KKR Financial Holdings' CEO Hosts Annual Shareholder Meeting (Transcript)

| About: KKR (KKR)

KKR Financial Holdings LLC (KFN) Annual Shareholder Meeting Call April 25, 2012 12:00 PM ET


Paul Hazen - Chairman

Bill Sonneborn - President &CEO

Nicole Macarchuk - General Counsel & Secretary


[Abrupt Start]

Before proceeding further, I will introduce the members of the Board of Directors that are here with us today. Mr. Sonneborn who is the company's CEO; Tracy Collins; Robert Edwards; Debbie McAneny; Paul Finigan; Ely Licht; Scott Nuttall; Scott Ryles; Ross Kari. Also on the phone, there is another member of the Board of Directors, Willy Strothotte.

Members of management who are with us today, Mike McFerran, the company's Chief Financial Officer and Chief Operating Officer; Nicole Macarchuk, Company' General Counsel and Secretary; Jeff Van Horn who is the company's Executive Vice President and Director of Tax.

First business item on the agenda is to elect 12 directors to the company's Board of Directors is to serve. Second business item on the agenda is the ratification of the Employment [Audit] Committee of the Board of Directors of Deloitte & Touche as the company's independent registered public accounting firm for the year ended December 31, 2012.

Before turning to these items, I would like to review the rule of the meeting. Shareholders who would like to speak are welcome to do so in accordance with the (inaudible). Shareholders may ask questions regarding the items on the agenda and I will call for any questions from the course as each item is discussed.

If you would like to address the meeting please raise your hand and I will recognize you. Please wait until you are recognized and when you ask any question, please state your name, organization if any that you are present and whether you are a shareholder or a proxy.

I have proof by certificate that the onus of this meeting has been duly given and that a copy of the proxy statement dated March 13, 2012 and the annual report for the fiscal year ended December 31, 2011 has been furnished to all shareholders of record as of March 5th. Copies of the proxy statement, the annual report and the certificate of mailing will be filed within minutes of this presentation. Representatives of Broadridge Financials will serve as our inspector of election of this year's meeting and has signed the oath of office. Those will also be filed with the (inaudible).

The inspector of election has in her possession a list of the company's shareholders as of March 5th, record date set by the Board of Directors for the annual meeting. She has advised me that as of such date where 178,393,521 common shares outstanding, each of which was entitled to vote.

The inspector of elections has further informed me they filed a (inaudible). We have 158,260,311 shares present in person or by proxy. This represents (inaudible) outstanding shares which is the majority is the submission number of shares constitute the quorum. (inaudible) by ballot today, if you turned in a proxy and do not intend to change your vote, that is not necessary that you would again.

Those of you who did not turn raise your hand and we will distribute to you a blank ballot to use for voting. We will collect these ballots at the end of the formal part of the meeting. If you hold your company's shares through a bank broker or other nominee then you're required to follow that nominees' voting instructions and cannot vote or revoke a prior vote in today's meeting unless you have a proxy from the nominee authorizing you to vote your shares.

If you have such a proxy, raise your hand and we will distribute the blank proxy card to use for voting. Oh hands raised. If you're voting in person today, please make certain that you sign the proxy card and print your name under your signature. Inspector of elections will tabulate the votes and report the results after the meeting is completed. Okay now the formal part of the meeting. It sounded like that was pretty formal.

The first order of business is the election of the directors; the Board of Directors currently has 12 members. All of them are standing for reelection. Each member of the Board of Directors is elected annually. Common shareholders voting as a single class has the right to elect all 12 members to serve until the next annual meeting of shareholders until the respective successors are duly elected and qualified.

The nominees for the Board of Directors are named in your proxy statement and the Board of Directors unanimously recommends that you vote for the election of each of the 12 nominees. Are there any questions from the floor regarding the election of directors?

Second order of business is to ratify the appointment of Deloitte & Touche as independent registered public accounting firm for the company for fiscal year ended December 31, 2012. The Board of Directors acting upon the recommendation of its audit committee has appointed Deloitte & Touche to audit the financial statements of the company and is asking that you ratify this appointment.

The Board of Directors unanimously recommends that you vote for the ratification of the appointment of Deloitte & Touche as independent registered public accounting firm of the company. Are there any questions regarding this item?

At this time I will ask for the final call for ballots. You do have a ballot and which no hands raised. So there are none. After all votes are submitted, I will ask Nicole Macarchuk who is the General Counsel and Secretary of the company to report results of the vote. Nicole would like to report?

Nicole Macarchuk

Thanks Paul. There is some preliminary count for the entire managements (inaudible) nominees for directors, elected and the appointment of Deloitte & Touche as the registered public accounting firm has been ratified.

Paul Hazen

Okay the final results of the voting will be made publicly available on a current report submitted on Form 8-K or Form 10-K which we will file on or before May 1, 2012. Now that concludes the formal part of today's business. So therefore we are adjourned. We can now have any questions from the floor. And that's prior to having Mr. Sonneborn report to us with all his comments. Are there any questions by any of the shareholders?

Okay hearing none, we will now the formal end of the meeting and Bill you can come up here and give us your vision.

Bill Sonneborn

Good morning and thank you all for joining me, my fellow directors and our management team in today's annual shareholders meeting for KKR Financial. Before we move to answer any questions that shareholders may have, I would like to provide shareholders with a review of 2011 as well as our first quarter of 2012 and the vision of our management for the future.

As reflected in the past 15 months, I would describe it as a period in which we executed on our strategy and grew shareholder value [gradually]. Last year we reached a key milestone and diversifying and lowering our cost to capital to becoming an investment grade rated company for the first time in its history. We leveraged this rating to issue nearly $375 million of 30-year notes at a weighted average interest cost of 8.1%.

Why is this important to shareholders? Because, we are concerned with the implications of global central bank easing; even if setting aside Europe and the LTRO which are long-term refinancing operations, US monetary and fiscal policy now sized at four and a half times what the authorities did during the great depression and nearly totals 38% of GDP.

Including the actions taken by the ECB in Japan, we felt it was prudent for our shareholders to lock in a long-term, low cost, fixed capital in a period in which global interest rates represent negative real returns.

We cannot predict whether significant effects will emerge in 2013, 2014 or beyond, but we see substantial inflationary pressures building in the global economy. Just look at the commodity markets as an early indicator and emerging markets wages as a second early indicator.

In addition to lowering our cost of capital, we've made great strides in moving our assets more toward our strategic asset allocation targets. As we have shared with you over the past 15 months in numerous earnings calls, we have felt it prudent to balance our financial assets which are predominately corporate credit, with real assets, natural resources and commercial real estate.

While a majority of our exposures remained focused on opportunities within the credit market, we believe that we can achieve very attractive and consistent cash flow and total rates of return in such real asset classes while improving risk adjusted returns at the same time to our shareholders.

We currently are targeting approximately 60% of our capital to global credit, 20% to natural resources including our underlying energy investment and 15% to commercial real estate.

Last year, we executed on several transactions through our growing natural resources strategy. In 2011, we deployed or committed to deploy over $210 million of capital to several opportunities including the acquisition of overwriting royalty and working interest in oil and gas properties, our stake to market here in the US; the formation of a midstream partnership with Quicksilver Resources in Canada and a private equity investment in Samsung Investment Company; it is one of the largest private exploration and production company.

We’ve continued this pace of activity in 2012 including our recent investment in Yorktown Mall outside of Chicago. We’re excited about the current pipeline of opportunities we are working on.

Shareholders may ask why we have created such substantial exposure over the course of the past year to natural gas is part of our natural resources strategy. Answer is relatively simple, the supply and demand. We believe that it’s only a matter of time before natural gas becomes a global commodity, oil, sugar or gold.

While the US has tremendous supply recently discovered which is creating an imbalance, areas such as Europe, Japan, China, Korea and India likely will have big, very big demand. It’s not difficult to see the incredible arbitrage opportunity in buying 20 plus years of US natural gas at a spot price of $2 per Mcf and in global market, it price at much higher premiums outside the US market.

In addition, because of our proprietary sourcing, using of relationships as well as hedging and operational improvement capabilities even with natural gas prices down 56% for the 12 month period in March 31st we have generated attractive risk adjusted returns through this strategy for our shareholders.

During 2011, we also completed our first CLO transaction; it’s a loan obligation since the credit crisis. With the issuance of KKR Financial CLO 2011-1 which is a $600 million secured borrowing transaction, have provided us with the ability to borrow approximately $440 million at three month LIBOR plus one and at 1.35% to finance the acquisition of senior secured leveraged loans.

And even with all that deployment, we ended the first quarter with $527 million of cash, and almost $415 million net of our $112 million of convertible bonds maturing in July.

Again, shareholders might ask what is management doing with all that cash? The answer to that is also relatively simple. We believe that Greece will likely default again within the next 12 months, not a surprise that Greece has been default the majority of the time since 1800.

We also believe the global sovereign debt imbalance will continue to substantially shorten the credit cycle and increase the market volatility moving credit cycles from historical averages of roughly three years to perhaps this short at six months.

We are focused in driving returns to our shareholders and the best time to have capital, but at the same time it is the hardest to obtain. We are ready. We expect the substantial opportunity to deploy this cash with very attractive returns for shareholders. In addition, we have continued to push out our corporate liability structure to have a very long term maturity profile. As of March 31st the weighted average years to maturity and corporate level indebtedness is over 20.

Even though we accumulated a lot of cash, 2011 was also a year when we increased cash flows to our shareholders. Our declared cash distributions to shareholders for 2011 were $0.78 per share, which represents 53% increase from $0.51 per share in distributions declared for 2010.

We also delivered substantial total and cash return on equity to shareholders over the past 15 months, relatively unique for a financial institution today. Our average total ROE has been 19% over the past five quarters, well ahead of many other and more situated financial institutions. On a cash basis, the cash return on equity, which is really what matters, has been 14% during that same period of five quarters.

Over the past few years KFN has evolved from a specialty finance company almost exclusively focused on senior secured and high yield debt, held through collateralized loan obligation structures, diversified business that benefits from leveraging of the global reach of KKR, a global investment firm we founded over three decades ago.

The relationship with KKR is providing KFN with a differentiated ability to leverage the sourcing, diligent and relationship capabilities to over 400 investment professionals located across the globe with specialization in energy, real estate, private equity and across the market of opportunities within the credit.

Our current strategy for capital deployment is borne to the philosophy that different asset classes will provide different risk adjusted return profiles across changing macro and micro economic business cycles. We are not focused on any isolated strategy or asset class, rather we are focused on maintaining the flexibility to target capital to those opportunities that provide attractive risk adjusted returns and appropriately reflect our views on the optimal mix, generate returns at the downside of our shareholders.

A common denominator for asset allocation is we are focused on opportunities where we believe our manager has a competitive advantage that which we can continue to drive those returns for our shareholders; balancing financial and real assets.

That concludes my remarks, before I open up the meeting to any questions, I would like to thank our Board of Directors for their support over the course of the past year and leadership. And I would like to thank all of our shareholders for your interest and support in KKR Financial Holdings. Questions?

Question-and-Answer Session

Paul Hazen

Thank you all and that concludes the meeting. We appreciate all our shareholders’ attendance, both in person and by phone. Good morning.

Bill Sonneborn

That concludes the meeting.

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