Earnings Call Transcript - BN Q1 2020

Suzanne Fleming, Managing Partner

Thank you, operator, and good morning, everyone. Welcome to Brookfield's First Quarter 2020 Conference Call. On the call today are Bruce Flatt, our Chief Executive Officer; Nick Goodman, our Chief Financial Officer; as well as Brian Kingston, CEO of our Real Estate business. Bruce will start off by giving a business update, followed by Nick, who will discuss our financial and operating results for the quarter. And finally, Brian will give an update on our retail business. After our formal comments, we will turn the call over to the operator and take analyst questions. I'd like to remind you that in today's comments, including in responding to questions and in discussing new initiatives and our financial and operating performance, we may make forward-looking statements, including forward-looking statements within the meaning of applicable Canadian and U.S. Securities law. These statements reflect the predictions of future events and trends and do not relate to historic events. They're subject to known and unknown risks, and future events and results may differ materially from such statements. For further information on these risks and their potential impacts on our company, please see our filings with the securities regulators in Canada and the U.S. and the information available on our website. And with that, I'll turn the call over to Bruce.

Bruce Flatt, CEO

Thank you, Suzanne, and good morning to everyone on the call. I want to begin by expressing, on behalf of myself and all my partners at Brookfield, hope that you, your families, and your colleagues are staying safe and healthy. The world is very different today compared to when we last updated you three months ago. Many of our businesses have remained open and operational during this time, and we are proud of the numerous employees and stakeholders across our organization and portfolio companies who continue to work each day, delivering essential services and products globally to support those in need. Alongside our financial support for relief efforts, our team is contributing in various ways, including providing our hospitals as beds, offering accommodations to governments, housing frontline medical staff in hotels, and utilizing some of our real estate properties as relief centers. Before discussing the quarter, I want to provide a quick update on our business' reopening efforts and our approach. We are encouraged by the reports from regions like Asia that are starting to reopen their economies and businesses. We are using their experiences to inform our plans for a broader workforce return. In areas that have reopened, we are witnessing a trend of cautious yet steadily increasing consumer confidence. Our reopening plans are guided by ongoing discussions with local governments and align with regional reopening strategies. For instance, in our real estate sector, about one-third of our retail centers in the U.S. have reopened, with more expected soon. Additionally, we've reopened several of our offices, including our Shanghai and Dubai locations, and most of our senior leadership has returned to our offices while adhering to social distancing protocols. We are preparing our workspaces for the return of more employees when we receive government approval. Our extensive history of owning and managing assets, including the adjustments we made following 9/11, has poised us well to effectively manage business continuity planning and adapt to new norms for our tenants, employees, and stakeholders. While no one could have foreseen the cause of today's environment, we have been anticipating and preparing for a market turn for a while. This preparation has led to strong performance in the quarter, and we believe the outlook for our businesses and asset management is very promising. The essential nature of many of our assets has allowed them to remain operational, generating robust cash flows, most of which are contractual. Our financial assets remain largely protected as we hedged them in the first quarter. Furthermore, our asset management fee income has significantly increased due to strong fundraising over the past year, is long-term in nature, and is largely insulated from market volatility. Our fundraising prospects for the rest of 2020 are better than initially anticipated, having just completed fundraising for our latest flagship funds in January. Currently, our Oaktree business is actively raising its next flagship distressed debt fund, which was originally not scheduled for 2021. We also expect our special investment activities, focusing on non-controlling equity investments without asset class or geographic restrictions, to gain more interest, driven by businesses' recapitalization needs expected in the latter half of 2020. Additionally, we foresee increasing demand for our other fund offerings emerging from the current climate, particularly those focused on contracted infrastructure-like assets that are showing stable returns amid market cycles. It seems that the extremely low interest rates globally have been overlooked. In simplified terms, they are nearly zero, making real assets very appealing in this landscape. While we prepared for an inevitable market downturn, we maintained discipline in our underwriting and investing over the years. You may have seen some well-publicized transactions, and though we missed out on several opportunities despite our discipline, it is proving beneficial today. We currently have about $60 billion in capital ready to deploy across our business. From our experience over the past month, the capital markets remain open for companies with strong balance sheets like ours. Since April, we have received both fund commitments for equity capital and access to debt markets. We added over $3 billion in liquidity by tapping into the investment-grade debt markets and increasing our bank lines. As I noted in my update sent in March, our immediate focus for deployment has been in publicly listed markets. Since the market shift in late February, we have invested $2 billion into these markets, primarily in high-quality businesses trading at a significant discount to our intrinsic value assessment. Over time, this could lead to privatizations or controlling stakes, but for now, we expect strong returns with considerable safety margins as markets stabilize. We also repurchased around $300 million of our own securities within our share repurchase programs and will continue to do so as appropriate while considering the liquidity needs of our companies. Additionally, the Oaktree team has accelerated its investment pace in public markets, having invested about $8.5 billion across their funds recently. Today, their flagship distressed debt fund is over 80% invested, and they are already preparing for their successor fund, which we expect to close in the coming months and anticipate to be larger than its predecessor. While there has been significant opportunity in the public markets, we have mostly been preparing for more active times on the private side. One area where we see opportunities is in our retail business, and Brian Kingston will share more about our revitalization plans announced last week. Lastly, in our circular filed last night, there is a description of the partnership’s ownership of our 20% stake in Brookfield and the Class B shares. Some new details regarding these arrangements have been included, and I want to clarify a few points. First, nothing has changed for Brookfield; these updates are simply about how the partnership manages its Class B shares. Second, there has been no fundamental change in control; the same group remains in place. What we did was simplify and clarify the ownership structure. Third, while the partnership is crucial for Brookfield's long-term stability, it does not engage in day-to-day operations. However, it helps facilitate long-term decision-making and supports our culture, which has not changed. With that, I’ll turn the call over to Nick Goodman.

Nick Goodman, CFO

Thank you, Bruce, and good morning, everyone. Our business performed very well in the first quarter, even as the economy and markets faltered towards the end of March. Our asset management franchise and invested capital continue to generate significant amounts of free cash flow, highlighting the resiliency of our business. We generated $751 million of cash available for distribution and/or reinvestment, or what we call CAFDAR during the first quarter, a 43% increase from the first quarter of 2019. And we consider CAFDAR to be the best indicator of the long-term earnings power of our business as it combines our stable fee-related earnings with the long-term sustainable distributions from our listed affiliates, which largely own contracted income streams. Notwithstanding the strong cash performance, the market turbulence at the end of March resulted in unrealized noncash adjustments, including mark-to-market movements on liquid securities, which had a negative impact on net income. This resulted in a net loss for the first quarter of $157 million or $0.20 per share on a post-split basis. It's worth noting that we expect these unrealized marks to recover over time as markets stabilize. Our funds from operations or FFO was $884 million for the quarter or $0.55 per share on a post-split basis. Starting with our asset management results. Fee-related earnings before performance fees increased by 35% to $321 million for the 3-month period and totaled $1.3 billion over the last 12 months, an increase of 44% from the same period in 2019. The majority of our fee revenues are not impacted by market volatility, as evidenced in the stability and growth of our FRE period over period and the growth in our fee-related earnings as a reflection of the significant step change in business over the past year, including the successful round of flagship fundraising that we completed in January, the growth in our distribution channels and our expanding private fund offerings along with our partnership with Oaktree. To date, our fee-bearing capital totals $264 billion, and our annual fee revenue stands at $2.8 billion. Our unrealized carried interest balance stands at $3.2 billion as the investments in our funds are largely critical assets or assets that have long-term contracted cash flows and have largely not been impacted by recent events. We also benefit from having minimal exposure to public securities or energy investments. During the quarter, our unrealized carried interest decreased by $298 million before costs and the impact of foreign exchange. We realized $132 million of carried interest during the quarter and $613 million over the last 12 months as we continue to sell mature assets. We have realized approximately $1 billion of proceeds from asset sales during the quarter and $12 billion over the last 12 months. Looking forward, while the pace of asset realizations during 2020 is likely to be slower than we thought when we last spoke at the end of Q4, the long-term nature of our funds ensures that we can be patient when seeking to exit investments in order to maximize the value creation. Turning to our balance sheet investments. Excluding disposition gains, FFO for the quarter was $397 million. The decrease compared to the prior year was a result of lower mark-to-market gains on our financial asset portfolio, lower earnings on our energy contracts and the impacts on portfolio companies of the recent measures taken to combat COVID-19. We expect these impacts to continue into the second quarter, but we believe earnings will return to normalized levels as the economy gradually opens up and begins in the path to recovery. Finally, we sold several investments within our private equity, infrastructure and real estate groups during the first quarter. These monetizations contributed towards approximately $107 million of realized disposition gains recorded in FFO. Today, our liquidity and capitalization remain very strong. In addition to $45 billion of uncalled fund commitments, we have $15 billion of core liquidity across the group, including $6 billion directly at BAM. Our balance sheet remains conservatively capitalized, with an implied corporate debt to market capitalization ratio of 14% at the end of the quarter, and an average remaining term on our corporate debt of 11 years and no individual piece of debt maturing before 2023. And we're seeing the credit markets continue to remain open today to credit where the companies have strong balance sheets. In April, we completed the issuance of $750 million of medium-term notes and increased the size of both the BAM and BIP credit facilities bolstering liquidity by a further $2 billion. Finally, I am pleased to confirm that our Board of Directors has declared a $0.12 per share dividend payable at the end of June. On a post-split basis, the dividend is consistent with the previous quarter. With that, I will turn the call over to Brian Kingston, the CEO of our Real Estate group, who will be providing us with an update on our retail operations as well as our recently announced Retail Revitalization Program. Brian?

Brian Kingston, CEO of Real Estate

Thank you, Nick, and good morning, everyone. Today, I'm going to talk about our retail real estate portfolio as well as offering some observations on what we're seeing on the ground and our outlook for the future. Retail makes up about 1/3 of our real estate assets under management. And while our business is global, the vast majority of our retail holdings are here in the United States. We currently have 170 properties, comprising almost 150 million square feet of high-quality retail real estate located in 43 states, making us one of the largest owner-operators of enclosed shopping centers in the United States. Our properties are some of the most highly trafficked retail properties in the world, centers like Ala Moana shopping center in Honolulu, which welcomes more than 50 million guests each year, and Fashion Show in Las Vegas located in the heart of the Las Vegas Strip. This unique portfolio of properties would be impossible to replicate and provides us with a unique ability to leverage our scale and market presence. While today, these properties are 100% owned by Brookfield Property Partners, they were acquired through a series of transactions, starting with the recapitalization of General Growth Properties back in 2011. By taking advantage of past market dislocations, we've managed to acquire this unique portfolio at a substantial discount to the value of the underlying assets. Over the past 5 years, we've witnessed tremendous change in the retail operating environment. Retailers with weak balance sheets and/or business models that haven't kept pace with changes in customer taste and buying patterns are seeing their businesses steadily decline. At the same time, exciting, new digitally native businesses have emerged, and some old-line retailers have reinvented their businesses to meet these new realities. They've seen their sales and market share expanding dramatically as a result. While they come from a wide range of retail sectors and have managed to be successful for a variety of reasons, these retailers of the future all have one thing in common. They've been expanding their physical store count to help them interact with customers directly and as a way to fulfill online orders more efficiently by locating their inventory closer to where customers live and work. When deciding on the location for their physical storefront, these retailers want to be in densely populated high-growth markets. For owners of the best retail properties in the United States like Brookfield, this has meant there was a waiting line of new tenants to take the place of old-line retailers when they vacate our malls. We had initially expected this process to play out over an extended number of years; however, the sudden impact of the COVID-19 crisis has accelerated the demise of the weaker balance sheets and poor business models. We've also been investing in repositioning and densifying these high-quality locations into mixed-use entertainment destinations by adding residential, hotel, and entertainment uses to our 40-plus acre urban sites. These retail shopping centers often serve as the commercial hub for trade areas that they serve, and by adding these additional uses on site, we're turning them into mini cities, offering residents and tenants a dynamic live-work-play environment across the country. Much of the excess density to complete these redevelopments has come through the recapture and redevelopment of anchor department store boxes, attached to or adjacent to our malls. We expect our ability to recapture those boxes at good value will only accelerate in the future. While the impact of the COVID lockdown has been felt acutely in our retail portfolio due to the government-mandated closure of all of our malls last month, our places have always provided a safe and clean environment for people to shop and entertain themselves. We're now in the midst of reopening our centers with new measures that will enable them to be the safest place for people to send their families and meet their friends. As of today, around 75 of our retail centers have reopened under restricted capacity, and we expect the balance of them to open in the coming weeks. We're supporting these reopenings by concurrently launching curbside pickup programs at our properties designed to seamlessly integrate online shopping with the inventory held in stores in our malls, effectively turning those stores into fulfillment centers located where our tenants' customers live and work. The feedback so far from our tenants has been very positive, with many of them reporting a significant proportion of their online sales being fulfilled through this channel. We believe this is more than a short-term stopgap measure during the retail shutdown and expect this to become a permanent feature in our tenant supply chain in the future. This will further underpin the value of our premium assets, which are located in these densely populated urban areas throughout the country. Our 170 retail properties are located within a 1-hour drive of 60% of the U.S. population. In the coming months, as our tenants continue the process of restarting their businesses, we will work closely with them to assist them in getting back up and running as quickly as possible. At our properties, we are implementing comprehensive health and safety mitigation measures, including: PPE worn by all employees and available for guests upon request; hand sanitizing stations at high-touch locations; sanitizing wipes available in food courts; frequent signage with health and hygiene reminders, and strict enforcement of social distancing and density protocols. We're also working with our smaller regional tenants to provide them with financial accommodation, recognizing their ability to fund short-term operating losses is not the same as the larger national and international brands. We expect this will have some impact on our earnings over the balance of the year; however, it's expected to rebound quickly as the industry recovers. In addition to assistance to smaller retailers, we plan to utilize the position we have to make investments in retail companies as this industry consolidates. As we announced last week, Brookfield has established a $5 billion Retail Revitalization Program to bring much-needed capital and operational assistance to support the stabilization and growth of retail businesses in all of the markets in which we operate. The program aligns with our approach as value-oriented investors, investing in high-quality businesses at favorable valuations at a time when capital is scarce, in sectors that we know well, and the program will enable us to both support retail companies and deliver attractive returns to our investors. As you can imagine, since announcing this last week, our phone has been ringing off the hook with investment opportunities. We've also been active participants in supporting the industry's efforts to work with the U.S. Federal government on its economic stimulus packages, specifically the Cares Act. We are taking a proactive role in working with our retail tenants to ensure that those who qualify for stimulus receive the subsidies that they're entitled to. Our dedicated tenant resource page and webinar devoted to the Cares Act has attracted over 23,000 visitors, providing valuable information on how to understand and determine the potential options available for our tenants. These subsidies, if applied and distributed correctly, could play an important role in easing the financial burden that retailers and restaurant operators are faced with. In conclusion, while the retail operating environment was already highly dynamic prior to the onset of the COVID-19 crisis, the impact of the lockdown will be to accelerate many of the super trends that we already saw underway. While this may cause us some short-term pain, we own the highest quality portfolio of retail assets in the world and will ultimately be the beneficiaries of consolidation when this is finished. Physical retail real estate will change and evolve over the next decade as it has for many years prior. However, the highest quality, best-located real estate always increases in value over time. And we have no reason to believe otherwise in this case. So with that as my comment, I'll turn the call back over to the operator to see if there are any questions.

Operator, Operator

Our first question comes from Cherilyn Radbourne with TD Securities.

Cherilyn Radbourne, Analyst

Starting with a question on the fundraising environment. I appreciate the comments that you made in a holistic sense. Was wondering if you could drill down and talk about how that looks for real estate more specifically?

Bruce Flatt, CEO

So it's Bruce. I'll make a high-level comment, and Brian may want to add something afterwards. First, the fundraising environment is reflective of everything happening in business today. If there wasn't already movement before this situation, not many new initiatives have been undertaken in the past two months. There have been some, but if you don't have a prior relationship with a manager, it’s unlikely you established one recently. This presents a mixed situation: the downside is that we haven't been able to close or initiate many new deals lately. The upside is that we have a robust pipeline, and our relationships are strong. Investors tend to support managers they already know. Overall, I believe there is still capital flowing into all our business areas, including real estate. Brian, would you like to elaborate on that?

Brian Kingston, CEO of Real Estate

Yes. No, I don't think there's any difference for real estate versus the other asset classes where we're typically raising money. I think we spent a lot of time and have spent a lot of time in the last couple of months speaking to LPs. A lot of them have capital that they're seeing, as Bruce mentioned earlier, earning 0% in their fixed income portfolios and are looking at this as an opportunity to potentially put some of that money to work in high-quality cash flow generating assets and real estate is part of that. So I think there's a lot of appetite out there. And when things do free up, I do think you'll see a lot of capital coming into real estate, but it's the same as all the asset classes.

Cherilyn Radbourne, Analyst

Okay. In terms of your investment posture, do you think that the amount of dry powder that's been raised by BAM and others diminishes the opportunity set versus prior downturns? Or would you see that as proportionate relative to the scale of opportunities that may emerge here as other shoes start to drop?

Bruce Flatt, CEO

I would like to comment that our overall perspective is that, while we cannot predict the future, we believe the economic impact on businesses lacking significant liquidity will present us with considerable opportunities as we move through the second and third quarters. The recovery may not occur as quickly as hoped, but those with capital will find ample chances to make investments.

William Katz, Analyst

Okay. Thank you very much for the extra discussion today as well. So maybe I could start there on the real estate side, Brian. So you mentioned the strategy of sort of being within an hour's drive and the densification and multiuse, et cetera. Does anything change post COVID-19, just given the potential for any kind of structural shifts in commutation or work from home type patterns that might otherwise dilute that strategy?

Brian Kingston, CEO of Real Estate

No. I believe in the short term, our operations in office buildings and shopping centers will change until we have a vaccine and people feel more at ease. However, the trends I mentioned have been developing over the past 20 years, such as increasing urbanization and companies utilizing their office spaces to foster their culture and enhance collaboration among employees. Currently, this has been disrupted due to the shutdown, and people are adapting by using Zoom and other tools. Nonetheless, in the long run, these office spaces remain essential to business strategies, and I don’t foresee that changing. Operationally, we will likely see hand sanitizer and similar measures becoming standard in buildings, but I do not believe the long-term demand for office space will change significantly.

Nicholas Goodman, CFO

Yes, Bill, I don't think there was anything noteworthy regarding margins this quarter. The fee-related earnings are steadily increasing and demonstrate the resilience of our business model and BAM's ability to generate free cash flow. We maintain a positive outlook for the future. We will continue to invest in the business to support our clients in the long term as the business expands. The margins were fairly stable this quarter and are expected to remain within those ranges. As we diversify our product offerings and enhance our core products, alongside potentially increasing market-based strategies in Oaktree and the growth of our product mix, margins may fluctuate slightly. However, overall, the results were consistent with previous quarters, and you can expect similar outcomes moving forward.

Mark Rothschild, Analyst

Bruce, when you completed the Oaktree transaction acquisition, you spoke about how this acquisition would really shine during some times of distress, when they can take advantage of that. And it appears that we're getting some of that at the very least right now. How do you see it playing out as far as the cash flow that you get from Oaktree over the next year? And is this something that, while it's a good opportunity for Oaktree to make money, it will just take a number of years for it to actually show in your results?

Bruce Flatt, CEO

I believe that all businesses develop over many years, and results do not materialize overnight. So, in short, our earnings will not be influenced by Oaktree's actions immediately. However, the prospects for the Oaktree franchise over the next three to five years are much brighter now compared to 18 months ago when we acquired the business. That's precisely why we made that acquisition and collaborated with their team. I am confident they will be able to raise substantial funds and invest significant amounts during this period, which is an exciting time for both them and us.

Mark Rothschild, Analyst

In terms of your current transactions, there may be some distress. However, significant acquisitions are likely to take time. In contrast, the public markets offer quicker opportunities, as you've indicated. How can the funds you raise, whether from private equity or property, be utilized to invest in public securities in a meaningful way, especially considering that there may be more opportunities for dislocation now compared to larger transactions?

Bruce Flatt, CEO

So just to be clear, all of our opportunistic funds have total discretion to invest in public securities as long as they serve a purpose. Most of the positions we purchased are within the private funds we manage for our clients.

Andrew Kuske, Analyst

Question is either for Bruce or Nick, and it just relates to the USD 2 billion of capital that you've invested. I think from the public disclosures that we've gotten was, BBU is around $500 million, BIP around $450 million, Brookfield Renewable bought back some in, the $300 million of buybacks across the group. Is there any more granularity you can provide on really what's left of that $2 billion, on what buckets it was allocated towards?

Nicholas Goodman, CFO

Yes. It's really just, Andrew, across the other groups. I think all of the groups in our business have been active. So you’d referenced, it's in infrastructure, it's in private equity disclosure, renewable and in real estate. We have just been executing the same strategy, which is identifying high-quality businesses that we’ve seen traded at a discount to intrinsic value where we think over the long term it could potentially be a catalyst for a broader transaction. So it's fairly broad-based across the groups.

Brian Bedell, Analyst

I have a question regarding the retail side for Brian, specifically about real estate. This is more of a short-term inquiry, but if there were to be a more significant resurgence of the pandemic, particularly in densely populated areas in the U.S., what would your thoughts be on the potential impact to FFO at BPY over the next two to three quarters in 2021? Is there a way to assess the risk of that happening?

Bruce Flatt, CEO

The main risk we are facing is related to bankruptcies. As long as tenants do not go bankrupt, we have long-term leases with them, and we continue to collect their rent. Therefore, even if shopping centers remain closed or if office building usage drops, these situations alone do not affect our funds from operations in the short term. The real concern arises only if tenants declare bankruptcy and are unable to pay. To address your question, if there is a second wave, it will likely have broader economic consequences and could push us further into a recession, but it won't have a direct impact on our funds from operations. I do not anticipate any significant effect on our funds from operations for the remainder of this year as a result.

Operator, Operator

I'm not showing any further questions at this time. I'd like to turn the call back over to Suzanne.

Suzanne Fleming, Managing Partner

Thank you, Operator. And with that, we will end today's call. Thank you, everyone, for joining.

Operator, Operator

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect, and have a wonderful day.