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- [00:00]
John Bowman
Welcome listeners to our off season countdown of season one of Capital Decanted, our inaugural season. And coming in at number five, episode 10, GP stakes with the Sean Sean Ward of Blue Al and Sean Urie of USAA. And in this episode, which is a fascinating overview of this burgeoning, progressive and very trendy area of investment, GP Stakes, we assess whether this is a pure incentive alignment between LPs and GPs, or whether it's a distraction. Whether the ability for an LP to play the role and participate in the same ways and through the same streams that GPS do is something that is worth pursuing. So stay tuned for this episode of GP Stakes. Welcome to Capital Decanted. In this show we say goodbye to tired market takes and superficial sound bites because here, instead of skimming the surface, we dive into the heart of capital allocation, striking the perfect balance and exposing the subtleties that reveal the topic's true essence. Prepare to have your perspectives challenged as we open up the issues that resonate with the hearts and minds of those shaping capital allocation. We've enlisted the wisdom of visionary leaders in the industry and just like a meticulously crafted wine, we'll allow their insights to breathe, unfurling their hidden depths and transforming our understanding. This is season one, episode ten of Capital Decanted, GP Stakes. I'm John Bowman. And I'm Christy Hamilton and we are your hosts. First, as always, a huge thank you to our season one title sponsor, Franklin Templeton Alternatives. With over 40 years of alt investing and 260 billion of assets under management, they've assembled and offer specialist investment managers across six different asset classes. Private debt, hedge funds, real estate, digital assets, private equity and venture capital. And of course all of them operate with the client first mentality that has always defined Franklin Templeton to prioritize investment outcomes. And we'll in fact be talking with one of those sub managers today, K2 advisors, at halftime, so make sure to tune in there. Thanks so much as always to Franklin Templeton alternatives. So episode 10 double digits Christie, we have arrived. Let me first say thank you to all of our listeners. We're not done by any means. We still have several amazing episode topics and guests left this first season, but there's something special about getting to number 10. We've been overwhelmed by the support, the downloads, the encouragement from all of you listeners out there. It's been a really fun ride so far, so just wanted to make sure I reinforce that from the outset. Christie, I was looking back speaking of this milestone in my original scribbled list of priority topics all the way back last summer, and while some of them were on there because the dialogue and banter needed a centrist, a balanced moderator to rein in the extremists, shall we say, on both sides, and take private market valuations as Exhibit 1 of that, which is where we kicked off this whole journey. But other topics were on there because they had a newfound resonance that really stoked my intellectual curiosity, my interest. And one of those examples was indeed the subject of today's episode, which is GP Stakes. Now, we've talked at length on this show about the inherent advantages, you might say, of private capital, most acutely that they're wrapped in long dated structures and therefore they're removed and protected from the gyrations and the whipsaws of public market emotion that I think plague us all if you've been around the block a few times. And this allows a much more aligned governance structure that can focus on enterprise transformation and improvement of the business over a cycle or two versus the daily pressure of answering to shareholders. But permanent capital? Take this a bit further. These structures certainly try to build on that and look out even longer upon the horizon. Now, nothing in investing is truly permanent, which is somewhat of a misnomer, that modifier. But in many cases the goal here is to eliminate Even the arbitrary 10 to 12 year life of the stereotypical PE drawdown fund, or at least the urgency to find an exit in the second half of that life to rev up the J curve, as we often say. Now, while they've taken on different forms, these GP stakes, capabilities and flavors through the progression of the last few decades, these investments are meant to provide capital to a set of world class or in some cases next generation investment managers through equity ownership in the underlying asset management business. In other words, they're not a traditional LP in one of the GP's funds, but rather a minority owner in the GP itself. And this creates a much more complex set of return drivers and cash streams that I think are largely misunderstood and often challenging to value. And the rapid evolution of the space, the idiosyncratic nature of the risk return dynamic. And this newly introduced layer of ownership has also led to confusion, some outdated mythology perhaps, and cynicism around the strategies. And that's why Christie, this makes for a perfect candidate for this show Capital decanted so here's our blueprint for the episode. I want to try to accomplish three things in my segment. First, I want to briefly walk through the relatively short but multifaceted history of what we now call GP stakes investing and provide context on how we got here. Second, I want to outline and inventory these multiple return streams I alluded to that make this an interesting and very unique consideration for a portfolio. If nothing else, this was a really engaging thought exercise and I hope you agree once I walk through that. And finally, I want to confront the mythology. As I said, debunking where necessary, validating where appropriate. There's a lot of misinformation out there based upon the evolution of the space. And then, of course, I'll hand to Christy, who will provide some of her own editorializing and color commentary of sorts on her experience and her perception of the space. And finally, as always, the drum roll after halftime will be joined in our guest segment today by Sean Ward, senior managing director of the GP Strategic Capital Platform at Blue Owl, which is far and away as I'll walk through, the largest player in the space with about 55 billion in assets under management, and Sean Urie, executive director and head of alternatives for USAA, the $60 billion insurance corpus across both life and property casualty. So that is where we're going now, Christy, I want to get you involved here early. What was the first introduction you ever had to GP stakes? And regardless of where you stand now, which we'll talk a little bit about later in the episode, what was your original first impression of this?
- [06:50]
Christy Hamilton
So I was obviously working at my previous employer. I was a director of investments at the time, and it just got thrown out as an opportunity, just differentiated something we don't have in the portfolio. And I have always maintained a healthy skepticism, even though I get all of the benefits and the drivers and the good things about it. With that said, I want to make it very clear that my investment philosophy when it comes to stuff like this is always there is no such thing as a good or a bad investment. It's just things that I could wrap my head around or things that maybe didn't fit within the portfolio at the time. So as I thought about it more, it didn't fit into the portfolio that I was with at the time. But the more I thought about it and the more I have been exposed to it, I do understand where it makes sense for certain investors and in certain LPEs. And then on the GP side, it makes sense when liquidity is needed in specific situations. The world is changing. It's not the same. And I think expecting people to go to the bank to get a loan against their equity, to be able to do different things, it's not even a possibility at this point. So basically expecting people to do things the old way just is not fair. And I've had to really come to terms with that in my own brain. So I was initially a skeptic. I think I still remain a slight skeptic, but recognizing that one of the things I'm going to talk about later is there is a good reason to look pretty closely at this right now, particularly where we are in the market. So what are your thoughts?
- [08:08]
John Bowman
Well, I think I'll divulge more of that through the course of this segment, certainly, but I think I'm pretty balanced on it now as well. My introduction is probably more recent than yours. The last, I would say year and a half as this thing has really heated up and I've gotten introduced to some of the players, which didn't take a long time because as we'll talk about, this is a very concentrated space in the moment. But let's dive into a brief history because I think this is going to be illustrative of that exact question. And the twists and the turns really provide important backdrop to, to where we find ourselves today and certainly get to, as I just alluded to, the very few players involved on this proverbial chessboard that now exists. So I'm going to suggest two phases of development to help provide a mental map for all of us for the last 25 years or so. That feels like a long time, but it has moved quickly. The first phase is what I'll call the proto permanent capital phase, and it had two parallel tracks of development, the investment banking and brokerage track and the investor led track. And these two tracks or strands of evolution largely happened in tandem and they ultimately converge in the modern phase, which we'll get to in a moment. Now, the first track in the proto phase occurred, as I said, within the bowels of the investment banks and the brokerage houses. So I was just entering the business in the late 90s and in the early 2000s. If you think back to the business models and service offerings to what was largely early stage hedge funds in the early 2000s, as I said, the big investment banks offered prime brokerage banking, securities, advisory services, cap intro, even you might call it, they were the middle and back office, the cheerleader and the Rolodex for most of these new firms. And as such, many of them, these investment banks parlayed these business lines and relationships into balance sheet equity stakes. So Credit Suisse, Morgan Stanley, Goldman Lehman were among those that were early players in taking direct balance sheet stakes in these hedge funds. Now, the other track that was molding its own future at the same time was what I'll call investor led. And this track consisted of major asset owners. Think ADIA, CalPERS, AK PERM or single strategic rollup investors like Affiliated Managers Group buying a stake in the firm. So a few examples. 2001 CalPERS takes a 5% stake in Carlyle. 2007 CalPERS joined by ADIA, they provide outside capital to Apollo and each took a 9% ownership stake. And then in 2008 they took a 10% stake Calpers, that is in Silver Lake Partners, the tech buyout GP now AMG affiliated managers group. If you're not familiar with that really interesting story, I won't belabor it. But 1993 this launched with the idea that ownership wanted to offer a diversified stake in a set of really high quality asset managers, hence the word affiliates. And they actually went public in 1997 after about four years of operation. Now interestingly, this intertwined with my career Christie, which I'll share the longer story sometime later but SSGA, our fundamental long only business, which is about 7 billion at the time in 2001 was looking actually for a buyer for a new home, for a platform where we could put up our shingle and align ourselves around the P and L. And we talked to amg cause this is exactly the type of model that they were looking for. Now that didn't work out. We ended up at Mellon which the rest is history. But that was AMG's MO. They would court and buy and they were public as I said, a whole stable of high quality asset managers. They own a few that you might know. Systematica, which was founded by Lita Braga, friend of Kaya, Pantheon Ventures. So they've got a really nice selection of high quality asset managers. And perhaps the purest manifestation of the investor led model today is actually Wafra W A F R A. Wafra, if you're not familiar, is a New York based multi strategy alternatives firm that was created in 1985 and wholly owned by PIFIS, which is the public institution for Social Security, which is the Kuwaiti sovereign pension fund. Now fast forwarding to 2018 through a three way partnership that added Alaska permanent and rail pen out of the UK. The three asset owners collectively invested 700 million US to provide growth capital and operational support to quote next generation alternative asset managers. So Capital Constellation, as they called it was thus born with the intent to ultimately provide new return streams for their respective pensioners and beneficiaries at those three asset owners. So this was a consortium of global allocators pooling resources to invest directly in gp, so really interesting. So that's the proto phase, as I called it, simultaneously being steered by the investment banks and the asset owners. Phase two brings us all the way up to today, which is the development of the modern GP stakes business. In 2007, again, there's a little bit of overlap from the proto stage. These aren't clean, mutually exclusive phases. But in 2007, Goldman Sachs launches Peters Hill Partners Fund 1. And this was a $1 billion fund with the aim to provide investors access to high quality private equity and other private capital strategies. Now, interestingly, Goldman eventually listed Petershill on the London Stock Exchange in October of 2021, which has been a real lesson in valuation challenges, by the way, which we're going to get back to later and unpack. But today Peters Hill has raised 12 billion and has minority interests in about 50 managers. Now in 2011, a few years later, Dial was formed by Neuberger Berman to pursue GP stakes. And this was the team that came out of the Lehman bankruptcy. Same group of talent in that earlier proto stage I described. Their first fund in 2012 was 1.2 billion. And now Dial was eventually merged, which is why you may not recognize that name anymore, was eventually merged into Alrock through a SPAC offering in 2020 and rebranded as Blue Owl. And they are going to be one of our guests today. As I mentioned earlier, they are the biggest player in the market with 55 billion of AUM over 60 minority owned partners. And just to put some numbers on their fundraising prowess, Fund 5 in 2022 was just shy of 13 billion, the largest GP stakes fund ever. And Fund 6, which is still in process, is expected to exceed that. So again, perspective here. From what I can tell, that fund is two and a half times at least bigger than its comparable funds. And that one, Fund 5 is bigger than the total AUM of almost every other player completely. So this is a massive number one that we'll talk through with Sean a little bit later. In 2013, a year later, Blackstone Alternative Asset Management, or BAM, raises their first strategic capital fund of 3.5 billion, which at the time I think was the largest fund. So it's fair to say that these three, Goldman, Dial and Blackstone dominate the market today as an effective oligopoly. And as such, while it's still early, there seems to be a power law developing here akin to the VC space as gps of course want to be owned by the largest, most reputable, most experienced GP stake firms and that the GP stakes firm themselves obviously want a portfolio of world class gp. So there's this virtuous circle that if it perpetuates will result in this outsized performance persistence that we see in vc. So we'll be watching that as this develops. But nonetheless, with the total alternative GP fund business probably encompassing 18 trillion globally and if you assume an average stake of, let's say 20%, the denominator total addressable market here is probably 3 to 4 trillion. And the current market size of these three major players and all the tail players is still less than 100 billion. So while much of that 3 to 4 trillion might not be for sale, for example, Blackstone ain't selling anytime soon. But even if you take a huge haircut off that, there is still plenty of room to run with these players and future prospects for GP stakes. So after this dominating trio of Blue Owl, Goldman and Blackstone, there is a very long tail of what you might call subscale specialty players. I mentioned Wafra, there's Hunter Point Stable Bonacourd, which is Aberdeen's permanent capital offering, and the Dutch firm Alpinvest, just to name a few. And by the way Christy and listeners, the very best podcast we listen to and read a ton of stuff in preparation for this and I hope that's helpful. But the very best podcast I listened to in my prep on GP stakes and to some extent it was a spark for this episode, was Patrick O'Shaughnessy's interview with Eric Serrano, the CEO of Stable Investment Management, one of those smaller players I just mentioned. And I've had the pleasure of actually getting to know Eric a bit since that episode dropped was not only a wonderful source on how to think about the economics and the benefits of these strategies, which we'll talk about in more length, but Eric really has his finger on the pulse of the human side of the business and how to identify sustainable leaders and partners of high integrity and character, which are qualities I don't know about you but I think are probably underweighted in this industry when you think about investing in a business is who are the people and what do they actually stand for? So I highly commend and that link is in the show notes to that pod. So let's move to my second assignment and to what I think is the most interesting element of the whole subject, which is decomposing the return streams of this type of investment. So if you tuned out on that history, tune back in. This was the most enlightening part of my research and I'm excited to share this with you and talk with our guests about it a little bit later. So those of you familiar, which is probably most of you with the traditional drawdown fund structure, know that as an LP there are basically two types of returns. Your portion of the carried interest or performance fee, and then the increase in enterprise values of the portfolio companies, both through the life of the fund, the unrealized quarterly marks or that we've talked about at length on this show, and then upon exit transactions when cash is actually returned. Now remember, the model here, in contrast when we're talking about GP stakes, is that you own a minority piece of the underlying sponsor GP themselves. So you are committing capital to a GP stakes fund, which in turn is investing your capital in several GPs. Now, ownership stakes can differ, but as I kind of mentioned earlier, they typically range from 10 to 25% in each of these portfolios GP companies. So as an lp, you're flipping the script here and this is critical to understand. The investor in this case is actually now participating from the vantage point of the gp. So this means the structure and the rhythm of modeling out your return expectation is much more complex and multi pronged. It's a mirror image of what you're used to from an LP perspective. And I think as a result, and we're going to get to this, many make the mistake of categorizing this as another flavor of private equity when it's fundamentally a different asset class completely. So I think it's fair to say that there are four sources of cash flow or return streams that we should explore in turn. So number one, and hang with me here because I think this is really interesting, number one is the management fee, and this is perhaps the most differentiated source of return as your minority share in the management fee collected by the partner GP can be actually fairly extensive and it's the first taste of the return stream. So this is a very sticky coupon like cash flow, as it's usually contracted for 10 plus years in a typical closed end fund. And as such, many actually refer to this source of the return as yield, given that the downside protection and the certainty and the consistency of the return resembles a fixed income instrument or a bond. And these yields themselves, without any upside on performance, which we'll get to in a moment, will often yield 7 to 10% return on cash themselves. So this is your portion of the GP's management. So number two, performance fee, something you're probably much more familiar with as a minority owner in the gp. You participate in the carry portion of the GP as well so there is upside alignment if the collection of the GP's funds successfully return more than what is typically called the hurdle rate. Now importantly, one difference however in as a typical lp, remember that this is in your capacity as a part owner of the gp. So it's a piece of the carry of all the funds, not just one in particular. So it tends to smooth out the unpredictability a bit versus being a participant in just one of the specific funds at that gp. Third is participation in the GP fund value. So as the value or nav of the GP's own investment, their own balance sheet capital in their funds grows, the investor in a GP stakes fund takes advantage of that as well. This is the corollary to unrealized quarterly marks of portfolio companies in a PE fund for a traditional lp. And again, that's across their ownership in all the respective funds both before and after your investment you are participating, just as the firm partners are participating. And finally, and I'm going to put some caveats on this, the exit. So if the GP investment is monetized ever in some form, if it's sold to another strategic buyer, if it's brought public, et cetera, the GP stakes investor will participate in the enterprise value of the underlying business itself. Now I promised a disclaimer here on this fourth stream and we'll talk about this a bit with our guests. I should reinforce that unlike the traditional closed end timeline of five to eight years of most PE funds and then the J curve kicks in and the shopping and the public listing process commences, most GP stake investors are in no rush to exit or return cash to investors. Those other three streams I just described are the large majority of the attraction of the asset class, and these generally are deemed much longer life or even, as I said earlier, permanent investments. So while we have seen exits at times, most investors that want cash out would typically work with the GP on a customized basis for some type of dividend recap or secondaries to exit verse relying on a systematic sale of the portfolio company. So that's an important disclaimer. So again, you've got a stable fixed portion that offers close to a risk free floor, you might say, like a bond, coupled with some upside levers on both performance and enterprise success. So digesting all of that, Christie, I'd love for you to put back on that CIO hat, your old allocator hat as you just heard me, decompose those streams. Where in the world, given the hybrid nature of that structure, do you put this in a portfolio?
- [22:24]
Christy Hamilton
I think it depends, which I know is always my answer for all of these, so I apologize in advance. But I think it depends on what types of GP investments you're making. So if you're seeding brand new little baby funds, that's basically venture because there's a good chance they're going to fail, you should not expect cash flow, but you can obviously as things normalize you can move that into different parts of your portfolio. But I think the payoff is more, or at least in my brain I think of it more like a venture style payout versus if you look at maybe GP stakes of more established funds. It really again depends on the investment and where you're putting that capital to work or which GPS you're most interested in. So if you are taking stakes in mega cap LBO or gps, it almost looks like a mez or like buying the Dow Jones and just clipping a dividend every month. And I say that because of the drivers of return, I can't imagine that anyone's going to buy a mega cap LBO or is going to put that kind of capital. There may be an opportunity to go public, but as we know, public markets are pretty harsh on these kinds of investments or don't necessarily understand them. So I think that the drivers would then be more of like the yield and the ongoing clipping of the coupon, which is very different from say investing in a GP that's more lower middle market, which I would think of as more growth equity because you're expecting AUM to increase, you're expecting the funds to do well based on operating. So it's almost like you expect not just that management fee, but some upside from the value of the GP commitment and the performance fee and the carry and potentially an exit. I think the one that gets hairy is if you're looking at GP stakes of maybe credit, again you would be looking at it would be more the ongoing cash flow. So you could probably almost look at it like fixed income. So I think if you have a diversified pool of all of them, just go ahead and create another bucket in your portfolio and call it a diversifier. But if you're looking at specific segments, yeah, I feel like you have to look at the driver of the return if you're going to be honest about it intellectually.
- [24:10]
John Bowman
I think your punchline probably revealed where I came out on this. Now I have much less explicit experience, but I read a lot too on portfolio context and categorization. Of course these are a bit of a Frankenstein, a mashup of strategies so where it fits in your asset allocation? And by the way, you could ask does it really matter where it fits? But that's a whole nother debate. But there's no easy answer. For the reasons I've already cited and alluded to, I think it's a mistake to throw this into the growth PE allocation. I think you bring a really interesting point on. I'm sure they would love to be called baby gps. That's an interesting venture perspective. I really appreciate that. I'm not going to spend a lot of time on this, but in the case of blue owl They're 10 billion and above. So these are all very established organizations. Some of them. The others do have, as you move down that tail I alluded to, some of them do have emerging manager programs and funds. And that I think is worthy of conversation. On your VC point, the most accurate argument you also mentioned too that I heard for an equivalent bogey is a mezzanine structure debt strategy. So in other words, it's got this fairly stable coupon exposure with an equity kicker and upside participation if things go well, if the macro environment cooperates. But I'd also hesitate to throw it in your private debt or special situation credit portfolio either as structurally this is actually an equity investment as we talked about. So all that to say from what I've seen, due to its distinctive combination of characteristics, most asset owners I've talked to seem to be slotting this into what they call a tactical or opportunistic bucket. You said diversified, same type of thing with maybe a 2 to 4% sizing or so. I think we should ask Sean Ury this of USAA because they're fairly new investor in this space and I wonder where they have slotted it or even if they've thought through the debate on the destinations that could be a proper location for it. So finally, my third assignment before I hand off to Christy and we get to our guests is tackling the wide world of GP stakes methodology. So what do I mean by that? Well, repeatedly we ran into material that challenged the virtues of the space with the same questions almost on repeat. And many of these questions are the same natural head scratchers that Christy and I had, or in some cases still have. Now this is far from exhaustive, but I'm going to tackle the three big ones here, at least the ones I saw most often, and then play a little bit of truth or fiction with each of them and then we'll test our assessments with our guests a little bit later. So three myths, myth number one, a founder in a promising or high growth GP would have no incentive to sell a piece of equity to a GP stakes firm. This is one we really wrestled with. So in that proto permanent capital day that I described earlier, these early deals were largely cash out events for the original vintage hedge fund founders that were either looking for liquidity or a retirement glide path. But as we've learned, that's very rarely the case anymore. The large majority of these stakes and infusions of cash are for what you might call balance sheet capital and growth opportunities, so namely to launch new products, to enter new geographies, to acquire new talent, to support their own GP commitments to future funds. And all of this, particularly in private capital as compared to hedge funds are very capital intensive even for gps of reasonable scale. So this newfound GP stake capital in the modern form is like pouring octane into the tank for these businesses for their growth aspirations. I should also explain that this relationship is about much more than just cash in the modern form of the business. Many of these GPs are looking to plug into an experience platform of you might call wisdom talent services that eludes them in isolation or allows them perhaps to focus on what they do best, which is the investing part. So for example, we'll ask Sean Ward to tell us a little bit about Blue Al's business services platform or what they call BSP. This is a 50 person, as I understand it, post investment team that helps to drive growth and industry best practices, as they say, across eight disciplines or focus areas. And some of these practices include human capital management, client expansion, marketing support, business strategy, esg, dei, data science, et cetera. Petershill or Goldman similarly talks about becoming a partner of choice not by competing on price, but by what they call their centers of excellence in capital and product development, firm infrastructure and operations, and portfolio advisory services. So this whole one stop shop cafeteria style service platform is becoming an interesting model that seems to be contagious, at least across the majors. And by the way, just as a quick aside because I find this fascinating, that model was really spawned by someone named Michael Ovitz. Now listeners might recognize Ovitz sadly more for his dysfunctional 16 months at Disney than for his founding of Creative Artist Agency or caa, which is the gold standard of talent agencies. But here was his innovative insight that might rhyme with part of this discussion. Michael curated a large set of services and relationships with actors, television, film, investment banking and advertising services. And then he would assemble package deals to shop these creative concepts, directors, actors and screenwriters to a studio as a full solution. And thus he shifted the negotiating leverage from the studios to the talent. While perhaps that sounds like a strange insertion for me in this episode, at Face Value, it was actually that model at CAA that served as the inspiration when Marc Andreessen and Ben Horowitz started Andreessen Horowitz, the now legendary venture capital firm. Unlike other VC firms that were personality driven with literally just a handful of partner employees, A16Z, as they now call themselves, created a suite of offerings to serve founders in places like marketing, executive recruiting, product design, code development, et cetera. So this model is tested and valued and thus provides a much more durable value proposition to encourage long term strategic alignment and in this case with gps. So I don't think this first myth really holds up based on market realities. So I'm going to call fiction here, Christie on this first myth. Myth number two these businesses are chronically undervalued by the market. I don't think you need to look much further than Blackstone and KKR who are listed for validation here. I'm not sure any employee, if you ask them, would be fully satisfied that the future cash flow streams and the terminal value of their business is properly understood by the public markets. As we discussed earlier, the management fee element, the carried interest component, the fund nav ownership and the exit opportunity make for a confusing soup to wade through. And even experienced financial services analysts don't really have much to comp this really interesting business off of. And perhaps the most illustrative disappointment that I promise to revisit is when Goldman decided to float their Peters Hill GP stakes business. I mentioned that they listed in October of 2021 on the London Stock Exchange. The IPO was priced at about 350british pounds, which assigned it a market cap day one of approximately 3.5 billion pounds. Now that valuation unfortunately immediately cratered and even today, albeit standing at an 18 month high, it is still only 2/3 of the original valuation despite the huge rally in the public markets over the last 12 to 18 months. So I would say that this myth is absolutely true and I think this is why the exit option that fourth stream I described earlier on these strategies is not a major part of the calculus or narrative when you speak with GP stake LPs. We'll talk to Sean Urie about that one. Okay, finally, myth number three. GP stake investments will create confusion or even conflicts among LPs in the underlying funds and LPs in the stakes funds. So I'm really interested to hear what our guests think on what you might call the parent versus Child LP dynamic, perhaps there is a division of attention and a plague of multiple masters that could naturally set in. I logically understand that. But I want to make a couple points here. First, remember that these are minority investments. These are not controlling stakes. So while they do have appropriate influence, they're not trying to meddle, restructure or get in the way of these partners. I really get the sense that they're there to support, to provide tailwinds, in fact, on the contrary, where appropriate. Second, Christie, I thought let's role play a little bit with a fictional situation. Okay, so let's say I'm an LP in the Hamilton Private Credit Fund 2, huge fund that you raised a couple years ago, and you call me one day as an LP in that fund and explain that Blue Al has decided and you've agreed for them to take a 20% stake in your business in preparation for Fund 3. You justify this because you really need additional investment talent in Europe, some technology infrastructure. You need a bit of capital for your own investment in that fund. And you go on to explain that Blue Al part of the attraction here, that they have some great experience on talent acquisition strategies, fundraising approaches in Europe, and relationships with software and infrastructure vendors to integrate and provide some of that data capability. Now, while in this case, which is obviously for fun, I may not see immediate benefit to my investment in Fund 2. Why wouldn't I consider these advancements in capabilities, scope and talent a good thing, ultimately, for both the GP and for me long term? So I don't pretend that that's an easy answer. And I'll let you tackle that if you disagree, Christy, as I hand off. But I'm going to say myth number three is false. So that was false. True, false. So I'm going to leave it there. Christie, you hinted and you teased out your initial impression of this when you sat in the allocator seat. I'd love to hear the journey you've been on. You still have some questions, as we both do, but I'd love to hear where you stand on all of this and how you're assessing this in a portfolio context now.
- [33:59]
Christy Hamilton
So I still struggle with this so much. We're going to revisit Myth three in a minute in particular, but I figured in a way that I want to, again, make it very clear. I don't think that this is a good or a bad investment. I think that this is an investment that makes sense for a lot of GPs and LPs, and I think it's an investment that maybe feels a little cannibalistic to other parts of a PE portfolio for other LPs, which we'll get to in a moment. But I think I'd like to start with when I think about underwriting an opportunity like this, I obviously want to look at the investment itself within the broader industry context and within a broader portfolio context as well. So I do want to start by saying at the GP funding a GP level, I understand why the child GP in this case, why accepting money from a Blue Owl or back in the day, a dial would make a lot of sense, particularly if as your funds get bigger, as you're trying to transition key leadership and ownership of the firm, as you are trying to make sure that you are seating properly. Because it's funny, I was thinking about one of the gps that I worked with back when I was on the investment side who was literally leveraging themselves to the hilt to put their GP very young GP and very hungry, which was awesome, but leveraging themselves to the hilt to make sure that they were meeting their GP commitment. And I remember thinking, wow, that's such a risk. And then being like, wow, I punish them if they do, and I would punish them if they don't in this case. And not really a punishment, but just I would look at it as a risk either way. Which Blackstone had to start from somewhere, CBC had to start from somewhere. These were once small firms with really hungry management. So I always want to be mindful of making sure that I'm not being cynical as I'm looking at risk, because I do think that in some instances this actually solves a really great problem and pain point, particularly as the size of these funds grow and as management transitions. So I think that again, staking large buyout funds with unique transitional issues and then seeding funds that are smaller spin outs or whatnot, while two very different investments, I can see again that these are unique opportunities. With that said, I do wonder if sometimes some of this is just the financialization that contributes to broader macroeconomic issues. So if you can't transition the management, maybe you're growing too fast or maybe your fund step ups are too big. And that's actually a broader issue for the GPLP alignment at the child level and will cause you to have problems fundraising at some future point, which we'll get to in a second. But I do wonder sometimes if there isn't this almost misalignment or asymmetry of information because a GP obviously knows all of this stuff. And John, I know I've said this repeatedly, it's so Hard for me to wrap my brain around selling your equity. That's like the one thing that I think every owner has that's almost that they can hang their hat on and they can provide that level of stability. So my broader point there is just, I think that that is ultimately what my big hang up is in terms of the actual seating part. So, yes, I think that I can understand why it happens. I can also understand where it's a problem. When I also think about within a portfolio context, it doesn't necessarily feel congruent to me at the LP level. So to your point, the parent LP, so that's the LP and the GP stakes firm and the child LP, so that's the LP & the GP that takes the money in exchange for the stake. I actually think that that's a little bit more fraught because if you look at the drivers of return, obviously the management fee is going to grow if you raise more assets. So if you're a low middle market LBO fund and you're the LP of a lower middle market LBO fund, you don't necessarily want to see huge fund step ups. But now, depending how big of a stake they sell, they're pretty well incentivized to start jacking up the AUM and start the fundraising cycle. And particularly in the lower middle market, this has been a problem in the past. So you do want to be mindful of that. And to the extent you're an LP in a GP that accepts that money, you want to be thoughtful of, okay, is this fund all of a sudden having a hundred percent step up from between Fund 3 and Fund 4? Because that's a problem. It's one thing to be able to operate a 10 million EBITDA business, it's another if you have to end up in a fund that's two or three times bigger, does that team really know how to operate companies within that band at the new fundraising level? So I think that that's the massive alignment. It also, I think at times can create some weird payout incentives on the carry portion. If you actually model that in Excel, which is a little bit surprising to me. And then obviously on the exit side, I have never actually seen that impact. I will say I have never seen that actually impact a child quote, unquote, LP in a really negative way. But I'm sure the way my brain works, I can think of all sorts of ways that that would happen. So with all of that said, I do think that it's a partial myth because I think that sometimes the Risk there is overblown, that the misalignment of incentives is a little bit overblown. But I do think that they exist, particularly depending on what partner you accept money from. So that is the only thing I will say about Myth 3, but from there I think just if you're an LP and a fund that sells its stake to its GP, watch for step ups and fundraising. Ask yourself why they took the money. Does it make sense? Is it logical? And if you're an LP and a GP stakes fund, who are you giving money to and why? Are you solving unique problems or are you riding a wider wave of PE fundraising expansion? And if so, at what point is that merry go round going to stop and are you still going to fund them? So I think I keep coming back to the whole it does solve unique problems. And in a world where you can't just go to the bank anymore and be like, hey, can you write me a loan against my $5 million stake in this underlying fund, I can see where people need to take liquidity out. You can't just expect partners or people or the team underneath them to just sit on their illiquid assets indefinitely and struggle to eat and stuff. You don't want that as an investor. And I also will say I can see right now where people are interested because in addition to that solving unique problems, you have this larger wave or this larger expectation of PE funds in particular, and private credit funds for that matter, raising money because of the democratization of alts. So I actually understand where this would be a longer term macro picture where you just expect large inflows and that you would basically invest in funds that were staking very large cap LBO funds because that's most likely who's going to be the beneficiary, or private credit funds, because I feel like that's going to be largely who benefits from the broader democratization. So again, I can see where the opportunity is there. But I guess from a fundamental perspective, I would also caution anybody looking into it that wherever you put it in your portfolio, I firmly believe that if you look at this investment, it has to stack up versus if you put it in your PE portfolio, it needs to stack up against your PE investments or offer some differentiated exposure that improves the entire picture of the portfolio and a diversifier, you have to really ask yourself, what are we getting here? And does that match your long term vision or long term needs in both terms of risk and return? Because I think sometimes people are just like, oh, it's new and it's Cool. So we should slot it in versus. Hey, this is what's actually driving those returns and this is why it's like fundamentally a good investment. So with that, I'll pause.
- [40:45]
John Bowman
Always be weary of the shiny new object. You're right about that. And actually you bring up such good points on some of the potential alignment issues. One of the big outcomes of this particular episode is to debate and to wrestle with whether this actually improves is a pure form of alignment for the LP that solves for some of the lack of alignment in a child lp, a traditional fund structure because you don't participate in the management fee, you don't participate in the enterprise value to a great degree. But maybe there's actually a disadvantage of participating and encouraging some of these incentives and behaviors that you don't want to be aligned around. And you talk about step up and hyper fundraising and growth for growth's sake to put words in your mouth. And I really think that's a great caution. So appreciate you helping us think through that. Kristie. Maybe we'll say myth three is half truth, half lie. We'll compromise there and we'll ask our guests a little bit more on that.
- [41:41]
Christy Hamilton
I completely agree.
- [41:43]
John Bowman
Okay, we'll stop there. We'll listen. This show, as we've said from the very beginning, is not about giving you answers. It's about helping to equip you to think critically and to think in a more balanced way. Life nor investments in particular is black and white. And so this is no exception. So we are going to take a halftime break and then come back with our guests Sean and Sean this episode. As I mentioned, we have the benefit as we work our way through all of these alternative strategies at Franklin Templeton to have Rob Christian, chief investment officer of K2 Advisors, which is Franklin's 10 billion dollar AUM multi strategy hedge fund across long, short, relative value, global macro and event driven capabilities. So stay tuned with Rob and then we will be back in studio with our guests Sean and Sean. Well, welcome back to Capital Decanted and this version of Halftime. And I am here as promised with Rob Christian, the CIO of K2 Advisors. Rob, welcome to Capital Decanted.
- [42:46]
Rob Christian
Thank you John. Happy to be here.
- [42:48]
John Bowman
Well, I've been really looking forward to this. I think as I've mentioned to you, we've been cycling through all of the sub managers in the alternatives, space and world of Franklin Templeton this season and K2 advisors. As I understand, it was the beginning of this journey to curate a world class set of alternative managers as far back as 2012 was the acquisition and you actually were at K2 before that. So tell us a little bit about K2, its progression as you've entered the Franklin Templeton world and where you stand today.
- [43:22]
Rob Christian
Thank you.
- [43:22]
Sean Ward
K2 was founded by two partners in 1994 and it was initially to invest their own friends and family money which a lot of investment boutiques start that way. And then it grew. They came from an equity long short background. The hedge fund world in the early 90s was much more opaque and growing very fast. Fast forward. About 10 years later in 2010, I joined the firm. I have a global macro background. The firm had not been doing global macro. Came from the equity long short world, then moved into fixed income and then I was the last piece in global macro and then that completed the product offering. I think for K2 that was 2010. And we were as you mentioned, we were acquired in late 2012 by Franklin, but we were covering all hedge fund strategies. Our original products were traditional fund to funds first with an equity long short focus and then moved into more of a multi strategy approach. Today we still have some fund of fund products, but the industry in K2 has evolved much more than just being a hedge fund fund of funds where we view ourselves more as a absolute return advisor or a hedge fund solutioning. Solutioning gets used a lot and probably too much. And that is really because when we work with clients and we have a host of products and offerings from clients, everything from some listed registered funds Both in the 40 act world and the UCITS world. But then we also have many institutional mandates where the hedge fund program is customized for the individual client.
- [45:00]
John Bowman
That's a very helpful flyover, Rob. I appreciate it. And you alluded to as all Franklin Templeton employees seem to have in their DNA the client as the primary reason we exist. This is a tough question when you're thinking about a collection of hedge funds. I understand. But when you counsel clients and dialogue and hold the hand of clients to think about the proper context within a portfolio of these types of offerings, how would you approach that conversation?
- [45:27]
Sean Ward
We are very client focused, which made the K2 Franklin combination very easy to happen. But one of the biggest questions when we work with clients is the client is like how should I fit hedge funds into my portfolio? The next question is where should that capital come from? Where should I be deallocating to in order to allocate to hedge funds or even alternatives in general, if you think of real estate, private credit, infrastructure, hedge funds. But that question always comes up early. Where Should I allocate from? So when we initially meet with clients, we do diagnostic analytical work on their portfolios to show them where their risk are, where their potential holes are. And then clients inevitably have there's probably three or four different types of clients or wants from clients. A better way to put it One is they have too much equity risk and they want to reduce equity risk. Think of a pension fund or someone who has liabilities and they're pretty well matched to their liabilities and they're worried and concerned, concerned about equities. They may also have a lot of private equity or venture capital that have equity like risk but are not as liquid. So the first set are people that want to reduce equity risk and look for diversification in their portfolio. Other set of clients especially this was more the case a few years ago when yields were very low. But they were using alpha generated by hedge funds as a way to replace interest income from fixed income. So thinking of alpha as a fixed income replacement, that certainly has changed today because now cash is much higher. But that's one focus and then we've seen more and more recently is people is allowing using strategies that are more oriented towards mitigating risk. So that enables portfolio investor to take more risk in the rest of their portfolio. And then we tailor custom solutions towards that.
- [47:19]
John Bowman
Rob, I really like that approach because what you started with was the client has a challenge or a problem and you're solving for that. And I think so often, and I think listeners will agree with this, is that we've got a product that is trying to find a problem. So again, I think just a great echo of what we've talked about with many of your peers and Franklin Templeton's I would say, ethos as an organization. So Rob, thank you so much for the quick conversation. Really, really enlightening. To learn a bit more about K2 and listeners, stay tuned for our next segment with our guests.
- [47:50]
Rob Christian
Thank.
- [47:53]
John Bowman
Welcome back to Capital Decanted. We are now thrilled, as promised, to be here in studio with Sean Ward of Blue Owl and Sean Urie of usaa. Welcome gentlemen, to Capital Decanted. Thank you.
- [48:06]
Sean Urie
Thank you for having us.
- [48:07]
John Bowman
Well, listen, as we talked in the green room, this is going to be a little bit of gymnastics. This is the first episode and I'd like to even say probably a very rare occurrence where we're going to have two people with the exact same name. So listeners, first of all give us grace. We're going to try our best on this to make sure that both Sean and Sean know who we're asking questions to and then in turn, when you're listening to this, you know who actually is talking. But we are thrilled, Sean and Sean, to have you on the show to really wrestle with and tease out this very trendy and explosive area of GP stakes. So I'm going to start with just that, a little bit of a retrospective with Sean Ward at Blue Owl. We spent a lot of time, Sean, in the opening segment walking through the history, the progression, the evolution of GP stakes, permanent capital evolving into its more mature, maybe adolescent state. And that's really for you to define. But over the last 25 years, at least from my impressions, permanent capital has evolved across a number of dimensions. Really started with these selective investments from large asset owners themselves, CalPERS audio, AK permission, and now really there's a long tail to this, but the large majority of the market shares with just a few players, an oligopoly of which Blue Al is one. And the other thing to lead the witness here as you help us bring us to today's market sizing and approach, is that the motivation of much of these purchases has shifted from what was purely, at least from my research, the cash out liquidity for the founders, to something much more nuanced and broad. So with that introduction, Sean Ward, I'd love for you who have been involved in your previous life with Dial and Neuberger and now with Blue Owl, to help the listeners understand how we got to where we are today. Great.
- [49:54]
Rob Christian
Well, thanks, John, and thanks, Christy, and thanks other Sean. Look forward to hearing your thoughts as well. And for the listeners who aren't watching us, it'll be easy to tell which Sean is which because the dumber sounding one will be me from Blue Owl and the smarter sounding one will be Sean from usaa. Our team's been involved in this really since the very beginning. We did our first GP stakes deal back in 2001. And I don't know what it says about me that I haven't changed jobs since the mid 2000s. The companies just keep changing around me. I don't know if that's a good endorsement or a bad one, but at least the good news is in this very one narrow area, I know what I'm talking about. So you're exactly right. If you want to go back to the very beginning of when these deals were getting done, they were pretty opportunistic. They were largely done with large hedge fund firms. And that's where we really started, all the way back on the balance sheet of Lehman Brothers, and they were done for various reasons, sometimes on the buyer side, it was some strategic relationship between a particular sovereign or other large asset owner and a manager. In our case, it was really part of a broader build out of the investment management division of Lehman and what ultimately became Neuberger Berman subsequent to Lehman's bankruptcy. But we sort of lucked into the space. I won't bore you with too much history, but the very first deal we did was part of a spin out of a hedge fund firm from Lehman. And there was a big argument about whether or not the founders could keep their Lehman equity. And the end result of the fight was that they could in fact keep their equity, but in exchange, Lehman would own 20% of their firm. Now, hopefully, in retrospect, they sold that equity at some point before 2008. But we saw that deal and it went pretty well. And that firm scaled and we looked at that and said, well, this is a pretty good strategy. We'll just keep doing that. So we did five of those deals between 01 and 07. And then subsequent to the bankruptcy and the spin out, several of my partners and I became employees over at Neuberger Berman and started what became Dial Capital to focus on continuing that GP stakes program, but in a fund format. And like you were saying before, we were doing this in a permanent capital structure. Our funds don't have a term associated with them, so it can be a really long term partner that the firms are buying stakes in. But initially this was still done with hedge fund firms. And fundamentally the transaction from a financial perspective was a tax play. Essentially it was a way to monetize a piece of your ownership and pay long term capital gains taxes, as opposed to ordinary income, which hedge fund managers by and large are paying on the profits they get out of their firm. Now, I'm obviously alighting over a lot of history here, but when you get to about 2014, we were really the first folks to do one of these minority stake deals with a big buyout firm, in our case Providence Equity. And the motivations for that transaction were entirely different from the hedge fund context. What they wanted to do was really essentially issue equity to us, bring capital onto their firm's balance sheet, where it could be used for a bunch of different purposes. And what we quickly learned was that private equity is very different from hedge fund land. These businesses have a big need for proprietary balance sheet capital, in part to fund their own GP commitments. So if you're raising bigger funds and more funds and you're moving into new product areas, it can be Useful for that capital can also be useful for dealing with succession planning, going from the founding generation, in many cases, to the next generation of folks, providing them capital to step into bigger GP commitments over time than they would otherwise be able to do. Or to build your business, either organically launching new products or inorganically going out and acquiring businesses and bolting them onto your platform. But fundamentally, the business is just much more capital consuming than the hedge fund business, which typically as firms get bigger, they become less capital intensive. The amount of capital as a proportion of overall AUM tends to go down over time. Or if you think about it as you look at a traditional asset management firm like BlackRock, $11 trillion of AUM. What percentage of that is BlackRock's own money? A very, very small percentage. And so from that rather humble and serendipitous beginning, we really continue to scale and buy stakes in bigger and bigger firms. And today we focus exclusively on private markets. We haven't done any hedge fund minority stake deals in a decade. And it's proven to be not an idiosyncratic situation like we thought it was, where, okay, Providence needs capital, but that is a one and done transaction. And now we'll go back to our day jobs with hedge funds. But we quickly realized that this need for capital is endemic across the industry. And in fact it was much more pronounced among the firms that were doing the best, that because they were growing so much and they were doing so well, they needed more capital and we were lucky enough to be able to be there to be provided to them.
- [54:15]
Christy Hamilton
So there's a really interesting background on the GP side that Sean just went through. But I'm now curious to you, Sean Urie, when did USAA initiate their GP Stix program and what made it an attractive fit to the overall organization and to the broader investment program within your organization?
- [54:30]
Sean Urie
So we started looking at GP stakes about year and a half to two years ago. And it was really our initial step as an insurance company into private equity. And so we had no private equity program within the portfolio, which is typical for an insurance company. We're mostly made up of fixed income securities as we're trying to immunize liabilities out into the future. But as yields were low back before the Fed started raising rates, everybody was searching for yield. So even insurance companies lean more into alternatives and search for returns. So as we set out on our path of okay, we want to add private equity, we did have private equity in the sense of real assets, so we did infrastructure and real estate, but we hadn't done corporate private equity. So one of my colleagues and I wrote a white paper on private equity to get through our risk committees so that they could understand the trade offs in the private equity space. So there was this debate between him and I around how do you launch a program into private equity? So your first investment, you're typically very concentrated. You've picked one strategy, you don't have any vintage year diversification. So his argument was let's go into fund to fund. So my background, I try to typically avoid fund to funds if I can, just because I usually have enough scale that the double fee layer is enough of a disadvantage that I prefer to go direct. And so my argument was, let's focus on just building our own private equity portfolio. And as we were researching this, we came across this GP stakes. And to be honest, the first time somebody brought me the idea, one of my colleagues came in and said, hey, I'm at this firm, they do this thing. And I thought, how? It's just another one of these quirky strategies somebody came up with. And I dismissed it and then came back around a second time and I paid a little more attention. And as I paid more attention, I think I realized that it was a really good first step into private equity because it gave us vintage year diversification automatically. It gave us broad diversification across asset managers almost instantaneously. And it did so without me having to pay two layers of fees and a fund to fund strategy. So I felt like it solved some problems for us in that we could almost build a very robust private equity exposure with one investment. So we recognize there's trade offs and that I think the upside on GP stakes is probably a little more limited than the direct private equity investment, but it is a great diversifier and then you can build out your program with more direct investments as a complement to the GP stakes investment.
- [56:59]
John Bowman
What's interesting, I think you're not alone in the initial dismissive attitude. I hear that a lot with LPs and I think you're right that it is quirky. Even though you came back around, it is unique. It's a bit of a hybrid. And Shawn Ward, I'd love for you maybe to provide a bit of a primer on the economics around this because as we outlined in the opening segment, in my words, you have three sources of cash that have very different return streams and behaviors and rhythms to them. You have almost yield like return where you're sharing in the portion of the management fee that typically in a 2 and 20 drawdown fund structure, you don't touch as an LP, then of course you have the upside with the performance Feees as the LP portion of your relationship. And then finally there's this potential and I'd love for you to comment a little bit about how that timeline and time horizon and expectation works which the eventual enterprise sale, the actual growth and the value of the business itself. So maybe talk us through, if I've outlined that and characterized that correctly, those three sources of economic return for the lp.
- [58:00]
Rob Christian
Look, I would love if we weren't considered to be quite as quirky as we are, perhaps make my job a lot easier. But there is an advantage to it as well in that we've been put in all sorts of different buckets by investors who decide they want to allocate to our strategy but don't quite know where to put us. Beauty's in the eye of the beholder. They have excess capacity in their private credit bucket, we've wound up there because of that coupon like component that you describe and we wind up in people's private equity allocations and absolute return and what have you. But I would say you're broadly right. There's one tweak I would make to the way you describe the cash flows. But I would say for investors like Sean Ury, I would say there are basically two broad things we bring to bear. And one of them you mentioned already is that broad based diversification you get buying at the GP level. Because if you buy a stake in a gp, you're economically exposed to everything that GP has ever done that they still own and everything that they do off into the future as well. And you multiply that by a portfolio of stakes in 10, 15, even 20 firms in a particular fund of ours or one of our peers. You're talking about exposure to hundreds of underlying funds, thousands of underlying portfolio companies that have all been put in the ground at different points in time across strategies, across asset classes, across geographies. So it's truly a mind boggling amount of diversification in one shot that I would say is pretty much impossible to replicate elsewhere. When you think about the return stream, again, I would completely agree with Sean and maybe it's not the best selling point, but I think the range of outcomes for what we do is probably a lot narrower than other strategies where maybe if you pick the right manager, they knock the COVID off the ball and you get 5 extra money in 10 years. We're probably not going to do that for you, even in our best case. But it's also very hard to lose Money buying in at the GP level. And why is that? Well, it comes back to those cash flow streams that you described. And I would actually say, using your rubric, I would say maybe there are four cash flow streams rather than three. The one being the management fees that you described. They're very stable and predictable. They're almost coupon like in the sense that they're contractual obligations by investors to pay a fixed amount of management fees on a fixed schedule over a fixed period of time. That looks a lot like a bond coupon and that's very underwritable. The amount of cash flow you're going to get from that, at least from a manager's existing funds. The one other nuance I would add there is that management fees provide a lot of downside protection too. If you imagine a scenario where we do a really horrendous job and we buy a stake in a firm that never raises another fund that just are completely terrible and investors wind up hating them, well, you know, at least you're going to get the management fees on their existing funds as they roll off over time. And you should get a significant amount of your purchase price back over a long enough period of time as those funds roll off. Now, no one's going to throw you a parade in that scenario, but it's still a lot better than a zero, which is your typical downside case, right? So you've got the manager fees very steady as she goes underwritable. You have the carried interest, which as you say, is entirely performance dependent and it's realized performance. It's not even like the good old days with hedge funds where you could charge 20% on unrealized gains. You actually have to sell stuff and realize gains typically above a preferred return. That's the bad news. As the co owner the gp, the good news is that even though the cash flow is a bit lumpier and less predictable than the management fee, it can really move the needle quite a bit. We've had individual exits at managers of positions in one of their funds that have gotten us back 5, 10, 15, even 20% or more of our purchase price just on the carry from one realized investment. And the way I think about it economically is that the carry looks an awful lot like an option on their performance. It's binary. You either get it or you don't. And it's convex to the upside if you do get it and you multiply those options by again, however many funds and however many managers, and even though the cash flow is lumpy in the individual Instance, it tends to smooth out across a portfolio. Now, the only thing I think you missed in your description before was the actual balance sheet of the firm itself. So we own a piece of the firm's investments in their own funds. So our piece of the GP commitments and over time, that generally generates a NAV that increases. You can't eat the nav, but it's separate. And apart from the enterprise value of the firm you're talking about, what's our slice of all their fund investments worth? That's on a gross basis because you're not paying fees to yourself as the manager. And over time, as those investments are sold, there's often distributions that are made and cash that's rolled from one fund into the next to fund that GP commitment. And when we're underwriting our investment, those are the three things we're looking at. The exit value is something that we hold off to the side and say, well, that's nice if we get it ultimately, but we're not underwriting to that exit. So in that way we're very different from a buyout fund where you need an exit to drive return. Our return stream is very cash flow dominated. We want to get our money back within a certain period of time just from those operating cash flow streams that I described. And we want a good multiple of our money over 10, 11, 12 years, essentially ignoring the enterprise value of the firm, the terminal value of the firm, just looking at the operating profits of the business over time. And then you're exactly right. You look at, well, there is upside there, potentially, whether we sell our position to someone else or the whole firm is sold to someone else, or they IPO their business or what have you. Lots of different levers that can be pulled to add on to that nice base case. But I always like to tell folks thinking about GP stakes that you should really be focused on the cash flow only return. And if that doesn't meet whatever your return hurdles are, then you shouldn't invest because it's not like a buyout fund where you need that exit to get to a good place. Here I like to think of that as being incremental upside.
- [63:21]
Christy Hamilton
So, Sean Urie, you mentioned previously that your initial foray into this space was positioned as more private equity. And as this great position or leg into private equity with Sean Ward's comments there, would you say that that's still the case one year in? Are you still looking at it as a maybe de risked private equity or even a private credit? Or is there different way that you started to look at it within your portfolio.
- [63:43]
Sean Urie
No, I agree with everything that Sean Ward said. We definitely think about it like a cash generator and again, with great diversification, to be honest, I think the exit piece was really the part we struggled with a little bit because when most managers would come in and talk to us about GP stakes, they would talk about creating strategic alliances with the underlying firms that they were buying. And my question back to them was always, how do you break that strategic alliance? You told them you're going to partner with them, you're going to buy a minority stake. And I think we had to eventually come to terms with the fact that this is a really long term investment. I don't think we think about it as it's a 10 year with a couple of one year extensions and it may last out to 13, 14 years. Realistically we could be in this 20 years, but if our capital is coming back, our DPI is high enough that we've got our capital back and now we're just getting cash flows on our initial investment. It's a great piece of portfolio and complements other things. So if you're looking for that growth piece, I think that's when you supplement with your more traditional private equity investment. But we do think about it as one piece of the puzzle for our privates and I think it complements your traditional alternatives.
- [64:54]
John Bowman
I think this is a hybrid was a word I used a moment ago because it doesn't fit cleanly into any one bucket. Perhaps a bit of a condemnation of the over bucketing nature of what we often do in our industry, which is subject listeners of our last episode on Total Portfolio Approach. So have a listen there. Some have described this to me, if you want to pick one bucket as almost mezzanine, so it's got that coupon element and then there's this equity kicker upside, the option as Sean Ward described on the performance side. So again, not perfect, but perhaps I thought the most interesting way to describe it back to you, Sean Ward, as I did. Many of these listeners might have a hard time imagining the sourcing process. How do you go about being introduced, stumbling across these gps? What does the courting process look like from both sides, quite frankly? Because there's gotta be real incentive and appreciation and desire from both sides to actually get to the table. So walk us through. If there is a typical model of how that relationship works over what time period and what are you looking for ultimately to get to the table to actually close a deal, this will sound.
- [66:01]
Rob Christian
A little, maybe psychological, perhaps a lot more than you might hear in other strategies. In most private equity pitchbooks, when you get one, what's the page every single one has? It's a giant funnel with 10,000 opportunities at the top, and it gets winnowed down to 10 that wind up in the portfolio or whatever. Ours doesn't have that page. And it doesn't happen for a reason, because these are, again, I'll warn listeners for an upcoming cliche here, but these are people, businesses, and they really are. So these are relationships. And I think one of the big advantages we have in this world is just that we've been doing it forever. And that's almost a technical term at this point, I feel. But you get to know these firms over time. And to your question, around a typical process, usually what's happening is you're going in at some point and introducing yourself to a firm and telling them about how you approach the world and how we can be helpful. And there are a bunch of strategic things that we do with our managers. It's not just financial. We have almost 60 people now and what we call our business services platform, and that's pretty unique. And we've had no turnover on our senior team here on the investment side in many, many, many years and, well, never. So having a very consistent team and folks knowing that, all right, if we do sell a stake to the people at Blue Owl, I know in knock wood, in five, 10 years time, if there's a problem and I pick up the phone, I'm getting Sean, I'm getting Michael, I'm getting Drew. Whoever the people are that they know, not some just faceless new person, but those conversations that I'm talking about, they can take years before a transaction happens. Us introducing ourselves, hearing about their business and then checking in. If they're in New York, obviously it's easy. That's where most of our team is. But every time we're in Chicago or LA or San Francisco or London or wherever, you're stopping in and you're getting to know them. And I will say it's. Again, it sounds a bit soft and squishy, but the managers do appreciate when you're taking an honest interest in their business and you're trying to be helpful and you're not just waiting for a banker to send you a teaser about some process that's going on. And so that way you're first in their mind if they ever do decide, you know what, maybe it does make sense to do a transaction. But front to back, we have a number of relationships that were five, six, seven years from first conversation to actually getting a deal done. And some of them that started with the manager swearing up and down that they would never sell a stake. This is not for us, not something we'd ever be interested in. And again, I'll let your listeners in on a little secret because there are probably some folks listening who say, well, there's this great firm out there. And I heard the founders say, well, we would never sell a stake. And I'll tell you, everyone says that until they ultimately do. And then there's a different story. But yeah, it's not a highly scientific process. You've probably heard much more impressive sourcing stories. But the good news for us is because we really focus primarily on the upper end of the market, let's call that $10 billion of AUM and up. There are 300 firms globally that are that size and we need to stay in touch with the firms that are going to be that size. And we have an effort focused on the middle market and all of that. But for our flagship funds, you're talking about a couple hundred firms globally that you're dealing with. And we've met them all literally at this point. So we have that advantage of dealing with a constrained universe.
- [68:50]
John Bowman
It's a long process, I imagine there's lots of moving parts. So that certainly makes sense logically to me. Sean Urey, thinking about that execution of multi layered ownership maybe is a crude way to put it, but what I'm getting at is Obviously there are LPs in the funds of the underlying GPS that folks like Blueow are investing in as part of his GP Stakes fund. And I want to get to maybe a few of the, for lack of a better word, criticisms or questions around GP stakes, whether valid or not. But I think it would help certainly us and the listeners piece this apart. If you're an LP in what I would call maybe the child level, the underlying GP fund level, and now Suddenly there are LPs at the GP stakes level. Is that a conflict? Are there misaligned interests or is it actually improve the alignment around all the players and actors in the situation? Would you be concerned if you were in a GP fund and suddenly a portion of their business was actually acquired by a GP stakes fund? How should we sort through that?
- [69:49]
Sean Urie
I think about it a little differently. I would say, knowing what I know about the due diligence that the Dow team does, that I actually would probably be more comfortable when they come in because I mentioned earlier this strategic partnership a lot of times that underlying GP needs something to be able to scale up or be able to take his business to the next level, whether it's driving efficiencies. And I think that's something that Blue Al and the team bring to the table. And if I'm an underlying lp, I actually like the fact that somebody as well versed in the space has come in and bought a minority share. Now, not a controlling share, almost always a minority share. But I also think about it in the flip side of that, in that I can call Sean Ward and say, hey, we're looking for a late stage growth manager right now. Who do you have? Who have you researched? And I leverage that platform and turn it around and truly believe that sometimes these managers that are up and coming are actually some of the best managers because they're still hungry, they're still really trying to build out their businesses. So it's a great resource for us to be able to turn to our GP stakes manager and then talk to them about what they're seeing out in the market. And there's just a synergy between I actually can potentially become one of those child LPs if I find a really good investment, start at the GP stakes level and then work my way down. Now, it hasn't gotten all the way to that point. We're one year, year and a half into this, but we think about that a lot. And so now as we go to deploy capital in alternative markets, my GP stakes manager, the first ones I called to go talk to me about who you find out there. Really interesting that I should bring to my office and talk about a potential engagement with.
- [71:30]
Christy Hamilton
So that's the positive side. But I will say, when I said on the LP side, Sean Ward, one of the difficulties that I always struggled with is as the daughter of an entrepreneur, I learned from a very young age, you do not ever sell your equ. Period, Full stop, end of story. So I've always struggled with the idea of buying a steak that somebody was selling. There's problems in my biased brain embedded in that. So I would love for you to just walk me through why a growing attractive GP would actually want to sell a stake in their business. And then what value proposition do you guys bring other than liquidity to the table for a gp, for example, that would be selling that stake of equity.
- [72:03]
Rob Christian
Very good question. And look, I think there are a few different answers there. One thing that Sean mentioned a moment ago that's really important is that we are always a minority investor. In fact, we have contractual protections in place. So that if someone ultimately gets to a point where they're selling such that active management goes below control, that we can actually step in front and accelerated tag out because we don't want to be sitting next to a bunch of people who look like us. We want people to be riding the elevator every day, caring a lot about that business. So we're always a minority investor, we're a passive investor, and we have protections, but we're not getting in there and telling them what to do with their business. We can be helpful. We have a huge effort to be helpful, and I'll talk more about that, but it's always on a pull basis, not a push basis. We can't mandate that anyone does anything. But I think when folks look at our scale and the fact that we own stakes and managers that collectively manage in excess of $2.2 trillion of AUM and all the information and data and so forth that we can bring to bear, they start to think, well, maybe even though we're a big successful firm, there's probably something I could learn here. But taking a step back, I do think it's really important to dispel one of the, I think, misconceptions that is out there around most of these transactions. Because unlike in the hedge fund days where most of the deals, in fact all of the deals of which I'm aware were partial liquidity events for someone where they were taking cash off the table, paying their taxes and going off and buying an island or whatever it is they wanted to do, that was the paradigm back then. Nowadays it's largely not that most of the deals that we're looking at, it's managers that are in fact looking to essentially issue new equity to us and dilute themselves. So no one is actually taking any chips off the table at that moment in time. They're just increasing the firm's balance sheet so that it can be used to do all the different things I mentioned before in passing, help think about succession planning. And maybe it's equitizing junior partners at that moment in time so they then have access to that capital. Maybe it's launching a new product and seeding it with an outsized GP commitment so that you can go to folks like Sean Urie and say, look, here's our new XYZ Fund. It's going to be a billion dollars, but instead of putting in $20 million as a 2% GDP commitment, we're putting in 200. And we've already warehoused some positions. Eco diligence, or maybe it's going out and just upsizing the GP commitments to your new flagship fund. Because you know what? It's a tougher fundraising environment and having a giant GP commitment is a helpful marketing tool and hopefully knockwood. If you're a gp, you really believe in what you're doing and you want more money at work in your strategy to compound it, whatever your gross returns are. So there are all those things in the mix. And I think, again, it's the firms that are scaling that are most in need of that capital. We've had managers that have gone quite literally from $7 billion of AUM at the time we've done our initial deal with them to close to 100 today. Think about the incremental amount of capital that requires. If you're talking about just a 2% GP commitment for that incremental, 83, $93 billion or whatever, that's a lot of money, even if you're a billionaire. So having someone like us come in and be able to provide some of that balance sheet can be really helpful. And then you layer on top of that all of the different strategic things we provide from our Big Business services platform team. And I'm not even smart enough to describe some of them. We have seven, eight, nine data scientists that don't really ask me to describe what data science is in any detail, but we have folks that focus on recruiting. So human capital advisory, thinking about recruiting senior people, thinking about compensation benchmarking, thinking about organizational structure. We have former bankers that help talk to our managers about how should you add to your product line? Is it developing something new organically in house, or is it going out and acquiring a business and bringing it onto your platform? And maybe we provide the capital to get that deal done. And there's a lot that we can do, and we are the biggest group out there doing this. We bring a real wide array of capabilities in addition to the capital. So every deal is a little bit different. One reason why big investors like Sean and others don't really worry about this anymore is I think it's become a very accepted part of the landscape that when managers get to a certain size and a certain level, it can make sense to bring in someone like us as an outside equity holder. I do still think, to be fair to your question, Christie, that when you're talking about the smaller managers, more niche managers, their LP base might get a little more noisy around something like this. We bought a stake in cvc. I don't think there were a lot of inbound calls to CBC saying, oh, my Gosh, you're going to kill the entrepreneurial spirit. You manage $200 billion of AUM. I think people realize that you're probably pretty profitable on just your management fees.
- [76:19]
John Bowman
Hey, Sean Ward. I want to move back to Sean Urie in a moment just to complete our myth busting portion of this conversation. But just a quick follow up to that. Just listening to what you said I mentioned in the opening segment, this blueprint of what Michael Ovitz did at caa, which actually was an inspiration, you might know, at Andreessen Horowitz, in building out this full suite of venture opportunities for founders. Would you describe blueow as following that blueprint? I think there's eight or nine disciplines in your business services and maybe highlight just one or two briefly that are particularly attractive to even high growth, successful organizations that they can now plug into this platform that they didn't have access to.
- [76:57]
Rob Christian
I think it's interesting. And every firm is different. I know that's again, another cliche. So apologies, but really it varies wildly what people find interesting. And it varies over time too, depending on what's happening in the industry and with their firms specifically. But I do think some of the common areas of high interest right now, one is around, for example, organization of a sales team. Some of these firms have been so successful over time that they haven't even really needed much of a dedicated business development function. And now even the firms that are raising a lot of money, they see, well, geez, we should have people dedicated to whatever region, we should have people dedicated to insurance companies. We should have a private wealth effort. And all of that takes hiring a bunch of folks and how do you organize them and how do you compensate them? And look, we're not telling people here's the right answer, but we tell people, here's what we've seen, and we've seen quite a lot. And here are some different options that you can pull through. I mentioned compensation benchmarking. This is a world that is a bit of a black box in terms of how much people get paid and how they get paid. And we have a lot of information, we have a lot of data on what we've seen and what we think works well and what we think does it. Depending on where you're sitting in the country or in the world, this may be more or less popular, but there's a lot of focus on DEI and esg. And we don't emphasize this when we're in Texas, obviously, or Florida, but European investors, for example, you better have a really well articulated ESG policy. And it better be real. If you're saying it's part of your investment process, it better be actually part of your investment process. And I think our folks on our BSP who work in ESPN acronyms, they're viewed as being leading thought leaders here. So it's a lot of different stuff and it'll evolve over time. And the good news is we never whiteboarded this all out. When we started the business, we knew we wanted to offer something strategic, but at the time we thought it would maybe help with introductions to investors here and maybe a little bit of recruiting there and be four or five people. And over time, it's really been our managers and their requests of us that have led us down the road of data science. I still don't really know what that was, but I really didn't know what it was a few years ago. But it was a topic that kept coming up and we knew enough to hire some smart people that knew what they were doing. And that's really been how this business has grown. It's grown organically in response to requests from our managers, not because we're smart enough to have any grand strategic vision of where the industry is going.
- [79:04]
John Bowman
Fascinating. So, as I mentioned, maybe I'll turn back to you, Sean Urey, with this final typical challenge to the GP stakes assessment, which is this idea that the market, the public markets in particularly, chronically undervalue private market gps. And we've seen that with some of the majors that have gone public, it's an idiosyncratic business. We described some of those cash flows earlier. It's not easy to get your head around. So when you thought about, as you answered Christie's earlier question about launching this GP stakes program, how did the reality of perhaps not being able to capitalize on that exit, the upside sale, play into your conversation and your journey in eventually starting to invest? In this respect, the number one thing.
- [79:48]
Sean Urie
That we struggled with was to exit. And how do you exit? Especially when a lot of the comments we heard were the GP stakes manager was going to be the strategic partner to the underlying. And I really struggle with, okay, you're going to become their partner, but then at some point they want you as a partner, but there's a risk that you could sell to somebody else they don't want to be a partner with, so that piece of that equity could transfer to somebody else that maybe they're not as keen on allowing to own a minority share of their business. We looked, there was examples of firms taking an entire portfolio Public in the European markets where they basically took the entire GP platform and said, we're going to create a private bdc, we're going to take it public and that's your exit strategy. We talked to firms that said we're going to create these liquidity events in the future where you have some optionality to get out of the investment if you want to. And then we had some that were just honest with this and said, look, this really is a long term investment and there might not be these exit. We have to differentiate between exiting an individual holding versus the entire fund. The entire fund doesn't close down and say, okay, we're returning all capital back to investors, but there could be liquidity events along the way. As John Ward mentioned, a lot of options there, whether Strategic comes in and buys them out, whether they get an offer in a secondary market, if the firm ends up going public, as many of them do as they start to grow to certain scale and size. But we came back to the fact that understand what it provides for you and what it provides for your portfolio. It is a cash flow generating type of investment. We believe the management fee component of it provides some downside protection. It's a downside protection that you don't get in your more traditional alternative types of investments. So as long as they're finding companies that have efficient operating models and have net income after expenses, those management fees should provide cash flow back to you with the upside potential. So I think as we looked across the entire pros and cons and with any investment you're going to find there's trade offs and the way you overcome the downsides you called out, probably the biggest downside, which is the exit, is you compliment it with other types of assets within the portfolio multi asset context such that some of the other assets compensate for the weaknesses in this one. And so we still believe it was a great investment. I'd do it over again. I really believe the pros far outweigh the downside.
- [82:08]
Christy Hamilton
I want to go ahead and switch gears real fast to the fundraising environment and this question for Sean Ward. So just given the rollover in PE fundraising and deals we've seen in recent years, where are we in the cycle and acceptance curve of GP stakes investing and is there an ironic countercyclical element to fundraising for gps?
- [82:26]
Rob Christian
Look, I think you can't open up a newspaper without seeing toughest fundraising environment in a decade and so forth and so on. I will say that we have been quite pleased with our manager's ability to fundraise through this period. And again everyone read last year too CBC, one of our partners raised a 26 billion euro fund in six months and it was the biggest European bio fund of all time. So I think by and large, bigger firms have been able to continue fundraising through this environment for a whole bunch of different reasons. I think when it comes for fundraising for GP stakes investing, I think it's become more of an accepted part of the landscape. But it is still a niche and it is still something that people wrestle with for all the different reasons that Sean articulated. So it's never easy, even in the best of times. And I do think that some folks maybe now say, well, geez, it's been tougher in the world and so must be a great time to buy stakes and GPs because you can get a bargain. So I'm going to invest in a GP stakes fund. I don't think that's really the right way to look at the world, honestly. They look more than willing to take people's money if that's why they want to invest, even if they're wrong. But I think that you don't want to buy a stake in a GP because it's cheap. It's usually cheap for a reason. And asset management is a tough business. It's a momentum based business to some degree. If you have a great brand and you've delivered great returns to investors, you're going to be able to keep fundraising for a while, even if that performance falls off a bit because you're riding the momentum and the reputation you've built over time. Similarly, if you've messed it up and your business is in real trouble, yes, sometimes you can turn it around. But there are many more stories of firms that just continue that downward trajectory as well. And so the good news for us is that even though we've raised the most money to pursue the strategy, even though we've done by far the most transactions in the space, I think we're still basically sprinting to stand still in terms of the amount of capital we have to deploy versus the opportunity set. And however you want to measure it, Smarter people than me have said it's a $500 billion opportunity. Or as I mentioned before, there are 300 names roughly of firms that are interesting to us. Well, we're doing five deals a year, give or take, deploying four or five billion dollars into the space. That's a drop in the bucket, I think, compared to the overall opportunity set. Not that every deal out there is a good one, but I still feel quite good that There's a lot to do, whether it's in a boom time or in a tougher time for folks.
- [84:37]
John Bowman
So I want to close with perhaps the most important question, at least from a Kaya association perspective. So as you both know, Sean and Sean, we exist as a professional body and often people associate ourselves, understandably so, with education, with our high st professional designation called Kaya. But really that's an outcome, a residual of the larger mission, which is to improve the capital market system on behalf of investors and the greater good. And that sounds a bit Pollyanna, but really LPGP relationships and the mutual benefit of such throughout various investments is really the main reason, the primary reason we exist. So I want to focus this last question on where we are, how GP stakes perhaps solves or where it fits a grade in a report card in that respect. So and this last question is really sparked by a recent podcast I heard with another GP stakes investor. Now, it's not one of the big three of Goldman Sachs, Blackstone or you guys at Blue Owl. It was another along that tail that I mentioned earlier, there were two soundbites that really struck me. One was that basically the return streams roughly break up into a clean third. A third, a third. And we talked about this with Sean Ward a little bit earlier, management fee, performance fee and then the enterprise sale. And the other soundbite was that if you look at and I won't name any, but if you look at founder of a very large private capital firm that the vast majority of their own wealth is through the enterprise nav of their business going up and management fee is a distant second. Performance fee, which is getting to my question, is a even more distant third. And I'm wondering, just very frankly and I'll start with Yuri and then maybe move to Ward for a final word, is that has scale been the enemy of alignment? A little bit. We talk about performance fee as being the holy grail of alignment on the upside, but in some sense it seems like that's not the case when we get to really large organizations and perhaps GP stakes throwing maybe a softball to you is a bit of an antidote for that. So Sean, I'll start with you. How do you think about GPLP alignment in GP stakes and is this solving for some of the problems or shortcomings of the typical drawdown fund issue?
- [86:48]
Sean Urie
Well, first I'll say as a CHI member I do appreciate your mission of education and is something that has always been valuable to me as I got my designation years ago. But I think that's a great Question, and I don't know that I've thought a lot about it. But you laid out where you think the primary drivers are motivations to align interest between an owner of a firm and a minority owner that then comes in and maybe those aren't completely aligned. I think Sean Ward mentioned maybe that fourth area of return that maybe doesn't fall into those three, which is that increase in the value of the company over time. I think if you look under the hood at GP Stake, the majority of the managers you're going to find, and it's not all, but the majority are these emerging private equity private managers that are in that sweet spot between what Christine mentioned about the entrepreneur side, where maybe you don't want to lose any equity. You're so small that you're holding on to every piece of equity that you have. And then you get to a point where you realize, I need capital to grow and I can't scale this by myself. To the other side of the extreme is when you've gotten so big that maybe you don't need that external capital anymore. And I think GP stakes fits in that sweet spot in between. So for those companies, for those managers out there where growing the business is, as John, you mentioned, the number one driver of their wealth is the increase. I think the GPS solution helps them do that and it comes in and says, okay, we provide capital, allow you to grow your business, provide some expertise, maybe where you don't have any, as Sean mentioned, the expertise they bring to bear around capital raising and ESG and eni, et cetera. So while there may be some nuanced difference in alignment between the full motivation of that original owner, that manager who started out, and now the GP manager, and then the LPs that provide them with capital, I believe for the most part as close as aligned as we can be. And I would think Sean Ward probably could elaborate on a little more than I could, but for my feet, I think we are aligned in our motivations.
- [88:49]
Rob Christian
I think that describes it quite well. I would tend to disagree with whoever was describing that the increase in enterprise value is by far the biggest wealth driver. Look, it is if you're Steve Schwartzman or what have you, but the managers we're talking about aren't generally yet Steve Schwarzman and I would say that the reason why people want to grow their business isn't really to increase the enterprise value of the firm per se, because they think at some point IPO this thing or sell it to BlackRock or what have you that could happen. I Think everyone's cognizant of that. But it's really more to have more money at work in the system to generate the carry and management fees as well. Don't get me wrong, but I still think people think of carry as the main driver of wealth that they're going to generate. And when you see the quantum of carry that comes off from managers that are selling businesses, one of our managers sold a company at a 9.2x not that long ago. That generated a whole lot of carry for a whole lot of folks. Whereas I think the increase in enterprise value, I think people think of that as wealth on paper. Yeah, sure. It's just like owning a bunch of stock that you can't sell. Sure, yeah, great. On paper I'm worth a quadrillion dollars. But if you're not actually able to monetize that, who really cares? It might make you feel good on some Forbes list somewhere. But cash in the bank from management fees and carry I think counts a lot more. So I wouldn't put a whole lot of weight on that argument. I think as more people are looking to increase the dollars at work in the system to really generate wealth for themselves.
- [90:09]
John Bowman
Well, very good. And we'll have to leave it there. Sean and Sean, this has been a fantastic 360 degree masterclass, certainly for us, but I know. On behalf of all the listeners, thank you both for your kind and generous time. And listeners, stay tuned for the Last set. Welcome back to the Last Set. Well, Christy, I love that conversation with Sean and Sean. I think we handled the Sean and Sean show okay. I hope, listeners, you knew who was talking and we navigated that appropriately. Despite having the same name, they provided very different perspectives and different viewpoints, different histories, different backgrounds. So that was as intended, I hope, really constructive for you. Christy, did your mythology views change at all? Where do you find yourself now?
- [90:55]
Christy Hamilton
A bit. Again, I can absolutely understand where it is a compelling opportunity to take a look at, but I also understand you really have to look at where you're investing and what money you're putting into it and what your expectations are as with any investment. So I am not as skeptical. I think that a lot of the questions have been answered, but I think that a good investor is always a little bit skeptical. So any changes on your side?
- [91:18]
John Bowman
Wise words from the CIO in the room. I was really drawn. I mentioned it in the intro and it just was further reinforced to me. This is so unique and I think I'm exhibit A in having not fully understood how unique and how what did Sean say? Quirky. This really is the hybrid structure where you've got this downside protection and this coupon, the stability, the immediate cash flow return. You don't have to wait five, six years before you're getting cash returned. You're not defending on a fictional IRR you can't eat, but you're getting cash back. And I think I've mentioned on this show before, I'm on and chair of a couple investment committees and we often think about the five year process and plotting along of building a private equity or a private capital book. And secondaries are one antidote to that. But I hadn't heard of what Sean Urie mentioned, which is GP stakes offer immediate vintage and GP diversification in building out a private capital book. It's a little bit different than buying underlying corporate portfolio companies. But I thought that was just a really interesting point.
- [92:21]
Christy Hamilton
I will say from a data perspective too, I appreciated the mention that it does help with the due diligence and introduction side of things. And also I think that it gives you insight to a lot of funds that you otherwise wouldn't invest in that you can also use the data to negotiate with other GPs or to think about what kinds of terms are being put on the table across the board. And so you get a weird insight on that regard as well. So there is this interesting information component that I'm coming around to.
- [92:46]
John Bowman
I still, I know Sean Ward said he disagreed with this, but I still maintain that at least to some degree, scale has been the enemy of alignment for the lp. I think as a GP grows, an LP becomes less participatory on the upside. And I think while you raised a very good point back in the intro on perhaps aligning on the wrong things, I do think this does solve for a pure alignment as far as incentive and outcomes and sharing and success on the way up. And it's far from perfect, but at least it gives you, I think, a skin in the game on pieces of the puzzle that the GP otherwise would only participate in in a normal situation. And so much so. In fact, the one new element there in our debate on Myth three is what Sean Urie said, which I found fascinating. It was a bit of a throwaway comment, but he said so he's using our language. He's a parent LP in the GP stakes fund and he said that he calls Sean Ward and asks for advice on managers and certain strategies that he is assessing certain asset classes that maybe are not represented in his portfolio and he is going to start relying, I think he said he hasn't taken advantage of this yet, but he may actually rely on Sean Ward on Blue Owl for suggestions on child GPs where he could become a child LP in those owned GPs as well, which is a fascinating reverse engineering of what I was debating what we were sorting through. But I think that's a really interesting element and vantage point that I hadn't thought of. So those were my big takeaways.
- [94:17]
Christy Hamilton
It is interesting. I always appreciate when people use different sources for due diligence, so I really liked that commentary as well. Just in terms, I think a lot of times there's this linear view of due diligence when the reality is it's much more mosaic and it's much more piecemeal, and it's much more interesting in that regard. So I think that this could be an interesting piece of that puzzle for sure.
- [94:38]
John Bowman
Yeah. Talk about conviction. That GP has actually bought part of that other gp. So it is not a favor, it's not a kickback. It's we are aligned. So I think that is part of the larger mosaic, as you said. So we're going to close our personal question of the episode. Is Christie, the best advice you have ever received?
- [94:58]
Christy Hamilton
So I actually had to go find the quote because it was actually a piece of advice that I read that I loved. And it. We've mentioned him before on this podcast. It's Charlie Ellis, who is chair at Yale. And it says, make family life your first priority. Marry someone you admire and are always learning from, who admires and learns from you. Help each other grow and share values, plans, experiences, laughs, and time together. And I've always really loved that because we all spend so much time at work. But the thing that rivals that is the amount of time we spend with our family and our home life. And I think that you can get through a lot of busy and difficult quarters if you have stability in your home and personal life. So I think that any opportunity you can get to build that yourself, I think is a big thing, at least for me. What about you?
- [95:38]
John Bowman
Wise words, waxing poetic from Charlie. I have a tough time following that. That was so good.
- [95:45]
Christy Hamilton
Sorry.
- [95:46]
John Bowman
And by the way, I should add listeners, as you know, Christy would add to the Charlie advice on marriage. Never marry a man with two last names. We've heard that one before.
- [95:56]
Christy Hamilton
Never marry a man with two last names. And I married Akaya, too.
- [95:59]
John Bowman
So on the positive side, always marry a Kaya with one last name.
- [96:03]
Christy Hamilton
Always marry Kaya with one last name.
- [96:06]
John Bowman
So mine actually comes from one of my biggest mentors named Tony Ryan. He was the CIO at SSGA way back when I first started in the business. He mentored me. He gave me way more responsibility than I deserved in my early 20s. And by the way, Tony went on to serve in the treasury during the W. Bush administration. And then he first had an executive role after he left politics back at Fidelity. And then he joined Aerostreet, the big hedge fund, as CEO in Boston, where he has been since. But I remember one of my many soundbites on leadership that he had where he said something to the effect of leadership is taking responsibility before it's assigned to you. So in other words, leaders, true leaders, don't wait for projects to be thrown at them or to fill a gap after it's been assigned, but they tackle it and fill it as it needs to be addressed. They go after it. They proactively take it upon themselves to deliver where no one else does or where no one else is paying attention. And that might end up with the responsibility ultimately being assigned to you. But more importantly is that you are leading, you're taking responsibility before the org chart gives you the authority to do so. And I thought that was so wise. And that's in many ways define my career since it's just the proverbial raising your hand. I tell my kids this jump all over opportunities, frankly, whether you're given permission or not. Apologize if it was outside. You were just trying to help, but you find the gaps, you identify the areas that are needed and be the one that goes above and beyond. So Tony has been a gift to me and that was just one of the many pieces of wisdom that he provided at an early age. So that was mine.
- [97:41]
Christy Hamilton
Allowing yourself to take that autonomy, I also think helps with things like burnout and all sorts of other crazy stuff. And can I jump in and give one piece of investment advice that just popped into my head? We have the leadership side, we have the personal side. And on the investment side, Ryan Bailey, phenomenal mentor of mine, former CIO that I worked for. When the world is on fire, sell insurance. And with that, I'm out.
- [98:01]
John Bowman
I think I've heard that one from you before.
- [98:03]
Christy Hamilton
I love it.
- [98:04]
John Bowman
Ryan is a common. At least the quotes from Ryan are a common refrain on capital decanted. So Ryan, if you're listening, thank you.
- [98:11]
Christy Hamilton
They're so good. Thank you for your wisdom.
- [98:14]
John Bowman
Well, listeners, we're going to leave it there. I hope you enjoy the journey as much as we did and we appreciate your listenership, you hanging with us and we will see you on the next episode of Kappa Bluecanton.