S&P Global Inc. (SPGI) Earnings Call Transcript & Summary

All right. Hello, everyone. And thanks for joining us. This is Alex Kramm, Senior Research Analyst at UBS covering U.S. exchanges, rating agencies, information services companies and real estate brokers. Delighted to continue the program with S&P Global. With us here today is John Berisford, who runs the rating agency, which clearly takes the majority of attention when people look at S&P Global. So delighted to have him for the first time at this conference. In terms of the program here, we're going to do a fireside chat. There's no formal presentation, but there is an opportunity for those of you on the line to ping me with questions. So please do so if you have any, and I'll try to work them in the conversation. So with that, since there's no presentation, let's get started, John.

Why don't we actually take it really big picture to start off here, forget COVID for a minute. When we look out medium, longer term, what gets you most excited? And what should investors be thinking about as they think about the ratings agency more longer term or medium term?

Yes. So really big picture, I would say the thing you just have to account for is the fact that S&P Global Ratings is an enduring franchise and business, right? It's been around for over 100 years. It's navigated every cycle and emerged on the other side more capable and resilient. Decades of experience, institutional memory and a bunch of data to back that up. The business is very resilient. It's adopted change and adapted to that change, including since the financial crisis of a decade ago, a deep amount of regulation, which, in our view, has made us better. It's improved the quality of our product, the discipline of our operation. We have absorbed that and I think got better from it. And the leadership team and the talent here is really remarkable. This leadership team has been together for 5 years. We -- when we commit, we deliver. And I expect us to be able to do that going forward. And the talent, especially in our analytical teams that issue our coverage and our opinions globally, is really rich. The analytical team has decades of experience. And for example, last year, we began publishing about the deterioration of credit quality. We didn't call it pandemic, but we were really ready for the kinds of markets that we began to see in March. Maybe just a couple of comments on the backdrop for issuance growth, and then I'll stop and we'll carry on. But the broad backdrop for issuance, we're growing more positive and optimistic. We think low rates for longer is a central theme. Central bank stimulus obviously accounted for a lot of the unprecedented issuance in Q2. That stimulus stays around for a while. We'll see what Europe does. It hasn't driven the same kind of activity, but we're still in the middle of this pandemic. Refinance walls look robust. We delivered some messaging around that in earnings. We've taken a fresh look at the refinance walls, they might get delayed slightly, but we don't -- we think the issuance in Q2 is more opportunistic than pull forward. And then post the crisis, what we see is pretty explosive GDP growth normalizing again. And with that normalized growth, we'll see issuance growth like we have over the course of time. And then on corporate nonfinancials, there are a couple of specific things. There's going to be a lot of restructuring as we get deeper into or on the other side of this health crisis. And companies will be looking for debt to cover operating losses and other restructuring events. We talked about refinancing. We also think we'll see financial policies of corporates trigger consideration for dividends and share rebuybacks that will create some activity. And the other thing we're optimistic about, not necessarily in the short term, but in 2021, we think the conditions are really ripe for robust M&A activity, and robust M&A activity is a real driver of growth for us through our RES product, our Rating Evaluation Services, and the credit ratings that often flow from that. So those are the things that give me confidence, Alex.

No, great. I think you went very deep there already. Hopefully, we can unpack some of the things you mentioned a little bit later in the conversation. Staying a little bit more longer term, a little bit, like what areas are you kind of again -- I mean you talked a lot about the macro, but what are you particularly focused on when you think about expanding your reach and your market share? I'll get to China later, and you know that's a topic that I'm very focused on, but what other regions, asset classes, areas where you may be a little bit smaller than competitors? What's the stuff that you can actually drive?

Yes. So here -- let me just walk you through our growth drivers. I took you through a little bit of the backdrop on what we think will happen to issuance over the course of time. But our strat plan reflects half a dozen growth drivers for us. Beyond what I talked about in credit ratings, we have -- the other thing that we think we'll see is ESG driving market activity, green bond evaluations and social bonds. We've actually seen social bonds come to the market recently, and we think that will grow. We have an ESG green bond evaluation framework. We're on the verge of publishing our social bond framework. We think we'll see growth from that. Historically, there's been a lot of demand, not a lot of supply. We think the supply side of the equation will change with time and create some robust growth. The second is, in terms of asset class, since the financial crisis, we've fallen to kind of a distant third in the big 3 in terms of our coverage of SF. CMBS and CLOs over the course of time have been very -- we weren't covering them extensively or very well. And so we've updated ours several years ago, CMBS methodologies; last year, our CLO methodologies. And if you go back and look at Q1, we saw really good growth relative to the industry, and so -- and we're very bullish about covering the entirety of SF and becoming a real big voice and restoring our relevance there. Ratings content is the other area. Ratings360, which is our issuer portal, and then RatingsDirect and RatingsXpress, which sit in the MI business. The fact is we produce a lot of IP as we produce a credit rating, things like models, scores, adjustments. And as we launch into areas like ESG and cyber, building that content and capturing that IP to externalize and monetize it, either through our issuer portal by extending value to issuer clients or monetizing it directly on RD and RX, we are making investments there, and we think we can see really, really good economics on that initiative. And then ESG, we obviously built -- we obviously bought SAM. And for ratings, the SAM score is the primary input for our product launched a year ago called ESG Evaluations. It's basically leveraging our analytical capabilities to engage with the management team and/or the Board to issue a forward-looking opinion of risk related to ESG factors, including an assessment of materiality. So it's not a credit rating, but it's produced in a similar manner, with the same rigor. And the SAM -- our goal is by the end of the year, and we've done 220 of these, and the SAM universe coverage through the CSA is about 7,000. So we're really bullish on ESG in addition to what MI will do distributing the SAM score and obviously Indices has been doing with the SAM score for decades. And then geographic expansion is all about China. And the only other real region that we find attractive is ASEAN, but -- the ASEAN country. And we have some minority stakes in rating agencies in Malaysia, Thailand and Indonesia, but no real -- no -- they need to open up a little bit more, but we find those markets attractive. And Malaysia would be -- Malaysia issues the most sukuk in the world. Having a presence in that market, combined with our presence in the Middle East, would make us a center of excellence for Islamic finance. So we'll still push on that, but nothing to report now.

No. That's great. There's a lot there. I told you, I need to, at some point, get a little bit more near term. You mentioned the optimistic outlook already a little, but just for the audience who may not be as close to you guys, can you just remind us about 2020, what you've seen and how your new outlook is for the year when it comes to issuance? I know you talked about it a little bit already, but it will be helpful.

Yes. The -- so look, coming out of Q1, which was a very good quarter, just to start with, we had a really good back half of 2019 and a really good start to 2020, then the pandemic hit. And the fact is it was hard to give any forward-looking views. We are more optimistic, I would say, about issuance in the long term. Obviously, Q2 was explosive. And the reason that you saw the results you saw was these were a lot of big-name investment-grade issuers coming to market in Q2. I wouldn't model out Q2's performance as sustainable. We wouldn't expect to see that kind of activity quarter in, quarter out. We also saw good spec-grade issuance, SF is obviously very, very soft. We would expect it to stay soft the balance of the year. And we're looking at issuance growth for the full year of 5% to 6%, something like that. We think the mix will be decent. We'll see spec-grade issuance, offset by really soft markets in SF and the loan market. And on that, CLOs versus spec grade, there's not much of a difference to us. They're substitutable, and -- but we think the loan market stays soft until rates begin to rise and the spec-grade issuance is -- the pipeline is kind of behind us. So broadly speaking, that's kind of how we see the year.

Yes. One more to finish that thought real quick. I think you're really coming off a 4-quarter massive or very, very strong run. So I think a lot of the investor conversation I'm having, people are saying like, well everything is in the past. And even your own guidance now suggests a little bit of a softening. Is there anything where we could be wrong? I mean anything that could break to the upside? And again, you touched upon a little bit already, but I feel like I try again one more time.

Yes. Yes, I don't see material things that could create upside, maybe in 2021, to the extent that we do see a recovery, right? I mean it's even hard to call what the recovery is going to look like. We have scenarios that say end of Q3, V-shaped recovery; Q4, U, W. And especially in an asset class like SF, it really requires economic restoration and GDP growth, consumer spending and the like. So I would say we're probably less certain about when the SF markets open back up, but we do think the backdrop is pretty good for investment-grade and spec-grade issuance. We're holding on our refinance walls with a little bit of maybe lag or delay. And the thing that could drive upside, I guess, is to the extent that a recovery drives a lot of M&A, right? If we see a really, really robust M&A pipeline developing in 2021, that could drive some upside, right?

Yes. No, I think some investors in conversation will actually say I've already called for that -- some of that to have it even sooner. Actually, I had a deal -- big deal, one of the biggest deals for one of my companies announced last week. So we'll see what happens. Anyways, just one more thing here. You mentioned the refinancing walls. You put an interesting chart there in your deck in the quarter. Can you just flesh it out a little bit? I mean it's definitely something that we've looked at in the past, too. It seems like the numbers are getting higher. So seems like A-okay or is it something that may not look as positive as it appears?

This is extraordinarily hard to call. But we say that all the time, right? The only time that I, in my 5 years associated with the Ratings business, where I really saw pull-forward volume impact the following period was 4 years ago when USPF -- we saw a lot of USPF issuers come to market at the tail end of the year and we saw very muted issuance the following year. It's the only real time that I've ever seen pull-forward. So we walked around this as best as we can, and we think a lot of the issuance in the quarter was opportunistic, chase for liquidity, adds to the overall debt. We've looked at it from every angle, and we're comfortable saying we just don't see it as pull-forward. Having said that, we would expect that -- I mean, for example, what you saw in July and August was our pipeline that we looked at for July and June, the realization of that was a lot lighter than the pipeline, and August has been the opposite, right? So even in the most recent months, it's hard for us to call specific activity, and that will likely be through the balance of the year as well. We might be surprised on the upside or downside for short periods of time. But overall, the backdrop for decent issuance in the geographies and regions that we like, we're growing more optimistic. And M&A could be the upside.

Yes. No, that's -- and then just, again, one more quickly on -- you mentioned yourself, there's been a lot of issuance, and again, when you look at the refi walls, you see all this debt outstanding now being much, much higher. So I mean maybe you talked about this a little bit already, but are you comfortable that, that big amount of debt is going to stick? Or is the risk that some companies will just start deleveraging a little bit over the next few years? Is that really it?

I think it's too -- I mean that's just what they're going to do with their cash, right? And it depends on how they -- it literally depends company by company on how they exit the crisis, it seems to me. And whether they -- whether the restart can generate enough revenue or they have to take on more debt for one reason or another, whether balance sheets are healthy. I think we'll know more as we get to the other side of this crisis. But the short answer is enough of that debt -- if you look historically, enough of that debt sticks for it to be incremental is what history would tell you, and we'll see if those circumstances change coming out of this economic downturn. But I think we would be surprised if some or a lot of it isn't sticky.

All right. I'll move away from the issuance for just a minute to give you a break. I promise I'll come back if we have time. I'm going to shift gears to pricing for a minute, and it's actually because I've just got a question on it from the audience as well. So maybe I'll jump ahead a little bit. I'll use the question from the audience because it's spelled better than what I would say. So what is the pricing strategy in Ratings? How does your ability to take price change in robust versus subdued issuance environments?

So I would say the pricing power of this business remains intact, right? I mean now the base keeps getting bigger, right? So rate increases, the base just gets bigger, so the increases are of a bigger base. We published our pricing at the beginning of the year. We execute well behind that. We took on the frequent issuer discounting programs over the course of time. And I think that's largely behind us, not entirely, but largely behind us. But our ability to price remains robust, and we continue to innovate and extend value to our issuer clients. That is the entire purpose behind Ratings360, which we launched a couple of years ago, with content that our issuer clients value tremendously. And we'll continue to release content in other areas of innovation like cyber, subsidiary ratings, supply chain down the road on our own or in partnership with MI. And so a big part of our strategy is to maintain the value proposition of a rating and our ability to extend pricing.

Since we're on things that you can control, maybe I'll move over to the cost side for a minute. Can you talk about the margins in the business? I think you're basically at the targets that you've laid out. But at the same time, you keep on talking about new efficiency programs, finding new efficiencies. So what can still be done? And I'm sure that's an area that you're very focused on.

Yes. So Ewout, I think, gave a number of 60%. My number is 59.99999%. Look, I think we can maintain margins in the high 50s. I think the issue that we're going to have to cycle through is the cost run rate is artificially low in Ratings, given the fact that we basically dropped T&E to 0, we froze hiring, which we've since released, right? Ratings has not done or plan to do any restructuring the balance of the year. So it's largely travel-related expansion -- travel-related expense and stuff that just naturally flowed to the bottom line. We're comfortable with those margins in the high 50s. We will have to do some hiring against some of these initiatives that we think there's revenue associated with. We will hire in SF. We will hire in our analytical teams to cover the volume that we both have seen and would expect to see. We'll also hire behind our ESG initiative. We'll need to extend some capacity there. And on the other side of it, we'll continue to leverage our technology, robotic programs to drive down the costs in the areas where we can, and we're still bullish on our ability to do that. And the question is, how do we transition from this artificial cost run rate to something that's more normalized, right? And that's -- I can't give you an exact answer to that, because we're doing that work right now, other than to say cost run rate in Q2 -- actually, the mix-driven upside of the kind of issuance we saw in Q2, coupled with a cost run rate that's artificially low, drove performance that, in some ways, I don't think is sustainable. But we'll continue to look at efficiency programs, and we're bullish on our ability to continue to change the nature of the work.

Yes. I have to ask, since you said 59.999% is really your target. I mean you are operating a regulated business, so just -- is this a business where if the margins get too high, it's just attention that you don't want to get? Or how -- or is that not really something you think about?

No, it's more -- I think it's more of the fact that what we saw mix-driven margin performance in Q2, you could see a quarter where the mix of the issuance changes, where the volume looks good but the flow-through isn't as good in -- from a mix standpoint. And I'm pointing out that, look, we'll be able to capture some permanent savings associated with the lessons from working from home, we just won't be able to capture all of them, right? We don't know, for example, when we get to a recovery -- a good example is we have 700 -- over 700 management meetings at 55 Water. Our major issuer clients, when they come to New York, they meet their banker, their lawyer, their rating agency. We don't know how much of that's going to continue or how much of it gets made into kind of permanent virtual meetings. So we'll be able to make some of this T&E, travel and in the long term really rationalize real estate and the role of real estate in our portfolio. That will require a little bit more time to get out of. But if the mix of the issuance is not exactly what we want, you could see some inconsistency in the margin quarter-to-quarter, Alex. And you know I've said to you before, while Chip worries about the quarter, my management team spends no time on the quarter, right? We're looking for sequential improvement on the KPIs that indicate to us this business is getting bigger, healthier and more profitable. And we remain confident that we can continue to do that over time.

One last one is actually an audience question on the topic that you're just talking about. And I think you're asked some of this, but maybe they're looking for a little bit more specifics. Where in the company are you able to find efficiencies to drive the $100 million productivity program that you plan to introduce later this year? And I don't know if this is also meant outside of Ratings, so if you can broadly cover, that would be great.

Chip, are you mic-ed here?

Yes, Alex. We'll outline that program later in the year. It's premature to go into it right now. So Ewout did give you guys a teaser on the call. And then somewhere on the third quarter call, fourth quarter call, as we analyze and flesh out the programs that are going to be part of that, then we'll let you guys know.

Fair enough. Just wanted to ask. Shifting gears back to kind of growth in the rating agency. Actually one quick one that I don't think has really come up, and it's probably because it's very small, but CRISIL, which obviously rolls up into the S&P rating agency -- Ratings segment just bought Greenwich Associates, right?

Yes.

And it's just -- I know it's small, but I'm just a little surprised, like why did CRISIL buy this business? Obviously, you get most of the revenues from it or it rolls up to you, but like it seems like it's more of a strategic fit for the Market Intelligence business. So why does this business fit in there? And what -- since it is in your segment, what's the idea there?

Yes. So CRISIL is -- think about CRISIL in 4 parts, right, if you decompose the business. You have the domestic rating agency, CRISIL's domestic rating agency, which our view is in national scale markets, the single-best rating agency in the world in domestic scale markets is CRISIL. And we've looked at them all. So we're very happy to be present in India with the preeminent rating agency in India. CRISIL also has the CRISIL GAC. We get a lot of questions about our headcount vis-à-vis our competitors. And one of the reasons that our headcount is lighter is we run a global analytics center in CRISIL with data capabilities and analytical capabilities, and CRISIL was instrumental to our ability to cover the stressed markets that we're covering. CRISIL analysts take that data, make adjustments with our -- like cash flow adjustments, for example, that feed the RAM packages that our analysts use, and it's highly leverageable across the globe. CRISIL also has global businesses. The 2 most prominent are Coalition, which provides benchmarking and analytics to the largest global banks, and then a business called GR&A, Global Risk and Analytics (sic) [ Global Research & Analytics ], which basically does risk and model analytics for banks supporting regulatory requirements. So Greenwich was a good strategic fit with Coalition, that's why CRISIL bought it, because Coalition is a really good business, positioned with the banks. Greenwich was looking for an exit and the synergies associated with combining Coalition and Greenwich were too obvious to pass up on. And so that was the strategic rationale is to strengthen CRISIL's position on benchmark and analytics. That's not -- it is a good fit with MI, but it was a better fit to pair up with the Coalition business.

That's very helpful. Since you just mentioned an acquisition, this is going to be a quick question. But M&A, in general, I mean, it seems like the Ratings -- I asked you at the beginning, right, about other areas, seems like there's not much to do with M&A in your segment. But do you think about things? Like what should we be thinking about when it comes to the rating agency and opportunities to maybe do something inorganic?

Yes. We have looked at things, primarily in the ESG space, ESG ratings. There are some really interesting small companies that do things that we think are synergistic with what we do. We didn't pull the trigger on any of them. Instead, we decided to move forward with SAM, which we're delighted with. So that just became the better idea. Clear path to multiple use cases across multiple of our businesses. The other thing -- the only other place that we really looked is -- I talked about China. We looked at buy versus build. In China, we chose to build. And we think we made the right decision. But in ASEAN, which is another attractive geography for us, I think the option there, to the extent that those markets begin to follow China and open up, much more attractive, I think, to buy. So -- and then the other spaces, as we look at -- there are new startups emerging that do interesting things with data that might allow us to get in early with a stake and, ultimately, an acquisition. We're not opposed to those kinds of things in a sector or in an area of our coverage where somebody is doing something interesting with AI or sophisticated technology. So we stay pretty current on those small companies as well.

Well you mentioned 2 things, China and ESG, that I'm very focused on. So I guess we'll go to China first, and we'll go to ESG next. On China, give us an update. We've been very bullish, but it does seem to still take a little bit longer. But yes, give us an update where you stand today and why you're still excited about what's ahead.

Yes. We still stand by our view that China is too big, too important not to be present. And so strategically, we're still committed and we're staying patient. We haven't generated a lot of ratings or produced a lot of revenue. Our primary focus in the short term is with the PBOC and the CRA regulator, to give them a view of how the regulation has to change, eliminating the AA floor, eliminating the AAA requirement for investments. Those regulations actually produce inflated ratings. And the third thing is China has to adopt regulations similar to the global CRA regulatory standards on conflicts. Those things would allow the market to get more interested in S&P rating. We did publish an extensive report in Q1 where we looked at over 1,000 corporates and basically applied our granular China scale to those corporates, incomplete information, but based on what we knew. We published that, and we gave the PBOC the depth of that study and what it would look like if the ratings were more independent and granular. And the PBOC was delighted with that paper and had a series of meetings with the domestic CRAs about the inflated ratings. And so we don't really see much evidence that the deteriorating -- the relationship with -- between the U.S. and China is causing the people we deal with in the PBOC to have second thoughts. So we're still bullish, but obviously not happy with the speed of progress.

Fair. Fair enough. And going to the other -- in the interest of time, to the other topic that I mentioned, ESG, and you brought it up yourself in my first question. Can you just give us a quick update where we are, what the appetite is for issuers to kind of pay extra for an ESG kind of assessment. I think today, you're still entering the market there almost like in a low pricing environment just to build critical mass. What is the opportunity to maybe scale that pricing up higher in the future so that you can actually at some point, point to something and say like, look at the kind of money we're making on this. So what's up with the growth plan there?

Yes. So that is fair. The -- what we're most interested in is coverage, right? So I mean it's like the ratings business, until you can get to the point where your ratings create relative comparisons, it's not -- the value proposition doesn't develop. It needs to -- you need to become a benchmark and be able to provide the market with relative comparisons. And that's our intent on ESG. The level of engagement out of the gate from the launch of this product has been very, very high. I told you that we would expect the balance of this year or into early next year to have done a couple of hundred of these with a pipeline that is really robust. So our issuer client appetite for this is quite high. Not many of them have been made public. So -- and we would not expect that to really change much as we go into next year. So they'll still be private. We are getting an initial fee, and importantly, we are also getting surveillance fees out of this, right? So because it's an engaged model, it operates very much like a RES in that regard. We issue the ESG opinion, the management teams and, in some cases, Boards build their strategies around how to mitigate the risks that we've identified and the materiality that we've associated with that. And they are incented to come back with those plans and influence their score upward, very much like a rating. And so remember, the SAM CSA universe is 7,000, we're at a couple of hundred. So we're still optimistic that there's a big coverage universe for us. Our sales folks are really driving CSA participation because we own those relationships for S&P Global, the big corporates and financial institution clients. And so we're seeing good growth in the CSA participation. We're seeing a robust pipeline. And with coverage comes an ability to price. And if we can get our clients to come back with their plans, much like they would do on their capital structure or balance sheet, then we can get repeat revenue, very much like what we do in ratings. So we think this is a big idea for us to pursue.

Great. I see we're coming up on time, so I'll ask one last one, I think. And you talked about regulation earlier, you are a regulated business. So maybe you can give us a quick update on the regulatory environment. We are in an election year in the U.S. and, quite frankly, a lot of investors are already putting you in the potential loser bucket if there's a Democratic win, which, quite frankly, I don't know if I'm agreeing with that, but not with the politics, but with if you're a loser if there's a Democratic win, because I think it gets much more complicated than that. But can you just talk about why the market view may be wrong and how you see regulation progressing from here?

Yes. So I mean the real central question is, would a change in administration facilitate some appetite to change the business model, right? I mean that's the risk. And the only place in the world that business model change for CRAs is being discussed is in the U.S. There is no real dialogue anywhere else in the world. And right now, the debate has largely been a policy debate. I don't know that the engagement of market participants broadly on this topic has really developed yet. We obviously have a point of view that this model has stood the test of time and that with regulation and the implementation of Dodd-Frank, the industry has, in fact, gone through a significant change. And our other view is that every other business model and whether it's investor-based or some kind of hybrid or some kind of utility, all create significant unintended consequences and many have conflicts of their own. As you can imagine, issuers paying us versus investors paying us, you can imagine what the investor conflicts would be. And our dialogue is that they should -- regulators should get really focused on the performance of ratings, the quality of the coverage, not force things like unsolicited ratings, but measure the performance on coverage and research and the quality of what we do. And at the end of the day, if the U.S. decided to consider something -- a radical change, it would be very hard to make that globally. I mean we don't -- this is not a -- it's not a domestic business, right? And so the disruption to the capital markets, the debt capital markets and the fixed income markets would be pretty substantial. And that voice hasn't been that loud yet, but I expect it will get loud if things get serious. That's our view right now, Alex.

No, very good. I didn't want to end on a political topic, but I guess we needed to sneak that in there.

It's an important one. It's an important topic, yes.

It is an important topic. Well so thanks again. This is all the time we have today. John, thanks for coming to the conference. Have a great remainder of the day. And hope to see you again in person obviously.

All right, Alex. Stay well.

Thanks again, John. Take care.

All right. Bye bye.