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

Thanks, everyone, for joining our inaugural dbAccess ESG Conference, and thanks, Andrea, for giving us this opportunity. I am Ashish Sabadra, senior analyst covering business and information services companies. We are excited to host Andrea Blackman, Global Head of ESG Solutions at Moody's. Andrea will go through the presentation, and then we'll open up the line for Q&A. With that, let me hand over to Andrea.

Thanks very much, Ashish. I want to welcome everyone to this discussion on MESG Solutions, and thank you for taking the time to learn about this strategic investment area for Moody's that we believe will further advance our position as a global risk assessment firm. ESG is a large and growing market. A recent study by BlackRock estimates the percent of assets invested sustainably to increase by approximately 40% over the 5-year time horizon. You can see that for globally, it's 37%. For EMEA, it's 47%, and that's up from 21% today. So these trends evidence a long-term shift in investment practices. This is further supported by growth of the sustainable bond market, which is forecast to be at $650 billion by the end of 2021, which is up 35% on 2020. And market size estimates for ESG content and indices are estimated to be in the $1 billion range, where content represents about $300 million in 2021. And all of this, is in a pre-standards environment. The pace of change is accelerating and attracting the attention of regulators, who play a pivotal role in making the consideration of ESG risks and opportunities, a permanent feature of the market. Globally, regulators want to ensure that post-COVID recovery funds are used to Build Back Better and that consumers are protected from greenwashing. Most recently, IOSCO, the SEC and IFRS have announced prioritization of ESG disclosures and accounting standards. In the EU, work was already underway on sustainable finance action plan, NFRD and green bond standard legislation is to be discussed this year. And there were calls for regulating on sustainability service providers, and this is increasing. In the U.S., climate and equity issues are key focus areas. We've expected enrollment change to come. And in APAC, activity is increasing, and China, committed to reach carbon neutrality by 2060, which is bringing them to the international table. Climate is central globally with incorporation of climate risk management being mandated for credit origination, strategic asset allocation as well as scenario analysis and stress testing. But ESG themes are attracting a lot of consideration post-COVID and in response to geopolitical shifts. This includes performance considerations related to diversity, social, racial and income equality, and importantly, this is elevating the importance of dual materiality considerations alongside financial materiality. There is growing focus on disclosure standards to drive comparability, quality and integrity into ESG data metrics and scores. There's innovation in many areas of sustainable finance. And you see this with the emergence of sustainability-linked loans and bonds throughout the course of 2020. Consumers are becoming increasingly vocal around corporate behavior and purpose, and they want investments that reflect their values. And our institutional customers are telling Moody's they need data, analytics and insight to manage performance relating -- reflecting multi-stakeholder impact. The way Moody's has addressed customers' demand is to establish Moody's ESG Solutions to house and share domain expertise and ensure integration across all of Moody's platforms to drive growth and the relevance of our best-in-class solutions. In MIS, the focus on integration into credit, including integration of ESG considerations in our credit ratings and research, the provision of ESG classifications, ESG credit scores and sector heat maps. In MA, we focused on integration to risk management, and information platforms for commercial real estate, for credit professionals globally, in risk analytics and regulatory reporting solutions, lending solutions and tools, small, medium enterprise services through our corporate services and all of it to be delivered by APIs and data feeds that customers can use either in our tools and applications or that they can internalize into their own services. Moody's ESG Solutions is organized into 5 business areas: for ESG measures, Climate Solutions, Index Solutions, SME Solutions and Sustainable Finance. The MESG Solutions Suite, alongside Moody's Investor Service and MA's best-in-class risk assessment capabilities, offers one of the most comprehensive spectrum of services in the ESG domain space. For companies and organizations, banks, insurers, governments, asset managers and asset owners, all of whom are key purchase dependents in risk management, equity and credit markets, our suite of solutions make sure that they can confidently make decisions about risk and opportunities as they integrate nonfinancial risks into their day-to-day activities and support the greening of the economy. We do this by bringing together over 30 years of ESG expertise to meet their rapidly evolving needs and deliver data analytics and insight for their use. And we do this by serving the risk management, equity and credit markets. Now let's run through some specifics from each of the body's ESG business line, starting with ESG measures. Here, we offer data analytics, insight and tools, to identify material factors affecting performance, mitigate risk and measure impact. We have over 5,000 scores on large-cap companies with 270 data points and deep domain expertise across the E, the S and the G. We offer company and sector assessments and controversy monitoring and alerts on over 8,000 companies. We also do normative standard assessments. An example would be, to what extent does a company align to you and SDG standards? Or does a portfolio align with you on SDG standards? We have tools for investment strategy and portfolio construction and review, and we also offer benchmarks to improve the understanding of dual materiality performance. So an asset manager is an asset on our GSF, they're trying to innovate around their own products and services, they're performing portfolio strategy and construction, performance handling analysis and monitoring, and they're also trying to inform themselves in preparation for their stewardship efforts with the companies and entities that they invest in. Banks are looking to our ESG measures in order to perform performance analysis and monitoring of both equity and credit, asset valuation and portfolio risk management. Index providers also use our ESG measures in order to create new indices that reflect the values and the benchmarks that investors want to benchmark themselves too for making their future investments. And then companies are using our ESG measures to know their customer, know their supplier and do compliance and risk monitoring. Climate Risk Solutions have tools to understand, quantify and manage climate risk under different scenarios. Asset managers are using us for portfolio strategy and construction, investment selection, portfolio risk monitoring. Asset owners are using our climate risk solutions to do asset allocation, portfolio monitoring and performance benchmarks, banks and insurers are using our solutions for index innovation for performance benchmarks and to do their regulatory reporting across their asset portfolios. And governments are looking to our climate risk solutions to evaluate systemic resilience, stress testing and reporting. To dive into this just a little bit deeper, in climate risk solutions, we offer transition risk data, with assessments on over 5,000 companies to identify transition risk exposure, spanning from different fossil fuel resource types and power generation technology. We have similar coverage of physical risk hazards, with 2.5 million facilities scored globally, 200 sovereigns and over 10 million commercial real estate properties scored in the U.S. For climate scenarios, we offer country and industry-specific transition scenarios and RCP scenarios that capture physical and transition risk channel. And then we do climate risk quantification by integrating climate scenarios into our probabilities of default and EDS in Moody's Analytics to produce climate adjusted risk evaluation of physical and transition risk for public and private companies, commercial real estate, sovereigns and customer credit. Accounting for common exposure to climate hazards and downstream supply chain disruption resulting in potential tail losses are used to evaluate portfolio concentration, and then our stress testing and TCFD reporting for climate risk metrics and financial risk metrics is used for regulatory compliance. SME solutions serves an emerging area that is growing in importance for companies and banks, where reputations and operational resilience are key areas of risk and the evaluation of small medium enterprise, multi-stakeholder risk criteria is a very complex and difficult area to evaluate. Our solutions screen and examine supply chain risk and bank portfolio concentrations and to give you an example because I think that brings it to life, boohoo is a fast fashion retailer in the U.K. and a really good example of reputational risk companies based. One of boohoo's U.K. suppliers were found to be in violation of health and safety and employee exploitation. Health and safety, because they were asking employees to come in during COVID isolation demand from the government. They weren't allowing for social distancing, and employee exploitation because they weren't meeting the national minimum wage in the U.K. When this was discovered, the share price of boohoo fell by 40%. This is an increasingly complex area to navigate, and there is a lot of legislation by jurisdiction. And we provide predictive ESG scores using model-driven machine learning algorithms. We have over 100,000 pre-scored SMEs and up to 60 data points per entity. We can offer company, industry and geography benchmarks. We can also give companies an advanced SME ESG predictor tool to use with their own internal data if they have it available to them. When portfolio concentrations are discovered, we can do deep dives into those areas that emerge using our small, medium enterprise specialist methodology, and where necessary, for larger suppliers, we can engage in a full analytical process so that the company has a deep understanding and the information that they need in order to engage with their suppliers to improve their performance if required. So if we think about who's using our services and what they're using it for, companies, as I said, know your customer, know your supplier, risk and compliance monitoring and engagement. Banks are using this information in their origination process to do asset valuation and portfolio risk management. Asset owners are using it for product innovation for portfolio strategy and construction as well as performance analysis and monitoring, and of course, index providers who want to provide indices on, for example, leverage loans, will use it to create innovative indices and new products and to do performance benchmarking. Moody's ESG solutions also offers index solutions. Here, we have a multiparty partnership strategy and we support over 75 index families created using our ESG data. We do index design for ETFs, listed and OTC derivatives, certificates, structured products and benchmarks. We support multiple index themes including ESG, climate, biodiversity and gender, and we have over 10 partnerships with index providers, banks and asset managers, where we provide the domain expertise that they need. We offer full life cycle support from creation freedom reporting. And here, you can see, we've already talked about what the index provider's needs. Banks are also using us for their benchmarks, as well as the asset managers, and you can see here just a couple of examples of the partners we have, including Euronext and Solactive. Sustainable finance is another area of Moody's ESG solutions suite. We are a reviewing agency. We provide second-party opinions for bonds and loan issuance, and that includes green, social, sustainability and linked loans and bonds, which is an emerging area. We've provided second-party opinions on over 300 loans and bonds, and we completed 90 in 2020, which is a 40% increase. We're a leading provider with global reach, and we're known for our innovation. You can see there is a really good mix to what we're doing and our product type is evolving as the markets evolve. So you can see we have 65% of our second-party opinions in green bonds; 22% in sustainability bonds; 12% in social bonds, which reflects the growth of social bonds during COVID; and then 1% in other. By sector, we cover companies, banks and insurers, local authorities, sovereign public utilities. Companies need SPOs for their sustainability performance in order to determine their corporate resilience, their stakeholder value and their disclosures. Governments, as I said, need this so that they can make sure that their funds that they're putting up for COVID recovery ensure a Build Back Better program, and they're also trying to influence climate and social transition. And then asset managers, are interested in product innovation, investment selection, exercising their fiduciary duty and conducting stewardship. And in particular, what the asset managers are interested in here -- are interested in -- with this regard, our sustainability ratings and green certificates, which is really a nascent market that's gaining traction in EMEA and in the U.S., and to date, Moody's ESG solutions powered by Vigeo Eiris has provided 25 sustainability ratings to corporates who are interested in further understanding and improving their corporate resilience. As I said in the beginning, what makes Moody's unique in the ESG market is our breadth of offering to serve companies, banks, insurers, government, asset managers and asset owners. An important way we do that is by integration of our ESG domain expertise into Moody's best-in-class risk assessment capabilities. And here are some examples of how we've done that in 2020. So this year, we integrated ESG and physical climate risk scores, ESG company and sector reports, sector heat maps and classification and MIS entity, carbon transition assessments and corporate governance assessment scores into Moody's CreditView, which is our flagship information product for credit professionals. So alongside all the financial information, ratings and benchmarks that you can get from Moody's, you can also now get a view into what is the dual materiality performance of companies alongside the financial materiality that they're expecting to see from Moody's investor service. We've also incorporated our ESG and our climate data, and our controversy data into Moody's data hub. And what that means is that customers of Moody's can come in and they can get all of the information and access the rich data sets that Moody's has to offer as well as ESG, climate risk and controversy data. Working with our economics team, we created the ESG score predictor, and I've already run through what that offers, but this was a great example of how we brought together the domain expertise in ESG, the data set that gives you the ability to calibrate and our ability to forecast and create modeled analytics in order to score large universes of companies in order to make sure that companies, for their supply chain risk evaluation, and banks, for their portfolio risk considerations, have the information they need. We've also integrated, as I mentioned before, our climate scenarios into Moody's analytics, probabilities of default, and we make that available to clients through our climate risk dashboard. Here, you can see climate adjusted scenarios, expected default frequency adjusted for climate risk scenarios, spreads and more. And then we also make our scores for climate risk threshold levels for commercial property locations, ranging from no risk to red flag or extremely high-risk available to our reach network. Finally, Moody's investor service work with the Moody's ESG data to draw financial materiality credit insights from the data we have and they publish thought leadership pieces and consider the inputs as part of their ratings process. Moody's ESG solutions, Moody's Analytics and Moody's Investor Service have also established a place for themselves in the market for innovation and thought leadership. I mentioned for our second-party opinions, we're at the forefront of innovation. We have been involved in a lot of the firsts globally, for sustainability-linked convertible bonds, sustainability-linked to [ cook ]. We did the review for the first social bond in Brazil. We did the first airline sustainability-linked bond and we also did the first sustainability-linked bond in the United States. We've also received awards for ESG's efforts, both for Moody's ESG solutions as well as for its integration into MA. Our affiliate Four Twenty Seven, which powers our climate risk solutions, was named Best Alternative Data Provider by WatersTechnology Asia in 2020. VE, who powers our ESG measure services was Best Green Bond Second-Party Opinion Provider in Singapore named by the Asset Country Awards in 2020. We were also named for Best Local Currency Green Bond Second-Party Opinion Provider by The Asset Regional Awards in Asia in 2020. And then MA was recognized for the Climate Risk Award at Chartis Risk Technology 100. We've also had our data picked up in the media for very high-profile presentations. And in the middle here, you can see a big article that was run on the climate impact on GDP of Climate Risk and it's a global interactive tool that allows you to understand what are the prevailing risks from climate transition in various countries around the world. And then we also are previewed in a lot of the leading industry journals, and there's just one example here, which is environmental finance, where we're featured on trends in the sustainable bond market. And we bring together our expertise from Moody's Investor Service, Moody's ESG Solutions and Moody's Analytics on this topic. And with that, I am available for questions.

Thanks, Andrea. This was a very insightful presentation. Thanks for going over all the details around your ESG offerings. The first question, I'll kick it off with thanks for sizing the ESG product addressable market and growth under Slide 3. And obviously, laying out all the key products. But in terms of Moody's revenues from ESG solutions, can you just help quantify how big that revenue stream is? And then in terms of a realistic growth -- sorry, a realistic dollar and growth target for the ESG solutions over the next 3 to 5 years? Andrea, just wondering if you could help us provide some color on Moody's revenue growth opportunity for ESG products? Sorry, it seems like we may have some technical issue here. Maybe we'll [indiscernible]. [Technical Difficulty] Hey Andrea, sorry. It looks like -- it looks like we had some -- Andrea, I'm not -- oh, thank you very much, Andrea. So just quickly on -- thanks for sizing the ESG products addressable market. My question was, how do we think about the revenue opportunity and growth targets for Moody's from this large ESG solutions over the next 5 years? Any color?

Sure. Sorry, there's feedback. I'm going to try and just talk through it. We don't talk about 5-year forecast. This is considered to be a very early stage business. But what we have been able to say is that we plan on growing 25% next year to the $25 million area, and that excludes earnings that we would expect to make in Moody's Analytics and Moody's Investor Service, which we estimate between the $5 million and $10 million market.

That's very helpful color. Again, thanks for laying out those 5 offerings in the Solutions suite, can you please talk about the relative sizing of the offerings and rank order them in terms of like the importance of growth and the opportunity size? [Audio Gap]

Solution because it is also foundational, but it also forms a key input in order to deliver the regulatory reporting requirements and the risk management solutions required by bank insurers in there.

That's very helpful color. Again, thanks for providing the details around the addressable market. One of the questions that we got from investor was MSCI at the recent Analyst Day, talked about a $4 billion addressable market. You've talked about $1 billion. Any thoughts around the differences? Is it just around the areas that you're targeting? Or is there potential for additional addressable market as you expand your offering?

Sure. I think in the case of MSCI, they were talking about a longer-term time horizon, and they include in there the index business. So when I say $1 billion, that's what it's estimated to be in 2021, and we expect it to grow more in the future.

Extremely helpful. And then as we talk about geographies, you obviously highlighted Europe being one of the leaders in ESG solutions. But as you think about geographies, do you expect similar trend to continue? Or are there certain geographies, which could -- which are way behind and potentially catch up faster? Any thoughts around those fronts?

Yes. I mean in terms of geographies, I think it's clear, we're very strong in Europe. That's where Vigeo Eiris has its roots as a French company. And so what we're aiming to do in Europe is just solidify that position by expanding to other areas of Europe. The other area that I think is going to move fairly quickly, and it's led by climate solutions in the U.S., where there's a lot of attention and action around climate legislation and a desire to be at the forefront of that area along with the other international community. And then Asia is picking up very quickly. And depending on what geography you're in, a lot of the central banks in Asia are already focused on climate stress testing, along with the European. And so that's going to really move that quickly. And a lot of the markets are very keen to be relevant in the sustainable and green finance market. And so we see a lot of activity happening there, and they tend to play catch-up pretty quickly. So I see this as a global expansion, where, of course, from a Moody's ESG perspective, we need to really expand our offering in the U.S. and in Asia.

That's very helpful color, Andrea. One question that I was going to ask you was on the collection of data itself. So one of the things that you mentioned also was just the lack of standardization. And one of the things that we've heard is that, look, there are so many different data providers, a lack of standardization as well as integration challenges. So my question to you is, how do you evangelize ESG with customers, make it easy -- so companies, when I say customers, companies -- and make it easier for companies to standardize and develop workflow to essentially publish their ESG data to you or to other data providers?

Sure. Thanks for that. So the evangelizing that we do with corporates is more about encouraging them to embark upon the journey of developing their strategic resilience and getting a better understanding of their multi-stakeholder performance from an ESG perspective. I think the movement for greater standards and global standard determination and greater focus by regulators on corporate disclosures will help corporates to understand what and how the information that is required of them needs to be presented and that will make their lives easier. I think right now, it's a particular challenge because the different ESG assessment companies come in with their own questionnaire, but that's a reflection of a pre-standards market. Alternatively, you've got technology-enabled providers who are going and they're gathering information using AI and machine learning to bring the information in, in an environment where it's incredibly difficult to get. At Moody's, what we're trying to do is pursue a hybrid model. And what we want to do is use technology enablement to make sure that we are gathering as much of the information as seamlessly as possible for the company, but then we apply analytical overlay to make sure that there's data quality and integrity so that at the end, the information, data, scores and metrics have a lot of utility for the different market participants that need to make use of that.

Very helpful color on that front. I think that's a challenge that we believe a lot of corporates really struggle with, at least based on our conversation, the lack of standardization is definitely a concern. But the color that you provided is extremely helpful. Maybe moving on to the competition. There are a number of data providers, particularly a lot of start-ups or private companies who have this kind of offering. There are some -- a few big players as well. I was just wondering if you can talk about who are the players that you most run into? And then how do you differentiate yourself? Obviously, you have a pretty holistic offering, but how do you differentiate yourself and how do you win against them?

Sure. Okay. So speaking to the corporate start-up. I think the start-ups are great. They're really bringing a lot of innovation in this area. And from a Moody's perspective, to the extent that they're doing something that would add value to the suite of solutions that we have, we're always happy to partner or invest. So the presence of start-ups in this arena, I think, is a real testament to, number one, the commitment of everybody to get this right. And number two, the complexity of what we're dealing with. The people I encounter most are MSCI and S&P, and that's because they're big global companies like -- and so the question arises, what do they have and what's your unique value proposition? I think we talked about it during the presentation. Moody's is doing something that's a little different. We're developing the domain expertise, and we're bringing it together by virtue of the acquisitions we've made, and we're investing in that to scale. But we're also carefully integrating into the best-in-class solutions that we have in order to make sure that we provide the most comprehensive suite of solutions. That will allow all of the market participants to engage the way they need to in the greening of the economy. So I think that's where we come in. I also think that Moody's has a unique collection of data assets. We're also very well-known for the -- for our rigor and our ability to bring clarity to complex problems with our modeling expertise. And so I think we bring a pretty special element to what is a big data, qualitative, structured data arena, and we give it structure and we give it integrity. And that's very important. I think the other thing that Moody's is really known for is the rigor and clarity of our methodologies and our frameworks, which is incredibly important in this arena. If you think about Moody's Investors Service and the credit rating agencies and the methodologies that they have for credit evaluation by sector, we have gotten that in the acquisition that we made of VE, but now it's about doing materiality, and it's about ESG performance for nonfinancial metrics as opposed to financial. And so we're bringing together our history in being able to provide methodologies and the framework, and we're coupling it with this deep domain expertise that we've acquired in order to bring to the market what they need to make sense of this nascent but rapidly emerging area. And I think that gives us all of the qualities that the market has been looking for and why they keep coming to us and saying, "Here are our problems. And can you please help us?" And we're moving very quickly to bring solutions to them as they emerge.

That was extremely helpful, Andrea. That was great color, and it came through even in your presentation, the depth of offering and the breadth of offering that you have. A question -- another question from investors is, do you see any gaps in terms of your offerings? Are there areas where you can potentially build, buy or even acquire? Is M&A a big area of focus? And yes, any areas where you can continue to expand on in addition to what you've already laid out?

And as I said, this is a rapidly emerging area. And as we started at the -- in -- with one of the other questions about all of the different start-ups in different areas, there's such a broad platform of measures and scores in the market. And they have a whole range of uses. But as the integrity of the data improves, as disclosures improve, some of what's out there has less relevance, and some of what the market needs isn't being addressed. Or you can bring together a collection of different capabilities in order to buy solutions that are serving that need. And I think one of the things that we're constantly screening the market for is, what are the component pieces that we would need in order to create a solution? I wouldn't say that there's anything in particular that there is a gap core that we're going after. But Moody's is always open to, what do we have that we can combine into a unique solution to serve a particular need? Or what do we need to acquire? Or what data set is missing that we may need to add in order to be able to keep up with the evolving needs of our customers?

That's extremely helpful, Andrea. Again, this was very helpful conversation. We are on the top of the 45 minutes. Thank you very much for giving us the opportunity to host the call. Thank you.

My pleasure. And thank you for making the time.