Good morning and welcome to ICG's results for the six months ending 30th of September 2022. I'm joined by our CEO, Benoît Durteste, and our CFO Vijay Bharadia, who will give a short overview of our performance during the period and will then take questions. The slides, along with the accompanying results announcement, are available on our website. For those of you joining online, you can submit questions through the webcast messaging function or via telephone, and you can find the details in the online portal. As a reminder, unless stated otherwise, all financial information discussed today is based on alternative performance measures, which exclude the consolidation of some of our fund structures required under IFRS. At this point, I'll hand over to our CEO and CIO, Benoît.
Thanks, Chris. Good morning, thank you for making the time and joining us this morning. We of course, will be discussing our H1 performance and numbers in detail. I would also like to share my observations about the market context, our experience of the environment, and how we are positioning ourselves. As a spoiler, you will find that many of our strategies are very well positioned to benefit from the prevailing market conditions. I gave my first results presentation as CEO five years ago almost to the day. During this period, our growth has dramatically accelerated. Our fee-earning AUM has grown by more than two and a half times. Our client base has doubled. Our LTM fee income today stands at over half a billion pounds. That's over three times greater than in 2017.
Our LTM fund management company profit before tax has almost quadrupled in the five years to just over GBP 300 million. Importantly, this growth has been entirely organic. We have also distributed in the period over GBP 850 million in dividends, while simultaneously de-gearing the balance sheet significantly. As investors ourselves, so with our investor hat on, ICG is the type of business that we like. It's strong growth, highly recurring revenues with long-term visibility and high cash flow generation. ICG has changed a lot in that period, and today we are better placed strategically and financially than we have ever been. One of the key developments is the step change in resilience and growth prospects of ICG compared to 10 or even five years ago.
From a fund performance perspective, we have an established reputation for a strong investment culture, a preference for more complex structured transactions with a focus on downside protection. Consistency of performance across cycles is what we have delivered, and it's what our LPs value most. You will have heard from me over the years that, you know, we're emphasizing downside protection, discipline around realizations, exits, anchoring fund performance. This is part of our investment DNA. This is what we always do, what we have been doing over the past couple of years, and why our funds are, and portfolios are in a strong position today. I will come back to that.
Strategically, ICG is both more resilient and enjoys greater growth prospects as we have broadened our product offering and client franchise, thereby diversifying our sources of fee income and widening the pool of assets we can potentially invest in. From a financial perspective, we have focused on growing management fee income, building and maintaining our high operating margin, and strengthening our balance sheet, which is, as you know, a highly strategic engine of growth for us. I've spent the better part of October meeting many of our existing or prospective clients around the world, and there were several themes I was hearing consistently against a backdrop of, you know, more challenging and nuanced fundraising market. First of all, LPs are not going risk-off, unlike post GFC.
They are being much more selective and focusing mostly on re-ups, coming back into funds that they were previously invested in. This favors larger, well-established and diversified managers. There's also significant demand for products that give LPs exposure to higher rates and/or inflation protection. Think debt, structured products or real assets. Importantly, there was general feedback that long-term allocations to alternatives would continue to rise and in some cases, may even accelerate. For instance, many investors with significant exposure to private equity have modest and sometimes no allocation to private debt.
When we are able to offer, for the first time in history, double-digit returns unlevered for senior debt and something that I haven't seen since 2005, mid to upper teens pricing on subordinated debt, that approach is being rapidly and seriously reconsidered to our benefit. On the investment side, the world is unsurprisingly going through a period of price discovery as buyer and seller expectations take time to converge. This translates into lower deal activity in traditional buyouts. Where there is no slowdown is in the level of demand for financing in any shape, with traditional debt markets having basically closed and banks having further retrenched. Managers with available capacity are, as a result, enjoying exceptional pricing and negotiating power.
With over $16 billion of dry powder, and hopefully more to come as we continue to fundraise, we have ample capital available to deploy into these opportunities. Turning to our performance in the last six months, which illustrates some of the characteristics I've just discussed. In an off-cycle year, we have raised nearly $6 billion in the last six months, very much in line with our long-term guidance. We continue to progress on our sustainability and people agenda with some notable senior hires, and we're also exploring the potential of making our Life Sciences Fund Article 9 under SFDR. We don't have an Article 9 fund today, and I'm reasonably confident we will succeed.
Financially, our third-party fee AUM is up 16% year-on-year, which has driven a 33% increase in our third-party fee income to GBP 265 million and a profit before tax for the Fund Management Company of GBP 144 million. That's up 19% year-on-year. As we have consistently said, fundraising this year was always likely to be a low point in our fundraising cycle, while last year was a high point. The close to $6 billion we have raised in this period is comfortably ahead of what we might have expected, regardless of market conditions, in a low point in our own fundraising cycle.
We've grown at such a pace in recent years that I think we still underestimate the impact on fundraising of a much broader diversified product offering as well as of larger and therefore more relevant funds. During the period, we had final closes for Europe VIII, for Strategic Equity IV, for APAC IV, that's Asia, all above their initial targets and all seeing material increases in third-party AUM compared to their previous vintages. We have raised over $28 billion since the beginning of this fundraising cycle 18 months ago. You will remember that we were targeting $40 billion over four years, so we're well ahead. Looking forward, the strategies we are fundraising for should be well-received given their exposure to floating interest rates, inflation-protected income or structured solutions.
As well as continuing to raise for SDP 5, that's direct lending, and SLB 2, sale and leaseback, we have recently launched the third vintage of our North American subordinated debt strategy. To name a few more that could launch during the remainder of the financial year, so in the coming months, our mid-market fund in Europe, real estate, several strategies there, infrastructure, where the first vintage has performed incredibly well, thanks in part to significant exposure to renewables. Strategic Equity Fund V, which finds itself in a sweet spot of the market with very significant supply-demand imbalance. Supporting this fundraising performance, our client base has continued to grow during the half and we have a very diversified range of clients now numbering well over 600. I think we're over 620.
We are continuing to attract new clients to both existing and established strategies. For example, some 30% of Europe VIII's third-party AUM is coming from clients that were completely new to ICG, and that's for an eighth vintage. This is a function of our growing brand, our increasing scale, and the fact that LPs are prioritizing allocations to established managers with a strong track record. We are constantly assessing and enhancing our marketing and client relations platform. In recent months, we have been making selected hires to focus on certain products, such as real estate and certain client types such as insurance. We're spending time around the wealth channel as well. We've recently made a marketing hire in the U.S. to support our distribution efforts there and are likely going to do the same in Europe in the coming months.
We've already had several successes within wealth. For instance, approximately 10% of Strategic Equity IV was raised through the wealth channel but we're being targeted and deliberate here. We're focused on creating long-term value through this channel rather than taking short-term tactical steps. This is obviously a strategic area and will be the topic of a shareholder seminar we will be holding in January. You know, watch this space. Turning to our investment activity. Despite a globally slower environment, we are continuing to deploy and realize capital at scale. Indeed, the levels of deployment and realization activity we executed on during the last six months are second only to last year's exceptionally high levels of activity. Again, our breadth is important here.
Uh, private debt driven by direct lending saw strong deployment, largely because alternative sources for debt financing, as I've mentioned, uh, before, are basically shut. Within our structured and private equity strategies, our flexibility to invest up and down the capital structure is the key point to note, and it comes particularly to the fore in more challenging, uh, market conditions, enabling us to execute bespoke transactions. Our current pipeline for this strategy alone is in excess of seventeen billion euros. From a realization perspective, we have continued to find opportunities to crystallize gains and anchor portfolio returns. This approach has had real benefit, uh, for our fund's performance, as I will discuss shortly. We have no material exposure to exits via IPO. Never have, uh, but obviously that's a more volatile part of the market.
Importantly, given our very strong DPI so that, you know, distributed to paid-in, how much capital we've returned to investors on any given fund, we are not under any pressure to realize assets to 2023, very likely into 2024. I have pointed out our preference for structured transactions. I've highlighted that even one of our most equity-exposed strategies, our flagship European fund, has significant downside protection and is therefore much less exposed to fluctuations in equity valuations than a plain vanilla private equity fund. To bring this to life, I thought I would share a slide that I showed at our investor AGM a couple of weeks ago in Paris. Garnica is a family-owned Spanish business. It's a global leader in the plywood industry. We initially partnered with a founder and management team in a completely off-market transaction.
We structured our investment at the time with approximately 80% of subordinated debt instruments and the balance in a minority equity position. Despite very low leverage, at the outset it was around 1.5x EBITDA of senior leverage. The subordinated debt was priced at over 14% with a full non-call 4. Even our equity position benefited from downside protection being stapled to our debt and with a minimum 18% IRR contractually agreed. Structured in such a way, you could see that our equity investment was in fact no longer really an equity risk, but did benefit from all of the upside. We exited this deal just a few weeks ago.
Our equity realized over 3x the money, and across all of our instruments we realized a 2.3x multiple for what was essentially a very well-priced debt risk with a low attachment point. Importantly, this advantageous risk-return profile was structured and negotiated in a very buoyant market environment. It was, you know, 3.5 years ago. Current market conditions are obviously further improving our negotiating and pricing position. Turning to the performance of our portfolio companies, which are, as you can see here, continuing to perform strongly, seeing double-digit growth in LTM EBITDA and relatively modest levels of leverage. It's important to remember that our focus on operational performance, growth, and transaction structuring drives our returns, not an overreliance on leverage, as was just illustrated by the Garnica case study.
A word on valuations, which remain prudent in our view. As a point of reference, in our flagship European fund, the average exit EBITDA multiple we use for valuation purposes is less than 11x. Furthermore, our valuations are supported by the fact that our realizations during the period including very recently, we are in line with or above the holding values of the businesses in their respective funds. Where we have equity exposure and of course, that's not the case in all of our strategies, we do build in conservatism in our valuations, which brings us to the performance of our key funds.
Our funds continue to perform well, and in many cases are showing flat to up performance half-on-half, as you can see here. This should not come as a surprise given our focus on downside protection and the debt component structured into our transactions. That said, as I've underlined before, short-term movements in fund valuations and NAVs is not a particular focus of our clients. Actual realized performance of a fund at exit is really what matters, which is why, you know, they care so much about DPI and so do we. To give you an idea of how investors assess a strategy, if we take the European corporate strategy, it's our flagship and incidentally, that's also the strategy in which we are the most invested in via our own balance sheet.
Investors will be looking at performance vintage by vintage, okay? We have four live vintages for the European corporate strategy. Fund five is essentially done. You know, there's one asset left, and the fund has outperformed, so that's done. Fund six, on the back of strong exits in the past 18 months, has already returned 1.7x the money, which was the target for the fund. There's still about EUR 1 billion value left in this vintage, so that vintage will be a huge success no matter what happens. Fund seven, so Europe seven on this slide, will have returned subsequent to a very recent exit, almost half the capital with just three deals having fully exited and in just four years. We have up to 12 years to realize this fund.
Not only is Europe VII off to a very strong start, but we have a lot of time to ride out any cycle. Finally, Europe VIII, our most recent vintage, finds itself with significant dry powder just when market conditions are extremely favorable for the strategy as we've discussed. That's how an investor would look at this strategy. You can understand, therefore, why we had to increase the hard cap twice for Europe VIII by the time we closed this summer. This is also important as it's the best indication of potential LP appetite for Europe IX when it comes to market, and therefore of future fee generation and profit for the fund management company. The headline on today's announcement is that the current market environment highlights our strengths.
I think from a strategic perspective, that is clear. The scaling of our product offering is increasingly evident. We have raised $28 billion since the beginning of this fundraising cycle just 18 months ago. Today, we are raising for strategies within private debt and real assets with floating rate and inflation-protected income characteristics, which should be particularly attractive in the current environment. In periods of uncertainty, our scale, our breadth, flexibility of approach are incrementally meaningful and differentiating, and we are seeing the benefits of that in both our client franchise and our investment activity. We have built and will continue to strengthen a broad product offering, a sophisticated client strategy, a differentiated, very local origination capability, and a track record of managing portfolios to generate value through cycles.
Importantly, this is underpinned by a strongly capitalized firm with a dynamic, very investment-focused and entrepreneurial culture. I'm confident in the supportive long-term structural tailwinds for the private markets and I believe we are well-positioned to be one of the managers to emerge stronger from this cycle, and therefore should disproportionately benefit from the favorable long-term structural trends of our industry. On that note, I'll hand over to you, Vijay.
Thank you, Benoît, and thank you all for your time today. First, a brief snapshot of our key financial results, and I will touch on each one of these in more detail later on. These results underline the strength of our business, the resilient nature of our fee-centric fund management company with long-term visibility that drives impressive growth through uncertain times and supported by a very strong balance sheet. I'm extremely proud of the performance of our business during the period. I will now go through each of our key financial results in detail. First, a word on currency. During the period, we saw some significant swings in foreign exchange rates with the dollar strengthening and particularly during September, sterling weakening significantly. For ICG, the most important currencies that impact our financial results are sterling, the U.S. dollar, and the euro.
There are two important elements here to note. First, the impact of FX on our reported financials. Fees are charged on the underlying fund currency, which are predominantly denominated in euros and dollars. Therefore, although our dollar-reported AUM had a negative impact given the strengthening of the dollar, this does not matter from a P&L perspective. Indeed, a stronger dollar and a weaker sterling generated a positive benefit of about GBP 11 million on our fee income during the period. Secondly, the impact of our hedging. We seek to hedge non-sterling income to the extent that it's not matched by non-sterling costs and report the changes in the value of the hedges through the revenue line.
Because these net income hedges relate to future periods as well as the current period, the change in value of the hedge is greater than the impact of - on fees in any given period. During the period, we reported a negative change in value of such hedges of about GBP 46 million, of which around GBP 5 million related to this period, and the remainder relates to future periods. Given that sterling started recovering in October, a portion of that, about GBP 12 million, has reversed.
Excluding the impact of our foreign exchange hedging, a weaker sterling is positive for our financial results, and we provide more detail in the sensitivity analysis of that in our RNS. Moving on to our AUM and how this provides visibility on our management fees. Our fee-earning AUM on a constant currency basis grew by 16% in the last 12 months and 6% during the period. Our fee-earning AUM is what generates our management fees, and it is impacted by three things.
Firstly, it is increased when we raise funds that charge fees on committed capital. Fundraising during the period increased our fee-earning AUM by $3.4 billion. Secondly, it is increased by us deploying from strategies that charge fees on invested capital, such as private debt. Our deployment from such strategies increased our fee-earning AUM by $4.1 billion during the period. Finally, it is reduced by realizations which had a $3.8 billion impact in the fund. In the event of a slowdown in transaction activity, therefore, our fee-earning AUM may grow slowly, but it continues to generate substantial and visible management fees. Because our funds are closed-ended and almost all charge fees that are not impacted by fund NAVs, the management fee potential is very visible.
To illustrate this, as you can see on the right-hand side, as at 30th of September, we had GBP 57 billion in fee-earning AUM with a weighted average fee rate of just over 90 basis points. If nothing happened, no fundraising, no deployment, no realizations, and no changes in FX, we estimate that that AUM would generate approximately GBP 464 million in management fees in a year. We also have GBP 8.3 billion of AUM not yet earning fees, largely within our private debt strategies that earn fees on invested capital. We estimate that that AUM has an additional annualized management fee potential of approximately GBP 70 million. That impressively translates into over half a billion pounds in annualized management fee potential.
This dynamic of long-term fee visibility that is not impacted by market volatility is at the heart of what we are so confident about in the resilience of our management fee income stream, which is an incredibly powerful economic foundation of our business model. Turning to our fee income. This grew by 33% year-over-year. 95% of our fee income this period was management fees and includes a GBP 29 million catch-up fees predominantly from Europe Fund VIII and Strategic Equity IV, as well as around GBP 11 million of a positive impact from FX . that I mentioned earlier. More generally, our fee income has grown at an annualized rate of 28% for the last five years, and we're now generating over half a billion pounds in LTM third-party fee income, which is really quite notable. Moving on to our operating margin.
This grew by roughly 370 basis points year-over-year to 55.9%. This substantial growth, in part, was due to the catch-up fees that I mentioned earlier, as well as a strong focus on cost control that we continue to maintain. At GBP 113 million, our operating expenses were up by only 2% year-over-year. Employee costs increased broadly in line with headcount, and we are carefully controlling administrative and other expenses within the fund management company. We continued to hire during the period, and headcount grew by just under 10% in the six months. In the medium term, we will continue to strategically hire to support our growth ambition. In the near term, particularly during the second half of this year, we expect the pace of hiring to slow.
Turning to fund management company profits. The step-up in our fee income, along with a higher operating margin, has driven a year-on-year increase of 19% in our FMC profits before tax. Over the last 12 months, we've generated over GBP 300 million in FMC profits. You can see the impact of FX hedges here. As mentioned earlier, about GBP 41 million of the GBP 46 million shown here relates to hedges of future fee income. Excluding that, our FMC profit for the year was GBP 185 million. The progression of our FMC profits is closely linked to the increase in our fee-earning AUM. Over the last five years, we have grown our FMC profits at an annualized rate of 27%. Our progressive dividend policy remains in place.
In line with our policy of paying an interim dividend of a third of prior year's total dividend, we are today declaring an interim dividend of GBP 0.253 per share. Turning now to our balance sheet. This remains robust, well capitalized, and very valuable. We have total liquidity of GBP 1.3 billion, including an undrawn revolver of GBP 550 million. Our drawn debt is all at fixed rates with a weighted average cost of 3.3% and a weighted maturity of 4.2 years. During the period, we were upgraded by S&P to BBB, which we're very pleased about, and means that we are now rated at BBB with a stable outlook by both S&P and Fitch.
Our NAV per share was GBP 6.58, down just 5% from March 2022, despite the negative net investment returns or NIR, which I will discuss in a moment, that resulted in a GBP 108 million loss in our investment company. This underlines the resilience of this component of shareholder value. The largest component of value in our balance sheet is our investment portfolio, which at GBP 2.9 billion was broadly flat since March year-end. We continue to focus on deploying capital efficiently to maximize shareholder value. Both Europe VIII and Sale and Leaseback Fund II, for example, have lower commitments from the firm than their previous vintages. We also sold down a substantial portion of our balance sheet exposure in one of our credit funds during the period. Turning now to the performance of the balance sheet investment portfolio during the period.
Our balance sheet invests alongside our clients and seeds new strategies. During the period, we invested GBP 315 million, including GBP 118 million for seed investments in respect of strategies we expect to launch in the future, and had GBP 437 million of realizations. This resulted in the balance sheet's investment activities generating GBP 122 million of cash. Of note, all those realizations were higher than or in line with previously reported NAVs. The net investment returns of course mirror the fund valuations, and as a result, it is no surprise that the NIR in structured and private equity and real assets are below historical averages, whilst private debt is performing in line with historical averages. In summary, a very resilient performance across those asset classes.
In respect of credit, the unrealized loss of GBP 46 million includes a reduction of around GBP 24 million in the CLO equity to reflect CLO dividend receipts and around GBP 18 million in respect of changes in the value of CLO debt and co-investments in our other liquid credit funds. The remainder is a net effect of increases in default rates and discount rate assumptions, offset by the unwinding of discounts in the valuations, which are detailed further in our announcement today. It is important to recognize that whilst NIR may fluctuate in a given period, as they've done this year, or indeed did last year. Over a typical fund performance life cycle of around five years, we expect the NIR to be in the low double-digit returns, as you can see from the right-hand side on here.
Against a backdrop of uncertainty and lower transaction velocity, our balance sheet has once again demonstrated considerable financial resilience, as well as enabling us to invest for future growth. In essence, it's behaving exactly as we had expected it would. Our confidence in the business model and our future prospects is underlined by the fact that our guidance remains unchanged from what we set out at our FY 2022 year-end results. Fundraising is on track with $28 billion raised in the last 18 months, and a substantial performance fee potential embedded within a number of our strategies in the coming years. Our margin remains strong and our portfolios are performing in line with expectations, supporting our medium-term guidance on net investment returns.
As we expect to continue to grow by launching a number of new strategies supported by our balance sheet, we remain committed to having a long-term target of zero net gearing. Pulling that together, I believe it is important to reflect on the financial strength of our business model. Benoît discussed earlier how today's results underline our strategic strengths, and our financial strengths are equally evident. We have a very attractive model that has delivered long-term value. It starts with our attractive strategic positioning, broad product offering, and a growing client franchise. That results in us having multiple levers to build an incredibly diversified AUM base, both by growing up and by growing out. This in turn drives a growing fee income with a long-term visibility and a substantial operating leverage as strategies scale. The components of our equity value are therefore clear.
Most importantly, we've almost quadrupled our FMC profits in the last five years, which has been driven almost entirely by third-party fee income. That has led to a notable and a growing program of capital returns to our shareholders through our progressive dividend policy. Over GBP 850 million since FY 2018, as can be seen here, with a DPS CAGR of over 25%. Finally, the combination of strong fund performance combined with our policy of reducing gearing has led to a growth in equity value of over GBP 600 million on our balance sheet, equivalent to an annualized growth rate of 10%. To conclude, I will reinforce what Benoît said at the beginning. Over the last five years, we have broadened and strengthened ICG across many dimensions.
The uncertain environment we are in today is highlighting our strengths, and we are well placed strategically and financially to capitalize on the substantial opportunities that lie ahead of us. Thank you very much for your time today. This concludes our presentation, and Benoît and I are happy to take any questions from now. We'll start with those in the room, and then we'll take questions online. Yeah. Nick. Is it Nick? Marta, I see Nick over here.
Thank you very much for the presentation. This is Nicholas Herman from Citi. Three from me, if that's okay. One on private debt and then two on financials. On private debt, we've seen banks take provisions against the lending positions. It doesn't appear that you're seeing any signs of stress in your portfolio given such strong EBITDA growth. I guess, across the industry, have you seen any signs of stress across the broader direct lending sector? For you specifically, I mean how much would EBITDA have to shrink or begin to contract before you would have seen any signs of stress in your portfolio?
Okay. I'll take that. A couple aspects there. Where in buyouts, where banks have taken a hit is on hung syndication. It's not on portfolio transactions. It's on deals that were syndicated pre the crisis at levels of pricing for the debt that just do not match with current pricing, and so they've had to take a hit to syndicate those transactions. For now, there's been no sign of stress in private debt, and that's across geographies. To your question as to, you know, how much EBITDA, you know, you have to look at it deal by deal, right? You can't take an overall view.
I think what's worth mentioning if you try to make a comparison to what, you know, has been experienced in previous crisis, and what we've pointed to before is, in current structure, the level of equitization is much higher than it was pre-GFC. You know, deals that were done in the past few years typically had roughly 50% of equity in those deals. A different way of looking at it is before you start hitting the debt, you have to eat through a very significant, like, half of the capital structure. The other aspect is pre the GFC, there had been a huge wave of recaps. Private equity sponsor essentially distributing themselves dividends in order to de-risk themselves. This hasn't happened this time.
You're having situations with private equity sponsors that have very significant investment at stake in these transactions and therefore much more likely to keep on supporting them. Overall, for debt strategies, I think it would take a very severe recession over several years to start to see a meaningful impact.
That's very helpful. Thank you. Moving to the financials. On the revenue side, thank you for the disclosure of run rate management fees. I think that's very interesting. I guess notwithstanding FX, more than half a billion GBP of management fee potential would appear to imply that market expectations for management fee revenues are a bit too low, I guess, considering how constructive the private debt deployment environment is. Any comment you have there would be interesting. On the cost side, hiring in the first half was strong, but it looks like cost control was very good despite FX inflating your costs. Particularly on the non-comp side. Just curious, what drove that decline in non-compensation costs?
Should we expect a catch-up or some large investment spend in the second half, please? Thank you.
Sure. On your question on management fees, as I touched on, there are one-offs in the management fees. I talked about the catch-up fees as well. There's an element of FX as well. If you take roughly GBP 29 million of catch-up fees, GBP 11 million of FX you're looking at GBP 40 million worth of one-offs in the management fees. That needs to be thought about when you're thinking about a run rate on that. The GBP half a billion that I touched on was all things being equal based on the AUM we have and the dry powder that we have. We expect over a long period or a medium-term target to expect to get to those levels of management fees.
In terms of for this financial year specifically, we are very confident in terms of where the consensus is, generally speaking, for the FMC profits at a high level. There may be some ups and downs in terms of the fee line items, but that's where we are on management fees. In respect of costs, you're exactly right to point out, yes we did have some hiring during the year, and Benoît touched on specifically in some areas that we've had some hiring. We expect to slow down on hiring. On the non-compensation cost on this particularly, we are very conscious around administrative expenses. We have a number of non-comp expenses, professional fees.
Other parts of the organization, travel and entertainment as well, of course. You know, agents, recruitment fees, et cetera. There's a number of areas that we continue to monitor as we continue to go through. Over the second half of the year, in the near term, I expect to slow down in terms of the hiring, and therefore you see that come through. Year-on-year, you will see an uptick on costs when you compare this financial year to last financial year. The reason is purely because you've got an annualized effect of prior year's hires coming through this year, as well as hires for this year. Overall, we are very confident in terms of where the costs are for this year.
Luke Mason from BNP Paribas on. Just first question on fundraising. Just wonder if you could give an outlook by the different buckets of your LPs, so pension funds, insurers, sovereign wealth funds, et cetera. Are you seeing certain stresses like in certain parts of the market? Secondly, we've heard from peers about some pushback in fundraising, some pension funds, et cetera, pushing back to 2023. Are you guys seeing that in terms of delays to next year from those allocators? Just on the pace of deployment in private debt, just in terms of taking share from the banks, but then the overall activity in the market is lower. How do you see the outlook there? I guess within the mix, deployment for buyout funds and deployment for refinancings, et cetera.
If you can give any comment there, that'd be interesting. Thank you.
Sure. Several aspects. Fundraising and deployment. On fundraising, I mean, with a few exceptions, Middle East, for instance, there's stress everywhere, you know, for sure. You know, we've mentioned the denominator effect where, you know, all LPs or most LPs find themselves in a situation where because public market values have dropped significantly, they mechanically find themselves with overexposure to alternatives. Technically, some are constrained. For some of them, it's even a statutory constraint. Yes, you're seeing that through the market. As I was pointing out, and I've been talking to a lot of LPs over the past few months, going to see them, none of them are going risk off. Yeah, I haven't heard that anywhere.
They're just managing how they're approaching their deployment in the near term. 2022, 2023, I mean 2022's done anyway. You know, we're into 2023, so I don't know how that's hugely relevant. We haven't been impacted that much by that, but that may be just linked to our own timing of our own funds. Yeah, I would take that with a pinch of salt. In any event, for fundraising, you have to look at overall longer period than just six months or one year. At the end of the day, what really matters is, you know, even if it takes a bit longer to raise, do you get to the end result that you were expecting or not?
I still think, by the way, that, yes, obviously, as you're getting into 2023, some have new budgets to spend into 2023 because that's how they organize. Overall, I still expect the environment to remain more difficult than it was a year ago, where, I mean, there was, you know, so much capital being invested that we were hitting, you know, historical highs. I still expect 2023 to be more subdued. Having said that, we are in a position where, you know, we're fortunate that the main funds we have in the market are more debt or real assets fund which happen to resonate right now with LPs. It's certainly more difficult if you are going out with a pure plain vanilla private equity fund.
Even then, you know, there is fundraising happening and we don't have pure private equity fund, but there is raising for those. I mean, you know, they're still raising the market. The market hasn't stopped. I'm sorry, and importantly, I mean, I mentioned that during the presentation, but that's a really important one because if you're thinking about, you know, our industry, in a sense, the current environment is important, but it's not terribly important. What really matters is the long term. The real question is, long term, you know, are we seeing a shift in our investors' approach to alternatives? The answer is clearly no, at least that's the answer from CIOs.
That's from, you know, whether it's insurance, whether it's sovereign wealth fund, whether it's pension funds, and pension fund is mostly the large U.S. pension funds, you know, they're still on a path to increase allocations to alternatives, and for some, quite meaningfully. Because for some, they have a 10-year target of increasing by 5%-10% their allocation, and that's very significant capital that will therefore move into the space. On deployment, yes, you're right. There's a balance between, you know, lack of debt, scarcity of debt in the system and overall lower deal flow. Having said that, if you think about it, you know, what we are seeing today is private equity sponsor need significant amounts of financing.
In addition to there are still a few new transactions getting done, right? The market hasn't stopped. You know, setting aside the new transaction, if you think about it, private equity sponsors today have a few difficulties they need to deal with. One is on their existing portfolio. Depending on where they see valuations evolving, they clearly need to at least protect, maybe enhance the valuation of their portfolio company. The only way to do that is to do accretive M&A. Take advantage of the market, you know, the current market environment to buy companies at a lower valuation level, and so average down their overall entry price for their deal. The only way to do that is you need financing for that.
You know, there's lack of financing so suddenly there's significant demand. We could deploy a large part of our direct lending fund just with these add-ons, given the demand there. There are also other situations. You know, private equity sponsors are also looking at returning capital to their LPs. I was mentioning how, you know, DPI is important. Now, we happen to have very strong DPI numbers. We're top decile for many of our funds. That's not necessarily the case for all private equity sponsors.
As they are going out to fundraise, it's not uncommon for LPs to say, "Yes, I'm interested in your fund, but can I please see a little bit of return on capital from the previous vintages?" You know, in the current market, unless, you know, if they don't want to exit deals because, you know, they don't like the current valuations, they don't have that many options. I mean, either they do some sort of recap, and they need financing for that, or they try to roll the asset, and they do a continuation deal, which is good for our Strategic Equity strategy, which is why that strategy is also thriving.
Overall, the net balance of all that is, yes, there's less traditional buyout deal flow, but the demand for financing has actually increased, and there's a lot less competition, 'cause the banks are not there, public markets are not there. Even in private markets, there are a number of players who find themselves with much lower capacity because the bulk of their AUM was in evergreen vehicles, and these are essentially frozen because they need to get money back in order to lend again and no money's coming back. Even in private markets, you're seeing that capacity has shrunk. If you have dry powder right now, you're in a very, very strong position. It's true for every debt, by the way.
It's true for senior debt, it's true for subordinated debt, and it's true for alternatives to financing, such as sale and leaseback. Yeah. Same observations.
Hi, morning. It's David McCann from Numis. There's a slide in the appendix, I think a couple on from this, where you've kind of got the expected returns and the various assets. I don't know if you can get that up on the screen. I think it's what - y eah, that. That, yeah. That one, yeah. I mean, obviously in the current environment, I mean, you talked about the denominator effect and some shorter- term issues around, you know, fundraising. Just thinking about if LPs are seeing this as the opportunity set where they can invest within at least your strategy within private market and what they might realistically achieve.
I mean, are you having conversations about do these kind of return expectations still stack up compared, you know, now that they do have some kind of nominal return from a fixed income, let's call it 4%-7%, or, you know, public equity is at pretty low valuations? You know, are these still kind of competitive return expectations for LPs? That's, I guess, first part of that linked to that slide. Secondly, I guess, how realistic is it to expect that those kind of returns that you have on that slide are achievable on a five or 10-year basis, given all the stresses that are out there in the system? Yeah. Can companies really deliver these, you know, kind of EBITDA growth needed to kind of generate these returns?
Just thoughts on that would be very useful. I do have another question.
Okay.
Get there first.
There's a lot there to unpack, but yeah. I mean, you have to, you know, break it down by strategy. For debt strategies, there's no debate because debt strategies, the returns have just gone up to levels that either have never been reached before for senior debt or haven't been reached in a really, really long time. Actually, if anything, the returns have gone up. Okay? Actually, that's what we're indicating to our LPs. Senior debt, we've increased the target return for our senior debt fund because now you're generating double-digit return on senior debt with no leverage. In terms of investor appetite, it's going the other way. For the first time, we're having investors who are interested in direct lending because it is generating double-digit return. Yeah.
The impact actually goes the other way, and there's greater appetite because you're suddenly hitting returns that you couldn't achieve before. Sub debt now is well north of 15%. We're actually seeing things where it's edging towards 20% with some combination of warrants and PIK. That hasn't happened. I think the last time we did a deal like that was in 2005, okay? The market started degrading. You know, right now it's, you know, for investors, it's actually a really interesting window of opportunity. It will last as long as this cycle lasts. I don't think it will, you know, it's only a window. It will revert back to more normal levels at some point. Right now that's an unusually high opportunity.
Where your question is very valid is on equity, but we don't have pure equity strategies. In equity, the question is can you still generate whatever, you know, let's say 25% for a traditional private equity fund in the next few years? Well, yes, but that will require valuations to adjust and they haven't yet. Of course it will happen, but I'm not sure. I think it's still early for the equity cycle. For instance, in real assets we've already seen it. Infrastructure equity deals are now being priced to generate north of 15%. Nine months ago they were being priced to generate 11%, 12%. Okay?
The asset classes are moving with the, you know, general market environment. It does mean that, you know, not every company will be able to support this sort of debt service, you know, in transactions. You're narrowing down the pool of potential transactions to highly cash flow generative businesses that can support that. These are the type of businesses we liked anyway in order to do buyouts, so that it shouldn't come as much of a surprise. It means lower leverage. It should mean lower valuations for equity sponsors. Does that answer your question on this?
Certainly food for thought. Thank you for the color there. The final question, a nice segue actually on to valuations, you know, accepting the very reasonable point you made earlier that, you know, for yourselves and indeed for LPs, the, you know, shorter-term mark-to-market.
Yeah.
How you're valuing the positions in the portfolios, does that really matter versus, you know, what you actually sell them for?
Yeah.
The dividends and coupons you take out on the way through, that's what arguably does matter.
Mm-hmm.
Are you getting any kind of pushback from the valuations that you are presenting, the short-term valuation you're presenting to investors? You mentioned the denominator effect being sort of a symptom of this as well, that, you know, people are saying that if equity, public equity is down 20%, fixed income down double digits of %, and then you're presenting them figures that are essentially flat. Do you get pushback on that? Is it - yeah.
In our case, not really. We have the luxury of not having pure equity strategies, right? Even our European Corporate Fund, which is the one that has in a sense the most equity exposure, it's 3/4 debt, okay? That's giving you a big cushion 'cause that's not moving, it's just accruing with interest. That puts us in a more comfortable position to take more conservative views on equity. As a result, we have no questions from LPs on that.
I don't know of an exception, but almost principle, when we have a transaction that we share with another private equity sponsor, where we have a minority position in a deal that's owned by a private equity sponsor, our mark is always lower than theirs, almost as a matter of principle, sometimes meaningfully so. Again, we can. It doesn't mean we're right, by the way. Again, we can take that view because we've got so much of a debt cushion to absorb that in our overall fund performance. You know, that's what you're seeing today. The other thing that you're seeing today, which is why the answer to that is not so easy. By and large, take the overall private equity world. By and large, valuations haven't moved very much, okay?
Except for people who are heavily in tech and because that was difficult not to. Overall, valuations haven't moved very much. There's a reason for that, is that the performance of portfolio companies has remained incredibly strong. That's, I mean, you know, it changes, you know, by manager. Overall in the market, that's been the case. You've seen our numbers, and they're in the mid-teens, the EBITDA growth. You know, if you're being prudent and essentially you don't move your NAV, what you're doing is you're implicitly lowering the EBITDA multiple for the valuation of these businesses because they keep on growing.
That's why it's not so easy right now to say, well, they must be overvalued, because given that, you know, the performance, the cash flow generation of these business, including in 2022, you know, you are easing down the implied valuation. It'll be interesting to see into next year. Again, for us, we're much less exposed to that. You know, it's an easier debate. No, I mean, with L.P.s, I mean, they're interested in our view precisely because, in a sense, we're unbiased. They're interested in our view on the market and how we view general valuations because they're also trying to form their view.
When there's a discussion, it's because we share a deal with another sponsor and they're asking us why we're marking it at a lower level than they are, and that's a discussion. Yeah.
There are no other questions in the room. There are a couple of questions coming online. Vijay, first for you, any comments you have around the outlook for H2 and beyond for CLO dividends and for performance fees?
Sure. On CLO dividends, we are not seeing anything that shows any deterioration in terms of the credit quality of the CLO portfolios yet. Our outlook remains pretty much in line with prior years. In respect of performance fees, just as a backdrop, the way we recognize performance fees, a very conservative approach, we tend to look at two years out from a given period and see which particular funds would actually exceed the threshold, and that assessment is done at an asset level in an aggregate basis, and where we see realization forecast for those assets. Now, given the low velocity of investment activities that we've touched on earlier, we expect a slowdown in realizations, and therefore a lower performance fees compared to recent periods.
However, the key to recognizing respective performance is two things. First of all that's happening is pushing out when we'll be able to recognize performance fees. On an absolute basis, we would still expect to generate what we had envisaged for a particular fund, given the returns that we sort of tend to target. The second thing is it's important to look at the performance fee profile over a medium term rather than a point in time. You should think about performance fees over a typical fund life cycle. We expect to be in the region of our guidance of 10%-15% of third-party fee income.
If you're thinking performance fee, you know, the key question is, are you at risk of having a lost vintage, essentially? You know, you have a crisis vintage.
Yeah.
It can happen. By the way, long-term, typically LPs look through that, but that's the question. In our case, that's not the case. I mean, I discussed, you know, for the larger, you know, European strategy, the various sequences of vintages, but, you know, our, you know, Europe 6 has already triggered carried interest. It's generated 1.7x, as I mentioned. Europe 7, which could be the one where you say, "Well, you know, that could be the one that is, you know, the lost vintage is the one that, you know, that is, you know, hits the cycle in full." Because of what we've already returned, actually, the probability of not triggering performance fees has become incredibly low on this one just because of how much performance we've already anchored up to today.
That's how, you know, looking at it. You know, you need to look at by fund by funds. The ones that tend to generate the most performance fees, Strategic Equity, it doesn't really, you know, follow exactly the cycle because it comes in at significant discounts into deals, so it's a different dynamic. As a result, you shouldn't expect something there where you have a potential lost vintage. We have infra, but infra actually is the other way.
Infra, we didn't mention it, but this is one where we haven't taken uplifts in valuations, but in infra, we could because all of the renewable deals that we did pre the Ukraine crisis with assumptions on energy prices that were way lower, all of these deals could be marked up significantly. We already know that vintage is going to be a great vintage as we get into the future. If you look at this, to Vijay's point, then there's a question of timing. Fundamentally, in terms of performance fee generation from these vintages over time, you know, there's nothing that tells us that, you know, we should revisit downward our, you know, medium-long-term expectations at all.
Thank you. You mentioned that you had a number of things planned in real estate, which you obviously mentioned beforehand. Do the current market conditions extend the time horizon? How should we think about ICG's plans in real estate in coming periods?
If the question is about, you know, fundraising timing, yeah, I think the answer is yes, but that's true everywhere. I think, you know, the fundraising environment is more difficult. We've discussed some of the constraints that LPs have to deal with. You have to anticipate that, you know, fundraising will take longer for any fund. Again, as I said, it matters and it doesn't really matter. In the end, it's the ultimate outcome that really matters. That will be particularly difficult for new strategies. We have to acknowledge that. Which, by the way, doesn't mean that we're not going to be launching new strategies. We are because you're putting a stake in the ground.
They're always difficult, uh, but they're going to be more difficult in this environment. That's okay. We'll just, you know, we'll take a bit longer, uh, for these, uh, for these strategies.
Finally, the last question online. Do you have any commentary around your geographic and sector exposures specifically? You mentioned we weren't in tech. Do you have any commentary on where our funds are exposed geographically and sectorally?
Yeah, I mean, it hasn't changed very much. I think we've mentioned that in the past, certainly during COVID. We're not exposed to tech at all. We don't do tech. We have significant exposure to healthcare. We have exposure to education. We have some exposure to software, but these are services like accounting software services. We tend to have exposure to areas that are resilient. It's, you know, it's not foresight. It's because that's structurally the nature of transactions that fit in well with, you know, with levered deals. Infrastructure services, also we have significant exposure to infrastructure services. You know, people who lay fiber in the ground. That's very long, long-term contracts, long-term visibility.
Geographically, I mean, our funds, most of our funds have a geographic focus. There are a few exceptions, but by and large, LPs prefer to have geographic focus for funds. In sub-debt and equity, we have a European fund, we have an Asian fund, we have a U.S. fund, and so they're exposed to their local markets. Within that question, because we've had it from LPs, there's a question about exposure to the U.K., by the way. I mean, we have some exposure to the U.K. within our European portfolios, but typically, for instance, France is a bigger market for us than the U.K., has always been, Germany as well.
We have some, but it's not an overly significant exposure. Incidentally, where we are invested in the U.K., I'm very confident. I mean, we're invested in education. We've been investing in on the staycation scene, which benefits from, you know, lower pound and particularly from Brexit. Actually the areas that we've invested in, I'm quite confident, you know, are very attractive areas. I keep having this discussion with LPs, regardless of the up and downs of potentially politics here, you know, there's still some really attractive opportunities in the U.K. market.
Perfect. Well, there are no more questions online. If there are no more in the room, thank you all very much for attending today.
Thank you.