KKR & Co. L.P. — FY2013 Form 10-K
Reporting period: Year ended December 31, 2013; the filing also reports unaudited fourth-quarter results. The registrant is KKR & Co. L.P. The financial statements consolidate many investment funds, so reported assets, income and cash flows include substantial amounts attributable to fund investors and are not equivalent to cash or earnings available to KKR unitholders.
Business context
KKR is a global alternative investment manager and capital markets firm. Its businesses comprise Private Markets, Public Markets, and Capital Markets and Principal Activities. Revenue comes from management, monitoring, transaction and incentive fees, carried interest, capital markets activity, and returns on KKR’s own investments. Year-end AUM was $94.3 billion, up from $75.5 billion in 2012; $21.2 billion of the increase was attributed to new capital raised.
Financial results and liquidity
| Metric | FY2013 | FY2012 | Change / context |
|---|---|---|---|
| GAAP fees | $762.5 million | $568.4 million | Up 34%; helped by Prisma, new Public Markets capital and higher transaction activity. |
| Total expenses | $1.767 billion | $1.599 billion | Up 11%; general, administrative and other expense rose, including a $9.7 million one-time closed-end fund launch expense. |
| Total investment income | $8.897 billion | $9.102 billion | Down 2%; investment gains remained substantial, while dividend income fell. |
| GAAP net income | $7.854 billion | $8.028 billion | Down 2%; most consolidated income is attributable to noncontrolling interests. |
| Net income attributable to KKR & Co. L.P. | $691.2 million | $560.8 million | Up 23%, primarily reflecting KKR L.P.’s increased ownership of the KKR Group Partnerships, from 36.9% to 41.6%. |
| Diluted earnings per common unit | $2.30 | $2.21 | Weighted-average diluted units increased to 300.3 million from 254.1 million. |
| Fee-related earnings (FRE) | $412.3 million | $319.8 million | Non-GAAP measure; segment fees less defined segment expenses. |
| Economic net income (ENI) | $2.196 billion | $2.131 billion | Non-GAAP segment measure including investment income and carry. |
| Cash from operating activities | $2.578 billion | $6.202 billion | Consolidated cash flow is materially affected by fund investment purchases and sales; not a direct measure of corporate cash generation. |
Private Markets AUM rose to $61.2 billion from $49.1 billion, and Public Markets AUM to $33.1 billion from $26.4 billion. Private Markets FPAUM was $50.2 billion and Public Markets FPAUM was $27.2 billion. Fee-generating Private Markets transactions increased to 33, with approximately $15.0 billion combined transaction value, from 17 transactions and $6.5 billion in 2012. Dividend income declined to $695.5 million from $940.9 million; interest income increased to $474.8 million from $358.6 million. Interest expense rose to $99.6 million from $69.2 million, primarily following issuance of the 2043 Senior Notes.
At December 31, 2013, consolidated total assets were $51.4 billion, liabilities $4.8 billion, and KKR L.P. partners’ capital $2.7 billion; the balance sheet includes large fund and noncontrolling-interest balances. Consolidated debt obligations were $1.909 billion, including $1.0 billion of senior notes and $915.6 million of fund investment financing. Separately, management reported $2.2 billion of segment cash and short-term investments, including $0.9 billion of liquid short-term investments; cash and cash equivalents were $1.3 billion. KKR reported $1.0 billion of borrowings under its credit facilities and debt securities for liquidity purposes, and approximately $1.2 billion of remaining unfunded commitments to its funds.
KKR declared distributions of $1.40 per common unit for 2013, versus $1.22 in 2012, and announced $0.48 per unit payable March 4, 2014. Its policy targets substantially all investment-management cash earnings and 40% of net cash income from realized principal investments, subject to reserves, obligations and Managing Partner discretion.
Fourth-quarter snapshot
For the three months ended December 31, 2013, fees were $224.9 million, expenses $580.3 million, investment income $3.648 billion, and income before taxes $3.293 billion. Net income attributable to KKR L.P. was $277.9 million; diluted earnings per unit were $0.89. The large consolidated investment-income and net-income figures include substantial noncontrolling interests.
Outlook, commentary, risks and unusual items
- KKR stated that it does not intend to provide earnings guidance. Results and cash flows are expected to remain variable because investment marks, realizations, carried interest, transaction activity and fundraising fluctuate.
- Management identified global economic and market uncertainty, interest-rate and currency movements, credit availability, exit-market conditions and commodity prices as factors affecting investment performance and realizations. About 74% of investments measured at fair value were Level III, relying on significant unobservable inputs and judgment.
- Private Markets management fees for European Fund III were expected to decline beginning in the second quarter of 2014 as the fund entered its post-investment period; a successor European fund had not yet commenced its investment period.
- The proposed KFN merger was pending at year-end and subject to closing conditions, including shareholder approval. KKR expected to issue approximately 104.5 million common units if completed; related shareholder litigation was pending. KKR anticipated KFN-related management and incentive fees would cease on consolidation, potentially offset in whole or part by investment income. The filing described a revised distribution policy after the merger, including 100% of KFN’s realized earnings and 40% of other realized principal investment income.
- KKR acquired Avoca on February 19, 2014, after year-end; Avoca reported approximately $8.4 billion AUM as of December 31, 2013. Purchase accounting was not complete in the filing.
- At reported year-end fair values, no carried interest was subject to clawback and no net-loss-sharing obligation was due. In a zero-value liquidation scenario, potential clawback was $1.351 billion and potential net-loss sharing was approximately $496 million. These are stress scenarios, not amounts reported as currently payable.
- Legal matters included Primedia merger litigation, an antitrust class action relating to private-equity transactions, and lawsuits challenging the proposed KFN merger. KKR estimated approximately $37.5 million of aggregate losses for matters considered probable and reasonably estimable, while noting that outcomes could differ and some matters could not be estimated.
- Other risks include competition and fundraising pressure, investor redemptions, leverage and refinancing exposure, conflicts of interest, regulatory and tax changes, key-person dependence, and the tax receivable agreement. KKR reported an $89.8 million payable under that agreement at year-end; it generally requires payment to KKR Holdings of 85% of realized tax savings from specified basis increases.
Most important facts for investors to verify
- Reconcile GAAP consolidated results with KKR-specific attributable earnings, FRE, ENI and distributable earnings; confirm the effects of fund consolidation and noncontrolling interests.
- Assess how much reported investment value and carry depends on Level III valuations, unrealized gains, netting holes and future realizations.
- Track KFN merger completion, litigation, unit issuance, fee changes and the resulting distribution-policy effects; separately evaluate Avoca’s integration and purchase accounting.
- Review corporate versus fund-level debt, liquidity availability, upcoming facility maturities, capital commitments and the sensitivity of portfolio companies to refinancing conditions.
- Monitor potential clawback and net-loss-sharing exposures, the tax receivable agreement, and material legal or regulatory developments.
- Consider unit dilution and governance: KKR Holdings held 58.4% of the KKR Group Partnerships at year-end, and its units were exchangeable for common units; the partnership structure also limits common unitholders’ voting and governance rights.