Good day, ladies and gentlemen and welcome to The Carlyle Group Second Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] I would now like to introduce your host for today's conference, Mr. Daniel Harris, Head of Investor Relations, please go ahead sir.

Thank you, Christie [ph]. Good morning and welcome to Carlyle's second quarter 2016 earnings call. In the room with me on the call today are our Co-Chief Executive Officers, David Rubenstein and Bill Conway; and our Chief Financial Officer, Curt Buser. Earlier this morning, we issued a press release and detailed earnings presentation with our second quarter results, a copy of which is available on the Investor Relations portion of our website. Following our remarks, we will hold a question-and-answer session for analysts and institutional investors. To ensure participation by all those on the call, please limit yourself to one question and return to the queue for any follow-ups. Please contact Investor Relations following this call with additional questions. This call is being webcast and a replay will be available on our website. We will refer to certain non-GAAP financial measures during today's call. These measures should not be considered in isolation from or as a substitute for, measures prepared in accordance with Generally Accepted Accounting Principles. We have provided reconciliation of these measures to GAAP in our earnings release. Any forward-looking statements made today do not guarantee future performance and undue reliance should not be placed on them. These statements are based on current management expectations and involve inherent risks and uncertainties, including those identified in the Risk Factors section of our Annual Report on Form 10-K, that could cause actual results to differ materially from those indicated. Carlyle assumes no obligation to update any forward-looking statements at any time. With that, let me turn it over to our Co-Chief Executive Officer, David Rubenstein.

Good morning and thank you for joining our call today. The second quarter was a strong quarter for Carlyle, as we generated $0.84 per unit and after tax distributable earnings and we are declaring a $0.63 per unit distribution. Our results continue a long-term trend of producing solid cash earnings for our unitholders, deploying a significant amount of capital and attracting large amounts of new capital into our funds. In short, the second quarter highlighted many of the strengths that we speak about every quarter and we believe it also highlights the durability of our business model over many quarters and over many years. Before providing additional color on our strong quarterly metrics I want to highlight the backdrop into which our various funds continue to operate and to deliver outperformance for our investors and ultimately distributions for our unitholders. Equity markets remained in a period of low appreciation with the S&P 500 up a modest 2% in the first half of 2016 and appreciating in an annualized rate of just over 3% the past two years. Even with that relatively low appreciation level US equity markets nonetheless outperformed broader global ended equity indices which were flat to down over the past two years. Further, more than $10 trillion of global sovereign bonds are carrying negative interest rates. Equivalent to roughly a third of all global sovereign debt and the US tenure treasury yesterday it was only at 1.55%. Thus all types of investors are finding it challenging to meet their return objectives. In this context, Carlyle's performance stands out and is a major reason that our fund investors continue to entrust more and more capital to us. The United Kingdom is about to leave the European Union created additional market uncertainty and complexity, especially in the UK were more…

Thank you, David. In prior quarters I have spoken about specific investments and completed exits. This quarter while our activity remained high on announced and completed exits as well as new investments. I would like to focus on the broader outlook for Carlyle over the near and longer term. In the near term, we continue to see opportunities to realized asset sales out of many of our carry funds. As David mentioned, our realizations were approximately $5.3 billion in the quarter. Off this amount, about $2.5 billion resulted from secondary or blocked transactions on eight investments. And while the IPO market has generally been dormant we've built a pipeline of five companies currently in the IPO process in markets around the world and in June, Solasto Corporation, a company in our Japan buyout fund went public on the Tokyo Stock Exchange. As of quarter-end, we owned investments in more than 250 companies both public and private in our carry funds and over 350 assets in a real estate and energy funds. Given the size and diversity of our portfolio, we have the capacity to continue to exit at a reasonable pace but of course we will naturally be more active in some quarters than others. More recently and not closed in the second quarter, we have announced sales of several portfolio companies including Vogue, a producer of hair care products, Centennial Resource, an energy producer in the Permian Basin and Sagem Comm, a European manufacturer of TV set-top boxes. We are regularly asked if our recent realization activity represents a peak for our funds. The answer is no. For the past five years we have been operating at a robust exit pace ranging from $15 billion to $20 billion per year since 2011. Our firm structure with funds in various…

Thank you, Bill. I'm going to make three general comments before discussing specific segment results. First, we said this would be a good quarter and it was. Distributable earnings were $280 million in the quarter reflecting continued generation of net realized performance fees of $233 million and fee related earnings of $45 million. I'm very pleased with our results for the first half of this year especially given the market environment. Second, we delivered on the two most important performance measures for our future growth fund performance and investment pace. We had strong performance across our carry fund portfolio with 5% appreciation in the quarter reflecting the same in both our public and private portfolios. Even with strong appreciation, our realized carry exceeded the new carry accrual generated in the quarter resulted in a modest decrease in our net accrued performance fees to a still substantial $1.2 billion. The lower unrealized carry generated in the quarter is due impart to much of the appreciation of our carry fund portfolio accruing funds that are not yet in carry. The good news is that the significant appreciation in early or mid-stage funds such as Carlyle Partners VI, Carlyle Asia Partners IV and NGP Fund XI is akin to an investment in future earnings. This quarter's appreciation also reflects careful consideration given to BREXIT in our valuation process, which automatically factors in the effect of foreign exchange but also reflects judgments on broader macro dynamics. Other than for a handful investments and the impact of foreign exchange the valuation impact of BREXIT was nominal in the quarter. For context, only 13 companies out of more than 250 in our corporate private equity and real assets carry fund portfolio and four real estate investments are denominated in British Pounds. Together only accounting for about…

Thank you, Curt. As we've tried to convey this morning by most metrics Carlyle had a strong quarter. While there are certainly challenges ahead of us, we are confident that Carlyle is well positioned for continued global growth and profitability. Now we are pleased to take your questions.

[Operator Instructions] our first question is from the line of Ken Worthington of JP Morgan. Your line is open.

In terms of the restructurings, can you update us on what you're doing in the solutions business and how this is anticipated to impact FRE and DE in coming quarters and as you think about the changes needed to right side GMS. I know you said this is under review but even from higher level, how might the business return to positive FRE? Thanks.

Ken, it's Curt. Good morning and thanks for the question. So with respect to solutions, at the beginning of the year, we looked at really kind of the whole operation there. One of the things we chose to do was to get out of the hedge funds business as well as some of the liquid alt products that we had and so we commenced the process of winding down DGAM and that has gone well. And you can see the results really in the improvement and fee related earnings. I think that we're doing in the solutions business as we've been actively fund raising especially in the secondary space that's gone really well this quarter, with what I really like about that is we're replacing also lower yielding AUM that's been burning off in that space with higher yielding AUM and that's going to continue to show improvements in the future. The other thing I would say long-term in solutions remember we didn't buy the embedded carry when we bought AlpInvest. And so you look forward our participation in their performance fees is going to increase over time. I think it's going to be a near-term phenomenon for a couple years out that will start to really matter and of course in any kind of business the performance isn't exactly linear every quarter, but the trends thus far have been good. Turning to GMS, there what I would say is, we've quite frankly just because I said just a minute ago we've been disappointed with kind of where we've been but the broader piece of this business is still doing well. There is many components to it, first the CLO business remains very strong and we're continuing to grow that. Second, the carry fund platform both in terms of our [indiscernible] business as well as the energy mezzanine business those funds are much larger than they were in the past and we're very pleased with that. Third, the BDC continues to grow it's our middle market credit business and we're very happy with that. Some of the hedge funds as well as the commodities business, they quite frankly you know the losses they've been greater than we anticipated and we're thinking through kind of what the next steps are there. But overall this is an area where we're looking to how do we balance continued investment for growth with actual current term profitability, so that's going to be the analysis that we're continuing to undertake.

Okay, great and thank you very much.

Thank you. Our next question is from Bill Katz of Citigroup. Your line is open.

Bill, I think you mentioned in your prepared remarks that [indiscernible] difficult in corporate private equity, I just wanted to sort of view to rate returns, I was wondering, if that's sort of generic comment or specific to Carlyle but maybe you can talk a little bit, how you still see Carlyle in overall basis, as you look out over the next couple of years?

Okay, thanks Bill. I would say that right now that it is tough to earn returns of 20% or more than private equity business, my comments will kind of concentrate on that part of the business as oppose to energy and natural resources and real estate. In the private equity side, and frankly across all asset classes you have the risk-free rate that has been driven down near zero all over the world, by the central banks, compounded by a continued reduction in the risk premium. So you have very low base rate and you have very low risk premium. We have continued to earn I would say over the years significantly more than what the curve between risk and return might say, we should earn. We got a good team and good markets and good strategies that really helped us there. But to let's imagine that we have exceeded that line by some number of basis points a 1,000 or 500 or some huge number over a long period of time with a big drop downward in the risk-free rate and the drop in risk premium, to out earn that rate by enough to get us to 20% will be very difficult today now. The line moves all the time between risk and return, what we will not do Bill is take undue risk in an effort to achieve that 20% or some other magic number kind of rate of return. We know the part of the risk fact we're good at, we're comfortable operating in and to move outside of that is not something that we would do at least not on purpose and hopefully we wouldn't do at all. I'd say if you look around the world, it isn't unique to the United States that these returns are under pressure on new deals that we're constantly outbid around the world by other private equity firms and strategies. Few years ago, the strategies were not really very much competitors with Carlyle and the other private equity firms for assets. They were licking their wounds after the global financial crisis and I would say now, that they are much more in a mode of competing with us for products. Go ahead, David.

I would just say the flip side of that is investor expectations. Over the last year and half more so than any time over the last 30 years I have noticed that investors are willing to accept lower rate of return from all private equity firms because they recognize that the opportunity to get private equity returns from almost any other asset class is just not there and as low interest rates continue for quite some time much longer than people have anticipated, people are now making investments in private equity and other alternatives willing to take lower rates of returns than the kinds of we've averaged over our history. And so, yes we're under pressure to get good rates return, but investors are actually willing to put a fair amount of money into private equity across the board not just with us even though the rates of return may come down because it's just so difficult now with low interest rates and low equity market appreciation to get these kinds of returns anywhere else.

Let me add final comments, despite our struggles to earn the types of returns we want to earn. I'd say that we still invested $12.7 billion over the last 12 months which was a lot of money that have put to work and I'd say, if there's been one trend Bill, it's that, we probably tried to move up in quality and optimum [ph] capital structure and the types of deals, we've done. In my prepared remarks I talked about ION Technology and any P [ph] group where we had a, we moved kind of structured securities to get us a lot more downside protection we think. So it's tough to do, you have to evolve in our business we're not changing risk that we're willing to take, but in the current environment which who knows how long it will last, maybe it's as I said maybe there is time to sow and time to reap and right now is pretty good time to reap. Frankly.

Okay, thank you for that perspective.

Thank you. Our next question is from Craig Siegenthaler of Credit Suisse. Your line is open.

It looks like several of your larger flagship private equity funds like Carlyle Partner VI and Asia Partners IV could be close to reaching the deployment threshold maybe later this year in 2017, where we could actually start seeing the next series of these products in fund raising mode. Can you provide us an update on how you think about the fund raising cycle here?

Yes. We generally try to take our largest funds and not have them in the market exactly the same time because there is obviously duplication of resources and so forth, as they're challenged to kind of get raise three large buyout funds at the same time. But obviously the market is what it is, and when we're available and the funds need to be raised, we'll go out into the market. I expect that of those three big funds US buyout, European buyout and Asian buyout. At least one of them will be ready to go into the market certainly pre-marketing by the middle up next year and probably one of the others probably be ready by the end of next year. I can't say for certain because we don't know what the investment pace will be, but we do think that there is so much demand for our products in these phase these days, that if we were to have two of them in the market or even three in the market at the same time, while it will be challenging for our fund raisers a bit and for our fund heads who had to make all these presentations and schedule everything. We think we could get it done there is fair amount of demand out there for quality products now. Now I can't say we'll be there a year and half from now but right now, we're not that concerned about it and I would say you're probably right in the suggestion that probably in the middle to latter part next year, we'll probably be out with at least one of them if not both of them.

Great, thanks for taking my question.

Thank you. Our next question is from Michael Cyprys of Morgan Stanley. Your line is open.

Just wanted to dive in a little bit on CP VI. It seemed that fund appreciated a lot in the quarter. I thought, I heard you say 15%, just wanted to make sure that was right and then just, can you just give us an update just on where the IRR is for that plan, I don't think I saw that on the fund table and how much more does it need to appreciate from here in order to cross and to carry and how should we think about the catch-up on that realized they're bit conservative once your funds definitely move into carry?

Well let me just give you a few metrics on CP VI maybe, this is Bill. We've invested in about 10 companies in the portfolio about $6 billion. So the average size of the investment is been $600 million, the biggest of those was the cost at Veritas. The fund size total is of course about double that, so we're less than 50% invested in terms of the investment phase. It did have good appreciation in the recent quarter, but that can vary from time-to-time. The biggest source of that appreciation was in Vogue, where we had it marked to certain price where we thought it was reasonably valued. We took it together with the CEO to market and they were number of strategic buyers who were really intrigued by the growth in the business and the growth of market share in Vogue's product and we sold it for a lot more than we had it marked. So that was a big source of the growth in the recent quarter, if that's responsive.

Mike, it's Curt. Just to add on to that, I'll confirm the 15% appreciation for CP VI in the current quarter you'll see in total to market about 1.2 times cost as of June 30 and it's on the verge of being in carry but not really solidly there yet, but it was just really great performance here in the quarter.

Yes, let me just talk a minute about taking carry, if I can. The one thing that we're learned in doing our investments for the last 25 years or more is that, our investors really hate call backs. They hate we're in a situation where we might have to pay back money that we've taken in carry and so Carlyle has a belief we want that never to happen, I'd say very, very, very rarely it does happen and it's an example we try to be a little bit cautious when we're deciding how much carry to take.

Can I just follow-up there, just on that point? How do you manage that process in terms of being cautious, any sort of color around your process around is it just formulaic it hits to certain amount of IRR after certain period of time and it just goes right into carry and the catch-up start coming through just any color to flush that out, would be helpful?

Sure. Mike, it's Curt. So we go through a number of things. First, obviously the fund has to have surpass it's pref hurdle, but that's really not really where we want to be, we really want to see that, if we you know and then you have to obviously have exit at something at a gain in order to take care, so it's just some basics there. Once you're there though, you really got them say okay now are we, really going to flip back into out of accrued carry you know in the next quarter or so just by the pure running of the pref. And you really want to have some runway with that, so you don't want to be in a place where you've got downsized. So you really kind of looking at where is fund performed, are we profitable, what's the challenges in the remaining portfolio and do we really see that if we take carry that our risk of fallback is low. It's always going to be there and you can't protect against anything but you always want to be kind of saying about telling what we generally do is, we'll try to think through the carry rate. So early on, when we first started sometimes we'll be entitled to a big catch-up, we won't take all of that catch-up early on, we'll be more modest with where we're going. We'll generally because somewhere around 20% and then we'll think about that to try to keep that right in which we take carry kind of balance. One things you'll notice here in the current quarter on CP V we've really been kind of in a situation where we've been taking carry at a lower rate of 10%, we'll step that back up through 15% here upon the next major realization. Everything I've just been talking about in terms of taking carry is on distributable earnings, that's the whole realized number. ENI it's just, what the mark, at the data when we report and boom that's the map and so if you sell, if you liquidate the remaining portfolio at how it's marked, that's going to be kind of comes through in terms of the accrued carry numbers that are in ENI.

Let me just add that, partnership agreements are currently precise on things like that there is one area that they're not that precise in, is the general partners ability to carry or not. It obviously is dealt within the partnership agreements but the general partner has some flexibility in deciding when do they carry or not. We try to be very conservative in this and I think over the years, we probably invested over $100 billion of equity across our funds and probably distributed back maybe that $80 billion or so, I think we've had a call back of maybe $25 million or $30 million in the entire firm's history.

$50 million.

$50 million, sorry, $50 million. So $50 million has been call back at about $80 billion distributed back to investors. So it's obviously we're very, very conservative in that and I would add to what Bill said, the investors aren't happy with call back but the professionals in our firm are even less happy, when we have to call back. So we are very cautious about that.

Yes, it is. And for final point, I would say is remember we've got $1.2 billion of accrued carry. So in some theoretical world, the investors owe us $1.2 billion and it is all that theoretical, they will pay it and the question is over what period of time and when.

Great, thanks very much.

Thank you. Our next question is from Michael Carrier of Bank of America Merrill Lynch. Your line is open.

Good morning, everyone. This is Mike [indiscernible] for Mike Carrier. So performance from CP was pretty good in 2Q. I was wondering if you could talk about how the portfolio companies are doing both in terms of like revenue in EBITDA growth and I was just hoping you could expand on the opportunities in the CLO market. How much do you think you can raise on ongoing basis, maybe the contribution to your fee base and then how US risk retention rules might impact your business?

Well, there's a man who's making good use of his one question, will be my first observation. Yes, in terms of revenue growth and across the portfolio without getting too specific, I would say revenue growth is tough to come by. We have slow growth around the world. Yes, there will be some industries and business healthcare for example is a business that continued to show reasonable growth, some tech businesses show pretty good growth, but a lot of the other parts of the portfolio energy, industrial businesses, they're not really showing any growth and frankly the only way you can generate returns there is cash flow, debt pay down and margin improvement. So and I would say that I haven't seen any improvement in revenue growth metric over time. Can't really comment right now on the EBITDA across the portfolio except we do tend to grow EBITDA more than we grow revenues just as a general rule. In terms of the CLOs we have about $20 billion CLO business around the world. I would say that CLO business it is roughly flat in size, it's grown a little bit but we tend to have a lot of CLOs that run off and they run off periodically and replace them with new CLOs. And we've been very successful last quarter we did three CLOs, average size of those CLOs is between $400 million, $500 million both in the US and Europe. The challenge of the CLO business right now is finding enough good loans and enough high spreads to put into the CLO platforms. So even if you could can theoretically raise CLOs and we can and we do, it's tougher now to find the right assets, an earlier question talked about a formulaic approach to taking carry. In the…

Let me just add to that if I could, that when the Great Recession happened, there was concern that CLOs might not as a business really survive and may not be all that onto enduring a business, but it turned out that they did survive and still suggested, but now what you're seeing is this, the fragmentation of the business is consolidating because of the risk retention rules and so I think a lot of people issued CLOs before we'll not have the financial strength to do in the future. So some of them are getting out of the business and then people who want to invest in these are tending to go to the bigger brand names. So I think we're one of the two biggest issuers of these and therefore I suspect there'll be a lot of consolidation in the future. It's a business we're committed to being in and we have the capital to provide the required equity capital. So I suspect there will be a growth business for us going forward as we take advantage of our strength in the market and our reputation as an issuer of CLOs.

And this business isn't going away. In 10, 20, 30 years ago banks were in the business of making loans and keeping them on their books. Today, banks are not in the business of keeping them on their books, they buy loan that they can sell, they make loans that they can sell. It's not, is it a good loan or bad loan? It's, can I sell it to somebody else. A lot of times the buyer of those loans is the CLO market. So the banks need the CLO market to be big, vibrant, open because it is a major buyer of bank loans off the bank portfolios.

CEO and CLOs doesn't stand for Carlyle, right? Collateralized no obligation but its [indiscernible] for Carlyle.

Could be.

Okay, thank you.

Thank you. Our next question is from the line of Gerald O'Hara of Jeffries. Your line is open.

Just looking at the energy portfolio or I guess just returns in general, it looks like there was generally positive rebound in the quarter but also some March taking any energy mezzanine funds, so I was just sort of hoping you might be able to discuss maybe some of the differences there and have the backdrop or environment is affecting those two portfolios, thank you.

Sure the energy, yes there was a rebound in energy prices. NGP and US buyout both benefitted frankly from the sale of one of the portfolio companies Centennial, when it went public in the quarter and you've seen frankly the equity of some of the energy companies actually trade better than the debt of those portfolio companies and I would say that, we have a similar experience in our energy mezzanine fund, where we're constantly looking at what's the value of the collateral that we have and the value of those funds and we just really play straight down the middle, with regarding to evaluations. I think sometimes the collateral did not move up as fast the equity markets did.

And just to add Bill, I think that there is a little bit of what you'll see, if you look back on time you'll see that as energy prices came down, our energy funds and in particular natural resources. You'll see that our marks went down. This quarter, those marks rebounded back up but credit generally has lags, so if you go back in time. You'll see that energy mezz lagged where the energy funds were and it's right down deferred [ph] later in the cycle and this isn't unique to kind of energy mezz, this is general kind of trend that happens. And so I can't predict what will happen in the future assuming again that rebound happens it wouldn't surprise if the credit markets rebound and energy as well and then you'll see recovery in that phase.

Great, thank you. Forgive the fire alarm that's going off in the background of our building at this point.

We're glad it's not here.

Is it a real fire or is it an alarm?

Let's hope for the latter. All right, thanks.

Thank you. Our next question is from Alex Blostein of Goldman Sachs. Your line is open.

Wanted to follow-up on the question around the lower returns on the private equity business that investors are obviously have to I guess except given the rates backdrop, does any of that translate into any of the signs of fee pressure on the business and I guess as you're thinking about fundraising, the other trend that we've been seeing over the last several quarters obviously now is the pressure on hedge fund businesses and I just wondered to what extent any of LP's are willing to change their allocation to say, give up some liquidity from invested in hedge fund part of the alternative spectrum and move it down to private equity spectrum? Thanks.

There is no doubt that money is moving out of the hedge fund sector right now that's historically been the case, when returns are down and maybe when returns come back up in that sector money might flow, but I think everybody would recognize that money is flowing out of hedge funds, to some extent and I think some of it is winding up in longer term kind of private equity vehicles by some investors. In terms of fee pressure, I think that the fee pressure there's always going to be fee pressure when people think fee such as fact, that people always like lower fees, but I think there's generally been equilibrium that has now been reached. After the Great Recession, there was considerable fee pressure on transaction fees and other kinds of fees, but I think it's relatively stabilized now and I wanted to say that the general partners have been much more I would say transparent about what the fees are than they have ever been before and I think that's a good thing, we have been a leader in transparency working with the ILTA [ph] and make sure everybody knows what the fees are that are being charged. In terms of the fee pressure, the way I think people should look at it, is that the management fees are really very dependent on the size of the fund. A large fund will probably have a lower management fee and they're relatively consistent now and they're relatively 1.2, 1.3, 1.4 range for a large funds smaller funds might be 1.5, 1.75 give it 2% for some venture type funds. I think that the preferred return is kind of important part of the element too, we have seen preferred returns stay relatively high even though interest rates have…

Nothing there.

Great, thank you so much.

Thank you. Our next question is from Robert Lee of KBW. Your line is open.

I apologize upfront if you covered this earlier, I'm got on call a little bit late. I mean obviously you have your BDC business and your CLO business has been performing nicely, a lot of your peers have highlighted the direct lending business more broadly as both the secular opportunity for investment as well as raising assets and it's not as much an area obviously you have energy mezz and some other things, but you've highlights as much. Can you maybe talk about your thoughts on boarding out some of your direct lending capabilities is that part of GMS review that you're kind of going through now?

This is Bill. I think generally that the ability to originate loans is a good skill set to have, my earlier comments about the banks depending upon the CLOs the buyers of the portfolios was true, but I think that generally, we [indiscernible] lot of background noise there, but I'd say generally we'll be trying to build out. We've increased the origination capability a lot already, we need to do much, much more and that's one of the things we'll be looking at and will review at that platform.

Great, that was it. Simple enough. Thank you.

You're welcome.

Thank you and that concludes our Q&A session for today. I would now like to turn the call back over to Mr. Daniel Harris for any further remarks.

Yes, thank you for time and attention today. If you have any follow-ups please contact investor relations. Otherwise, we'll look forward to talking to you again next quarter.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program, you may all disconnect. Everyone have a great day.