Carlyle Group L.P. 2018 Q3 Form 10-Q Summary
Business context and reporting period
The filing is The Carlyle Group L.P.’s unaudited quarterly report for the three and nine months ended September 30, 2018. Carlyle is a global alternative asset manager operating through Corporate Private Equity, Real Assets, Global Credit and Investment Solutions. The filing consolidates certain CLOs and other funds, which materially increases reported assets, liabilities and cash flows but generally does not affect income attributable to Carlyle because of non-controlling interests. The filing text identifies the registrant as The Carlyle Group L.P., not Carlyle Group Inc.
- Total AUM was $212.3 billion and fee-earning AUM was $147.4 billion at September 30, 2018.
- Segment AUM: Corporate Private Equity $81.6 billion; Real Assets $46.0 billion; Global Credit $37.4 billion; Investment Solutions $47.3 billion.
- Carlyle raised $6.0 billion during the third quarter and stated that it had reached 83% of its four-year, $100 billion fundraising target, which management expected to achieve or exceed during 2019.
Financial performance and key metrics
| Metric | Q3 2018 | Q3 2017 | 9M 2018 | 9M 2017 |
|---|---|---|---|---|
| Total revenue | $679.1 million | $639.9 million | $2,275.5 million | $2,668.4 million |
| Fund management fees | $328.8 million | $262.5 million | $894.6 million | $747.6 million |
| Investment income | $258.6 million | $312.4 million | $1,124.1 million | $1,626.2 million |
| Income before taxes | $60.6 million | $165.9 million | $438.9 million | $737.3 million |
| Net income | $43.2 million | $167.2 million | $402.1 million | $719.6 million |
| Net income attributable to common unitholders | $11.6 million | $44.6 million | $108.9 million | $185.2 million |
| Basic earnings per common unit | $0.11 | $0.47 | $1.06 | $2.06 |
| Distributable Earnings | $210.0 million | $259.9 million | $463.4 million | $514.2 million |
| Fee Related Earnings | $89.0 million | $108.0 million | $175.0 million | $165.3 million |
GAAP pretax margin was approximately 8.9% in Q3 2018 and 19.3% for the first nine months; net margin was approximately 6.4% and 17.7%, respectively. Common-unitholder net margin was approximately 1.7% in Q3 and 4.8% year to date. Distributable Earnings and Fee Related Earnings are non-GAAP measures and are not directly comparable to GAAP net income.
- Net cash provided by operating activities was $95.0 million for the first nine months, down from $571.8 million in the prior-year period.
- Net cash used in investing activities was $20.1 million, primarily fixed-asset purchases.
- Net cash provided by financing activities was $150.3 million. Ending cash, cash equivalents and restricted cash was $1,239.6 million, including $1,238.2 million of cash and cash equivalents.
- Corporate treasury investments were $224.0 million. Management stated that approximately $1.3 billion of cash and treasury investments remained after amounts allocated for specific purposes, before ordinary-course payables and reserves.
- Debt obligations were $1.56 billion, including $25.0 million outstanding under the senior credit facility, $311.2 million of CLO term loans, $250.0 million of 3.875% senior notes due 2023, $600.0 million of 5.625% senior notes due 2043, $350.0 million of 5.650% senior notes due 2048 and $26.9 million of settlement promissory notes.
- The senior credit facility had a $750.0 million undrawn revolving facility and matures May 5, 2020. Carlyle reported compliance with all debt covenants at September 30, 2018.
Material changes versus the prior comparable period
- Q3 revenue increased 6.1%, primarily from a 25.3% increase in fund management fees. Nine-month revenue declined 15.0%, mainly because of lower performance allocations and the absence of 2017 revenue from the deconsolidated Urbplan real estate VIE.
- Q3 investment income declined $53.8 million, and nine-month investment income declined $502.1 million, primarily from lower performance allocations, especially in Corporate Private Equity.
- Q3 net income attributable to common unitholders fell 74.0%, and nine-month common-unitholder income fell 41.1%. Distributable Earnings declined 19.2% in Q3 and 9.9% year to date.
- Fee Related Earnings increased 23.5% in Q3 and 5.9% year to date, supported by higher management fees, including fees activated on CP VII and CAP V, but partially offset by higher cash compensation and operating expenses.
- General, administrative and other expenses increased $184.9 million in Q3 and $217.1 million year to date. Significant items included a $63.5 million New York lease assignment charge, the absence of 2017 insurance recoveries, higher professional fees and the gross presentation of certain reimbursed fund costs following revenue-standard adoption.
- Carlyle issued $350.0 million of 5.650% senior notes due 2048, repurchased $250.0 million of 3.875% senior notes due 2023 and prepaid the $108.8 million BNRI promissory note. Debt extinguishment costs were $7.8 million.
- Common-unit repurchases totaled $87.5 million for the first nine months, representing approximately 3.9 million units. Common units outstanding were 107,748,095 at September 30, 2018.
- Carlyle adopted the new revenue-recognition standard and reclassified carried interest into investment income as performance allocations. Prior periods were adjusted; the adoption reduced partners’ capital by $0.8 million.
Guidance, outlook, commentary, risks and unusual items
- Management expected 2018 realized net performance revenue to be lower than 2017 because large buyout funds were accruing performance revenue but had not yet generated comparable realizations. Management expected realized performance revenue to improve as those funds entered harvesting periods.
- Pending fee-earning AUM was $11.4 billion at September 30, 2018, up from $10.1 billion at the prior quarter end. Approximately half related to the latest Europe buyout fund, with fees activated at the beginning of the fourth quarter.
- Management expected fundraising to decelerate as large buyout funds completed fundraising, while continuing to expand Global Credit. The filing states that credit remained available on reasonable terms and that Carlyle expected this to continue into 2019.
- Management highlighted risks from market volatility, tariffs and U.S.-China trade disputes, a stronger U.S. dollar, higher interest rates, elevated asset valuations, competition, slower Asian growth, portfolio-company margin pressure, credit risk, foreign exchange movements and illiquidity of private investments.
- Carry-fund portfolio appreciation was 3% in Q3 and 12% for the first nine months. Corporate Private Equity appreciated 1% in Q3, Real Assets 3%, Global Credit 1% and Investment Solutions 5%.
- Accrued performance allocations were $3.95 billion, offset by $63.2 million of accrued giveback obligations. If all carry-fund investments became worthless, management estimated potential realized and distributed giveback obligations of approximately $0.7 billion after tax, although management considered that scenario remote.
- Carlyle had $4.04 billion of unfunded commitments to its funds, of which approximately $3.5 billion was subscribed by senior professionals and other individuals and the balance funded directly by the Partnership.
- Legal and regulatory matters include the CCC appeal, SEC inquiries concerning historical monitoring-fee acceleration practices and relationships with a third-party adviser, the Cobalt litigation settlement process, the French tax dispute involving CEREP and claims related to Urbplan. Recorded liabilities for litigation, regulatory inquiries and other matters totaled approximately $35 million.
- Carlyle agreed to acquire a 19.9% interest in Fortitude Holdings for $381 million at closing, with up to $95 million of deferred consideration; closing was expected in Q4 2018. It also agreed after quarter end to acquire Apollo Aviation Group, with $5.6 billion of AUM, for $75 million at closing plus up to $150 million of performance-based earnouts.
- The Board declared a $0.42 per common unit distribution payable November 20, 2018 and a $0.367188 per preferred unit distribution payable December 17, 2018. Distributions remain subject to the general partner’s discretion.
Most important facts for investors to verify
- Whether performance allocations and realized carry recover as expected, including the timing of realizations from CP VI, CP V, European buyout funds and other harvesting funds.
- The sustainability of higher recurring management fees against fee-rate step-downs, fund distributions and the expected deceleration in fundraising.
- Available corporate liquidity after employee-related allocations, compensation accruals, capital commitments, preferred distributions, tax receivable agreement payments and pending Fortitude and AAG transaction funding.
- The effect of market volatility, higher rates, foreign exchange and trade disputes on Level III valuations, accrued carry and future giveback obligations.
- Closing terms, funding requirements and earnings contribution from the Fortitude Holdings and Apollo Aviation Group transactions.
- Potential exposure from SEC inquiries, litigation and regulatory matters beyond the approximately $35 million accrued liability.
- Reconciliation of GAAP results to Economic Income, Fee Related Earnings and Distributable Earnings, and the impact of consolidation and non-controlling interests on cash available to common unitholders.