US NEWS: Apollo’s afterburn

It is obviously no cake walk for US private equity firms to create large real estate platforms, no matter what their pedigree. One case in point is Apollo Global Management, the New York-based outfit that established Apollo Global Real Estate (AGRE) in 2008 and quickly built out the platform through acquisitions. Now it seems some cracks have begun to appear.

As PERE revealed on 20 January, there have been several key real estate departures, including North America head of real estate investments Raymond Mikulich and Jon Thompson, a principal who was responsible for marketing Apollo’s AGRE US Real Estate Fund and is due to leave this month. Chris Lee, a principal who was responsible for real estate acquisitions, and two asset managers based in Los Angeles, also have left the firm. Apollo currently has 35 real estate professionals worldwide, including 12 in North America.

On close inspection, Apollo has increased its real estate assets under management (AUM) from virtually nothing to $8 billion by the end of 2011. Ordinarily, one might call such growth impressive despite the firm significantly trailing buyout rivals The Blackstone Group, with $42.9 billion, and The Carlyle Group, with approximately $31 billion.

Nonetheless, a big chunk of the growth Apollo has achieved to date can be ascribed to the 2010 takeover of Citi Property Investors (CPI), which Apollo’s current real estate head, Joseph Azrack, built up while working at that firm. Indeed, the CPI acquisition added $3.6 billion to the firm’s real estate AUM and gave it an immediate footprint in Europe and Asia. Much of the remainder of the growth has come from Apollo Commercial Real Estate Finance, which was created in 2009 and has amassed a portfolio in excess of $3 billion on behalf of itself and Apollo’s managed account clients.

Still, it is the rate at which Apollo is raising its AGRE US Real Estate Fund that is attracting the most heat. The firm has managed just $385 million in equity commitments – about half of its $650 million target – and only $135 million of that is base capital. The remainder is co-investment capital, meaning investors would have control over how the money is spent and also would not be subject to fees. Moreover, that fundraising has remained unchanged since June 2011, when Apollo held its second close on the fund. The firm also has been criticised for making just three investments on behalf of the vehicle.

Like other fund sponsors, Apollo is facing what some have described as being the worst fundraising environment in 25 years, with many investors preferring operators over allocators. Others point to the performance of the CPI funds as a potential handicap. According to Apollo’s most recent earnings, the net internal rates of return for the CPI funds, from inception to the end of 2011, were -11 percent for CPI Capital Partners North America, 3.5 percent for CPI Capital Partners Asia Pacific and -17.2 percent for CPI Capital Partners Europe.

Despite a less-than-impressive showing thus far, Apollo may see its real estate fortunes improve this year. Although the firm declined to comment on fundraising, PERE sources revealed that Apollo is expected to close on at least $200 million in additional commitments – the bulk in base capital – for AGRE US Real Estate Fund during the first half of the year. This would bring its total capital raise for the fund, which has a hard cap of $750 million, to between $550 million and $650 million. The firm is raising the new capital from its existing pool of clients, who already invest in its other real estate funds or business lines.

PERE also understands that the reason Apollo has made a limited number of equity investments to date is partly because of the types of deals it targets. To acquire quality assets at what it considers to be a good cost basis, the firm primarily has gone after more complex deals that involve multiple counterparties and typically require six months to complete. Also, in a wide-ranging interview with PERE last autumn, Azrack explained that Apollo first established the debt side of its real estate business – which has completed more than 30 different deals over the past 24 months – before launching its equity platform in late 2010. While Apollo actively was pursuing equity deals during the first half of 2011, those transactions were put on hold during the market turmoil that occurred over the summer.

Apollo, however, anticipates deal flow to pick up this year. “While the commercial real estate cycle continues to pose challenges for everyone, we are actively reviewing approximately $1 billion in new real estate opportunities on a global basis,” Azrack told PERE. The bulk of those opportunities will be in North America, particularly in the hospitality, office and retail sectors, and will involve Apollo buying debt at a discount or helping owners to recapitalise their assets.