MSCI Inc. (MSCI) Earnings Call Transcript & Summary

All right. Good afternoon, everybody. Thank you for sticking around. My name is Manav Patnaik. I'm Barclays' business and information services analyst. And I'm very pleased to have with us Baer Pettit, who is the COO of MSCI. So thank you for being here again, Baer.

My pleasure.

Obviously, the room is nicely crowded. You had some good meetings. There's a lot to talk about here. But just to start off with, I think, on the last earnings call, not that it was particularly new insights necessarily, but I think the tone of the call maybe was a bit more cautious than perhaps what you had intended on saying. So I was just hoping to use the first part of the chat just to go through some of those and maybe level-set what you guys were trying to message there.

Yes. Look, I think you're right. So first of all, there's 3 of us and we said various different things. And actually, I recall being asked. And one of my responses was it was still 30% growth on ESG. So I do think that there was a little bit of a disconnect between maybe the tone and the results, which were a bit -- certainly a bit less than we expected which were, by no means, shabby in any regards. So I think really, we're just in a combination of what's been kind of a slightly choppy environment, which is hard to read. We had this sort of semi-banking crisis, which was sometimes now referred to as a banking crisis, but I'm not even sure if it was. It was kind of some episodes, I would say, bad bank episodes. We're clearly in a choppy environment generally in terms of markets and valuations. So I think that all of that just makes us, I hope, also partly cautious in a positive sense that we've been trying to balance our longer-term growth objectives with our kind of shorter-term shareholder objectives. And I think we're doing -- I think we're pretty happy about where we are with all of that. We clearly -- in terms of this quarter, I'm not going to start speculating because we're right in the middle of it. And it's remarkable how much of our business always closes in the last few weeks of the quarter. But we're certainly not seeing anything unusual. The nature of the discussions we're having with our clients has been pretty consistent. So I think that the danger sometimes in this type of environment is that you try to do excessive performance attribution when, in fact, you're not always 100% clear yourself what it is and what circumstances are driving a little bit of noise or difference here or there.

Got it. So maybe before going specifically into the ESG and Climate segment, broader -- just to talk about the broader macros, two components, first, new business. I think you guys talked about slightly lengthened sales cycles making those decisions differing. So could you just elaborate on that and...

Yes. I mean, I don't really know if there is a great deal more to be said than that. I mean, I think the great thing about MSCI is that our shareholders are our clients. So in that sense, I don't think many asset managers that -- or banks and broker-dealers that you may work with are in kind of a big spending mode. I think that there's generally a higher bar on adding things to budgets. We're not exempt from that. So that's part of it. I think in that context, we're doing pretty well. So I think the danger here is that we try to suggest that we have some specific or deeper insight than our clients and investors maybe do when we probably don't. We're probably -- we're in a similar boat. We're trying to navigate what's going on. It's not the best of environments, but it's very far from being the worst. And so I think we've just got to kind of see how things play out. And we'll try to be as transparent as we can going forward as markets develop.

Got it. And in terms of the cancellations, I think you guys referred to it being a lot of the smaller client types. But any specific client types that…

The main thing is not the cancellations, it's the retention rate, right? I think our retention rates are still great, very strong in Index, very strong in ESG and Climate. I think it was -- I believe, I could be corrected, 96% in ESG and Climate. And the weaker elements were some of the things related to real estate, where there's been kind of an unprecedented drop-off in transaction sizes, big market corrections. And it's in that segment, in particular, that we saw smaller clients kind of being squeezed a bit. But I think across the board, our retention rates, we're very happy with. And if we can maintain those through the rest of the year, we'll definitely be happy.

Yes. Got it. Yes, it's almost like you're a victim of your own success, right? Because that 96% was 99% last quarter. And so to move to the ESG area specifically, again 30% is a good number like you said. But maybe just to break out the two areas of potential headwinds. So let's talk the EU first. I think what was called out was this kind of pause until the regulations are finalized. So what specific regulations were you guys referring to?

Well, it's the EU fund regulations, which have meant a lot of work and noise for our clients in terms of what categories do various ESG funds belong in or not. We've had -- and then in turn, which is kind of the beauty of the EU, these are theoretically EU fund regulations. But in fact, they're national fund regulations. The national regulator makes a judgment. So that, in turn, has questions about EU passporting, et cetera, et cetera. So that whole environment has been if you're sitting there as some fund managers are and saying, "Geez, I'm having a question about how I'd classify my existing funds," that's unstable, it may not be the best environment for issuing new funds. But then having said all of that, that doesn't mean that the demand for what we do, our research, our data is fundamentally different. And I would say that we like to distinguish the purely Climate-driven things from ESG ratings. And from a Climate point of view, which has a lot to do with net-zero reporting, other types of recording data, et cetera, that's very strong and continues to grow quite dramatically.

Got it. So on these fund ratings or the indecision or waiting for that, so is that more a question of once the rules are finalized, there will be more fund launches and that's why growth comes back? Or if people just hold to that...

I believe so. But again, I don't want to speculate about this stuff. All I can say is point in time, what's going on. And I think in the past, even on different topics, typically where we get a little optimistic on speculation, people get carried away. And if we get a little too negative, we've also had that. You've seen that as well, where people -- we've been cautious. And then people say, "Well, why were you so cautious because these numbers are great?" So I don't -- I want to try to avoid speculating and just see what we see today, which is that's what I think is driving a little bit of the slowdown. And then we'll keep you updated as to what happens next. But I don't -- the main point being is there's nothing in the manner that we interact with our clients that is changed that anyone is telling us we're in a different environment. We're going to stop doing X and start doing Y. None of it, we're not seeing any of those.

Got it. So the point being like eventually, there will be a growth in ESG, more fund launches, but just timing obviously is...

That would be my current view. And we shall have to wait and see.

Got it. So then moving to the U.S. part, the political landscape, the anti-ESG narrative there, maybe if you could be a little bit more specific on what you're referring to.

Sure. So look, I think going back to your point about the call, I think we fell a little bit into the trap about trying to offer an explanation where maybe that we were overstretching the desire to give an explanation there. So first of all, let's try to break things down kind of sort of scientifically and coldly. The first one is, if we look at our kind of dialogue with major institutional investors in the U.S., et cetera, we don't see anything different. So then if we look at our kind of relationships with asset managers, broker-dealers, et cetera, mostly we don't see anything different. The one thing that we do see, which is kind of analogous to Europe but with, I think, a slightly different motivation is we have seen a slowing of the issuance of ESG-related products. And the element that I'm not so clear about is my personal view would be I would be more cautious about attributing that to the political environment. And I think it could also be partly just performance-driven. Because these funds had very strong outperformance, notably in the last number of years, which is also probably because they had a fairly heavy tech bias. So now as -- with events since the war in Ukraine, with the oil and gas stocks coming back, there's been a bit of an underperformance -- or not underperformance, less of an outperformance in certain cases. So again, I'm cautious about speculating about that. So I think the best we can do now is kind of keep you abreast on what we're seeing in that category. But for sure, there's been a slowing there. But I would be reluctant to excessively attribute that to the political environment. And I think maybe we overstated that a little bit in our earnings call.

Got it. Fair enough. Appreciate that. And then I guess, the -- you mentioned Climate is growing well. And obviously, this is the law of large numbers. As you grow, your growth rate will naturally slow down. And that happened. But anything to call out, like any of these other influences you talked about that's impacting Climate as well?

Sure. Well, look, I think the basic thing about Climate that is different than ESG is that ESG arose, you could say, I mean, it's maybe a slightly odd way of phrasing it, spontaneously, i.e., people became very interested in the topic, people started looking at the data, people started to say, wow, this sort of information might be driving the risk in return of companies. And it's more or less in that way that it grew over the last, call it, decade. I think Climate is quite different, in that people have made very specific kind of black-and-white commitments. People have said, our company is committed to net-zero, and we're going to take the following steps X, Y, Z to get there. So those -- that is either going to be a reality or it's not, right? So we -- last year, we won The Journal of Portfolio Management Article of the Year because I think it was a good-quality article. But ironically, what it showed was that there is very little evidence that in credit markets, that the pricing of credit markets is being affected by Climate. I will be astonished if that's the case in 2, 3, 4, 5 years. Now it could go both ways. So what I -- I don't have a zealot's view of this topic. It could both be that there will be pricing impacts because people have not done enough or they're missing their net-zero targets. But it could equally conceivably be pricing impacts because people have put an enormous amount of money, capital into some green alternative, which has not paid off. But, for sure, I think, is the distinction between the ESG topic generally and the Climate topic is that there are real and specific commitments that people have made and those will be measured. And I think those will have an impact on the risk and return of the various securities and companies that have done that. And that's why I feel like Climate is a more specific and measurable topic from the outset than ESG was.

Got it. So I guess, what I'm hearing is generally, obviously, short term, TBD. But your long-term growth of mid- to high 20s for ESG, I mean...

Yes. So for the segment, just so we're clear, the segment is ESG and Climate. And that's our target growth rate for the segment. The part of the segment which we denote as pure climate products is still a smaller part. And -- but that grew at roughly 60%-plus in the last quarter, more than the overall segment. So the Climate part of it is growing faster than ESG part right now.

Got it. And just on climate, I appreciate why you and every other company almost separates ESG and climate. But internally, is it a separate sales force, a separate strategy?

No, no, no. It's not a separate sales force. It's just that the drivers of the two -- so it's like they overlap on the Venn diagram. And the only reason why we're a little bit pedantic between -- in distinguishing them is that an investor who wants to understand ESG risks of a particular company, climate is one component of that, but there's other components, corporate governance and social things. But it's the point I made a moment ago, most climate commitments are very specific and have numbers linked to them. ESG has historically been less so. So that's why we like to distinguish the two. Because while they have overlap, they also have things which are quite discrete, one from the other.

Got it. Great. So obviously, I think most of the investor focus was on the ESG piece. But just to complete the overall, even in the real estate and private side, there was a little bit of headwinds here and there, if you wanted to just...

Yes. So look, overwhelmingly, what we have now in our private asset side is real estate. I don't think it's a big secret that real estate has had some challenge -- there's been some challenging markets. They -- so after admittedly a very large spike, transaction volumes are down. Notably, in most markets, there's kind of a freeze, which we see generally in private markets, by the way, but doesn't necessarily affect us in all markets between kind of buyers and sellers. There's a disconnect between the bid and the spread. That will probably work its way through the system. So I think if you -- so if the real estate business that we had before we bought RCA is much less volume and transaction-driven than RCA -- what we bought in RCA. So that's held up a bit better. But I think as transaction volumes come back up, we're not really a market beta play per se. So it's not like we need the value of real estate to go up for that business to keep growing. It's just that there's been kind of a freeze in the market. And that means that a lot of sort of marginal players are buying less data, right, and which I think -- we think will change going forward.

Got it. And just to stick on the segment, it feels a little bit like what ESG was 5, 10 years ago in that investment phase. But you've done a couple of acquisitions, RCA, Burgiss. I think a lot of your peers are trying to figure out private markets. Like what inning do you think you guys are in? How do we get to becoming a more dominant player again in the market?

Yes. So look, I think we're still in really early stages. And I actually think that there's a slightly -- it may need some corrections in value in private markets. So it may take a bad market or a more difficult market, I should say, to create opportunity. So I think that the -- clearly, the private markets have been more of a seller's type of market to a degree. Structurally and secularly, we think there's a big growth opportunity. But it's hard to imagine that private markets will not have greater transparency. Again, choose a date, 5 years from now, 3, 5, 7 years from now, how that plays out is not entirely clear. It's still a very noisy area. There's -- for sure, there's no dominant players. There's various smaller companies who don't -- who overlap a little bit in what they do. But they're not very black-and-white competitors with one another. So we think that, that will play out in the next x number of years, and we want to be part of that. And hopefully, we can help drive both growth for ourselves and transparency for investors.

Got it. So sticking on that M&A theme, call it, I think on the call, you deliberately talked about using that $1 billion of cash you have on hand right now to be more deliberate on the M&A front. So just can you talk a little bit about what the focus there is?