Improving Market Conditions and Full Ownership of Global Atlantic Will Lift KKR's Fortunes

Strategist

Greggory Warren

KKR has built a solid position in the alternative-asset management industry, using its reputation, broad product portfolio, investment performance track record, and a cadre of dedicated professionals to not only raise capital but to maintain its reputation as one of the go-to firms for institutional and high-net-worth investors looking for exposure to alternative assets. Unlike the more traditional asset managers, which have had to rely on investor inaction (driven by either good fund performance or investor inertia/uncertainty) to keep annual redemption rates low, the products offered by alternative asset managers can have lockup periods attached to them, which prevent investors from redeeming part or all their investment for a prolonged period.

KKR is one of the world's largest alternative asset managers, with $552.8 billion in total assets under management including $446.4 billion in fee-earning AUM, at the end of 2023. The company has two core segments: asset management (which includes private markets—private equity, credit, infrastructure, energy, and real estate—and public markets—primarily credit and hedge/investment fund platforms) and insurance. On the asset management side, private markets account for 50% of fee-earning AUM and 70% of base management fees, while public markets account for 50% and 30%, respectively. On the insurance side, following the company's initial investment in, and then ultimate purchase of, Global Atlantic Financial Group, KKR now has exposure to retirement/annuity and life insurance lines as well as reinsurance and retroactive insurance.

Investors in KKR are betting that the company's solid investment track record and fundraising capabilities will continue. While we have confidence in the firm's ability to earn excess returns over the next 10 years, we believe it will become increasingly difficult for the company to do so longer term, as increased competition (including from more traditional asset managers like BlackRock), continued pressure on fees, and a general maturation of the segment (from a solid period of above average growth due to shifting investor demand for alternatives) weigh on results.

Business Strategy & Outlook

We believe the asset-management business is conducive to economic moats. Unlike the traditional asset managers (such as BlackRock, T. Rowe Price, and Franklin Resources), which focus more heavily on traditional asset classes like equity, fixed-income, balanced, and money market funds, alternative asset managers like KKR focus more heavily on less-liquid alternative investments (including private equity, credit alternatives, real estate, and hedge funds). Even so, we think both the traditional and alternative asset managers benefit from switching costs (the core moat source) and intangible assets, including organizational attributes—such as product mix, distribution channel concentration, and geographic reach—and true intangibles—like strong and respected brands and manager reputations derived from successful, maintainable track records of investment performance—that explain why an asset manager might vary one way or another from the switching cost advantage that is inherent in the industry.

KKR has, in our view, built a solid position in the industry, using its reputation, broad product portfolio, investment performance track record, and a cadre of dedicated professionals to not only raise capital, but to maintain its reputation as one of the go-to firms for institutional and high-net-worth investors looking for exposure to alternative assets. During the past decade, the company has produced ROICs that have generally been around 250 basis points above our estimated cost of capital for the firm on average (which while below peers Blackstone and Carlyle Group reflects the company's larger capital commitments to its funds versus peers). 

While we expect that spread to widen slightly over the next 10 years (aided by the infusion of capital from Global Atlantic and the push toward more fee-related earnings as well as the level of interest that still exists for alternatives), we believe it will become increasingly difficult for the company to maintain its excess returns consistently beyond that. Increased competition from its peers (including BlackRock, which has made a big point of highlighting alternatives as a key area for growth in future), continued pressure on fees, a higher overall tax rate after converting from a publicly traded partnership to a corporation, and a general maturation of the industry from a solid period of above-average growth in the face of shifting investor demand for alternatives, in our view, are likely to weigh on results in the long run. As such, we believe the firm has only a narrow economic moat around its operations.

Unlike the more traditional asset managers, which have had to rely on investor inaction (driven by either good fund performance or investor inertia/uncertainty) to keep annual redemption rates low (generally in a 20%-30% range for long-term AUM), the products offered by alternative asset managers can have lockup periods attached to them that prevent investors from redeeming part or all of their investment for a prolonged period. Generally, we favor longer lockup periods, which offer up more substantial switching costs, with private equity tending to offer the longest lockup periods of seven to 10 years compared with quarterly for most hedge funds and fund-of-funds products (after a specified period has passed from the initial investment). This arrangement has allowed KKR to post an annual redemption (retention) rate of less than 15% (more than 85%) on average for the past five-10 years even with about half of its total and fee-earning AUM tied up in products redeemable on a quarterly basis.

We believe the alternative asset managers, much like the traditional asset managers, can improve on the switching cost advantage inherent in their business with organizational attributes (such as product mix, distribution, and geographic reach) and intangible assets (such as strong and respected brands and manager reputations derived from successful, maintainable track records of investment performance) and provide them with a degree of differentiation from their peers. While the barriers to entry are not all that significant for the industry, barriers to success are extremely high, as it not only takes time and skill to put together a long enough track record of investment performance to start gathering assets but even more time to build the scale necessary to be competitive. BlackRock, for example, is the only legitimate traditional asset manager of size competing in this part of the market even though most of our coverage has been focused on building out their alternative asset manager offerings during much of the past decade.

This scenario has provided the larger, more established asset managers with an advantage over the smaller players in the industry, especially when it comes to gaining cost-effective access to distribution platforms as well as handling many of the operational improvements that are now required to create value in private equity and real estate portfolios. The publicly traded alternative asset managers are global institutions with decades of experience investing in nontraditional asset classes, primarily by managing money for private and public pension funds, endowments, foundations, and other institutions as well as for high-net-worth individuals that qualify as "sophisticated investors" (those with sufficient capital, experience, and net worth to engage in these less-liquid investment opportunities that generally require high minimum investments on the part of investors). 

Most of the industry's largest players—Blackstone, Apollo, KKR, and Carlyle—started off in private equity but have expanded their reach over time to include credit, real estate, hedge funds, and funds of hedge funds. Being more broadly diversified—and having a solid investment performance track record—has enhanced KKR's switching cost advantage, in our view.

KKR (founded in 1976) is one of the oldest stand-alone alternative asset managers. It is currently the third largest stand-alone alternative asset manager in the world with $552.8 billion in total managed assets, including $446.4 billion in fee-earning AUM, at the end of 2023. KKR operates with reasonable amounts of scale in each of its segments—private markets, which includes its private equity ($176.4 billion in total AUM and $107.7 billion in fee-earning AUM) and real assets ($130.9 billion/$112.3 billion) offerings, and public markets ($245.5 billion/$226.4 billion), which includes the bulk of its credit offerings and investment/hedge fund products—and distribution channel where it competes. And much like its peers, KKR has built out a large base of employees—including in-house executives, consultants, and advisors—with decades of industry experience that can successfully revitalize a company through cost-cutting, acquisitions, or other strategic maneuvers, increasing the chances of producing a successful private equity or real estate investment.

All these attributes have provided KKR with the ability to not only gather but retain assets in various market conditions, as well as a means of differentiating itself from peers. During the past five years, an overwhelming majority of the capital invested in alternative assets was held in private equity/venture capital funds (60% of industry capital on average), with the remainder held in private debt (12%), real estate/real asset (18%), and other alternatives (10%) offerings. KKR, in our view, is adequately positioned to compete for business in almost all of these segments. That said, the company was the third-largest fundraiser among the stand-alone publicly traded alternative asset managers during the past decade, pulling in $475 billion with its private equity ($218 billion), real assets ($45 billion), and credit offerings and investment/hedge fund ($212 billion) offerings. During the past five (10) years, the company accounted for 5% (4%) of new commitments to alternative products in a highly fragmented industry.

Going forward, we expect competition for new investor capital—which has traditionally centered on manager reputation, fund size, and investment performance—to only increase, especially with more traditional asset managers like BlackRock increasing their exposure to alternatives and showing a willingness to be fungible on fees (given that management and performance fees in this part of the market are significantly higher than what most traditional asset managers are earning with their core product offerings). We suspect that this may have been part of the reason why KKR acquired Global Atlantic, as well as KJR Management. At the end of 2023, KKR's perpetual capital reached $224 billion, up 15% year over year, with the growth driven primarily by the organic growth of Global Atlantic and KJR Management. Perpetual capital represented 41% of total managed assets and 50% of fee-earning AUM at the end of 2023.

Narrow

Economic Moat

KKR & Co., Inc. engages in the provision of investment and private equity asset management services. It manages investments across multiple asset classes including private equity, energy, infrastructure, real estate, credit, and hedge funds. It operates through the Asset Management segment and Insurance segment. The Asset Management segment includes investment management and other services to funds, vehicles, collateral loan obligations, managed accounts and portfolio companies, and transaction-specific income from capital markets transactions. The Insurance segment offers retirement and life insurance services which provide a suite of protection, legacy and savings products to customers and reinsurance solutions to clients across individual and institutional markets. The company was founded by Henry R. Kravis and George R. Roberts in 1976 and is headquartered in New York, NY.

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KKR reports solid Q4 earnings, eyes growth in core sectors

KKR reported solid financial performance in Q4 2022, with strong fee-related and distributable earnings per share, and successful monetizations. The company showcased growth in management fees and assets under management, while emphasizing long-term growth and confidence in future prospects.
Despite challenges in varying investment performance and valuation methodologies, KKR demonstrated strengths in capital raising, strategic focus on core private equity, and plans for substantial growth. Opportunities lie in increased deployment in key sectors, leveraging global presence for expansion, and focusing on growth drivers in global private wealth.
Analysts raised questions about Global Atlantic's performance and KKR's capital allocation strategies, highlighting areas for improvement and monitoring. However, the company's focus on scaling existing strategies, profitability measures, and diversified deployment present promising opportunities for future growth and value creation.

KKR reports robust Q1 earnings, eyes growth in alternative investments

KKR's Q1 2023 earnings call highlighted strong financial performance, strategic priorities, and a focus on value opportunities. The firm showcased growth in management fees, diversified investment portfolio strength, and successful capital market transactions. Challenges include market volatility and real estate portfolio decline, with opportunities seen in alternative investments and scaling through insurance relationships.

KKR reports robust Q2 earnings, eyes global expansion opportunities

KKR's Q2 2023 performance reflects strong fee-related earnings and consistent growth in key portfolios. The firm's ability to raise significant capital, introduce equity ownership programs, and execute share buybacks demonstrates strategic strength. However, challenges exist in the real estate portfolio performance and market conditions impacting deployment and monetization. Despite this, KKR has opportunities for global expansion and revenue generation, supported by an increased deal pipeline and activity.

KKR reports robust Q3 earnings, eyes growth in strategic investments

KKR's Q3 2023 performance showcased strong earnings and fee-related metrics, with a focus on growth areas and strategic investments.
The company demonstrated resilience in fundraising, deployment, and monetization activities, aiming for margin expansion and mid-60% FRE margin.
Global Atlantic's performance and growth outlook remain positive, with opportunities in organic growth and market dynamics.
KKR's strategic focus on health care, private equity, and real estate presents avenues for future expansion and revenue generation.
The company's confidence in achieving growth targets and performance fee contributions reflects a proactive approach to market opportunities.

KKR reports robust Q4 earnings, eyes growth in diverse segments

KKR's Q4 2023 performance reflects strong financial results, with fee-related earnings per share up 21% from the previous quarter.
The company's strategic strengths lie in successful fundraising, diversified growth segments, and a positive outlook for PE fundraising.
Challenges include maintaining sustainable margins, addressing analyst queries, and managing operational expansions.
Opportunities in capital markets, structured finance, and insurance expansion position KKR for future growth and strategic initiatives.

KKR reports strong Q1 earnings, eyes growth in ABF and monetization

KKR's Q1 2024 performance was robust, driven by fee-related earnings growth and strong revenue streams from management fees and performance income.
While facing challenges in the Capital Markets business and managing insurance costs, KKR has opportunities in expanding ABF platform and monetization pipelines.
The company's focus on core private equity, infrastructure, and credit deployment aligns with medium-term guidance, positioning KKR for sustained growth and value creation.

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KKR & Co., Inc. operates as an investment firm. It offers alternative asset management as well as capital markets and insurance solutions. The firm's business segments include Asset Management and Insurance Business. The Asset Management segment engages in providing private equity, real assets, credit and liquid strategies, capital markets, and principal activities. The Insurance Business segment offers retirement, life insurance and reinsurance solutions to clients across individual and institutional markets. The company was founded by Henry Kravis, George R. Roberts, and Jerome Kholberg on May 1, 1976 and is headquartered in New York, NY.

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Thoma Bravo Advantage

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KKR Acquisition Holdings I Corp on Wednesday said it raised $1.2 billion in an upsized initial public offering, selling 120 million units at $10 each, Reuters first reported. The special purpose acquisition company backed by private equity firm KKR increased the offering from 100 million units it had marketed previously.

KKR raises $1.2 billion for new SPAC with plans to merge with consumer or retail company

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Exclusive: KKR seeks $12 billion for flagship infrastructure fund - sources

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FS KKR Capital Is Starting A New Chapter With 12% Yield

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