Mar 7, 2019
Operator
Good morning, everyone and welcome to OZ Management's Fourth Quarter and Full-year 2018 Earnings Call. At this time, all participants are in listen-only mode.
Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded.
I would now like to introduce your host for today's conference, Adam Willkomm, Head of Business Development and Shareholder Services at OZ Management.
Adam Willkomm
Thanks Sharon. Good morning everyone and welcome to our call.
Joining me are Robert Shafir, our Chief Executive Officer; and Tom Sipp, our Chief Financial Officer. Today’s call may include Forward-Looking Statements, many of which are inherently uncertain and outside of our control.
Before we get started, I need to remind you that OZ Management’s actual results may differ, possibly materially, from those indicated in these forward-looking statements. Please refer to our most recent SEC filings for a description of the risk factors that could affect our financial results, our business and other matters related to these statements.
The Company does not undertake any obligation to publicly update any forward-looking statements. During today's call, we will be referring to economic income, distributable earnings and other financial measures that are not prepared in accordance with U.S.
GAAP. Information about and reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are available in our earnings release, which is posted on our website.
No statements made during this call should be construed as an offer to purchase shares of the Company or an interest in any of our funds or any other entity. Earlier this morning, we reported fourth quarter 2018 GAAP net loss of $1 million or $0.05 per basic and diluted Class A share.
The full-year GAAP net loss was $24 million or $1.26 per basic and diluted Class A share. As always, you can find a full review of our GAAP results in our earnings release, which is available on our website.
On an economic income basis, we reported fourth quarter 2018 distributable earnings of $17 million, or $0.31 per adjusted Class A share. For the full-year 2018, distributable earnings were $64 million, or $1.17 per adjusted Class A share.
Excluding the $32 million settlement expense incurred during the current year period, full-year 2018 distributable earnings were $91 million or $1.67 per adjusted Class A share. We declared a $0.23 dividend for the fourth quarter.
If you have any questions about the information provided in our press release or on our call this morning, please feel free to follow-up with me. With that, let me turn the call over to Rob.
Robert Shafir
Thanks, Adam and good morning everyone. Before I discuss our fourth quarter performance, I want to highlights the transformative and strategic steps we have taken to restructure the firm and set us up for the future.
First, we have taken steps to further align our senior management with clients and shareholders through long-term employment agreements and a significant transfer of equity from former Oz partners vesting over multiple years. Second, we are taking material actions to facilitate and accelerate the strengthening of our balance sheet over time.
Lastly, we implemented certain governance changes that complete the firm's generational transfer. Overall, the reaction from our clients, shareholders and employees has been resoundingly positive and we believe these actions position us to serve our clients and grow our assets under management.
The fourth quarter of 2018 was difficult with global markets experiencing significant declines and increased volatility. The Oz Master Fund seems to protect capital on the downside, but provide upside capture during strong markets.
We are pleased to see both sides of that equation in action, protecting the down side last year and capturing the upside so far in 2019 with a year-to-date net return of approximately 7%. Oz Master Fund was down 1.9% net for the full-year 2018 and was down 5.7% for the fourth quarter.
On a relative basis we outperformed the MSCI World Index, which was down approximately 7% for the year and 13% for the fourth quarter. While credit markets were comparatively more resilient than equity markets for most of 2018, both struggled during the fourth quarter finishing in negative territory for the year.
This was the most significant market turbulence experienced in a long time brought on by the U.S. China Trade War, winding down of quantitative easing and the outlook for Europe and China economic growth.
Convertible and derivative arbitrage led multi-strategy performance in 2018, as we generated gains across all geographies. Structured credit was also a strong performer with performance coming predominantly from events driven and price oriented investments.
While global equities lost money overall in 2018, the U.S. was a bright spot generating mid-single-digit positive return on capital through year.
The performance came from a combination of positive single name alpha, single name shorts and a highly effective hedge overlay program. This hedge overlay program was particularly affected in the higher volatility months of February October and December.
Ozco our global opportunistic credit fund was up 6.5% net for the full-year 2018 after a loss of negative 2.1% net for the fourth quarter and has returned positive 11.9% annualized net since inception. Both corporate and structured credit drove our strong performance in 2018.
When compared to a broad range of markets Ozco’s 69% net returns stands out relative to high yield and HFRI distressed indexes, which were all down 2% to 3% for the year. We believe this differentiated result in opportunistic credit is a testament to our investment approach as we pursue process and event driven opportunities where ultimately the core drivers of returns come from the AOC credit outcomes that have shown little correlation with the direction of the broader risk assets.
Our real estate franchise continues to deploy capital and generates returns with a 23% annualized net return in our current opportunistic fund. We look to continue to grow this business by expanding our product offering and both new and existing strategies.
Our CLO franchise continues to perform, in the fourth quarter we closed a new European CLO adding 460 million in new assets under management. We had a strong year in 2018 closing 1.5 billion in U.S.
CLOs, 1.4 billion in European CLOs and refinancing 3.8 billion. This leaves us with total AUM in the business of 13 billion.
We currently have three new CLOs in our pipeline and would expect to see two of these deals price over the next few months. Turning to flows, in the fourth quarter, our total net inflows were 469 million driven by 450 million of a new CLO asset and 350 million of inflows into opportunistic credit offset by 342 million of outflows in multi-trade.
Our March 1st assets under management were 32.3 billion. The $200 million reduction in AUM versus year-end was the result of one billion in outflows offset by our strong year-to-date performance.
We want to remind you that there were three redemptions of 579 million related to our strategic actions, including in our year-to-date outflows and we another 382 million of affiliate outflows this year with just over 300 occurring on April 1st. We expect this to have a minimal impact on profitability.
Looking forward, we believe the strategic actions I mentioned earlier positions the firm to grow AUM. In multi-strategy, while we continue to experience a normalized level of quarterly outflows excluding affiliates, we are actively working to generate inflows.
Several significant intermediaries have recently approved reopening the distribution channel to the master fund. We will be adding resources in our investor relations function to grow the capabilities of our team covering clients globally.
In opportunistic credit, I believe we have the combination of a unique strategy and strong returns. We are proactively working to expand our credit platform including in connection with specific opportunities we see in various credit subsectors.
To that end, in December we raised a $300 million private equity style vehicle focusing on opportunistic investing in aviation. At institutional credit strategies we continue to be optimistic about our ability to issue CLOs and we anticipate more opportunities coming in aviation management, including through our strategic alliance with GCASH.
In real estate, our third opportunistic fund is roughly 70% deployed and we expect further increases in AUM. Now, let me turn the call over to Tom, to go to the financials.
Thomas Sipp
Thanks Rob and good morning everyone. Before I move into our quarterly and full-year results, I would like to go into detail on a strategic action Rob mentioned.
Specifically I will cover three of the main components. Equity realignment, accelerated balance sheet strengthening and C-CORP conversions.
The equity realignment institutes a revised compensation structure and creates long-term incentives for current partners without dilution to shareholders. Former partners have reallocated 35% of their Class A units to current partners.
Certain of whom have agreed to reduce their current compensation by up to 20%. This realignment reduces compensation expense, materially improves alignment of current partners with shareholders and clients and highlight their long-term commitment to the firm.
The balance sheet strengthening consists of a series of initiatives that we project will accelerate repayment of our liabilities. We instituted a distribution holiday where all partners both current and former will forgo distributions on their units until the Company achieves cumulative earnings of 600 million.
The cash that would have been otherwise distributed will be used to pay down debt, preferred securities and for public shareholder distributions. Additionally, we amended our tax receivable agreement paying up 55 million debt along with 45 million of cash-on-hand immediately reduced the debt by 100 million at closing.
Our prior 400 million of preferred securities were restructured into 200 million of debt and 200 million of preferred. Both instruments include incentives for accelerated repayment that could reduce principle on the combined instruments by 60 million.
We believe the combination of all these actions will materially strengthen our balance sheet overtime. Lastly, Oz announced that our tax classification will change from a partnership to a Corporation on April 1st.
We believe being a Corporation will simplify our tax structure and broaden the universe of eligible shareholders. Now moving into earnings.
As Adam mentioned at the beginning of the call, we reported fourth quarter 2018 distributable earnings of 17 million and full-year distributable earnings of 91 million, excluding the settlement expense occurred in the current year period. Revenues were 166 million for the fourth quarter and 483 million for the full-year, down 42% from 2017.
Management fees were 64 million in the fourth quarter and 264 million for full-year 2018, 12% lower than 2017. The year-over-year decrease in management fees was driven primarily by lower multi-strategy assets, partially offset by increased assets in institutional credit strategies.
Incentive income was 90 million in the fourth quarter and 203 million for the full-year, 62% lower than full-year 2017, driven by lower fund performance. Please note that given Master Funds’ performance in 2018, we will have a loss carry-forward in 2019.
Our performance thus far into 2019 has us in a gain position, but this remains dependant on full-year performance. As of 2018, our accrued but unrecognized incentive was 263 million, down 26% as compared to 358 million in the prior quarter.
The decrease was primarily due to 66 million being recognized in the fourth quarter and 29 million of negative performance driven by write-downs on our legacy energy portfolio. As a reminder, with the exception of the balance associated with our real estate funds, most of the remaining balance has no associated compensation expense as this was paid in earlier periods.
We expect to realize a majority of this accrued, but unrecognized incentive by the end of 2020. Other revenues were four million in the fourth quarter and 16 million for the full-year 2018, up 10 million versus 2017, due to higher interest income on our investments in CLOs and cash equivalents.
Now turning to our operating expenses. For the fourth quarter of 2018, total expenses were 136 million.
Our full-year total expenses were 397 million, excluding the 32 million settlement expense and 16 million in expenses related to the strategic actions we have discussed, full-year expenses were 350 million 29% lower than 2017. In the fourth quarter, compensation and benefits were 92 million and for the full-year 2018 were 219 million, down 38% from 2017.
Salaries and benefits were 21 million for the fourth quarter and 90 million for full-year 2018, down 7% from 2017 due to lower headcount. We expect full-year 2019 salaries and benefits to be between 80 million and 85 million.
Bonus expense was 71 million for the fourth quarter and 129 million for the full-year 2018, 49% lower compared to 2017 due to lower incentive income. We expect full-year minimum annual bonus accrual for 2018 will be between 85 million and 90 million.
Fourth quarter general and administrative expenses were 39 million. Excluding the 16 million of expenses related to our strategic actions fourth quarter G&A was 23 million.
For the full-year 2018 G&A expenses were 154 million, excluding the expenses related to the previously mentioned settlement expense and strategic actions full-year 2018 G&A was 107 million 11% lower than 2017. We expect these expenses to be between 85 million and 95 million in 2019.
Please note this excludes approximately 10 million in additional strategic action expenses, the majority of which we expect to be recognized in the first quarter. Our interest expense was five million for the quarter and 24 million in 2018, slightly higher than 2017.
While we reduced our overall debt in 2018 a small increase was primarily due to higher interest from our CLO risk retention financing, partially offset by the reduction in our overall debt in 2018. We expect full-year 2019 interest expense to be between 10 million and 15 million as we continue to pay down the term loan and have sold off most of our U.S.
CLO risk retention investments and repaid the related borrowings. Our guidance for the full-year 2019 tax receivable agreement and other payables of the corporation is 18% to 22%.
As a reminder, tax estimates are subject to many variables that won't be finalized until the fourth quarter of the year, and therefore could vary materially from the estimates provided. Now an update on the balance sheet.
At year-end total cash and cash equivalents were 495 million. Subsequent to year-end, we used 120 million of cash to pay down the current term loan, resulting in an outstanding term loan balance of 80 million.
The plan to strengthen our balance sheet will cause a majority of our earnings after public shareholder dividend to pay down our existing term loan followed by the new preferred and debt created as part of the strategic actions we discussed earlier. With that, let me turn it back over to Rob.
Robert Shafir
Thanks Tom. I'm pleased with our start to 2019 and we are working hard to build on that momentum.
Our strategic actions leave us well positioned to execute on our priorities going forward by performing for our clients, growing our assets and driving efficiencies throughout our business. We look forward to updating you on our progress over the course of 2019.
With that, we will open the line to questions.
Operator
Thank you [Operator Instructions] Your first question comes from Bill Katz with Citigroup, your line is open.
William Katz
Thanks very much for taking the questions this morning. Just a few to get started.
So may pick up on the balance sheet, I was just sort of wondering if you could just sort walk me through how you think about the waterfall of cash as the year progresses versus the debt reduction and specifically when you break down the cash and cash equivalent versus the investment securities, what is the updated thought process on the minimum, and then sort of the again - how you think about the use of cash and balance sheet liquidity and earnings to offset the debt.
Thomas Sipp
Yes thanks Bill, I will take that, it's Tom. So we will continue to pay down the term loan, our current balance is 80 million, we started at 200 million before we closed the [Recap] (Ph) transaction.
We will first pay out a public company dividend that total payout ratio will be 20% to 30% of total distributable earnings. After we pay out that dividend we will then sweep our distributable earnings and first pay down the term loan and we will do a quarterly sweep and then once the term loan is fully paid, we will then sweep and pay down the new preferred securities.
So if you look out on a pro forma basis, once - we ended the year at 495 million cash on a pro forma basis as of today, when you pay down the 100 million of term loan and the additional 20 million that we are just paying today, our free total cash is 395 million, our committed cash is about 190 million and our free cash is 200 million and our remaining balance is the 80 million. So as we have earnings less public company dividends we will continue to pay down that 80 million term loan and then from there we will roll and start paying down the preferred security.
William Katz
Okay. Just one follow-up to that, before I get to my next question.
So the 20 million you paid, I guess respectively today, is that the quarterly sweep or would we expect more at the end of the quarter and then is it sort of a ratable reduction as we get to the rest of the year. How do you think about that?
Thomas Sipp
I would not think of it ratably, it will all be dependent on our earnings and when we recognize incentives. So I would not expect it to be ratable, it would be more year-end weighted.
The 20 million is associated with closing our Q4 and recognizing - it's also associated with Q4's earnings and cash flow, so it is not associated with Q1 - yep go ahead.
William Katz
I'm sorry to interrupt you. Okay that is very helpful and then Rob maybe for yourself, you mentioned the word resounding response by both those internal and external, I was wondering if you could maybe quantify that a little bit more externally and so how that might be shaping your conversations around net new asset opportunity for the rest this year and into 2020?
Robert Shafir
Sure, Bill. Look, I think as we have engaged our clients as well as our own employees and our shareholders.
I think everybody has been very pleased by the results of these thing. I think if you look at it, what we have really tried to do is create a more longer-term aligned incentive program for our managing partners of the firm, which certainly is something that I think people have received very well stability in asset management firms long-term alignment, all those things I think are indications of a very healthy firm.
Secondly, as Tom has gone through, we are sacrificing not only in terms of payouts in order to achieve those equity awards, but also both the active partners and former partners to that matter we will be sacrificing distributions in order to pay down our debt and preferred securities. So we are giving back to the firm and I think that is a very healthy thing in terms of really taking care of all the liabilities in our balance sheet.
So you have got better aligned senior management on a long-term basis, you have got a much healthier approach to your balance sheet. And in terms of all the governance things and the alignment there with the generational transfer all of that stuff is clarified, cleaned up and I think we all feel very good about that going forward.
So a lot of the questions that I would received in client meetings over the course of the year that were specific to our firm really get addressed here and I think in a resoundingly positive way. So the good news is that we go back to business as usual, which is about performance, products, value propositions and how we grow our assets.
We talked about the fact that we have focused our firm down to our core verticals of multi-strat credit and real estate, you know we believe as I said in the call that in multi-strat, you know protecting downside and giving upside capture we believe is very sensible place to have money we have had a long track record there. And as I said, we are starting to open channels that have been closed for a long time here with some of our distribution partners in addition to which some of the consultants - some of the major consultants I should say are beginning to upgrade us.
I also think that you know certainly in credit and real estate given what is outstanding performance, I'm optimistic about our long-term results. Now just to caution everyone as you know the sales cycle in the institutional asset management world is not a short one, it’s a long one, so I think this kind of puts us back in the game where it’s really just about our performance and value propositions and not about anything specific to the firm.
It will take some time and I would expect to see that progress more back half related and hopefully building a strong pipeline in the 2020. But I do think its directionally positive.
William Katz
So and if I could ask maybe one more and thanks for taking all the questions this morning. Thank you for the expense guidance, it’s very helpful.
So as you think about - and I appreciate the discussion on the minimum variable payout. As you think about at the end of the year, is there a way to think about the ratio of variable compensation to revenue just given the moving parts around the reorganization and how some of the ownership versus comp structures have changed?
Thomas Sipp
No, it’s fairly difficult to model Bill, because it all depends on when we pay compensation versus recognize incentive. And as I described [indiscernible] for some of the incentive we recognize we paid the compensation you know based on mark-to-market, but we don't recognize the incentive for several years.
So it really is not kind of a stable comp to revenue ratio.
William Katz
Okay, thanks for taking my questions this morning.
Operator
Your next question comes from Gerry O'Hara with Jefferies. Your line is open.
Gerry O'Hara
Great, thanks. Rob maybe just pick me up on some of the commentary around real estate and how obviously continue to be active in the deployment side, strong returns, but also mentioned you are looking to expand some of the product offering there to new and existing strategies.
Maybe if you could discuss maybe or provide a little bit of color around what some of those strategies might be or how you are thinking about that segment going forward?
Robert Shafir
Yes. I guess I would say the following, you know one of the major things we did strategically last year was pair back the portfolio of offerings we have.
We eliminated what we thought were smaller products that were not sort of our core offerings or places where we really believe that we have sort of edge as a firm. And that is the three verticals that I mentioned, real estate, as you say being one.
You are correct in saying that we have had very strong performance in real estate. And I think we are optimistic about our ability to raise assets there going forward.
And what we have done over the course of the last year is we have had raised money not beyond what the traditional private equity side of real estate is in terms of the fund of real estate credit. Now why real estate credit, because it’s a sensible adjacency of a business not only our real estate vertical business, but also our credit business.
So where we see logical adjacencies to our core businesses that can take advantage of the capabilities we have we will be expanding. Real estate credit would be an example of that expansion.
What we are not going to do though is sort of have the style creep we are going to do things that are just really not core to our mission. We are not going to be a quantitative equities shop tomorrow or going to areas that are not either within the mainstream of what we do or logical adjacencies.
So to answer your question, I think real estate credit will be a place as an example that we will look to continue to expand in real estate.
Gerry O'Hara
Great, thanks. And then just one follow-up on I guess some of the prior comments around expanding or I guess reengaging with distribution partners and major consultants.
Beyond performance, are there some other kind of metrics that we can sort of watch or sort of monitor throughout the year to sort of see how that might be progressing? Or is that just sort of something that is going to be internal and we are going to have to wait and hear about?
Robert Shafir
Look obviously performance is the core part of our value proposition. Our mission is to manage assets on behalf of our clients on a risk adjusted basis in a positive and competitive way.
So to that extent you know we are and asset management firm we are very focused on performance, which is why we have really shrunk down to the core verticals where we actually believe we can deliver alpha an exceptional performance. So I think that is going to be the key part of it.
Obviously beyond that, I mentioned, we are going to be reengaging and openings some channels that have been previously closed to us on the intermediary side and as I also mentioned the consultants are now seeing it, they have seen the performance and they have also seen a lot of the things that concern them about the firm being addressed in this recap. And we are getting upgraded now.
And as you know those upgrades begin to stimulate conversations beyond the scope of what we have been able to do in the last couple of years. So I would say, beyond performance and the actual slow picture itself I would probably be looking at things like you know what is happening on the consultant side in terms of upgrades.
I would probably see what is happening in terms of channels being opened that have previously been closed, and you know I would make the long-term leap of faith that that will lead to higher assets overtime.
Gerry O'Hara
Great. Thanks for taking my questions this morning.
Operator
[Operator Instructions] We have a question from Patrick Davitt with Autonomous Research. Your line is open.
Patrick Davitt
Good morning guys, thank you. I just expect this is an extension of that last comment, last quarter you mentioned a private bank coming on board, I imagine that is kind of in the line of other intermediaries you are re-engaging with.
Are you starting to see sales through that particular client and is there a pipeline of other pools of assets like that coming in as well aside from the consultants.
Robert Shafir
The answer is, it is a private bank, but I would say to you there is actually a couple of private banks you know that have just green lighted us, the process of being green lighted and sort of re-engaging with the bank, re-familiarizing yourself with the distribution forces within those banks is a long-term process. So I would call it early days, so I wouldn't say that you have seen anything of significance as of yet, but as I mentioned in the call, my expectation is you know that you will start to see things you know towards the back half of the year.
I think beyond just you know the intermediaries or the consultants, as I said earlier, the sales process and asset management is elongated process. It's you know I wish it was shorter, but the truth is, I think you will start to see momentum if we can continue to deliver on our value propositions and you would like to sort of see that manifest itself and flows in the second half of the year.
I do not want to overpromise and under deliver here, so I think conservatism should apply in terms of how we think about that towards the back half of 2019 and as and more importantly what you really hope to see is your pipeline really beginning to build, that you can really start to move the needle more materially going into 2020. But it's a process that it takes time.
Patrick Davitt
Yes, sure thank you. And then this morning call of the [FXD] (Ph) was quoted talking about ramping up oversight of the CLO world, I know it's early days, but do you have any preliminary thoughts or views on what they are looking at and to what extent it could impact the growth prospects for that side of your business?
Robert Shafir
I actually didn’t see the comments, so I couldn’t comment on them without actually looking them sorry.
Patrick Davitt
Fair, and last one the energy related write-down you talked about in the [indiscernible] is that recoverable or should we look at it as permanent.
Robert Shafir
It's just our current view of fair value on the positions. So sure in case they go up, but that is you know we mark to fair value.
Patrick Davitt
Cool. Thank you.
Operator
[Operator Instructions] Okay. And I'm not showing any further questions, I will turn the call over to Mr.
Willkomm.
Adam Willkomm
Thanks Sharon, thanks everyone for joining us today and for your interest in OZ Management, if you have any questions please don't hesitate to contact me at 212-719-7381. Media inquiries should be directed to Jonathon Gasthalter at 212-257-4170.
Thanks very much.
Operator
This concludes today's conference call. You may now disconnect.