BAM - Brookfield Asset Management

[petec]

^ Petec - you're a good man. Your concise summary is much appreciated. Thank you.

Pleasure!

[james22]

BAM letter & call notes, in case they are of interest.

Nice, thanks.

[learner]

Thanks for these notes. Not sure if they mentioned why they think pricing increases will hold up in 2021-22 as inventory will come back on; the 35% YoY drop is temporary.

BAM letter & call notes, in case they are of interest.

      ○ Plan value $57 at YE19 and $66 at YE20. 5y CAGRS:
         § AUM : 26%.
         § FRE before performance fees: 19%
         § Gross annual run rate of fees plus target carry: 34%.
      ○ Business is built to perform at all points in the cycle, but it is more geared to recovery.
      ○ Raised $42bn in 2020. "Early stages of a fundraising super-cycle."
      ○ Progress on their 4 new businesses: working on $15bn of reinsurance deals, launched a tech team, fundraising for secondaries and energy transition.
      ○ Disposition activity accelerating. Expect to realise $1bn of carried interest in 2021 and also to sell directly held investments, boosting liquidity. They sold $677m of directly-held assets in 4q20 and did a $750m secondary of BEPC in 1q21. Comment implies West Fraser could be sold.
      ○ Purchase activity may be slower but they are global and flexible and will find spots. "There are still many countries and businesses that aren't trading properly…we do not worry that we have a lack of places to put capital to work." Trend to countries, states, cities selling infrastructure is strong but steady rather than a big bang. This is better - ambitious plans often don't work.
      ○ BPY acquisition offers several advantages:
         § More flexibility over how to run & develop the assets. "There will be no major paradigm shift. Great real estate in great cities will continue to be just that. This will become evident once the global economy recovers."
         § Some assets will be sold, and the rest will go into perpetual funds for clients. Client interest strong.
         § Allows BAM to realise uplift to NAV and also charge fees on NAV not a discounted market value.
         § Focus will be on getting full value rather than speed, but they expect that in 5 years they will have fewer RE assets on the BS than they have now (before closing BPY). Until dispositions are complete BPY will remain as a legal entity and pay distributions and fees just as it does today.
      ○ Brookfield Residential deep dive:
         § Wholly-owned. Has 3 businesses:
            □ Buys land and splits it into lots for sale to homebuilders.
            □ Builds homes on some lots.
            □ Credit, using specialist knowledge to lend lots to homebuilders.
         § Brookfield invested in this in 1987 and it has produced a gross IRR of 22% over nearly 35 years. Have three competitive advantages: knowledge and scale allow them to control assets in the right place at the right time; thoughtful planning and segmentation; and having an in-house homebuilder allows them to monetise land value when third party builders pause. "The business of entitlement, land development, and master planning is time-consuming and requires very specialised skills. There are few who do it and still fewer who have the capital to do it well. It requires a detailed technical knowledge of the entitlement process, a product knowledge that maximises land values and capital management to invest and absorb land uses efficiently. When properly executed it generates excellent risk-adjusted returns and significant cash flows over long periods of time."
         § $3bn of equity and expect $600m of OCF on average over the next 5 years. $7.5bn of land in 30 MPCs and 100 neighbourhoods in 12 cities. Equates to 85000 lots, making them a top 5 residential landowner, equating to 10 years of supply - they tell 4000 lots a year and build another 4000 homes. Most of the land is on the BS at depreciated cost.
         § Outlook is strong. Demographics are driving strong household formation, well ahead of the last 10y average of 1m housing starts per year. On top of that 3% mortgages and a drop in supply has created the strongest market in 30 years, "at least on a par with 2005, 2006" but with much better fundamentals. Single-family home sales were up 20% in 2020 and inventory down 35%. Pricing was up 10% and they expect the same for 2021 and 2022. If costs don't change, 70% of pricing drops to the value of the land, driving margins and land value up.
         § Investing in tech to simplify viewing and paperwork. Will soon be able to view and design your own home online, with a "buy now" option, and sell your own home through the same system.
         § Could introduce client money here but unlikely they will make it a public vehicle. It's very profitable, but irregular. Some businesses work in the public markets and some don't.

[petec]

No, they didn’t cover that. They also did not cover the fact that costs are clearly rising, so it’s unlikely that 70% of the price increase will fall to the land.

Still, I thought it was a useful exposition of one of the hidden businesses and the long term track record/opportunity sounds outstanding.

[ValueMaven]

lots going on here - but BIP is going hostile w/its offer for Inter Pipeline + looks like they are starting to monetize some of their JV pipeline assets with Kinder for a huge valuation premium ... hard keeping up with all of the news!

[gokou3]

lots going on here - but BIP is going hostile w/its offer for Inter Pipeline + looks like they are starting to monetize some of their JV pipeline assets with Kinder for a huge valuation premium ... hard keeping up with all of the news!

This is the JV deal:
https://www.businesswire.com/news/home/20210222005795/en/Kinder-Morgan-and-Brookfield-Infrastructure-Announce-Minority-Interest-Sale-in-Natural-Gas-Pipeline-Company-of-America-LLC

Original purchase:
https://bip.brookfield.com/press-releases/2015/11-30-2015


So in ~5 years, the EV has gone up from $3.4B to $5.2B, an $1.8B or 53% increase.  This is a decent unlevered return on its own, but the JV had only $457M of equity when they entered into the 2015 transaction.  Assuming they haven't put in or pull out capital since, their investment has 4x MOC.  In 5 years.

[tiddman]

I have been trying to wrap my head around BPY going private and the recent comments in the BAM shareholder letter and call. From the letter:

Although the immediate impact of the transaction will be an increase to the size of our balance sheet, this will quickly reverse, and we expect that over the next five years we will end up with fewer real estate assets than we have today—because of this transaction and the flexibility it will offer us. In time, we will also re-create the fee streams in the private markets, benefiting our clients who have a desire to own this highest quality real estate.

And then in the quarterly call:

And I think over time, we hope as we've communicated, to reduce our exposure to real estate over time, and it will be a combination of outright sales and creating new products.

This caught my attention. Taking BPY private means essentially moving BPY's assets onto their own balance sheet. But it sounds like they will then sell these assets and reduce their exposure to real estate.

BAM currently collects both distributions and fees from BPY. The distributions are essentially a percentage of BPY's free cash flow, a significant amount of which are provided by refinancings and dispositions. The fees are the GP management fees. They are obviously interested in keeping the same level of income coming in after the privatization and after they sell any assets.

So they must have private fee-bearing funds lined up, which must have return goals low enough that they can pay full price or close to it for these assets. So they will go from collecting fees on an asset carried at 60-70% of fair value to fees collected at fair value.  It isn't clear to me how BAM will replace the distribution income if they no longer own the assets. Maybe it will be essentially front-loaded as disposition gains.

They also have a robust development pipeline on both the commercial and residential assets. I guess these private funds provide a captive buyer of the completed assets and they can invest, complete and sell them at a pace that they probably have a lot of control over.

At the time of the deal I thought that Brookfield was playing the spread between public and private valuation and that this would flip at some point in the future, like they go private at 2/3 of fair value and plan on spinning the assets back out when the cycle turns at > 100% of fair value. But now instead I wonder if this is about Brookfield really rotating out of real estate assets, essentially a slow-motion liquidation of most of their real estate. There was a time when most of their assets were real estate and infrastructure and renewable energy were just getting started. I wonder if now the worm has turned and there are better growth opportunities in those assets and the real estate will be sold to fund them?

[racemize]

A good majority of the BPY assets were "core plus" I believe, so they would do well in perpetual capital vehicles.  In that case, they would collect the same (or better) fee revenues, lose distributions, but get a gain up to NAV. 

I imagine there will be a variety of things they do, depending on the assets.

e.g., some malls will be in the redevelopment category.

[petec]

I think they explained it pretty well in the letter and call.

1) buy BPY below NAV. Legal entity remains initially, paying the same fees.

2) slowly sell the assets into (probably perpetual/core) private funds. They didn’t say this, but these could be seeded by BAM so it’s not necessarily a reduction in RE exposure overall. But what they did say is that directly held RE on BAM’e BS would be lower in 5y than it is today.

3) charge fees at NAV not at market value.

They also said taking BPY private gave them more freedom to redevelop those assets that need it.

[tiddman]

I do find it bewildering sometimes that the same assets can be owned, sliced, sold, financed, shared, bear fees and distributions in so many different ways but still basically remain the same assets.

I also feel sure that the darker side of this deal is that they either were not going to be able to keep the BPY distribution uninterrupted or wanted to invest in / dispose of the assets in ways that do not provide the steady, consistent returns that an income investor would expect. The retail side of the portfolio is probably going to be a 3-5 year work-out project which may ultimately be fruitful but would probably be painful to watch as an income investor.

If they had cut the distribution at BPY the unit price would have fallen even further and may have taken years to recover and their interest is in being able to hold the assets somewhere at close to full value. From this perspective, keeping them in a publicly traded yield vehicle doesn't actually make sense so provides more justification for the deal. The only reason to keep BPY public is to allow it to tap the capital markets, but that is difficult when it is trading at a perpetual discount to NAV. So may as well be private.

BPY (and previous property incarnations BPO etc) has always been a source of cash for BAM, not only NOI but they take all of the equity out of the properties through financings and dispositions and upstream that all to BAM, and most of the capital they use for development is borrowed. This has always made a lot more sense for BAM than BPY which ends up looking like a highly leveraged shell.  So I guess may as well be private.

However all of that said I am still struck by the go-private. Brookfield Properties has been a core part of Brookfield and Brascan going back to the 1970's and 1980's. It sounds like they are basically putting it out to pasture and reducing their overall exposure to real estate in favor of the other asset categories, which as a BAM shareholder I'm a fan of because the infrastructure and renewable power especially have a very bright future.