Business Context and Reporting Period
The filing is The Carlyle Group L.P.’s unaudited Form 10-Q for the quarter and six months ended June 30, 2015. Carlyle is a global alternative asset manager operating through Corporate Private Equity, Global Market Strategies, Real Assets and Investment Solutions. The filing consolidates certain sponsored funds, CLOs and the Urbplan real estate variable-interest entity, materially increasing reported assets, liabilities and cash flows without a corresponding impact on net income attributable to Carlyle.
At June 30, 2015, total AUM was approximately $192.8 billion and fee-earning AUM was $130.0 billion, compared with $145.6 billion of fee-earning AUM at June 30, 2014. Common units outstanding were 78,458,491.
Key Financial Metrics
| Metric | Three months ended June 30, 2015 | Six months ended June 30, 2015 |
|---|---|---|
| Total revenues | $856.1 million | $1,992.9 million |
| Income before taxes | $474.1 million | $1,089.4 million |
| Net income | $468.1 million | $1,072.9 million |
| Net income attributable to Carlyle | $30.6 million | $70.1 million |
| Basic earnings per common unit | $0.42 | $0.99 |
| Diluted earnings per common unit | $0.34 | $0.85 |
| Distributable earnings | $386.1 million | $533.7 million |
| Fee-related earnings | $47.3 million | $98.5 million |
| Net cash provided by operating activities | Not separately presented | $3,297.0 million |
Reported results include substantial consolidated-fund activity. Net investment gains of Consolidated Funds were $461.6 million in the second quarter and $967.1 million for the first half, with most of the related earnings attributable to non-controlling interests.
Balance Sheet, Debt and Liquidity
- Total assets were $34.4 billion, down from $36.0 billion at December 31, 2014. Consolidated-Fund assets were approximately $26.8 billion and generally were not available to fund Carlyle’s corporate liquidity.
- Cash and cash equivalents were $1.216 billion, including approximately $990 million after amounts allocated to specific business purposes. Restricted cash was $716.4 million, including $690.4 million held for a non-consolidated fund pending an investment sale.
- Carlyle’s corporate debt included $25.0 million under its senior credit facility, a $14.0 million CLO term loan, $500.0 million of 3.875% senior notes due 2023 and $600.0 million of 5.625% senior notes due 2043. No revolving credit borrowings were outstanding; $750.0 million remained available.
- The senior credit facility was amended to extend maturity to May 5, 2020. Carlyle reported compliance with its corporate debt covenants at June 30, 2015.
- Consolidated CLO borrowings totaled $16.7 billion at fair value and were generally non-recourse to Carlyle. Urbplan borrowings had $173.0 million of principal and $112.4 million of fair value.
- Cash distributions to common unitholders during the first half were $134.6 million. A subsequent quarterly distribution of $0.89 per common unit was declared in July 2015.
Material Changes Versus the Prior Comparable Period
- Second-quarter revenue declined 25% to $856.1 million from $1,138.8 million, primarily because performance fees fell to $294.9 million from $542.4 million and management fees declined 11% to $282.3 million.
- First-half revenue declined 13% to $1,992.9 million from $2,286.2 million. First-half performance fees fell to $867.9 million from $1,162.9 million, while management fees declined 4% to $551.8 million.
- Despite lower revenue, net income attributable to Carlyle increased to $30.6 million from $19.5 million in the quarter and to $70.1 million from $44.1 million for the first half, aided by lower compensation, lower taxes and changes in non-controlling interests.
- Second-quarter ENI declined to $179.6 million from $289.4 million, while first-half ENI declined to $452.3 million from $601.1 million. First-half fee-related earnings declined to $98.5 million from $117.4 million.
- First-half distributable earnings increased to $533.7 million from $505.6 million, largely reflecting higher realized net performance fees. Real Assets distributable earnings were negative $25.1 million, primarily due to the CEREP I French tax matter and Urbplan-related losses.
- Fee-earning AUM declined from the prior year in Global Market Strategies and Investment Solutions, including a $2.7 billion reduction from Global Market Strategies hedge-fund redemptions and a $9.1 billion year-over-year reduction in Investment Solutions fee-earning AUM. Consolidated fee-earning AUM nevertheless increased because of other fundraising and platform activity.
- Equity-based compensation increased to $204.2 million for the first half from $183.2 million. The company also revised forfeiture assumptions, producing a $7.5 million cumulative catch-up expense.
Guidance, Outlook, Risks and Unusual Items
- Management said market volatility related to Greece and China could create investment opportunities, but cautioned that exit and investment trends may not continue. Carlyle invested $1.6 billion and realized $5.8 billion from 150 investments during the second quarter.
- Performance fees remain highly volatile and depend on fair-value changes, realizations, preferred-return hurdles and high-water marks. Accrued performance fees were $3.5 billion, while accrued giveback obligations were $221.8 million. Potential after-tax giveback exposure could reach approximately $1.6 billion if fund investments were deemed worthless, although management viewed that scenario as remote.
- Urbplan required approximately $60 million of additional capital over the following twelve months. Although Carlyle had no contractual obligation to provide funding, management expected Carlyle and senior professionals to continue evaluating and potentially funding additional capital. Urbplan loans were substantially in covenant or technical default, but were non-recourse to Carlyle and had no reported acceleration notices.
- A French tax court found a CEREP I subsidiary liable for approximately €105 million. CEREP I paid approximately €30 million and Carlyle paid approximately €67 million as guarantor during June; approximately €7 million remained to be paid. Carlyle appealed the decision.
- The company faces litigation including the Foy v. Austin Capital matter and a Guernsey action related to Carlyle Capital Corporation seeking $1.0 billion in damages. Management did not believe existing matters were probable to materially affect the financial statements, but acknowledged that adverse outcomes could materially affect a particular period.
- ASU 2015-2, effective January 1, 2016, was expected to significantly reduce the number of consolidated funds and therefore reduce reported assets, liabilities and partners’ capital. Management stated that deconsolidation was not expected to affect net income attributable to Carlyle. Revenue-recognition changes could significantly delay performance-fee recognition, although the ultimate impact remained under assessment.
Facts Investors Should Verify
- Reconcile GAAP net income attributable to Carlyle with non-GAAP ENI, fee-related earnings and distributable earnings, particularly the effects of consolidated funds and non-controlling interests.
- Assess the sustainability of fee-earning AUM, including hedge-fund redemptions, Investment Solutions outflows, fee-basis step-downs and the $11.5 billion of commitments not yet generating fees.
- Monitor realized versus unrealized performance fees, accrued givebacks and the concentration of accrued performance fees in a small number of older private-equity funds.
- Review liquidity available to Carlyle after restricted cash, tax receivable agreement payments, capital commitments, distributions, contingent consideration and potential Urbplan funding.
- Track Urbplan covenant defaults, required capital infusions, litigation and potential impairments, as well as the outcome of the CEREP I French tax appeal.
- Evaluate the effect of the 2016 consolidation accounting changes and any future revenue-recognition changes on reported financial statements and comparability.