Brookfield Asset
Management…Q1 2020, Letter to Shareholders
Overview
During the first quarter of 2020, our fee income grew
significantly, most of our underlying businesses were resilient, and our
financial assets were largely protected as we had hedged many of them with
indexes. As a result, our
recurring results were very strong, and the hedges offset a good portion of the
mark-to-market losses on our financial positions. We reported fee
earnings up 44% on a last twelve-month basis, and operating FFO up 6% on the
same basis. During the quarter, we reported FFO of $884 million, cash available
for distribution or reinvestment of $751 million, and a net loss as a result of
a number of one-time non-cash adjustments of $157 million.
In addition to managing our businesses over the last few
months, we supported many relief initiatives across the United States, Canada,
Europe, India, Brazil, Australia
and Asia. In addition to capital, we provided
medical supplies to hospitals and hotel rooms for frontline medical staff, and
made our hospitals available to governments. We also have tens of thousands of
people working in difficult situations to keep water and electricity flowing,
natural gas for heating and cooling delivered, offices open, goods available in
stores, and mission-critical infrastructure operating. Without these services
the world does not operate, and we thank our people for their commitment and
fortitude.
The
outlook for our asset management franchise is very strong as we have
substantial capital for investment and broad relationships through which to
source further capital. In addition, our Oaktree distressed debt franchise is
finding attractive opportunities to pursue. As for all the businesses we
own, on balance we are in good shape. Most of our businesses have only been
tangentially affected by Covid-19. Our renewables, infrastructure, and office
property businesses have performed very well. We are also working hard to
ensure that in those businesses that have been affected, we are able to not only
withstand the downturn, but also use our capital position to enhance operations
through this period of stress.
While a large portion of our businesses have operated
throughout this crisis as they are critical infrastructure, we have now moved
our focus to the re-opening phase for all of our remaining operations and
offices.
Market Environment
The first quarter saw records set for many historical
metrics. These have been well reported, so we will not repeat them here. It is
safe to say, however, that while acknowledging the health and financial issues
during the quarter, we came through the period in relatively good shape. While the second quarter will be
tough for every business, including ours, it appears that we at least know
better what we are dealing with.
Credit markets have opened for investment-grade borrowers;
some non-investment grade issuers have been able to access capital; and equity
markets have partially recovered in what would technically be considered a bull
market. At the same time, economic numbers for the next while are going to look
quite poor, and there is no doubt that business will continue to be challenging
for some time.
The more positive tone of the stock and bond markets are the
result of the government measures to combat the health crisis, and the enormous
stimulus programs that have been unleashed into the markets globally – in
particular in the United States. No one knows how either will ultimately fare,
but it is clear that without these efforts we would all be in a much different
place.
Performance Update
Financial results were strong this quarter, benefiting from
stable and growing cash flows from our asset management franchise and strong
underlying performance from our assets and portfolio companies. Assets under management
and fee-bearing capital grew over the last twelve months to $519 billion and
$264 billion respectively, representing increases of 42% and 76% from the prior
year. This growth includes
the addition of Oaktree and more than $45 billion of capital raised from third
parties over the last twelve months, including approximately $9 billion in the
most recent quarter.
Fundraising and Fee-Bearing Capital
Our latest round of flagship funds are now approximately 50%
invested or committed, and we expect to continue to find strong opportunities
to deploy their remaining capital as the current environment begins to
stabilize over the coming months. Oaktree has also been actively investing its latest distressed debt
fund, as opportunities have picked up considerably. The fund is now
approximately 80% invested and fundraising has been launched for its next fund
vintage, which is expected to hold its first close in the coming months.
Our growth in fee-bearing capital led to an increase in
fee-related earnings of 35% in the quarter relative to the same period a year
ago, and a 44% increase in earnings for the last twelve months, both before
performance fees. These increases are due to the capital raised in our
infrastructure and private equity flagship funds, and across our perpetual
private fund strategies. Fee-related earnings also benefited from increased
revenues from our partnerships over the last twelve months, and the addition of
two quarters of fee-related earnings from Oaktree.
Funds from Operations (“FFO”) and Cash Available for
Distribution and Reinvestment (“CAFDR”)
Our Funds from Operations (“FFO”) from invested capital
during the quarter and last twelve months decreased modestly, primarily as a
result of lower mark-to-market gains on financial assets and cash flows within
our renewables marketing business. In addition, certain portfolio companies experienced production
slowdowns during the quarter as a result of the economic environment, but these
impacts were modest, and while the impact will be greater next quarter, we
expect this effect to be short-lived, given the quality and defensive nature of
our businesses. All this resulted in our operating FFO being broadly
even with the prior year’s level, at roughly $720 million. On a trailing
twelve-month basis, results are comparatively strong, with operating FFO of
$2.9 billion.
The other important operating metric we report is our Cash
Available for Distribution or Reinvestment (“CAFDR”), which is the free cash
flow we generate at BAM (fee-related earnings plus the distributions we receive
from our listed affiliates). In the first quarter we generated $721 million of
CAFDR before carried interest, which is higher than Q4 2019 and considerably
higher than the same quarter last year, reflecting the growth in the asset
management franchise and growth in distributions from the listed issuers. While
our FFO reflects our in-quarter earnings, the CAFDR is a good indicator of the long-term earnings
power of the franchise, as it combines fee- related earnings with what we
believe to be the long-term sustainable earnings of the listed affiliates.
These results further underline the resiliency and stability of our business
model. Our annualized CAFDR is $2.4 billion, before accounting for any carried
interest.
Carried Interest
As of March 31, 2020, the gross unrealized carried interest
accumulated for our portion of investment gains was $3.2 billion. The long-term nature of our
funds allows us to be patient with regard to exiting investments, and to
therefore better maximize value creation. This is different from many
other managers who own far greater amounts of liquid securities in funds and
have therefore had to take greater mark-to-market losses during the quarter. In
addition, we follow conservative accounting standards and this $3.2 billion asset has not yet
been recorded in our income statement, nor is it recorded as an asset on our
balance sheet.
Over the past twelve months, we took $370 million of net
realized carried interest into income, including $59 million during the first
quarter. We also accrued $379 million of new carried interest, before the
impact of foreign exchange and costs over the same twelve-month period. The
impact of the most recent quarter was not significant compared to our total unrealized
carried interest today, as
the majority of the investments within our funds are critical assets and/or are
assets that have long-term, contracted or regulated cash flow streams. We have
minimal exposure to public securities or energy investments, so most of our
assets were not impacted by the volatility in those markets.
Investments
We invested or committed for investment approximately $11
billion of capital during the quarter. We closed on several previously
announced transactions, and we announced a merger agreement to take TerraForm
Power private into Brookfield Renewable. We invested $5.5 billion across Brookfield strategies, and
Oaktree invested $1.5 billion of capital from their latest flagship distressed
debt fund as well as an additional $4 billion across their other strategies.
We have recently deployed approximately $2 billion of
capital into the public equity markets, including repurchasing shares of BAM and our public
affiliates at significant discounts to what we believe to be their intrinsic
value, as their prices traded down with the general market sell-off. We
have also built up toehold positions in the shares of several companies that we
feel, like ours, are being significantly undervalued in the current market
environment.
Capital Availability
We have over $60 billion of cash and uncalled fund and loan
commitments from clients and financial partners. This includes $46 billion of
client commitments for new investments and $15 billion of liquidity in the form
of cash, financial assets, and long-dated committed credit facilities across
BAM and our public affiliates, which remain largely undrawn. This number includes
approximately $1.5 billion of long-term financing across BAM and our public
affiliates raised after quarter end, which included $750 million at BAM, C$400
million at BIP, and C$350 million at BEWe also increased our credit facilities by $2 billion, and
we continue to experience strong access to credit markets. A few weeks ago, one
of our U.S.
hydro facilities finalized a $560 million, 10-year asset recourse-only debt
financing with an all-in coupon of 4%. Looking forward, we will continue to add
to our liquidity and deploy capital as opportunities arise. Together with our
various pools of capital – including the dry powder within our flagship private
funds, Oaktree’s funds, and other funds we are raising – we are well positioned, with a target to have in
the short term over $75 billion of dry powder (investable capital) to support
our strategies.
Liquidity, Liquidity and Liquidity
In reflecting on what really matters to our business, it is
Liquidity, Liquidity and Liquidity, in that order. It is not this quarter’s
results or next quarter’s, and it is not whether we make great investments
during this financial crisis. It also is not whether we raise another large
fund. All of these are important, but none is the most critical. And while we
hope to report strong results, make great investments and raise large new
funds, they are not what really matters.
What
really matters is liquidity. The most damaging thing for any business owner is
to find yourself out of business and unable to participate in the recovery, or
in a position of needing to issue shares which dilute the owners, and therefore
make it impossible to ever recover from undue dilution at the wrong time. As
all of you know, most businesses survive, but sometimes with new owners (debt
converted into equity or shares issued to new investors), and that dilutive
process is one of the most destructive forces that exists in long-term wealth
creation.
It is important to note that if a business has not
previously prepared for a period like the one we’re in now, it is often too
late. As Mr. Buffett has been famously quoted as saying over the years, “Only
when the tide goes out do you discover who’s been swimming naked.” The one thing that really
matters is that a business can make it through this period, intact and without
undue harm. That is what counts. And it is usually a function of having made
preparations before the tide went out.
Fortunately, we are in a very strong position financially.
This includes low amounts of long-term corporate leverage; $15 billion of cash
and available term credit lines on our parent company and partnership balance
sheets; $46 billion of investor capital available for deployment; virtually no
cross or corporate guarantees on assetspecific debt; and relationships with
financial institutions and institutional clients that span decades. As a result, we are confident
that we are well prepared in terms of what really matters.
Adaptability
At Brookfield,
our goal for a very long time has been to build one of the best alternative
asset management businesses globally, and to provide these services to an
expanding array of institutional and retail clients. While this is our solidly
established long-term goal, we have always believed that we should be very
flexible with regard to execution. No one really knows what the future holds;
the current situation exemplifies the need for flexibility within the confines
of our long-term goals.
Our investment strategy is based on buying value. We underwrite businesses’ cash
flows and look at the longterm sustainability of those cash flows. But we
remain flexible in terms of how we access opportunities as markets change.
Our private funds had been investing in carve-outs of assets from companies for
years, as high valuations in the public markets offered few opportunities. Today, the opposite is true. We
are buying shares of companies in our private funds at a fraction of what we
would have to pay to acquire those same assets directly from the companies.
Our goal is the same; it is just the execution that is different.
We
partnered with Oaktree last year because we wanted to have a full-scale
operation to acquire debt in the secondary markets, and to have professionals
capable of underwriting financing to companies when capital is unavailable
elsewhere. The Oaktree franchise has a goal of providing primary capital
to companies, or buying secondary debt, on a value basis. Depending on markets,
they adapt their strategy to deploy capital. During March, prior to
announcement of the Federal Reserve’s bond buying programs, they were
purchasing significant amounts of debt in the secondary markets, as the yield
spreads had gapped out significantly. Post the announcements, spreads tightened
and a greater focus in April was on providing funds directly to companies in
need of capital.
The important point of these examples is that we are
constantly adapting our strategies for investment, but the underlying goal is
always the same – to build one of the highest-quality alternative investment
managers.
Permanent Capital
One of the great strengths of Brookfield is our very large base of
permanent capital. With
over $100 billion of permanent equity, we have the ability to ride out storms
that inevitably occur in markets. This has been exemplified recently, as
we had minimal financing issues despite the market stress. We are fortunate to
have been in the markets, issuing investment-grade financing from our balance
sheet and from our permanent equity listed affiliates. This distinction is
always very helpful; however, in times like this it is the difference between
being able to look to the future rather than having to spend time focusing on
the past.
For many years, our perpetual listed affiliates have played
an integral role in the growth of our business. Brookfield Property Partners
(“BPY”), Infrastructure Partners (“BIP”), Renewable Partners (“BEP”) and
Business Partners (“BBU”) provide dedicated investment entities for investors
seeking exposure to specific asset classes. They have delivered strong compound
annual returns for their shareholders’ invested capital and our own, while
providing transparent and stable cash flow streams. The creation of these entities enabled us to
simplify our balance sheet for investors, and they now are a powerful source of
permanent capital for us.
These
entities own high-quality assets with strong downside protection, and they
generate sustainable long-term, cash flows. Within BIP and BEP, revenues
are generated from long-dated contracts, regulated revenues or “take-or-pay”
arrangements. In BPY, the majority of the properties have long-dated lease
agreements with high credit-quality tenants. As a result of the stability of the cash flows, each of
these entities was set up to pay their annual distributions that equated to a
long-term target of approximately 70% of FFO. The quality of our assets,
combined with our investment-grade balance sheets, should enable the
partnerships to continue to do that.
As a
result, each of these entities has met its long-term growth and distribution
targets since inception. Even in times of stress, such as the prolonged
period of low water levels within our renewable power business in 2016, we
maintained and grew our distributions because of the conviction we had in the
long-term profitability of the underlying business. This strategy was validated
in 2018 and 2019 when water levels returned to normal levels, bringing our
distributions back on track to our long-term ratios.
All of
these entities are conservatively capitalized with strong access to capital,
with the goal of being self-sustaining to fund their growth activities and
obligations. Today, each of BPY, BIP and BEP has an investment-grade
balance sheet supported by a strategy of financing underlying assets on a
standalone, predominantly investment-grade basis. Even just in the past few weeks, through all the
uncertainty and volatility, they all have been able to access the capital
markets to further bolster their liquidity.
The existence of the four businesses as listed entities also
affords us the ability to use them to make large-scale acquisitions. This is a meaningful competitive
advantage that has proven to be tremendously powerful in its own right, but
even more so when combined with the capital available from our private funds
and co-investment partners. A few examples of this in the recent past
are the acquisitions of Babcock and Brown Infrastructure in BIP, TerraForm
Power in BEP, and Canary
Wharf and GGP in BPY.
Today,
the distributions we receive from our ownership in each of the four listed
affiliates provide us $1.4 billion of stable and predictable annual free cash
flows that we use to re-invest into our business or return to shareholders, as
we see fit. We also receive perpetual fee revenues for managing these
entities, which currently run at approximately $535 million per year. We intend to continue to grow
these entities along with the rest of our business in the longer term.
Lastly, from time to time, these partnerships, like most
marketable securities, trade in the market at discounts to intrinsic value. We will continue to purchase
shares of these entities during these periods. Furthermore, where these
discounts persist, we will also always consider more meaningful changes to
these entities in order to maximize value.
Retail Real Estate
In retail real estate, we own a very high-quality portfolio
of properties that we believe, in the medium term, will be stronger than in the
past. We expect that our centers will continue to benefit from their premier
locations in a consolidating retail environment. This has already been happening over the last few years,
and the current environment will accelerate it. Recent trends will also
increase our ability to convert space into alternative uses at strong long-term
returns.
Our “places” have always provided a safe and clean
environment for people to shop and be entertained. We are in the midst of
re-opening our centers, with new measures in place that will enable them to be
among the safest places for people to send their families. As a result, we do
believe that these major centers will once again flourish.
With respect to revenues in the short term, our centers are
leased to three types of tenants. The first includes healthy global high-quality retailers that are in
good financial shape, need their stores to operate, and have paid or
will pay their rent. The
second includes other high-quality retailers – but for them, this shutdown is
causing financial stress. We suspect some will do well and move through
this crisis without issues, others will be recapitalized (some have recently
issued equity), and some will file for bankruptcy protection, which will likely
result in some spaces being freed up. Prior to this shutdown, we had a long
list of online retailers looking for space in our premier locations, and we
expect that to continue in the future.
The
third tenant group consists of small businesses (such as restaurants, bars, and
other retail establishments). Many of the government programs are targeted at
this group, and we too are focused on assisting these entrepreneurs in getting
back on their feet and continuing to employ people. In addition to
providing assistance to smaller retailers, we also plan on utilizing the
knowledge and position we enjoy to invest in retail companies as this industry
consolidates.
Closing
We remain committed to being a world-class alternative asset
manager, and to investing capital for you and our investment partners in
high-quality assets that earn solid cash returns on equity, while emphasizing
downside protection for the capital employed. The primary objective of the company continues to be
generating increasing cash flows on a per-share basis, and as a result, higher
intrinsic value per share over the longer term.
Please do not hesitate to contact any of us should you have
suggestions, questions, comments or ideas you wish to share. And please take
care and be safe.
Sincerely, Bruce Flatt,
Chief Executive Officer,
May 14, 2020
