MSCI Inc. (MSCI) Earnings Call Transcript & Summary

Got it. If you can go back to the topic of innovation, new products, NPI, you referred to it a lot. I mean you guys have always been an indicative company, but it feels like the last maybe there was a shift in how you approach NPI, maybe you over-index one area. I was just hoping you could help us appreciate what's been going on at the company there?

Yes, yes. So it's an excellent point. It has been a deliberate focus focus of ours, as you alluded to over indexing. We have this extraordinary growth in sustainability and climate. We had a tremendous amount of innovation around that offering and it was not only within our Sustainability and Climate segment, but it was also sustainability indexes, sustainability analytics tools, climate risk solutions even within private assets. And so we, as an organization, as of a couple of years ago, as you alluded to, not only shifted to other areas, but we put a deliberate focus on the pace of innovation. And that's something that has been driven by Henry at the top, but Elise, our Chief Product Officer and Head of Client segments, has been driving that is probably his key initiative as an organization. And so we have been really supercharging the pace of new product releases, new product introductions, but also doing it in a way that is capitalizing on the market changes we alluded to and taking advantage of AI. And so AI has enabled us to invest more within the same expense base. So it's allowed us to moderate the pace of run the business growth even more than we have in the past, increase the amount of change of business investments, what we call investments is the change in business, so those discretionary spend areas, and drive a faster pace of innovation as well as enhance our go-to-market in many of these client segments that I alluded to, where we've had a deliberate focus on building and growing. You can see that AI benefit within our headcount. So over the last year, our head count has been roughly flat. So it's been pretty flat over the last year. That's even with the acquisitions. So as you know, we've done several acquisitions over the last year. And so even with those acquisitions, we've had flat headcount. That has led to us being able to invest more. So even though overall head count is flat, we are investing more in a lot of key areas, and we have been hiring, which means we are restructuring in many areas. You've seen us reduce heads in many parts of our data, our technology organizations, but also across all functions at the organization. And so that has been something that has accelerated in recent quarters. And actually, I would call out that we have elevated -- we have elevated severance on the year, but also in the third quarter here. And so because of that elevated severance as well as the very, very high AUM levels in ETFs and other index products linked to our indexes, which continue to hit new all-time highs, we are tracking towards for the third quarter adjusted EBITDA expenses of, I'll call it, the high $330 million. And we're probably, for the year, going to be tracking towards the higher end of our expense ranges. But again, this is driven by actions that are positioning our overall expense base to be lower growth, structurally better for the future, moderating that pace of the run-the-business expenses and allowing us to innovate more. It's just leading to higher severance for us in the near term here. But these are all exciting things and they're also translating through to revenue opportunities for us as an organization.

Got it. Just a quick follow-up on that point. Thank you for that update. The severance, I guess, eventually leads to some cost savings down the road. So can you just help us qualitatively at least understand what that could imply?

Yes, yes. So in the past, our run-the-business expenses have been growing, and it depends on the year you look at, mid- to even high single-digit type of growth rates. We are able to, with this restructuring that I'm alluding to, the AI-enabled efficiencies, productivity enhancements, to be able to bring that down to low single-digit type of growth rates. And so to your point, this is something that gives us a structural cost advantage going forward, allows us to drive even more operating leverage in the business, positions us better to invest more, but also create some more attractive profitability profile going forward. As I said, this year, we are seeing elevated severance expense. As we alluded to before, we see some elevated expense from acquisitions that we've done and then the AUM-driven comp adjustments that are not only in our incentive -- or annual incentive plans, but also in some of our stock-based compensation leading to elevated expenses this year, but position us very well going forward here from more moderate expense growth.

Got it. Yes, that's pretty impressive, mid- to high single digits to low single digits. But just to maybe put that into perspective, just to clarify, I mean, Henry in the past has said, obviously, AI has been a godsend, but he's also said that he's not going to show us the margin like he's going to keep it for ourselves to invest in the business. So before we all start modeling low single digits and show crazy margin, just some perspective on that.

Yes, yes, yes. No, thank you for highlighting that. So again, it's low single-digit run-the-business expenses, not our total expense base. And so again, our dual mandate and what we are committed to is driving top line growth, very attractive top line growth, and we are accelerating that growth, so accelerating from where we are and continue to believe there's upside to drive faster growth than where we are in the trajectory that we're on. And we're doing that through increased investment. That increased investment that is enabled by the lower run-of-business expenses, but we can do that while also delivering attractive profitability growth in the business. Our goal is not to drive faster margin expansion, our goal is to drive faster profitability and free cash flow growth. And so yes, the message we've been giving is, no change to the overall financial algorithm of the company, continue to drive faster top line growth and very attractive profitability and free cash flow growth, although AI is enabling us to drive even faster top line growth, and ultimately, that will trickle through to higher bottom line growth and higher free cash flow growth but it's not to push through all those AI savings down to the bottom line, it's to reinvest them and accelerate that algorithm to make a more attractive trajectory on both the top line and the bottom line.

One of the, I guess, the AI-driven benefits on the top line has been the new product innovation that you talked about. I don't remember the stats, but I know you can help us, but the whole -- this year, you produced in 1 quarter as many as all of '24, et cetera. But if you remind that, just how do we think about how that converts like what the sales pipelines now look like? And because it's some impressive numbers, but like how do we start modeling that?

Yes. So the contribution to -- the stat is the contribution to new recurring sales in the first half of this year is 40% from new products. So the contribution to new recurring sales from new products in the first 6 months of this year is 40% higher than the contribution from a year ago. If you look at the number of new products that we've released, it is multiple -- we're on a trajectory for multiples of where we were a couple of years ago in terms of the number of new products that we've released. And so for sure, that has been a big contributor to the acceleration in growth that you've seen over the last year. And if you look at the places where this is most noticeable, you saw it earlier, it's on the index side, where you've seen our growth accelerate from mid-8% to over 11% in our recurring subscription run rate. And for sure, there are secular trends fueling that, but a lot of that has really been driven -- and cyclical benefits, as I alluded to earlier, but a lot of that has been driven by new products that we've been releasing. The other place where we've seen the acceleration is on the private asset side, and that's probably the place where we've had, in terms of number of new releases, some of the most new product introductions, enhancements to our services, solutions. And so we've got tremendous momentum on the private asset side. And so those are areas where we continue to fuel that pipeline of innovation. You've seen us come out with new frameworks, new content sets, importantly, new services and solutions that are, as I alluded to at the beginning, helping our clients transform how they operate and capitalize on some of these shifts that are taking place in the investment industry and all that is translating through to ultimately a faster top line growth for us.

Got it. Let's just touch on some of the potential risks of AI, I guess, to a certain extent. I mean, look, I think on the index business, we all agree the benchmark asset probably not much disruption there. On the analytics side is where often there's a little bit of a debate. And then you have the sustainable tier people feel like you could be disrupted, but you're using AI to benefit to expand. So I was just hoping for analytics and sustainability, if you could just walk through how you see the risks there?

Yes. Yes. So listen, we -- industry is changing. Technology is changing. We need to move extraordinarily fast. But these are net opportunities for us. If we sit on our laurels, listen, it can impact us, and that's not just the case in analytics and sustainability. That's the case in every part of our business. But we are seeing AI as a net opportunity, particularly in those areas that you highlighted. And so those standard benefits being the industry standard, that common language that you alluded to on the index side, we see much of that on the analytics side as well. And so our factor models where we've had the highest growth we've seen in a long time, it's a combination of us being the generally accepted framework that people focus on and think about when they think about factors, market factors, but also innovation. So creating new frameworks around those factors, new insights around the factors, and that is stimulating additional demand for us. And that's something where we are just getting started. You've heard us talk about our basket builder, which we've just come out with, our signal library, micro sector insights. These are all things that are enabled by AI for us and creating tremendous demand. When you think about the multi-asset class risk part of our business, one big underpinning there is a factor framework. So that reinforces the demand there. The other thing to highlight is, we have extremely unique content and proprietary models that are built on proprietary data. The one big differentiator for us on the multi-asset class side and the enterprise risk and performance side is our private asset risk models. And that is built on the truly proprietary unparalleled data that we get via our private asset segment. And so we have a private credit model, private equity model, private infrastructure model, real estate model. These are things that can't be replicated. And then we also benefit enormously from the fact that; one, we are a leader. So we sit on the portfolios of companies that manage $50 trillion plus, and we sit on every part of their investment portfolio. And so we have deep insights into the market. But we've also developed a very unique, robust, trusted framework that allows investors to understand the performance and risk and optimize their portfolios using really unquestioned models around every instrument type, every security type that the world's largest investors sit on. And those are not things that AI is going to replace, AI is going to supplement. And so we have not seen AI as a replacement for us in analytics. As I alluded to, if anything, it's been stimulating more demand and it's creating opportunities actually to take that content that we have and expand the wallet with our clients. And so some of the big opportunities that we've seen and continue to see some of the attractive opportunities we see in the pipeline are really, I would say, bringing that tremendous content we have for risk and performance to the investment office. And we are helping many organizations who are starting to become more systematic embarking on a total portfolio approach, want their investment teams to be thinking about systematic drivers of risk and performance and be more calculated about how they build portfolios, we're helping them develop those tools and solutions that their investment teams use. And so it's much more of an opportunity for us and AI is unlocking all of that. As you alluded to on the sustainability and climate side, listen, we are standard there as well. And so there's a big part of that business that is organizations that have made commitments, organizations that are communicating to their clients, and we are the trusted name to represent what their climate position is, what their climate exposure is, their climate risk. Think about ESG factors and considerations in a way that systematically assesses financial risk to their portfolios, very unique relative to others. And AI has enabled us to not only enhance those signals, enhance those insights and do it in a more efficient way, but it's allowing us to add additional insights. And so as you see us expand and grow at an outsized pace scenarios like physical climate risk, our geospatial asset location data set, even understanding exposure to geopolitical and macro risks, even AI exposures, which is kind of an emerging risk that revolves around the broader sustainability investing, the tool -- the AI available to us, the data that we're getting access to is enabling us to unlock additional insights and create opportunities for us. And so we don't today see AI as a threat, but more of an opportunity. We do need to move quickly and innovate and the opportunity is ours, but it's one where we, as an organization, feel confident about our position and the opportunity in front of the most.

And maybe just going back to the severance point that you mentioned, is there one -- should we think about that as weighted towards one segment or the other? Or is it in a broad-based?

Yes. As I alluded to, the big areas where we see that is around our data and technology organization. Those are some of the places where we see some of the biggest benefits from AI and some of the retooling and restructuring. Those are oftentimes heavily weighted towards our bigger segments. So analytics, also even on the index side to a certain extent. But it does -- to your point, it touches all parts of the business. So I don't want to be too specific at this point. It is pretty broad-based and relates to us kind of retooling much of the infrastructure and processes that we have, not only in 1 segment, but across the organization.

Got it. I wanted to quickly touch on private assets. You mentioned earlier, that's 1 area you're seeing a lot of acceleration in new product, et cetera. Can you just help us, is that a lot of burgers? How important is the Moody's partnership? Are there other areas, I don't know how you can bucket them but...

Yes. So we've seen a modest acceleration on the real asset front. There's probably a good chunk of that, that has been us enhancing the management team, the focus there, reinvigorating the new product introduction, Michigan, as we were talking about earlier. There have been some green shoots within the commercial real estate space, which are probably helpful. It's early days on that, but we do see good momentum there, and we've released some very cool insights and products that are getting traction within real estate. But as you alluded to, the area where we've probably seen the most momentum is around the PCS side, which is the old Burgiss business. We've accelerated from granted not where we want it to be, but from, I think, 12% to 13% subscription run rate growth up to north of 16% in the most recent quarter. That is definitely stimulated by a couple of factors. So one is a lot of the frameworks and tools that we've released over the last couple of years, enhancements to what we have been doing. And so we now have those tool sets out there that we think the industry needs around classification standards, around benchmarks, risk models, liquidity insights, importantly, connecting those to the total portfolio, so allowing investors to understand their total portfolio that has a meaningful private asset allocation, insights into value. So [indiscernible] casting more real-time indexes, a whole host of tools to help understand exposure within private assets and get at the heart of the value that managers are providing. And so we've got the tools out there. We are also benefiting to be candid from the fact that the industry is now recognizing the importance of these tools. And so you are seeing many private asset investors who are concerned about their exposure to software companies within their private equity investments. They're concerned about their exposure to private credit and the risk that they might be taking that they're not aware of. And what that means also for the liquidity when they can expect to get distributions or if they decide to sell their position, how easily they can get out of a position of a private equity or private credit fund. And so there's a bigger focus from private asset investors and you're seeing that predominantly at places where MSCI can be helpful to pension funds, insurance companies, wealth management organizations. These are all areas where we historically have not had a big footprint, but they have used our tools on the public asset side or on the total portfolio side. And so we've got great momentum there, continue to be very bullish about the outlook and believe the growth can be well ahead of where it is right now on the PCS side.

Got it. We have 2 minutes left. So maybe kind of capital allocation broad question. You've talked about -- many times you've mentioned the industry is changing fast. The world is changing fast technologies with us. How is that altering your capital allocation priorities or even rates within that?

Yes. I'd say no major changes to our approach to capital allocation. We are fortunate that we believe we have most of the capabilities, most of the content, most of the data that we need to drive this revolution in how investors build portfolios and invest ultimately. And so our primary focus is on organic investment, driving organic investment. And so from an M&A standpoint, we will continue to look, but the acquisitions that we do will likely be to accelerators. So the types of acquisitions you've seen us do over the last couple of years. And these are acquisitions that accelerate the things that we are already working on. So we're not looking to add a whole new vertical, a whole new business segment. We don't feel like we need to diversify our business because of pressures in one specific area, but there are oftentimes unique opportunities to accelerate what we're doing, which is what you've seen us do on the custom index side, what you've seen us do within the private asset side, where we've been able to build out capabilities, technology capabilities, but also data insights into areas like pre-IPO private companies and leveraging AI to do preinvestment due diligence and analysis to expand our value proposition into a broader part of that investment process. So you'll see us continue to look at those. It doesn't need to be acquisitions. We are very actively engaging in partnerships as well, partnerships with data providers, other technology providers, our clients is ways for us to continue to broaden that value proposition. And as you know, oftentimes, the best investment we can make, and we continue to be laser-focused on it is not only investing organically in ourselves, but buying our stock back. And so that's 1 where we will continue to look for those opportunities to in size, buy our stock back at attractive prices.

Okay. I guess really just almost out of time. So that's a good place to end. Thank you, Andy, for your time. Appreciate it. Thank you, everybody.

Good to see you all. Appreciate it.