Q2 2021 StepStone Group Inc Earnings Call

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Good afternoon. Ladies.

And gentlemen and welcome to step Stones fiscal 2021 second quarter earnings conference call at this time. All participants are in a listen-only mode later. We will conduct a question-and-answer session and Thursday will be given at that time as a reminder. This call will be recorded and I'd like to turn the conference over to Michael Kim of icr stepstones investor relations liaison, please go ahead and Michael. Thank you and good afternoon. Everyone joining today are Scott part KO Chief Executive Officer. Jason meant president and Chief Operating Officer. Mike McCabe pension planning and Johnny Randall Chief Financial Officer during our prepared remarks. We will be referring to slides which are available for viewing or download from our website at stepstone group.

Before we begin I'd like to remind everyone that this conference call as well as the presentation slide contains certain forward-looking statements regarding the company's expected operating off the actual performance for a future. Forward-looking statements reflect Management's current plans estimates and expectations and are inherently uncertain and are subject to various risks uncertainties and assumptions actual results for future periods. May differ materially from those expressed or implied by these forward-looking statement due to a number of risks or other factors that are described in Greater detail under risk factors of Stepping Stones IPO prospectus filed with the same Securities and Exchange Commission on September 16th, and our form 10-q expected to be filed in the next few days.

Turning to our financial results. We reported gaap. Net income of 108.4 million dollars for the quarter gaap. Net income attributable to step Stone Age Group Inc was a loss of 0.8 million for the period September 16th to September 30th 2020.

Be related earnings was 28.2 Million for the quarter up 125% from a year ago and adjusted net income was 18.3 million or $0.19 per share up 59% from the prior-year with that. I'd like to turn the call over to Step Stones co-chief executive officer. Mr. Scott Mark, Scott. Thanks, Michael. Good afternoon everyone and thank you for joining us for stepping stones and all of your earnings call as a public company. I wanted to start today's call by thanking all of steps number, please for their hard work and commitment during these unprecedented times.

Would also like to thank our clients for their partnership and to trust they continue to place in US finally many thanks to all of our new shareholders for your vote of confidence.

Clean dollars looking ahead undeployed fear and capital or Capitol on which we will earn fees once deployed or activated stood at over $16 at the end of the quarter and gross across very increased by $158 during the fiscal second-quarter or 48% to 486 million dollars.

And Reporting offerings here. We work in more of an advisory capacity on everything from initial portfolio Construction and design to the ongoing monitoring and reporting of existing Investments and everything in between a advisory business, which is reflected in our 240. 1 billion dollars of assets under advisement is part of what gives us our scale in the marketplace allowing steps down as clients to deployed over forty billion dollars into the private markets on an annual basis and result in a significant advantage in Deal flow data and Analytics.

Before I handed off to Mike, I would like to reiterate our deep appreciation for all of stepstones team members for their ongoing passion commitment and hard work. We remain committed to leveraging the firm's durable competitive advantages around scale a diversification Geographic reach and proprietary data and Technology capabilities to continue to provide customized and integrated investment solutions to our clients.

We are showing growth performance new trend gross realized performance. He's or five million lowered a year to date and two million higher for the last 12 months as mentioned flight 23 Independence has more detail over time.

Finally on the bottom chart is adjusted Revenue. This is the some of the fee Revenue in the top chart grocery live performance seats in the middle charge. So the trends driving those two Revenue metrics and then apply to adjust the Rev which is 22% higher year-to-date 26% higher over the last twelve months.

Like 16 focus on two core profitability measures be related to earning the core operating income increased 89% year-to-date and 76% over the last twelve months down the driven by the fee Revenue growth mentioned as well as the favorable extent environment. We have experienced this year. We turned that led to strong margin improvements for the reported. Moving to a rep that income at the bottom of the page. This is net realized or cash income attributable to septum and I is a non-gaap measure and like 21 in the appendix provides our calculation of this metric the main driver of the day and I are you related earnings and realized the pharmacies that turn discussed in those metrics will drive overall Trends over time and I increased 43% year-to-date and phone nine percent over the last twelve months.

Both of these metrics benefits from the one-time retroactive fee Revenue associated with the Final close of that sort of four and the favorable low expense environment. You would expect expect to resume to a More normalized Level over time. And we also will see the introduction of expenses associated with being a public company going forward.

I need to slide 17 and keep balance sheet items you're showing gross accrued carry and biology Investments over the past several quarters. The Keynotes is John Kerry is at this accrued carry covers a broad set of programs and Investments and we provided some key stats on the portfolio diversification in the bullet point. And when you look at the trends of accrued carry on the top chart the accrued amount is up 22% off the prior-year to 486 million. We think of this Carrie as a backlog of Revenue that will convert to cash overtime assuming portfolios continue to perform and you look at the recent quarters Thursday the decline in our first quarter and then the subsequent increase in the second quarter impacting the year to date on your life. Trends, you'll see in the income statement. This is driven by changes in the underlying portfolio in a relation on a 1/4 lab.

The bottom of the page it could be trimmed and the value of our proprietary Investment Portfolio increased 24% over the last twelve months to 57.9 million and unfunded commitments to these programs at approximately 61 million a quarter ends.

Moving it's like eighteen the key takeaways from this page or that one. We have a large pool of capital approximately $38 billion on what security or in Santa fe's maybe yarn to its capital is widely Diversified big high number of programs with many of those already reflecting some accrued carry position and three that's highlighted next to the pie chart on the left a large portion of this accrued amount is Tiny program with vintage years prior to 2015, which means that these programs are mature in a largely outside of their investment. And in Harvest mode approximately approximately sixty percent of the secrete carry beside the smas or commingle funds that have Americans or deal-by-deal carry waterfalls.

We have additional flights.

For your review in the appendix, and I'll now turn it back over to Scott to close this out Scott. Thank you Johnny. And thank you everyone for your time and interest we're excited to have the transition to a Publishing Company under our belt and they're excited about the results of our fiscal second-quarter. We look forward to continuing to discuss our progress on future calls, but with that when I turn it back over to the operator to open up the lines for any questions. Operator he's open to call.

Thank you. At this time. We will conduct a question-and-answer session. If you would like to ask a question, please press * 1 or your telephone keypad a confirmation tone indicate your line as in the question queue a.m. You may press star to if you would like to remove your question from the Q4 participants using speaker equipment. It may be necessary to pick up your handset before pressing the star key. One moment while we prefer first question.

Our first question comes from Adam bede UBS. Please proceed with your question.

Good afternoon. Thank you for taking the question. Just want to ask about where you're seeing deployment opportunities these days and maybe a little bit more broadly given kind of your bird's-eye perspective and and all the data that you have around private markets fund sponsors kind of the health and the opportunities in the sector right now. We've heard from others that there may be consolidation pressures or wage that, you know single asset funds, you know may be experiencing distress, but just wanted to get your thoughts on that. Thank you.

Cheryl, thanks. Thanks Adam for the question. This is Scott. I'll start and others Others May May chime in on your first question in terms of where we are seeing deployment opportunities, you know that that is evolved throughout the course of the year. You can imagine that in the first half of 2020 things slow down pretty significantly really across asset classes and across strategies. Not not unexpected given the the COVID-19 Asian. I think what we've seen in past careers of dislocations that you do see a Slowdown in in new investment activity you really we've got a bit of a a bit a spread between between buyers looking to suck Capital work and sellers looking to to exit but I take when you do look at the trends quarter-over-quarter, we have seen deal flow start to come back. It is probably come back really in in June pockets as opposed to across across-the-board where you've seen certain geographies. Um, you think about Asia for example that have come back sooner than than than others you've seen certain sectors.

That that have been more active and it really tends to be the sectors that have held up better throughout the the cobit crisis. Um, so what we're seeing at at this point is that there are certain segments of the mark from a sector standpoint with in private Equity. That would be areas like it and Health Care within within infrastructure that might be areas such as Communications and and Renewables that have come back sooner than sooner than others. We're also starting to see opportunities emerge in areas such as the the secondary Market again was down pretty significantly in the first half of the year off but we're seeing new types of transactions whether those are gp-led secondaries in the private Equity space whether those are opportunities to to buy portfolios of assets and the private debt Market that are helping to drive off of deployment today to your second question on the health of of private Market funds more. Generally. I think what I would say is that one of the one of the characteristic wage

Is really helping certain fund managers is diversification. I think you managed to sort of single fun.

And or or you know, um types of of managers, I think throughout the calls we have done with with managers throughout the private Market Universe because of the different ways that Covetous impacting different sectors in a different individual portfolio companies or asset. I think those that are most highly Diversified or certainly benefiting in this in this environment.

Great. Thank you. I squeezed into when you hit them both. Thank you Scott.

Absolutely. Our next question comes from Alex Borstein with Goldman Sachs. Please receive your question.

Great. Good afternoon. Everybody congrats on your first call as a public company. I wanted to I was hoping to build on the on the question of around 5 appointment and maybe not so much about the areas where there's some interesting opportunities, but really more around the pace and you know going back maybe a couple of months you guys talked about the pace of deployment has really slowed down all the uncertainty but given the fact that Mac or conditions are starting to get a little bit better, maybe talk to us a little bit about how some of that sixteen billion dollars of Shadow will translate into actual management fees as we look forward to next couple of quarters or a year or so. And also maybe you guys could hit on the timing for your next round of commingled funds as they kind of come into the run-rate cuz I think that was also one of the areas where you know the macro conditions over the last couple of months were a little bit more challenging but might look a little bit brighter going forward.

Sure. Thanks. Thanks a lot for the question. It's got again. So on the deployment question, I think one of the things that it's hard to predict is how that will look from a quarter-to-quarter standpoint. But you heard Mike made the comment during the prepared remarks that we have invested approximately three billion dollars from separate accounts that pay on invested Capital over the last twelve months. I think that that could be a huge sense. If we think about it over a bit of a more extended time. What what that is looked like that certainly has not been evenly invested across the the last four quarters though, and I I think as we think about um, the investment pays for the 16 billion dollars of undeployed fear and capital like most of those accounts have a three to five year investment. Really meant to provide us with flexibility so that there's no pressure to invest if if we're not seeing sufficient opportunities, but also that we can so that we can log

Actively invest if we do see opportunities, and so I think thinking about over a three to five-year time. Is probably the right way to think about how that that sixteen billion dollars will be invested in terms of your question on the co-mingled fundraise is we we've mentioned that we recently closed on steps in real estate partners for as well as steps. No secondary opportunity fund that close at the end of March we mentioned that we are currently in market and recently held first closings on stepstone tax overgrowth from 3, as well as steps on senior corporate lending fun too. So from a fun standpoint that really sick leaves steps and capital partners are private Equity co-investments Fund the the last step Stone Capital Partners Fund was raised in 2018, and and also be set to to return to mom probably sometime early next year.

Great.

And it gets speaking of the co-invest find your public pure a couple of days ago talked about some changes in pricing that they're seeing in their co-invest fund structure kind of flipping from paying on committed Capital to paying on deployed in exchange for maybe a little bit of a higher percentage of Kerry. Is that unique? Is that something you guys are starting to see more than a Marketplace as some of the LP's trying to mitigate j-curve Dynamics. So just got a broader question around pricing and you seeing any changes in the pricing Dynamics for your for your product line up.

I don't think seeing any major change. I think you know that that we have offered fees on invested capital in our separate account business for for a number of years. And that's really what has driven to sixteen billion dollars of undeployed fearing capital. I think that's something that we will continue to do really working with our clients on ways that they can help achieve their needs. And in this case, you know, they need to help them create the j-curve and whether that's through deploying through certain strategies like secondaries which help in that effort or whether that's through fee structures that help aid and mitigating the j-curve. I think that's something you'll see us continue to do with

Great. Thanks very much.

Our next question comes from Jeremy Campbell with Barclays. Please proceed with your question. Hey, thanks guys. Just wanted to get a quick one in here. Thanks for that color around like the carry off later slides on the deck. Just kind of wondering what you're thinking here with a little bit more of a support of macro backdrop around a timeline of realization since a lot of stuff seems to be a little bit longer dated June.

Sure, Jeremy is this guy? I can start and others may want to chime in as well. Look on the realization front. I think similar to my comments on on the on the new investment front. I think we are starting to see an improvement, you know, the the numbers are certainly down year-over-year not surprisingly given that this disruption but when you look at things quarter-over-quarter, I think we have seen some progression from you know, the calendar q1 this year to Q2 and through to Q3. That's true both in terms of our Terry generating portfolios. And and you've seen in the gross realize performance fees some slight improvement quarter-over-quarter over the last few quarters wage also seen that across the broader Universe of funds that that that we monitor where we saw that yeah, September and October were some of the more active months in terms of of distribution activities.

You know in private equity in particular September was one of the most active months for distributions that we've seen in the last few years and and I think there's a few things, you know driving that obviously there was a point in time early in the in the birth of Christ is where it looked like it may be uh, a year or more before you started to see realization has come back but obviously as the as the market rebounded and as a variety of different exit routes opened up, um, you really all are open today, whether it's selling to financial sponsors who obviously have drive out of there looking to invest something to corporates who may be looking to play offense coming out of the COVID-19 crisis the IPO market and window has been open you've seen dividend recapitalizations. You've seen new exit browse emerging whether through through Stacks or or GP left of vehicles. And so I think those are some of the things that in our minds are starting to drive an uptick in realization activities.

And then just I know you guys, you know, you haven't kind of fully rolled out a capital return policy. Just wondering if you can take us through your thought process around developing such a policy. What what kind of you're looking for or evaluating etcetera helpful?

A a Jeremy it's Mike the question broke up a little bit at the end. We would you mind repeating it. Sure. Yeah. I know you guys haven't had a fully baked apple return policy yet, but just kind of wondering if you can take us through your thought process around the development of such a capital return policy. I mean, maybe some of the things are looking for or evaluating from here.

Sure. I mean these are things that we're currently working on it early as a newly-minted public company. We are cash flow generative and and we have quite a bit of cash on the balance sheet that we've raised from the IPO off and and we're going to continue to look at opportunities across the asset classes and across the industry. We are in as we discussed and prior months also discussing a dividend policy and and we would hope to sit with our new public board in the coming months to discuss with that policy might look like but you could expect to see something rolled out sometime later this year.

Great. Thanks a lot.

Thank you. I will next question comes from Ken Worthington with JPMorgan with a question. Hi, good evening. Thank you for taking my question. Maybe I think you guys kicked off your first choice of the eeprom product. I can you talk about receptiveness from investors for this product. I think the first close is $35 million if I have that right, how do you see the Cadence of grown sort of developing from here? Is this something we're going to see sort of either monthly or quarterly closes on or you know, do we see sort of larger more infrequent closes overtime and then along these lines you were selling through a handful of Distributors, you know, what are the intentions to either deep in your position with those existing distributors or broadened beyond the existing group?

Thanks Ken. This is Jason you are right as we did press release we had the first closed for the seat Prime product in October that project just as a reminder for everyone that is a forty act registered perpetually offered fund. We also have an offshore feeder that went live a couple of weeks ago as well. So we're now starting to walk outside the US additionally, it does take monthly subscriptions and I'll offer quarterly liquidity. We have started with the US r i a channel and Thursday are broadening that distribution based across not only the riaa's here in the US but the independent broker-dealers and have begun due diligence processes with the wires off and then outside the US working with a number of different bank and private wealth channels to begin distribution there as well. This will be a product that is broadly distributed across many dead.

distribution channels and and different from

Mom's so it's not it's not exclusive or or tightly knit to to a select group Channel and we look forward to providing you and and others the Cog update on how on how influence are going. Great. Thank you. And then in terms of in terms of demand for the business we've seen high-profile press attention for a policy black and Vistas Robert Smith. Does this sort of publicity impact the demand for private Market due diligence, which is sort of implicitly one of your value-added services to clients. And if it does is there a reason to see more interest from certain of your client segments versus others?

Same thanks. Ken isn't Scott, you know, certainly, you know, a couple of situations that we are monitoring quite closely, but I don't know that we have seen, you know, a major major change to to the wage demand for our services or or those of others as a result of of that of that publicity at this point in time. Something will continue to monitor though. Okay. Well, maybe I'll I'll punch on that then and just south of the IPO. You know, what are you seeing? What are you hearing from feedback from your LPS and is being public sort of accelerating your fundraising activity long as it increases your profile.

I do think your telephone. I think if you think back to some of the the reasons that we talked about going public is really to broaden the equity ownership base amongst are are employing these was to write a capital with the access to the capital market and was to increase both the the transparency as well as the brand recognition and I do think that in this market in particular month where it's more difficult to to to travel more difficult to to build new relationships that that those sizeable and better-known firms are at an advantage in terms of how long relationships. I think. I think we're starting to see that that benefit.

Great. Thank you very much.

Our next question comes from Peter kaloustian with Morgan Stanley. Please listen to the question.

Hey, good evening study on T. I was hoping you could talk about the profitability of your minority-owned businesses versus the profitability of the firm overall and and specifically how different are the effort margin profiles. And do you see these days is evolving over time. Thank you.

Yes.

No, I just going to say I think what we expect over time though. Largely converge. We we don't we do operate as a single segment. So we don't provide for the month already metrics that you know, the different asset class levels. We we we will be disclosing and have disclosed sort of different metrics to kind of give people some since we are providing you the fearing God by the different asset classes and you know, our our perspectives and you will have the fee rate on that for the non private Equity as the classes and then you can see in the empty. I'm what what belongs to those those team members of ours that their don't roll up and and you know, don't flow through to the bottom line of system group. So we kind of provided from Buckingham. We don't think about it that way. We really just think of it as one business. We operate that way but there is, you know, certainly you know, that that that NCI piece and you know in the quarter with the wage

Trap for Final close and we'll see it elevated this quarter from prior periods. And uh, so, you know, we don't really provide that level of guidance, but we we provided at least enough data points to give people a sense of how they're performing.

my got to address

No, I think that captures at Johnny thinks.

Thank you. We have come to the end of the question and answer portion. I would like to turn the call back over to mrs. Parker closing comments.

Great. Well, thank you again for joining or call this evening. We certainly appreciate your interest in stepping stone and look forward to continuing to update you on our progress during future calls. Thanks very much. Today's teleconference. You may disconnect your lines at this time, and thank you for your participation and have a great day.