TEXT-Fitch raises Oaktree Capital rating
Nov 12 - Fitch Ratings has completed a peer review of five rated Alternative Asset Managers (AAMs) and related entities in concert with the publication of an industry report, titled 'Alternative Asset Managers: An Industry Update', which is now available on Fitch's website. Based on this review, Fitch has upgraded the Long-term Issuer Default Rating (IDR) and unsecured debt rating of Oaktree Capital Group, LLC (Oaktree) to 'A' from 'A-'. Concurrently, Fitch has affirmed the Long-term IDRs of The Blackstone Group L.P. (Blackstone) at 'A+', Fortress Investment Group LLC (Fortress) at 'BBB', KKR & Co. L.P. (KKR) at 'A', and KKR Financial Holdings LLC (KFN) at 'BBB'. A full list of ratings is provided at the end of this release. The Rating Outlook for all AAMs is Stable. The upgrade of Oaktree's ratings reflects the firm's consistent operating performance despite the challenging economic environment. The firm's stable cash flow generation is supported by its superior operating efficiencies, the strong blended management fee rate, given the absence of a step-down in the management fee percentage once closed-end funds enter their liquidation period and a lack of reliance on transaction and monitoring fees for revenue, all of which are credit strengths relative to the peer group. Fitch also believes the company's investment strategy and credit focus yields a more liquid underlying portfolio than certain peers which have a greater focus on more traditional private equity (PE) investments. Additionally, Oaktree's decision to defer incentive income recognitions until the income is fixed or determinable, all related contingencies have been removed, and collection is reasonably assured reduces clawback risk for the firm. Oaktree's fundraising strategy includes sizing funds based on management's determination of investment opportunities given the global environment, as opposed to simply increasing fee-earning AUM (FAUM). As a result, new funds can be meaningfully smaller than predecessor funds, which can result in revenue and cash flow declines period-to-period. Still, the breadth of the firm's product offering combined with the variable cost structure mitigates that concern to some extent. Furthermore, while Fitch recognizes that approximately 45% of FAUM is in open-end funds and evergreen structures which earn fees based on net asset value (NAV), these funds demand a lower fee rate, meaning that, on average, about 23% of Oaktree's management fees have come from NAV-based vehicles over time (since 2008), which Fitch believes is manageable and comparable to similarly-rated peers. The rating affirmations for the remainder of the space reflect relative stability in terms of core operating fundamentals, given the locked-in nature of a large portion of the fee streams. FAUM has generally been on an increasing trend with follow-on funds and expansion into other product categories through step-out strategies or acquisitions. Fitch believes these trends add diversity to the fee stream and the investor base. Fee-related earnings have generally grown across the space in recent years, although to a lesser extent than FAUM given expansion into product categories that garner lower fee rates, like hedge funds, CLOs, and certain credit funds. Still, transaction and monitoring fees have declined in 2012, relative to historical averages, with reduced PE portfolio investments and exits, which have a greater impact on KKR and Blackstone. Issuer liquidity has remained solid, with all firms in a negative net debt position at Sept. 30, 2012, when adjusting for cash and liquid securities on hand. Clawback exposures have declined from crisis highs with improved underlying fund valuations. Leverage levels, as measured by debt divided by fee-EBITDA, have generally trended down with growth in fee-related earnings and debt repayment. Fortress' leverage will decline to zero, on a pro forma basis, in 4Q'12 following the repayment of all debt in October 2012. While Fitch views the reduced leverage favorably, we do believe the firm may look to access the public debt markets in the future to grow and help fund co-investment commitments. That said leverage is expected to be modest and well within Fitch's investment grade tolerance of 2.5 times (x) or below. Blackstone's leverage rose in 3Q'12 following its issuance of $650 million of notes. Debt proceeds were used, primarily, to replenish liquidity reserves used for recent acquisitions. The firm's leverage was 2.31x on a trailing 12 month basis at 3Q'12, or 2.16x when including interest, dividends, and other revenue. Fitch expects this ratio to decline over time as acquisitions and FAUM growth add incremental FEBITDA in coming quarters. While core issuer fundamentals remain solid, risks to the industry are present given global economic uncertainties and underperforming equity markets. Fundraising has been more challenging since the crisis, requiring significantly more lead time, but uncalled capital for rated issuers is considerable. Fitch believes pressure to deploy capital is on the rise, particularly given the perceived availability of cheap assets in Europe and investor appetite for higher returns to offset the low interest rate environment and below hurdle equity returns. While attractive investment opportunities are certain to arise, selectivity is critical and Fitch does have concerns about the potential for vintage concentrations heading into 2013. The ratings of KFN are supported by its inherent linkage and strong relationship with the parent of its investment manager, KKR, which has demonstrated implicit and explicit support of the company in recent years. Implicit support is evidenced by KFN's use of the KKR brand, while explicit support is evidenced by KKR having backstopped an equity underwriting for KFN, having provided it with a liquidity facility, and having waived a portion of management fees owed during the crisis. RATING DRIVERS AND SENSITIVITIES The Stable Rating Outlooks reflect Fitch's expectations that the AAMs will continue to generate stable management fees, grow/retain FAUM through the raising of new and expansion of existing funds, produce consistent investment performance which supports future fundraising, operate with relatively low leverage, and retain a solid liquidity profile in order to meet co-investment commitments to funds. Fitch believes positive rating momentum for Blackstone, KKR, and Oaktree is limited, given the nature and risk profile of the business, in addition to the impact that key man events and/or reputational damage can have on the franchise and future fundraising prospects. For Fortress, positive rating momentum could result from growth in FAUM that produces more reliable fee streams, further revenue diversity, improved core operating consistency, reduced NAV exposure, and additional funding flexibility, as demonstrated by access to the unsecured debt markets. Individual negative rating actions could be driven by material changes in senior management, declines in investment performance, meaningful FAUM contraction which impairs fee-EBITDA, reduced product line diversity, increases in leverage above Fitch's investment grade tolerance, and/or impairment of the liquidity profile as it relates to operating needs, debt maturities, and co-investment commitments. Legislative risk and/or prolonged market disruptions that impact the ability to fundraise or arrange attractive exit opportunities could yield negative rating momentum for the industry overall. Fitch has upgraded the following with a Stable Outlook: Oaktree Capital Management, L.P. -- Long-term IDR upgraded to 'A' from 'A-'; and -- Long-term senior debt upgraded to 'A' from 'A-'. Oaktree Capital Group, LLC Oaktree Capital Group Holdings, L.P. Oaktree Capital I, L.P. Oaktree Capital II, L.P. Oaktree AIF Investments, L.P. -- Long-term IDR upgraded to 'A' from 'A-'. Fitch has affirmed the following with a Stable Outlook: Blackstone Holdings Finance Co. L.L.C. -- Long-term IDR affirmed at 'A+; -- Senior unsecured debt affirmed at 'A+'; and -- Short-term IDR affirmed at 'F1'. The Blackstone Group L.P. Blackstone Holdings I, II, III, and IV L.P. -- Long-term IDR affirmed at 'A+; and -- Short-term IDR affirmed at 'F1'. FIG LLC -- Long-term IDR 'BBB'; -- Short-term IDR 'F2'; and -- Secured debt at 'BBB'. Fortress Investment Group LLC Fortress Operating Entity L.P. Principal Holdings I L.P. -- Long-term IDR 'BBB'; and -- Short-term IDR 'F2'. KKR Group Finance Co. LLC -- Long-term IDR at 'A'; -- Senior unsecured debt at 'A'. KKR & Co. L.P. KKR Management Holdings L.P. KKR Fund Holdings L.P. -- Long-term IDR 'A'. KKR Financial Holdings LLC -- Long-term Issuer Default Rating (IDR) at 'BBB'; and -- Unsecured debt rating at 'BBB'. Additional information is available at 'www.fitchratings.com.' The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings. Applicable Criteria and Related Research: -- 'Global Financial Institutions Rating Criteria' (Aug. 15, 2012); -- 'Investment Manager and Alternative Funds Criteria' (Dec. 23, 2011). Applicable Criteria and Related Research: Global Financial Institutions Rating Criteria Investment Manager and Alternative Funds Criteria
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