Moody's Corporation (MCO) Earnings Call Transcript & Summary

Welcome, everybody, to the CSI conference 2020. This is our -- I believe our third CSI conference but our first virtual CSI conference. And hopefully, next year, we'll be able to see all of you back in person in Boston. I want to welcome Steve Tulenko, who's the President of Moody's Analytics. I want to thank you very much for joining us for this fireside chat. I also want to let people know that Shivani Kak, who heads Investor Relations for Moody's, is also on the line. And I want to thank you both for joining. I want to ask you, Steve, to just give us a really quick 1- to 2-minute kind of overview, and then we're going to jump into some questions. And I want to also let people know on the webcast, if you have questions, you can submit them via the webcast, and I will ask those questions. And I encourage you to go ahead and do that. I'll ask my own questions, but I'm also -- we'll read your questions and submit them to Steve as well. So with that, Steve, do you mind starting kind of a quick overview of Moody's?

Sure. So good morning, everybody. Good morning for those of you in the U.S., at least. I'm Steve Tulenko. I joined Moody's a long time ago, about 30 years ago, literally almost to the date. I took over as President of Moody's Analytics back in November of 2019. As you can imagine, the last 6 months have been pretty interesting. A few things that were not on the plan when we started forth in this journey have occurred. I would say, for the most part, Moody's is doing pretty well. Bond issuance numbers have been surprisingly good, and Moody's Analytics is faring well despite some challenges with COVID and all the challenges that brings in terms of customer interactions. Let's see. Some of our -- we can talk about highlights within the business when the time comes here, but perhaps I can start by saying that things are going reasonably well given all of these challenges that no one expected. The civil unrest and diversity and inclusion topic is one that we've spent a lot of time talking about in the last several weeks as well -- a few weeks as well. It's one that we've taken very seriously and tried to demonstrate to our employees and to our customers and to our communities that we're very intent on reinforcing our commitment to D&I. So that's probably another thing we should hit.

Okay. Sure. And maybe we'll put that as part of the -- we'll definitely put that as well on the list of things that we're going to touch on here. But just to open up, I'm going to just ask you just a couple of -- even though you're Head of Moody's Analytics, I mean it's on a lot of investors' minds about what's going on with Moody's Investors Services, the bond issuance business. And can you just go over kind of the assumptions about the debt issuance in 2020? What are some of the primary underpinnings of your -- of the assumptions? What are you guys expecting this year?

Yes. So we have -- I think in our last couple of communications through our earnings calls, and we've done a couple of fireside chats, we've talked about our expectations that issuance would be down year-on-year in 2020. The COVID scenario certainly is one that caused us some concerns. You've got a combination of factors: one, a decrease in economic activity; and then two, you've got some challenges for credit in general. So we expect to see some increases in defaults and expect issuance levels to drop year-on-year. The last couple of weeks in terms of bond market activity have been very interesting, and we're not in a position today to actually refresh expectations with respect to issuance numbers. But I think it's fair to say that the numbers are very interesting in the last couple of weeks. Economic numbers from last week were also very interesting, so very challenging just to keep up and keep your projections fresh.

Yes. Fine...

Shivani, is there anything -- we have -- one of my colleagues is here from Investor Relations. Shivani, is there anything else you'd add to that, just to make sure I round that or...

Sure. Just to give some of the details. In -- on April 30, when we had our earnings call, we talked about the fact that we're expecting an economic recovery late third quarter, early fourth quarter. And our expectations was that high-yield default rates would be between 11% and 16%. We talked about unemployment rate full year average for the U.S. being around 10%. And when we talked about issuance and what our expectations were just for the numbers to be down, we said for the corporate issuance, nonfinancial corporate investment-grade issuance to be up 10%, high yield to be down 20% and leverage loans to decline by 40%. We have seen strong issuance from corporate investment-grade issuance, and I think a lot of people have been asking how much of that is pull forward. And we're continuing to monitor, and we will provide an update on our next earnings call on that.

Yes. Okay, great. And yes, we've noticed that as well and put out some research on that. The investment-grade issuance has been very, very strong for the last few months. That's something that's been probably more than people have expected. Maybe you could talk a little bit -- one more kind of issuance question. Just in terms of the federal government has been buying a lot of the corporate debt and propping up a lot of the debt capital markets. You guys have your own internal economists. Do you guys believe that that's going to continue for -- indefinitely? Does the government have the capacity to keep doing this kind of easing for an extended period of time? Or do you think that this gets to be a point in time where it's exhausted and there would be -- the support in the debt markets, that might actually not be there the way that we have seen it up until now?

Yes. Yes, I would say that we've heard from officials in the Fed and officials in the Treasury statements that would give you confidence that they'll do whatever it takes to make sure that these markets stay open and function normally. We've heard that from the beginning. There have been, of course, many programs here to provide stimulus, whether it's monetary or fiscal. And I think we have confidence that they'll do whatever is necessary to make sure things go as normally as they can go in light of these circumstances and make sure that things stay open and function normally. Yes. I think projecting what the next form of stimulus might be is probably something we should wait and let some of the experts talk about.

Okay, great. Then I think I'm going to jump into some of the Moody's Analytics business questions. Can you just go through how is the pandemic impacting the various businesses within Moody's Analytics, you have RD&A, you have ERS? Can you talk about the underlying components of each of the units? And how are you feeling it?

Yes, sure. So if I break things down into 2 basic areas, you've got the research, data & analytics unit, and then you've got the enterprise risk solutions unit. Probably the most important thing to note, in general, is that RD&A is almost -- it's literally almost 100% renewable subscription revenues, and we enjoy very nice retention rates there. So the recurring base of business is very solid. We haven't seen any indication of increased retention problems actually. And in fact, our -- the usage of our products is strong across the board, in fact, stronger than ever. In ERS, people think of ERS as sort of a software business, but it's probably worth noting more than -- gosh, I think the number last quarter was something like -- it's in the high 70s or low 80s depending on the quarter. High 70s, low 80s proportion of that revenue is also subscription money, and it also enjoys nice retention rates as well. So we feel pretty good about that. There are project, especially software implementation projects and some advisory projects that we do in ERS. And while they are continuing and customers are working together with us to complete projects we've begun, some of the new ones are not starting maybe according to the original plans that customers had. So that's one place where you see a specific impact from COVID, where some of the project work is either delayed or people are thinking about it twice. That said, it is interesting. I have other anecdotal stories where people say, "Gosh, in light of COVID, we better hurry up and get started because I'm worried resources are going to be constrained and maybe things might be challenging in the future, so let's get our project started." So there's some anecdotal and idiosyncratic evidence to suggest that things are okay, too. But that's the biggest difference. The renewable business is very much intact, very strong recurring revenues. That really permeates the RD&A segment and the ERS segment. And then there's roughly 20%-ish in ERS, where you've got a different set of headwinds in light of project work that's going on.

Okay. And then can you just talk a little bit, I think you touched on that, the engagement trends that you're seeing since March. Which ones were highly utilized? Did any of the engagement trends drop down? Or what -- and how do you think of the engagement trends as you move forward, what's the impact for the business?

Yes. And so it's interesting. So in preparation for the Q1 earnings call, we did some work to just take a look around to see if -- see what those usage statistics look like and engagement trends look like. And across the board, people are interacting with us, tapping our website, calling our analysts, taking part in webinars and conferences really more than ever before. And we've been careful to benchmark those trends on sort of seasonally adjusted kinds of numbers and not just month-to-month, but let's look at trailing 12-month numbers and then just try to see if there's anything else. It's clear people are using us more than ever, not just in terms of credit, but also in terms of things like our impairment allowance calculators. For example, people are running calculations to project what their impairment allowance will be more often this quarter than they ever have before. That's not just because of CECL, we think. We think it's because they're testing different scenarios and doing what-if analysis to try and understand the impact on their business. So the traditional Moody's franchise around credit and helping people do a good job around credit work is definitely seeing more engagement, but also our calculators are being used more often because people are doing what-if analysis. One thing I will note, probably the most interesting thing which might be pretty obvious to everybody is the use of our economic scenarios is really a bright spot. The usage levels are through the roof, but those economic scenarios are often used in some of our other product condition models and to help with projections. So you can imagine it's by virtue of the fact that we bring economic scenarios, together with credit models or other risk models, to project the future or try to come up with scenario-based projections that were really adding value for people today.

And so if the engagement is that strong, does that -- historically, as you've run this business and worked in the business, does that usually translate to much better retention metrics, better cross-sell metrics? How do you guys think about it in terms of translating this 6 to 12 months down the line for you?

Yes. I mean -- so I ran sales for a long time at Moody's. When you're engaged with customers, you develop stronger relationships, for sure. I think people feel better about working with you, in general, so that's a positive. But it also enables you to open up a conversation or 2 because you're engaging on topics that aren't just revenue-based all the time. You might be talking about something that's helping them achieve a particular goal in a short period of time or whatever their deadline might be. While you're at it, you can ask a question or 2, and that may lead you to other explorations of other opportunities to cross-sell things. So I would say that dealing with this particular crisis, it is helpful to have integrated risk perspectives. And Moody's capabilities can really add value because we can come in from a lot of different perspectives to help. And it's that combo of capabilities that I think can lend itself to some growth in the future. As we engage with customers, they can see that we can help them in other ways than maybe they knew before.

Okay, great. And just as when you -- as you run sales in -- as you have run sales in for this business, are there seasonal trends to keep an eye on in terms of selling season? And as things return to normal over the rest of the year, is there certain milestones that, like, "Hey, we really need to be able to get in front of customers by X point in time in order to drive more cross-sell and things like that?"

Yes. So those are good questions. It sounds like you might have been in sales before. Yes. So the -- maybe the first thing to acknowledge is virtually everything we sell has a sales cycle to it that requires -- has a -- the approvals that are required to buy our products are maybe moving up into managing director kind of territory or higher within an organization, so everything takes a little bit of time. Most of our sales cycles are in the 9- to 12-month range. And we're seeing some of those, at least the sales reps are projecting them to be a little bit longer at this point. So that's worth noting. So we think things will take a little longer to get through the cycle, and we're not there in person to create the really effective 1.5 hours of time with everybody in a room to kind of make a final recommendation. So we're doing a lot of work through video conferencing and a lot of work through, what I'll call -- I call them meet-ups and other techniques to try and get user communities together to reinforce the value proposition, but that all takes a little bit longer, we think. And then the other thing I'll note, just in terms of seasonality, there's 2 notes. I'm sure everybody travels a lot in the spring, and then a lot of people take vacations in the summer and then often people travel again in the fall. So our spring travel season this year is very different, and therefore, pipeline generation is a little different in light of that. We're hoping we can work more with people in the summer because we'll be able to engage with them the same way, whether they're at home or on vacation at home. We're hoping we can keep things rolling a little bit through the summer to make up for some of that, call it, lost time in the springtime. And then the fall looks like things may open up a bit, so that's nice. And I guess I would add we're starting to get creative in terms of sales rep deployment and trying to make sure that our reps that are in places like Texas can represent more than just 1 or 2 products. They -- we're training and cross-training everyone we can around the country and around Europe to make sure that those who are already in those locations have been cross-trained and can represent us in a wider way or wider-reaching way. The other seasonality comment I'll make is the biggest portion of our renewable base actually comes due in December and January. So having COVID in the springtime and summer months is probably a little bit better because leading into the biggest renewal season, we should have less of an impact from COVID.

Great. Okay. And maybe you could talk a little bit about the ESG efforts within the company. The company has made a number of acquisitions in Four Twenty Seven. You did Vigeo Eiris, SynTao Green Finance. Could you talk a little bit about what Moody's was doing beforehand and what it can now do in ESG with these different acquisitions?

Sure. I mean if you go back a couple of years, I think you would have multiple conversations and profound conversations about issuers and about trends affecting issuers in MIS. So the rating analysts would be thinking about climate and thinking about other ESG factors very intentionally in terms of rounding out their perspective on particular issuers and the ratings for those particular issuers. That's been going on for a while, and I would say I'm sure you could go back farther than 2 or 3 years to see that. In MA, we've started to do scenario construction here to support climate change scenarios. We've done a lot of work with scoring, so we condition our credit-scoring models, for example, with some scenarios that incorporate climate. We've done a bunch of work for some big banks and for some of the regulators, especially in Europe, and to some extent, here in the U.S., just trying to prepare for what they expect to be some regulatory dynamics around especially climate risk and have done some very interesting work to regress different ESG factors against credit performance. It's interesting, by the way, climate, of course, has a big impact, but so does governance, as you would expect. And let's see. So we've been working at this for several years. In the recent couple of months, I would say we've redoubled the effort in recent years. So we've redoubled the effort. We've made a couple of acquisitions to make sure that we've got some capabilities that we considered important. Data from Four Twenty Seven on climate change and transition risk is very useful and very interesting to our customer base. The Vigeo Eiris data, Vigeo Eiris ratings and scores are quite useful as well. I would say that in the last -- this is probably the best way to answer your question, Shlomo. In the last 8 to 10 months, customers are not just asking us for more information, but they're asking if we can provide them something to help them make a better decision, and they're literally asking us if they can pay for something. There's questions where they expect we're going to end up delivering a service, and they have budgets to pay for stuff. That's the biggest difference in the last 12 months, I would say. A year ago, customer behavior was expressing interest in this topic. Now they're expecting us and expecting that they'll use us to help them.

Okay. I want to jump to a couple of questions that have been put out there on the webcast. One of them was asking about going back to kind of the sales cycle and just the way that the business works is that it's very much a subscription revenue basis. The question that was asked here, given the limited impact of new sales on 2020 revenue, does it mean that if we're having more challenges this year in terms of sales in the spring, does it mean that really the challenges in the sales will have a greater impact on 2021 revenue in terms of I think the question is in terms of the growth? So in other words, it doesn't impact that much this year as you're thinking about as it would in 2021?

Yes. We -- well, we've put up a chart, I think, in one of our calls here where we showed the proportion of revenue that is dependent on recurring subscription sales and then -- I should say recurring revenues and then a proportion of revenue that comes from new sales. And as I recall, I think that number was 10% in 2020 of our revenue is dependent on new selling. We are still making new sales happen, of course, and I think we guided revenues to mid-single digits this year. So there's a little bit of an impact, especially from the, I'll call it, the challenges we're facing in terms of going to see customers. There's no question about that. With respect to 2021, I don't think we're in a position to refresh guidance here per se. I think it's fair to say that we need to do some things differently in 2020 in order to try to achieve the same kind of growth rates that we know the business has the potential to deliver. So that's what we're concentrating on is making sure that the existing customers have all the things that they possibly can have. We make sure that they are using our products as well as they possibly can and then -- and making sure we have conversations about cross-sales, especially as their needs are changing here to deliver. So that's our #1 objective. #2 objective is to try to get people into places like Italy or France or Texas or North Carolina, where our customers are, and not necessarily require travel from New York or London to do it. We're getting creative about trying to get to where our customers are.

Okay. When you're saying creative, you're talking about using people that are already in-country? Or are you talking about remotely?

A little bit of both. People who are in Italy, we're cross-training with -- so they know more about more of our products and then trying to coordinate the phone calls with maybe one of our Italian reps in person and then connect with our expert who happens to sit in Paris. But that's one way. And then the other thing is we're starting to get creative about talking to people about getting out there into regions who have maybe specialized expertise in order to connect with customers around that expertise. Of course, you have to be careful. You can imagine, if you're coming from New York and going to visit a place that doesn't have many cases, there's a challenge or 2 there in terms of seeing customers. So we have to demonstrate that we're safe, and that takes some time, yes.

Understood. There's another question. I'm not sure this is a question you can answer. But since it's put up here, I'm going to ask it anyway, and maybe Shivani would chime in. The question came, is there a -- as Moody's looked at some of the other companies in terms of they would be attractive to them, like Tradeweb and MarketAxess, those things that would be attractive to Moody's if they were available?

So I mean I think the answer that we will give here is -- Shivani, let me know if I -- if there's anything else to add, is we're always looking for interesting opportunities, and COVID doesn't preclude us from exploring for opportunities. I would say we're pretty intentional about looking for things that make a lot of sense from an industrial logic perspective, something that's in the risk space. If it's not, maybe a segment that we're planning to spend more time in or dedicate more resource in. We won't look as hard as something where we have already dedicated some resources. I mean, ESG, for example, cyber, what we're doing with know-your-customer segments, those 3 areas of expansion are areas where we're investing internally and would always be thinking about things externally. If you called me and said, "Gosh, I've got a new idea." It's maybe a smaller risk segment that maybe we aren't as focused on right now, that might not be one we look as closely at. Shivani, anything else to add there?

No. I think you've pretty much covered it. Thanks, Steve.

Okay. And this is one that, I think, I just want to throw out there because I think about this a lot. In terms of -- how should we think about the margin expansion progression for Moody's Analytics? Like if you took what you do and what other competitors' products the kind of margins that they get for SaaS businesses or information services businesses, it would imply an operating margin that's just way higher than what the Moody's Analytics business is generating today. If you could talk a little bit about why there is that kind of discrepancy, if there's a scale issue, if there's something that there's a significant investment going on? And how long it would take to kind of overcome those -- that gap?

Yes. So way higher is one I want to talk to you about, I think. But yes, the -- I would say a margin expansion at Moody's Analytics, in general, let's say a couple of things. One, margins have expanded quite a bit in the last few years. I think I'll get -- I think have this right, 2016 to what we're currently guiding to indicate something like 700 basis points of margin expansion for MA. So things are on the right track there in terms of margin expansion if you're looking at those 2 numbers. The -- we have a couple of different -- Moody's Analytics has a few different business segments and a few different types of activities. We have information businesses like Bureau van Dijk's Orbis product. We have software businesses like you see in ERS, and we have some modeling businesses, of course, and analytic tools that we create. And there's different margin profiles for different businesses. Probably the biggest thing that I would say that maybe would explain our margin performance compared to some other maybe competitors would be that we're constantly investing in the business. And some places, the investments are pretty substantial. So our research and development work, our efforts to create a new product around impairments to support the CECL activities, our efforts to create a new product around the insurance accounting standard called IFRS 17, these are investment activities that go on inside our operating budget, and they cost some money to build. So that investment activity is happening all the time. There, of course, are inorganic things that happen, the sale of Max improved margins. The -- when we buy a company, sometimes we take a hit in terms of deferred revenue haircuts. Those things are sort of, I think, identifiable. But in general, when you move to SaaS and we are constant -- we are already on our way to almost delivering -- we have every one of our software products now available in a SaaS -- with a SaaS option, and that's a good way to generate some margin. Use of the cloud in terms of just managing server cost is also quite useful. And then, of course, we have research and data products that generate some nice margins. So investment in improvements may be the biggest thing. I wouldn't say we have a scale problem. We have a scale opportunity.

Okay. And then while we're on that topic, maybe you could just talk about where you are in terms of investments to make the company's data like centralized, interoperable, available for use across different segments. Is there, like, an initiative inside the company for that? And where are you in terms of, like, moving the products and data just to the cloud to make them very easy to update and very easy to create products off of?

Yes. So maybe a couple of things to say. One, interoperability, there's sort of different degrees of interoperability. We share data between units and between products. All of MIS's content is really sold through Moody's Analytics in some form. So the systems in the rating agency that create and store and keep track of ratings are the systems that we connect with in MA to redistribute that content. We have economic scenarios, for example. We're making them available and using them to condition -- gosh, I did a count the other day. I think it's 15 or 20 of our products. So you can get refreshed perspective every time our economists update the scenario systems we have. Lots of interoperability is required when you're doing our loan origination. We offer our loan origination tools, for example. And that's probably a platform that's worth noting. This next-generation of credit decisioning software we've created, I think 70% of the customers who bought it in the last 12 months have bought it in a software delivered as a service. It connects with all of our credit-scoring models. We are working now to pull in real estate information from REITs. We're working to pull in information from BvD. So we're on the journey and making these components that are often delivered in the form of APIs or connected in the form of APIs available through various products across the board. I would say that's sort of the tactical answer. The strategic answer around interoperability is this. We, as a company, are taking that very seriously as an opportunity to grow our business better and faster, maybe more importantly, to deliver solutions to our customers in a better way. And the architectural and strategic decisions are things that we are coordinating on today in a much more profound way. Hard to describe that without saying that -- things like, I am involved in conversations with my boss and with other leaders of other business units in order to make sure that we are adopting consistent architectural governance that gives us a chance for interoperability in the future. And maybe the most important thing to say is we aim to build things to make sure that the cost of change is something that's manageable and minimized so that we can adapt better as our customers change. So that's probably the most profound thing I can say. And I would say that's not something we would have said 2 or 3 years ago. Moody's is very focused on making sure we can minimize the cost of change, so adaptability is at a premium -- or adaptability is very readily available.

Great. Thank you very much. I want to thank you, Steve and Shivani, for taking the time to address us. And hopefully, we will be able to see you guys again next year, actually in person, at the CSI conference. So thank you so much.

Thanks, Shlomo. Thanks, everybody.

Thank you.