Goldman Sachs 2023 US Financial Services Conference Transcript

Harvey Mitchell Schwartz

Chief Executive Officer & Director, The Carlyle Group, Inc.

Yeah.

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Great. Well, I won't spend any time why am I at Carlyle. Most of you have heard that. It was really just too good an opportunity to pass up in terms of the brand. Sure, we'll talk a little bit about the industry, the industry trajectory, the people, the team, the founders and obviously, I'd have some degree of confidence that I could have an impact and help mobilize the team.

In terms of the first 10 months, it's very kindness in the fact that I was a new CEO in a new company and the overly simplified playbook had three parts to it. One, spend a lot of time with my teams internally and that was about me getting to know them, but really as much them getting to know me, right, new to the company. Two, a lot of time with LPs, I've - we stopped counting. I think I've met with close to 300 LPs around the world. I've been to the Middle East twice, Asia twice, Europe twice. So a lot of road time, obviously, all over the US and North America.

And the third part of the playbook was really identifying. I've referred to them externally as work stream and then internally. Really a couple of areas of strategic focus where it would basically bring us all together as an organization where we can identify areas of growth and opportunity. And that's the oversimplified three part playbook.

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Yeah. Let's build on that a little bit. In one of the earlier calls earlier this year, you talked about some of the key strategic priorities. I think you narrowed it down to five insurance capital markets, private wealth, tech AI and expense management. That's a lot to cover. So probably not going to get through all of that today but I would...

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...exactly sure if we'll be able to. But look, I would love to hear a little bit more about where you see the most significant opportunity, where you're spending most of your time related to these issues.

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So there're no favorite kids in that list. Yeah. I love all my kids. I would say that's the thing that which was sort of the thing we updated on the most detail would have been on the expense initiatives. I would say that's the lowest priority in terms of how we're thinking about Carlyle. When I travel around the world, the opportunities, that's pretty significant. And so if you think about what I fortunately had the privilege to participate in, when I showed up the platform itself across the $380 billion of assets, you have basically roughly $150 billion, what we call private equity. But of course, that includes real estate. We have one of the best real estate investors in the world. It's an enormous - it's an extraordinary team.

Just to give some people some insights into that, that team basically decided they wouldn't invest in office space or retail in 2013. It's a pretty bold call, by the way, back in 2013. And it speaks to sort of the quality of the investing culture, which we'll talk a little bit about, I think, is I'll touch on some of the things, some of the recent wins.

So the investing platform itself is quite diversified across, what I'd call traditional private equity, real estate, real assets, infrastructure, renewables, energy, and then, of course, you have the credit business, $150 million. And then the solutions business, our secondaries business, which I think may be one of the greatest acquisitions of all time that the firm made long before I showed up. And then, of course, you have the insurance business.

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And so, all of these things have opportunities for growth. And again, the reason I detail about the work streams because I was bringing the teams together to make sure we maximize that. So I'd use capital markets as kind of a simplest. To be effective in the capital markets business, you can either be best in the world as a Goldman Sachs

or you can position the way we position, which is less about committing capital and more about the raw material on the pieces.

And to be successful, you need a really world-class private equity franchise. You need a great capital markets team, and you need basically the cross-section of the Venn diagram of insurance clients, people you can distribute and share risk with, partners that we can share risk with, that basically are peers of ours.

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And so, bringing all these pieces together, in some cases, was really just about prioritizing, a bit of re- organizational design and incentives. It's hard to go to any of those areas and not feel optimistic about the long- term growth trajectory. I think that's a lot about Carlyle, the brand, the people and what I've been fortunate to join. But I think a lot of it is about the industry trajectory.

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I mean, if you take wealth for just an example, one of the work streams and I guess I am going to manage to go through each of them quickly. If you take wealth, for example, we raised $45 billion through that channel. And when you think about wealth, you think about it as sort of basically feeder funds. And then the evolving interval product where some of our peers have had great success. It is my opinion, maybe pick your sports analogy. I'm not a pretty good athlete. Pick your sports analogy like top of the first inning in wealth. This is a 10-year,20-year trajectory.

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And what you need is excellent investors, an understanding of the client and a brand. And I've spent a lot of time now in the wealth space. I think this is a enormous opportunity, three years, five years and sooner, obviously. But we've made some resource additions in the space. I feel really, really good about the momentum across all the work streams.

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Great. Well, we're going to unpack a lot of this, but before we go in, I would love to get your macro perspective as well. You've been through multiple market cycles, also been in finance for a long time. You have the benefit of

having a pretty diverse set of portfolio companies and private equity. What do you hear on the ground? What's your outlook for the economy for 2024?

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Okay. That's definitely not a 27-minute,15-second answer, but I'll simplify it. So I would talk just macro. I'll give you my perspective. I think in my career, so I'm 59. I was boin 1964, good time to be boby the way. I think this is one of the most complex market environments we've seen in 30, 40 years. And I say that because a lot of the megatrends of deflation, globalization, geopolitics, monetary policy, regulatory trends, a lot of that is in the process of reversing to some degree, or at a minimum, slowing for sure. And I think it's very hard to unpack the tailwinds associated with that.

And the other thing I would say is I know we all talk about the significance of a 500-plus basis point rate increase, but if you - if we were all sitting here in June 2021 and we just took what, because we're in Goldman Sachs, market-implied volatilities, if we took market implied volatilities, it's a four or five Sigma event that we'd have a 500 basis point rise.

And I was trying to frame that. So I asked my data scientist the other day, I said, hey, how much is that? And we - he said, well, that's one in a million. I said okay, what's one in a million? He said, well, that's the equivalent of, if we [ph] put the quarter 20 times (00:09:05) in a row, you always get heads, but I thought this was better. Then, he said, 1 of the next 24 babies boin the United States is present in the United States. That's how extraordinary what we've been through. And I think this recalibration of rates, sure, we've seen the issues, the [ph] UKAD (00:09:25), we've seen Silicon Valley Bank, another bank issues. I think this recalibration of rates and what it means for forward rates, I think people can become victims of recency bias. And because the vast majority of the people that are in markets today have experienced basically, easy monetary conditions and extreme monetary conditions.

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I think there's a sense that rates will revert back to some very, very low level and my personal view is that's not the case. I think these headwinds combined with a normalization of the rate curve just means the cost of capital will normalize in a way that maybe should have been the case for a while. And I think that when we look at now our proprietary data, so we have close to 900,000 employees, 30 countries, we have a huge proprietary dataset. When we look at that, you can see that inflation peaks very specifically in June of 2022 and you can see it roll off. And when I say inflation, I'm not talking about the headline inflation that we all read about. We're talking about like input prices that went from $1 to like $1.70.

And you can see as portfolio companies start to adjust external prices and they didn't even know they had price elasticity. And now, we're seeing that sort of fade back. And so we're definitely past this inflationary peak. My base case is, yeah, we'll see a rate cut or two, but the notion that we'll see five, I think that's not anything we should be rooting for. I think if we see five, six or seven rate cuts in the near term, it means we've got a market disruption of pretty significant recession of both.

And so when I take the framing of kind of the mega trends, the local data that we have, in sort of my own personal view, I think higher for longer than the market is expecting and I think there's some degrees of uncertainty in there. So I would say short term, cautious. I think long term. Now, putting on my Carlyle hat. I think the opportunities are pretty extraordinary because some of the other data under the hood - I was just talking to Richard Ramsden before and I said, I was looking at this data set which - and nobody is going to have an opinion on this, okay. This data set basically of all the public companies in the United States, last 12 months greater than $100 million, public companies. How many are last 12 months operating cash flow negative, free cash flow negative? And that number is about a third.

There's a lot of reasons for that. The primary reason is not because revenues have stopped growing. And the primary reason is not because they have too much debt. The primary reason is because back in 2021 when they were getting financed, nobody expected rates to be 500 basis points higher.

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So interest rates are consuming a lot of cash flow and some of these are great companies and they're going to need capital from firms like ours. Whether it's debt, preferred, equity capital, they're going to need to restructure themselves. They're going to need to do carve outs. A lot of this won't happen tomorrow. But when you think about that framing over the next couple of years and what we do at Carlyle as fiduciaries and micro investors, we're providers of that capital.

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And I think that the trend is very powerful, but I think near term, cautiously optimistic. The consumer seems really strong in our portfolio companies and - but I don't think this is debate about soft landing and hard landing. I think it's a little extreme.

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So, look, I know you said you don't have sort of favorite kids in your - in the set of your priorities. But I do want to talk about a couple of things you mentioned. So solutions, you're in the middle of several fundraisers in the solution business.

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Let's talk a little bit about how deployment and fundraising feels like in this market. That's number one.

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And then number two, you'll talk about adjacencies that you're looking to build around the solutions business. Can you talk a little bit more about that as well?

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Sure. So, by the way, for the solutions business, the easiest way to think about this is the secondary business. The firm bought it several years ago. That's [indiscernible] (00:13:45) Carlyle, we own 100% of it and basically, the fundamental nature of the business [indiscernible] (00:13:49) they invest in primary. So they invest in primary because they have a very large secondary business. They also have an adjacent financing business. And I think this is like the perfect - if you were to design - not design this way, but if you're designing for diversification, this is the perfect diversification balance because if primary is slower, because capital is not cycling back quickly through private equity conventionally, then LPs need liquidity, so you'll see the secondary business is very, very strong.

So it's a very big growth area right now. There's a lot of appetite. I would say - I don't like sort of absolute statements but I'll make one. I would say in general, more opportunity than one can deploy into which you would expect given the nature of the markets right now, and the financing business is a - it's a fantastic team. The financing business I think is a huge opportunity, but this is all in the nature of things like NAV financing, other things that we can do off that part of the platform.

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All right. Let's shift to insurance. It's another one on your priority list, and you guys obviously have an important partnership with Fortitude.

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You recently closed the Lincoln deal. So that was a nice one as well. Can you walk us through what that partnership with Fortitude means to Carlyle? How do other opportunities through that partnership stack up? What else could come out of it?

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So for those who don't know, Fortitude again, I walked into this. I had nothing to do with its creation. I'm just the beneficiary of being there. Fortitude is our partnership. It's a reinsurance business. What he's referring to for those who didn't see, it was a transaction actually that took a couple of years to bring together with Lincoln National. That'll add on a longer term run rate basis about $40 million to the FRE of the enterprise. So we just, just for extra disclosure, we just did a six-hour strategy session with senior leadership of the firm in the Fortitude team yesterday. And I think the optionality around this franchise is very powerful.

Within Fortitude, we have 170 actuaries. These are very significantly built out enterprise. I like the capital light model. There's a lot of things strategically we can do with the platform. That's my personal bias. I come from a heavier capital committing world, but I like the capital light model. But there's a lot of flexibility around this in terms of the - what I'll call the core business where the pipeline is quite good in terms of global transactions as a global business, but also the ability to do partnerships, strategic things around it. There's a lot of ways for this franchise to grow. And I think it gives us a really good base to continue to build off of. What I love about it is the optionality.

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Yeah. How do you think about opportunities outside of the Fortitude partnership, right? So insurance as a space...

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So there's a couple of very, I think, powerful long-term trends that are - that you can - in my opinion, I think, you can kind of anchor yourself to. It doesn't mean they're going to play out. There's a lot of discussion, obviously, about bank regulation and what it means for the banking sector and the banking sectors, I believe, they commit [ph] capital-disce(00:17:44) asset classes. There's also a lot happening in the regulatory space and insurance.

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And some of these trends will continue for a long period of time, where if you're an insurer and you're capital constrained, but you want to grow, you obviously can enter into a partnership with us. But I think the dynamic nature of the flywheel effect of deployment of capital between what's happening with the banking system, that's a global event, by the way. But the banking system and capital of banking system will provide going forward to market participants. The growth in insurance companies and the ability to either absorb assets or be partners with us, I think this is a flywheel effect when you fit it in with the capital markets business that has very, very long-term legs. I think these are three, five, 10-year trends.

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Yeah. Yeah. That makes sense. Let's talk a little bit about private credit. It's been coming up, obviously, in every conversation over the last couple of days. It's not a new topic. And a lot of folks excited about private credit for many of the right reasons. You talked about that as being a big opportunity for the firm as well. You already have a sizable credit business, a lot of it is CLOs, but you also have a lot of [ph] private credit (00:18:54)...

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I didn't get it download. What did [ph] Mike (00:18:55) say? I just wonder what [ph] Mike (00:18:56) said. So I don't completely contradict [ph] Mike (00:18:58). No, I'm kidding.

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