INITIATION | COMMENT JULY 24, 2012 Och-Ziff Capital Management Group (NYSE: OZM) Well Positioned for Growth Outperform Average Risk Price: 6.86 Shares O/S (MM): 414.2 Dividend: 0.37 Price Target: 10.00 Implied All-In Return: 51% Market Cap (MM): 2,841 Yield: 5.4% Priced as of market close July 24, 2012 ET. Investment Conclusion We believe that the hedge fund industry in general and Och-Ziff in particular is firmly situated to experience strong growth over the next few years. AUM growth should be driven mainly by inflows from pension funds and sovereign wealth funds. We believe that Och-Ziff, with its focus on institutional clients, is well positioned to capitalize on this opportunity. Attractive valuation coupled with favorable macro trends provide an interesting investment opportunity. We rate the shares of Och-Ziff Outperform for the following reasons: Och-Ziff could benefit from growing demand for absolute return strategies. We believe that Och-Ziff is well positioned to grow assets as alternative asset managers are becoming increasingly appealing to pension funds and other investors with a fixed-hurdle rate. There is demand for strategies that can produce positive returns in any market environment, while limiting downside risk. This is Och-Ziff’s forte. Increasing demand for global and local expertise should drive AUM growth. We believe that Och-Ziff’s global footprint will help the company attract assets. With investment teams in London, Hong Kong, Beijing, and Mumbai, Och-Ziff is better suited to explore regional opportunities than hedge funds that have either small or no international investment teams on the ground. Size does matter. We believe Och-Ziff will benefit from a bias toward large hedge funds. Investors should favour larger, more stable funds with proven track record. Consistent performance will become increasingly important. We expect established players such as Och-Ziff could benefit from strong inflows. We expect Och-Ziff to benefit from increasing demand for transparency. Clients want to understand their risk. As a publicly traded company, Och-Ziff has to comply with rules that privately owned hedge funds do not face. We believe that this is appealing to clients that have to adhere to heightened fiduciary duties such as pension funds, endowments, and foundations. Improved investment performance and the associated incentive fees might not be fully priced into the stock. We estimate that the market currently prices a 5% return for the full year while we project returns of about 8% for the year. We believe that current valuation is tainted by last year's weak performance. Priced as of prior trading day's market close, EST (unless otherwise noted). 125 WEEKS 12MAR10 - 23JUL12 8.00 10.00 12.00 14.00 16.00 18.00 M A M J J A S O N 2010 D J F M A M J J A S O N 2011 D J F M A M J J 2012 HI-30APR10 18.50 HI/LO DIFF -64.54% CLOSE 7.00 LO-01JUN12 6.56 10000 20000 30000 PEAK VOL. 41263.4 VOLUME 1566.0 60.00 80.00 100.00 120.00 Rel. S&P 500 HI-09APR10 120.19 HI/LO DIFF -65.48% CLOSE 41.57 LO-20JUL12 41.49 RBC Capital Markets, LLC Bulent Ozcan, CFA (Associate Analyst) (212) 863-4818; [email protected]Eric N. Berg, CPA, CFA (Analyst) (212) 618-7593; [email protected]Kenneth S. Lee (Associate) (212) 905-5995; [email protected]FY Dec 2010A 2011A 2012E 2013E Adj EPS - FD 1.13 0.48 0.70 1.16 P/AEPS 6.1x 14.3x 9.8x 5.9x Net Flows (B) 2.7 1.1 (0.3) 1.2 AUM (B) 27.9 28.8 30.8 36.2 Adj EPS - FD Q1 Q2 Q3 Q4 2010 0.12A 0.14A 0.13A 0.74A 2011 0.16A 0.16A 0.12A 0.04A 2012 0.13A 0.12E 0.12E 0.33E 2013 0.13E 0.13E 0.14E 0.76E Net Flows (B) 2010 1.0A 1.0A 0.2A 0.4A 2011 0.2A 0.8A 0.2A 0.0A 2012 (0.1)A (0.7)E 0.3E 0.3E 2013 0.3E 0.3E 0.3E 0.3E AUM (B) 2010 24.9A 25.5A 26.5A 27.9A 2011 29.0A 29.8A 28.8A 28.8A 2012 30.1A 29.3E 30.0E 30.8E 2013 32.1E 33.4E 34.8E 36.2E All values in USD unless otherwise noted. For Required Conflicts Disclosures, see Page 35.
Transcript
INITIATION | COMMENTJULY 24, 2012
Och-Ziff Capital Management Group (NYSE: OZM)
Well Positioned for Growth
OutperformAverage RiskPrice: 6.86
Shares O/S (MM): 414.2Dividend: 0.37
Price Target: 10.00Implied All-In Return: 51%Market Cap (MM): 2,841Yield: 5.4%
Priced as of market close July 24, 2012 ET.
Investment Conclusion
We believe that the hedge fund industry in general and Och-Ziff in particular isfirmly situated to experience strong growth over the next few years. AUM growthshould be driven mainly by inflows from pension funds and sovereign wealthfunds. We believe that Och-Ziff, with its focus on institutional clients, is wellpositioned to capitalize on this opportunity. Attractive valuation coupled withfavorable macro trends provide an interesting investment opportunity.
We rate the shares of Och-Ziff Outperform for the following reasons:
Och-Ziff could benefit from growing demand for absolute return strategies.We believe that Och-Ziff is well positioned to grow assets as alternative assetmanagers are becoming increasingly appealing to pension funds and otherinvestors with a fixed-hurdle rate. There is demand for strategies that can producepositive returns in any market environment, while limiting downside risk. This isOch-Ziff’s forte.
Increasing demand for global and local expertise should drive AUM growth.We believe that Och-Ziff’s global footprint will help the company attract assets.With investment teams in London, Hong Kong, Beijing, and Mumbai, Och-Ziff isbetter suited to explore regional opportunities than hedge funds that have eithersmall or no international investment teams on the ground.
Size does matter. We believe Och-Ziff will benefit from a bias toward largehedge funds. Investors should favour larger, more stable funds with proven trackrecord. Consistent performance will become increasingly important. We expectestablished players such as Och-Ziff could benefit from strong inflows.
We expect Och-Ziff to benefit from increasing demand for transparency.Clients want to understand their risk. As a publicly traded company, Och-Ziff hasto comply with rules that privately owned hedge funds do not face. We believethat this is appealing to clients that have to adhere to heightened fiduciary dutiessuch as pension funds, endowments, and foundations.
Improved investment performance and the associated incentive fees mightnot be fully priced into the stock. We estimate that the market currently prices a5% return for the full year while we project returns of about 8% for the year. Webelieve that current valuation is tainted by last year's weak performance.
Priced as of prior trading day's market close, EST (unless otherwise noted).
125 WEEKS 12MAR10 - 23JUL12
8.00
10.00
12.00
14.00
16.00
18.00
M A M J J A S O N2010
D J F M A M J J A S O N2011
D J F M A M J J2012
HI-30APR10 18.50HI/LO DIFF -64.54%
CLOSE 7.00
LO-01JUN12 6.56
10000
20000
30000
PEAK VOL. 41263.4VOLUME 1566.0
60.00
80.00
100.00120.00 Rel. S&P 500 HI-09APR10 120.19
HI/LO DIFF -65.48%
CLOSE 41.57
LO-20JUL12 41.49
RBC Capital Markets, LLC
Bulent Ozcan, CFA (Associate Analyst)(212) 863-4818; [email protected]
We are initiating coverage of Och-Ziff Capital Management Group with an Outperform, Average Risk
rating and a $10 price target. We believe that Och-Ziff, the only pure-play publicly traded hedge fund, will
benefit from an increased demand for alternative strategies. We expect assets under management to grow
7% in 2012 and 18% in 2013.
Our Outperform rating is based on the following expectations:
Och-Ziff could benefit from a growing demand for absolute return strategies. We believe that the hedge fund industry in general and Och-Ziff in particular will be able to capitalize on a trend towards allocating an increasing amount of capital to alternative strategies. We expect demand for investment products that provide strong, positive returns while limiting down-side risk to increase. This is Och-Ziff‘s sweet spot, and we would anticipate the company to gather additional assets as it continues to promote its value proposition. We believe that pension fund flows into hedge funds and other alternative asset classes could increase. Fund managers, in search for higher yields that allow them to meet their hurdle rates, will have to evaluate their traditional asset allocation strategies.
Hedge funds that can offer global and local expertise should attract a larger amount of assets. We believe that Och-Ziff, with investment teams in London, Hong Kong, Beijing, and Mumbai, is better suited to explore global opportunities than hedge funds that have either a few or no international offices. Local market knowledge and teams able to do due diligence on-site should generate superior performance. We also expect capital that was allocated to UCITS (Undertaking for Collective Investment in Transferable Securities) in Europe and Asia to return to traditional hedge funds as we expect UCITS to produce inferior investment results. We believe that Och-Ziff‘s global footprint will help the company attract assets.
We expect larger funds to attract the bulk of assets - size does matter. We believe Och-Ziff will benefit from bias toward large hedge funds. Investors should favour larger, more stable funds with proven track records. This should result in strong inflows to established players, such as Och-Ziff. Consistent performance will become increasingly important given the change in client base with pension funds increasing their allocation. We think that the Employee Retirement Income Security Act (ERISA) rules and plan asset regulations, which govern investments by pension funds, favour larger hedge funds, such as Och-Ziff. Size permits larger hedge funds to offer more strategies than smaller funds by utilizing a broader range of resources which should ultimately lead to better performance.
We expect Och-Ziff to benefit from increased demand for transparency. Clients increasingly want to understand their risk. As a publicly traded company, Och-Ziff has to comply with rules and regulations that privately owned hedge funds do not face. We believe that this is appealing to clients that have to adhere to heightened fiduciary duties such as pension funds, endowments, and foundations. There has been an ―institutionalization‖ in the hedge fund industry. With the importance of the high-net-worth client declining and more pension funds, endowments, and foundations allocating capital to hedge funds, risk management capabilities are becoming a key consideration when selecting funds. This is true especially with the backdrop of the financial crisis. Being a public company, Och-Ziff had to make risk management a priority. We believe that being compliant can provide additional comfort to potential investors. This should help attract assets.
Improved investment performance and the associated incentive fees might not be fully priced into
the stock. We estimate that the market currently prices a 5% return for full year 2012. We think that Och-Ziff will be able to generate returns of about 8% for the year. We arrive at our 5% implied performance estimate by referencing the current valuation of about $7. Historically, Och-Ziff has traded at a 5% discount the average P/E multiple of traditional asset managers. Assuming that this still holds true, one would expect Och-Ziff to earn about $0.50 for 2012 to justify current valuation. The company could get there if it generates performance of about 5%. So far, the performance has been north of 4.5% (9% annualized) and we believe that Och-Ziff can generate returns of close to 8% for 2012.
Och-Ziff Capital Management GroupJuly 24, 2012
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Company Overview
Och-Ziff Capital Management Group LLC is one of the larger institutional alternative asset managers in the
world with offices in New York, London, Hong Kong, Beijing, and Mumbai. Och-Ziff provides asset
management services to institutional investors globally through its hedge fund and other alternative
investment vehicles. Och-Ziff‘s funds seek to generate consistent, positive, absolute returns across market
cycles with low volatility compared to the equity markets, and with an emphasis on preservation of capital.
Och-Ziff‘s multi-strategy approach combines global investment strategies, including convertible and
derivative arbitrage, corporate credit, long and short equity special situations, merger arbitrage, private
investments, and structured credit.
Exhibit 1: Och-Ziff Snapshot
Och-Ziff
Headquarters New York, NY
Total AUM $30.1 bn
Major Brands Och-Ziff
% retail funds AUM rated 4-5
stars by Morningstarn/a
Signature Absolute return strategies
Source: Company filings; RBC Capital Markets
Valuation
We value Och-Ziff on a ―one plus a half‖ methodology, which is a deviation from the valuation approach
we have used for traditional asset managers. Under this method, earnings derived from asset management
fees are valued using a peer multiple, while earnings attributed to incentive income are valued at a discount.
Management fees earned by Och-Ziff are higher than that earned by traditional long only fund managers,
potentially justifying a premium to peer P/E multiples. However, we believe that lack of scale offsets the
benefits of higher fees. Thus, we are using the peer multiple to value peer asset management fees, as we do
not think higher fees would result in higher margins for Och-Ziff. We apply a 50% discount to earnings
related to incentive income. We believe a discount is justified as performance fees are more volatile than
management fees.
Our price target for Och-Ziff is $10. On average, Och-Ziff has traded at a 5% discount to traditional asset
managers. We arrive at our price target using a price-to-earnings multiple of 11.7x on 2013 estimated
management fee earnings of $0.54 per share. We value earnings based on management fees at $6.27.
Furthermore, we value incentive income based on a price-to-earnings multiple of 5.8x and 2013E incentive
income EPS of $0.63. The multiple of 5.8x represents a 50% discount to the management fee multiple. We
value earnings based on incentive income at $3.65 per share. The sum of the two valuations leads us to our
price target of $10 for Och-Ziff.
Och-Ziff Capital Management GroupJuly 24, 2012
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Ownership
Exhibit 2: Top 10 Holders
Source: FactSet
Ultimate Holder ('000) ($MM) % OS
Government of United Arab Emirates 38,139 269 27.3
Ziff Investment Management LLC 7,123 50 5.1
T. Rowe Price Associates, Inc. 4,826 34 3.4
Thornburg Investment Management, Inc. 4,200 30 3.0
Note: The Och-Ziff Multi-Strategy Composite (the “Multi-Strategy Composite”) is provided by the company as supplemental information to the Master Fund Composite. The Multi-Strategy Composite represents the composite performance of all accounts that were managed in accordance with a broad multi-strategy mandate since the company’s inception on April 1, 1994
Source: Company reports
The key takeaway is that Och-Ziff outperformed the S&P 500 index by 522 basis points since its inception
in 1994. However, it did this with only 36% of the volatility experienced by the S&P 500. Outperformance
with lower volatility should be attractive to pension funds. This is why we believe that pension plans
present an opportunity for Och-Ziff. These plans are fighting on various fronts to generate acceptable
returns; poor investment returns, low interest rates, and increasing longevity risk have increased pressure
on pension funds to consider all of the available options to improve returns. Citi Prime Finance Research
concludes that institutional pension fund allocation to alternative investments could grow from current
levels by 43% and could reach $1.4 trillion by 2016.
Citi‘s findings are consistent with work done by other researchers such as the 2012 SEI Global Hedge Fund
Survey. SEI‘s fifth annual global survey of institutional hedge fund investors shows that institutional
investors are increasing their allocation to hedge funds. Investors surveyed responded that they recognize
the advantages of being able to access high-level investment talent and unique investment strategies via
hedge fund investments. Some of the respondents even expressed the view that there has been ―brain
drainage‖ with hedge funds attracting the best and brightest. This should not come as a surprise since the
compensation structure is very attractive. Approximately 40% of the participants replied that they could not
meet their return objectives without allocating assets to hedge funds. Institutional clients, especially
pension funds, which have been extremely challenged in the current market environment to meet their
hurdle rates, should agree. Alternative assets will become more important in meeting future obligations.
Are there any alternatives for pension funds to investing in hedge funds?
We do not believe that there are many options available to most pension funds. In our view, the only other
solution available to pension fund sponsors would be to offload their pension liabilities, thereby giving up
control over the assets; General Motors has done just that. It eliminated its US-salaried pension obligations
by agreeing to pay a yet to be determined amount of $3.5 billion to $4.5 billion in cash for an immediate $1
billion underfunded relief. This transaction could result in a transfer of up to $29 billion in assets to
Prudential Financial, the counterparty of this transaction.
Och-Ziff Capital Management GroupJuly 24, 2012
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However, we would consider this transaction to be a one off for the following reasons. The current low
interest rate environment could increase pension fund liabilities, thereby making it unattractive for most
companies to defease the pension liability. We do not expect any changes in the short term. Given the
status of the economy and comments made by the Federal Reserve Bank, investors should brace themselves
for two years of low interest rates. Low interest rates mean that any company trying to do a similar
transaction would have to pay more than it would in a higher interest rate environment for the following
reason: cash outflows are discounted at low discount rates, resulting in higher liabilities than would be the
case if interest rates were higher. Thus, there should be few companies willing to do a similar transaction
and shed a few billion dollars in cash.
Furthermore, General Motor‘s pension obligation was well funded at 92%, which makes a pension-liability
transfer less painful. As a general rule, at a minimum, pension plans need to yield equal to the assumed
discount rate to meet future pension liability obligations. However, underfunded plans would need to earn a
return above the discount rate applied. We estimate that current return assumptions for most companies
vary from 7.5% to 8.5%. GM‘s return assumption was much lower than that at just 6.2%. Our analysis
indicates that the average pension fund is about 75% funded, i.e., there is only $0.75 of pension asset
available to support $1 of projected pension liability.
What does this mean for Och-Ziff? Low interest rates coupled with insufficient assets to meet future
obligations and the need to pay large sums of cash to an insurer to take on the pension obligations do not
make pension transfers a viable option for most pension fund sponsors. While a few potential candidates
might have the cash, most will want to retain the cash for business purposes. In our view, the only attractive
option to the pension plan sponsors is to invest in asset classes that should generate strong returns. This is
why we believe we are going to see an increased demand by pension funds for alternative assets, which
should benefit Och-Ziff based on its investment philosophy.
Hedge Funds that Can Offer Both Global and Local Expertise should Attract Larger Amount
of Assets
We believe that Och-Ziff, with investment teams in London, Hong Kong, Beijing, and Mumbai, is better
suited to explore regional opportunities than hedge funds that have either a few or no international offices.
Local market knowledge and teams able to do due diligence should result in superior performance. We also
expect capital that was allocated to UCITS (Undertaking for Collective Investment in Transferable
Securities) in Europe and Asia to return to traditional hedge funds. We believe that Och-Ziff‟s global
footprint will help the company attract assets.
Another avenue of AUM growth for Och-Ziff could come from investors in Europe and Asia. Reduced risk
appetite in Europe and Asia has resulted in outflows. Investors, concerned after the onset of the economic
crisis and shaken by events such as the Madoff scandal, have fled the hedge fund industry. Some of the
assets withdrawn have been re-allocated to more traditional asset classes while others have been re-directed
into other alternative products that provide more transparency and liquidity than traditional hedge funds,
such as mutual funds that mimic hedge funds and alternative UCITS (Undertaking for Collective
Investment in Transferable Securities).
Och-Ziff was not immune to this development, which resulted in a decline in AUM and a shift in the mix of
Och-Ziff‘s investor base by geography.
Consider that in 2008 and 2009, Och-Ziff experienced total outflows of $8.8 billion combined. Assets
under management shrank to $23 billion in 2009 from $33 billion in 2007. Outflows could have accelerated
by the fact that, unlike other hedge funds, Och-Ziff did not suspend or restrict redemptions in 2008 and
2009. It maintained its one-year lock-up period, and anyone wanting to withdraw funds within the lock-up
period could do so by paying a penalty, and no gate provisions were enacted based on a conversation that
we had with management.
While we believe that outflows at Och-Ziff were broadly based in 2008 and 2009, it is safe to assume that
the company has seen disproportionately high outflows of non-North American assets after 2009. While in
2009, European and Asian investors contributed 43% to total assets under management, their contribution
has declined to 28% of total assets as of the first quarter of 2012. Expressed in absolute dollar terms, its
holdings shrank to $8.4 billion by the first quarter of 2012 from $9.9 billion in 2009.
Och-Ziff Capital Management GroupJuly 24, 2012
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This does not seem to be an Och-Ziff specific event. Based on a report published by Towers Watson in
2012 titles Hedge Fund Investing – Opportunities and Challenges, European investors contributed
lopsidedly to the $300 billion of global outflows for hedge fund industry in 2008 and 2009. Where did the
capital move? We believe that investors allocated their assets to traditional asset classes, ETFs, and
alternative UCITS if they wanted to have exposure to hedge funds. A research report by Alix Capital, a
Geneva-based provider of alternative UCITS indices, indicated that AUM of UCITS hedge funds increased
375% from March 2009 to the first quarter of 2012.
UCITS are open-ended retail investment funds that can be distributed throughout the European Economic
Area. These funds address concerns that investors had post-financial crisis. The UCITS regulations set by
the European Union (EU) established uniformity in regulations, no matter in which EU country the fund is
domiciled. The transparency, liquidity, and regulatory oversight required to be a UCITS helped fund
sponsors gather assets. One of the features that make this product appealing to these investors is that a
UCITS must redeem its units at the request of the unit holder, with the minimum frequency being at least
twice a month. A UCITS can only have a gate of 20% maximum per month.
Not only have European investors shown interest in alternative UCITS but also Asian investors. We believe
that investors were attracted to them because UCITS are tightly controlled—our thinking is that this
product provides added transparency, liquidity, diversification, and risk control when compared to a
traditional hedge fund. Based on a survey released by Naisscent Capital in late 2011, the number of
alternative UCITS funds available had exceeded 1,000 at the time the research was published, with 65% of
these funds being launched after the 2008 financial crisis. Other research published by Towers Watson in
2012 titled Hedge Fund Investing indicated that the UCITS market had grown to about €5.6 trillion in
2011. About $115 billion of AUM was invested in alternative UCITS.
How will this trend benefit Och-Ziff?
We believe that assets invested in UCITS will eventually find their way back to traditional hedge funds.
The advantages of having daily and weekly liquidity should be more than offset by the investment
limitations imposed by the UCITS structure. Constraints on concentration and leverage limits effectively
reduce the opportunity to add value. And not every hedge fund is willing to set up a UCITS structure. Some
of the better performing investment strategies might not be available to investors who use UCITS
exclusively.
We believe that UCITS will most likely underperform traditional hedge funds. Investors that are
disappointed by the performance of UCITS could reallocate assets to traditional hedge fund managers such
as Och-Ziff. Likewise, investors who had allocated assets to other asset classes could increase their risk
appetite and allocate assets to hedge funds in order to improve investment performance. There could be
about $200 billion in assets that hedge funds could attract, if we were to assume that two-thirds of the $300
billion of outflows the hedge fund industry experienced in 2008 and 2009 should be re-allocated to hedge
funds.
European and Asian markets present growth opportunities for years to come for Och-Ziff and other hedge
funds. While Och-Ziff does not deal with retail investors, it can attract funds from institutional investors
who have invested in UCITS funds.
How is Och-Ziff positioned to capitalize from this opportunity?
While there has been a decline in demand for hedge fund products in Europe and Asia, we believe that
demand will ultimately rebound and reward managers that have demonstrated a commitment to the markets
and their clients.
We believe that regions that have scaled back exposure to hedge funds over the past four years will
contribute disproportionately to AUM growth at Och-Ziff over the long run. We would expect Asia to drive
AUM growth. According to Preqin, a data and intelligence provider focused on alternative asset managers,
37% of Asia-Pacific investors want to increase their exposure to hedge funds while only 6% want to
decrease their exposure in 2012.
Based on this survey, the majority of flows will go to single-manager hedge funds rather than funds of
hedge funds. Interestingly, 83% of the investors consider investing only in the Asia Pacific region because
they are familiar with these markets. This should bode well for investment teams utilizing local talent. Och-
Ziff could complement local teams with sophisticated infrastructure and strong risk management.
Och-Ziff Capital Management GroupJuly 24, 2012
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Exhibit 6: Investors by Geography
$30.1$28.8$27.9
$23.1
0%
10%
20%
30%
40%
50%
60%
70%
80%
4Q09 4Q10 4Q11 1Q12
$0.0 b
$5.0 b
$10.0 b
$15.0 b
$20.0 b
$25.0 b
$30.0 b
$35.0 b
North America Europe Asia and Other AuM Source: Company reports
There is no free lunch, however. Hedge funds need to demonstrate consistency in performance and
commitment to regions. We believe that funds that have investment teams on the ground around the globe
on a consistent basis will attract assets. After all, investors will be reluctant to entrust money to managers
who withdrew in the aftermath of the financial crisis.
We believe that Och-Ziff fits this category and here are some statistics that will demonstrate the company‘s
dedication to non-US markets: Och-Ziff opened its London office in December 1998 and its first Asian
office in Hong Kong in December 2001; Och-Ziff offered its first European dedicated multi-strategy fund
in April 2000 and launched its Asian-dedicated multi-strategy fund in February 2005. In September 2007,
when the company went public, Och-Ziff had a staff of 60 running $5 billion out of the London office and a
staff of 35 overseeing assets in excess of $3 billion in Asia—mostly out of the Hong Kong office. Today,
Och-Ziff has 63 employees working out of the London office overseeing a mere $2.2 billion, and 47
employees are based in Asia managing $1.7 billion assets. While assets have declined, total head count has
actually increased.
We agree with the management assertion that it is important to have local talent in these important markets.
Locally based investment managers should be able to attract more assets than hedge funds that operate out
of the United States only. It is one thing to seek investment opportunities being embedded in a region and
immersed in the culture, but it is another to make investment decisions across the pond. The OZ Master
Fund duplicates the strategies implemented by the various international offices; it is at the discretion of the
managers to allocate capital to the various geographies. Put differently, the overall exposure to Asia is
nearly $5 billion and to Europe about $9 billion, if one were to disregard who allocated the capital to these
regions. Ideas generated by local investment teams in these markets contribute to the performance of the
OZ Master Fund. Any good idea gets capital allocated, irrespective of where the fund is managed
geographically.
To be sure, the past four years have been challenging with investors shying away from exposure to hedge
funds. However, in the long run, managers with a global footprint should benefit from a potential recovery
more than hedge funds that lack local talent. We believe that Och-Ziff, with investment teams in London,
Hong Kong, Beijing, and Mumbai, is better suited to explore regional opportunities than hedge funds that
have either a few or no ‗boots on the ground‘. Local market knowledge and teams able to do due diligence
should result in superior performance.
Och-Ziff Capital Management GroupJuly 24, 2012
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We Expect Larger Funds to Attract the Bulk of Assets - Size Does Matter
We believe Och-Ziff will benefit from a bias toward large hedge funds. Investors should favour larger,
more stable funds with proven track records, thereby directing flows to established players such as Och-
Ziff. Consistent performance will become increasingly important. We think that the Employee Retirement
Income Security Act (ERISA) rules and plan asset regulations, which govern investments by pension funds,
favour larger hedge funds, such as Och-Ziff. Being larger permits hedge funds to offer more strategies than
smaller funds, utilizing a broader range of resources. This should ultimately lead to better performance.
One of the goals of the Dodd-Frank Wall Street Reform and Consumer Protection Act was to force
investment and commercial banks to either spin off or to shut down their proprietary trading desks. Despite
the fact that banks will have until July 2014 to comply with Volcker Rules, most investment banks have
already started implementing these rules.
While some banks have spun off their ‗internal hedge funds‘, others have moved proprietary traders into
their asset management divisions. Yet the best and brightest, having anticipated these changes and being
unsure if the new bank business model would provide them the compensation that they were looking for,
took matters into their own hands. This has led to a departure of talent. Consequently, there has been a
number of hedge fund start ups competing for assets against established hedge fund industry veterans.
However, a large number of hedge fund start ups have not been able to raise capital in excess of $500
million.
Exhibit 7: Number of Single-manager Funds by AUM - Globally
Zais Opportunity Zais Group Asset backed 27.9% 110.7% $358.2
Source: Bloomberg
Bottom line: While there might be some challenges in implementing an investment strategy if a fund
grows too large, the benefits of having more resources to generate new investment ideas should more than
offset the implementation challenges. This should lead to better performance over time with less volatility.
Investment teams‘ time is better utilized by focusing on generating investment ideas and not having to
worry about running a business.
Large hedge funds have the infrastructure to do that while employees of smaller hedge funds might have to
wear multiple hats. And larger hedge funds have the resources to evaluate various investment opportunities
across asset classes. The ability to move among strategies and to allocate capital to the most promising
strategies is an important part of the Och-Ziff value proposition. Being large allows hedge fund managers
to have dedicated product teams that can create new offerings to fulfil anticipated needs and seek out new
opportunities while smaller funds concentrate on their core-product offerings only.
We Expect Och-Ziff to Benefit from Increasing Demand for Transparency with Transparency
and Risk Management Continuing to be Top Concerns for Investors
Clients want to understand their risk. As a publicly traded company, Och-Ziff has to comply with rules and
regulations that do not apply to privately owned hedge funds. We believe that this is appealing to clients
that have to adhere to heightened fiduciary duties such as pension funds, endowments, and foundations.
There has been an “institutionalization” of the hedge fund industry. With the importance of the high-net-
worth client declining and more pension funds, endowments, and foundations allocating capital to hedge
funds, risk management capabilities are becoming a key consideration – especially with the backdrop of
the financial crisis. Being a public company, Och-Ziff had to make risk management a priority. We believe
that having a strong risk management culture can provide additional comfort to potential investors which
should help attract assets.
Och-Ziff, being the only pure publicly traded hedge fund, discloses more information to its investors and
the public than its privately held competitors. We believe that this can be an advantage in attracting assets
from pension funds, endowments, and investors who have allocated capital to alternative UCITS and
mutual funds.
One of the recent trends has been that hedge funds have become increasingly institutionalized, i.e., the
investor base has changed with high net-worth clients becoming less relevant. SEI‘s latest hedge fund
investor survey found that institutional investors are willing to increase their exposure to hedge funds.
While down from 54% in the previous year, 38% of investors said that they anticipate increasing their
allocation to hedge funds in 2012.
Investors are demanding an increased amount of data to assess the risk to their overall portfolio when they
allocate assets to hedge funds. A recent survey by Absolute Return + Alpha showed that transparency and
infrastructure were top-four considerations for investors when deciding on allocating assets to a specific
hedge fund in 2011. Interestingly, transparency had climbed to the third spot on the key factors from the
fifth spot.
Och-Ziff Capital Management GroupJuly 24, 2012
14
The lack of transparency is probably one of the reasons why fund of hedge funds (FoF) have been losing
market share. The SEI survey showed that while 48.5% of investors used fund of hedge funds in 2010, the
percentage of investors using FoF had dropped to 29.9% with single managers being the beneficiaries of
this trend. Transparency helps institutional investors understand their exposure to risk under various
scenarios. Besides providing data, access to investment teams and open communication about the
investment objective are essential to investors these days.
Exhibit 9: Investors Demand for Transparency – What Investors Want
0%
10%
20%
30%
40%
50%
60%
Leve
rage
deta
il
Valu
ati
on
meth
odolo
gy
Ris
k a
naly
tics
Sect
or
leve
l
deta
il
Posi
tion leve
l
deta
il
Hedgin
g
posi
tions
Geogra
phic
exposu
re
Counte
rpart
y
exposu
re
Source: SEI Hedge Fund Investor Survey
While generating strong performance remains a key factor in attracting assets, we believe that having a
strong risk management culture and a robust infrastructure are essential in retaining these assets. These
require increases in investments in compliance and infrastructure to support the more rigorous client
requirements. Larger hedge funds have an advantage over the smaller funds that do not have a strong risk
management culture or sophisticated risk management tools. Och-Ziff, being a public company, provides
an additional assurance in that respect.
A 2011 survey conducted by Ernst & Young revealed that the main reason for not hiring a specific hedge
fund was a lack of adequate risk management. Clearly, with more pension funds, endowments, and
foundations allocating capital to hedge funds and with the backdrop of the financial crisis, risk management
capabilities are a key consideration.
Being a public company, Och-Ziff has made risk management a priority. For one, it has to comply with
rules such as Sarbanes-Oxley that other private hedge funds do not have to worry about. As part of
becoming Sarbanes-Oxley compliant, companies had to produce lengthy documents describing risks and
internal controls to detect issues related to operations and financial reporting. During the process of
becoming compliant, a large number of companies introduced new internal controls or modified existing
controls that were not deemed sufficient by their consultants. We believe that being compliant can provide
additional comfort to potential investors.
Och-Ziff has made not losing money for investors its top priority, and this is an essential part of its
investment process. The company has a Risk Committee that meets on a regular basis to assess the
portfolios and suggest corrective measures. The annual filings show that stress testing is an integral part of
the portfolio evaluation process. Portfolio managers and analysts meet on a daily basis to review each
position in each fund to determine inherent risk.
Furthermore, the duties of the Risk Committee include a review of operational risks. As Och-Ziff puts it,
risk management is in the DNA of the firm. After all, the company‘s value proposition is that it can
produce positive returns on a consistent basis with low volatility compared to equity markets.
Och-Ziff Capital Management GroupJuly 24, 2012
15
Improved Investment Performance and the Associated Incentive Fees might not be Fully Priced into the Stock
Och-Ziff has passed its high-water marks, offsetting the „disappointing‟ performance posted in 2011. We
believe that it is going to earning incentive fees in 2012 in excess of what might be priced in the stock.
As an alternative asset manager, Och-Ziff earns a management fee based on the assets it manages and an
incentive fee based on the investment performance that it generates. Incentive fees will be charged to
clients as soon as Och-Ziff generates positive returns, absent of any high-water marks. Growth in AUM and
strong performance should lead to revenue and earnings growth. While lower management fees are priced
into the stock—management fees have come down to 1.7% as the company has expended its credit
offering, which have lower management fees and longer lock-up periods—we believe that the market has
not priced in the performance that the company could generate in 2012, and thus, the incentive fee that it
could earn.
Since 1994, the OZ Master Fund has had three years of negative performance—in 2002, 2008, and 2011.
Last year, the fund was down 0.48% resulting in high-water marks, i.e., a headwind to incentive income.
All funds passed their water marks in the first quarter of 2012, and OZ Master Fund‘s year to date
performance has been about 4.83% as of the June 30, 2012.
We believe that the market is pricing in a performance of about 5% for 2012 and we see upside potential.
Exhibit 10 shows a sensitivity analysis. Our conclusion is that valuation could increase if the company
holds on to the performance that it has generated year to date.
Exhibit 10: Sensitivity Table – Fund Performance & Earnings
2012 E
Performance
Assumed
2012 EPS Avg. Peer P/E
Assumed
2012 P/E Price Target
0.00% $0.24 14.3x 14.3x $3.45
0.50% $0.27 14.3x 14.2x $3.82
1.00% $0.30 14.3x 14.2x $4.19
1.50% $0.32 14.3x 14.1x $4.56
2.00% $0.35 14.3x 14.0x $4.93
2.50% $0.38 14.3x 14.0x $5.29
3.00% $0.41 14.3x 13.9x $5.66
3.50% $0.44 14.3x 13.8x $6.03
4.00% $0.47 14.3x 13.7x $6.39
4.50% $0.49 14.3x 13.7x $6.75
5.00% $0.52 14.3x 13.6x $7.12
5.50% $0.55 14.3x 13.5x $7.48
6.00% $0.58 14.3x 13.5x $7.84
6.50% $0.61 14.3x 13.4x $8.20
7.00% $0.64 14.3x 13.3x $8.55
7.50% $0.67 14.3x 13.3x $8.91
8.00% $0.70 14.3x 13.2x $9.27
8.50% $0.73 14.3x 13.1x $9.62
9.00% $0.76 14.3x 13.0x $9.97
9.50% $0.80 14.3x 13.0x $10.32
10.00% $0.83 14.3x 12.9x $10.67
10.50% $0.86 14.3x 12.8x $11.02
11.00% $0.89 14.3x 12.8x $11.37
Note: Peers include BLK, TRWO, IVZ, LM, BEN, WDR, JNS, EV, FII, AB, ART, AMG, CNS, CLMS, GBL, PZN as Och-Ziff has been trading in line with traditional asset managers based on average historical multiples. Pricing and consensus estimates based on FactSet data; Priced as of market close July 20, 2012 ET. Source: FactSet; RBC Capital Markets estimates
Och-Ziff Capital Management GroupJuly 24, 2012
16
We arrive at our 5% implied performance estimate by referencing the current valuation of about $7.
Historically, Och-Ziff has traded at a 5% discount to the average P/E multiple of traditional asset managers.
Assuming that this still holds true, one would expect Och-Ziff to earn about $0.52 for 2012. The company
could get there if it generates performance of about 5% for the full year of 2012. So far, the performance
has been north of 4.5% year to date (or roughly 9% annualized), and we believe that Och-Ziff can generate
returns of about 8% for 2012. Assuming that the funds continue to perform well, incentive income could
drive full-year 2012 earnings thereby resulting in higher stock valuation. Based on an 8% performance, the
stock could be trading close to $9 by the end of the year. We arrive at $9 by applying $0.70 of estimated
2012 earnings a peer P/E multiple of 13.2x. Another way of looking at current valuation is that based on the
current stock price of around $7, the implied P/E on earnings of $0.70 would be around 10x. Traditional
asset managers are trading around 14.3x. Based on this approach, Och-Ziff would be trading at a discount
of 30% to traditional asset managers.
Och-Ziff Capital Management GroupJuly 24, 2012
17
Financial Analysis
Recent Results
Och-Ziff executed on its promise to improve performance in the March 2012 quarter. The company
reported that its flagship OZ Master Fund, the European and Asian funds, and the OZ Global Special
Investments Master Fund were up 5% through April 30, 2012. This was welcome news as 2011 had been a
difficult year for the company and the industry. Clearly, all funds were past their high-water marks in the
March quarter, thereby putting the company back on path of earning incentive fees in the fourth quarter of
2012. Exhibit 11 below shows that 2011 was only the third time since inception that the company had
negative returns. We estimate that the total return since inception is about 14% for the OZ Master Fund.
Exhibit 11: Performance Since Inception
Performance - OZM vs. S&P 500
(50%)
(40%)
(30%)
(20%)
(10%)
0%
10%
20%
30%
40%
50%
1994 1997 2000 2003 2006 2009 1Q12
OZ Master Fund S&P 500
Source: Company reports, FactSet
We would argue that there are only two factors that matter in the hedge fund world today: fund
performance and, more recently, size. According to data by eVestment, the first quarter of 2012 saw a
bifurcation. Hedge funds that had more than $1 billion in assets under management received 78% of the net
flows in the quarter. However, performance, once again, trumped size. Based on the data, about 60% of the
funds that had negative performance in 2011 had outflows irrespective of size. This is probably why Och-
Ziff had an aggregate $600 million of outflows in the first four months of the current year. The company
disclosed that assets under management stood at $29.8 billion as of May 1, 2012. Had it not been for the
strong performance, which added about $1.6 billion to assets, AUM would have decreased to $28.2 billion.
Having said that, we would expect flows to improve as performance improves. The first quarter was a good
start in that respect with a 5% return. And while the S&P 500 was up 11% for the same time period, Och-
Ziff achieved its returns with 36% of the volatility of the S&P 500 index. This is the company‘s value
proposition—generating returns while protecting investors from the down-side risk.
Och-Ziff Capital Management GroupJuly 24, 2012
18
Exhibit 12: Net Flows ($ millions)
($1,165)
$4,569
$3,117$4,135
($722)
$2,693
$1,116($63)
$7,592
($8,053)($10,000)
($8,000)
($6,000)
($4,000)
($2,000)
$0
$2,000
$4,000
$6,000
$8,000
$10,000
2003 2004 2005 2006 2007 2008 2009 2010 2011 1Q12
Net Flows
Source: Company reports
To be sure, recent flows have lagged what the company was able to generate from 2004 to 2007, the year it
went public. However, given the size of Och-Ziff—it is the third-largest US hedge fund—we would expect
flows to improve as performance improves. Nonetheless, there could be some headwinds in the short run.
While Och-Ziff recorded outflows in January 2012, flows turned positive in February and March, thereby
resulting in total net inflows of $902 million for the past four quarters ending in 1Q12. However, once
again, flows turned negative in April of 2012. Management still has some heavy lifting to do in attracting
assets and convincing clients that performance is picking up again.
In the aftermath of the financial crisis, fund of hedge funds have been losing assets. This is a trend that we
believe will continue given the increased focus on transparency. Instead of using fund of funds as an
investment vehicle, entities such as pension plans, foundations, endowments, private banks, and family
offices have started investing directly in hedge funds. In addition to targeting these clients, Och-Ziff is also
shifting its focus and putting more capital to work in US-structured credit and Asian long/short strategies.
Exhibit 13 shows the increase in funds being allocated to US structured credit.
Exhibit 13: Asset Allocation by Strategy
OZ Master Fund by Investment Strategy 3Q10 4Q10 1Q11 2Q11 3Q11 4Q11 1Q12
Source: FactSet (Priced as of market close July 20, 2012 ET); RBC Capital Markets
Och-Ziff Capital Management GroupJuly 24, 2012
23
Company Description
Och-Ziff Capital Management Group (NYSE:OZM) is an international investment-management firm
providing asset-management services primarily to institutional investors globally through its hedge funds
and other alternative investment vehicles. Och-Ziff‘s goal is to deliver positive returns in any market with
less volatility than that of the S&P 500 Index. The company prides itself on being one of the larger
alternative asset managers in the world, and as of May 1, 2012, it had approximately US$29.8 billion of
assets under management spread across long/short equity special situations, structured credit, convertible
and derivative arbitrage, corporate credit, private investment, merger arbitrage, and real estate strategies.
Och-Ziff is the only publicly traded, pure, hedge fund manager.
The company was founded in 1994 by Daniel Och with an initial seed investment of $100 million from Ziff
Brothers Investment LLC. Prior to founding Och-Ziff, Mr. Och had been with Goldman Sachs for 11 years
working in the risk arbitrage department; he was later promoted co-head of US Equities Trading and head
of Proprietary Trading at Goldman Sachs‘ equities division. Och-Ziff completed an initial public offering
on November 14, 2007 and listed its shares on the NYSE at a price of $32. Och-Ziff was one of the few
alternative asset managers to complete its IPO before the onset of the global financial crisis.
As of December 31, 2011, Och-Ziff had 434 employees, including 131 investment professionals and 17
executive managing directors, working from its headquarters in New York and offices in London, Hong
Kong, Mumbai, and Beijing. The company‘s London office houses its European investment team while the
majority of the Asian investment team works out of the Hong Kong office.
Och-Ziff has one reporting segment, the Och-Ziff Funds segment that offers asset management services to
its hedge funds and other alternative investment vehicles. Other operations consists of a real estate business
that offers asset management services to the company‘s real estate funds, and managing investments in
businesses established to increase Och-Ziff‘s private-investment platform.
Exhibit 21: Organizational Structure
Och-Ziff
Capital Management
Group LLC
(NYSE: OZM)
Och-Ziff CorpOch-Ziff
Holding
OZ
Management
OZ
Advisors I
OZ
Advisors II
Source: Company reports
Och-Ziff Capital Management Group LLC is the holding company listed on NYSE. Its main assets are the
ownership interests in the Och-Ziff Operating Group entities, which are indirectly owned through Och-Ziff
Corp. and Och-Ziff Holding, i.e., the general partners. The general partners control the business and affairs
of the Och-Ziff Operating Group. Principal operations are conducted through Och-Ziff Operating Group.
Och-Ziff Capital Management GroupJuly 24, 2012
24
Share Structure
Class A shares were issued to the public through an initial public offering (IPO) in November 2007 and are
publicly traded on the New York Stock Exchange. Class A shares provide economic interest, i.e., pay
dividends out of the holding company. In addition, Class A shares holders are entitled to one vote per share.
Class B shares are held by the partners. Class B shares have no economic rights, i.e., holders of Class B
shares do not receive dividends. Class B shares merely provide the partners with a voting interest in the
management company.
Group A units are held by the partners and the Ziff family. Prior to going public, partners and the Ziff
family collectively owned 100% of the Och-Ziff Operating Group. As part of the initial offering, each
partner and the Ziffs were issued Och-Ziff Operating Group A units. These Group A units provide
economic interest, but in contrast to Class A shares, dividends are being paid at the operating group level
(OZ Management, OZ Advisors I, OZ Advisors II). This structure was set up in order to minimize the tax
impact on earnings of the partners and the Ziff family. Group A units are exchangeable to Class A shares
after certain criteria have been met, including minimum retained ownership requirements by the partners.
Economic Interest
Class A shares represent approximately 31.9% economic interest in the Och-Ziff Operating Group entities
(OZ Management, OZ Advisors I, OZ Advisors II) and 100% of economic interest at the holding company
(Och-Ziff Capital Management Group LLC). Class A shares are entitled to 100% of any distribution
declared by the board of directors for Och-Ziff Capital Management Group. Put differently, unlike Group A
Unit holders, the publicly traded Class A shares receive their dividends at the holding company level. In
contrast, the partners and the Ziff family who hold all Group A units receive distributions at the operating
group level. This structure provides Group A Unit holders with tax benefits on the 68.1% of economic
interest that they hold. The Class A shareholder and the partners receive distributions pro rata based on
their equity ownership in Och-Ziff.
Voting Rights
The Class A shares hold 33.7% of the total combined voting power. Class B shares provide the partners
with a voting interest in the management company commensurate with their economic interests in the
business. Class B shares represent 66.3% of the total combined voting power as of December 31, 2011.
Through a proxy granted by the partners to Mr. Och, he can control how all Class B Shares are voted.
Thus, the partners and the Ziff family are on par with public shareholders for the following reason: Their
Class B shares in combination with their Group A units, give them voting rights and economic interest in
Och-Ziff. As of December 31, 2011, these Group A units represented 68.1% equity interest in the Och-Ziff
Operating Group and provide the partners and the Ziff family with a 66.3% combined voting power.
Och-Ziff Capital Management GroupJuly 24, 2012
25
Fund Investors
The company‘s global base of clients includes pension funds, fund of funds, foundations, endowments,
corporations, other institutions, private banks, and family offices.
Exhibit 22: Investors by Type, as of December 31, 2011 Investors by Type (Dec 31, 2011)
Pensions
28%
Fund-of-
Funds 18%
Foundation
and
Endowment
14%
Corporate,
Institution
al and
Other 12%
Private
Banks 12%
Related
Parties 9%
Family
Offices and
Individuals
7%
Source: Company reports
Exhibit 23: AUM Breakdown by Investor Type, as December 31, 2011
Institutional
93%
Retail / HNW
7%
Note: Retail includes family offices and individuals.
Source: Company reports, RBC Capital Markets
Och-Ziff Capital Management GroupJuly 24, 2012
26
Exhibit 24: OZ Master Fund by Investment Strategy, as of December 31, 2011
Cash
21%
Equities
24%
Fixed Income
31%
Alternatives /
Other
24%
Note: Represents AUM strategy breakdown for the OZ Master Fund, which represents 70% of AUM. Fixed Income includes structured credit. Alternatives/Other includes: private investments, merger arb, convertible and derivative arb. Source: Company reports, RBC Capital Markets
The vast majority of Och-Ziff‘s clientele are domestic. About 72% of Och-Ziff‘s investors are based in
North America versus 28% for the rest of the world.
Exhibit 25: Investors by Geography, as of December 31, 2011
Asia
11%
North America
72%
Europe
17%
Note: AUM breakdown by client domicile.
Source: Company reports, RBC Capital Markets
Och-Ziff Funds
The company‘s funds are organized using a ‗master-feeder‘ structure. The feeder funds are structured to
meet the needs of various groups of investors and are separate legal entities. These feeder funds enable
various types of investors across the globe to invest in a hedge fund in a tax efficient manner. The feeder
funds take into consideration the regulatory constraints of various types of investors. Och-Ziff‘s clients
invest into these feeder funds, which in turn hold direct or indirect interest in a master fund. The master
fund and its subsidiaries are the primary investment vehicle for the feeder funds, that is, it is the only
vehicle to invest in the master fund. All funds are managed by the Och-Ziff Operating Group.
The company currently manages four main investment funds representing about 87% of assets under
management as of December 31, 2011. These funds invest across multiple strategies as outlined in the
Investment strategies section.
OZ Master Fund: This multi-strategy fund is Och-Ziff‘s flagship fund. As of December 31, 2011, assets
under management were $20.2 billion representing 70% of the total AUM. The OZ Master Fund allocates
capital in North America, Europe, and Asia with investments mirroring those made in the OZ Europe
Och-Ziff Capital Management GroupJuly 24, 2012
27
Master Fund and the OZ Asia Master fund. About 52% of assets were invested in the Americas while 31%
were invested in Europe, the Middle East, and Africa (EMEA) and 17% in Asia and Australia.
Exhibit 26: OZ Master Fund Allocation, as of December 31, 2011 OZ Master Fund Allocation (Dec 31, 2011)
Merger
Arbitrage
4%
Private
Investment
6%
Credit 13%
Convertible
and
Derivative
Arbitrage
14%
Structured
Credit 18%
Cash 21%
Long/Short
Equity 24%
Source: Company reports
OZ Europe Master Fund: A multi-strategy fund with assets under management of $2.3 billion as of
December 31, 2011. The OZ Europe Master Fund constituted 8% of the total AUM. The fund allocates
capital between the convertible, credit, long/short equity, merger arbitrage, private investments, and
structured credit strategies. Geographic exposure includes Europe, Africa, and the Middle East.
OZ Asia Master Fund: A multi-strategy fund that allocates capital among the different investment strategies
in Asia, Australia, and New Zealand. As of December 31, 2011, AUM of $1.6 billion represented 6% of
total AUM.
OZ Global Special Investments Master Fund: With $1 billion of AUM as of December 31, 2011, the fund
constituted 3% of the total AUM. The fund has a higher concentration of longer-term investments than the
investments that the company makes in other funds. This fund invests globally in private investments, the
various investment strategies described below, and allocates capital to the private-investment platform that
Och-Ziff is developing. The majority of capital in this fund has been contributed by the partners of the firm.
Other: The remaining 13% of the total AUM as of December 31, 2011 comprised of real estate funds and
other alternative investment vehicles managed by the company. The real estate funds invest in commercial
and residential real estate in North America, including real property, multi-property portfolios, real estate
related joint ventures, real estate operating companies, and other real estate related assets. As of December
31, 2011, Och-Ziff‘s other funds managed assets worth US$3.7 billion.
Och-Ziff Capital Management GroupJuly 24, 2012
28
Investment Strategies
The table below shows the company‘s primary investment strategies.
Strategy Description
Convertible and Derivative Arbitrage
Convertible and derivative arbitrage investing takes advantage of price discrepancies among convertible and derivative securities and the underlying equity or other security. These investments may be made at multiple levels of an entity's capital structure to profit from valuation or other pricing discrepancies.
Credit Credit includes a variety of credit-based strategies, such as high-yield debt investments in distressed businesses and investments in bank loans and senior secured debt. Credit also includes providing mezzanine financing and structuring creative capital solutions.
Long/Short Equity Special Situations
Long/short equity special situations consists of fundamental long/short and event-driven investing. Fundamental long/short investing involves analyzing companies and assets to profit where Och-Ziff believes mispricing or undervaluation exists. Event-driven investing attempts to realize gain from corporate events such as spin-offs, recapitalizations, and other corporate restructurings, whether company specific or as a result of industry or economic conditions.
Merger Arbitrage Merger arbitrage is an event-driven strategy involving multiple investments in entities contemplating a merger or similar business combination. This strategy seeks to realize a profit from pricing discrepancies among the securities of the entities involved in the event.
Private Investments Private investments encompass investments in a variety of special situations that seek to realize value through strategic sales or initial public offerings.
Structured Credit Structured credit involves investments in residential and commercial mortgage-backed securities and other asset-backed securities. This strategy also includes investments in collateralized loan obligations (CLOs) and collateralized debt obligations (CDOs).
Source: Company reports
Och-Ziff Capital Management GroupJuly 24, 2012
29
Assets under Management
Och-Ziff‘s AUM had grown to $30.1 billion as of March 31, 2012. The company‘s AUM witnessed an
increase of 5.0% compared to US$29.0 billion as of March 31, 2011 and was attributable to capital net
inflows of US$902.4 million and performance-related appreciation of $184.3 million. As of May 1, 2012,
estimated AUM stood at US$29.8 billion, thereby reflecting an estimated year-to-date performance-related
appreciation of US$1.6 billion and capital net outflows of about US$600 million. From 2001 to 2011, Och-
Ziff‘s assets under management grew to $28.8 billion from US$5.9 billion, which was a 17.2% CAGR.
Exhibit 27: AUM, as of March 31, 2012 (US$ billions)
North America contributed 53% to the total AUM, Europe contributed 29%, and Asia contributed 18%.
Och-Ziff reduced exposure to Europe in favor of North America and Asia.
Exhibit 28: AUM by Geography
March 31, 2012 December 31, 2010 AUM by Geography(March 31, 2012)
North
America
53%
Europe
29%
Asia
18%
AUM by Geography(Dec 31, 2010)
North
America
49%
Europe
35%
Asia
16%
Source: Company reports
Och-Ziff Capital Management GroupJuly 24, 2012
30
Exhibit 29: AUM by Fund (US$ billions)
20.2 20.0 19.6
2.3 2.4 3.01.6 1.6 1.51.0 1.0 1.23.7 3.8 2.6
0.0
5.0
10.0
15.0
20.0
25.0
30.0
'Dec-11 Sep-11 Dec-10
OZ Master Fund OZ Europe Master Fund
OZ Asia Master Fund OZ Global Special Investments Master FundOther
Source: Company reports
Exhibit 30: AUM by Fund, as of December 31, 2011
AUM by Fund (Dec 31, 2011)
OZ Master
Fund
70.1%
OZ Europe
Master
Fund
8.0%
OZ Asia
Master
Fund
5.6%
OZ Global
3.5%
Other
12.8%
Source: Company reports
Och-Ziff Capital Management GroupJuly 24, 2012
31
Management Team
The table below provides some background information on Och-Ziff‘s Executive Managing Directors.
Name Title Background
Daniel S. Och CEO, Executive MD, Chairman of the Board of Directors, Chairman of the Partner Management Committee
Mr. Och is the founder of the Och-Ziff Capital Management Group. Mr. Och serves as Och-Ziff's Chief Executive Officer and Chairman of the Board of Directors and the Partner Management Committee. Prior to founding Och-Ziff in 1994, Mr. Och spent 11 years at Goldman Sachs & Co. He began his career in the Risk Arbitrage Department, and later responsibilities included Head of Proprietary Trading in the Equities Division and Co-Head of US Equities Trading. Mr. Och holds a B.S. in Finance from the Wharton School of the University of Pennsylvania.
Joel M. Frank CFO & COO, Executive MD, Member of the Board of Directors, Member of the Partner Management Committee
Mr. Frank is Chief Financial Officer and Senior Chief Operating Officer of Och-Ziff, and is a member of Och-Ziff's Board of Directors and Partner Management Committee. Prior to joining Och-Ziff at its inception, Mr. Frank was with Rho Management Company Inc. as its Chief Financial Officer from 1988 to 1994. He was previously with Manufacturers Hanover Investment Corporation from 1983 to 1988 as Vice President and Chief Financial Officer and with Manufacturers Hanover Trust from 1977 to 1983. Mr. Frank holds a B.B.A. in Accounting from Hofstra University and an M.B.A. in Finance from Fordham University. He is a C.P.A. certified in the state of New York.
David Windreich Head of US Investing, Executive MD, Member of the Board of Directors, Member of the Partner Management Committee
Mr. Windreich is Head of US Investing for Och-Ziff and is a member of Och-Ziff's Board of Directors and Partner Management Committee. Prior to joining Och-Ziff at its inception in 1994, Mr. Windreich was a Vice President in the Equity Derivatives Department of Goldman Sachs & Co. He began his career at Goldman Sachs & Co. in 1983 and became a Vice President in 1988. Mr. Windreich holds both a B.A. in Economics and an M.B.A. in Finance from the University of California, Los Angeles.
Michael L. Cohen Head of European Investing, Executive MD, Member of the Partner Management Committee
Mr. Cohen is Head of European Investing for Och-Ziff, is a member of Och-Ziff's Partner Management Committee and helps manage Och-Ziff's London office. Prior to joining Och-Ziff in 1997, Mr. Cohen was with Franklin Mutual Advisory as an Equity Research Analyst and with CS First Boston as an Investment Banking Analyst specializing in the financial services sector. Mr. Cohen holds a B.A. in Economics from Bowdoin College.
Zoltan Varga Head of Asian Investing, Executive MD, Member of the Partner Management Committee
Mr. Varga is Head of Asian Investing for Och-Ziff, is a member of Och Ziff's Partner Management Committee and helps manage Och-Ziff's Hong Kong office. Prior to joining Och-Ziff in 1998, Mr. Varga was with Goldman Sachs & Co. as an Investment Banking Analyst in the Mergers and Acquisitions Department. Mr. Varga holds a B.A. in Economics from DePauw University.
Harold A. Kelly Head of Global Convertible and Derivative Arbitrage, Executive MD, Member of the Partner Management Committee
Mr. Kelly is Head of Global Convertible and Derivative Arbitrage for Och-Ziff and is a member of Och-Ziff's Partner Management Committee. Prior to joining Och-Ziff in 1995, Mr. Kelly spent seven years trading various financial instruments and held positions at Cargill Financial Services Corporation, Eagle Capital Management, Merrill Lynch International, Ltd., and Buchanan Partners, Ltd. Mr. Kelly holds a B.B.A. in Finance and also holds an M.B.A. and a Ph.D. in Business Administration from the University of Georgia.
Source: Company reports, FactSet
Och-Ziff Capital Management GroupJuly 24, 2012
32
Investment Risks and Price Target Impediments
Global economy and capital market conditions could impact Och-Ziff’s ability to execute its
strategy
Och-Ziff‘s goal of generating consistent, positive, absolute returns could be impacted by global financial
markets and economic conditions. Extreme volatility in markets and a lack of liquidity could negatively
impact the company‘s ability to execute its strategies. Ultimately, performance would suffer, leading to
outflows of assets. Earnings are driven by Och-Ziff‘s ability to generate positive returns and grow assets
under management. A lack of incentive income, high watermarks and lower management fees due to lower
AuM could lead to a shortfall in earnings and negatively impact our price target.
Decline in asset values could impact Och-Ziff’s earnings.
Growth of assets under management is driven by inflows and market performance. A decline in asset
values would result in lower assets under management, potentially offsetting any new money into the
various funds. Value of investments is driven by macro economic events the company has no control over.
A reduction in asset levels would lead to lower earnings as management fees would be applied to lower
assets under management. Our price target would have to be revised downward if AuM were to decrease.
A reduction in risk appetite could lead to lower earnings
While Och-Ziff‘s stated goal is to generate positive returns in any market condition, a reduction in risk
appetite could lead to asset outflows. Och-Ziff is being regarded as a hedge-fund and as such, it is not
immune to industry trends. In 2009, investors redeemed $9.9 billion due to the financial crisis. Extreme
events in financial markets could cause investors to become risk averse and hold more cash or invest in
conservative asset classes such as US sovereign debt. This could lead to outflow of assets. We do not
model out a scenario like this as it is difficult to determine extreme events. As such, we would have to
revise our earnings forecast and reduce our price target if such an event were to occur.
Weak fund performance could lead to outflows and lower earnings
Och-Ziff‘s ability to attract assets and grow earnings is dependent on the performance it generates.
Negative performance or generating low risk adjusted returns versus the broader market could increase
redemptions and lower inflows of new money. Negative performance would impact incentive income, as
well. This could negatively impact our revenue and earnings forecast. We are currently expecting a 5%
fund performance for full year 2012. Our price target would have to be revised downward if performance
deteriorated.
Competition could pressure margins
The asset management business is immensely competitive. Och-Ziff competes for talent, opportunities and
assets with other hedge funds, private equity firms, specialized funds, traditional asset managers,
investment banks and other financial institutions. A number of these competitors have greater financial,
technical, marketing and other resources than Och-Ziff. They can raise larger funds and reduce the size and
duration of pricing inefficiencies that alternative investment strategies seek to exploit. An increase in the
amount of capital to alternative investments could reduce profitable investment opportunities. Och-Ziff
might be forced to match or provide more attractive investment fees, structures and terms in order to retain
or attract customers. We do not forecast a decline in margins. Were competition to intensify, we would
need to reduce our earnings assumption, which would negatively impact our price target.
Key Person risk
The loss of key partners at Och-Ziff could lead to asset outflows. The company has identified Daniel S.
Och, Joel M. Frank, David Windreich, Michael L. Cohen, Zoltan Varga and Harold A. Kelly as key
partners. If a key partner were to leave, performance of funds, the company‘s ability to retain or attract
investors, to raise new funds and to hold on to highly qualified employees could suffer. Most of the funds
have a special withdrawal provisions which allows clients to withdraw their funds if Daniel Och dies or
ceases to perform his duties. Clients would not be subject to redemption fees. The departure of key partners
could lead to a loss of expertise, knowledge and assets. This could negatively impact our earnings forecast
and our price target.
Och-Ziff Capital Management GroupJuly 24, 2012
33
New regulations or amendments and changes to existing regulations could impact
operations
In the aftermath of the financial crisis, call for additional rules and regulations for the financial industry has
increased. There have been numerous investigations into insider trading, compliance and other misconduct
which has brought hedge funds on to regulators‘ radar. The Dodd-Frank Act could result in hedge funds,
including Och-Ziff, being considered a non-bank systemically significant financial institution. Regulatory
changes could increase the costs of doing business through additional fees, assessments and compliance
expenses. New legislative and administrative proposals could preclude Och-Ziff from qualifying as a
partnership for US federal income tax purposes. Other proposals could prevent the company from internal
reorganization transactions on a tax-free basis and from acquiring other asset managers on a tax-free basis.
New regulations could impact the way the company conducts its business, the regulatory capital it has to
hold, valuation of assets, disclosure requirements and costs and marketing. It could make the company less
competitive and could result in clients withdrawing their funds. This could negatively impact our earnings
forecast and our price target.
Och-Ziff Capital Management GroupJuly 24, 2012
34
Source: Company filings; RBC Capital Markets Estimates
OZ Europe Master Fund, Ltd. 0.97% 0.0044 n/a n/a n/a n/a n/a n/a
OZ Asia Master Fund, Ltd. 0.91% 0.0054 n/a n/a n/a n/a n/a n/a
OZ Global Special Investments Master Fund 1.60% 0.0001 n/a n/a n/a n/a n/a n/a
Total performance 1.36% 0.19% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00%
2013
2013E2012E
2012
Och-Ziff Capital Management GroupJuly 24, 2012
35
Required Disclosures
Conflicts Disclosures
The analyst(s) responsible for preparing this research report received compensation that is based upon various factors, including totalrevenues of the member companies of RBC Capital Markets and its affiliates, a portion of which are or have been generated byinvestment banking activities of the member companies of RBC Capital Markets and its affiliates.
RBC Capital Markets, LLC makes a market in the securities of Och-Ziff Capital Management Group LLC and may act as principalwith regard to sales or purchases of this security.
A member company of RBC Capital Markets or one of its affiliates received compensation for products or services other thaninvestment banking services from Och-Ziff Capital Management Group LLC during the past 12 months. During this time, a membercompany of RBC Capital Markets or one of its affiliates provided non-investment banking securities-related services to Och-ZiffCapital Management Group LLC.
RBC Capital Markets has provided Och-Ziff Capital Management Group LLC with non-investment banking securities-related servicesin the past 12 months.
The author is employed by RBC Capital Markets, LLC, a securities broker-dealer with principal offices located in New York, USA.
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An analyst's 'sector' is the universe of companies for which the analyst provides research coverage. Accordingly, the rating assigned toa particular stock represents solely the analyst's view of how that stock will perform over the next 12 months relative to the analyst'ssector average.RatingsTop Pick (TP): Represents analyst's best idea in the sector; expected to provide significant absolute total return over 12 months with afavorable risk-reward ratio.Outperform (O): Expected to materially outperform sector average over 12 months.Sector Perform (SP): Returns expected to be in line with sector average over 12 months.Underperform (U): Returns expected to be materially below sector average over 12 months.Risk Qualifiers (any of the following criteria may be present):Average Risk (Avg): Volatility and risk expected to be comparable to sector; average revenue and earnings predictability; nosignificant cash flow/financing concerns over coming 12-24 months; fairly liquid.Above Average Risk (AA): Volatility and risk expected to be above sector; below average revenue and earnings predictability; maynot be suitable for a significant class of individual equity investors; may have negative cash flow; low market cap or float.Speculative (Spec): Risk consistent with venture capital; low public float; potential balance sheet concerns; risk of being delisted.
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For the purpose of ratings distributions, regulatory rules require member firms to assign ratings to one of three rating categories - Buy,Hold/Neutral, or Sell - regardless of a firm's own rating categories. Although RBC Capital Markets' ratings of Top Pick/Outperform,Sector Perform and Underperform most closely correspond to Buy, Hold/Neutral and Sell, respectively, the meanings are not the samebecause our ratings are determined on a relative basis (as described above).
Distribution of RatingsRBC Capital Markets, Equity Research
Rating and Price Target History for: Och-Ziff Capital Management Group LLC as of 07-23-2012 (in USD)
Legend:
TP: Top Pick; O: Outperform; SP: Sector Perform; U: Underperform; I: Initiation of Research Coverage; D: Discontinuation of Research Coverage; NR: Not Rated; NA: Not Available;
RL: Recommended List - RL: On: Refers to date a security was placed on a recommended list, while RL Off: Refers to date a security was removed from a recommended list.
Created by BlueMatrix
References to a Recommended List in the recommendation history chart may include one or more recommended lists or modelportfolios maintained by a business unit of the Wealth Management Division of RBC Capital Markets, LLC. These RecommendedLists include a former list called the Prime Opportunity List (RL 3), the Guided Portfolio: Prime Income (RL 6), the Guided Portfolio:Large Cap (RL 7), Guided Portfolio: Dividend Growth (RL 8), the Guided Portfolio: Midcap 111 (RL9), and the Guided Portfolio:ADR (RL 10). The abbreviation 'RL On' means the date a security was placed on a Recommended List. The abbreviation 'RL Off'means the date a security was removed from a Recommended List.
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