The Blackstone Group

Don’t Measure in a Vacuum;
LP Decisions Matter Most

Initiating coverage of BX at Overweight with an $18 YE2010 price target. The Street underappreciates BX’s business model and relative strengths: ultimate value is driven by the size of funds raised across private equity, real estate private equity, funds of hedge funds, and
credit. Decisions by LPs on allocations to alternatives and managers are far more important than quarterly marks/public market’s view of investments cycles. BX can (largely) only control its performance versus other managers. What the Street thinks of BX in a vacuum matters little to its ability to create LT value, as long as LPs continue to allocate to alternatives and believe BX is
generating outperformance. Attractive Valuation: Trading at 13x 2010 and 10x 2011 MS est., below traditional asset managers at 16x 2010 and 14x 2011 consensus. We forecast five-year
forward growth of ~35%, while market is pricing in ~25%. We believe the market is discounting fee-related earnings at 18x and performance-related earnings at 9x.

Potential Positive Catalysts: Fundraising could surprise to the upside in PE and FOHFs. Capital
deployment (e.g., in RPE) could exceed expectations.

Key Risks:

1) Events that weaken capital markets; for stock to work, cap markets must be accessible as
BX looking to sell or IPO several portfolio companies (PCs), continue to strengthen PC’s balance sheets; stronger cap markets also help drive LP liquidity.

2) Faster implementation of higher tax rates would be negative, though we model the rate on carry increasing to corporate levels over time (and think the Street does, too). Wide Risk/Reward Skew: While we see 48% upside in our base case and a favorable risk-reward skew (bull case: +139%, bear case: –51%), the tails are wider than for other stocks in our coverage. And BX could trade far worse than our bear case (its 52-week low is $3.55) on technicals and a negative view of capital markets.

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