MSCI Inc. (MSCI) Earnings Call Transcript & Summary

All right. I guess it's 12:00. So good afternoon, everybody, and thank you for being here. For those of you who don't know me, my name is Manav Patnaik. I'm Barclays' information services analyst. We're very pleased to have back with us here, Eric Moen is the Head of ESG and Climate at MSCI. So Eric, thank you for being here. Eric was here last year, but I figured, just as a brief setup, Eric, you've been at MSCI for a while but maybe just a quick background of your tenure then, how you came into heading the fastest-growing piece here.

Great. Thank you, Manav. Very nice to be here again. So yes, Eric Moen heading up ESG and Climate at MSCI. And actually, today is obviously a significant day in our history, but also, it's easy to remember today because it was my first day at MSCI, in the office, September 11, 2001. So I've been there -- so this essentially marks my 22nd year. I'm going into my 23rd year. Started on the -- when we were essentially part of Morgan Stanley and on the index side of the business. And over time, I spent 8 years in London working on both index and analytics side of the business. And then at the end of 2011, joined the ESG team when -- shortly after we had acquired RiskMetrics and acquired the ESG content business within RiskMetrics. We quickly created MSCI ESG Research. And when I joined, it was essentially $20 million in run rate revenue, and now we've grown it pretty considerably since then. So it's been an exciting ride in that 22 years, spent 8 years in London and the rest in New York.

Yes. So talking about setting it up in 2011, I mean, I don't think anybody was talking about ESG back then. So what was it that you guys saw that compelled you to invest so much in it before, I guess, the time?

Yes. Good question. And again, credit to Henry Fernandez, our CEO, who recognized, as RiskMetrics did when they acquired a couple of small ESG research companies in 2009, 2010, that environmental, social, governance as a measure of risk and opportunity in the investment process would be much more important in the future than it was at that time. And that's really -- it was Henry and the management team's recognition that these are material risks -- environmental, social, governance risks the companies face, and how they manage and operate those risks are an important component to consider in the investment process. And it was that recognition that there's an emerging field that we could be a leader in, and that recognition that drove the investments and the kind of early investments in ESG.

Got it. And so maybe if we fast forward to today, again, maybe just to level set the audience, can you give us a flavor of MSCI's ESG business today in terms of, obviously, we know you disclosed the revenues, but I'm thinking more number of employees, the number of coverage you have? Like where are we at that point?

Yes. So we've -- I think when I joined in, again, around 2012, we were probably 100 people in the industry. And now we are over 1,000 something like 1,300 people, when you look at both people that are 100% focused on ESG and Climate and then everything that comes around it, like the technology in support of everything. So we're well over 1,000 people. So that's just like our revenues have grown times 10, the resources on people have grown. We're globally based. We're in all the major financial centers of the world. We're in the MSCI footprint centers, which is globally located. And the size of the client coverage team, we have client-facing specialists in all the major financial centers, working with clients in all of the regions. So it's really a global business. The $290 million in run rate, that is just the ESG and Climate data and subscriptions. And then on top of that, we have indexes and analytics, and that's just under $500 million in the run rate at this point.

Got it. And when you think longer term, you've talked -- you said you guys grew 10x over the last 10 years, call it, and I know you guys do this 10-year strategic vision. And I think Henry has said before he expects another 10x. So how do we -- I guess, when you do that kind of planning as a flavor, like what are the building blocks that give you confidence that you can repeat this?

Yes. We look at the market opportunity. We look at what we've seen from ESG and then what we see emerging in climate risk. We see a similar kind of path, for example, for Climate to grow into an opportunity that, at least, you've heard Henry mention it, that in the 10-year horizon could be every bit as big, if not bigger, than ESG. And the reason being is that we see that climate is -- climate change and climate risk from climate change is an existential threat to society and to financial markets, that we're embarking on a transition period where we're identifying those companies who are going to provide solutions for the climate change and those companies that are at higher risk. And that capital flow that will be directed from the Climate perspective is we're just entering that phase. And so pricing will be adjusted based on climate risk. That's what -- and all of the data and tools necessary to understand that risk is where we can see, we can chart out the 10-year period and say that this is across the ecosystem of financial markets, from asset managers to pension plans to banks to insurance companies to wealth to corporates themselves, are really starting to understand these risks and getting a handle on them and that we can be a major leader and a provider of data, models and tools to help our clients understand ESG and Climate risks. So we put a lot of -- we do this 10-year planning every year and kind of calibrate. But over the last several years, there's only, I think, been the increased confidence that there's a huge opportunity ahead.

And how much of it, we'll get to it later, but in terms of just organic versus organic, to grow 10x again? Because there were, maybe perhaps not that many deals over the last 10 years, but you had a smaller base to grow off of. So is most of the planning on an organic basis?

We emphasize and focus on what we can do organically, and we've had -- [ invest ] in doing that, investing in our own capabilities. So we look at that growth from $20 million to $290 million, the vast majority of that has been organic investments and organic growth. So with the exception of the ESG and Climate segment, we've had 2 key acquisitions over the years: GMI, Governance Metrics International in 2014, which brought on board our core governance data and analytics, that was Q1; and then in 2019, Carbon Delta, which we, in both cases, we integrated these acquisitions very quickly, but they were additive to our capability set. And in the case of Carbon Delta, which was out of Zurich, Switzerland, that added to our climate scenario analysis capabilities. But we do see that -- we're monitoring constantly what might be a good acquisition or a partner opportunity. And the truth of the matter is the -- based on our kind of frugal management, they don't come along that often, but we definitely think that there's capabilities and possibilities in the M&A space as additive to our capabilities. And then -- so I think our history is demonstrative. Will that accelerate or decelerate? We're going to be very frugal in our acquisition strategy, but we will continue to look.

Got it. And since we're on the topic, maybe I'll just ask. The recent Burgiss acquisition, does that have -- is that part of the ESG strategy as well as an opportunity that presents? Maybe you could just help us with that.

Yes. And that's -- it's very exciting. We announced the full acquisition. We are part owners of Burgiss, which is a company that will be brought fully into the MSCI fold now, which is really focusing on private markets and monitoring funds in the private equity and private market space, but also then the underlying companies' performance. And that's where, from an ESG and Climate perspective, it is very exciting. It was a little over a year ago, we launched a kind of the early product development with Burgiss, where we took their universe of private companies they monitor via the funds that they monitor. And we have a basic set of information on those companies that we then use our models that we use for estimating Scope 1, 2 and 3 emissions in the public markets. And we took those models, and we applied that to the 50,000 company universe that Burgiss maintains to provide basically carbon emissions estimates for those companies. So that's the starting point. Most of our content and data around ESG and Climate has been in the public markets because that's where companies are disclosing this data. But we understand from our clients' perspective, covering all of their assets and our clients being pension plans, asset managers, they're investing in the private markets. This is a huge opportunity. We want to work with Burgiss closely on how we can build out these ESG and Climate data sets, going from the extensive data set that we have in the public markets to private. So I'm very excited about the Burgiss opportunity.

And I presume, going back to the 10-year strategy, private markets is a key factor in there. What are some of the other key -- I mean you talked about climate. So there's climate, there's private. What are some of the other key elements in that 10-year plan?

So there's the third, I would say, key driver in these 10 years is the regulatory environment. And what our clients are being required to report on and to manage from a regulatory environment perspective is only increasing. So in Europe, obviously, the strongest set of regulations that have been coming through in the last several years, the SFDR regulations, requiring asset managers and companies to report on ESG and sustainability factors and issues and data points. That is driving a lot of our product development is how we come up with solutions to address the regulatory environment for our clients. And so you have, both from an ESG perspective, from a Climate perspective, a lot of regulations came out. Even quasi-regulations like TCFD reporting, which is climate-oriented, is we provide data and reporting tools to help clients manage TCFD reporting requirements. So ESG has its own set of development requirements. Climate, outside of data model and development requirements and regulatory solutions, which overlap on both, but they will have distinctive reporting. So that's the 3 kind of core areas. But then even within those, you have -- we started 10 years ago really monitoring public equity markets. And that universe is expansive. We cover, from that perspective, our broadest index is the ACWI IMI Index, which is All Country World Index, almost 10,000 companies. We cover that universe from an ESG perspective and a Climate perspective. And then you start coming to other asset classes that requires further investments, fixed income being a good example. We started that really expanding our fixed income coverage when we started working with, at the time, Barclays, subsequent now, Bloomberg, and the Global Aggregate Fixed Income Index that we partnered to create ESG fixed income indexes on those -- on that family, where we had to cover additional securities from the ESG ratings perspective. So asset classes have their own investment cycle as well as these different themes like ESG, climate and regulatory. And then you have new topics like biodiversity, which require -- which represent additional data set models that will be required by clients and opportunities.

Got it. And from a client perspective, so firstly, just a quick follow-up on Climate. I understand why everyone separate the 2, but can you just talk about the overlap between your core ESG client base and then your -- just Climate base, I guess?

Yes. So we've been -- going back to the history of ESG, we really saw that growth of ESG integration and the investment process, which is -- what has driven a lot of the growth over the last 12 years in our ESG business is that expansion of asset managers using ESG data and ratings content in their investment process as an additional information piece in their investment process. That's expanded to Climate. So we have a larger -- we have well over 1,000 clients. I mean, overall, we have 3,000 clients approximately in ESG and Climate. The largest number is in ESG. And that's based on that growth over the 12 years, where we've increasingly licensed asset managers and pension plans with data. The opportunity is to expand into other client segments like insurance companies, banking and trading and wealth managers and now corporates. So the size of the ESG client base is larger, and that gives us opportunity to cross-sell this newer data sets of Climate. And when I say there is overlap in, for example, carbon emissions, we do take into account into our overall ESG ratings. But for Climate, we have a vast range of additional data sets, not just Scope 1, 2, 3 emissions that are reported that we have to model for companies, but green revenues. We have models that identify temperature alignment with the Global Climate Accords. We have different risk and scenario analysis in Climate. And so that we have a lot of opportunity to cross-sell and upsell clients in these different categories.

Got it. But talking about the clients, I think I remember in one of your slides, you talked about the penetration in ESG is less than 30% of the UN PRI signatories are your clients. I don't know what the latest update is, but you talked about insurance, corporates, all these, how do you think about the penetration opportunity? 1,000 clients seems like it's just scratching the surface, potentially.

That's true. That's -- and that is how we think of it. On one hand, we do have -- we are -- and not to be -- to make it sound as arrogant by any means because we're very cognizant of the competition and our need to continue to improve. But on one hand, we have, for each [ rating ] is 48 in the top 50 asset managers that utilize our ESG content. They're subscribing, in some ways, to [ perform ] to our ESG content. Now that sounds like we'd be fully penetrated in that segment, but that's not the case. We see, over the cycle of the last 10 years, that clients can start licensing maybe in 1 location with 1 group of -- 1 investment group, and we can grow that over time. So while we have a good penetration of those top asset managers, there's definitely a long tail of small asset managers that we continue to penetrate. And even within those large asset manager clients, we have opportunities to grow our footprint within. And that's what we see. That's what has been driving a lot of our growth, but also then expanding into these new data sets. So into Climate, into Regulatory Solutions, there's tremendous opportunities. So the -- I would agree with your statement there that we're scratching the surface in the next 10 years.

Got it. And just out of curiosity, the 2 asset managers that use [indiscernible].

There's always room for growth. Yes. I mean, I won't speak for them, and they'll eventually subscribe.

Fair enough. So just to wrap that part up then, just the addressable market. I think in your 2021 Investor Day, I think it was $3.2 billion was the existing TAM for your existing solutions rather, and then there was less than $1 billion for kind of the new products. Like how do you think of those numbers? How do you view that in your 10-year plans?

Yes. So that -- and as you know, the total addressable market is -- sometimes it's a little difficult to come up with that figure in terms of -- we can see what's the -- our client base and what we think that we can sell into them. And so we do reevaluate [ on a regular ] basis. And I would say that we've now started to look at this TAM perspective from both the ESG product line, and separately, the Climate. And that's where we -- I think there's been a lot of revised analysis on where this Climate TAM for Climate data models and tools has really -- we've gained a lot of confidence, and that is also a multibillion-dollar TAM opportunity. So you have a multibillion-dollar TAM opportunity in ESG in the long term and a multibillion-dollar TAM opportunity in Climate for data models, analytics and indexes.

Got it. Maybe if we can shift a little bit to some of the near-term discussions. In your first quarter, the tone felt like things were changing. And then I think in the last earnings call, I think you guys quickly clarified that. But just maybe from your perspective, what happened in the first quarter? What happened in the second quarter? Like what were the big changes? Or maybe it was just the tone that was missing to [ prove it ]?

Yes. I mean, look, I do refer to what Henry said on the Q2 is that he felt that it was -- more than anything changing, it was a communication, call it, an issue, that he felt he needed to clarify the communication. And that's what he did in Q2 is that -- there's no doubt in the long-term opportunity of this ESG and Climate that the environment has been more challenged in 2023 from -- all the way from macro. Clients are more cautious on their budget right now because there's more uncertainty in the markets, and that affects the sales cycle of ESG and Climate. But in every conversation that Henry has with clients and in my conversations with clients, there is no question that asset managers, asset owners, insurers are as active in trying to understand the risk to their portfolios coming from ESG and Climate in today's terms than they were a year ago. Now they might have more budgetary constraints right now. And there's more cautious environment, so that does slow the pace of the sales cycle. But they are looking to understand how to measure ESG risk and opportunity and how to measure Climate risk and opportunity and how to address the regulatory solutions. So these, front and center, are part of the conversations and that's part of that long term. So what's changed is really that overall macro environment being a little bit more challenged. But from a Q1 to Q2 perspective, not a lot has changed in that. It's just we are affirming our long-term approach, and that we have some quarter-by-quarter that we've seen in the past and we see in the future there. Of course, not every quarter is the same, and there's fluctuations on a quarter-to-quarter. We like to look at what's the cumulative last 12 months looking like, and that presents probably a better picture than quarter-to-quarter. In Q2, we did see 20% increase from Q1 of our recurring net new subscriptions in ESG and Climate. But as we indicated on the call, you will see some fluctuation, where we stick by our long-term numbers that we've indicated.

Got it. And on the asset managers side, which is the bulk of your ESG revenues there, I think we got the same feedback. But I think Henry had alluded to the hedge funds, wealth management, the smaller tier maybe feeling a little bit more pressure. Is that just more around budget? Or is there something else in there, ESG decision-making versus the last asset managers?

Yes. I mean like -- and if you go back to our transcripts of Q2, I think it was Baer Pettit, our President, noted that in Climate, for example, the core -- [ with ] Climate, which the run rate was growing at -- it's a higher-growing segment of ESG and Climate because it's smaller and it's -- there's a lot of demand that need to understand climate risk at this point in time when they may be the focus in the past on ESG. But Climate has grown at 50% year-over-year from a subscription run rate perspective. But even within there, as Baer noted, asset managers and asset owners are growing nicely, but it's actually, in some of these other segments, it's growing even faster because of the demand for certain regulatory reporting, et cetera. So I would actually say that -- and this is -- we've grown in ESG and Climate by moving from focusing exclusively on asset managers and asset owners, which has been our core kind of client base. Two, the increased opportunities that we see in the banking and trading segment. In insurers -- and insurers are having a lot of regulations placed on them to measure their portfolio in terms of ESG, in particular, climate risk. So that's a category that we're seeing higher growth than other categories. And it's also in that category where we leveraged the full One MSCI capability set. So I'm responsible for the underlying data and models for ESG and Climate. But then those -- that data -- the data feeds into our analytics platforms that our large asset manager, insurer clients are using to understand, from a portfolio level, the aggregate ESG and Climate risk. And that's the -- having that all in-house and then having our content go into the indexes, having that all in-house is a very powerful ecosystem for our clients to leverage all aspects.

Got it. If you go back to the 1Q commentary, I think there was 2 big buckets that Henry had called out. There was the EU regulation-led kind of delays and then there was the U.S. dynamics. So maybe just to touch on the U.S. dynamic. From your standpoint, I think you called that political backlash against ESG and potentially [ lasting ] for a while which I think [ spooked ] a lot of people. But how would you -- I know you talked about some of the [ miscommunication share ], but just how would you frame that U.S. political backlash? And how much of a headwind, if at all, that is?

Yes. I mean, look, even -- and Henry knows as well. Even in states that are now having a little bit more of an anti-ESG stand, the actual asset managers and the pension plans in the states, their teams are very much -- in our conversations, they're continuing to utilize our data because, at the end of the day, our data is representing financial risk and opportunity. And we've shown that in our studies over time, that some of our key seminal research pieces like the Foundations of ESG Investing, which showcase the value of this information and data models from investments, long-term investments' risk-return perspective. Or if you're running a pension plan or an asset, these are material risks that, if you do not pay attention to them, then that will have potentially negative risk-return consequences. And so from a fiduciary duty perspective, our content is utilized in that -- from that perspective. And we're not viewing things from a -- we're looking at it from a practical risk-return perspective. And I think that's sometimes missed when it's more of a political rhetoric situation. So I think what -- overall, I would emphasize that while that exists, that potentially, call it, noise, from an investment perspective, we, day in, day out, are talking to our clients that need this information from that risk perspective and just focusing on that and not focusing on maybe what is more of a noise from the political situation.

Got it. And then the -- on the E side, I think it was the SFDR and the Article 9 classification, they were going through the process that I think had people delay decisions perhaps. So just what's the update on the EU side in terms of where the regulations are and if that's showing back in your business now?

Yes. I mean, look, the -- we just had our clients, in June, complete their first required SFDR reporting that we helped them with. Two years ago, we created an SFDR-specific data set and now with working capability on top of that, which leverages our analytics infrastructure. That's, I think, important to note. We -- at the end of June, our client base kind of completed that first annual required reporting, which was a big step. And that clears -- they can now move on to kind of doing that on an annual basis, but they've done that now. And there has been clarifications by certain European governing bodies, like ESMA, to kind of help clarify some aspects of Article 8, Article 9, giving our clients a little bit more confidence that they -- are they interpreting those regulations correct? So we do see some of that regulatory -- maybe there's ambiguity being clarified over time. That's helping. And there's other areas where regulations still need to provide further guidance, like an SEC in the United States, which is still on the table, the SEC climate disclosures regulation that looks like we'll get more clarity in the fall when, where and how that will be implemented.

Got it. Typically, regulation, I think, in your business should be a long-term benefit for you guys. But in the near term, one of the questions we get a lot is if the SEC -- everyone requires corporates to disclose more climate data, ESG data. That could be a potential [indiscernible] because of that now is [indiscernible] that data not [indiscernible] yet. So how do you respond to whether that's a good or bad thing?

Yes. We are definitively on the side of encouraging more disclosure around ESG and climate from companies. It's only [indiscernible] markets and beneficial for investors. So that's kind of first and foremost, that -- where, after all the regulation, that helps provide accurate disclosure. And the -- I would say, the fact of the matter is that, even with increased disclosure, the universe of companies and asset class is so large that not only do you need companies -- it's something as ubiquitous as Scope 1 and 2 for emissions disclosure. Even there, across the globe, you still only have maybe 2/3 of large global companies disclosing, meaning there's a huge segment of large companies still not disclosing Scope 1 and 2 emissions. And then if you go down into smaller companies or emerging markets, it's even far less. So our value in gathering data, even if it's disclosed, we still have to gather data. It might be disclosed in a different format than globally is the norm. We have to gather data from a range of sources, including disclosure and other data sets. We have to clean that data, scrub the data, normalize the data and present it to investors in a way that's comparable. And so that's a huge value add. And also build models where that data is absent, that no matter what, even with the SEC [indiscernible] with that, it's only going to help our -- it's going to make it a little bit easier for us to gather from the data. But then we're going to -- it's a collection of the wide data set and the deep data set that really brings value to our customers.

Got it. And I know you've always talked about how the analytics part is really your core expertise. So you're having the data [ available ]. But obviously, there's a lot of chat around gen AI and stuff, just your high-level approach in ESG [indiscernible] about pilots with Microsoft and anything going on. But specifically, where [indiscernible] near-term opportunities?

Yes. On ESG, I would say, we have -- going back to using the natural language processing, we've had to gather a lot of data on companies from disclosed documents that are disclosed and not necessarily even in the 10-K. They're in a range of different disclosures. So we've got -- we've been using AI and NLP, natural language processing, for 10 years in terms of -- but getting better at it and gathering the 7 million data points a month that we're now processing. So that's on one hand, that has actually been part of our core capability set on the ESG side for the last 10 years and improving. But I'm very excited about what we can do with partnerships that we've announced recently with Google. And we've had a long-winning partnership with Microsoft to leverage what more can we do from an AI, given that there's so much new development that has taken place, that we are leveraging AI with these partnerships in gathering more of the physical location asset data, for example. Right now, we gather 1.2 million physical location data points facilities that are linking them to companies. And why we're doing that is to then overlay our physical risk models to indicate what is the physical risk of those locations related to those companies. So we can greatly improve the collection of this type of data using AI and techniques with Google geospatial analysis, understanding the building height better that factor into the physical risk data. So that's one aspect we can help our clients understand. Because we have so many different models and data sets and then methodologies, just keeping track of that and helping our clients understand that using AI and one of the applications at MSCI that we're developing to leverage our own data sets and methodologies pointing clients and our own internal staff in a more efficient manner to get to the right source of data. That's the kind of thing -- and then quality control. Using AI techniques to help manage the data quality, which is, at the end of the day, why our clients come to MSCI to use ESG and Climate content is that we spend a tremendous amount of asset, making sure that we have the highest-quality data.

Okay, got it. One of the more recent questions we've been getting is there -- just the chatter has been the actual reading, the actual score is not that valuable. It's all about the underlying data. One of your competitors, obviously, I think [ private ] trading is now that they've decided to move away there. But I think you've been doing [indiscernible]. Just from your perspective, help us appreciate, are they sold separately? Is it -- the package new? How does that impact? Just any color there would be helpful.

Yes, good question. We understand that our clients from the get-go, when we provide ESG ratings, they need to understand how those ESG ratings are created. And they're created by where it's a data-driven model. We're collecting data on a wide range of data points in a standardized fashion to -- industry by industry for ESG ratings. And the underlying data is critical for understanding what's driving the change in ratings. And so we've always been providing the underlying content with the headline ratings, so it's a package. And we've recognized, over the past 4 years, that our clients want to get as much access to underlying data and transparency as possible. And we've increased the number of data that we provide as part of the packages, thousands of data points in the ESG ratings package that we provide. That's a critical component of the value proposition. So we've always been providing that. And the value of the overlying rating, it's a common language. It's a way to summarize all that underlying content into a single ratings score. And that has its own value and an application to indexes, portfolio construction to just understanding for fun, for example, what's the average score of the overall portfolio holdings. So we understand that there's value in both aspects. And that they, for our clients, it might -- we're impartial if they want to just look at the underlying data. But ultimately, it's helpful to have that top of the rating in systematically understanding the direction of your portfolios, et cetera.

Correct. So just to clarify, it's a package deal. People don't just buy ratings in any business that...

No. It's -- but then where we package the ESG ratings, but we might -- we'll package it for an asset class. Let's say, it's the ESG rating content for the equity universe, but we can add on a fixed income universe. We can add a climate data, et cetera. So that's it.

Right. And then just to wrap up here in the last 2 minutes that we have. So it sounds like we had a little bit of a scare in 1Q, which was a communication issue. Growth seems to be in the 20s, stabilize well. If the macro improves, that will obviously help you guys. But if you put the macro to the side, what are some of the key new products, launches, anything like that, that we should be looking out for that could help your growth rates?

Yes. I mean what we know that our clients -- in order to effectively understand the risk, they need to be able to have the data and the content on the full portfolio, the entire portfolio they're investing in, which is not just equity, but it's obviously -- and we have a huge group of clients now that are fixed income-focused clients that are utilizing our data. So one, over time, we know that we need to complete full coverage of this universe. And even in the equity universe, we still have some emerging market small cap final tail that we need to cover from the ESG and Climate side, for example. So there's just the continuation of capturing this data for all of the core asset classes and the investment process. So moving into privates, into private companies, we see huge opportunities as we gather data directly from private companies, that endeavor that we're just starting out, and then we see a lot of opportunity with Burgiss. We have newer categories like biodiversity that are emerging, and we will be looking to build products and data sets around that. We've already started that, but we see more opportunity there. And then just the sheer opportunities around climate. There's new models, there's developments of our existing models. It's still early phases, though, of the overall improvement in our measurement of climate risk will be incremental over the years.

Got it. Right. Well, we're just about out of time. So thank you, Eric, for being here, and thanks, everyone, for being here as well.

Thank you. Thanks, Manav.

Yes. Thank you.