14. SEGMENT REPORTING

The Company conducts its alternative asset management business through its distinct operating segments. During the three months ended March 31, 2016, the Company revised its reportable segments by combining two of its segments into a single segment to reflect a change in how the Company is managed. The previously disclosed Tradable Credit Group segment and the Direct Lending Group segment have been combined into a single Credit Group segment. This change was made to more effectively manage the Company’s broad array of credit products and to better position the Credit Group to capitalize on future growth opportunities. The Company has presented its reportable segments for the three months ended March 31, 2015 to conform to the three months ended March 31, 2016 presentation.

The Company’s three revised operating segments are:

Credit Group: The Company’s Credit Group is a leading manager of credit strategies across the non-investment grade credit universe in the U.S. and Europe, with approximately $60.0 billion of assets under management and approximately 125 funds as of March 31, 2016. The Credit Group offers a range of credit strategies across the liquid and illiquid spectrum, including syndicated bank loans, high yield bonds, credit opportunities, special situations, asset-backed investments and U.S. and European direct lending. The Credit Group provides solutions for traditional fixed income investors seeking to access the syndicated bank loan and high yield bond markets and capitalize on opportunities across traded corporate credit. It additionally provides investors access to directly originated fixed and floating rate credit assets and the ability to capitalize on illiquidity premiums across the credit spectrum. The Credit Group’s syndicated bank loan strategy focuses on liquid, traded non-investment grade secured loans to corporate issuers. The high yield bond strategy seeks to deliver a diversified portfolio of liquid, traded non-investment grade corporate bonds, including secured, unsecured and subordinated debt instruments. Credit opportunities is a “go anywhere” strategy seeking to capitalize on market inefficiencies and relative value opportunities across the capital structure. The special situations strategy seeks to invest opportunistically across a broad spectrum of distressed or mispriced investments, including corporate debt, rescue capital, private asset-backed investments, post-reorganization securities and non-performing portfolios. The asset-backed strategy invests across the capital structures of syndicated collateralized loan obligation vehicles (CLOs) and in directly-originated asset-backed instruments comprised of diversified portfolios of consumer and commercial assets. The Company is one of the largest self-originating direct lenders to the U.S. and European middle markets, providing one-stop financing solutions for small-to-medium sized companies, which we believe are increasingly underserved by traditional lenders. The Credit Group conducts its U.S. corporate lending activities primarily through ARCC, the largest business development company as of March 31, 2016, by both market capitalization and total assets. In addition, the Credit Group manages a commercial finance business that provides asset-based and cash flow loans to small and middle-market companies, as well as asset-based facilities to specialty finance companies. The Credit Group’s European direct lending platform is one of the most significant participants in the European middle-market, focusing on self-originated investments in illiquid middle-market credits.

Private Equity Group: The Company’s Private Equity Group has approximately $23.3 billion of assets under management as of March 31, 2016, broadly categorizing its investment strategies as corporate private equity and U.S. power and energy infrastructure. The group manages five corporate private equity commingled funds focused on North America and Europe, one commingled China growth fund, five commingled funds and six related co-investment vehicles focused on U.S. power and energy infrastructure as of March 31, 2016. In its North American and European flexible capital strategy, the Company targets opportunistic majority or shared-control investments in businesses with strong franchises and attractive growth opportunities in North America and Europe. The China growth capital strategy focuses on privately negotiated, minority growth equity investments in China in companies that operate in industries the Company believes will be the primary drivers of China’s economic growth over the next decade. The U.S. power and energy infrastructure strategy targets U.S. energy infrastructure-related assets across the power generation, transmission and midstream sectors, seeking attractive risk-adjusted equity returns with current cash flow and capital appreciation.

Real Estate Group: The Company’s Real Estate Group manages comprehensive public and private equity and debt strategies, with approximately $10.2 billion of assets under management across approximately 46 funds as of March 31, 2016. Real Estate equity strategies focus on applying hands-on value creation initiatives to mismanaged and capital-starved assets, as well as new development, ultimately selling stabilized assets back into the market. The Real Estate Group manages both a value-add strategy and an opportunistic strategy. The value-add strategy seeks to create value by buying assets at attractive valuations and through active asset management of income-producing property types across the U.S. and Western Europe. The opportunistic strategy focuses on manufacturing core assets through development, redevelopment and fixing distressed capital structures across major property types in the U.S. and Europe. The Company’s debt strategies leverage the Real Estate Group’s diverse sources of capital to directly originate and manage commercial mortgage investments on properties that range from stabilized to requiring hands-on value creation. In addition to managing private debt funds, the Real Estate Group makes debt investments through a publicly traded commercial mortgage REIT, Ares Commercial Real Estate Corporation (NYSE: ACRE) (“ACRE”). In addition, the Real Estate Group services a portfolio of over $6 billion in mortgage loans principally through a subsidiary of ACRE.

The Company has an Operations Management Group (the “OMG”) that consists of five shared resource groups to support the Company’s operating segments by providing infrastructure and administrative support in the areas of accounting/finance, operations, information technology, business development, legal/compliance and human resources. Additionally, the OMG provides services to certain of the Company’s investment companies and partnerships, which reimburse the OMG for expenses equal to the costs of services provided. The OMG’s expenses are not allocated to the Company’s three reportable segments but the Company does consider the cost structure of the OMG when evaluating its financial performance.

Economic net income (“ENI”) is a key performance indicator used in the alternative asset management industry. ENI represents net income excluding (a) income tax expense, (b) operating results of Consolidated Funds, (c) depreciation and amortization expense, (d) the effects of changes arising from corporate actions and (e) certain other items that the Company does not believe are indicative of its core performance. Changes arising from corporate actions include equity‑based compensation expenses, the amortization of intangible assets, transaction costs associated with acquisitions and capital transactions, placement fees and underwriting costs and expenses incurred in connection with corporate reorganization. The Company believes the exclusion of these items provides investors with a meaningful indication of the Company’s core operating performance. ENI is evaluated regularly by management as a decision tool for deployment of resources and to assess performances of each of the business segments. The Company believes that reporting ENI is helpful in understanding its business and that investors should review the same supplemental non‑GAAP financial measures that management uses to analyze the segment performance. These measures supplement and should be considered in addition to, and not in lieu of, the Condensed Consolidated Statements of Operations prepared in accordance with GAAP.

Fee related earnings (“FRE”) is a component of ENI and is used to assess the ability of the business to cover direct base compensation and operating expenses from management fees. FRE differs from income before taxes computed in accordance with GAAP as it adjusts for the items included in the calculation of ENI and excludes performance fees, performance fee compensation, investment income from Consolidated Funds and non-consolidated funds and certain other items.

Performance related earnings (“PRE”) is a measure used to assess the Company’s investment performance and its ability to cover performance fee compensation from performance fees and total investment income. PRE differs from income before taxes computed in accordance with GAAP as it only includes performance fees, performance fee compensation and total investment and other income (expense) earned from Consolidated Funds and non‑consolidated funds.

Distributable earnings (“DE”) is a pre‑income tax measure that is used to assess amounts potentially available for distributions to stakeholders. Distributable earnings is calculated as the sum of FRE, realized performance fees, realized performance fee compensation, realized net investment and other income, and further adjusts for expenses arising from transaction costs associated with acquisitions, placement fees, underwriting costs, expenses incurred in connection with corporate reorganization and depreciation. DE differs from income before taxes computed in accordance with GAAP as it is presented before giving effect to unrealized performance fees, unrealized performance fee compensation, unrealized net investment income, amortization of intangibles, equity compensation expense and is further adjusted by certain items described in the non-GAAP reconciling table following our segment results.

Management makes operating decisions and assesses the performance of each of the Company’s business segments based on financial and operating metrics and other data that is presented before giving effect to the consolidation of any of the Consolidated Funds. Consequently, all segment data excludes the assets, liabilities and operating results related to the Consolidated Funds and non‑consolidated funds.

The following table presents the financial results for the Company’s operating segments, as well as the OMG, for the three months ended March 31, 2016:


			Private		Real						Total
	Credit		Equity		Estate		Total				Stand
	Group		Group		Group		Segments		OMG		Alone
Management fees (includes ARCC Part I Fees of $28,625)	$	109,441	$	36,482	$	16,745	$	162,668	$	—	$	162,668
Administrative fees and other income		109		340		406		855		6,674		7,529
Compensation and benefits		(43,914)		(12,167)		(10,714)		(66,795)		(34,714)		(101,509)
General, administrative and other expenses		(5,051)		(2,904)		(3,450)		(11,405)		(18,235)		(29,640)
Fee related earnings		60,585		21,751		2,987		85,323		(46,275)		39,048
Performance fees—realized		6,178		—		171		6,349		—		6,349
Performance fees—unrealized		(29,327)		(12,143)		4,122		(37,348)		—		(37,348)
Performance fee compensation—realized		(1,983)		—		—		(1,983)		—		(1,983)
Performance fee compensation—unrealized		16,605		8,941		(2,233)		23,313		—		23,313
Net performance fees		(8,527)		(3,202)		2,060		(9,669)		—		(9,669)
Investment income (loss)—realized		162		(112)		(132)		(82)		(57)		(139)
Investment income (loss)—unrealized		(4,007)		(7,745)		2,799		(8,953)		385		(8,568)
Interest and other investment income		7,579		(91)		892		8,380		(49)		8,331
Interest expense		(2,448)		(1,405)		(274)		(4,127)		(728)		(4,855)
Net investment income (loss)		1,286		(9,353)		3,285		(4,782)		(449)		(5,231)
Performance related earnings		(7,241)		(12,555)		5,345		(14,451)		(449)		(14,900)
Economic net income	$	53,344	$	9,196	$	8,332	$	70,872	$	(46,724)	$	24,148
Distributable earnings	$	68,083	$	19,605	$	3,343	$	91,031	$	(49,750)	$	41,281

The following table presents the financial results for the Company’s operating segments, as well as the OMG, for the three months ended March 31, 2015:


			Private		Real						Total
	Credit		Equity		Estate		Total				Stand
	Group		Group		Group		Segments		OMG		Alone
Management fees (includes ARCC Part I Fees of $29,042)	$	108,348	$	36,589	$	17,379	$	162,316	$	—	$	162,316
Administrative fees and other income		98		13		854		965		6,385		7,350
Compensation and benefits		(42,565)		(12,321)		(10,131)		(65,017)		(28,914)		(93,931)
General, administrative and other expenses		(7,125)		(3,118)		(2,544)		(12,787)		(15,326)		(28,113)
Fee related earnings		58,756		21,163		5,558		85,477		(37,855)		47,622
Performance fees—realized		35,214		425		—		35,639		—		35,639
Performance fees—unrealized		(19,201)		87,331		320		68,450		—		68,450
Performance fee compensation—realized		(21,004)		(340)		—		(21,344)		—		(21,344)
Performance fee compensation—unrealized		14,531		(69,981)		402		(55,048)		—		(55,048)
Net performance fees		9,540		17,435		722		27,697		—		27,697
Investment income (loss)—realized		8,618		4,172		132		12,922		—		12,922
Investment income (loss)—unrealized		(3,369)		(1,442)		196		(4,615)		—		(4,615)
Interest and other investment income		(1,526)		4,485		29		2,988		—		2,988
Interest expense		(1,734)		(1,680)		(270)		(3,684)		—		(3,684)
Net investment income (loss)		1,989		5,535		87		7,611		—		7,611
Performance related earnings		11,529		22,970		809		35,308		—		35,308
Economic net income	$	70,285	$	44,133	$	6,367	$	120,785	$	(37,855)	$	82,930
Distributable earnings	$	75,707	$	27,086	$	3,382	$	106,175	$	(38,880)	$	67,295

The following table presents the components of the Company’s operating segments’ revenue, expenses and other income (loss):


	For the Three Months Ended March 31,
	2016		2015
Segment Revenues
Management fees (includes ARCC Part I Fees of $28,625 and $29,042 for the three months ended March 31, 2016 and 2015, respectively)	$	162,668	$	162,316
Administrative fees and other income		855		965
Performance fees—realized		6,349		35,639
Performance fees—unrealized		(37,348)		68,450
Total segment revenues	$	132,524	$	267,370
Segment Expenses
Compensation and benefits	$	66,795	$	65,017
General, administrative and other expenses		11,405		12,787
Performance fee compensation—realized		1,983		21,344
Performance fee compensation—unrealized		(23,313)		55,048
Total segment expenses	$	56,870	$	154,196
Other Income (Expense)
Investment income (loss)—realized	$	(82)	$	12,922
Investment income (loss)—unrealized		(8,953)		(4,615)
Interest and other investment income		8,380		2,988
Interest expense		(4,127)		(3,684)
Total other income (expense)	$	(4,782)	$	7,611

The following table reconciles segment revenue to Ares consolidated revenues:


	For the Three Months Ended March 31,
	2016		2015
Total segment revenue	$	132,524	$	267,370
Consolidated Fund revenue eliminated in consolidation		(2,611)		(2,859)
Administrative fees and other income attributable to OMG		6,674		6,385
Performance fees reclass (1)		(572)		(991)
Total consolidated adjustments and reconciling items		3,491		2,535
Total consolidated revenue	$	136,015	$	269,905

(1)

Related to performance fees for AREA Sponsor Holdings LLC, an investment pool. Changes in value of this investment are reflected within other income (expense) in the Company’s Condensed Consolidated Statements of Operations.

The following table reconciles segment expenses to Ares consolidated expenses:


	For the Three Months Ended March 31,
	2016		2015
Total segment expenses	$	56,870	$	154,196
Consolidated Fund expenses added in consolidation		5,979		15,359
Consolidated Fund expenses eliminated in consolidation		(5,752)		(4,686)
OMG expenses		52,949		44,240
Acquisition-related expenses		268		2,224
Equity compensation expense		9,173		7,921
Placement fees and underwriting costs		930		3,045
Amortization of intangibles		7,263		10,892
Depreciation expense		1,858		1,272
Total consolidation adjustments and reconciling items		72,668		80,267
Total consolidated expenses	$	129,538	$	234,463

The following table reconciles segment other income (expense) to Ares consolidated other income:


	For the Three Months Ended March 31,
	2016		2015
Total other income (expense)	$	(4,782)	$	7,611
Consolidated Funds other income added in consolidation, net		(22,803)		(2,583)
Other income from Consolidated Funds eliminated in consolidation, net		12,239		4,999
OMG other income		(449)		—
Performance fee reclass(1)		572		991
Change in value of contingent consideration		(228)		—
Other non-cash expense		—		(11)
Total consolidation adjustments and reconciling items		(10,669)		3,396
Total consolidated other income (expense)	$	(15,451)	$	11,007

(1)

Related to performance fees for AREA Sponsor Holdings LLC. Changes in value of this investment are reflected within other (income) expense in the Company’s Condensed Consolidated Statements of Operations.

The following table presents the reconciliation of income before taxes as reported in the Condensed Consolidated Statements of Operations to segment results of economic net income, fee related earnings, performance related earnings and distributable earnings consists of the following:


	For the Three Months Ended March 31,
	2016		2015
Economic net income
Income (loss) before taxes	$	(8,974)	$	46,449
Adjustments:
Amortization of intangibles		7,263		10,892
Depreciation expense		1,858		1,272
Equity compensation expenses		9,173		7,921
Net acquisition-related expenses		496		2,224
Placement fees and underwriting costs		930		3,045
OMG expenses, net		46,724		37,855
Other non-cash expense		—		11
Income before taxes of non-controlling interests in Consolidated Funds, net of eliminations		13,402		11,116
Total consolidation adjustments and reconciling items		79,846		74,336
Economic net income		70,872		120,785
Total performance fees income - realized		(6,349)		(35,639)
Total performance fees income - unrealized		37,348		(68,450)
Total performance fee compensation - realized		1,983		21,344
Total performance fee compensation - unrealized		(23,313)		55,048
Total investment income		4,782		(7,611)
Fee related earnings		85,323		85,477
Performance fees—realized		6,349		35,639
Performance fee compensation—realized		(1,983)		(21,344)
Investment and other income realized, net		4,171		12,227
Additional adjustments:
Dividend equivalent(1)		(684)		(684)
One-time acquisition costs(1)		(270)		(724)
Income tax expense(1)		(232)		(476)
Non-cash items		164		(156)
Placement fees and underwriting costs(1)		(938)		(3,045)
Depreciation and amortization(1)		(869)		(739)
Distributable earnings	$	91,031	$	106,175
Performance related earnings
Economic net income	$	70,872	$	120,785
Less fee related earnings		(85,323)		(85,477)
Performance related earnings	$	(14,451)	$	35,308

(1)

Certain costs are reduced by the amounts attributable to OMG, which is excluded from segment results.