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APO > SEC Filings for APO > Form 10-Q on 12-Nov-2013All Recent SEC Filings

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Form 10-Q for APOLLO GLOBAL MANAGEMENT LLC


12-Nov-2013

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with Apollo Global Management, LLC's condensed consolidated financial statements and the related notes included within this Quarterly Report on Form 10-Q. This discussion contains forward-looking statements that are subject to known and unknown risks and uncertainties. Actual results and the timing of events may differ significantly from those expressed or implied in such forward-looking statements due to a number of factors, including those included in the section entitled "Risk Factors" in our Form 10-K for the year ended December 31, 2012 filed with the SEC on March 1, 2013. The highlights listed below have had significant effects on many items within our condensed consolidated financial statements and affect the comparison of the current period's activity with those of prior periods.

General
Our Businesses
Founded in 1990, Apollo is a leading global alternative investment manager. We are contrarian, value-oriented investors in private equity, credit and real estate with significant distressed expertise and a flexible mandate in the majority of our funds that enables our funds to invest opportunistically across a company's capital structure. We raise, invest and manage funds on behalf of some of the world's most prominent pension, endowment and sovereign wealth funds as well as other institutional and individual investors. Apollo is led by our Managing Partners, Leon Black, Joshua Harris and Marc Rowan, who have worked together for more than 20 years and lead a team of 691 employees, including 274 investment professionals, as of September 30, 2013.
Apollo conducts its management and incentive businesses primarily in the United States and substantially all of its revenues are generated domestically. These businesses are conducted through the following three reportable segments:
(i) Private equity-primarily invests in control equity and related debt instruments, convertible securities and distressed debt instruments;

(ii) Credit-primarily invests in non-control corporate and structured debt instruments; and

(iii) Real estate-primarily invests in real estate equity for the acquisition and recapitalization of real estate assets, portfolios, platforms and operating companies, and real estate debt including first mortgage and mezzanine loans, preferred equity and commercial mortgage backed securities.

These business segments are differentiated based on the varying investment strategies. The performance is measured by management on an unconsolidated basis because management makes operating decisions and assesses the performance of each of Apollo's business segments based on financial and operating metrics and data that exclude the effects of consolidation of any of the affiliated funds. Our financial results vary since carried interest, which generally constitutes a large portion of the income we receive from the funds that we manage, as well as the transaction and advisory fees that we receive, can vary significantly from quarter to quarter and year to year. As a result, we emphasize long-term financial growth and profitability to manage our business.
In addition, the growth in our fee-generating AUM during the last year has primarily been in our credit segment. The average management fee rate for these new credit products is at market rates for such products and in certain cases is below our historical rates. Also, due to the complexity of these new product offerings, the Company has incurred and will continue to incur additional costs associated with managing these products. To date, these additional costs have been offset by realized economies of scale and ongoing cost management. As of September 30, 2013, approximately 94% of our total AUM was in funds with a contractual life at inception of seven years or more, and 10% of our total AUM was in permanent capital vehicles with unlimited duration.
As of September 30, 2013, we had total AUM of $112.7 billion across all of our businesses. On June 28, 2013, Apollo held a first closing of more than $6.6 billion for its newest flagship private equity fund, Apollo Investment Fund VIII, L.P. ("Fund VIII"), and as of November 7, 2013, Apollo has received commitments of approximately $12 billion for Fund VIII. Additionally, Fund VII, held a final closing in December 2008, raising a total of $14.7 billion, and as of September 30, 2013, Fund VII had $3.5 billion of uncalled commitments, or "dry powder", remaining. We have consistently produced attractive long-term investment returns in our private equity funds, generating a 39% gross IRR and a 26% net IRR on a compound

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annual basis from inception through September 30, 2013. For further detail related to fund performance metrics across all of our businesses, see "-The Historical Investment Performance of Our Funds." Holding Company Structure
The diagram below depicts our current organizational structure:

[[Image Removed]]

Note: The organizational structure chart above depicts a simplified version of the Apollo structure. It does not include all legal entities in the structure. Ownership percentages are as of the date of the filing of this Quarterly Report on Form 10-Q.
(1) The Strategic Investors hold 31.32% of the Class A shares outstanding and 12.00% of the economic interests in the Apollo Operating Group. The Class A shares held by investors other than the Strategic Investors represent 29.91% of the total voting power of our shares entitled to vote and 21.58% of the economic interests in the Apollo Operating Group. Class A shares held by the Strategic Investors do not have voting rights. However, such Class A shares will become entitled to vote upon transfers by a Strategic Investor in accordance with the agreements entered into in connection with the investments made by the Strategic Investors.

(2) Our Managing Partners own BRH Holdings GP, Ltd., which in turn holds our only outstanding Class B share. The Class B share represents 70.09% of the total voting power of our shares entitled to vote but no economic interest in Apollo Global Management, LLC. Our Managing Partners' economic interests are instead represented by their indirect beneficial ownership, through Holdings, of 54.44% of the limited partner interests in the Apollo Operating Group.

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(3) Through BRH Holdings, L.P., our Managing Partners indirectly beneficially own through estate planning vehicles, limited partner interests in Holdings.

(4) Holdings owns 61.68% of the limited partner interests in each Apollo Operating Group entity. The AOG Units held by Holdings are exchangeable for Class A shares. Our Managing Partners, through their interests in BRH and Holdings, beneficially own 54.44% of the AOG Units. Our Contributing Partners, through their ownership interests in Holdings, beneficially own 7.24% of the AOG Units.

(5) BRH is the sole member of AGM Management, LLC, our manager. The management of Apollo Global Management, LLC is vested in our manager as provided in our operating agreement.

(6) Represents 38.32% of the limited partner interests in each Apollo Operating Group entity, held through intermediate holding companies. Apollo Global Management, LLC, also indirectly owns 100% of the general partner interests in each Apollo Operating Group entity.

Each of the Apollo Operating Group partnerships holds interests in different businesses or entities organized in different jurisdictions. Our structure is designed to accomplish a number of objectives, the most important of which are as follows:

                           We are a holding company that is qualified as a
                            partnership for U.S. Federal income tax purposes. Our
                            intermediate holding companies enable us to maintain
                            our partnership status and to meet the qualifying
                            income exception.


                           We have historically used multiple management
                            companies to segregate operations for business,
                            financial and other reasons. Going forward, we may
                            increase or decrease the number of our management
                            companies or partnerships within the Apollo Operating
                            Group based on our views regarding the appropriate
                            balance between (a) administrative convenience and
                            (b) continued business, financial, tax and other
                            optimization.

Business Environment
During the third quarter of 2013, global equity markets continued to rise while credit markets were generally flat and less volatile than the second quarter, as investors were encouraged by the U.S. Federal Reserve announcement to continue with its current pace of stimulus. Amid the favorable backdrop, Apollo continued to generate significant realizations for fund investors. Apollo returned $6.3 billion of capital and realized gains to the limited partners of the funds it manages during the third quarter of 2013. Apollo's fundraising activities also continued at a strong pace, with $4.0 billion of new capital raised during the third quarter as institutional investors continued to allocate capital towards alternative investment managers for more attractive risk-adjusted returns in a low rate environment.
Regardless of the market or economic environment at any given time, Apollo relies on its contrarian, value-oriented approach to consistently invest capital on behalf of its investors by focusing on opportunities that management believes are often overlooked by other investors. Apollo's expertise in credit and its focus on nine core industry sectors combined with more than 20 years of investment experience have allowed Apollo to respond quickly to changing environments. Apollo's core industry sectors cover chemicals, commodities, consumer and retail, distribution and transportation, financial and business services, manufacturing and industrial, media and cable and leisure, packaging and materials and the satellite and wireless industries. Apollo believes that these attributes have contributed to the success of its private equity funds investing in buyouts and credit opportunities during both expansionary and recessionary economic periods.
From the beginning of the third quarter of 2007 through September 30, 2013, we have deployed approximately $40.4 billion of gross invested capital across our private equity and certain credit funds focused on control, distressed and buyout investments, leveraged loan portfolios and mezzanine, non-control distressed and non-performing loans. In addition, from the beginning of the fourth quarter of 2007 through September 30, 2013, the funds managed by Apollo have acquired approximately $19.0 billion in face value of distressed debt at discounts to par value and purchased approximately $56.7 billion in face value of leveraged senior loans at discounts to par value from financial institutions. Since we purchased many of these leveraged loan portfolios from highly motivated sellers, we were able to secure, in certain cases, attractive long-term, low cost financing.
Since the financial crisis in 2008, we have relied on our deep industry, credit and financial structuring experience, coupled with our strengths as a value-oriented, distressed investor, to deploy significant amounts of new capital within challenging economic environments. In addition, we actively work with the management of each of the portfolio companies of the funds we manage to maximize the underlying value of the business, including helping the companies to generate cost and working capital savings. We also rely on our deep credit structuring experience and work with management of the portfolio

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companies to help optimize the capital structure of such companies through proactive restructuring of the balance sheet to address near-term debt maturities or capturing discounts on publicly traded debt securities through exchange offers and potential debt buybacks. For example, as of September 30, 2013, Fund VI and its underlying portfolio companies purchased or retired approximately $20.6 billion in face value of debt and captured approximately $10.2 billion of discount to par value of debt in portfolio companies such as CEVA Logistics, Caesars Entertainment, Realogy and Momentive Performance Materials. Additionally, the portfolio companies of Fund VI have implemented approximately $3.9 billion of cost savings programs on an aggregate basis from the date Fund VI invested in them through September 30, 2013, which we believe will positively impact their operating profitability.
In certain situations, funds managed by Apollo are the largest owner of the total outstanding debt of the portfolio company. In addition to the attractive return profile associated with these portfolio company debt purchases, we believe that building positions as senior creditors within the existing portfolio companies is strategic to the existing equity ownership positions. During the recovery and expansionary periods of 1994 through 2000 and late 2003 through the first half of 2007, our private equity funds invested or committed to invest approximately $13.7 billion primarily in traditional and corporate partner buyouts. During the recessionary periods of 1990 through 1993, 2001 through late 2003 and the current recessionary and post recessionary periods (second half of 2007 through September 30, 2013), our private equity funds have invested $28.6 billion, of which $16.4 billion was in distressed buyouts and debt investments when the debt securities of quality companies traded at deep discounts to par value. Our average entry multiple for Fund VII, VI and V was 6.2x, 7.7x and 6.6x, respectively as of September 30, 2013. The average entry multiple for a private equity fund is the average of the total enterprise value over an applicable EBITDA which we believe captures the true economics for our funds' purchases of portfolio companies.

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Managing Business Performance
We believe that the presentation of Economic Net Income (Loss) supplements a reader's understanding of the economic operating performance of each of our segments.
Economic Net Income (Loss)
ENI is a measure of profitability and does not take into account certain items included under U.S. GAAP. ENI represents segment income (loss) attributable to Apollo Global Management, LLC, which excludes the impact of non-cash charges related to RSUs granted in connection with the 2007 private placement and amortization of AOG Units, income tax expense, amortization of intangibles associated with the 2007 Reorganization as well as acquisitions and Non-Controlling Interests excluding the remaining interest held by certain individuals who receive an allocation of income from certain of our credit management companies. In addition, segment data excludes the assets, liabilities and operating results of the funds and VIEs that are included in the condensed consolidated financial statements. Adjustments relating to income tax expense, intangible asset amortization and Non-Controlling Interests are common in the calculation of supplemental measures of performance in our industry. We believe the exclusion of the non-cash charges related to the 2007 Reorganization for equity-based compensation provides investors with a meaningful indication of our performance because these charges relate to the equity portion of our capital structure and not our core operating performance.
During the second quarter of 2013, monitoring fees based on Athene's capital and surplus and the change in the market value of the derivative contracts related to Athene's capital and surplus recorded in advisory and transaction fees from affiliates, as disclosed in Note 11 to the condensed consolidated financial statements, were reclassified from the private equity segment to the credit segment to better evaluate the performance of Apollo's private equity and credit segments in making key operating decisions. Reclassifications have been made to the prior period financial data for Apollo's reportable segments to conform to the current presentation. The impact of this reclassification on the ENI for the private equity and credit segment is reflected in the table below for the three and nine months ended September 30, 2012:

                                                 Impact of Reclassification on
                                                   Economic Net (Loss) Income
                                               Private Equity
                                                  Segment          Credit Segment
For the three months ended September 30, 2012     $(3,698)             $3,698
For the nine months ended September 30, 2012      (10,020)             10,020

ENI is a key performance measure used for understanding the performance of our operations from period to period and although not every company in our industry defines these metrics in precisely the same way we do, we believe that this metric, as we use it, facilitates comparisons with other companies in our industry. We use ENI to evaluate the performance of our private equity, credit and real estate segments. Management also believes the components of ENI such as the amount of management fees, advisory and transaction fees and carried interest income are indicative of the Company's performance. Management also uses ENI in making key operating decisions such as the following:
Decisions related to the allocation of resources such as staffing decisions including hiring and locations for deployment of the new hires. As the amount of fees, investment income, and ENI is indicative of the performance of the management companies and advisors within each segment, management can assess the need for additional resources and the location for deployment of the new hires based on the results of this measure. For example, a positive ENI could indicate the need for additional staff to manage the respective segment whereas a negative ENI could indicate the need to reduce staff assigned to manage the respective segment.

                           Decisions related to capital deployment such as
                            providing capital to facilitate growth for our
                            business and/or to facilitate expansion into new
                            businesses. As the amount of fees, investment income,
                            and ENI is indicative of the performance of the
                            management companies and advisors within each
                            segment, management can assess the availability and
                            need to provide capital to facilitate growth or
                            expansion into new businesses based on the results of
                            this measure. For example, a negative ENI may
                            indicate the lack of performance of a segment and
                            thus indicate a need for additional capital to be
                            deployed into the respective segment.

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                           Decisions related to expenses, such as determining
                            annual discretionary bonuses and equity-based
                            compensation awards to its employees. With respect to
                            compensation, management seeks to align the interests
                            of certain professionals and selected other
                            individuals with those of the investors in such funds
                            and those of the Company's shareholders by providing
                            such individuals a profit sharing interest in the
                            carried interest income earned in relation to the
                            funds. To achieve that objective, a certain amount of
                            compensation is based on the Company's performance
                            and growth for the year.

ENI does not take into account certain items included when calculating net income under U.S. GAAP and as such, we do not rely solely on ENI as a performance measure and also consider our U.S. GAAP results. The following items, which are significant to our business, are excluded when calculating ENI:
(i) non-cash charges related to RSUs granted in connection with the 2007 private placement and amortization of AOG Units (although the costs associated with the 2007 private placement are expected to be recurring components of our costs but at a diminishing rate, we may be able to incur lower cash compensation costs with the granting of equity-based compensation);

(ii) income tax, which represents a necessary and recurring element of our operating costs and our ability to generate revenue because ongoing revenue generation is expected to result in future income tax expense;

(iii) amortization of intangible assets associated with the 2007 Reorganization and acquisitions, which is a recurring item until all intangibles have been fully amortized; and

(iv) Non-Controlling Interests excluding the remaining interest held by certain individuals who receive an allocation of income from certain of our credit management companies, which is expected to be a recurring item and represents the aggregate of the income or loss that is not owned by the Company.

We believe that ENI is helpful for an understanding of our business and that investors should review the same supplemental financial measure that management uses to analyze our segment performance. This measure supplements and should be considered in addition to and not in lieu of the results of operations discussed below in "-Overview of Results of Operations" that have been prepared in accordance with U.S. GAAP.
The following summarizes the adjustments to ENI that reconcile ENI to the net income (loss) attributable to Apollo Global Management, LLC determined in accordance with U.S. GAAP:

                           Inclusion of the impact of RSUs granted in connection
                            with the 2007 private placement and non-cash
                            equity-based compensation expense comprising
                            amortization of AOG Units. Management assesses our
                            performance based on management fees, advisory and
                            transaction fees, and carried interest income
                            generated by the business and excludes the impact of
                            non-cash charges related to RSUs granted in
                            connection with the 2007 private placement and
                            amortization of AOG Units because these non-cash
                            charges are not viewed as part of our core
                            operations.


                           Inclusion of the impact of income taxes as we do not
                            take income taxes into consideration when evaluating
                            the performance of our segments or when determining
                            compensation for our employees. Additionally, income
                            taxes at the segment level (which exclude APO Corp.'s
                            corporate taxes) are not meaningful, as the majority
                            of the entities included in our segments operate as
                            partnerships and therefore are only subject to New
                            York City unincorporated business taxes and foreign
                            taxes when applicable.


                           Inclusion of amortization of intangible assets
                            associated with the 2007 Reorganization and
                            subsequent acquisitions as these non-cash charges are
                            not viewed as part of our core operations.


                           Carried interest income, management fees and other
                            revenues from Apollo funds are reflected on an
                            unconsolidated basis. As such, ENI excludes the
                            Non-Controlling

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Interests in consolidated funds, which remain consolidated in our condensed consolidated financial statements. Management views the business as an alternative investment management firm and therefore assesses performance using the combined total of carried interest income and management fees from each of our funds. One exception is the Non-Controlling Interest related to certain individuals who receive an allocation of income from certain of our credit management companies, which is deducted from ENI to better reflect the performance attributable to shareholders.
ENI may not be comparable to similarly titled measures used by other companies and is not a measure of performance calculated in accordance with U.S. GAAP. We use ENI as a measure of operating performance, not as a measure of liquidity. ENI should not be considered in isolation or as a substitute for operating income, net income, operating cash flows, investing and financing activities, or other income or cash flow statement data prepared in accordance with U.S. GAAP. The use of ENI without consideration of related U.S. GAAP measures is not adequate due to the adjustments described above. Management compensates for these limitations by using ENI as a supplemental measure to U.S. GAAP results, to provide a more complete understanding of our performance as management measures it. A reconciliation of ENI to our U.S. GAAP net income (loss) attributable to Apollo Global Management, LLC can be found in the notes to our condensed consolidated financial statements.

Operating Metrics
We monitor certain operating metrics that are common to the alternative investment management industry. These operating metrics include Assets Under Management, private equity dollars invested and uncalled private equity commitments.
Assets Under Management
Assets Under Management, or AUM, refers to the investments we manage or with respect to which we have control, including capital we have the right to call from our investors pursuant to their capital commitments to various funds. Our AUM equals the sum of:
(i) the fair value of our private equity investments plus the capital that we are entitled to call from our investors pursuant to the terms of their capital commitments to the extent a fund is within the commitment period in which management fees are calculated based on total commitments to the fund;

(ii) the NAV of our credit funds, other than certain CLOs, which we measure by using the mark-to-market value of the aggregate principal amount of the underlying CLO and CDO credit funds that have a fee generating basis other than mark-to-market assets or liabilities, plus used or available leverage and/or capital commitments;

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