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Kohlberg Kravis Roberts & Co. (KKR)

Q2 2012 Earnings Call

July 27, 2012 10:00 am ET


Craig Larson - Director of Investor Relations

William J. Janetschek - Member and Chief Financial Officer

Scott C. Nuttall - Head of Global Capital and Asset Management Group and Member of the Management Committee


Howard Chen - Crédit Suisse AG, Research Division

Michael S. Kim - Sandler O'Neill + Partners, L.P., Research Division

William R. Katz - Citigroup Inc, Research Division

Christoph M. Kotowski - Oppenheimer & Co. Inc., Research Division

Matthew Kelley - Morgan Stanley, Research Division

Marc S. Irizarry - Goldman Sachs Group Inc., Research Division

Roger A. Freeman - Barclays Capital, Research Division

Robert Lee - Keefe, Bruyette, & Woods, Inc., Research Division



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Welcome to KKR's Second Quarter 2012 Earnings Conference Call. [Operator Instructions] I will now hand the call over to Craig Larson, Head of Investor Relations for KKR. Please go ahead, sir.

Craig Larson

Thank you, Cynthia. Welcome to our Second Quarter 2012 Earnings Call. Thank you for joining us. As usual, I'm joined by Bill Janetschek, our CFO; and Scott Nuttall, Global Head of Capital and Asset Management.

We'd like to remind everyone that this call will contain forward-looking statements, which do not guarantee future events or performance. Please refer to our SEC filings for cautionary factors related to these statements, and we'll also refer to non-GAAP measures on this call which are reconciled to GAAP figures in our press release.

This morning, we reported quarterly economic net income of $546 million compared to $747 million last quarter and $315 million in the second quarter of 2011. This translates into $0.74 of after-tax, economic net income per unit, more than double what we earned in the second quarter of last year.

The big driver of our strong results was a 5.1% increase in the carrying value of our private equity investments this quarter, which outperformed the S&P 500 and MSCI World Indices by about 800 and 1,000 basis points, respectively, and an even greater appreciation in our balance sheet investments, which were up 7% this quarter and 16.5% year-to-date.

Over the first 6 months of the year, our private equity portfolio has appreciated by about 14.5%, meaningfully ahead of the S&P 500, which is up 9.5%, and the MSCI World Index, which has increased approximately 6% year-to-date.

We're happy to review with you 3 exciting pieces of news for the firm. The first of these is the strategic partnership between Walgreens and Alliance Boots, in which Walgreens will acquire a 45% stake in Boots, creating the first global, pharmacy-led health and well-being enterprise. This transaction is a great reminder of how meaningful strategic exits can be for us, and while our work is certainly not done here, we think this is a wonderful first step. Bill is going to spend a few minutes reviewing the impact that this transaction has on our financials.

In addition, there are 2 strategic events this quarter, which we're excited to review. First, as announced in June, we've agreed to acquire Prisma Capital Partners, a leading provider of customized hedge fund solutions. And second, this morning, we've announced the formation of a partnership with Stone Point Capital to help further our third-party capital markets efforts. Scott will provide more detail on both of these strategic initiatives and their growth opportunities.

Finally, before we move on, I want to touch on something that we introduced in our last earnings call. We've decided to provide additional detail around our distributable earnings metric. As we have defined and reported this metric historically, it has excluded income generated from the balance sheet since it has been our intention to reinvest that capital in the business.

However, as we've seen some investors focus on this metric across the industry, distributable earnings under our historical definition did not represent the total cash earnings profile of our franchise, as any realized gains from the $5 billion of investments on our balance sheet would not be reflected in our reported distributable earnings.

To help better frame this, we've introduced 2 new lines in our press release. You can find them at the bottom of Page 6. The first is net realized principal investment income, and it includes realized investment gains from our principal investments, net of any realized losses, plus dividends and net interest income. This, combined with our legacy distributable earnings, equals the second new line, total distributable earnings. With the new disclosure, we hope to reflect the overall cash earnings profile of our enterprise on a comparable basis with others in the industry.

And with that, I'll now turn it over to Bill to walk you through the drivers of our performance and give an update on netting, and then we'll have Scott discuss the environment and what we've been focused on across our different business.

William J. Janetschek

Thanks, Craig. Good morning, everyone. Our assets under management was asked $61.5 billion as of June 30, down slightly from both last quarter, as well as the same time last year. Our AUM was positively impacted by the appreciation of our investments and the capital we've raised in the quarter. But this was offset by large distributions to our LPs as we continued to monetize our private equity portfolio.

We ended June with over $47 billion of fee-paying assets under management lagged from last quarter, but up 2% from a year ago. The year-ago increase was driven by capital raising in both the Private and Public Market segments. These figures do not factor in almost $11 billion in capital raised through closings to date from our first close of our North America Fund; our first close in Asia 2, which occurred this quarter; the portion of the Texas Teachers' mandate that has not yet been allocated to specific funds; and some other vehicles that pay fees only when capital is invested.

Turning to our segments. In Private Markets, fee-related earnings were $36 million, down slightly from both last quarter and last year. We do not have any termination payments this quarter, which are generated by portfolio company exits and can therefore cause spikes in our fee-related earnings. In the first 6 months of 2011, our fee-related earnings were augmented by $40 million of net termination fees associated with Seven Media, HCA and Nielsen, and this is the main reason for the year-to-date decline of fee-related earnings.

The 5% write-up in our private equity portfolio outweighed lower fee-related earnings in the quarter, translating into ENI of $175 million. This is up over 35% from the second quarter of 2011 but down from last quarter when our funds were up 9% compared to 5% this quarter.

Touching on Public Markets. Fee-related earnings were $12 million compared to $15 million last quarter and $21 million last year. The decline versus the prior period was driven by lower incentive fees, which more than offset any increase in management fees as we continue to grow our fee-paying capital in this segment.

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