Beutel Goodman
Speaker Series…Featuring Bruce Flatt, CEO of Brookfield Asset Management
On September 10, 2019,
James Black, Vice President, Canadian Equities led a fire-side chat with Bruce
Flatt, Chief Executive Officer at Brookfield Asset Management for the latest
event in our Beutel Goodman Speaker Series. Bruce joined Brookfield in 1990 and was named CEO in 2002.
Under his leadership, the company has developed a global operating presence in
over 30 countries, giving him unique insight into many of the issues facing the
world today.
Brookfield Asset
Management, a company with over US$350 billion in assets under management and
investments in real estate, infrastructure, renewable power and private equity,
has been an investment in our Canadian Equity strategies for several years.
What follows is an edited transcript of a highly insightful exchange that
covers everything from the origins of the company to recent acquisitions to
Bruce’s outlook for the global economy.
James Black…
Thanks very much and welcome everybody. We are thrilled to
have you join us today, Bruce. Full disclosure: in addition to Beutel Goodman
having owned the stock since 2014, I was an employee at Brookfield Asset
Management for about two and a half years, around 12 years ago. Brookfield has been a
substantial contributor to the investment performance of our funds, and most
importantly, to the capital appreciation of clients’ portfolios. So Bruce, on
behalf of all of us, thank you. I was hoping we could start by stepping back in
history a bit and talking about the origins of Brookfield to help people who are less
familiar frame how the company has evolved from an owner of assets across a
number of asset classes to both an owner and an asset manager.
Bruce Flatt…
Thanks James, and I’ll just start off by saying thank you
everyone for coming. I am proud that Beutel Goodman is an investor in Brookfield.
As to the origins of Brookfield,
here’s what I would start with: sometimes you get lucky in business. One of our
people came upon a very interesting idea 25 years ago, and we invested into all
of the things we do today at that point in time. At that time we were also
invested in a lot of other assets, but we disposed of them because they were commodity-related, highly
volatile businesses and although they tended to do really well if you picked
the right timing, they did poorly over long cycles. If you invested in
them on a cost-of-capital basis, it was very tough to make a return over a long
period of time as a permanent investor.
Instead,
we decided to focus on core businesses that we still have today: real estate,
infrastructure, renewable power and our industrial business, which we call our
private equity business. At that time, we concluded that the only
legitimate way that we could expand the business and get to the scale we needed
was to find capital to
invest beside us. We thought about different ways we could do this and
came upon the idea that if we could provide these products to institutional
clients, they would place them into their portfolios and we could earn them a
reasonable return. At that point in time, some competing funds were investing
directly in real estate, but nobody did infrastructure or renewables, and
private equity was just starting out as an allocation in U.S. plans via some of the big
private equity players.
I’d say this is where luck played into it: over the last 25
years, institutional pools of money grew exponentially, while interest rates
declined from 8.5%-9% to 1-2%. This combination of events meant that our first
institutional investors did very well with us and with others who provided the
same types of alternative products. It gave them the confidence to continue to
invest, but more importantly—and this is the luck—some of the institutional
funds are so large now that they almost have no other choice than to put money
into alternatives. When you get to a point where you can’t roll a 2% coupon
over in a fund; when those coupons are now negative, you just can’t legitimately invest in fixed income
when rates are negative. Every Japanese client we have, every Korean
client we have, every European client we have is in this situation.
We experienced this for 10 years in Japan and it’s starting in Europe
today, so the wall of money is pushing somewhere else. I’m not a
macro-economist and I don’t try to be, but I think the enormous pressure on the
U.S. Treasury at 30 years and 10 years is because of these institutional
clients with massive rollovers of capital and nowhere else to go. There really are only three
places in the world where all of that money can go: equity markets,
alternatives, and U.S.
treasuries. U.S.
treasuries are at least positive today, but it’s scary to buy them at 1%—at
best you’re going to earn 1% for 30 years, and they [rates] might go up to 2%
and you’d lose a lot of money.
We got really lucky. We executed and took a business that
was largely investing for our own balance sheet—and we still do that—but now we’re investing on
behalf of an enormous client base. With every transaction, about 20% of
the money is sourced from one of the discretionary balance sheets we have
control over and 80% from institutional clients. That has been a big change in
the business and we’ve had a great ride. We’ve compounded at 17%, 18% for 20 years. But I really
think the wall of money is only starting.
James Black…
In addition to the private funds and the institutional
clients, you have a second source of third-party capital—your listed
investments in your four major asset category partners: Brookfield Property
Partners, Brookfield Infrastructure Partners, Brookfield Renewable Energy
Partners, and Brookfield Business Partners, your private equity listed fund.
What roles do they fill in your asset-management strategy?
Bruce Flatt…
Fifteen to twenty years ago, we thought what we needed was
broad access to liquidity, because the things we buy, own, build and run have
enormous asset values. The one tower at Brookfield Place – which we are looking
out at—alone, for instance, is worth $1.6 billion to $1.7 billion. We looked at
master limited partnerships in the United States and thought, “How can
we adapt those models to benefit our investors?”
We
created all four of our partnerships listed on the New
York and Toronto
stock exchanges through spin outs. Brookfield Asset Management kept 30%-40% and
gave the balance of the shares of the spinoffs to existing shareholders, thus
creating the permanent partnerships that invest beside our institutional
clients. The way we think of them is we provide our institutional clients
real estate expertise, infrastructure expertise, power expertise, or private
equity expertise and we provide the same thing to retail investors in the stock
market by having these listed vehicles. We have discretion over the investments
just like we have with our institutional clients, and it just gives us a
different source of capital, which allows us to do things that most other
investment managers we compete with can’t do. These permanent capital vehicles give us access to the
capital markets and they help us build the business significantly. They
participate in exactly the same areas our institutional clients participate in.
James Black…
Can you talk a bit about Brookfield’s investment strategy?
Bruce Flatt…
Our view is that capital in a business should either have a
strategic advantage when invested or it should be given back to shareholders
and somebody else should take that capital and invest it where there is
strategic advantage. We
care a lot about capital allocation and organically over the last
25 years, we’ve come upon three things that give our capital an advantage:
1.
Because of our institutional clients, our partnerships and our own balance
sheets, we have access to more money than most people in the world, so a
$100-million transaction may have 35 investors who can bid for it; a $1-billion
transaction may have 8; and a $5-billion transaction may have 3—and once in a
while, there may only be 1 or 2 people who can bid for it. That is an enormous advantage,
so we try to use that as a strategic advantage and we’ve gotten to a point
where most things we do have a scale.
2. We
have people in 30 countries around the world who ensure that when we make
mistakes, we can dig our way out. We know how to get money into and out
of a country. We know the rule of law and whether or not a nation respects
capital. We only go to places that adhere to our strict criteria. Most
importantly, we are value investors, and the only way we felt we could continue
to be value investors was to be diversified not just across industries but also
across countries, because countries don’t all act the same way at the same
time. This allows us to
move money to the places that require capital, and therefore the large sums of
money on the margin are always being allocated to these value-based places.
3. The
value of having strategic partners is the 100,000 people who work for Brookfield. They
work for those partnerships; they stay within those businesses; they are
permanent to us. This gives us an enormous differentiation of the capital that
we have.
James Black…
What we find attractive about Brookfield as an investment is that in many
ways, your approach is valuebased, long-term—you buy stuff that in most cases
you can own forever. That’s very much how we look at investments. We have a
minimum three-year time horizon and we want a 15% annual return over that time
horizon with new investments. Brookfield
has a similar approach, depending on the asset class, but would look for a
mid-double-digit return on assets over time. So this is a very easy company for
us to own because we understand the basis on which the investment decisions are
being made. I’d love to hear a couple of war stories when it comes to
investments. Maybe one that worked out better than you thought it would and one
that didn’t, and what you took away from those.
Bruce Flatt…
Well James, in a record that is pretty good over a long
period of time, I can tell you that we’ve made a lot of mistakes. Maybe the most important thing
we’ve found about making mistakes is never bet the franchise on anything, and
if you do bet, be very aware of the mistakes you make and learn from them
instead of letting them destroy the franchise.
The biggest thing for us is going into new industries or new
businesses or new countries – and I’ll say this about Canadian companies –
about 30 years ago I started going to the U.S. and trying to build the
business. The horror stories you’d hear about Canadian companies going to the United States
and getting their feet blown off was just tragic. It destroyed a lot of
management teams’ incentive to build their businesses in the U.S. We did it slowly and I think that was really
important because if you blow your feet off in an investment, even if it
doesn’t harm the company irreparably financially, what it does is take away the
confidence of the management team or the board, and it takes years or decades
to reverse that in a corporate culture. So for us it’s really important
that we don’t make any really large mistakes, although we have made lots of
small ones.
One mistake that may be relevant to some of you is investing
in foreign places, even if that is just buying stocks outside of your native
currency. Often people don’t think about currency; they think they’re a genius
to have bought something that has gone up 40%, until they figure out that 40%
after a 40%-decline in the currency is actually a loss.
We had been in Brazil for a long time, just due to
some of the history of the company. We sold a lot of assets back in 2005-2007,
but then the financial crisis arrived there and we doubled down, tripled down.
We bought some amazing assets—in fact, we bought a lot of these assets, I would
say, at 25 cents on the dollar. But the currency declines took an amazing
turn and made it just okay. I’m not sure that the risk we took was compensated
by the return we got after the currency loss. We kept investing and kept
doubling down, which I would say is an important tenet of value investing, and
because of that some of the returns we had were stunning. So we did fine overall, but the
point is, when investing in international markets, paying attention to currency
is really important.
By and
large, we hedge – even though it costs us – in most currencies back to U.S.
dollar if we can. The sums of money we deal in are very large and
posting collateral with currency hedging is in itself risky, so most people
don’t pay attention to that. We spend a lot of time thinking about it and we’ve
learned a lot over the years through mistakes in that area.
James Black…
Building on that, one thing that Brookfield has been able to do very well is
take advantage of dislocations at different points in time and make
transformational deals that either establish you in a new asset class or help
you build critical mass. A couple that spring to mind are the World Financial
Centre in the early nineties and Babcock & Brown post-financial crisis on
the infrastructure side. Do you think we might see that kind of dislocation
again, where Brookfield
can step into the void?
Bruce Flatt…
Our view is always informed by what we see within our
business. Overall, we see nothing that really says there is going to be a total
meltdown in the economic situation of any country, particularly in the United States,
which continues to do pretty well even though some people quote technical
problems. In general, the global economy is operating quite well.
Despite
that, we’re worried that we’re 11 years into an economic recovery, stock
markets are at highs, bond markets are at highs and politics are crazy everywhere.
I have the benefit of travelling country to country to talk to our people, and
every one of them is focused on their own politics. If you just go through the
list it’s very worrying, but while we’re cautiously investing in more defensive
areas than we would have five years ago, it’s not because we see anything out
there. It’s because our
business is about ensuring we earn a reasonable return over the long term, and
the enormous amounts of money are prepared so that we have capital when others
don’t. To give you an indication of what we’re doing, we have more cash
on the balance sheet than we ever have before and more capital available for
institutional clients than ever before. We also bought Oaktree, which is a credit manager, and we
partnered with the founders of it because we think at some point in time our
balance sheet and relationships, combined with the capital behind their
franchise, will allow us to do extremely well coming out of a market downturn.
JamesBlack…
Culture in successful companies is extremely important, and Brookfield has always had
a culture of ownership among its employees, meaningfully investing in the stock
of the company alongside shareholders. My view is that this differentiates you
from other asset managers where staff is more transitory in nature and more
focused on short-term compensation than long-term. As you’ve grown, how have
you been able to retain that same culture that was in place when I was there,
and how do you integrate—or not integrate—a new investment, a new asset class
like Oaktree, into that culture?
Bruce Flatt…
It’s more difficult as you get larger for any organization
to ensure that the culture stays the same. Despite that, I think the advantages
of scale we have in place outweigh the disadvantages that come with the issues
of size. We’ve tried to
keep our principles, which are pretty simple: eat your own cooking, be invested
alongside everyone that is there, and make money for your clients. The
one thing I learned in life is that if you make money for your clients, they
will come back for more. If we didn’t make money for you, James probably
wouldn’t have invited me here. We’ve tried to keep it simple. People can make a
lot of money with us over a long period of time if the company does really
well.
With respect to Oaktree, it’s run by a man named Howard
Marks—he’s what I’d call a legend in distressed investing. He and Bruce Karsh
started the firm 24 years ago and still run it, and their record is
exceptional. We visited them and said ‘we’d like to take the public out of the
company and become your partner’. They looked at me and said ‘it’s the wrong
time to sell, we don’t want to sell’. And we said ‘no, no. You’re not selling,
you’re actually staying in. If you’re selling were not buying.
So we’re buying the public out, in a half cash, half
Brookfield Asset Management shares deal, which we very seldom do. So they are coming along with
us, the public market investors, and Howard, Bruce and their management team
will own 40% of the franchise after the deal closes, so they will remain highly
incentivized alongside of us to continue to build the business. Simply stated,
our machine behind them should allow them to do more with what they have than
what they could do on their own.
James Black…
… and will they give you some interesting client
relationships as well that you don’t have access to today?
Bruce Flatt…
I think it will be additive both ways. We have an amazingly
strong franchise for fundraising in the Middle East.
For unusual reasons, we invest capital for virtually every sovereign plan and
institutional client in every country in the Middle East.
And they have, I’m quite sure, fewer relationships there than we have, and
therefore we will be very helpful to them in that market. Howard’s been raising
money in the U.S.
for a long time and has an amazing track record, and I think his shine on us
will help us a lot. So I think it will be additive both ways, and I think we
can help them scale up their business in ways that they otherwise would not be
able to do.
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