HAMILTON LANE INCORPORATED The following information should be read in conjunction with our unaudited condensed consolidated financial statements and the notes thereto included in this Form 10-Q, and our audited financial statements, notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations included in our 2022 Form 10-K for a more complete understanding of our financial position and results of operations.
The following discussion may contain forward-looking statements that reflect our
plans, estimates and beliefs. Our actual results could differ materially from
those discussed in these forward-looking statements. Investors should review the
"Cautionary Note Regarding Forward-Looking Information" above and the "Risk
Factors" detailed in Part I, Item 1A of our 2022 Form 10-K for a discussion of
those risks and uncertainties that have the potential to cause actual results to
be materially different. Our results of operations for interim periods are not
necessarily indicative of results to be expected for the full year or for any
other period. Unless otherwise indicated, references in this Form 10-Q to fiscal
2022 and fiscal 2021 are to our fiscal years ended
Business OverviewWe are a global private markets investment solutions provider and operate our business in a single segment. We offer a variety of investment solutions to address our clients' needs across a range of private markets, including private equity, private credit, real estate, infrastructure, natural resources, growth equity, venture capital and impact. These solutions are constructed from a range of investment types, including primary investments in funds managed by third-party managers, direct investments alongside such funds and acquisitions of secondary stakes in such funds, with a number of our clients utilizing multiple investment types. These solutions are offered in a variety of formats covering some or all phases of private markets investment programs:
•Customized Separate Accounts: We design and build customized portfolios of
private markets funds and direct investments to meet our clients' specific
portfolio objectives with regard to return, risk tolerance, diversification and
liquidity. We generally have discretionary investment authority over our
customized separate accounts, which comprised approximately
•Specialized Funds: We organize, invest and manage specialized primary,
secondary and direct investment funds. Our specialized funds invest across a
variety of private markets and include equity, equity-linked and credit funds
offered on standard terms as well as shorter duration, opportunistically
oriented funds. We launched our first specialized fund in 1997. Since then, our
product offerings have grown steadily and now include evergreen offerings that
invest primarily in secondaries and direct investments in equity and credit and
are available to certain high-net-worth individuals. Specialized funds comprised
approximately
•Advisory Services: We offer investment advisory services to assist clients in
developing and implementing their private markets investment programs. Our
investment advisory services include asset allocation, strategic plan creation,
development of investment policies and guidelines, the screening and
recommending of investments, legal negotiations, the monitoring of and reporting
on investments and investment manager review and due diligence. Our advisory
clients include some of the largest and most sophisticated private markets
investors in the world. We had approximately
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--------------------------------------------------------------------------------•Distribution Management: We offer distribution management services to our clients through active portfolio management to enhance the realized value of publicly traded stock they receive as distributions in-kind from private equity funds.
•Reporting, Monitoring, Data and Analytics: We provide our clients with
comprehensive reporting and investment monitoring services, usually bundled into
our broader investment solutions offerings, but also on a stand-alone,
fee-for-service basis. We also provide comprehensive research and analytical
services as part of our investment solutions, leveraging our large, global,
proprietary and high-quality database for transparency and powerful analytics.
Our data, as well as our benchmarking and forecasting models, are accessible
through our proprietary technology solution,
Our client and investor base is broadly diversified by type, size and geography.
Our client base primarily comprises institutional investors that range from
those seeking to make an initial investment in alternative assets to some of the
world's largest and most sophisticated private markets investors. As we offer a
highly customized, flexible service, we are equipped to provide investment
services to institutional clients of all sizes and with different needs,
internal resources and investment objectives. Our clients include prominent
institutional investors in
Key Financial and Operating MeasuresOur key financial measures are discussed below.
Revenues
We generate revenues primarily from management and advisory fees, and to a lesser extent, incentive fees.
Management and advisory fees comprise specialized fund and customized separate account management fees, advisory and reporting fees and distribution management fees.
Revenues from customized separate accounts are generally based on a contractual rate applied to committed capital or net invested capital under management. These fees often decrease over the life of the contract due to built-in declines in contractual rates and/or as a result of lower net invested capital balances as capital is returned to clients. In certain cases, we also provide advisory and/or reporting services, and, therefore, we also receive fees for services such as monitoring and reporting on a client's existing private markets investments. In addition, we may provide for investments in our specialized funds as part of our customized separate accounts. In these cases, we generally reduce the management and/or incentive fees on customized separate accounts to the extent that assets in the accounts are invested in our specialized funds so that our clients do not pay duplicate fees.
Revenues from specialized funds are based on a percentage of limited partners' capital commitments to, net invested capital or net asset value in, our specialized funds. The management fee during the commitment period is often charged on capital commitments and after the commitment period (or a defined anniversary of the fund's initial closing) is typically reduced by a percentage of the management fee for the preceding year or charged on net invested capital. In the case of certain funds, we charge
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--------------------------------------------------------------------------------management fees on capital commitments, with the management fee increasing during the early years of the fund's term and declining in the later years. Management fees for certain funds are discounted based on the amount of the limited partners' commitments, whether the limited partners commit early in the offering period or if the limited partners are investors in our other funds.
Revenues from advisory and reporting services are generally annual fixed fees, which vary depending on the services we provide. In limited cases, advisory service clients are charged basis point fees annually based on the amounts they have committed to invest pursuant to their agreements with us. In other cases where our services are limited to monitoring and reporting on investment portfolios, clients are charged a fee based on the number of investments in their portfolio.
Distribution management fees are generally earned by applying a percentage to AUM or proceeds received. Certain active management clients may elect a fee structure under which they are charged an asset-based fee plus a fee based on net realized and unrealized gains and income net of realized and unrealized losses.
Incentive fees comprise carried interest earned from our specialized funds and certain customized separate accounts structured as single-client funds in which we have a general partner commitment, and performance fees earned on certain other customized separate accounts.
For each of our secondary funds, direct investment funds, strategic opportunity funds and evergreen funds, we generally earn carried interest equal to a fixed percentage of net profits, usually 10.0% to 12.5%, subject to a compounded annual preferred return that is generally 6.0% to 8.0%. To the extent that our primary funds also directly make secondary investments and direct investments, they generally earn carried interest on a similar basis. Furthermore, certain of our primary funds earn carried interest on their investments in other private markets funds on a primary basis that is generally 5.0% of net profits, subject to the fund's compounded annual preferred return.
We recognize carried interest when it is probable that a significant reversal will not occur. The primary contingency regarding incentive fees is the "clawback," or the obligation to return distributions in excess of the amount prescribed by the applicable fund or separate account documents. Incentive fees are typically only required to be returned on a net of tax basis due to a clawback. As such, the tax-related portion of incentive fees is typically not subject to clawback and is therefore recognized as revenue immediately upon receipt. In the event that a payment is made before it can be recognized as revenue, this amount would be included as deferred incentive fee revenue on our Consolidated Balance Sheet and recognized as income in accordance with our revenue recognition policy.
Performance fees, which are a component of incentive fees, are based on the aggregate amount of realized gains earned by the applicable customized separate account, subject to the achievement of defined minimum returns to the clients. Performance fees range from 5.0% to 12.5% of net profits, subject to a compounded annual preferred return that varies by account but is generally 6.0% to 8.0%. Performance fees are recognized when the risk of clawback or reversal is not probable.
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--------------------------------------------------------------------------------Expenses
Compensation and benefits is our largest expense and consists of (a) base compensation comprising salary, bonuses and benefits paid and payable to employees, (b) equity-based compensation associated with the grants of restricted stock awards and (c) incentive fee compensation, which consists of carried interest and performance fee allocations. We expect to continue to experience a general rise in compensation and benefits expense commensurate with expected growth in headcount and with the need to maintain competitive compensation levels as we expand geographically and create new products and services.
Our compensation arrangements with our employees contain a significant bonus component driven by the results of our operations. Therefore, as our revenues, profitability and the amount of incentive fees earned by our customized separate accounts and specialized funds increase, our compensation costs rise.
Certain current and former employees participate in a carried interest program whereby approximately 25% of incentive fees from certain of our specialized funds and customized separate accounts are awarded to plan participants. We record compensation expense payable to plan participants as the incentive fees become estimable and collection is probable.
General, administrative and other includes travel, accounting, legal and other professional fees, commissions, placement fees, office expenses, depreciation and other costs associated with our operations. Our occupancy-related costs and professional services expenses, in particular, generally increase or decrease in relative proportion to the number of our employees and the overall size and scale of our business operations.
Other Income (Expense)
Equity in income (loss) of investees primarily represents our share of earnings from our investments in our specialized funds and certain customized separate accounts in which we have a general partner commitment. Equity income primarily comprises our share of the net realized and unrealized gains (losses) and investment income partially offset by the expenses from these investments.
We have general partner commitments in our specialized funds and certain
customized separate accounts that invest solely in primary funds, secondary
funds and direct investments, as well as those that invest across investment
types. Equity in income (loss) of investees will increase or decrease as the
change in underlying fund investment valuations increases or decreases. Since
our direct investment funds invest in underlying portfolio companies, their
quarterly and annual valuation changes are more affected by individual company
movements than our primary and secondary funds that have exposures across
multiple portfolio companies in underlying private markets funds. Our
specialized funds and customized separate accounts invest across industries,
strategies and geographies, and therefore our general partner investments do not
include any significant concentrations in a specific sector or area outside
Interest expense includes interest paid and accrued on our outstanding debt, along with the amortization of deferred financing costs, amortization of original issue discount and the write-off of deferred financing costs due to the repayment of previously outstanding debt.
Interest income is income earned on cash and cash equivalents.
Non-operating income (loss) consists primarily of gains and losses on certain investments, changes in liability under the tax receivable agreement and other non-recurring or non-cash items.
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--------------------------------------------------------------------------------Other income (expense) of consolidated Variable Interest Entities ("VIEs") consists primarily of the share of earnings of investments of consolidated general partner entities, which are not wholly-owned by us, in our specialized funds and certain customized separate accounts in which they have a general partner commitment and changes in fair value of liabilities of our sponsored special purpose acquisition company ("SPAC").
Income Tax Expense
We are a corporation for
Non-controlling interests
Non-controlling interests reflect the portion of income or loss and the corresponding equity attributable to third-party equity holders and employees in certain consolidated subsidiaries that are not 100% owned by us. Non-controlling interests are presented as separate components in our consolidated statements of income to clearly distinguish between our interests and the economic interests of third parties and employees in those entities.
Fee-Earning AUM
Fee-earning AUM is a metric we use to measure the assets from which we earn management fees. Our fee-earning AUM comprise assets in our customized separate accounts and specialized funds from which we derive management fees that are generally derived from applying a certain percentage to the appropriate fee base. We classify customized separate account revenue as management fees if the client is charged an asset-based fee, which includes the majority of our discretionary AUM accounts but also includes certain non-discretionary AUA accounts. Our fee-earning AUM is equal to the amount of capital commitments, net invested capital and net asset value ("NAV") of our customized separate accounts and specialized funds depending on the fee terms. Substantially all of our customized separate accounts and specialized funds earn fees based on commitments or net invested capital, which are not affected by market appreciation or depreciation. Therefore, revenues and fee-earning AUM are not significantly affected by changes in market value.
Our calculations of fee-earning AUM may differ from the calculations of other asset managers, and as a result, this measure may not be comparable to similar measures presented by other asset managers. Our definition of fee-earning AUM is not based on any definition that is set forth in the agreements governing the customized separate accounts or specialized funds that we manage.
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