StepStone Group Inc. Form 10-Q Summary
Business Context and Reporting Period
StepStone is a global private markets investment firm providing customized investment solutions, advisory services and data services across private equity, infrastructure, private debt and real estate. This unaudited Form 10-Q covers the three and nine months ended December 31, 2020, StepStone’s fiscal third quarter. The company completed its reorganization and initial public offering on September 18, 2020, so post-IPO results include corporate income taxes and income attributable to public-company shareholders, while prior periods reflect the predecessor partnership.
- Combined private markets allocations were approximately $333 billion, comprising $80 billion of AUM and $253 billion of AUA.
- Fee-earning AUM increased to $46.6 billion from $41.2 billion at March 31, 2020.
- Employees totaled 563 across approximately 20 offices in 13 countries.
Financial Highlights
| Metric | Three Months Ended December 31, 2020 | Three Months Ended December 31, 2019 | Nine Months Ended December 31, 2020 | Nine Months Ended December 31, 2019 |
|---|---|---|---|---|
| Total revenues | $247.2 million | $71.2 million | $428.7 million | $302.7 million |
| Management and advisory fees, net | $70.1 million | $66.3 million | $209.2 million | $171.0 million |
| Carried interest allocation | $176.7 million | $4.7 million | $214.3 million | $129.0 million |
| Total expenses | $136.4 million | $51.4 million | $254.4 million | $202.3 million |
| Net income | $107.4 million | $17.2 million | $163.4 million | $94.6 million |
| Net income attributable to StepStone Group Inc. | $25.6 million | Not applicable | $24.8 million | Not applicable |
| Basic/diluted EPS | $0.87/$0.87 | Not applicable | Not applicable | Not applicable |
| Adjusted net income | $27.0 million | $18.0 million | $60.8 million | $41.7 million |
| Fee-related earnings | $22.3 million | $21.3 million | $68.4 million | $46.3 million |
GAAP net income margins were approximately 43.4% for the quarter and 38.1% for the nine-month period. The results were heavily influenced by unrealized carried interest allocation revenue, which was $150.7 million in the quarter and $176.1 million year to date. Adjusted net income and fee-related earnings exclude or adjust for significant unrealized and other non-core items.
Cash Flow, Liquidity and Capital Structure
- Cash flow from operating activities was $120.3 million for the nine months ended December 31, 2020, compared with $67.9 million in the prior-year period.
- Investing cash flow was negative $8.5 million, primarily reflecting net investment contributions and capital expenditures.
- Financing cash flow was negative $12.5 million after the IPO, purchases of non-controlling interests, debt repayment, offering costs and distributions.
- Cash, cash equivalents and restricted cash totaled $189.0 million at December 31, 2020, compared with $89.9 million at March 31, 2020.
- The company repaid its $146.6 million Term Loan B in September 2020 and had no debt outstanding at December 31, 2020.
- The IPO generated $337.8 million of net proceeds before $9.7 million of offering costs. Approximately $209.8 million was used to acquire Partnership units and approximately $128.0 million to purchase existing Partnership units.
- Investments totaled $700.3 million, including $636.9 million of accrued carried interest allocations. Accrued carried interest-related compensation was $320.9 million.
- Management believes existing cash, operating cash flow and investment distributions will be sufficient to meet obligations for the next 12 months.
Material Changes Versus the Prior Comparable Period
- Quarterly revenue increased 247% and nine-month revenue increased 42%, primarily because of higher carried interest allocation revenue and growth in management and advisory fees.
- Quarterly unrealized carried interest allocation revenue increased sharply from a prior-year loss of $14.9 million to $150.7 million, reflecting recovery in underlying private markets valuations after the initial COVID-19 market decline.
- Quarterly management and advisory fees increased 6%; nine-month fees increased 22%, supported by new client activity and higher FEAUM.
- Quarterly expenses increased 165%, largely because performance fee-related compensation rose with carried interest revenue. Nine-month expenses increased 26%, including higher cash compensation and $4.1 million of severance costs.
- Fee-related earnings increased 5% for the quarter and 48% for the nine-month period, reflecting recurring fee growth and lower general and administrative expenses, partly offset by higher cash compensation.
- The IPO and reorganization created substantial non-controlling interests. For the quarter, $76.3 million of net income was attributable to Partnership non-controlling interests, compared with no comparable post-IPO amount in the prior-year period.
- Interest expense fell substantially in the quarter after the Term Loan B repayment; the nine-month period includes a $3.5 million write-off of deferred financing costs and debt discount.
Guidance, Outlook, Risks and Unusual Items
- The filing does not provide specific quantitative earnings or revenue guidance.
- Management expects fee growth to benefit from higher FEAUM, new client activity and $17.4 billion of undeployed fee-earning capital, although deployment timing is uncertain.
- COVID-19 remains a significant risk. Fund valuations initially declined and later recovered; future outbreaks, slower fundraising, delayed capital deployment or delayed realizations could reduce management fees and performance revenues.
- Carried interest is volatile, dependent on unrealized valuations and subject to reversal. The estimated maximum carried interest subject to contingent repayment was $92.8 million net of tax, assuming all investments became worthless, although management considers that scenario remote.
- Accrued carried interest allocations are based on fund valuations recorded with a three-month lag, making reported results sensitive to valuation timing and subsequent market movements.
- As of December 31, 2020, unfunded capital commitments were $60.9 million. Future operating lease payments totaled $81.0 million before expected sublease receipts of $7.8 million.
- The company had no material accrued litigation liabilities and no material clawback liability recorded, but legal, regulatory, indemnification and clawback exposures remain possible.
- Brexit may increase regulatory complexity, operating costs and restrictions on cross-border activities in the UK and European Union.
- Market sensitivity disclosures estimate that a 10% decline in fund investment values would reduce annual management fees by approximately $0.5 million and investment income by approximately $6.3 million.
- In February 2021, the board declared a quarterly dividend of $0.07 per Class A share, payable March 12, 2021.
Most Important Facts to Verify
- Separate recurring fee performance from volatile unrealized carried interest when evaluating earnings quality.
- Review the reconciliation of GAAP results to adjusted net income and fee-related earnings, including treatment of unrealized gains, performance compensation, equity compensation and non-core costs.
- Monitor accrued carried interest allocations, realization activity, valuation changes, and potential clawback exposure.
- Assess the economic impact of non-controlling interests and the company’s approximately 30.8% economic interest in the Partnership at December 31, 2020.
- Verify the sustainability of FEAUM growth, management fee rates, undeployed fee-earning capital and new fundraising activity.
- Review tax receivable agreement obligations, including the $50.7 million payable to affiliates and the commitment to remit 85% of qualifying net cash tax savings.
- Consider COVID-19, market valuation, fundraising, liquidity, regulatory, Brexit and private-markets realization risks when forecasting future performance.