Earnings Call Transcript - BN Q1 2022

Suzanne Fleming, Managing Partner

Thank you, operator, and good morning. Welcome to Brookfield's First Quarter 2022 Conference Call. On the call today are Bruce Flatt, our Chief Executive Officer; and Nick Goodman, our Chief Financial Officer. Bruce will start off by giving a business update, followed by Nick, who will discuss our financial and operating results as well as the distribution and partial listing of the asset manager. After our formal remarks, we'll 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 laws. These statements reflect 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 welcome to everyone on the call. We had a strong first quarter, reporting net income of $3 billion and distributable earnings for common shareholders of $1.2 billion. Earnings were supported by the continued strong performance of both our asset management business and our underlying operations. Following our last earnings release, we had discussions with a lot of shareholders. Thank you all for that. Post these discussions, we decided to move forward with separately listing our asset management business by distributing a 25% interest to our shareholders. Based on our estimate of values, shareholders will receive a special distribution of $20 billion of shares, which is somewhere around $12 per share at that time. This will be done tax-free for Canadian and U.S. shareholders, and we are working on the other jurisdictions. We will complete this by the end of 2022, and Nick will provide more details after discussing our financial results. Turning first to markets. With elevated inflation, Central Banks are now raising interest rates and pulling back on stimulus. The 10-year U.S. Treasury recently hit 3%, which is over 1% higher than it was at the start of the year. It is really important, though, to remember that for cash-generative businesses, in particular, ones that we own, 2%, 3%, 4%, 5% interest rates are low by historical standards and can be absorbed in our margins. What is more important for us is that we own one of the largest portfolios of inflation-protected assets in the world. Our assets generally have a high investment cost upfront, earn very high margins and have low expenses compared with the capital cost. Therefore, in periods of inflation, we capture most of the benefit from the revenue expansion, and the overall value of our investments tend to increase over time. The compounding effects are more profound as you go forward. We are seeing this impact across most of our businesses. In our infrastructure business, for example, we acquired many assets last year based on expectations that inflation would exceed market outlooks, and we would be able to capture the upside. We are doing that now. Within real estate, based on our experience, construction costs have increased at least 20% over the past 3 years. To maintain returns on a new building, rental rates will also need to be approximately 20% higher. This is what we are seeing in New York right now for high-quality office buildings where rents have increased by even more than 30% from pre-pandemic levels for great properties. Great companies are wanting great space for their people. Our leasing pipeline in our very high-quality portfolio for space is very robust. We're seeing similar impacts on inflation across our portfolio, and it underscores the value of real return assets. They generate strong cash flows through economic cycles while continuing to compound in value. Our clients recognize this. This has led our fundraising to be very strong. We have a vast partner network and a very broad group of clients across the world. In addition, our forms of capital are diverse and have always differentiated us. This will be even more important going forward. We closed our latest credit opportunities fund at $16 billion, and we'll soon be closing our global transition fund at $15 billion. Our latest real estate flagship fund has raised over $12 billion and will be fully closed by year-end. We expect very strong first closes in the second quarter for our infrastructure and private equity funds and have been seeing strong inflows into our perpetual funds. We now have our non-traded REIT approved on numerous distribution platforms and expect to see increased inflows during the second half of this year. Deployment has also been strong. With the public market volatility in the last number of months, we were successful in closing a number of public market bids. In the first quarter, investors committed $33 billion to new acquisitions, and our pipeline remains robust. We committed $10 billion from our latest flagship real estate fund as the dislocation in markets led to a number of value opportunities for us. We're acquiring numerous companies across our other businesses, including a leading software company that is mission-critical to car dealers, a $15 billion electricity transmission business in Australia, and numerous other things. At the same time, the private markets are robust in terms of asset sales, particularly assets that generate strong cash flows and have some form of inflation protection. We continue to actively sell down assets within our real estate portfolio. Notably, we have agreed to sell 2 office complexes in Australia for a total of $3 billion and recently sold a GBP 300 million London office building for a sub 4% cap rate. We're also progressing efforts to monetize mature assets across a number of our other businesses. Given recent events around the world, we wanted to remind you about our global presence. We operate in over 30 countries and do not have plans for this number to change too much over time. We have no Brookfield business in Russia. We've been very disciplined about which countries we invest in and have a few criteria that must be met before investing in a certain geography. Those are: the standard of governance needs to be at the level of advanced countries, the country must be proven over time to have a respect for foreign capital, we should be able to scale the investments meaningfully in the country, and lastly, we should be able to invest across most of our sectors, so we get the benefits of economies of scale. We will continue to refer to these criteria when assessing investment opportunities going forward and will remain choosy about where we put your capital to work. Before I turn it over to Nick, I wanted to end with 3 final points about our overall business. First, we continue to see our fundraising accelerating. While some sponsors are having indigestion, the breadth of our franchise and the diversification of capital make our business very different. In times of consolidation, large brands win. And as a result, we continue to widen our moat. We expect to have our best fundraising year ever this year, and that is on top of a record past few years. Our manager split is meant to continue to advance our strengths even further. Second, we own a vast and highly diversified group of cash-generative inflation-protected assets. In the times we're heading into, this portfolio is what you want to own. We also used the past 2 years to widen our strength. This is starting to pay off and should be true even more over the next 24 months. And last, technology has and is changing the world. We always knew this. Our main issue has always been valuation, which often made no sense to us. The difference now versus 20 years ago is that many technology businesses have become real backbone cash-generative businesses. With valuations now down and may be going lower, this presents great opportunity. We believe we will be able to do many things such as the recent enterprise software acquisition that we added into our private equity business. We have been laying the seeds for years, but for the first time in 20 years, we're really excited about buying great technology businesses at reasonable valuations. Thank you for your continued support. I'll now pass it over to Nick to go over the financial results and more details on our distribution of 25% of our asset management business.

Nicholas Goodman, CFO

Thank you, Bruce, and good morning, everyone. Financial results for the quarter were strong. Distributable earnings or DE were $1.2 billion, and DE before realizations were $947 million, up 28% from the prior year quarter, and that's supported by the growth in our asset management franchise and strong underlying performance across the business. FFO and net income totaled $1.6 billion and $3 billion, respectively. Our asset management business continued to expand and its growth trajectory remains strong. We ended the quarter with $379 billion of fee-bearing capital, and that's up $59 billion compared to the prior year. As Bruce mentioned, we expect 2022 to be our largest fundraising year ever with nearly 50 funds currently in marketing. These funds include the latest series of flagships across our verticals as well as a suite of complementary fund products. In Infrastructure, we launched the fundraising of our third infrastructure debt fund in February and have received strong investor engagement. We expect that this fund will be significantly larger than the previous vintage. In private equity, we launched fundraising on the third vintage of our technology fund with a very strong initial pipeline of seed investments. And as Bruce mentioned, we continue to ramp up the number of distribution channels for our non-traded REIT. The growth in fee-bearing capital directly resulted in higher fee-related earnings, which grew by 21% in the quarter to $501 million and $2 billion over the last 12 months. In addition to the current fee-bearing capital, we have $33 billion of additional committed capital that, when invested, will translate to approximately $330 million of incremental annual fee revenues. This, plus the additional capital that we expect to raise over the next few months, is a significant tailwind for continued growth in our earnings. Moving on to investment performance and monetization activity. Despite recent market volatility, our capital recycling activities across our mature investments continue to remain strong, and we are on track to realize up to $1 billion of realized carried interest during the year. On the back of realization activity within our real estate, infrastructure, and credit funds during the first quarter, we realized $303 million of gross carried interest. Our remaining investments continue to perform well, resulting in strong valuation uplifts. We generated approximately $900 million of carried interest during the quarter, increasing the total accumulated unrealized carried interest to $8.4 billion, net of what has been realized into income already. Lastly, our principal investments continue to provide strong and steady distributions, supporting our distributable earnings. Distributions from our investments were $622 million and that's 27% higher than the prior year. The increase was driven by distribution growth at BIP and BEP and the increased ownership of our real estate business. Operating FFO was $1.1 billion for the quarter, a 43% increase compared to the prior period. The increase was largely driven by the continued growth in our asset management franchise, strong organic growth across our operations, as well as contributions from recent acquisitions. Total FFO was $1.6 billion for the quarter. We're continuing to see trends supporting the recovery in the real estate market. In addition to executing a number of asset sales, we're also seeing strong interest in new leases with many negotiations underway with large-scale global firms on a long-term basis. Our liquidity remains very strong and provides us with significant financial flexibility to deploy capital opportunistically, seed new products, and return capital to shareholders through share buybacks. Since the beginning of the year, we've deployed $170 million of capital towards share buybacks, and if market conditions remain the same, we expect to continue to repurchase shares opportunistically. We ended the quarter with $85 billion of deployable capital, which includes $70 billion of uncalled fund commitments and approximately $15 billion of core liquidity. During the quarter, we enhanced our liquidity by issuing $400 million of 30-year green bonds at 3.63% and $400 million notes at 2.55% by reopening our existing 2028 notes. Our liquidity is further bolstered by $4.1 billion of annualized DE before realizations. And with Brookfield realized reinsurance shortly closing on its American National acquisition, that will add $30 billion of insurance assets to its portfolio, including $8 billion of cash and short-dated liquid assets. Before turning to the details of the asset management distribution, I'm pleased to confirm that our Board of Directors has declared a quarterly dividend of $0.14 per share payable at the end of June. As mentioned earlier, we are proceeding with our plan to publicly list and distribute to our shareholders a 25% interest in our asset management business. The special distribution based on our estimate of value will be around $20 billion or $12 for each share that you own today. We expect to complete the distribution by the end of the year on a tax-free basis to at least Canadian and U.S. shareholders. Over the last 20 years, we have successfully grown 2 businesses, our capital investments and our alternative asset management franchise side by side. The combination of the 2 has been a significant competitive advantage to us. And while they are different in nature, they have worked very well together. We have used our capital to create alignment with our clients and provide them with flexibility and leveraged our deep investing and operating expertise to deliver excellent returns over a long period of time. Our business has been built around our core competencies of acquiring, owning, and operating real assets, which provide essential services and form the backbone of the global economy. Each of our verticals across renewable power & transition, infrastructure, private equity, real estate, and credit operate on a decentralized basis with strong dedicated management, investment, and operating teams singularly focused on their respective business and with their own access to capital. This, we feel, has been a large contributor to our success and the performance of the listed affiliates' share prices has also created further optionality for growth along the way. Today, we have approximately $725 billion of assets under management and fee-bearing capital of $380 billion and have delivered excellent returns to our clients and the capital that we have invested alongside our clients has benefited, compounding at north of 15% returns and now stands at $75 billion gross, around $60 billion net. All in, BAM the public security has delivered around a 20% return over the last 20 years and roughly 17% over the last 30 years. And as we look forward, we're striving to set the business up for the next 20 years in order to achieve similar growth and returns. And looking ahead, we see a tremendous growth opportunity. For our asset management business, our plan is to more than double our fee-bearing capital over the next 5 years to over $800 billion, which will in turn more than double our fee revenues. Our $75 billion of capital currently provides us with $3 billion of annual cash distributions and has generated an approximate 15% return over time. Going forward, we plan to continue recycling and investing our capital and compounding value at north of 15% a year over the long term. Applying the benefits of our learnings over the last 20 years, we have concluded that to optimize this growth, it is best that there will be a degree of operational separation between the capital and the asset manager, while still preserving the benefit of their complementary nature and alignment. Central to everything that we do is our people and our culture. And one of our differentiating philosophies as a business has been and will always be a very strong alignment with our shareholders and our clients, and this will not change. We have always made sure to invest our own capital alongside our clients, and we will continue to do so. This includes us continuing to commit capital to our funds and invest alongside LPs, and we will continue to be anchor investors in our perpetual affiliates, BIP, BEP, and BBU. We will also continue to ensure the strong alignment of our people with our shareholders and clients as well. And our day-to-day business practices and investment philosophies will not change. As mentioned, we plan to distribute a 25% interest in our asset management business to shareholders, allowing our existing and prospective shareholders the ability to own a direct interest in our pure-play asset manager that will look more comparable to asset-light alternative asset managers and should expand our investor base. The manager will have a high payout ratio, 90% or higher, as it does not require much capital going forward, and it will have minimal day 1 leverage. It will, in our view, have an approximate equity value of $80 billion based on a midpoint of current market valuation multiples and subject to the allocation of carried interest, and therefore, a free float of around $20 billion. The corporation will initially own 75% of the asset management business, which we value at around $60 billion. This is in addition to the $75 billion of capital investments we have to date. So in total, the corporation will hold around $135 billion of investments. The corporation will have a lower payout ratio as it will focus on reinvesting and compounding its capital and continuing to build new businesses by leveraging its deep investing and operating expertise. Before I wrap up, I just want to go over a few points worth noting on the transaction. We do not expect any impact to our debt holders or preferred shareholders. Our borrowings and preferred shares will be held at the corporation, but we do not anticipate any impact to our ratings. The split and distribution of our shares will be structured so that it's distributed tax-free to U.S. and Canadian shareholders, and we are currently working through the tax impact for other jurisdictions. The structure of the manager will be the same as our structure now. It will be a Canadian C-Corp that will be dual-listed on the New York and Toronto Stock Exchanges. We will ensure that Brookfield reinsurance shareholders are treated equally to Brookfield Class A shareholders from an economic perspective as a result of the conversion feature in their shares. In terms of timing, we are expecting that this will be completed before the end of the year through a plan of arrangement. Between now and then, we will have a number of customary regulatory filings that will be completed, including issuing a prospectus, shareholder, and court approval. There are a number of details that are being worked through, but we will be sure to provide updates as they become available on our quarterly earnings call and at our Annual Investor Day in September.

James Flatt, CEO

It's Bruce. So the answer is yes. In some of our funds, we buy securities from time to time when markets are going down, and we have been buying some. I would say broadly, though, as you know, the Dow is off 14%, S&P is off 18%, NASDAQ is off 25% or 30%, and half of NASDAQ is off 50%. So the real declines have occurred in securities that haven't really been of interest to us. But we continue, obviously, to monitor it. And I'd say maybe even more importantly than that, the public market transactions, which we have been working on over the past 3, 4 months, many of those, we've been able to crystallize and take them private or are in the process of taking them private. So that's been highly additive.

Nicholas Goodman, CFO

Yes, sure. Happy to Geoff. Yes, I agree with Bruce's sentiment that financing and liquidity is still available for good businesses, assets, and strong sponsors with a good reputation. Definitely, markets broadly are tighter. But for everything that we've been looking to do in new financings or refinancings, we have still found capital readily available.

James Flatt, CEO

I'm going to maybe just answer the one on financing quickly and then Nick can go on to it. And I'd just say that generally, financing is freely available in the market for good businesses and everything that we buy, or I would put it in a category of good businesses. But maybe Nick just wants to cover specifically on the capital markets.

Nicholas Goodman, CFO

Yes, your question highlights an important point, Cherilyn. Very little of our current plans for potential asset sales will depend on the public markets. We've previously discussed the advantages of having a diverse global portfolio mainly consisting of real assets, most of which will be sold in private markets to buyers with substantial capital and a strong interest in these inflation-protected investments. We are maintaining our $1 billion target, although this is subject to changes in timing. Based on the current pipeline and the attractiveness of our assets, we still believe this goal is achievable. Overall, we have minimal reliance on public markets, and the private markets remain quite appealing.

Geoffrey Kwan, Analyst

My first question was, when we've seen the markets kind of down or turbulent in the past, Brookfield has sometimes used those opportunities to buy securities in companies. Have you been doing that given what we've seen over the past month or so? And if so, were there particular parts or sectors or parts of BAM that were more active than others? In other words, whether it was top of the house maybe on the infrastructure side or private equity side?

Cherilyn Radbourne, Analyst

The first question is on real estate. Your letter references several property dispositions at very strong values. And I assume that those are dispositions out of funds. But I was hoping you could give us, one, some color on the fundraising environment for real estate, specifically. And also give us a high-level update on the progress that's been made repositioning the BPY portfolio and ultimately reducing the balance sheet capital invested in real estate?

Kenneth Worthington, Analyst

You highlighted an $80 billion valuation for the asset management business. Maybe if we look at 1Q '22 as an example, what would the earnings be attributed to the asset management business that you're spinning off? And can you share with us the rough math you're using to get to that $80 billion valuation for both? I think we know conceptually what you're doing, but if you put some hard numbers around it, it'll make sure we're not missing anything.

Robert Lee, Analyst

Great. A couple of questions. So first, maybe could we dig a little deeper maybe into the wealth management initiative? I believe you pointed to $5 billion of flows to perpetual products and have a range of new platforms you're going to be getting retail on. But of that $5 billion now or maybe beyond that, how much of that are you currently driving from wealth management? And can you maybe kind of dig a little deeper in terms of what your expectations are for that over the coming quarters? Are you seeing, given this environment, any pullback in the wealth management channel? And then I have a follow-up.

Mario Saric, Analyst

I think just coming back to the spin-off, 2 questions. The letter kind of highlighted the benefits of concentrated and specialized management team, and I think Bruce, you've highlighted kind of the incremental benefits of having shares and what you run. Have you decided on kind of the C-suite composition of the asset manager, as if Bruce and Nick as if you're not busy enough already, how do you think about that transition in terms of the composition of the management team?

Dean Wilkinson, Analyst

Nick, I have a question for you. Regarding the 90% payout on the asset manager after the transaction, does that include the carry? I'm trying to determine if that yield is closer to 2% or 4%.

Suzanne Fleming, Managing Partner

Thank you, operator. And with that, we'll conclude the call. Thank you, everyone, for joining us.