Fortress Investment Group Q1 Earnings [ANALYSIS] – ValueWalk Premium
Fortress Investment Group

Fortress Investment Group Q1 Earnings [ANALYSIS]

Fortress Investment Group LLC (NYSE:FIG) reported 1Q13 distributable EPS of $0.20, ahead of the $0.15 Street consensus. Incentive fees drove $41mm of the $43mm revenue beat. At the same time, Fortress Investment Group LLC (NYSE:FIG) total expenses were only $12mm higher against that revenue beat, driving the operating leverage. And on expenses, operating expenses were actually $9mm lower and down sequentially from the 4Q.

Fortress Investment Group

Fortress Investment Group LLC (NYSE:FIG) investment returns were higher than Barclays forecasts almost across the board. Net flows were slightly below Barclays forecast, but still solid and in the range of recent quarters. Logan Circle, Fortress Investment Group LLC (NYSE:FIG)’s long-only fixed income platform, continues to exceed flow expectations, generating another $1.2bn of next flows in the 1Q.

Barclays believe the 1Q results should be supportive for the shares this morning. Fortress Investment Group LLC (NYSE:FIG) is up 47% YTD (vs. the S&P 500 up 11%), and the second strongest performer among its peers in alternatives coverage universe.  And at 10.1x  published 2013 estimate, they carry a premium valuation to peers. This stands in contrast with much of its history as a public company, where FIG has trailed peers. This suggests that the company’s strong returns and diversification of AUM in recent years has caught the eye of investors. While Fortress Investment Group LLC (NYSE:FIG)'s credit returns could soften given waning opportunities the company has talked about in the past couple of quarters, renewed fundraising in private equity looks to be setting that business on an upward trajectory again and should become a more meaningful contributor to incentive fee generation again over time.

We highlight below some interesting points about the Q made by the CEO on the Fortress Investment Group LLC (NYSE:FIG) conference call.

Randy Nardone – Fortress Investment Group LLC – Interim CEO, Principal, Co-Founder

Fortress Investment Group LLC (NYSE:FIG) First Quarter Highlights

Here's the highlights for Fortress Investment Group LLC (NYSE:FIG)'s first quarter. Our AUM increased to nearly $56 billion, an all-time high, even as we returned over $1.5 billion to our investors. We raised more than $1.5 billion of capital for alternatives with most of that immediately added to fee-generating AUM. This is our sixth consecutive quarter with over $1 billion in alternative capital raised. Additionally, net inflows at Logan Circle were a solid $1.2 billion.

Investment performance in every business was strong, a very good first quarter in all of our hedge funds and our main credit PE funds contributed to incentive income of over $116 million for the first quarter. That's more than double what we recorded in the first quarter of last year. In our PE business, we built on a four-year trend of substantial valuation gains in our main funds.

With about $800 million in appreciation in the first quarter, NAV grew to an all-time high of over $16 billion. And at Logan Circle, we outperformed benchmarks in all our strategies. Strong investment performance, especially in the PE funds, continue to drive increases in our balance sheet value. Net cash and investments totaled just under $3 a share at the end of the quarter, which represents nearly half of our share price today.

Fortress Investment Group LLC (NYSE:FIG) addressed the catalyst for earnings and valuation upside on our last call. Here's an update. The key driver of management fee growth is increased AUM coming from capital raising existing funds and the introduction of new strategies. We have positive developments on both fronts. First, all of our businesses are in the market raising capital. We have closed on approximately $500 million in hedge funds commitments since the quarter end. Asia macro is now over the $1 billion mark from a standing start just two years ago. It's a great example of growth from the introduction of a focused strategy developed within one of our core platforms.

Fortress Investment Group LLC (NYSE:FIG)'s PE business launched two new sector-specific funds in recent weeks, a second MSR fund and a second transportation and infrastructure fund. We just announced last week the record date for the spin-off of our new residential mortgage REIT, more good examples of new businesses incubated within a core investment platform.

At Logan Circle we added a growth equities business to our for fixed income offerings. Logan's organic growth has been strong with AUM almost doubling since our acquisition in 2010. The addition of an equities capability illustrates the scalability and flexibility of Logan's platform. We believe the business can provide a meaningful new engine for traditional AUM growth over time. We closed the quarter with ample dry powder available for general investments. This is another potential driver for management fee growth, which Dan will cover in a few minutes.

As I mentioned earlier, investment performance was strong across the house in the first quarter, which lead to higher incentive income. Looking ahead, a number of factors point to potential for more good news here as well. First, our gross undistributed incentive income, which is recognized in PE when investments are realized, increased to over $730 million. About $550 million of that amount is in our credit PE fund, which remained well above incentive thresholds; and a growing component of that total, nearly $70 million at the end of Q1, reflects the value of options in Newcastle.

A key point here is that, even with no assumptions about further investment gains, we had $1.50 per share of gross embedded incentive income that has not been included in PE to date. This bodes well for higher incentive income in future periods.

Second, in liquid markets, Navistar International Corp (NYSE:NAV) above high watermarks increased from $1 billion just over a year ago to $4 billion today. The strength of first-quarter returns in both our main macro and Asia macro fund was bolstered by an exceptional April. Net returns are now about 9% and 7%, respectively, full-year incentive income will play out in liquid markets.

Third, valuation gains in our Private Equity main funds now total nearly $9 billion since 2009. Incentive threshold gaps in our most recent vintage funds continue to close. We have a strong group of portfolio companies, including market leaders In sectors with outstanding growth dynamics, and we believe there is substantial upside in many of our largest investments. These factors point to strong prospects for generating incentive income over time and for further valuation gains for our balance sheet investments.

So the benefits and potential of our model are taking shape in a variety of ways. The disciplined build-out of an already diversified business is leading to growth and growth potential on multiple paths. Our core investment platforms continue to support the introduction of more focused strategies to meet evolving LP needs. Our earnings continue to benefit from the stability that comes from long-term investment structures and increasingly from permanent equity vehicles.

With investment returns strong across the board, we are beginning to see the significance of performance-driven upside. And the strength of our investment performance supports capital-raising efforts, which leads to growth in AUM and, ultimately, a new baseline from which to grow our revenues further.

In sum, in terms of investment performance, financial results and strategic progress, it was a good quarter for our LPs, a good quarter for Fortress and a good quarter for our shareholder.


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