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

Yes. So I'd first note that we have some very significant relationships with the world's largest alternative asset managers, as you might imagine. But if you just think about just on the rating side for a moment, your typical large alternative asset manager, we may be providing a rating on their various parent companies and financing vehicles, providing ratings on companies that are in their private equity fund, getting leveraged buyouts, so high yield and leveraged loan ratings. We're rating the CLOs. We're providing credit estimates for the exposures in the CLOs. We're rating the BDCs. There's a lot going on already. And we're expressing a view on credit across a huge portion of their portfolios but not all, as we know. And so we've thought about, is this an opportunity? Is this a threat? Again, I tend to think of these things as opportunities. I think this is an opportunity for us. We've had some really great discussions with some of these firms about the utility of getting -- expressing a view of credit on the rest of their portfolio. So in some cases, we have investors in these funds who want to have a third-party view of the credit risk of the fund itself. That has been a driver of engagement. And we have been expanding and enhancing our product suite to better accommodate to the needs of players in the private credit market. That's around our private company database I talked about, world's largest database. We're going to be rolling out a significant enhancement to our moodys.com platform, which today is about rated companies, to cover thousands of unrated companies. That's another way that we will be addressing this market. And while there -- Christian, I have to acknowledge, there can be some substitution of public market issuance into the private credit markets. I acknowledge that is the case, especially when private -- public markets have some dislocation. I think there's also an element of simply deferral. And so we have already seen companies that raised financing from -- in the private credit space who've decided that they want to access public credit markets. In many cases, those are -- that's a cheaper source of funding. So some of that, Christian, I look at and say, this is actually good news for the future of the public rating business.

Almost a pipeline.

Yes, pipeline. Exactly.

Perfect. Maybe circling back to regional opportunities. China, you mentioned earlier on, how are you thinking about our opportunities today? What's the state of the business in China? Obviously, geopolitical tensions are pretty high. So just curious how that business is going.

It's amazing how the nature of these questions change over the span of just a few years. It used to be a couple of years, maybe 3 years ago, there are a lot of questions about our strategy, rating strategy in China. Aren't we concerned that we haven't gone on our own as Moody's into China. And I don't know whether we were lucky or good, Christian, maybe it doesn't matter. But I feel very comfortable with our strategy. So just to level set for everyone, we own a 30% stake in the largest domestic rating agency in China. We made that investment back in 2006. It's now a very substantial entity. As I said earlier, Christian, the domestic Chinese market's one of the largest bond markets in the world. And so I view our strategy as operating through the leading Chinese agency, which, I believe at least for the foreseeable future, is a much more comfortable place to be and likely to be much more successful. I think the Chinese are much more likely to let one of their own institutions be the leader in their domestic bond market rather than let a U.S.-owned entity. And so, Christian, we have an interesting relationship with them. We don't manage the ratings in any way. There's no Moody's branding, but we have a very good working relationship. Our commercial teams call together. We have a pretty compelling value proposition to issuers when we say, you can get a rating, a local currency rating from the best Chinese rating agency and a global rating from Moody's. We'll do events together, write research together. So we have a very effective working relationship. And given what's going on in China, I think this is for now the best approach.

Okay. Let's switch over to the analytics business. Just a quick reminder, you can ask a question through the Pigeonhole system, which is pigeonhole.at. And the passcode is SDC 2023. Okay. So analytics business, to your point, a really nice growing business. You have really punchy targets out there, low to mid-teens sort of growth for that business, which you've delivered so far. How are you thinking about growth over sort of the intermediate term, maybe 1 to 2 years, just given it's a choppier macro backdrop?

Yes. Depending on the level of choppiness, that can be quite good for us. There's an inflection point of market stress where if we get over that inflection point, it starts to become challenging for our business and any other business, where you start to see sales cycle slowdown and other things. But in a market of uncertainty and risk, certainly, like we have now, there's a lot of demand for products like ours. And you saw the results last year, 10% ARR growth. You're right, we do have some -- I like that term, punchy targets. They feel punchy. But when we think about how are we going to achieve those, I'm going to go back to think about the evolution of this company over the last 5 years. And I've talked about how we've significantly enhanced our capabilities. There's a lot more that we can do for customers now than 5 years ago, a lot more, right? And think about what we're doing, I talked about what we're doing to platform the business, help us get to market faster, help us deliver content in a variety of different ways. Ultimately, I believe the opportunity -- we have the opportunity to simply sell more to existing customers. We've got over 2,500 banking customers. We've got almost 1,000 insurance customers, and we have thousands and thousands of corporate customers. And we have an opportunity to package these solutions and sell more to our existing customers than we do today. I think of that as a -- internally, we've been calling that kind of a net expansion rate. That's not something we've disclosed externally, but that's something we've been thinking about internally that would give us insight into whether this strategy is really working, right, to be able to deliver more to our existing customers. And it's not only about what we've done with -- I talked a little bit about the technology and the platform but, Christian, it's also about how we're evolving the way that we engage and sell. So many more capabilities. So we enlarged our sales force over the last couple of years. We made a meaningful investment in adding boots on the ground. But we've also -- we're also in the process of moving towards more solutions-based selling versus, I would say, much more of a product level, product-centric approach. And to do that, we have created a group called Industry Practice Leads. These are literally people that have been our customers, doing exactly what our customers do, a Chief Compliance Officer, someone who was leading KYC compliance, someone who was a treasurer at a bank, we're bringing them in so that they can engage with our customers and help us think about the breadth of solutions that we can bring to solve their challenges. And we've also built out a customer success organization. We had a very small customer success team a couple of years ago, and we just see that as very, very important to make sure that our customers are not only happy, which is -- it's hard to sell to unhappy customers, but also that they understand the utility of our solutions and give us insight into how we can cross-sell and upsell to them. So a number of things, I think, that are going to contribute to us being able to continue to bend that ARR curve up.

I would say as CEO, my words, you've definitely put a lot of focus and emphasis on MA, Analytics business. What do you think investors underappreciate about this business? How would you think about the underappreciated growth opportunities that the business has?

Yes. So Christian, I -- it's going to go back to what I just talked about in a way, right? I want people to understand the evolution of what is going on at the company, right, with first, the capabilities that we acquired and that we built well beyond credit that you saw up on the screen. Then we're thinking about how do we deliver those in a more seamless and more efficient way to our customers, the cloud-based approach and platforming, evolving the sales organization. And ultimately -- I'm going to go back to an example I used in the first quarter earnings call. So I think it helps to illustrate kind of how all this works. And this was with a regional bank that was a customer of ours, and they bought some data and some models from us around internal risk rating. And over time, as we worked with that institution, we helped them install a loan origination system. We've helped them install stress testing and impairment testing. We're now in conversations around KYC. A lot of this draws on a common data set. So in a way, one of the things that we do -- I'm going to use a bank here as an example just because we have over 2,500 banking customers, we have a cloud-based suite of solutions that draws on a common data set. So when we're talking to the planning team and the folks managing the balance sheet and the folks that are doing, right, it's much easier to add our applications because they're, one, cloud-based, it's easy to turn them on; and two, they're drawing on common data sets that are connecting, in many cases, silos across the banks. So it's much easier to work with us than it is to knit together 5 different third-party providers. So I just used that example because I think it's illustrative of what we're doing across the company. And that is then going to contribute to our ability to grow revenue per customer.

Let's stick with banks. Clearly, post-SVB, interest rate risk and asset liability management is a big focus. Do you -- what are your capabilities around this? And are you actually seeing tangible demand for that product?

So I love that you are asking me this question. I never get to talk about this on the earnings calls. And when we went through SVB, I wanted to talk about what was going on with ALM. So this is a great example. You've got a lot of banks who have legacy systems, and they want a much more timely and comprehensive view of interest rate and liquidity risk. And you can imagine, we all know that the banks are dealing with all sorts of legacy systems. So they're looking for more transparency. They want to have the ability to produce reports and results much more quickly than they do today. And they also want -- back to my point about integration, they want a system that integrates into other functions in the bank rather than running ALM in a silo and then having to figure out how I'm going to take those results and now translate them and get them into other workflows. So we had -- years ago, we had a homegrown solution that dealt with kind of the larger tier of banks in 2000 -- late 2020, we bought a company called ZM Financial, which had a cloud-based ALM system really for regional and community banks. So again, I'd like to think that, that had some good foresight. But that turned out to be a great and timely investment for us, Christian. It's been -- we've seen very nice growth. In fact, we've seen greater than 50% growth in customers since we made that acquisition. And we were very proactive in March going out to both our existing banking customers, including many that did not use our ALM system as well as prospective customers. And these weren't really sales calls. These were calls about how can we help you right now? We know that you're dealing with ALM issues. Help us understand those issues and help us understand how can we help? Of course, that then led to the sales leads. These things will take a little bit of time to gestate. But we have a very good pipeline around ALM. We have a very good offering around ALM. We're very well positioned. In fact, last year, we entered into a partnership with Fiserv. Fiserv said, we're going to start transitioning and referring our customers on to your ALM platform. So we got a lot of new customers out of that, which is great because now we have an opportunity, back to my earlier point, to start to cross-sell and upsell additional banking modules to them. And Christian, this is -- when we look at the growth in banking, and I do have some legacy on-prem software, not stuff I'm developing new, but I have legacy -- customers on legacy on-prem, but when I look at the ARR from my cloud-based products, we're growing that low double digits. And this -- what's going on around ALM is a part of what's driving that growth.

Great. Your other big customer segment is insurance. You bought RMS in 2021 to help bolster that segment. So talk through are you seeing incremental growth there? How has the integration gone so far? And how are we thinking about opportunities for growth?

Yes. So just to remind everybody, we bought RMS for 2 reasons. One, we felt that there will be a lot of benefits from us expanding our footprint and presence in the insurance space because a lot of what we are providing to banks around risk we felt is relevant in different ways, packaged in different workflows, but relevant to insurers. So this was an opportunity for us to get real scale in the insurance space. That's one. And two, we felt it was very valuable to have industrial strength, weather and climate modeling capabilities because we hear demand for that across our entire customer base. So I spent -- 2 weeks ago, we had our annual industry conference called Exceedance. I was there for a couple of days and meeting with customers. And I will tell you that the vibe there was RMS is back, and RMS is back and better than ever. And one of the themes was and. It's RMS and Moody's, and we're both bringing things to each other that make RMS and Moody's better. That was very, I think, very clear. The other thing is I talked about the cloud-based platform that we've, I'd say, relaunched at RMS. There was a failed launch a couple of years ago. But this cloud-based platform is called the Intelligent Risk Platform. All of RMS' applications are on that platform. And this is a modern, cutting-edge risk platform. In fact, at the conference, we announced that we're opening it up to models that are hosted by NASDAQ. We're opening it up to customers' internal models, all because we have the ability to convert data formats and host those models onto our platform and make effectively the intelligent risk platform more of an industry workflow platform rather than customers having to bounce back and forth. So I feel very good about the core business, Christian. And then the -- we talked a lot about the synergies. Let me give you a great example of one of those. We started engaging with insurers and reinsurers around how they needed to incorporate ESG into their underwriting and portfolio management. Frankly, they were looking for help. And one of the things that we learned from our customers was they needed data on hundreds and hundreds and hundreds of thousands of companies. If you think about the companies who are underwriting insurance for, they're, in many cases, private companies. So unlike some of the ESG scoring providers which focus on public companies, we've got data -- we've got scores on 300 million companies, leveraging the world's largest database on companies. So we codeveloped with Chaucer and RenaissanceRe solutions for insurers and reinsurers. And both Chaucer and RenaissanceRe, when I say they codeveloped, they've gone to market with us and are working with us to market this as an industry solution. It's a really, really exciting place to be. And I think it's a wonderful example of the synergy. And I know this crowd is interested in numbers. We are on track for the sales targets that we talked about at the time of the acquisition, both for 2022 and then thinking about high single-digit sales growth for 2023, inclusive of these synergies that I'm talking about.

Great. All right. Let's pivot over to some investor questions, actually, a couple on ESG so I'll just combine them. So can you discuss your ESG rating strategies and thoughts around managing risks, given the political backdrop? And the second question is around what kind of growth do you see for ESG and climate over time?

Yes. Another one of these topics where the questions are much different than they were 2 years ago. I think we're at an interesting time for ESG. In some ways, I kind of think of it as like ESG 2.0 because over the last, I'd say, 6 to 12 months, I think a lot of folks have stepped back and said, what are these ESG scores actually measuring? And I'm not critiquing them in any way, but we have stepped back and said, "All right, let's think about what value are we uniquely able to provide to the market, and what do -- our customers, what are they saying they want from us?" And so on the ratings side of the business, our customers -- and this is the investors now were saying, we want to understand how you're thinking about ESG factors as it relates to the credit rating. It's that simple. And it's not -- and they said, we want more transparency. So what did we do? We rolled out 10,000 credit impact scores on our issuers, and we engaged with every single issuer across the planet. That's a big undertaking, and those are now available. We make those available on our moodys.com platform in a separate module now called ESG view. And we're now starting to monetize that content separately. That's one. Two, I talked about the desire for understanding in ESG, the ESG profile of a giant universe of companies, right, for different use cases than perhaps what you in this audience are using them for as you think about your investment portfolio. So we have 300 million credit ESG scores, and we're integrating those into insurance workflows like I talked about. We're also now integrating those into our commercial loan underwriting applications. And we've integrated those into our Orbis database, that giant database that I talked about. And third is around wanting to understand both carbon transition risk and the physical risk relating to weather and climate change. Weather is right now, and climate change is over a period of time. And there's more and more demand to understand specifically the financial exposure relating to a weather event and climate change. So that's banks wanting to maybe understand at the time that they're underwriting a loan and what the risk is to the real estate collateral that they're taking, commercial real estate investors, banks are having to do that at the portfolio level because the regulators want to understand what kind of climate risk do they have across the portfolio. So we're taking that really, really rich RMS capability, and we're starting to thread that through other applications to meet those kinds of needs. So again, to answer the question about the numbers, we talked about including these climate capabilities that we have across RMS. We think about close to $200 million in revenues. And all of that growing in kind of the high single-digit range for us, again, including the RMS component of that.

Another question from the audience. Just a follow-up. On your 10% ARR growth, how do you think about what comes from pricing, upsell or what has been driven by sort of new products, new sales?

Yes. So it's a mix. And in fact, in our -- I would -- whoever asked that question, I would steer you to our investor presentation. And we actually break out the mix between price and upgrades and new customers. And you can see that over the last 4 years and how much is coming from pricing upgrades and new customers. I would say, Christian, just when you look at price and upgrades, the way we tend to think about this is value-based pricing. So we're constantly adding functionality to our products to allow us to either have price increases or to upgrade customers to want to take additional. And we do both. Sometimes we just say we've added this functionality, and therefore, it justifies this price increase. In other cases, we add enhanced functionality, and we may sell that a la carte. It doesn't really matter to us, and we put that all in that same bucket.

Okay. Just one sort of back with my questions here around sort of expenses and margin. Maybe can you bridge the gap between sort of current margins around mid-40s versus the medium-term outlook of low 50s? Is that a revenue bridge? Do you need to make more expense actions? How do you think about the bridge to get there?

Yes. So we're very comfortable with the guidance that we've put out. And you know, Christian, late last year, we had, I think, a pretty robust restructuring program and took some -- several -- a couple of hundred million dollars of expenses out of the business. It was interesting. I got some questions at the time. Why are you all doing that? I don't get those questions now. But I would say 2 things, Christian. In the rating business, it's going to be both because one, I think as we see revenue growth, there is great operating leverage in the business. And we're -- in running the business, we're very focused on being able to technology enable and automate that business as much as we can so that as we have issuance growth, we don't simply have to add people. And that has always been the goal. And I think with -- back to this point around generative AI, I think that's going to offer us some interesting opportunities to be able to enable some -- automate some of those workflows faster than maybe we would have in the past. So we're going to get operating leverage, and we're going to continue to focus on automating and get efficiency. In MA, I think as we continue to scale these subscription businesses, that is going to be margin friendly and give us margin upside. So I think there, for me, it's more about the scale and growth of the top line that's going to give us the margin.

Okay. And maybe lastly, since we're tight on time here, just on capital allocation, how are you thinking about the best use of excess capital from here?

So no change in the way we think about the priorities. We believe we have a really great business. And I hope I've helped you understand, it's not just the rating business that's a great business, it sure is a great business, but it's all of what we've got in front of us. And so we're going to prioritize reinvesting back in the business wherever we can organically and inorganically. And I think you know us, Christian, pretty disciplined about what we do. Then we think about dividends and share repurchases. I would also note and Mark Kaye, our CFO, has talked about this in the earnings call, kind of anchoring around a BBB+ credit rating. And so we've talked about how we've taken some efforts to make sure we get within the right ZIP code there. No change to the way we've historically thought about it.

Great. I think with that we're out of time. So we'll wrap it up. Thank you very much, Rob. We appreciate that. Thank you.

Thank you, Christian.