfolio.

Those are the types of things that we're doing in the insurance space that we think is broadening the investor interest in what we're doing, aided by that overall backdrop.

So that $8 billion going to $26 billion in insurance the last 4 years is with just a few people in our firm focused on this space.

So the point is if we increase the staffing in that area and increase the global focus on the insurance base, we think there's significant upside for their regular way and structure.

And in the retail and high net worth, that space is, to give you a sense, year-to-date, 22% of the capital we've raised has been from the retail and high net worth market.

And as we've been tracking that stat over the last several years, we've kind of steadily seen that statistic go up from about 10% in '15 and now the last several quarters in excess of 20% of the money we're raising from retail and high net worth.

That is across virtually everything you're going to see on the right-hand side of Page 6, both individual product format and then, in a lot of cases, we're basically packaging several different types of strategies together and selling it to the high net worth and retail market.

There, again, we have a very small team internally, which we think with incremental investment in the size of that team, that number of $35 billion in that channel, which is up from $9 billion 4 years ago, we think that $35 billion could go up meaningfully from here.

And a lot of it is just incremental staffing and incremental focus on this space.

At the same time, we're finding investor interest in what we do on the increase.

Okay.

Great color.

And then just a quick follow-up on your AUM today that's above cost but not yet paying carry interest.

I'm not sure if I missed it, but can you just give us an update of kind of where that stands and then how we should think about the trajectory of those assets contributing to carried interest longer term?

Devin, this is Bill.

We actually put it out in the supplement in the first quarter.

That information is pretty much in line with where it was in the first quarter.

So no new news.

To the extent that we see an acceleration in that number, we will certainly update you.

Yes.

The only thing I would add, Devin, is last summer we did in Investor Day, and Joe Bae and I put up a slide that kind of showed that we believe we're under-earning our carry relative to our potential.

And that slide shows, we've been at about $1.3 billion, give or take, at that point of trailing 12 months carry, and we saw an opportunity for that to go to $2 billion or more over the next 5-ish years.

And so we still think that is the case.

Actually, we're more confident in that outlook today than we were last summer.

And even more broadly, at that event, we put up numbers for book value per share and total distributable earnings out 5 years and 10 years.

So the chart in there that actually lays out that outlook for the firm, with what we thought were pretty conservative assumptions at that time.

And there, again, I'd tell you that we're more confident in being able to exceed that outlook today than we were even at that date last summer.

And just very specifically on Page 13, when you take a look at the investment table, right now, we've got carried interest eligible mandates of approximately $130 billion.

That's actually up from the $123 billion that we reported in the first quarter.

And again, just to give you a reference, the number in the first quarter was about $88 billion, so $88 billion of the $123 billion was eligible to start receiving carry.

And so like I said, that number is certainly a little north of that.

But certainly, with more capital being raised, we expect that number to go up based upon, obviously, performance still being there.

And our next question comes from Brian Bedell of Deutsche Bank.

Just most of my questions have been asked, but maybe just a follow-up on the insurance side.

Just in terms of that growth dynamic -- and thanks, Scott, for the comment on sort of the efforts there.

Do you expect that to be more of a blocking and tackling type of increase in penetration?

Or is it possible you might have some strategic agreements that could really step that insurance penetration up dramatically in the next couple of years?

We're pursuing both, Brian, I'd say, definitely on the blocking and tackling.

And a number of the relationships that we developed in the insurance space, I would put more in the strategic partnership category where they're now invested with us across multiple of different products in scale.

And our cross-sell statistics across the insurance base are actually better than the firm as a whole despite the youth of our -- relative youth of our effort in the insurance space.

So I think it's definitely blocking and tackling.

And we have done some things quietly on the strategic front that is also supplying the firm with AUM, and we continue to spend time looking at doing more of those.

And some of them maybe modest, but we're looking at some bigger moves as well.

Far too early to be able to predict if anything happens, but I think you should expect both blocking and tackling and strategic efforts on the front.

Okay.

Okay, that's helpful.

And then just a clarification on the $375 million and the $925 million, that includes the Fiserv margin loan in 4Q and then into 1Q?

And is that roughly expected to be nearly the same level as it was in 3Q?

Not going to really comment on very specific granular numbers on that, other than to say that there will be an additional distribution made to our LPs in order to return capital to them.

And the offshoot of that is more carry being paid to the firm as well as some balance sheet realizations.

I'd say those numbers include what we expect to do on the margin loan over the next few quarters.

And I'm currently showing no further questions.

I'd like to turn the call back over to Mr. Craig Larson for closing comments.

Thank you, Norma.

Thank you, everybody, for joining our call.

Please feel free, of course, to follow up directly with any follow-ups, and we'll talk to you next quarter.

Ladies and gentlemen, thank you for your participation.

This concludes today's conference.

You may now disconnect.

COMPANY DISCLAIMER - THE COMPANY HAS NOT VERIFIED THE ACCURACY OR COMPLETENESS OF THIS TRANSCRIPT.