Brian Lawson - Senior Managing Partner and CFO
Brookfield Asset Management Inc. (BAM) CIBC 12th Annual Eastern Institutional Investors Conference Call September 18, 2013 2:00 PM ET
Well, ladies and gentlemen, welcome to the Brookfield Asset Management session of today's agenda. We are very pleased to have with us Brian Lawson, Senior Managing Partner and CFO of the Company. Brookfield Asset Management is one of the largest global asset managers, and one of Canada's largest companies. So Brian, thank you very much for sharing your time with us, and I was hoping we could kick it off with you just describing the company in your own words to our audience members.
Sure. So I will take a couple -- maybe a couple of minutes to do that, and maybe talk about things. Just by way of information, we had our Investor Day in New York yesterday. So it has been about three hours going through things, those slides will be up on our website and the transcript. We have a limited amount of time here, but we spend a lot of time talking about things more broadly yesterday. So if any of you are interested, feel free to tap into that stuff, and that should hopefully help us as well. But just maybe, just high level -- just starting up. And I will focus a bit more just on what we have been trying to achieve and what we have achieved over the past short while.
As a global asset manager, we had built our franchise around focusing on real assets. [We range] from real assets such as office properties, infrastructure, renewable energy, transmission lines, railroads, things like that, which are assets that -- types of assets that we think are well in demand by investors these days, particularly given a climate of increasing interest rates, inflation, and economic growth. These assets have demonstrated characteristics to create increasing revenue streams, which are a great hedge against increasing interest rates and inflation and as an asset manager.
So we have large operating platforms and more than 20,000 employees across the Group managing these assets, and the way that we can, I will say, package them up as products or clients, is that it's through either private institutional funds, like a classic private equity fund that a Blackstone would offer, or through listed public entities, like Brookfield Infrastructure Partners or Brookfield Renewable Energy Partners, which is a little bit more akin to, but not the same as an MLP structure in America. So they are listed on the New York and Toronto stock exchanges. They are high payout vehicles, they pay out sort of 65% of our FFO, but they are focused on these specific asset classes. So we can attract both private capital, into the private funds, and also listed capital into the listed funds.
So our primary objectives, and the business plan is such at Brookfield, is to continue to expand the fee-bearing capital that we have under management for our various clients, and also put that capital to work, obviously at very favorable investment returns, both because we are not only the manager of those assets, but we are also a big investor in all of our funds. So we have a -- so there is great alignment of interest, which I think is part of the reason why we have been so successful in increasing the amount of capital that we are managing, which now stands at around $78 billion in various entities, of about $50 of which is from third party clients.
So that's kind of the high level snapshot of the business.
And you described, I guess, the structure of the public vehicles. You put that together over the last, I guess, 10 years in total, but reached substantial completion of that in the last few years. I guess, could you delve a little bit more into why you selected that structure and the flagship vehicles, how they fit into the strategy?
So there is a couple of things that really caused us to focus on both. Some managers do just private, some managers do primarily public. We focus on both of them, because there are different characteristics, and I think one of the things we have always really strived to achieve within Brookfield, is to have diversification in terms of how you access capital, and how you can invest that capital, and really being able to line up the right capital structure with the right investments.
So when we think about the two, the private fund capital is -- it's a lot of work to get it. We spend a lot of time to get to where we have gotten to date. We have actually had tremendous momentum, and right now, we have raised $14 billion of new funds over the last 12 months, of which the vast majority, I guess $10 billion of it is from third party investors, and those would be the large pension funds, sovereign wealth funds, insurance companies, high net worth, family office, that kind of stuff.
It's great capital, because you get a commitment for a three year period to go find an investment and then call the money; and you actually get paid, while you are doing that. So it's a pretty good setup.
Then you have 10-year life for the fund, and a couple of extension periods. So it's very good to know that you've got capital in the bag. You go look for investments. But at the same time, to be in the 10-year, you are supposed to monetize everything and send the capital back; and that works for a number of investment strategies, and in fact even the compensation is structured that way. You got a base fee, but where you really get paid is the carried interest, and you get say 15%, 18% 20% of the profits of the fund, when you sell everything. So it's very much aligned to a strategy where you buy stuff, work it, fix it, sell it, and then take your share of the returns and return the whole bunch of capital to your clients.
But it's a long time to gather that capital as well. So you can't just go and get it like that. On the other side of the public funds, which are something we have operated in public market for years. So the attributes that we really like about those, is that it's perpetual capital. So those equity bases are therefore weakened by assets and hold them forever, which for a lot assets is exactly what we want to do. And so they are great -- it's great.
So you can line up the capital with the investment strategy, even the compensation works well. We get a base fee that's driven by the market cap of the entity, then the -- I will call it the performance element of it is, it all comes back to increasing FFO per unit, not total FFO, not total capital, but FFO per unit; because if you are seeing the constant yield, the FFO goes up, you are -- and the yields are same, your market pressure go up, so the base fee should go up, and also we get 25% of increases, which over time becomes a very valuable fee stream. And so, we are highly incented to increase FFO per unit, which isn't to say that we are also incented to do -- to issue equity to buy more assets, but only if you could do it accretively.
So it is a very good alignment of interest there, and sets itself up for what we've historically done a lot of, which is buy great assets, and just continue to work them, and just compound that cash flow growth for a period of time, 12% to 15% total return, like we are not looking at 25 -- we are not really looking at really shoot the moon type returns, but we always believed that if you can compound at 12% to 15%, over a long period of time and protect the capital, you will create a lot of wealth.
So between the line, it really will -- and it's starting to go on, on this one, but the other thing about it, is it creates tremendous flexibility and liquidity for us at the Brookfield Asset Management level, because at the end of the day, a lot of these assets are relatively illiquid. It's an office building, it's a power plant, it's a railroad, but because our capital is and we have showed this analysis yesterday, 85% of Brookfield's invested capital is through a listed security, which we could sell. Now, practically speaking, we can't sell all of it, because [either it's] not trading properly, or because they are just big. But we have the ability to be flexible in how we allocate capital, and harvest liquidity across the system, because of that ownership structure.
Okay. So that, I guess, plays nicely into the asset management side of the business. Yesterday, at the Investor Day, you put a lot of emphasis on that. Can you just walk us through, I guess, the history of that, how you came up with that strategy, where you are in executing it, and where it will go in five or 10 years?
Sure. So it has been something that we have been working at, really in earnest for the last five or six years, and some of the seeds of it were planted before it then. And I think, a lot of it came from the recognition that for us to compete successfully for assets of the kind that we wanted to own, we just didn't have enough capital. Just to do it off of our balance sheet was just -- wouldn't work.
And also, the realization that a lot of these assets were becoming increasingly attractive to institutions, and we observed what the Blackstones and others of the world were doing, and felt that we had what it took to become a good global world class manager of real assets. And so we embarked on that path, and frankly for those of you who remember some of the things we talked about back in '07 or '08, we probably -- it was certainly a lot more work than we thought it would be.
So we might have been a little naïve on that front, but after a lot of slogging way at it, it really has started to gain a lot of momentum, and I think we have now gotten ourselves on the map as being a world class manager for up to over 200 clients on the private side. So great diversification on that front, which is really important, and also I think one of the big difference is, and this has been a pretty seminal shift over the last six months, is between getting Brookfield Properties launched, even if it's not trading properly yet, but we will get there.
And getting -- and launching very large private funds, and actually starting to post numbers in our financial statements. Like there is one thing that goes, sit in front of you all, and say, here is what we think it's going to look like in three year's time. But we can show you -- these are what the results look like on an LTM basis, 2012 and 2013, and what's in contract for the funds in place at the end of June 2013, and point to $1 billion of fee potential on an annualized basis, I think that enables us to present facts and performance that people can then put a multiple on, and we look at how people think about asset manager, and put this multiple over that fee stream, and that multiple on that. Before we could even show you what the fee stream is. Now we can show you what the fee stream is, and you can make some growth assumptions, and whatever multiple you want to view. But there is something that is -- it has reached a whole -- there has been a true inflection point, I believe, in terms of where all the business is at, and hopefully how people will perceive the business. It is a lot easier to understand.
You touched on the private investors now numbering 200. Can you give us a little bit of a sense of how big that pool is, where you are in penetrating it, and I guess, the nature of a lot of those investors?
Sure. So I would say, we are still just at the tip of the iceberg on that front. If you ask, I'd say 200. I think KKR or Blackstone, they would talk about 1,000 or 1,500, and there is no reason why we shouldn't have as many clients as they would. I think what has been a big change, has been the type of clients. So if you looked at our numbers, 2008, they would have been smaller, but also it would have been largely comprised of big ticket commitments from large institutions, and that's generally a lower margin business, because there is a wholesale versus retail kind of thing, and we showed this yesterday, 2013, so it would have been 15% there of smaller number.
The thing that we showed yesterday, with the 200 investors, its 30%, of a much larger number is in the higher margin business, and that's part of the reason why we have taken the margins on the fee related earnings to generally the 50% level at the end of June. So that has been a big -- and the good thing about that -- first of all, you generally get paid for fees on that, and it also tends to be really sticky business. So when you come out with your next fund, you are already an approved investor, you are already on the shelf, and that makes a discussion. It's a heck lot easier in trying to break in the first time.
A lot of this is building relationships, and the established guys have been doing it for the last 10 or 15 years. We have been doing it in earnest for the last three to five. So it takes time. So I think we made a lot of progress in America, the Middle East. We started to break through in Asia, getting a couple of good orders there. Europe is still a bit (inaudible). So we have got -- and even America, we just scrape the surface. So there is a lot of room to grow.
One of the questions we are getting from investors a lot these days, particularly as a REIT analyst is interest rates. What does the changing and evolving interest rate environment mean to them, and how does that affect your strategy?
Right. So there is the theory, and then there is how it actually plays out. And so the theory would have you believe that -- okay, so just starting with the general premise that the 10-year bond should be nominal GDP plus a term premium, so that's one theory. And that, setting aside the fact that there was a negative term premium because of what the various central banks are doing. I will come back to that point. But our business is really built best for benign inflation, good growth, normal interest rates, 4%, 5%, 6%. That's a great market for us. And so we see no issues, in fact, we welcome higher interest rates in that regard.
There is also the question, what does that mean for existing capital, which I think is driving a lot of discussion about REITs. So there is again two points there. In theory, if your discount rate goes up by 100 basis points, but your revenue growth assumption goes up by 100 basis points, you're kind of flat. Maybe even picked up some value, if you were able to lock in your financings at really low rates. Then there is the whole issue about the negative term premium. There is some analysis that was put out by the folks, and we replayed it yesterday, that would suggest, if you took the average implied cap rate across all property classes, it's about 6.5%, and it's at about as widespread to the underlying treasury as it has been in the last 20 years, which you can take from that, is that cap rates didn't really compress fully in line with where the treasury went, which would suggest, and this is all theory, is that interest rates can rise without the cap rate necessarily expanding to the same extent.
So we think there are some buffers in there, but how it all plays out. Like I don't know what is going to get announced today, or what has been announced, and it could throw the market for a loop. And the cash flows, our belief is that the cash flows for the types of assets that we own, if we are in a better economic environment, which should be why rates are increasing, then we should be able to -- as we roll over our lease contracts, we should be capturing higher rents, because replacement has gone up, and economy is better. There are CPI adjusters in power revenue sales agreements and in infrastructure assets, you have inflation protectors and cost of capital adjustment features in your regulated rate base.
So we should be capturing faster growth in our revenue streams. Now it's never going to fully align, so there is absolutely going to be disruption, and it will be different for every company, and it will take time, I am sure, for the revenue increases to catch up with a change in the cap rate. But you always got to remember, is the going in cap rate is a bit of a challenging metric to work with, because you're just (inaudible). You can have a 3% cap rate, or a 4% cap rate that's there, because you have got really dirt cheap financing, or because you have got very strong cash flow growth, and so you'd understand that part. So it's only one piece of the puzzle.
So we think that real assets are absolutely the place to be in this kind of environment; because of that ability of the revenues to catch up; and to be driven by the same factors that give rise to increasing rates.
Okay. Pretty interesting global economy and political landscape in the world today. You talked about Europe. You have got operations in India and China. But those areas are -- well India and China are, I guess, less well developed at this point. Can you talk about the attributes that Brookfield pursues in its investments?
Sure. So if you think about most of the stuff that we own, what we really need to have, is a high degree of assurance around property rights and contractual rights, because so much of our value creation happens in the back end, and we are definitely investing with 5-year, 10-year, 20-year, 50-year horizons, and so you just need to make sure, you are not going to get your lease torn up or your property taken away. So we need to be in those parts of the worlds, where we believe that the rule of law and our comfort dealing with that is sufficient. So that takes some places out. But there is a lot of great places to be, that qualify for that.
Hi. Amongst those 200 investors, what drives the decision, you think to give you money that they have to give it to (inaudible)? Another aspect is, similar capabilities to give them less money, to give you most of the money (inaudible)?
Right. That's a good question. That's I think -- part of it is, we have had to go and demonstrate that to people and convince them to do that. Once you are in the door, it's great. So not that you want to serve -- dance on graves, or whatever, but there are a lot of managers that just completely blew up during the recession, and just wiped out a lot of capital. And these are a lot of big name guys, that were big competitors of ours going into the piece.
So that's frankly opened the door. For one thing, it's just the people that were clogging up the shell, some of them were just gone, like those products, they are just gone. So that's one thing.
Second, some of the things that we would point to about our approach, that we think are compelling, I think our track record through the piece has been really good, in part, because of this whole idea, 12% to 15% investment grade financing, launching contracts, higher quality assets. We couldn't promise 20%, 25% returns to people, but we did get them 16%, 18% returns over the piece, and so, we have done -- from a performance perspective, we have done quite well in that.
So we can point to investment approach and results, and then I think one of the things that differentiates us somewhat is, we truly have operating platforms. Like these aren't rollups and they get monetized in 10 year's time, these are people that spend their entire career working with Brookfield as leasing professionals, or power engineers, and they are Brookfield people, and some of that sounds like motherhood, but what it does mean, is that it gives us great intel, in terms of identifying huge comfort in pursuing and underwriting investments, and also, when you talk about 12% to 15% return, if you can add 100 basis points, just because you lease it better, that makes a big difference. If you are looking at much more fast turnaround, financing, recaps, things like that, it doesn't matter as much.
But the incremental return is really valued, and I think our clients value that, and then finally the fact that we put -- we are generally the largest investor in anything we do. So we are putting up 25%, 40% of the money directly or indirectly into it, and then we got 20% of the total company owned by the management team. So there is a tremendous alignment of interest, that at the end of the day, if the investment returns aren't there, the fees don't matter. So I think that has helped us as well. That's our sales pitch to them, anyway.
Right. That's a great question, and you know what, that is probably one of the -- in fact, a similar question came up yesterday (inaudible), in terms of what things you need to worry about and stuff. And I will say, people and culture was the second, and that wasn't -- just the second in priority. It's really important. We have grown a lot, protecting the culture is critical. It's still an organization, and the way that it's setup, even though it's very decentralized, there is tremendous flow of information.
The investments are such, that there is not that high a frequency. So there is still a really good visibility on everything that happens in the organization. But attracting and maintaining people that are right for our organization, which doesn't mean that they may just be right for other -- some other people may be right for other organizations. But keeping that is a very high priority. At the end of the day, we get through a lot of that, and this is all again kind of motherhood stuff, but we are really careful about who comes into the organization, and I think people have a pretty good sense of what's involved in being in our organization, so there is a lot of self-selection as well.
We are very back-ended on comp. I think generally anybody that comes, realizes that is it going to create any kind of personal wealth, it's going to be back-ended, and it's because the Brookfield share price goes up, or because they get great returns in the funds. And so, some of our compensation is similar. We -- member of the management teams, they get a piece of carrying a fund. So that's probably not different. But we don't -- we are generally a little lighter on cash comp and more on back-end equity value, and that drives -- comp and culture drive each other, and it's not to suggest ours is better, but that's what works for us. So I think -- we got to stick to our [meeting] on that front.
We have got a few more minutes, I have got some questions, but if anyone from the audience would like to step in? Well, you have been selling more assets in the last 12 months than I have witnessed in some time, is there a common theme to those dispositions, and I guess why would you choose now as a --?
Well I guess for one thing, just as an asset manager, we kind of guess like, you know, and these funds having a life, it is part of the natural business is to be monetizing stuff. So I will say that as we [move on] comment. But the things we put a lot of money to work, things related to the U.S. housing as it went down, and so there has been a lot of value that we have created there. And so we have been taking money off the table there. So if you think about us, you are either doing a secondary of Norbord, selling that fiber business and Western Forest Products, selling Ainsworth. Those are all, I will say, harvesting capital and funds to lock in great returns for clients, and hence locking and carry for us by the way.
Then, more from a corporate perspective as well, because some of those things are held outside of funds, it's probably just lightening up a bit on that, and we don't really try and pick bottoms or tops, just probably a lot more (inaudible) to run, and we still have a lot -- still to go, in terms of housing related stuff, and we really -- we still benefit a lot from the ongoing recovery.
And then the timber, I'd say definitely benefitted somewhat from that, in terms of the horizon. But that was also as much the of a relative return, in terms of what do we think. We still manage Timber Funds, we still think we can put capital to work on Timber very well. But, we spend a lot of time getting them running really well, and sometimes it's just good to lock in the returns, capitalizing the capital, and move on to the next game.
So you highlighted a number of great bargains that you picked up in the downturn in housing. What are -- perhaps touch on the three themes that you think are the next five years for Brookfield?
Right. So I would characterize those as being Europe, emerging markets and commodity related. So over the past, while we have been buying non-European assets from European owners that are deleveraging. So toll roads in South America, distribution businesses in the UK and shopping malls in Brazil. Now we are a lot more comfortable, and we have been spending two or three years, just kicking the tires, moving around stuff on buying assets on the continent. So we bought a large industrial business, warehouses and logistics and stuff, and we are looking at a number of other things. So we feel pretty good about that.
On the emerging markets side, in LatAm, it would be -- Brazil and Chile would be top of the list. Colombia and Peru, we have done some stuff in. But all that money flowed in there, then it flowed out, and so at any time capital's fleeing, is a good time to be thinking about entering. So we think we are well positioned there.
India, China, probably longer term things, but we are thinking more about it. And we have some joint ventures in India that we are investing in the property side and infrastructure side, just learning slowly, not a lot of capital.
Then the other one is commodity related, and we got long history of buying power assets from forest products and mining companies, industrial companies, their growth is kind of legacy assets within there, for good reasons. But if you think about cost of capital and if we can come to an arrangement where we -- it's something that's 10 times, and our business is five times, so we should sell it. And so if we constructed the right kind of contract, so they still have -- feel good about the security of supply. Then there is lots of opportunities. We have had a lot of success in that over the years, and we think just getting some of the current angst in the commodity complex should give us lots of opportunities to do more transactions on that front as well.
So those are probably the big three things we are working on these things.
Terrific. One last question from the audience? Looks like you have answered everything.
Okay. Thank you all, and any follow-up, please, Alex, me or Mark.
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