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Och-Ziff Capital Management Group LLC  (NYSE:OZM)
Q2 2019 Earnings Call
Aug. 02, 2019, 8:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, everyone, and welcome to Oz Management Second Quarter 2019 Earnings Call.

[Operator Instructions]

I would now like to introduce your host for today's conference. Elise King, Head of Shareholders Services at Oz Management.

Elise King -- Head of Shareholders Services

Thanks, Emily. Good morning, everyone, and welcome to our call. Joining me are Robert Shafir, our Chief Executive Officer, and Tom Sipp, our Chief Financial Officer. Today's call contains forward-looking statements, many of which are inherently uncertain and outside of our control. Before we get started, I need to remind you that Oz Management's actual results may differ, possibly materially from those indicated in these forward-looking statements.

Please refer to our most recent SEC filings for a description of the risk factors, including those in our most recent 10-K that could affect our financial results, our business and other matters related to these statements. The Company does not undertake any obligation to publicly update any forward-looking statements. During today's call, we'll be referring to economic income, distributable earnings and other financial measures that are not prepared in accordance with U.S. GAAP.

Information about these reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are available in our earnings release, which is posted on our website. No statements made during this call should be construed as an offer to purchase shares of the Company or an interest in any of our funds or any other entities. Our earnings press release this morning also included an earnings presentation. We'll be referring to this report during the call. If you would like to follow along, you can find the presentation on the public investors' page of ozm.com at the 2Q press release link.

Earlier this morning, we reported a second quarter 2019 GAAP net loss of $9 million or $0.42 per basic and $0.46 per diluted Class A shares. As always, you can find a forward view of our GAAP results in our earnings release. On an economic income basis, we reported a second quarter 2019 distributable earnings of $81 million or $1.46 per fully diluted share. Adjusted distributable earnings, which excludes the effects of the tax receivable agreement amendment reported in the second quarter of 2019, were $26 million or $0.48 per fully diluted shares for the second quarter of 2019.

If you have any questions about the information provided in our press release or on our call this morning, please feel free to follow up with me.

With that, let me turn the call over to Rob.

Robert Shafir -- Chief Executive Officer

Thanks, Elise. And good morning, everyone. We have seen sustained upward momentum in the first half of the year after closing out a strong second quarter. We continue to generate strong investment performance and are experiencing positive developments across our businesses from the strategic actions implementation. Importantly, we are seeing diversification of inflows and progress in building and strengthening our client relationships.

Let me first turn to investment performance, which you will see on Page 6. We are very pleased with our investment performance in what was a bumpy yet ultimately positive ride for markets during the second quarter. As we all observed, markets took their cues from abrupt twists and turns in U.S. China trade policy developments as well as from a meaningful shift in U.S. monetary policy expectations. Oz Master Fund was up 3.5% net for the second quarter in line with the 3.8% return of the MSCI World Index but with substantially less volatility. The fund was up 11.7% year-to-date through June 30, which was its best start to a year since 2009. In addition, the fund was down 0.6% net in July. Despite the modestly negative performance in July, we're happy with our year-to-date results and they compare favorably against our industry peer group. Importantly, it demonstrates how our disciplined approach to investing and our robust hedging delivers for our clients even through market environments like we saw during May.

I'll come back to that in just a moment.

Each of our major strategies within the Master Fund was positive for the first half of 2019, which resulted in the fund capturing a significant amount of market upside. In April and June, global equities led performance benefiting from alpha generation and the tailwind of positive markets.

April in particular was one of the fund's top five calendar months of performance since inception. By mid April, we felt the strong year to date performance have reduced forward return expectations and we began an approximately 25% reduction in net and long exposure in global equities. In addition, we increased the size of our overlay hedge to better insulate the firm from a potential GAAP lowering markets.

Both of these moves served us well in May, when worries over escalating U.S. China, trade tensions struck a blow to global markets. On the whole, the fund only captured about 30% of the loss in the MSCI World Index in May, putting us on the front foot heading into what turned out to be a strong month of June. Oz CO, our global opportunistic credit fund, was up 1.1% net for the second quarter 2019 and 3.3% net for the first half of the year. The fund continues to generate strong and differentiated long term returns with an 11.5% net annualized return since inception. Our real estate funds continue to deploy capital and generate strong returns with a 21% annualized net return in our current opportunistic fund through June 30. Turning to flows. As you can see on Page 7, as of August 1, our assets under management were $33.2 billion. In the second quarter, we had net inflows of $1.1 billion. In addition to CLO growth, we are starting to see inflows across a broader range of products with quarterly flows into opportunistic credit and real estate.

Turning to Page 8, our multi strategy products had assets of $9.8 billion as of June 30. Net outflows in the second quarter were $849 million with over $300 million coming from former Executive Managing Directors as part of the strategic actions announced in December 2018. From July 1 to August 1, there were approximately $330 million of net outflows, which included approximately $86 million from former Executive Managing Directors. While multi-strat continues to have net outflows, our client conversations have been positive due to our strong performance during the first half of the year and the successful implementation of the firm strategic actions.

The multi strategy sales cycle is long, but based on these positive reactions, we see opportunity for inflows into 2020. Opportunistic credit had $6.0 billion of assets as of June 30, which included $189 million of net inflows in the quarter. From July 1 to August 1, there were approximately $92 million of net inflows. We were encouraged by the positive inflows and renewed investor interest in opportunistic credit and see future opportunity for growth. Institutional Credit Strategies had total assets of $14.7 billion as of June 30 and net inflows of $1.5 billion in the second quarter. As mentioned on last quarter's call, $589 million of these inflows came from closing our second transaction of aircraft securitizations through our strategic alliance with GE Capital Aviation. Our CLO platform continues to perform as we closed a U.S. CLO and a European CLO in the second quarter, adding approximately $900 million in new assets under management. We priced a new U.S. CLO last week that we expect to close in the third quarter adding around $400 million to AUM.

We also expect additional refinancing activity in the third quarter.

Real estate had total assets under management of $2.9 billion as of June 30 and net inflows of $279 million in the second quarter, driven by the closing of an opportunistic European real estate credit vehicle.

We feel confident that we will continue to grow this business across new and existing product areas based on the strong team, demand for products and performance. I want to highlight that these incremental assets are stemming from a range of products. This quarter highlights not only our ability to continue to raise CLOs and opportunistic credit but the ability to raise capital in new products such as aviation and real estate credit. We see this is a positive step forward in broadening our asset and management fee strips.

With that, let me turn the call over to Tom to go through the financials.

Thomas Sipp -- Chief Financial Officer

Thanks, Rob. And good morning, everyone. As Elise mentioned at the beginning of the call and as you can see on Page 9, we reported second quarter 2019 adjusted distributable earnings of $26 million and declared a cash dividend of $0.32 per Class A share.

Turning to Page 10. Revenues were $97 million for the second quarter, down 17% from the previous quarter and down 7% from the second quarter of 2018. Management fees were $58 million in the second quarter, down 4% from the previous quarter and 13% lower in the second quarter of 2018. The year over year decrease in management fees was driven primarily by lower multi strategy assets and was also impacted by the change in our most recent opportunistic real estate funds management fee calculation from committed capital to invested capital. This was partially offset by increased assets in institutional credit strategies. Incentive income was $35 million in the second quarter, down 35% from the previous quarter. And flat as compared to the second quarter of 2018. Please note that given Master Fund's performance in 2018, we have a loss carry forward in 2019.

Our performance thus far into 2019 has us in a gain position. But this remains dependent on full year performance. As seen on Page 11, as of the quarter end, our accrued but unrecognized incentive was $275 million, up $15 million or 6% from the prior quarter. The increase was driven by $19.8 million of accrued positive performance, offset by the recognition of $4.5 million of incentive in the second quarter. As a reminder, with the exception of the balance associated with our real estate funds, most of the remaining balance has no associated compensation expense as this was paid in earlier periods. Other revenues were $5 million in the second quarter, up 34% from the previous quarter and up 30% versus the second quarter of 2018.

Now turning to our operating expenses. For the second quarter of 2019, total expenses were $65 million, down 18% from the previous quarter. Excluding $13 million in settlement expenses recorded in the second quarter of 2018, total expenses were down $18 million or 22%. In the second quarter, 2019, compensation and benefits expense was $40 million, down 7% from the previous quarter and down 16% from the second quarter of 2018 due to lower headcount. Bonus expense was $21 million for the second quarter down 9% from the previous quarter and down 17% from second quarter of 2018. We continue to expect full year minimum annual bonus for 2019 to be between $85 million and $90 million. Salaries and benefits were $20 million for the second quarter, down 6% from the previous quarter and down 14% from the second quarter of 2018. We continue to expect full year 2019 salaries and benefits to be between $80 million and $85 million.

In the second quarter, general and administrative expenses were $22 million, down 30% from the previous quarter, excluding $13 million [Phonetic] in settlement expenses recorded in the second quarter of 2018, G&A was down $6 million or 21%. We expect G&A to be between $85 million and $95 million in 2019. Please note that this guidance excludes additional strategic action expenses. The majority of which we recognized in the first quarter. Our interest expense was $2 million for the second quarter of 2019 down 38% from the previous quarter and 68% lower than the second quarter of 2018 due to the reduction in our term loan balance and CLO risk retention.

We continue to expect full year 2019 interest expense to be between $10 million and $15 million. Our guidance for the full year 2019 tax receivable agreement and other payables as a corporation remain unchanged at 18% to 22%. As a reminder, tax estimates are subject to many variables that won't be finalized into the fourth quarter of the year and therefore could vary materially from the estimates provided.

Now an update on our balance sheet. At quarter end, total cash, cash equivalents and long term treasuries were $342 million. Subsequent to quarter end, we paid down the term loan by $5 million, resulting in an outstanding balance of $50 million. We will continue to strengthen our balance sheet by using the majority of our earnings after public shareholder dividends to pay down our existing term loan, followed by the new preferred and debt created as part of the strategic actions.

With that, let me turn it back over to Rob.

Robert Shafir -- Chief Executive Officer

Thanks, Tom. Before we go to Q&A, I'd like to highlight the strong investment performance, improvement in our flows and pipeline and continued progress in managing our expenses during the second quarter. We are pleased with our progress and the firm's momentum in the short time since our strategic actions closed in February. On the performance side, we feel that our distinct investment process is producing the results that our clients have come to expect from us. We experienced significant broadening of our inflows in areas such as aviation, real estate and CLOs. In addition to the positive second quarter inflows, we saw in opportunistic credit. For multi strategy products, outflows are moderating, and importantly, we are having positive, constructive conversations with clients that we believe will ultimately lead to a turn in our sales pipeline.

As Tom discussed, expenses to the balance sheet are moving in the right direction. We believe the market is taking notice and we are excited and energized with the second half of the year under way. With that, we will open the line for questions.

Questions and Answers:

Operator

Thank you. [Operator Instructions]

Your first question comes from the line of Jerry O'Hara with Jefferies. Your line is open.

Jerry O Hara -- Jefferies LLC -- Analyst

Great, thanks. Maybe just starting with -- with Tom and a little bit on the model. The G&A number, obviously down materially quarter over quarter and clearly understand the differential year over year. But perhaps, you can kind of help us think about, you know, how this will sort of trend into -- into next year. And, you know, is this sort of a good run rate to kind of build off of or, are there incremental cost saves that are potentially coming out of business on a go forward basis.

Thomas Sipp -- Chief Financial Officer

Yeah. Thanks, Jerry. The driver of the decrease in -- from the previous quarter was the recap expenses that hit -- the majority that hit in Q1. So that's why, it decreased dramatically from Q1 to Q2. I think, the G&A expenses continue to come down. We are across the board looking at and implementing initiatives to reduce our G&A expense. So I think, this is a good run rate that you're seeing and we're continuing to look for improvements as we go forward.

Jerry O Hara -- Jefferies LLC -- Analyst

Okay, that's helpful. And then, maybe a bigger picture, just that if you could, Rob, this I guess question for you. The aircraft leasing business, is that something from a size perspective, can you maybe help frame where this opportunity could go? Clearly, it's been growing for you all, but still probably early innings. Any -- any kind of sense of of what the outlook there might be would also be helpful.

Robert Shafir -- Chief Executive Officer

Well, look, I do think it's early innings, Jerry. You know, obviously, we're very pleased with the relationship we have with GECAS, and we continue to see possibilities to continue to grow that part of the business. So I think in addition, there are other things that we believe we can do on the aviation side, to make it a nice addition to what we're really doing in our credit verticals right now. As I've talked about before, we want to stay very focused and stay within the power alleys of the three core areas of the firm, the multi strap business, the credit business and the real estate business.

And where we look to diversify is really in logical adjacencies to where we have that plant and equipment and know-how. And we see the aviation business as a logical extension of what we can do in the credit vertical. And I think, we're optimistic about its longer term potential.

Jerry O Hara -- Jefferies LLC -- Analyst

Great, thanks for taking my questions this morning.

Operator

Your next question comes from the line of Bill Katz with Citi. Your line is open.

Bill Katz -- Citi -- Analyst

Okay. Thank you very much for taking the questions as well and thank you for the enhanced disclosure. It is very helpful. Just want to talk about capital management priorities. Can you walk me through the thinking on the dividend payout ratio this quarter versus the debt repurchase? And how you sort of think about that to the extent that the earnings power continues to grow. And is there any kind of thought process around payout versus the balance sheet? Thanks.

Thomas Sipp -- Chief Financial Officer

Yeah. Thanks, Bill. So the payout ratio is at 25% payout ratio this quarter, previous with prior quarter -- were same as the prior quarter and consistent with the range that we communicated as part of the strategic actions that we took. If you recall, Bill, it was a 20% to 30% range that we've communicated.

So we're consistent at the 25% payout ratio and we're going to continue to monitor the balance sheet and optimize it. Where we have opportunities. So we've been very -- we've worked very hard on our balance sheet. The priority is to pay down the term loan, as you recall. And then we'll pay down the new preferred equity and the new debt. But we will continue to monitor opportunities around how we optimize balance sheet and share counts going forward.

Bill Katz -- Citi -- Analyst

Okay. And then -- so the second question is, Rob, you had mentioned the real estate debt fund. So just maybe stepping back, can you talk a little bit about the drivers to that, the outlook for that particular business over the next year or so. And then coming back to maybe in the U.S., where you might be in terms of marketing fund for.

Robert Shafir -- Chief Executive Officer

Yeah, that was a specific vehicle and again, similar to what I said just a moment ago. It's exactly sort of where we want to be putting our emphasis. Real estate is one of those core verticals for us. We've had some success in real estate credit, which really maximizes the -- our capabilities not only in real estate, but our capabilities as a firm in credit. So we see more opportunities going forward on the credit side of real estate go -- from where we are right now, and it does speak to just the diversification within those power alleys. I can't obviously comment on Fund IV at the moment. But as I've said in the -- in my speaking notes, we do feel confident given the strength of the team and our historical performance that we're going to be able to grow our business with existing product areas as well as new ones, like this credit vertical that we did this quarter -- vehicle that we did this quarter.

Bill Katz -- Citi -- Analyst

Okay. Thank you.

Operator

Your next question comes from the line of Alex Blostein with Goldman Sachs. Your line is open.

Damon Jacoby -- Goldman Sachs -- Analyst

Hi. Good morning. This is actually Damon Jacoby filling in for Alex. Thanks so much for taking my question. Could you just provide for us maybe a little bit more color into the sales conversations that you're having with respect to the Master Fund. Maybe how that's progressed quarter over quarter and maybe just a little more detail as kind of how you're thinking about that translating into flows ultimately.

Robert Shafir -- Chief Executive Officer

Sure.I think, it starts really with performance, and I think, our performance in Master has been excellent. And not only, this year, but if you really look at it over -- a run rate, three year lens, we stack up quite favorably relative to most of the competition out there. So I think, performance is going to be something that, is going to drive demand ultimately.

Obviously, other factors are things like confidence in the firm, which I think has materially increased over this year. Post our strategic actions. As I've talked about before, we've made other moves here. We've invested significantly on the IRR [Phonetic] side. We brought in senior talent globally and we have more to do there.

So we feel like we're getting a bigger footprint to tell that story. Another thing that's probably worth mentioning is we did get our ready waiver this -- quarter, which gives us more flexibility in terms of our ability to market to the private banks. So look, I feel good about that. And, I know, I've said it like a broken record on these calls.

But look, the truth is, I think it's an excellent product. I believe products that can give you upside capture and give you downside protection on a consistent basis, which our multi strategy fund has done are very sensible products for our clients to have. I think particularly, as we look forward, given how far the markets have risen over the last few years. So I believe in the product. I believe in our team. And I think that will -- bear fruit in the long term. It is highly strategic to the firm. And as we said like these sales cycles are long but we are having, I think much more productive conversations with our clients regarding our product offering here. When that crystallizes, it's hard for me to say but. But we're betting on the long term success of that product and look, I think we're going be right.

Damon Jacoby -- Goldman Sachs -- Analyst

Got it, that's helpful. Thank you for the color and then just to your point around the nature of the product maybe just bigger picture, macro question, which is can you help us think about the product suite and maybe the demand dynamics surrounding those products as we think about the outlook for lower rates?

Robert Shafir -- Chief Executive Officer

Well, sure. Look, as I've -- as we've talked about, we have these three core verticals. And philosophically, I've always believed that you think about where you, as a firm, have edge and capability and you invest heavily in those areas and you have to have the discipline to exit businesses, where you don't feel like you have that strength. We've done that over the course of the last 1.5 years. And we boil this thing down to these three verticals. I just gave you my thoughts about multi-strat and I do believe in a world that is becoming perhaps more stretched in valuations. The logic of that multi-strat product, I think, it's -- it gets greater and greater.

I mean, if you really want to think about this big picture, we've been in a low rate, low volatility environment for the better part of the last 11 years. And that has led to significant increases in asset values. So the obvious question I would you know sort of put forward and talk to clients about is as you look forward over the next five years is that still the bet you're willing to make or do you want to perhaps diversify that bet a little bit into things like a multi strapped product which can be long, which can be short, which can be very nimble, which can invest you know sort of across geographies and product areas. And again some of the things that we were able to do that we talked about in the call in terms of you know being able to capture some of the stronger months on the second quarter and also protect ourselves during May, when things got a little bit wobbly.

You know I think speaks to the value proposition. So I feel really good about about that product you know as I look forward. Obviously -- nobody's got a crystal ball in markets certainly not me but I think, you know it's a logical place to be thinking about allocating money. You know, we have excellent performance across our credit verticals both in performing and non-performing. The credit markets are huge and you know, there's huge demand for yield in those marketplaces. As you know, there's $13 trillion of negative interest rates in the world right now. So the ability to create returns both on the opportunistic as well as in the performing side. You know, I think, it is very much in the sweet spot of the strength of the firm right now. So I feel good about those products. Obviously, we're not in a distressed cycle at the moment. But, you know, if and when we see that, again, we feel very, very good about our capabilities there. And I think, our clients understand that and believe that. So I'd be opportunistic. I'd be optimistic about our abilities to not only manage money there, but, our ability to attract money from our clients if that cycle were to occur.

And real estate is again another core asset class. We have had excellent performance for, across our first three opportunistic funds, across a lot of different market cycles there. And, you know, our approach is somewhat differentiated in terms of the types of assets and the differentiation in those portfolios, in terms of where we go. And real estate. As you know is, it's very idiosyncratic in terms of where those opportunities lie and where you put your money. And we've been able to navigate through some very, very different environments over the last 15 years.

So again, I like our our possibilities there. So I like our product suite. I like our team. You know that. No one is declaring victory here. No one's guaranteeing anything. But I believe that across the cycle, we will be able to deliver very solid returns in those verticals, on behalf of our clients.

Damon Jacoby -- Goldman Sachs -- Analyst

Got it. Thank you so much for the color.

Operator

Your next question comes from the line of Bill Katz with Citi. Your line is open.

Bill Katz -- Citi -- Analyst

Okay. Thanks for taking the follow up question. Maybe a little bit more narrow question. Just -- certainly appreciate the risk management discussion as related to some of the month-to-month moves in the second quarter. I guess, could you talk a little bit about that in the July quarter as well when you look at sort of the performance versus the S&P? I know, you don't necessarily box up against the S&P and all the hedge funds' performance from -- mix as well. But maybe if you can sort of walk us through the slide on the performance in July?

Robert Shafir -- Chief Executive Officer

Sure. Yeah. Look, as you know, Bill, you know, we have significantly less volatility than the S&P, which we talked about earlier. You know, we've had a very, very strong year here. Where -- we were up, as I said, through the second quarter, 11.7% [Phonetic]. This is one of our strongest years as a firm. You're always going to have some level of mean reversion and noise in the quarter. Obviously, this was an earnings quarter. So a lot of noise, a lot of volatility on the individual position level. And as well as, you know, a lot of the hedging strategies that we've used, which have benefited us very well in -- in down months. You know, it was costly for us this month. So I think the performance was modestly down, but, we feel very good about where we are in the year. And, we think about this somewhat more long term in nature as opposed to necessarily quarter by quarter in terms of how we think about our positioning.

Bill Katz -- Citi -- Analyst

And if I can just slip one more in. And thanks for all the questions this morning. Just remind us of how much net cash you want to keep on the balance sheet for working capital and other regulatory or liquid purposes?

Thomas Sipp -- Chief Financial Officer

Yeah. Bill, it's $200 million of free cash.

Bill Katz -- Citi -- Analyst

Okay, thanks again, guys.

Operator

I'm showing no further questions. I will now turn the call back to Ms. King.

Elise King -- Head of Shareholders Services

Thanks, Emily. Thank you, everyone, for joining us today and for your interest in Oz Management. If you have any questions, please don't hesitate to contact me at (212) 719-7381. Media inquiries should be directed to Jonathan Gasthalter at (212) 257-4170.

Operator

[Operator Closing Remarks]

Duration: 33 minutes

Call participants:

Elise King -- Head of Shareholders Services

Robert Shafir -- Chief Executive Officer

Thomas Sipp -- Chief Financial Officer

Jerry O Hara -- Jefferies LLC -- Analyst

Bill Katz -- Citi -- Analyst

Damon Jacoby -- Goldman Sachs -- Analyst

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