MSCI Inc. (NYSE:MSCI) Q4 2023 Earnings Call Transcript

MSCI Inc. (NYSE:MSCI) Q4 2023 Earnings Call Transcript January 30, 2024

MSCI Inc. beats earnings expectations. Reported EPS is $3.68, expectations were $3.29. MSCI Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day, ladies and gentlemen, and welcome to the MSCI Fourth Quarter 2023 Earnings Conference Call. As a reminder, this call is being recorded. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, where participants are requested to ask one question at a time then add themselves back to the queue for any additional questions. We will have further instructions for you later on. I would now turn the call over to Jeremy Ulan, Head of Investor Relations and Treasurer. You may begin.

Jeremy Ulan: Thank you. Good day, and welcome to the MSCI fourth quarter 2023 earnings conference call. Earlier this morning, we issued a press release announcing our results for the fourth quarter 2023. This press release, along with an earnings presentation and a brief quarterly update, are available on our website, msci.com, under the Investor Relations tab. Let me remind you that this call contains forward-looking statements, which are governed by the language on the second slide of today’s presentation. You are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date on which they are made, are based on current expectations and current economic conditions and are subject to risks and uncertainties that may cause actual results to differ materially from the results anticipated in these forward-looking statements.

For a discussion of additional risks and uncertainties, please see the risk factors and forward-looking statements disclaimer in our most recent Form 10-K and in our other SEC filings. During today’s call, in addition to results presented on the basis of U.S. GAAP, we also refer to non-GAAP measures. You’ll find a reconciliation of our non-GAAP measures to the equivalent GAAP measures in the appendix of the earnings presentation. We will also discuss operating metrics such as run rate and retention rate. Important information regarding our use of operating metrics such as run rate and retention rate are available in the earnings presentation. On the call today are Henry Fernandez, our Chairman and CEO; Baer Pettit, our President and COO; and Andy Wiechmann, our Chief Financial Officer.

As a final housekeeping item, we wanted to remind our analysts to ask one question at a time during the Q&A portion of our call. We do encourage you to ask more questions by adding yourselves back to the queue. With that, let me now turn the call over to Henry Fernandez. Henry?

Henry Fernandez: Thank you, Jeremy. Good day, everyone, and thank you for joining us. In the fourth quarter, MSCI delivered impressive results to close out the year. On our financial metrics, we achieved adjusted earnings per share growth of nearly 30%, organic revenue growth of 15% and free cash flow growth of 24%. On our operating metrics, we posted organic subscription run rate growth of 10% while completing our 10th consecutive year of double-digit subscription run rate growth in Index at 10.8%. We delivered a retention rate of nearly 94%, including our highest ever full year retention rate in Analytics at 94.4%. Assets under management in equity ETF products linked to MSCI Indices reached an all-time record of $1.47 trillion at year-end.

Along with near-record AUM balances of nearly $3.2 trillion in non-listed products linked to MSCI Indices, such as separately managed accounts and other institutional and retail fund wrappers. And we also achieved a record level of nonrecurring sales both for the quarter and for the full year. While 96% of MSCI’s revenue are from subscription-based or other recurring revenue sources, we also see strong demand for products that are often sold as nonrecurring, which form about 4% of our revenue. The latter group includes Float Data, a recent product innovation, index licenses for OTC derivatives and structured products, history data products and other unique datasets. These products offer entry points for future subscription sales while deepening client relationships.

And they represent an important part of our strategy. Despite the global bull market and the signaling of lower rates by the Fed, our clients remained cautious, which has led to tighter budgets and longer sales cycles. Yet even with those headwinds, we achieved strong fourth quarter results, demonstrating once again that MSCI has an all-weather franchise and a team that can deliver in any environment. On capital allocation, our approach has not changed. We remain committed to making organic investments and bolt-on acquisitions that add value while returning excess capital to our owners in the form of share buybacks and dividend payments. Over the past 11 years, MSCI has repurchased more than 40% of our shares outstanding, worth a combined $5.8 billion at an average price of about $117 per share, creating enormous value for our shareholders.

MSCI’s client-centricity underlies our consistent execution. 90% of MSCI’s run rate in 2023 was comprised of clients purchasing from more than one of our product lines, whether in Index, Analytics, Private Assets or ESG and Climate. More than 60% of MSCI’s run rate was comprised of clients purchasing from more than three of our product lines. This underscores the value we provide to many of the world’s largest financial institutions and also the unique and vital role of MSCI in the capital markets. The standards we set and the tools we provide helps connect the providers of capital with the users of capital. We want to capitalize on important secular trends that are reshaping the global investment landscape. For example, in the index industry, we see rising demand for customization of portfolios.

In response, we have expanded our custom index capabilities while maintaining our strength in traditional market cap businesses. Our client-designed indexing tools on MSCI ONE allow investors to personalize indices for highly specific investment objectives. The secular trend of portfolio customization has also driven demand for specialized analytics tools, especially among wealth managers, who represent one of our fastest-growing segments. Earlier this month, MSCI completed the acquisition of Fabric, a wealth technology platform that provides portfolio design, customization and analytics. Adding their capabilities to our total portfolio toolkit will give us more ways than ever to serve the wealth segment. Speaking of total portfolio solutions, we now have an industry-leading platform, thanks to our acquisition of Burgiss.

We also have the world’s largest, most comprehensive and highest quality private asset class database, covering $15 trillion in holdings across private equity, real estate, debt, infrastructure and natural resources plus another $45 trillion in real estate transactions and portfolio assets. As private allocations continue to grow, MSCI is well positioned to benefit from it. Our data will help us build standard-setting tools for private assets, including benchmark indices and models for evaluating risk performance and portfolio construction. We can then combine our private and public asset class tools to deliver a total portfolio view of risks and opportunities. All of this will help deepen our relationships with multi-asset class allocators of capital.

In a larger sense, it will strengthen our entire ecosystem of product lines and capabilities. One notable example is climate because we build our carbon emissions estimates around granular disclosed data. MSCI already provides climate data on about 73,000 companies and issuers under subsidiaries, including more than 55,000 private companies, along with more than 7,000 private equity and private debt funds. We also provide location data on about 1 million asset locations through MSCI GeoSpatial. We assess physical risk on nearly 80% of those locations, leveraging our Climate Value-at-Risk models. Our client strategy can help us grow MSCI’s presence among corporate issuers and their advisers. With our recent acquisition of Trove Research, we are now a leading provider of global intelligence on carbon credit.

Trove currently analyzes around 15,000 carbon credit projects around the world and supplies that research to corporates, investors and exchanges. They also provide key climate data on more than 3,000 companies, showing both the quantity and the quality of carbon credits used by those companies and also how these credits are shaping their broader net-zero transition plan. There is simply no credible path to reach net-zero emissions without a significant expansion of the voluntary carbon markets. Looking ahead, we still have a long runway to create compounding shareholder value. As always, MSCI will balance our long-term strategic investments, including bolt-on acquisitions, with our commitment to rigorous financial management and short-term execution.

And with that, let me now turn the call over to my partner in this great business, Baer Pettit. Baer?

Baer Pettit: Thank you, Henry, and greetings, everyone. In my remarks today, I’ll discuss some of the most notable business needs that we see among market participants around the world, describe how MSCI is addressing those needs and explain what it all means for both our financial performance and our increasingly diverse client base. Perhaps the biggest overarching need is for more customized and personalized investment solutions. Across industries and geographies, investors are searching for highly specialized and scalable outcomes aligned with their unique preferences and considerations. Within the index industry this trend has boosted demand for custom indexes that investors can design to reflect the specific objectives of their unique portfolios, which may include capital, income, tax, risk, climate, sustainability and other considerations.

For example, since 2020, around one-third of MSCI benchmarks selected by asset owners for policy or mandate allocations have been custom indexes. In the fourth quarter, we posted 20% run rate growth in custom indexes and special packages. While we were pleased to see our clients have success in gathering allocations linked to MSCI’s custom index. For example, a major global insurance company allocated $8 billion into funds linked to our custom index, and a large asset manager licensed a custom index as the basis for an MSCI climate transition aware, ETF in Europe. Rising demand for customization is especially visible in the Wealth segment, where advisors have to integrate their house view with the preferences of their individual clients. As Henry discussed, our acquisition of Fabric will make it much easier for MSCI to deliver customization at scale for wealth managers.

In particular, by combining Fabric’s rules-based portfolio construction tools with MSCI factor models and related solutions, we will greatly enhance our capabilities. The Fabric acquisition will build on the strength of our existing wealth franchise, which now totals $107 million firm-wide and delivered 23% run rate growth in the fourth quarter. Among other Q4 business wins, the wealth arm of a major global asset manager licensed MSCI’s multi-asset class factor models. We’ve seen rising demand for integrated technology platforms to support compliance with increasingly complex regulations, especially in climate and sustainability. In response, MSCI continues to integrate our own content and capabilities on platforms such as MSCI ONE, particularly leveraging our analytics franchise, which remains the backbone of where we host client portfolios, enrich those portfolios with specialized content and apply models to deliver insights and reports.

For example, in 2023, we helped our clients generate 130,000 climate and sustainability reports on MSCI ONE using our analytics reporting engines up from 16,000 reports in 2022. In analytics more broadly, we’re benefiting from our ongoing investments to support an open ecosystem integrations and in differentiated content. We achieved our best quarter and full year on record for recurring sales in equity analytics with quarterly and annual sales of approximately $9 million and $30 million, respectively for the first time ever with strength from asset managers, market makers and hedge funds and run rate growing by 11%. In product lines with current cyclical challenges, we still see healthy client appetite for key market data and related solutions, including in real assets.

For example, our real estate portfolio services, which include climate insights and income insights, and our Index Intel products, which collectively represent about half of our product line run rate, delivered run rate growth of over 10% in a tough commercial real estate environment. In MSCI Private Capital Solutions, formerly Burgiss, we delivered recurring sales of $6.2 million in the fourth quarter, with ending run rate of $98 million growing in the high teens versus the same period last year. In general, our integration of the Burgiss team continues to accelerate and clients have been enthusiastic about our total portfolio vision for public, private and multi-asset class solutions. Across the board, investors increasingly expect richer, more granular data and faster, deeper insights powered by advanced technology.

MSCI is meeting this demand through our ongoing data and technology transformation, which has dramatically expanded our use of artificial intelligence. We group AI initiatives into three categories, providing data at scale, transforming the client experience and driving operational efficiency, which will enable incremental investment capacity for MSCI. We have made tremendous progress in each area. For example, through our partnership with Google Cloud, we have accelerated our document acquisition and classification for ESG by a factor of seven, while tripling the speed of our AI models and more than doubling our maximum calculation capacity for real assets. We want to continue to leverage large language models and open source geospatial data sets to meaningfully scale our physical asset data coverage and quality, which we expect can expand to over 100 million physical asset locations and attributes in the next three years to support our goals of comprehensive and complete data coverage for our clients.

MSCI has always been a company that plans for extended time horizons. We’re constantly trying to anticipate, capture and commercialize the next evolution of global investing, yet we also work tirelessly to deliver consistent results from quarter-to-quarter, which means we are laser focused on how to create value for clients right now. We will continue striking that balance in 2024 and beyond. And with that, let me turn the call over to Andy. Andy?

Andy Wiechmann: Thanks, Baer and hi, everyone. As you can see from our results, we have a highly resilient business that continues to generate consistently strong performance across product areas and client segments, despite cyclical pressures. In index, we had nearly 11% subscription run rate growth, including 9% run rate growth in our market cap-weighted modules and 20% growth in custom indexes and special packages. Factor and ESG modules grew 11%, a slower rate than last year as clients are favoring more customized approaches and we saw fewer clients launching new active factor strategies. We have a demonstrated track record of growing with our existing client base in index, helping them unlock value through a wide range of use cases across a broad range of content.

Half of our index client base subscribes to at least two or more modules, with 20% of clients licensing as many as five or more different modules. Our growing set of modules across market cap, factor, ESG, climate, thematic, fixed income and custom dimensions enable us to continue to bring additional value to our clients and we maintain solid momentum and asset-based fees with revenues up 16% year-over-year, benefiting from over $48 billion of cash inflows and about $198 billion of market appreciation throughout 2023 within ETFs linked to MSCI equity indexes. During Q4 cash inflows of $16 billion into equity ETFs linked to MSCI indexes were mostly driven by developed markets ex-U.S. and emerging markets products. From a product perspective, we saw inflows of about $6 billion into equity ETFs linked to MSCI ESG and climate indexes, which represented the majority of industry flows into ESG and climate products.

Within fixed income ETFs, AUM and products linked to MSCI and Bloomberg joint fixed income indexes reached $60 billion, growing more than 30% year-over-year. We had another very strong quarter for non-recurring revenues. Roughly $16 million of the non-recurring sales and revenues in index were related to client fees for unlicensed usage of our content in historical periods. We also earned non-recurring revenues from other common use cases, including licenses to create structured products and OTC derivatives and index history sales, where a client requires decades of historical data to backtest strategies and conduct research. In analytics, we saw continued momentum across key areas with subscription run rate growth of 7% supported by strong net new recurring sales growth of 68%.

Analytics revenue also benefited from a large number of implementations that were completed in the quarter, which resulted in both elevated non-recurring revenue and the release of recurring subscription revenue that was on hold during the respective implementation periods. In our ESG and Climate Reportable segment, organic run rate growth was 16%, which excludes about $4.5 million of run rate from Trove and the impact of FX. Run rate growth was approximately 15% in ESG research and 31% in climate, excluding the impact of Trove and run rate growth was 25% within Europe and close to 20% in Asia for our ESG and Climate segment. We continue to see strong engagement across client types, with a retention rate of 94.7% for the quarter and 95.9% for the full year, although we did see an increase in cancels from smaller clients in large part related to an elevated level of client events.

Within real assets run rate growth was 6% as we continue to see the impact of muted property values and lower transaction volumes. The retention rate of 89% for the quarter was impacted by pickup and cancels from small clients, namely brokers, developers and lenders, who are most acutely feeling these cyclical pressures, although, once again our larger clients tended to have higher retention rates. Almost 80% of clients that subscribed to our RCA product offerings spent over $50,000 per year on average and the retention rate of that cohort is 96% for the full year of 2023. Also, it is worth highlighting that about 95% of client contracts for RCA products have an auto renew provision or multiyear contracts. Our integration of Burgiss, which we now refer to as our Private Capital Solutions operating segment, is going well.

We recorded approximately $25 million of revenue for the quarter, which came in at the high end of our initial expectations, although we did benefit from revenue catch-ups resulting from the completion of implementations on our total plan product offering. Private Capital Solutions expenses included about $4 million of allocations from centralized and shared costs. We continue to expect about $4 million to $5 million per quarter of these allocations to the segment. These costs are reallocated from other segments and as a result will not impact firm-wide EBITDA. Our approach to capital allocation remains unchanged. We will continue to invest in the business to drive strong top line growth over the long-term, while continuing to deliver attractive free cash flow and EPS growth.

We will continue to optimize our capital structure, return excess cash to shareholders through regular dividends that grow with adjusted EPS and opportunistically pursue share buybacks and value generative bolt-on M&A that accelerates our strategy in key growth areas. In the spirit of continually optimizing our capital structure, last week we completed the refinancing of our credit where we replaced our term loan A and existing revolver with a new revolver that provides us with more capacity at $1.25 billion in total size, slightly lower costs than the now retired term loan a and an extended tenor, and our capital position remains solid overall. As of today, we currently have approximately $600 million of cash on hand, well above our minimum global cash balance range.

Although cash balances are still down from last year’s levels, which will continue to translate through to lower interest income. Lastly, we continue to execute bolt-on acquisitions that accelerate our long-term strategy. Total purchase consideration for Trove and Fabric was approximately $48 million with the potential for additional performance-related payments tied to the achievement of top-line growth targets, although the majority of those payments will be treated as compensation expense. Turning to our 2024 guidance, which we published earlier this morning. Our guidance assumes that AUM levels remain relatively flat to year-end levels through the first half of 2024 with a modest upturn in the second half of the year. Our expenses reflect the ongoing investments in our business as well as the impact of our acquisitions of Burgiss, Trove and Fabric.

Our CapEx guidance reflects continued software development to build or enhance our offerings across all of our segments, including Private Capital Solutions as well as slightly higher hardware purchases related to our hybrid data center strategy. Our interest expense guidance reflects the refinancing of our credit facilities and assumes the existing balance of approximately $340 million remains outstanding for the year. Our tax rate guidance reflects the impact of the OECD global minimum tax, which goes into effect this year, statutory rate increases we are subject to in certain jurisdictions and a slightly smaller projected impact from windfall benefits. I would like to highlight that our effective rate in the fourth quarter included a discrete benefit related to a favorable outcome on a tax position received late in the quarter.

And lastly, free cash flow guidance reflects the expectation of slightly higher cash taxes. Overall, we remain well positioned to drive growth. Our client-centricity and multiyear investments position us for strength to start 2024, and we look forward to keeping you posted on our progress. With that, operator, please open the line for questions.

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Q&A Session

Operator: [Operator Instructions] Our first question comes from the line of Toni Kaplan with Morgan Stanley. Please go ahead.

Toni Kaplan: Thank you so much. I was hoping you could give some additional color on the market environment, maybe particularly with regard to Index. I know you’ve called out some market headwinds recently. And so just looking into 2024, do you see those persisting? And how should we think about new sales within Index for next year? Thank you so much.

Andy Wiechmann: Sure. Toni, it’s Andy. Appreciate the question. So yes, I mean, we are seeing a tough environment for many of our clients. As we’ve talked about before, our largest client base is active managers that have seen flat markets for the last couple of years. We’re encouraged by the recent rally, and that should be helpful over the long term. But they have seen relatively flat markets volatility and outflows. So, we have seen headwinds, but we continue to have good momentum. And I think the thing that’s been encouraging to us is the success we’ve had across modules and client segments. And so we mentioned some of these, but just to highlight, we saw 9% run rate growth in our market cap modules. And that’s through delivering additional value to our clients, continuing to upsell them.

We saw 20% growth in custom and specialized modules, an 11% growth in factor and ESG modules. Equally as encouraging, we saw 9% growth in asset managers, 15% growth from wealth and broker-dealers and 22% growth among hedge funds. So, we’ve definitely been encouraged here. I think we will see longer sales cycles, tighter budgets here. Budgets for the year are set at the end of the prior year for many organizations, and so that will create some noise for us. But this trend of indexation and the demand for the tools that we have across many different client segments seems to have some momentum here. So, we’ll continue to monitor closely. But importantly, we continue to focus on creating value for our clients, and that will hopefully translate through to continued success on sales and growth.

Operator: Our next question comes from the line of Alex Kramm with UBS. Please go ahead.

Alex Kramm: Yes, hello, everyone. Interesting to hear you talk a little bit less than usual about ESG and Climate. So clearly, I need to ask about it. So, we obviously have continued to see slowdown in that segment after a couple of years of really, really big strength. So, I guess, now with that slowdown in the run rate now, I’m just wondering if there’s any signs that things could be turning maybe as Climate is becoming a bigger part of the equation or, again, as investors are we thinking kind of like what they need, in particular outside of the U.S. So any near-term expectations there? And how is that impacting your longer-term outlook as well? Because obviously, these run rates are far below your mid to high-20s longer-term range. So just curious how you’re thinking about that at the moment. Thanks.

Andy Wiechmann: Sure, sure. Thanks, Alex. So, I’d say the most encouraging thing for us has been the strong level of engagement we’re seeing from our clients around ESG and very significantly around Climate. So despite the slowdown, we are still seeing a healthy level of dialogue with our clients on this front. Consistent with what we’ve seen in recent quarters and throughout 2023, as you alluded to growth has been slower for us. Just to put a finer point on that, in the ESG and Climate segment, growth in the Americas was about 9%. That compares to 25% in Europe and close to 20% in Asia. I’d say the themes are consistent, where clients are taking a more measured approach to how they integrate ESG. They’re continuing to think about how and where they integrate it, and that’s causing longer sales cycles and more deliberate purchasing decisions, which is probably compounded by, I think, cyclical pressures that are hitting many of our clients.

But given the wide range of use cases, I think we continue to be quite encouraged about the outlook here. We see regulation will create some delays in purchases, continues to be a big opportunity for us. As you alluded to, Climate continues to be a big opportunity for us. And we continue to innovate heavily across Climate with plans to release things like nature and biodiversity data sets, additional insights into private assets, geospatial data, which Baer alluded to, physical and hazard risk enhancements. And that’s on top of continuing to broaden our coverage across ESG, enhance the quality of our offering and our service. And so I think we’ve got a rich pipeline of opportunities and solutions where we can continue to deliver value to clients.

But I think we would expect some of these dynamics that we’re seeing the more measured purchasing decisions and some of the cyclical pressures probably to persist for at least next couple of quarters here.

Operator: Our next question comes from the line of Manav Patnaik with Barclays. Please go ahead.

Manav Patnaik: Thank you. Maybe we’ll just go down the segments here. Can we just talk about the Analytics business? Obviously, it sounds like things have gotten bad there through the year. It sounds like it’s the equity asset class. But just is there – are you just – is there some share gains? Is it just an uptake in the models? Like maybe just some of the trends that you’re seeing there perhaps that can help you sustain this high single-digit rate?

Andy Wiechmann: Yes. So there are a number of trends at play here, but maybe I can group them together and say, this heightened period of uncertainty and risk has led to opportunities for us. And so clients are turning to us across many of our different solutions to help understand market drivers and risks and how to navigate those risks. And I think it’s been very encouraging to see the highest-ever full year retention rate we’ve seen within the segment, which I think underscores the power of that need for our tools in this market. Just to put a finer point on where we’re seeing that, we did see some strong successes within ERP in the quarter. our Enterprise Risk and Performance offering, which has been supported by things like liquidity analytics and demands for deeper insights into liquidity risk.