GCM Grosvenor Inc. Q3 FY2024 Earnings Call

Good day, and welcome to the GCM Grosvenor Third Quarter 2024 Results. As a reminder, this call will be recorded. I would now like to hand the call over to Stacie Selinger, Head of Investor Relations. You may begin.

Thank you. Good morning, and welcome to GCM Grosvenor's Third Quarter 2024 Earnings Call. Today, I am joined by GCM Grosvenor's Chairman and Chief Executive Officer, Michael Sacks; President, Jon Levin; and Chief Financial Officer, Pam Bentley. Before we discuss this quarter's results, I want to remind you that all statements made on this call that do not relate to matters of historical fact should be considered forward-looking statements. This includes statements regarding our current expectations for the business, our financial performance, and projections. These statements are neither promises nor guarantees. They involve known and unknown risks, uncertainties, and other important factors that may cause our actual results to differ materially from those indicated by the forward-looking statements on this call. Please refer to the factors in the Risk Factors section of our 10-K, our other filings with the Securities and Exchange Commission, and our earnings release, all of which are available on the Public Shareholders section of our website. We'll also refer to non-GAAP measures that we view as important in assessing the performance of our business. A reconciliation of non-GAAP metrics to the nearest GAAP metric can be found in our earnings presentation and earnings supplement, both of which are available on our website. Our goal is to continually improve how we communicate and engage with our shareholders. And in that spirit, we look forward to your feedback. Thank you again for joining us. And with that, I'll turn the call over to Michael.

Thanks, Stacie, and good morning, everyone. We are pleased to report another strong quarter on our way to a solid full year of growth in 2024. On a year-to-date basis, our fee-related earnings increased 18% and adjusted net income increased 24% over the same period in 2023. Our fee-related earnings margin was 41% for the quarter compared to 31% at the end of 2020, and we continue to believe that we have margin expansion opportunities. We believe that we succeed when our clients succeed. This quarter, we again delivered value to our clients. Performance across our business was solid in all investment verticals. Absolute return strategies performance has been particularly strong with our multi-strategy composite generating a 12.5% gross rate of return over the last 12 months. We enjoyed portfolio appreciation year-over-year across private equity and infrastructure strategies. Real estate valuations have largely stabilized, and the environment there is good with regard to investment opportunities. Capital formation activity continues to improve across the business, and we are seeing signs of improvement in realization activity. We raised $1.4 billion of new capital in the quarter, bringing our year-to-date fundraising total to $4.8 billion, a 34% increase year-over-year. We've seen tremendous growth in late-stage pipeline opportunities, which are up over 70% today from a year ago, with every investment strategy showing real pipeline growth. We continue to expect fundraising in the second half of the year to exceed the $3.4 billion we raised in the first half of the year, and we see strong fundraising momentum heading into 2025. The composition of our recent fundraising highlights the key business drivers that we've discussed on recent calls: the shift to private markets, the shift to direct-oriented investment strategies, the power of our separate account model, and the particularly strong tailwinds behind infrastructure and private credit. Over the last three years, 89% of the $20 billion of capital we have raised was for private market strategies, and nearly 50% was for direct-oriented strategies. Today, 71% of our AUM is in private market strategies and 40% in direct-oriented strategies. Both of those numbers will continue to increase based on recent fundraising trends. Notably, the financial performance of our absolute return strategies has stabilized as expected. Earlier this year, John discussed the stability and growth embedded in our separate account business. The re-up cycle of separate accounts is a powerful foundation of our growth. 42% of our year-to-date fundraising has been in private equity, largely driven by separate account re-ups. Our separate accounts are programmatic in nature and our core exposures inside of our clients' portfolios. We have a considerable re-up pipeline looking out over the next year. Investors continue to increase allocations to infrastructure and private credit and are well positioned to be part of the solution for them. You may have seen analyst reports about a sell-side event we hosted last quarter spotlighting the competitive advantages of our infrastructure platform. We are experienced, we are global. Our track record is good. We can implement all different types of investments, and our sourcing engine is powerful. These differentiators have led to success, with our infrastructure AUM doubling over the last four years. We see further growth in the future. In the case of private credit, we are positioned to provide holistic solutions for client portfolios. That includes serving as a single point of entry for the entirety of the client's private credit allocation and providing complementary credit co-investment and secondaries exposures. Investors continue to grow and evolve their private credit allocations, so the growth potential to scale with them is significant. Credit was our fastest-growing vertical by AUM over the last year, and we expect continued momentum there. We remain confident in our 5-year growth target of doubling 2023 fee-related earnings by 2028, and this year's anticipated growth puts us on pace to achieve that goal. At the same time, we see significant latent earnings power in our incentive fee opportunity, which will benefit growth in adjusted EBITDA and adjusted net income to an even greater degree. And with that, I'll turn it over to John. Thank you, Michael.

The individual investor channel, for good reason, is quite topical in our industry these days, and we have a lot going on in this area at GCM. So that will be the focus of my comments today. Individual investors account for roughly half of the total global AUM, so approximately $150 trillion. And this AUM is significantly under allocated to alternatives. Even if individual investors just get to a 15% allocation, which is around half of a typical institutional target, that's still trillions of dollars. So the opportunity is massive. The individual investor channel is not a singular homogenous group. It's a broad spectrum of individuals in terms of asset and accreditation levels who are reached through a broad spectrum of distribution channels. Success requires a sophisticated and multifaceted approach to delivering solutions to these individuals. For the past several years, we focused on strengthening our presence on wirehouse distribution platforms. We've raised capital via a range of vehicles, including registered funds, qualified purchaser specialized funds and custom solutions for single individual investors as well as advisers who may use a single tailored solution for multiple clients. We've raised capital in the U.S., Europe, and Australia across absolute return strategies as well as private market strategies. We've raised over $3 billion of capital since 2020 from individual investors, comprising nearly 10% of our fundraising over that time period. The next stage of our growth plan is centered on launching a suite of interval fund private market products for both accredited and non-accredited individual investors that will be sold through a broader range of distribution partners, including RIAs, independent broker-dealers, and wirehouses. Success in this market hinges on a strong investment strategy, a well-designed product, and robust distribution resources. This quarter, we reached two significant milestones in our growth strategy, both centered on forming new partnerships around new registered products. First, we announced that we will serve as a core independent manager to the Axxes private market fund. We will be Axxes' investment partner focused on sourcing and executing a diversified portfolio of private equity co-investments and secondaries. Second, we announced a new strategic partnership with CION Investments focused on infrastructure. CION has a long track record of successfully raising capital from the individual investor channel, and we're excited to partner with them to distribute a product to a broader audience. As you may recall from our second quarter call, we secured a $300 million anchor commitment for this effort. Such an anchor commitment is a great advantage in this market as it provides immediate scale at launch. While both of these partnerships are in their early stages, we're very excited for their potential growth over the coming years. We also look forward to continuing to expand our suite of products and distribution capabilities. We're excited to update you in the future about our achievements in this area. And with that, I'll turn the call over to Pam.

Thanks, John. We are pleased with our strong results in the third quarter, which build on the momentum we enjoyed over the first half of the year. Year-to-date fee-related earnings grew 18%, adjusted EBITDA grew 21%, and adjusted net income grew 24% over the same period in 2023. Assets under management were at a record high of $80 billion as of quarter end, a 5% increase from a year ago, and fee-paying AUM also increased 5% year-over-year, ending the quarter at a record $64 billion. Contracted not yet fee-paying AUM ended the quarter at $7.9 billion, an 11% increase from a year ago due to stronger fundraising. As a reminder, our contracted not yet fee-paying AUM typically converts to fee-paying AUM over the next few years and provides a tailwind to our top-line growth. Private markets were once again a key driver in the quarter with private market fee-paying AUM growing by 7% year-over-year. Our private markets business now represents 71% of total AUM and 66% of our fee-paying AUM. Private markets management fees grew 6% for the quarter and 8% year-to-date compared to the prior year. For the full year 2024, we expect total private markets management fee growth to be 9% to 11% over the prior year. Where we fall in this range will depend on the exact timing and amount of specialized fund closings in the fourth quarter. At the beginning of the year, we spoke about our expectation that our absolute return strategies management fees would stabilize in 2024, and we are on track to meet that goal. Third quarter ARS management fees increased 2% year-over-year, and consistent with our prior guidance, we expect full year 2024 ARS management fees to be stable relative to last year. Turning to our expenses. Our compensation philosophy is to align and incentivize our greatest asset, our talent through a combination of annual and long-term awards, including FRE-related compensation, incentive fee-related compensation, and equity awards. We remain disciplined in managing compensation expenses, and third quarter FRE-related compensation was $37 million. Stock-based compensation was $4 million in the quarter. And consistent with last year, we expect a seasonal uptick in the fourth quarter relative to Q3. We plan to continue to use our buyback program to manage dilution from our equity compensation awards. Non-GAAP general and administrative and other expenses were $19 million in the quarter, and due to some seasonality, we were down slightly on a sequential basis. We do expect those levels to increase next quarter. Pulling together these factors on a year-over-year basis, fee-related earnings grew a healthy 9% in the quarter and 18% year-to-date. As Michael noted, consistent with our long-term guidance, we expect to enjoy FRE growth this year, consistent with our five-year guidance to double FRE from 2023 to 2028. Turning to incentive fees. We realized $23 million in the quarter, comprised of nearly $3 million of ARS performance fees and more than $20 million of carried interest. As Michael noted, ARS investment performance has been very strong, positioning us to generate meaningful performance fees this year. As of quarter end, we had $26 million of accrued unrealized annual performance fees, which are incremental to the $13 million of annual performance fees we've realized year-to-date. ARS performance has continued to be strong thus far in Q4. Our gross unrealized carried interest grew approximately 5% year-over-year to $816 million as of quarter end. We believe our incentive fees provide significant embedded earnings potential, which we look forward to unlocking as the capital markets strengthen and M&A activity accelerates. Our balance sheet is strong, and we are maintaining a healthy quarterly dividend of $0.11 per share. There is room for future dividend growth as we enjoy positive momentum in our earnings. We also continue to repurchase shares under our buyback program. And year-to-date, we've repurchased $33 million of stock, leaving $32 million remaining in our share purchase plan as of quarter end. To close, we have confidence in our 2024 and long-term financial objectives and look forward to the opportunities ahead to deliver value to our clients and shareholders. Thank you again for joining us, and we're now happy to take your questions.

Our first question is from Crispin Love with Piper Sandler.

Just first off on fundraising. Michael, you reiterated that fundraising in the second half should be higher than the first. But just in order to do that, you're going to need the best quarter of the year with, I think, over $2 billion of fundraising. So first, can you just speak to your confidence there? And if there is anything specific driving that, that's worth calling out, whether it's infrastructure picking back up, continued strength in PE, or just other areas?

Yes. Thank you. Thanks for the question. We wouldn't have said that with a quarter to go or less than a quarter ago if we weren't confident. And we included kind of the near-term pipeline, some of which includes opportunities where you've already won, but you haven't finished contracting yet and gotten going. We kind of tried to give you an image of how significantly that pipeline has grown from a year ago. And that's something that, particularly when you talk about near-term pipeline, we're tracking very closely, and there are names next to numbers and that sort of thing. So we do have confidence that we are going to deliver on that, and that's a solid quarter of fundraising. It certainly wouldn't necessarily be the best quarter we ever had. So we think it's doable, and we reiterated that because we do have confidence. Importantly, and I think we also tried to touch on this in the prepared remarks, when you look at near-term pipeline, sort of verbal and in finals, like real pipeline, very near-term high visibility, it's every strategy where that pipeline is larger than it was a year ago. Every one of our strategies. The fundraising environment has improved. This is going to be an up year from a fundraising perspective relative to last year, and we expect it will continue to improve into next year, and we're very happy about that.

Great. I appreciate that. And then just one that's a little bit of a longer-term question. But when you think about your revenue and FRE makeup over the intermediate term, the next few years, can you just provide some general thoughts here? Fee-related revenues have been about 80% or so of revenues in what's been a tepid deal market, but with your carried interest earnings potential, and then also just following the election, which has renewed some optimism in deal activity. Would you expect that 80% share to decrease over the coming years? And I know it's difficult with time, but just curious on your general thoughts here.

Well, I think a little bit that's why we talk about things the way that we do. We want to run a management fee-centric business that has good, solid top-line organic growth and then has some margin opportunity, which we're getting through fee-related earnings growth. As we've said and reiterated on this call, doubling from the end of '23's FRE is a goal of ours, and we think that goal is something we are well on our way to achieving this year. We are confident that we can do that. This necessitates a belief that we have real opportunities for solid management fee growth going forward and growth in fee-related earnings. We've also tried to make it clear that due to the unique nature of our particular carry and kind of the history evolution of our carry and the macro environment where transactions were depressed, we think we have significant earnings power within that carry asset. We included a couple of new pieces of information in the earnings deck to help illustrate that. We anticipate that our adjusted EBITDA and adjusted net income will grow faster than our fee-related earnings as we look out over the next four years, which we also feel very good about. Regarding your comment on the election, one likely outcome of the election is an increase in transaction activity, which would be beneficial for the carry line and good for deployment. We think that's a likely outcome of the election.

Our next question is coming from Bill Katz with TD Cowen.

Okay. And we did notice the extra disclosure. So maybe just coming back to the algorithm to drive toward your doubling of FRE growth. It sounds like you're softening up your guidance a little bit for this year from double digits down to a 9% to 11%, depending upon timing. So that would suggest a little more margin expansion. As you look out over the next several years, can you unpack sort of where you think you can get to in terms of revenue growth for FRE versus the margin? The margin looked like it improved pretty significantly quarter-on-quarter, including very good leverage on comp. Just trying to understand the algorithm as we look ahead to the next few years.

Sure. What we want to do over that time period is obviously not linear, but we believe we can drive kind of our core business with our core competencies and capabilities, and we believe we can drive private market management fee growth of 10% or better. We believe we can compound and keep capital. If performance continues in ARS, we will at some point see capital come into that strategy. So you can compound your ARS, and we can see that top-line management fee growth at that 10%, hopefully at 10% plus range over that entire period of time. It'll ebb and flow, but that's what we believe. We can drive margin on the FRE line. We've stated that our carry and the incentive fee line has a lot of upside. We feel very good about that, and we believe that we have plenty of room for margin opportunity while gaining momentum in revenue growth.

Okay, very good. I have a question for you or Jonathan regarding the retail opportunities you've highlighted. Could you elaborate on the suite of services that you mentioned is coming soon? Additionally, should we expect any extra spending to support that growth, or do you believe you already have enough resources allocated to seize that opportunity?

Yes. So maybe I'll start with the last part of your question first, Bill. Embedded in all the commentary Michael made about our plans and the goals with respect to doubling FRE by 2028 compared to 2023 contemplates any spending we need to achieve those goals. The reality for our business mirrors that of others in the space: While you can keep your existing pool of talent satisfied, invest in the business, and still achieve operating leverage and margin expansion, each year, we invest in the business for various initiatives, including individual investor, but that doesn't detract from our financial goals. Regarding the broader opportunity for individual investors, we have raised over $3 billion of capital from the individual investor channel over the last several years. It's a real business today. We raised capital across all of our different investment verticals, globally, and in various forms, including registered funds. We've formed partnerships around two specific registered products that we're excited about: one focused on private equity and another on infrastructure, both of which we believe show potential. We're looking forward to providing more updates on our progress in this area.

John, just wanted to continue the discussion on wealth management. How do the economics work with the partnerships compared to what they might look like if you sold directly through the wirehouse or RIA channel? So thinking about this on a dollar of AUM basis because we assume that the partnerships will probably accelerate the dollar growth. And should we look at these partnerships like sub-advisory relationships, so there's sort of an ongoing revenue share? Or is it different?

Thanks, Ken. I think it's a good question. The idea that you can distribute through partnerships and that you can distribute with your own internal distribution are not mutually exclusive concepts. You've seen many big brand-name alternative firms that distributed to individual investors pursue both strategies simultaneously. The comparison between net revenue or margin, whether you go through internal distribution or partnerships isn't an exact science. You essentially pay for distribution through either path. The margins in both cases can be favorable when scaled. Specifically about the partnerships today, they can operate all differently. In one case, we're a core independent manager, essentially running a separate account for a pool of capital that a partner raises. In the other case, think of it as a joint venture where revenue sharing occurs between manufacturing and distribution. The math in both scenarios is favorable from an asset management perspective, which is why you see this hybrid strategy being pursued.

Ken, it's Michael. We are going to have closes in most of the funds in market in Q4 regarding our private markets full year management fee growth rate that Pam referenced. The determining factor for where we land will be directly related to Q4 closes for two of our funds, specifically Elevate and IAF. As you know, every successor fund that we've brought with the exception of one has been higher and bigger than the prior series. Our pipeline for our specialized funds in all of our strategies is significantly up, reflecting that near-term pipeline. We hope to plan for Q4 closes that will help us achieve the numbers that Pam discussed, and we feel very good about the pipeline.

Just wanted to get your latest thoughts on the private credit industry outlook, particularly after the outcome of the election. If banks now have more appetite to step in again, how do you think this changes the competitive dynamics in private credit? And how are you positioning your business?

Maybe, John, I'll try to take a little bit of that and then you can jump in if I miss anything. The private credit space is growing, and the conversation trajectory is up and to the right. It's coming for very good reason, and the demand is widespread among types of clients, geography, and channels. We don't think that's changing. Growth rates may move slightly based on market conditions, but that private credit space is not a short-term trend. It is a long-term trend that is likely to continue, as it is becoming a more significant part of our revenue stream over time. Also, a higher level of transaction activity post-election would only intensify that demand.

I agree with that completely, Michael. There are cyclical aspects to credit, such as interest rates, but the secular trends for private credit are far more impactful. The demand for capital is the most powerful secular driver that we are witnessing. Many willing investors prefer a way to invest with less volatility, which is a feature of this industry. So that shift in capital allocation is a major, ongoing trend. Additionally, we're only in the early stages of tapping into areas outside of corporate sponsor-backed direct lending. The evolution towards including strategies like co-investing and secondary investments will further shape the market, providing significant opportunities. For us, it's essential to emphasize that an increase in transaction activity as a result of the election will not curb demand for private credit in the short term.

Just thinking through the opportunity set on the realizations, particularly for carried interest. Just looking through some of your disclosures, it looked like there was a reversal within the comp line, so your comp was around 50%, 51% as a payout. Just wondering, what was the reversal? And then as you go forward, particularly given that the vast majority of the residual net accrued carry to GCMG is rising and a higher percentage of the total, how should we think about that payout ratio looking ahead?

I don't think the payout ratio is indicative of a change in our compensation philosophy. While payouts can fluctuate with revenues, we’re comfortable with this historic ratio for planning and modeling. The reality is that improvement can occur as revenues increase, which we anticipate based on our current momentum.

And it appears there are no further questions at this time. I will now turn the conference back to the company for any additional or closing remarks.

Thank you, everyone, for joining us today and taking the time for all of the questions. We are very happy to follow up with any additional questions or if not, we look forward to speaking with you again next quarter. Have a great weekend.

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. We hope everyone has a great day. You may all disconnect.