The Blackstone Group- Accounting for Control of Investment Funds Case Prepared by Robert Bushman

Description & Objectives In June 2007, Blackstone successfully completed an IPO selling “common units” representing limited partnership interests in the Blackstone Group L.P. These common units were sold to public investors and to an investment vehicle established by the People's Republic of China. A significant portion of the proceeds from this offering and the sale of non-voting common units to the State Investment Company were used to purchase interests in the pre-existing businesses from existing owners, including members of the senior management team.

The objectives of this case are to introduce you to fundamental economic and accounting issues related to limited partnerships in the context of control, control rights, cash flow rights, non- controlling interests and organizational design. The data for this case are excerpted from the June 25th, 2007 Prospectus filed by Blackstone with the SEC in support of the IPO. Current and historical financial statements for Blackstone are available at http://ir.blackstone.com/

Analysis Questions

1. Read the descriptions of Limited Partnerships and Limited Liability Companies. 2. Read the section entitled “Organizational Structure”, which includes a detailed diagram of the post-IPO structure of the business. Who is in control of The Blackstone Group LP (the entity involved in the IPO) after the IPO? 3. What portion of the cash flows earned by the investment funds (operating entities) belongs to The Blackstone Group LP? 4. Two Blackstone balance sheets are presented: the last one before the IPO (12/31/06) and the first one after the IPO (6/30/07). There is also a note entitled “Consolidation and Deconsolidation of Blackstone Funds”. Observe the significant difference in “Non- controlling interests” accounts before and after the IPO! Who do these non-controlling interests represent? What is the underlying economic issue underpinning the deconsolidation and the elimination of much of the non-controlling interests?

Bushman: Blackstone Case 1 Limited Partnership (LP): a partnership where in addition to one or more general partners (GPs), there are one or more limited partners (LPs). The GPs have management control and have joint and several liability for the debts of the partnership. The GPs have authority as agents of the firm to bind all the other partners in contracts with third parties. Like shareholders in a corporation, the LPs have limited liability, i.e. they are only liable on debts incurred by the firm to the extent of their registered investment, and they have no management authority. The GPs pay the LPs the equivalent of a dividend on their investment, the nature and extent of which is usually defined in the partnership agreement. – Limited Partnerships (LP) are pass-through entities: profits of the LP flow directly through to the tax returns of the partners. – General Partners (GP) are presumed to have control rights & cash flow rights, but are not shielded from liability. – Limited Partners are presumed to have only cash flows rights, but limited liability.

Limited Liability Company or LLC: The primary advantage of an LLC is that its owners, known as members, are not personally liable for the debts and liabilities of the LLC. For example, if an LLC is forced into bankruptcy, the members will not be required to make up the difference with their own money. If the assets of the LLC are not enough to cover the debts and liabilities, the creditors cannot look to the members, managers or officers for recovery. An LLC is often taxed as a pass-through entity, and the owners of the LLC are not subject to double taxation. With an LLC, the profits "pass through" to the owners who pay taxes at their individual tax rates. The primary characteristic an LLC shares with a corporation is limited liability, and the primary characteristic it shares with a partnership is the availability of pass-through income taxation.

Private equity firms are generally organized as follows. Note the Private Equity Fund itself is a limited partnership, and outside investors are limited partners in the fund. The fund then invests in various private equity transactions. The fund itself is run by the Private Equity Firm which serves as the general partner of the Private Equity Fund. The general partner is usually an LLC whose shareholders are the individuals are managing the Private Equity Firm. This LLC protects these individuals from the any liability associated with being the general partner.

Bushman: Blackstone Case 2 Organizational Structure Prior to the IPO, our business is owned by our founders and other senior managing directors, selected other individuals engaged in some of our businesses," whom we refer to collectively as our "existing owners." In order to facilitate the IPO, prior to this offering we will effect the reorganization into a holding partnership structure as described in "Organizational Structure" whereby our existing owners will contribute to Blackstone Holdings or sell to wholly-owned subsidiaries of The Blackstone Group L.P. (which will in turn contribute them to Blackstone Holdings) each of the operating entities included in our historical combined financial statements.

The income of Blackstone Holdings (including management fees, transaction fees, incentive fees and other fees, as well as carried interest) will benefit The Blackstone Group L.P. to the extent of its equity interest in Blackstone Holdings. Following the reorganization and this offering, The Blackstone Group L.P. will be a holding partnership and, through wholly-owned subsidiaries, hold equity interests in the Blackstone Holdings partnerships. Through wholly-owned subsidiaries, The Blackstone Group L.P. will be the sole general partner of each of the Blackstone Holdings partnerships. Accordingly, The Blackstone Group L.P. will operate and control all of the business and affairs of Blackstone Holdings and will consolidate the financial results of Blackstone Holdings and its consolidated subsidiaries. The Blackstone Group L.P. is itself managed and operated by its general partner, Blackstone Group Management L.L.C., to whom we refer as "our general partner," which is in turn wholly-owned by our senior managing directors and controlled by our founders.

Bushman: Blackstone Case 3 Throughout our history as a privately-owned firm, we have had a management structure involving strong central management by our founders and have been managed with a perspective of achieving successful growth over the long term. Our desire to preserve our current management structure is one of the principal reasons why we have decided to organize The Blackstone Group L.P. as a limited partnership that is managed by our general partner.

The Blackstone Group L.P. has formed a number of wholly-owned subsidiaries to serve as the general partners of the Blackstone Holdings partnerships: Blackstone Holdings I/II GP Inc. (a Delaware corporation that is a domestic corporation for U.S. federal income tax purposes), Blackstone Holdings III GP L.L.C. (a Delaware limited liability company that is a disregarded entity and not an association taxable as a corporation for U.S. federal income tax purposes), Blackstone Holdings IV GP L.P. (a Delaware limited partnership that is a disregarded entity and not an association taxable as a corporation for U.S. federal income tax purposes) and Blackstone Holdings V GP L.P. (a Québec société en commandite that is a foreign corporation for U.S. federal income tax purposes).

The Blackstone Group L.P. intends to conduct all of its material business activities through Blackstone Holdings. Each of the Blackstone Holdings partnerships was formed to hold our interests in different businesses. We expect that our U.S. fee-generating businesses generally will be held by Blackstone Holdings I L.P. We expect that our interests in many of the investments by our corporate private equity funds and real estate opportunity funds in entities that are treated as partnerships for U.S. federal income tax purposes generally will be held by Blackstone Holdings II L.P. We anticipate that Blackstone Holdings III L.P. generally will hold a variety of assets, including interests in entities treated as domestic corporations for U.S. federal income tax purposes. We expect that our interests in certain investments made by our corporate private equity funds and real estate opportunity funds in certain non-U.S. entities and certain other investments generally will be held by Blackstone Holdings IV L.P. We expect that our non-U.S. fee-generating businesses generally will be held by Blackstone Holdings V L.P.

As discussed in "Material U.S. Federal Tax Considerations", The Blackstone Group L.P. will be treated as a partnership and not as a corporation for U.S. federal income tax purposes. An entity that is treated as a partnership for U.S. federal income tax purposes is not a taxable entity and incurs no U.S. federal income tax liability. Instead, each partner is required to take into account its allocable share of items of income, gain, loss and deduction of the partnership in computing its U.S. federal income tax liability, whether or not cash distributions are then made. Investors in this offering will become limited partners of The Blackstone Group L.P. However, our partnership agreement does not restrict our ability to take actions that may result in our being treated as an entity taxable as a corporation for U.S. federal (and applicable state) income tax purposes. We believe that The Blackstone Holdings partnerships will also be treated as partnerships and not as corporations for U.S. federal income tax purposes. Accordingly, the holders of partnership units in Blackstone Holdings, including The Blackstone Group L.P.'s wholly-owned subsidiaries, will incur U.S. federal, state and local income taxes on their proportionate share of any net taxable income of Blackstone Holdings. See "Material U.S. Federal Tax Considerations—United States Taxes—Taxation of our Partnership and the Blackstone Holdings Partnerships" for more information about the tax treatment of The Blackstone Group L.P. and Blackstone Holdings.

Each of the Blackstone Holdings partnerships will have an identical number of partnership units outstanding. The Blackstone Group L.P. will hold, through wholly-owned subsidiaries, a number of Blackstone Holdings partnership units equal to the number of common units that The Blackstone Group L.P. has issued. Immediately following this offering and the sale of non-voting common units to the State Investment Company, The Blackstone Group L.P. will hold Blackstone Holdings partnership units representing 21.7% of the total number of partnership units of Blackstone Holdings, or 23.6% if the underwriters exercise in full their option to purchase additional common units, and our existing owners will hold Blackstone Holdings partnership units representing 78.3% of the total number of partnership units of Blackstone Holdings, or 76.4% if the underwriters exercise in full their option to purchase additional common units. The Blackstone Holdings partnership units that will be held by The Blackstone Group L.P.'s wholly-owned subsidiaries will be economically identical in all respects to the

Bushman: Blackstone Case 4 Table of Contents

PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS

THE BLACKSTONE GROUP L.P. Condensed Consolidated and Combined Statements of Financial Condition (Unaudited) (Dollars in Thousands, Except Unit Data)

June 30, December 31, 2007 2006 Assets Cash and Cash Equivalents $ 1,433,363 $ 129,443 Cash Held by Blackstone Funds 467,766 810,725 Investments, at Fair Value 10,779,425 31,263,573 Accounts Receivable 294,124 656,165 Due from Brokers 604,312 398,196 Investment Subscriptions Paid in Advance 879,073 280,917 Due from Affiliates 373,011 257,225 Other Assets 93,258 94,800 Intangible Assets 715,088 — Goodwill 1,551,175 — Deferred Tax Assets 1,589,296 —

Total Assets $ 18,779,891 $ 33,891,044

Liabilities and Partners’ Capital Loans Payable $ 176,930 $ 975,981 Amounts Due to Non-Controlling Interest Holders 293,310 647,418 Securities Sold, Not Yet Purchased 638,982 422,788 Due to Affiliates 2,092,719 103,428 Accrued Compensation and Benefits 108,891 66,301 Accounts Payable, Accrued Expenses and Other Liabilities 149,874 157,355

Total Liabilities 3,460,706 2,373,271

Commitments and Contingencies

Non-Controlling Interests in Consolidated Entities 10,760,330 28,794,894

Partners’ Capital Partners’ Capital (common units, 260,171,677 issued and outstanding as of June 30, 2007) 4,558,505 2,712,605 Accumulated Other Comprehensive Income 350 10,274

Total Partners’ Capital 4,558,855 2,722,879

Total Liabilities and Partners’ Capital $ 18,779,891 $ 33,891,044

See notes to condensed consolidated and combined financial statements.

4

Bushman: Blackstone Case 5