THE POWER OF PARTNERSHIP 2010 ANNUAL REPORT

Transcription

1 THE POWER OF PARTNERSHIP 2010 ANNUAL REPORT KKR 2010 ANNUAL REPORT A

2 01 THE POWER OF PARTNERSHIP 18 LETTER TO UNITHOLDERS 25 FINANCIAL OVERVIEW 30 BUSINESS OVERVIEW 32 ENVIRONMENTAL, SOCIAL AND GOVERNANCE OVERVIEW 34 VALUES 36 KKR LEADERSHIP 37 CONSOLIDATED FINANCIAL REVIEW 100 UNITHOLDER INFORMATION B KKR 2010 ANNUAL REPORT

3 Partnership POWERS MOVES CONNECTS PAYS ENERGIZES FLAVORS GROWS CARES NOURISHES COMFORTS FERMENTS BUILDS SECURES AND GUIDES everything we do.

4 INVESTMENT EXPANDED DEVELOPMENT FROM 1 WELL TO 75 NEW WELLS PARTNERSHIP POWERS East Resources mansfield, pennsylvania 2 KKR 2010 ANNUAL REPORT

5 New technology has transformed the world s energy supply by enhancing successful and safe exploration for natural gas from shale rock formations. Recognizing this revolutionary change, our energy team identified East Resources, Inc., a leading oil and gas company with a stable portfolio of producing assets and more than 650,000 net acres of highly contiguous, operated acreage in some of the most attractive areas of the Marcellus Shale in Pennsylvania. East s regional concentration and entrepreneurial approach provided operational and cost advantages that made it an attractive investment. In June 2009, KKR invested $330 million in East through a convertible security, which enabled the company to expand development drilling 75 horizontal wells, compared to only one horizontal well prior to KKR s investment. This expanded development demonstrated the value of East s asset position. In late 2010, Royal Dutch Shell Plc acquired East for $4.7 billion, a $1.2 billion gain for KKR and our investors. KKR 2010 ANNUAL REPORT 3

6 BMG Rights Management berlin, germany BMG Rights Management ( BMG ) is a joint venture between KKR and Bertelsmann, an international media company active in more than 50 countries, to develop a global music rights management business. The partnership benefits from Bertelsmann s knowhow in media and publishing, BMG s experience in licensing and music rights administration and KKR s transaction capabilities, financial expertise and global network. As a result of our partnership, BMG has grown to be the world s largest independent music publisher, signing new and iconic artists and expanding its catalogue acquisitions. The company now manages more than 250,000 copyrights and recorded master rights from over 1,000 recording artists and songwriters, includ ing top artists such as Allison Krause, Billy Idol, Cee-Lo Green and ZZ Top. 4 KKR 2010 ANNUAL REPORT

7 Avago san jose, california Avago Technologies is a leading global designer, developer and supplier of analog semiconductors. The company s products can be found in a wide range of devices including smartphones, data networks, computer peripherals and supercomputers. With a 50-year history of innovation, Avago holds more than 5,000 U.S. and foreign patents and patent applications and employs more than 3,500 employees globally. Throughout its history, Avago has been a leader in innovation and engineering expertise. However, as a captive subsidiary (first of HP and later Agilent), it was not managed to its full potential. KKR and our partner Silver Lake saw an opportunity for Avago to thrive as an independent company and in 2005 led the carve-out from Agilent. In the nine months that followed the carveout, we and KKR Capstone partnered with Avago s management to create a stand-alone company that was significantly more effective and efficient than the historical model. We strengthened the company by hiring new CEO Hock Tan, an experienced semiconductor executive, as well as other key executives and by divesting several non-core businesses. Over the course of the next four years, the new management team improved the business by re-focusing the product portfolio and redeploying R&D spending in core areas such as wireless, fiber optics and networking. From 2007 to 2010, Avago achieved annual growth of 11.1 percent and increased profitability by 25.8 percent annually. In August of 2009, Avago was listed on the NASDAQ stock exchange in an IPO supported by KKR Capital Markets. The focus on long-term performance has benefited the public owners of the stock as Avago has outperformed market indices, including the SOX (Semiconductor Index), NASDAQ and the S&P 500 since the IPO. KKR 2010 ANNUAL REPORT 5

8 PARTNERSHIP PAYS WorldPay london, england In August 2010, a consortium formed by Advent International and Bain Capital agreed to acquire 80% of WorldPay (formerly RBS WorldPay), a leading global payment services business providing merchant acquiring and processing services to national, international and SME (small and medium enterprise) merchants; WorldPay is the #1 merchant acquirer in the UK and #4 globally by transaction volume. The business was acquired for a total consideration of approximately $3 billion from the RBS, which was required to dispose of the asset by European regulators following the UK government s bail-out. RBS retained a 20% equity stake in the business. As a result of its close relationship with Bain Capital and Advent International, KKR Mezzanine Partners underwrote and led the $470 million mezzanine loan to facilitate the acquisition of WorldPay. This relationship was further developed by working exclusively with them from the beginning of the process, which facilitated an open dialogue and deep participation in due diligence. Further more, KKR provided committed financing in a tight time frame which was a key in successfully securing this transaction. The WorldPay invest ment is the largest mezzanine investment KKR has led to date and is one of six deals in which affiliate funds or clients managed by KKR Asset Management provided mezzanine financing in KKR 2010 ANNUAL REPORT

9 Café Coffee Day, owned by Coffee Day Resorts, is one of India s strongest consumer and retail brands. With more than 1,000 cafes in 150 cities across India, Café Coffee Day has more than four times the stores of its nearest competitor. This unmatched scale has enabled the company to develop a fully integrated supply chain with standardized product offerings across the country. Coffee Day s promoter, VG Siddhartha, required capital to take advantage of extraordinary growth opportunities in Coffee Day as well as other businesses. Working in collaboration with management, KKR developed and invested through an $80 million structured equity solution. Proceeds from KKR s investment are supporting Café Coffee Day s continued growth and business expansion, including recently opened cafes in Vienna and Prague. 200 MORE STORES ADDED SINCE KKR INVESTMENT Café Coffee Day bangalore, india KKR 2010 ANNUAL REPORT 7

10 Over the past 35 years, KKR has a long track record of partnering with family businesses to assist them in accelerating value creation. Founded in 1931, WILD is a leading manufacturer of natural flavor and ingredient solutions for the food and beverage industry. With healthy products, market-leading innovation and strong customer relationships, WILD is well positioned for global growth. In July 2010, after nearly 80 years of running WILD as a successful family business, Dr. Hans-Peter Wild entered a partnership with KKR as a minority investor in the company. In addition to providing the Wild family with capital, the KKR team has worked with Dr. Wild and the management team to prepare the company for the capital markets and position it as a global fully integrated leader in the flavors sector. For example, our team is working with management on global purchasing, supply chain and lean manufacturing. Through our global network, we are partnering with WILD s management to grow the business in emerging markets through both acquisition and new market development. We have also worked closely with Dr. Wild to recruit additional management talent to support the company s global growth initiatives. PARTNERSHIP FLAVORS WILD Flavors GmbH zug, switzerland 8 KKR 2010 ANNUAL REPORT

11 Dollar General is the largest small-box discount retailer by revenue in the United States. The 72-year-old company offers a wide variety of everyday merchandise and unique items at low prices in convenient locations. In 2007, KKR purchased Dollar General for $7.6 billion. Since then, Dollar General s partnership with KKR has been a story of growth. Working together with Dollar General CEO Rick Dreiling and a highly experienced management team, we focused on improving store standards and product sourcing, redesigning core merchandising processes, expanding the private label business and reducing out-of-stocks. Through operating initiatives and renewed focus on retailing discipline, the company expanded its stores, grew sales and improved margins. From 2007 to the end of its 2010 fiscal year, Dollar General grew revenue by 37 percent while increasing adjusted EBITDA by 126 percent. During this same period, approximately 15,000 positions were created, and the company avoided 160,000 metric tons of greenhouse gas emis sions through participation in KKR s Green Portfolio Program. In November 2009, the company went public in the largest retail IPO in 14 years, with KKR Capital Markets serving as one of the lead bookrunners. With revenues of $13 billion for the fiscal year 2010, Dollar General is now oneand-a-half times larger than its nearest direct-retail competitor. STORE GROWTH FROM 8,194 TO 9,372 PARTNERSHIP GROWS Dollar General goodlettsville, tennessee KKR 2010 ANNUAL REPORT 9

12 PARTNERSHIP CARES Harden Healthcare austin, texas 40,000 U.S. SENIORS SERVED BY HARDEN HEALTHCARE IN 2010 Harden Healthcare provides home healthcare, hospice, assisted living and skilled nursing services. Along with its subsidiaries, Harden served nearly 40,000 seniors across the United States in In late 2009, Harden found that the significant debt it had incurred to fund a previous acquisition was inhibiting its ability to grow. KKR stepped in as a partner to recapitalize the company with $235 million of new funding. KKR Asset Management provided approximately $140 million of this financing, while KKR Capital Markets arranged the placement and syndication of the balance, including a $35 million revolving credit line. Shortly after the transaction closed in March of 2010, Harden acquired Voyager Hospice Care, expanding its presence in the hospice market and extending its geographic reach to four new states. To support this transaction, KKR invested an additional $50 million and KKR Capital Markets raised an additional $40 million of senior secured debt. With KKR s investment, Harden not only overcame the immediate financial stress placed upon it by an inflexible capital structure but was able to grow and expand its operations. 10 KKR 2010 ANNUAL REPORT

13 Founded in 2005, Ma Anshan Modern Farming raises dairy cows and sells raw milk to dairy companies that produce branded consumer products. The company currently has 14 farms across China, and it is planning continued growth to strengthen its industry-leading position at the forefront of a shift toward large-scale dairy farms in China. Recognizing a growing concern and interest in food safety and quality in China, KKR invested $150 million in Ma Anshan in the beginning of KKR has worked with Ma Anshan s leadership team to apply the latest farming techniques and supply chain enhancements for the benefit of Chinese consumers, and to improve farms milk quality, productivity and profitability. KKR Capstone has worked on the ground at remote farms for 16 months to develop and implement initiatives ranging from optimized feed purchasing to improved breeding management. On corn silage purchasing, for example, the team worked with the company s purchasing managers across all 14 farms to implement an end-to-end procurement process that could meet the increasing demand for highquality feeds. Through KKR s global network, Ma Anshan was able to work with world-class dairy farm experts to develop and introduce best practices in farm design, construction and operations. These processes accelerated the herd s growth and led to healthier, more productive cows, and highquality milk that nourishes and protects the public. In November 2010, Ma Anshan Modern Farming successfully completed its initial public offering, raising $448 million. The company is now the largest publicly listed dairy farm in China. PRODUCES 1.8 MILLION TONS OF MILK PER YEAR PARTNERSHIP NOURISHES Ma Anshan Modern Farming ma anshan city, china KKR 2010 ANNUAL REPORT 11

14 12 KKR 2010 ANNUAL REPORT Pets at Home handforth, united kingdom

15 22 MILLION PETS IN THE UK Pets at Home is the UK s leading specialist retailer of pet food and pet-related services and accessories. Founded in 1991, Pets at Home currently operates over 280 stores with 4,800 employees, as well as 70 veterinary surgical centers under the brand name Companion Care. The company s strong market position, supported by a welldifferentiated retail proposition and experience, and its rapid growth captured KKR s interest, and the firm acquired the company in January KKR is partnering with Pets at Home management to continue to grow the business, primarily through investments in: new store openings (with a total of 25 in 2010); product innovation and new services (such as the roll-out of grooming, veterinary and insurance offerings); training and development opportunities; and advertising. KKR 2010 ANNUAL REPORT 13

16 Oriental Brewery seoul, south korea Founded in 1933, Oriental Brewery is South Korea s second largest beer producer. With a market share greater than 40%, Oriental Brewery sells more than 800 million cases of beer annually in South Korea. In 2009, KKR and Affinity Equity Partners purchased Oriental Brewery for $1.8 billion from Anheuser Busch-InBev. Since the acquisition, we have worked side-by-side with Oriental Brewery management to strengthen brand marketing, expand production capacity, upgrade IT infrastructure, reduce energy use and improve procurement processes. During 2010, the company s first full year under new ownership, Oriental Brewery grew volume by 4.4% and gained 1.8% of market share in South Korea. Oriental Brewery also became the first company in Asia to participate in KKR s Green Portfolio Program, significantly reducing greenhouse gas emissions in its pro duction facilities. 14 KKR 2010 ANNUAL REPORT

17 PARTNERSHIP BUILDS Colonial Pipeline alpharetta, georgia NEARLY 5,600 MILES OF PIPELINE UNDER OPERATION With a network of nearly 5,600 miles of pipeline under operation, Colonial Pipeline is the largest refined petroleum products pipeline in North America. Colonial has a history of stable earnings and cash flow growth, a strong commitment to environmental and workplace safety, and enjoys access to attractive sources of supply and endmarket connectivity. In October 2010, KKR joined ConocoPhillips, IFM (US), Koch Capital and Shell as one of the five shareholders of Colonial, acquiring Chevron s 23.4% stake for $1.1 billion. The investment was jointly funded by KKR and a separately managed account for our limited partner, National Pension Service of Korea, the fourth largest public pension fund in the world. KKR s 20-plus year history of invest ing in the energy and infrastructure space and expertise in global public affairs greatly aided the successful closure of the deal, and such expertise and experience remain assets to the company today. KKR 2010 ANNUAL REPORT 15

18 Leading fiduciaries around the world including large public and corporate pension plans, sovereign wealth, financial institutions, insurance companies, university and other endowments and foundations have for decades invested with KKR as limited partners. The returns on our investments improve the retirement security and well being of current and future generations of beneficiaries, including teachers, firefighters, police officers, state and municipal employees and many others, expand access to education, help fund important activities and help meet the needs of our state and municipal budgets. 16 KKR 2010 ANNUAL REPORT

19 WE ARE OUR OWN LARGEST INVESTOR: $6 BILLION OF COMMITTED AND INVESTED CAPITAL PARTNERSHIP SECURES Our Investment Partners KKR 2010 ANNUAL REPORT 17

20 LETTER TO UNITHOLDERS Dear Fellow Unitholders 2010 UNIT PRICE INCREASE 72% GEORGE R. ROBERTS HENRY R. KRAVIS After four decades as investors, we continue to find it remarkable how quickly the world and market sentiment can change. Two years ago, just about every measure of value and health in global markets was in freefall. Today, however, it appears that markets have started to recover, and while world economies have not fully rebounded, we have seemingly turned a corner. While market stability remains uncertain in many parts of the world, 2010 proved to be a year of significant value creation for the investors across all of our businesses and for you, our unitholders. Our private equity funds increased in value by 33%, our credit strategies outperformed their benchmark indices, and the price of our publicly traded units increased by 72%, creating nearly $4 billion of market value was a pivotal year for our firm. In July, we delisted from the Euronext Amsterdam exchange, where we had traded since our October 2009 combination with KKR Private Equity Investors (KPE), and began trading on the New York Stock Exchange. In August, we received investment grade ratings of A and A- from Fitch and S&P, respectively. In September, we completed a highly successful inaugural $500 million public bond offering. And during the course of the year, we raised over $5 billion of new capital, more than $4 billion of which was for our five new investment strategies: infrastructure, natural resources, special situations, China growth equity, and mezzanine. These strategies build on the core competencies of our firm and facilitate KKR s diversification into areas where we can create scale and earn attractive returns for our partners. Amid these new beginnings, we want to thank you for your partnership. We are grateful for the support you have shown us in our first full year as a public company. We have been energized by your eagerness and patience in understanding our business. As a company whose public listing came without the benefit of a traditional IPO process, investor education is a 18 KKR 2010 ANNUAL REPORT

21 Today, we are able to convert more of the ideas and relationships generated by our sourcing engine into investments. critical area of focus for us. People often see KKR s name and assume private equity is our sole business after all, for 35 years, we ve made a name for ourselves in that business. It is a franchise which remains and always will remain core to our company, and we continue to evolve and enhance our global private equity capabilities. Today, however, we provide much more than private equity to our partners, whether management teams, limited partners, or unitholders, and we believe that our broader capa bilities enrich each of these partnerships. Notably, our annual report is focused on the power of partnership. Our longevity in the investment business has convinced us that our most important assets are our partnerships with companies and management teams around the world to whom we provide advice, capital, and solutions; with our limited partners and others who commit capital alongside our own as we make investments; and with the men and women we ve been able to attract to KKR whose expertise drives the value we create. These partnerships are the lifeblood of our business; protecting and enhancing them over the long term is our highest priority. Historically, because of the very low hitrate nature of the only business we were in private equity we spent a great deal of time researching companies and building industry relationships that did not lead to investable opportunities. The result was that a lot of intellectual capital and effort went unused. We missed out on many attractive opportunities for all of our partners, from management teams to investors, because our private equity capital was not sufficiently flexible to act on all of our good ideas. To mitigate this trend, we organically built new businesses such that today, we are able to convert more of the ideas and relationships generated by our sourcing engine into investments. As we move forward, our vision for KKR is to convert all of our ideas and relationships into opportunities for our partners. This means enhancing our offerings and evolving our approach based on changes in the economy and capital markets, the needs of our partners over time, and investable trends in the markets in which we operate. Of course, the success of these endeavors will ultimately be judged by the returns we can deliver to our partners. Financial Highlights Our business is comprised of three segments: Private Markets, Public Markets, and Capital Markets and Principal Activities. The first and largest of these is Private Markets, which had $46 billion of assets under management as of December 31, Private Markets includes our global private equity and our energy and infrastructure businesses. Our second segment, Public Markets, had $15 billion of assets under management as of December 31, This segment houses our credit investing businesses, which focus on below-investment-grade strategies. It began investing in 2004 with a focus on liquid investments in leveraged loans and high yield bonds, and has since expanded to include dedicated mezzanine and special situations strategies. In early 2011, we hired a team of public equity investors who are building a long/ short equity capability within this segment. Our third segment, Capital Markets and Principal Activities, has two main components: the KKR Capital Markets business, which we began in 2007, as well as the firm s balance sheet. Our Capital Markets team brings opportunities originated throughout KKR to our investors, enabling us to speak for more capital, retain more economics from our content, and develop direct relationships with providers of capital. Our balance sheet provides us with $5.7 billion in permanent capital to invest behind KKR s future growth. Each of these segments performed extraordinarily well in 2010, taking advantage of a rebound in capital markets to generate outsized results. KKR 2010 ANNUAL REPORT 19

22 Private Markets Our Private Markets segment saw strong results for the year. Thanks to increasing transaction activity and value creation, our economic net income increased 19%, from $661 million in 2009 to $785 million in The key driver of this improvement was carried interest generated by appreciation in our private equity funds. Collectively, our funds were up 33% for the year more than double the S&P 500 s return of 15%. Our private equity funds performance was driven by strong operational accomplishments in our portfolio companies as well as improved equity markets. In aggregate, the companies in our portfolio increased revenue and EBITDA for the year by 7% and 15%, respectively, while aggregate leverage decreased 14%, from 5.5x to 4.8x. We attribute much of this improvement to the work of our world-class portfolio company management teams as well as the great work of KKR Capstone s operational experts. With the focus of our investment and capital markets teams, we also made great progress on the capital structures of our portfolio companies by extending, retiring, or eliminating over $46 billion of debt in 2009 and Through April 2011, we have extended a further $23 billion, such that nearly 85% of our portfolio companies debt now matures in or after 2014, and two-thirds matures in or after Our 2006 Fund, focused on private equity investments primarily in North America, increased in value by 29% during the year and was marked at 1.2x cost on a gross basis. The prede cessor to the 2006 Fund, our Millennium Fund, saw a similar increase in value of 27% during the year and was marked at 2.0x cost on a gross basis. Importantly, active strategic buyers and the more open public equity markets enabled us to return approximately $3 billion of capital to the limited partners in our North American funds during 2010, a trend which has continued in On the new investment side of the equation, we sourced a number of exciting North American opportunities in 2010, deploying or committing to deploy approximately $1.5 billion in equity capital. Despite European macroeconomic headwinds this year, our three European private equity funds saw consistent growth during Our mature funds, the European Fund and European Fund II, appreciated by 48% and 39% during the year and were marked at 2.8x and 0.9x cost on a gross basis, respectively. The European Fund III, which we are still investing, appreciated by 2% and was marked at cost. Our portfolio has benefitted from strong operating performance and the Western European economic recovery, especially in Germany. We returned over $650 million of capital to the limited partners in our European funds during the 2010 INCREASE IN VALUE OF PRIVATE EQUITY FUNDS 33 %vs. 15% for the S&P 500 year. The more solid post-recession outlook in parts of Europe laid a strong foundation for deal activity in 2010, giving us the confidence to deploy over $2 billion in equity capital. Our inaugural Asian private equity fund had a remarkable 2010, increasing in value by 51% to reach 1.4x cost on a gross basis. Every investment in the Asian Fund is marked at or above cost. It also began the process of returning capital to limited partners with the 2010 initial public offering of Ma Anshan Modern Farming. From an investing perspective, we continue to find compelling growth opportunities in Asia especially in China and India. We invested over $900 million in equity capital during the year, including three new transactions in China, two in India, and our first traditional buyout in Japan. We also invested additional capital in three existing investments to pursue attractive growth opportunities. Our approach to private equity investing in developing Asian markets is somewhat different than the buyout-focused approach we take in more mature economies. We tend to partner with local entrepreneurs to build their companies into world-leading businesses, so equity checks in Asia are often smaller. To continue to capitalize upon those relationships, we raised a $1 billion 20 KKR 2010 ANNUAL REPORT

23 2010 NEW CAPITAL RAISED $5.4 billion China Growth Fund in 2010 in partnership with both existing and new KKR investors to make smaller investments in that country. This new pool of capital gives us flexibility to participate in more of the exciting transactions we are sourcing in China. Our Private Markets segment today is predominantly comprised of our private equity investing business, but it is also home to our energy and infrastructure investing businesses. We are excited about the scalability and growth potential for this effort. In infrastructure, we focus on investing in long-lived assets that provide critical functions services. We take the same approach to value creation through active ownership that we do in private equity. We held a first close of approximately $500 million on our infrastructure fund in 2010 and also invested $1.1 billion through an infrastructure-related separately managed account. In energy more broadly, we have the ability to invest behind many of the industry trends we are seeing today. One example is our natural resources strategy, which takes advantage of the shift in market interest from conventional to unconventional oil and natural gas assets by acquiring conventional properties that are noncore to their current owners and improving their operations to generate attractive risk-adjusted and current cash returns for our investors. We raised approximately $250 million of capital dedicated to our natural resources strategy in 2010 and invested approximately $70 million. On the other side of this coin, the develop ment of unconventional basins has created an enormous capital need, providing attractive opportunities to invest in less mature shale plays with a risk/return profile more akin to private equity. Public Markets Our Public Markets segment also had a successful Fee related earnings were up to $57 million in 2010 from $12 million in 2009, and economic net income grew by $54 million to $60 million. This segment includes our liquid credit, mezzanine, and special situations investing platforms. In liquid credit, we have four primary strategies: investing in bank loans, high yield bonds, a combination of bank loans and high yield bonds, and opportunistic credit, which is flexible across a range of sub-investment-grade credit investments. We continued to outperform benchmarks in each of these strategies during 2010, demonstrating top-quartile performance. We characterize our mezzanine and special situations businesses as alternative credit strategies due to their private equity-like structure, with longer investment horizons and capital lockups. Across these platforms, we got off to a strong start in 2010 by raising approximately $1.3 billion. Our mezzanine transactions have thus far focused primarily on Europe (where the high-yield markets remain less efficient) and on the mid-market segment in the U.S. (coverage of which Wall Street all but eliminated during the resource-strapped recession years). In special situations, we have flexibility to invest in companies that do not have access to traditional funding sources. We invested or committed to invest approximately $1.2 billion across our mezzanine and special situations businesses during In keeping with our goal of better utilizing all of the intellectual capital we have at KKR, we announced this year that we intend to launch a long/short public equities investing business within our Public Markets segment. The thorough bottoms-up industry group approach we employ in each of our investing platforms provides us with distinctive viewpoints on global industries. KKR 2010 ANNUAL REPORT 21

24 Historically, we could express those opinions through investments in both liquid and illiquid markets on the credit side. But on the equity side, we had only long-biased, long-duration, and illiquid Private Markets capital to put behind our ideas. With the recent creation of KKR Equity Strategies, we have added the capability of public equity market investing. Capital Markets and Principal Activities Finally, our Capital Markets and Principal Activities segment had an equally strong year. Our Capital Markets business continues to scale, with fee related earnings of $79 million in 2010, or growth of $60 million over This was driven by increased transaction activity that benefited from stronger markets and our team continuing to gain traction across our global activities. Principal Activities our balance sheet saw appreciation in the year commensurate with the performance of our overall private equity portfolio, resulting in investment income of $1.2 billion for the year. As of December 31, our book value per unit was $8.38, an increase of 38% from the end of Our distribution policy dictates that we distribute our fee and realized carry earnings quarterly. As a result of fee related earnings growth as well as the ramp-up in fund realizations, we paid out 60 cents per unit in distributions derived from 2010 results. Looking Ahead What we find most exciting about our progress and performance in 2010 is the momentum it provides going into We want to continue to be more valuable to all of our partners to our investors and to the companies and management teams with whom we have relationships. To achieve this, we ll assess adding investment strategies and businesses that can help us better leverage the core competencies of our firm and bring greater depth to our investment insights. Our biggest focus, however, will be on building the new business lines we have already launched. We plan to scale these businesses through active fundraising and top-tier track records. Importantly, we are also committing balance sheet capital to all of our new strategies. We believe strongly in demonstrating our confidence in new businesses in the same way our investors do through a financial commitment. With permanent balance sheet capital, we expect to continue building alignment with our partners by investing behind every new business we create in the future. We believe secular trends will provide tailwinds as KKR continues to expand. Many large institutional investors are assessing where the financial crisis left their investment portfolios, and finding that over the last decade, traditional asset 2010 INCREASE IN BOOK VALUE PER UNIT classes failed to achieve the returns needed to match their growth in liabilities. And in today s low interest-rate and volatile equity market environ ment, this trend appears likely to continue. Many pension funds, sovereign entities, and other large pools of capital are thus increasing their alternative allocations both to account for the current environment and to make up for lost returns. We have also found that investors allocations were spread among too many managers. Initially this strategy was intended to diversify exposure, but the result was the burden of monitoring an exorbitant number of funds and a lack of relation ship depth. From our dialogue with limited partners, we expect a consolidation of manager relationships, facilitating true partnership and alignment between investor and manager. To drive our ability to help our investors, we created our Client & Partner Group, which has the responsibility of building deeper relationships with our existing investors and 38% 22 KKR 2010 ANNUAL REPORT

25 sourcing capital from new limited partners across all of our strategies. We have grown this group from five to nearly 40 people in the last three years in order to be best positioned for the trends we re seeing. We have already begun to see results: of the more than $5 billion we raised in 2010, over $4 billion was raised for new strategies and approximately 35% came from investors who had never before invested with KKR. Together with our investment performance, our Client & Partner Group s deep relationships will position us well in the current environment. People and Alignment Supporting the growth of KKR has required hiring new team members as well as strengthening our firm s management processes. In order to ensure that our high-performance, entrepreneurial culture thrives, we have augmented and institutionalized development of our people at every stage of their careers. This cultivation of talent and leadership skills will sustain KKR into the future. To ensure that training and teambuilding are aligned with financial incentives, we ve been exceedingly attentive to our compensation system at KKR. Ensuring that our people are incentivized toward alignment with one another, with our investment partners, and with our unitholders is critical to our success. We simply cannot underscore the importance of this enough. Aligning our employees with one another is a central element of our compensation frame work, which is structured to encourage teamwork: there is one P&L at KKR. Because all employees share in success together, they are encouraged to help one another across business lines and around the globe. By promoting teamwork throughout the firm in such a tangible way, we believe we are better able to translate KKR s intellectual capital into actionable, profitable solutions for all of our partners. In addition, because we feel that alignment with unitholders outside the firm is as important as internal alignment, the 55 or so most senior executives at KKR have not received a cash bonus at the public company. These executives receive only their salary and a portion of the 40% KKR carry pool from the public company. Their cash bonus comes in the form of distributions on their units, sourced from the same earnings that fund your distributions as a unitholder. We win when and in the same way that you win. The ultimate aligner of interests is equity ownership. The combination with KPE in 2009 resulted in KKR trading publicly, with 30% of its units held by the public and 70% held by KKR and KKR Capstone employees. Each and every employee owns KKR units. As co-founders and co-ceos, we each personally hold only 13% of the company, which is the result of an intentional effort to make everyone more meaningful owners of the firm we re building together. And we ve held back over 30 million units to compensate rising stars as they grow at the firm. These units are already included in the total unit count, so they can be allocated without dilution. Sustainable Value As a global investor with a long-term horizon, KKR makes investment decisions that can have an enormous impact: millions of individuals depend upon strong returns from our investments for their retirements, education and quality of life; the companies in which we invest employ hundreds of thousands of people; and the operations of our portfolio companies affect and are affected by the communities in which they do business around the world. We believe that we have an obligation to these stakeholders and to ourselves to invest in a responsible way to address the environmental, social and governance (ESG) issues surrounding our investments. Responsible investment is not just the right thing to do; it is also essential for smart investing. We consider ESG issues not only because it makes us good citizens, but because we believe that thoughtful management of these issues is critical to value creation. KKR invests in a wide variety of companies around the world that increasingly face diverse challenges to their longterm sustainability. These challenges can result from mega trends, including globalization, natural resource scarcity, urbanization, information technology and demographic changes, which have brought with them changing public expectations, regulatory demands and market forces. Ignoring such trends could increase our risks as investors, while understanding regulatory and public expectations and thoughtfully managing ESG issues can help us protect and grow value. Recognizing this opportunity, we are committed to integrating the consideration of ESG issues into the way we make our investments. As a start, we established our Global Public Affairs team three years ago to formalize our approach to managing these issues throughout the investment process. Since 2008, this team has developed a comprehensive program dedicated to engaging with stakeholders and analyzing ESG issues in current and prospective investments, preparing us and our portfolio companies for regulatory changes, finding opportunities in these changes and partnering with key stakeholders on important corporate sustainability issues. Our approach focuses on creating shared value through initiatives that benefit our limited partners and investors, our portfolio companies employees and their bottom lines, as well as other stakeholders, the environment and society in general. This approach is also consistent with the Institutional Limited Partner Association principles that we have endorsed. KKR 2010 ANNUAL REPORT 23

26 We believe that one of the key strengths of the private equity governance model is that the alignment of interests between investors and company management teams is for the long term rather than from quarter to quarter, enabling our portfolio companies to focus on the relentless pursuit of mutually agreed-upon objectives. In addition, because of the breadth of our private equity portfolio, we have the ability to share best practices in a way that impacts multiple companies, industries and geographies. We expect that the same focus and access to resources that has made many portfolio companies more productive and efficient will also help make them better global citizens. While we are committed to considering ESG issues in our investment processes, the challenges are not insignificant. We invest in large, complex organizations around the world, and we and our portfolio companies are regularly faced with making trade-offs, some of them controversial. We are not flawless and we may make choices that do not satisfy everyone, but we are committed to engaging constructively with stakeholders and thought leaders in order to make informed decisions that are consistent with global protocols and standards. Because we invest in diverse companies in multiple industries around the world, the outcome of the process will tend to be different from year to year and investment to investment. However, the process through which we address and continuously improve on these issues is critical to ensuring ongoing value creation. We are at the beginning of a journey, but we also understand that considering ESG issues in the private equity investment process is essential to creating sustainable value. For these reasons, we have completed our first-ever responsible investor report, excerpts of which are included in this annual report. Additional details about our performance and goals for the future can be found in the online version of this report, which is available on KKR s website. We look forward to your feedback on all of our efforts. Though the direction of our firm has never been clearer, the hurdles before us are formidable. We must continue to execute our goals as we maintain performance leadership in existing businesses and build attractive track records in new areas. We thank you sincerely for your partnership and look forward to growing together. HENRY R. KRAVIS Co-Founder, Co-Chairman and Co-CEO GEORGE R. ROBERTS Co-Founder, Co-Chairman and Co-CEO 24 KKR 2010 ANNUAL REPORT

27 FINANCIAL OVERVIEW KKR s unit price appreciated by 72% during 2010, compared to 15% for the S&P 500 % KKR 40 S&P : Q1 Q2 Q3 Q4-20 KKR 2010 ANNUAL REPORT 25

28 Cross-asset class capabilities built on a solid foundation of organic AUM growth and strong relationships DOLLARS IN BILLIONS $ $ $ $ $ AUM BY INVESTOR TYPE 3% CORPORATE PENSION 25% SOVEREIGN WEALTH FUNDS/ OTHER GOVERNMENT ENTITIES 37% U.S. PUBLIC PENSION $ $ % ENDOWMENT FOUNDATION 8% FUND OF FUNDS 6% FAMILY OFFICE/HNW PUBLIC MARKETS AUM PRIVATE MARKETS AUM Assets under management (AUM) are presented pro forma for the combination with KPE and therefore exclude the net asset value (NAV) of KPE and its former commitments to KKR s investment funds % FINANCIAL INSTITUTION/ INSURANCE 26 KKR 2010 ANNUAL REPORT

29 Significant earnings power derived from an increasingly diversified business 25% FEE RELATED EARNINGS 57% 18% 37% ECONOMIC NET INCOME 60% 3% PRIVATE MARKETS PUBLIC MARKETS CAPITAL MARKETS & PRINCIPAL ACTIVITIES KKR 2010 ANNUAL REPORT 27

30 Driving Growth Private Markets: Aggregate Private Equity Portfolio Company 2010 Performance +7% REVENUE to $204b EBITDA +15% to $38b Driving Returns 19.9% Public Markets: Liquid Credit Strategy Inception-to-Date Annualized Returns References to gross returns do not take into consideration the payment of applicable fees and expenses. Consequently, net returns would be lower. Gross Benchmark 7.1% 5.2% 11.1% 8.2% 12.2% 9.4% 11.0% See our Annual Report on Form 10-K for important information regarding each benchmark. SECURED CREDIT MODEL INCEPTION 9/2004 HIGH-YIELD CARVE-OUT INCEPTION 9/2004 BANK LOANS & HIGH YIELD INCEPTION 7/2008 OPPORTUNISTIC CREDIT INCEPTION 5/2008 Building Businesses Capital Markets: Fee Related Earnings Performance DOLLARS IN MILLIONS $ % MARGIN $ % 2009 $5.3 29% KKR 2010 ANNUAL REPORT

31 Building Value Book Value per Unit IN DOLLARS $8.38 $7.63 $7.37 $6.93 $ % Y-O-Y GROWTH BOOK VALUE/ ADJUSTED UNIT Adjusted units represent the fully diluted unit count using the if-converted method. Adjusted units are not presented in accordance with accounting principles generally accepted in the United States of America ( GAAP ). See Appendix I (p. 98) for a reconciliation of such mea sures to financial results prepared in accordance with GAAP ACCRUED CARRY/ ADJUSTED UNIT DEC 09 MAR 10 JUN 10 SEP 10 DEC 10 KKR 2010 ANNUAL REPORT 29

32 BUSINESS OVERVIEW Over the course of 35 years, KKR has established itself as a leading global investment firm. Private Markets KKR Public Markets Capital Markets and Principal Activities Throughout our history, we have consistently been a leader in the private equity industry, having completed more than 185 private equity investments with a total transaction value in excess of $435 billion. In recent years, we have grown our firm not only by expanding our geographical presence, but by building complementary businesses in areas such as fixed income, capital markets, infrastructure, and natural resources. These newer efforts build on our core competencies and industry expertise, allowing us to leverage the intellectual capital and synergies in our businesses to capitalize on a broader range of the opportunities we source. 30 KKR 2010 ANNUAL REPORT

33 Private Markets Private Equity We are a world leader in private equity, having raised 16 funds with approximately $60.4 billion of capital commitments through December 31, We invest in industry-leading franchises which attract world-class management teams. Our investment approach leverages our capital base, sourcing advantage, global network and industry knowledge. It also leverages our sizeable team of operating consultants who work exclusively with our portfolio companies, as well as our senior advisors, many of whom are former chief executive officers and leaders of the business community. From our inception in 1976 through December 31, 2010, our investment funds with at least 36 months of investment activity generated a cumulative gross IRR of 25.8%, compared to the 11.6% gross IRR achieved by the S&P 500 Index over the same period, despite the cyclical and some times challenging environments in which we have operated. Infrastructure We manage investments in infrastructure assets in order to capitalize on the growing demand for global infrastructure investment. We believe that the global infrastructure market provides an opportunity for the firm s combination of private investment, operational improvement, and stakeholder engagement skills. This strategy seeks to achieve returns through the acquisition and operational improvement of assets important to the functioning of the economy and also to provide current income to investors. Natural Resources We manage direct investments in natural resources assets, such as oil and natural gas properties. This strategy seeks to generate returns through the production of the underlying natural resources while providing investors with exposure to commodity prices. As of December 31, 2010, we had received $250 million of commitments to this strategy. Public Markets Through our Public Markets segment, we manage a specialty finance company, a number of investment funds, structured finance vehicles and separately managed accounts that invest capital in liquid credit strategies, such as leveraged loans and high yield bonds, and less liquid credit products such as mezzanine debt and special situations investments. These funds, vehicles and accounts are managed by KKR Asset Management LLC. We intend to continue to grow this business by leveraging our global investment platform, experienced investment professionals and the ability to adapt our investment strategies to different market conditions to capitalize on investment opportunities that may arise at every level of the capital structure and across market cycles. KKR Asset Management LLC manages specialty finance company KKR Financial Holdings LLC (NYSE: KFN), whose majorityowned subsidiar ies finance and invest in financial assets, including below investment grade corporate debt, marketable equity securities and private equity. Additionally, KFN has and may make additional investments in other asset classes including natural resources and real estate. As of December 31, 2010, this segment had $14.8 billion of AUM, comprised of $1.4 billion of assets managed in KFN, $7.9 billion of assets managed in structured finance vehicles and $5.5 billion of assets managed in other types of investment vehicles and separately managed accounts. Capital Markets and Principal Activities Capital Markets Our capital markets business supports our firm, our portfolio companies and our clients by providing tailored capital markets advice and developing and implementing both traditional and nontraditional capital solutions for investments and companies seeking financing. Our capital markets services include arranging debt and equity financing for transactions, placing and underwriting securities offerings, structuring new investment products and providing capital markets services. To allow us to carry out these activities, we are registered or authorized to carry out certain broker-dealer activities in various countries in North America, Europe and Asia. Principal Activities Principal Activities refers to other principal activities at our firm, which include investments in our private equity funds as well as co-investments in certain portfolio companies of those funds. Together, these investments provide us with a significant source of capital to further grow and expand our business, increase our participation in our existing portfolio of businesses and further align our interests with those of our investors and other stakeholders. We believe that the market experience and skills of professionals in our capital markets business and the investment expertise of professionals in our Private Markets and Public Markets segments will allow us to continue to grow and diversify this asset base over time. KKR 2010 ANNUAL REPORT 31

34 ENVIRONMENTAL, SOCIAL AND GOVERNANCE OVERVIEW Responsible investment is critical to building better companies and creating long-term value for us and all of our partners. We are active private equity investors who partner with our port folio company management teams to achieve growth and improve productivity. Build ing stronger, better companies creates value for our investment partners, the portfolio companies in which we invest, their employees and the com munities in which they operate. We believe that part of ensuring that we help build better, more productive companies is to partner with our portfolio companies on key environmental, social and governance (ESG) issues. Because we believe that considering these issues is critical to our long-term private equity investment success, in 2009 we became signatories of the globally recognized voluntary frame work of the United Nations-backed Principles for Responsible Investment and helped lead the development of the Private Equity Growth Capital Council s Guidelines on Responsible Investment. We have made important progress on our commitments in Integrating ESG in the Investment Process In recent years, we have taken steps to formally integrate and track ESG considerations, such as environmental and social impacts of business practices or stakeholder expectations, throughout our private equity investment process, with particu lar focus on the due diligence and stewardship phases. Considering ESG Issues in the Pre-Investment Phase We conduct a thorough diligence exercise before we make any private equity investment. Each potential private equity investment undergoes significant review by our industry teams as well as by industry and issue experts and a committee of our most senior executives. Relevant ESG considerations are part of this due diligence for our private equity investments. In some cases we may decide that an ESG issue poses too great a risk for an investment, for example, due to historically high levels of corruption in a country where the target company operates, or concerns with the environmental impact of a company s key product. However, a decision not to invest is rarely exclusively due to ESG issues, because these concerns are often intertwined with other issues that may make the business less attractive for investment. We increasingly see that there can also be potential for creating value through a focus on ESG issues, for example, through mea sures that reduce costs, improve risk management and enhance competitiveness. In 2011, we will continue to focus our attention on integrating ESG considerations in our diligence efforts, including by providing for private equity investment professionals and by implementing a diligence team that assesses every potential investment specifically for ESG risks or oppor tunities. Partnering with the Portfolio on ESG Issues During Stewardship From initial investment to the point of realizing value, companies are usually part of our private equity portfolio for an average of five to seven years, depending on our investment thesis and market conditions. This longer time horizon often allows our port folio companies to invest the time, resources and attention needed to grow the company and provides a unique opportunity for us to partner with our portfolio companies to enhance their management of ESG issues. In 2010, three areas of progress are partic ularly noteworthy: environmental performance, employee engagement and responsible sourcing. Selected 2010 Highlights Educated KKR investment professionals on our commitment to responsible private equity investment and their role in implementation Trained private equity investment and operational professionals on key ESG issues for consideration Increased the number of professionals focused on ESG management and stakeholder engagement Grew our network of external partners and expert advisors on environment, transparency, responsible sourcing, anti-corruption and other issues Communicated our commitment to responsible investment to our portfolio companies and investment partners Expanded the Green Portfolio Program, through our partnership with Environmental Defense Fund, to 16 portfolio companies globally and identified $160 million of costs and 345,000 metric tons of CO2 avoided at eight portfolio companies 32 KKR 2010 ANNUAL REPORT

35 avoiding 345,000 metric tons of greenhouse gas emissions Launched the Responsible Sourcing Initiative, with Business for Social Responsibility, to provide resources to portfolio companies on supply chain sustainability Organized training and best practice summits for portfolio company human resource officers, general counsels, chief purchasing officers and others that included ESG issues Created ESG Round Tables to engage with and learn from our limited partners and portfolio companies on critical ESG issues Created our inaugural sustainability report and integrated key portions in our annual review A Greener Portfolio In 2008, KKR and the Environmental Defense Fund launched the Green Portfolio Program, which today helps drive innovation and business improvements at 16 companies globally. These companies have already produced significant results on many fronts. In 2010, eight Green Portfolio Program companies avoided an estimated $160 million in costs by collectively: producing 1.2 million fewer tons of waste, and reducing paper use by 8,500 tons Visit for more information Engaging Employees Building better, stronger companies creates jobs and opportunities for workers and economic growth for the communities in which those compa nies operate. The companies in which we are invested today employ hundreds of thousands of people around the world. We are very pleased that in 2010, notwithstanding a very volatile and challenging environment, our private equity portfolio grew and many of our portfolio companies added new jobs. One critical component of achieving sustainable growth is effective, collaborative relationships between company management and employees. Therefore, we carefully assess the relationship between workers and management, including, where relevant, organized labor and work councils, before we make new private equity investments. We encourage and support our portfolio companies on maintaining constructive dialogue throughout our investment period. In addition, we strive to work with management to identify opportunities to improve employee engagement and productivity where possible. We see an opportunity to expand our efforts on employee engagement and to share best practices across the portfolio. Therefore, in 2011, we will continue to develop opportunities to partner with company management teams on employee engagement, with a particular focus on issues and shared solutions related to health and wellness. Responsible Sourcing In today s global economy, it can be increasingly challenging for companies to ensure that their and their customers expectations for sus tainability performance are met by their suppliers in distant geographies. Suppliers failure to achieve these expectations can result in unacceptable human impacts and operational risks. Recognizing that we have a unique opportunity to partner with our portfolio companies on this issue, in 2010, we launched our Responsible Sourcing Initiative to work with our portfolio companies to develop effective tools to address this shared challenge. To enhance this effort, we partnered with Business for Social Responsibility, a leading nonprofit organization that works with a network of more than 250 global organizations to develop sustainable business strategies and solutions and has particular expertise in facilitating supply chain sustainability programs. Transparency and Engagement We participate in thoughtful constructive dialogue with the many individuals, investors, organizations and community groups affecting and affected by our business decisions. By doing so, we can better ensure that our approach is sound and informed by a broad range of insights and experiences. As part of this, we have completed our firstever sustainability report, which is excerpted here. We look forward to your feedback on this inaugural effort. KKR 2010 ANNUAL REPORT 33

36 VALUES The bedrock of KKR s culture is a unique spirit of partnership and a shared sense of ownership across all of our businesses. Our founders established the firm in 1976 based on these beliefs, as well as their own unique partnership and lifelong friendship. The same core values are ingrained in the organization today. Not only are they well understood throughout the firm, they are also fundamental to how we recruit, evaluate and reward people. Values 34 KKR 2010 ANNUAL REPORT

37 Teamwork is at the heart of how we operate. We pride ourselves on our one-firm approach, working proactively and collaboratively across businesses and geographies to achieve the best possible results. We continually look for ways to help one another, no matter the issue or where the opportunity resides. In keeping with this approach, every person at KKR is an owner of our firm and shares in our success. We subscribe to the ethos that we can achieve much more collectively than any of us could individually. We conduct ourselves with Integrity in everything we do. Our reputations as individuals and as a firm are paramount. Our word is our bond we say what we mean and we do what we say we will do. As a learning organization, we are selfcritical acknowledging our mistakes and trying always to learn from them. People do business with people they like and trust. As a Relationship-Driven firm, we are deeply committed to building and sustaining long-term partnerships internally and externally grounded in trust and transparency. We know it takes years to build a strong partnership, while one can be ruined in just a few minutes. We work hard to understand and align the interests of all stake holders, and we treat others as we would like to be treated with fairness, compassion and respect. We believe that arrogance kills and has no place at KKR. We readily accept Accountability for our actions, inactions and decisions, both individually and as a firm. We also embrace the implied responsibilities of our one-firm approach: the obligation to speak up and say what we think and to respect and listen to those who do the same. We also have the fortitude to say no, even at the eleventh hour. We deliver on our commitments to our stakeholders, our partners and one another. We constantly strive to be Innovative questioning accepted wisdom, creating new ideas and new approaches, and never resting on our laurels. We are self-starters with a can-do approach and a willingness to take prudent risks. We work passionately to retain the entrepreneurial spirit that created our firm and to fight against politics and bureaucracy. Success In our pursuit of Excellence, we aspire to be the best at what we do and lead by example. We set high standards each of us as individuals and the firm as whole and consistently try to exceed them. We attract self-motivated, highly capable, results-oriented people and invest heavily in their development. We strive for diversity, recognizing that people with different backgrounds, experiences, and perspectives make us a stronger and more effective organization. Our focus on impact and results creates a vibrant and meritocratic environment, directly linking individual performance with the firm s success. These deeply rooted, core values make KKR a very special place to work, and also drive a culture committed to exceptional performance and results for our investors and other stakeholders. KKR 2010 ANNUAL REPORT 35