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Morgan Stanley | RESEARCH
NORTH AMERICA INSIGHT

Downside Scenario

Our downside scenario is fairly straightforward: We assume that alts convert to C-corps and pay full taxes on earnings but the current p/e multiple does not re-rate upward at all. We assume the stocks trade at their current P/E, but on lower, fully taxed earnings. Therefore, our downside case for share prices is the same percentage downside to EPS if alts earnings are fully taxed. While we do not believe there is a high probability of this happening, this does represent a worst case scenario for the names, in our view. On average we see 18% potential downside for the group if this were to happen. We then use a similar approach to deconstruct the SOTP and see what the value for performance fees would be.

• First, we determine the downside case share price by taking fully taxed 2018e EPS (at 24%) and multiplying by the current 2018e P/E (the current P/E using our published EPS and current partnership tax structure).
• In the SOTP, we assume that fee-related earnings multiples do not re-rate at all in the downside scenario and that the market continues to pay 15x. We believe there is a floor here in FRE will maintain current value.
• Similar to the upside case, we then fully tax effect the performance fee earnings and use a full 24% tax drag on the net accrued carry receivable balance and the future net carry per share.
• We then subtract out the value of the FRE, net accrued carry performance fees (tax adjusted) and the balance sheet value from our downside case derived share price. This gives us our downside case implied value of future carry.
• Finally, we divide that implied future carry value by our fully taxed performance fee earnings (@24%) to arrive at our downside case implied value of future carry. On average, our downside case implied future value of carry multiple is 5.6x, nearly 3 standard deviations away Goldman Sachs FY2 P/E.

Exhibit 29:
Downside Scenario SOTP Valuation

[Table Header Rows]
A B C D = B+C+D E F G H = I / G I = J-F-E J
Ticker Current Price 2018E Core FRE FRE Multiple Core FRE Value Per Share @ 24% tax Rate After-Tax BDC Value Per Share BS NAV Per Share SOTP Value Ex-Carry Per Share After-Tax Net Carry Receivable Per Share @24% Rate Net Carry Per Share After 24% Tax (Avg. 2018-2020e) Implied Future Carry Multiple Value of Future Carry Implied Total Value Per Share % Increase from Current Price

[Table Data]
APO $36.42 669 15.0x $18.94 $0.00 $2.72 $21.66 $1.64 $1.86 4.2x $7.91 $31.20 -14%
ARES $24.70 185 15.0x $9.81 $3.01 $0.69 $13.51 $0.78 $0.48 7.7x $3.65 $17.95 -27%
BX $36.78 1,196 15.0x $11.36 $0.00 $2.83 $14.19 $2.29 $1.57 8.3x $13.04 $29.51 -20%
CG $25.60 100 15.0x $3.34 $0.00 $0.85 $4.19 $4.40 $2.17 6.9x $15.03 $23.62 -8%
KKR $24.40 475 15.0x $6.38 $0.00 $9.71 $16.09 $1.32 $0.71 2.5x $1.80 $19.21 -21%
OAK $45.20 166 15.0x $12.11 $0.00 $15.19 $27.30 $4.38 $1.68 4.0x $6.71 $38.39 -15%

Average 5.6x -18%
Median 5.6x -17%

Source: Company Data, Morgan Stanley Research estimates

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