MSCI Inc.

Good day, ladies and gentlemen, and welcome to the MSCI First Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session where we will limit participants to one question and one follow-up. We will have further instructions for you at that time. As a reminder, this conference call is being recorded. I would now like to turn the call over to Sally Schwartz, Head of Investor Relations and Treasurer. You may begin.

Thank you, operator. Good day and welcome to the MSCI first quarter 2020 earnings conference call. Earlier this morning, we issued a press release announcing our results for the first quarter 2020. This press release, along with an earnings presentation we will reference on this call, as well as a brief first quarter update, are available on our website, msci.com, under the Investor Relations tab. Let me remind you that this call contains forward-looking statements. You are cautioned not to place undue reliance on forward-looking statements, which speak as of the date on which they are made and are governed by the language on the second slide of today's presentation. 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 SEP filings. During today's call, in addition to results presented on the basis of U.S. GAAP, we also refer to non-GAAP measures, including, but not limited to, organic operating revenue growth rate, adjusted EBITDA, adjusted EBITDA expenses, adjusted EPS, and free cash flow. We believe our non-GAAP measures facilitate meaningful period-to-period comparisons and provide insight into our core operating performance. You'll find a reconciliation to the equivalent gap measures in the earnings materials and an explanation of why we deem this information to be meaningful, as well as how management uses these measures on pages 30 to 37 of the earnings presentation. We will also discuss organic run rate growth figures, which include the impact of changes in foreign currencies and the impact of any acquisitions or divestitures. On the call today are Henry Fernandez, our Chairman and CEO, Bear Pettit, our President and COO, and Linda Huber, our Chief Financial Officer. Andy Wishman, our Chief Strategy Officer, will also join us for the Q&A portion of the call. Like many of you, we are in various remote locations today. If we have any audio quality issues, we appreciate your patience as we work through them. And finally, I would like to point out that members of the media may be on the call this morning in a listen-only mode. With that, let me turn the call over to Henry Fernandez. Henry?

Thank you, Sally. Hello, everyone, and thank you for joining us today. I hope everyone is staying safe and healthy in this difficult environment. Before I turn our call over to our first quarter results, I would like to acknowledge these unprecedented times and share a few of the actions related to our people, our clients, and our shareholders that we have taken to manage successfully through this challenging environment. Across MSCI's 35 locations in 22 countries around the globe, we have deployed our business continuity plans in full force. Almost 100% of our 3,500 employees are currently working remotely. They remain engaged and productive with the right tools to work effectively across all functions of the company. Our data processing production environment remains extremely resilient and reliable with an uptime of over 99.9%. Because we have been able to seamlessly transition to this new working environment, we have stayed keenly focused on our clients, supporting the challenges that they're facing in managing their portfolios and businesses. Our sales consultants and our client coverage representatives have provided immediate expanded access to our products and services. One example is by removing location restrictions of our products and services to support our clients as they work from home. We have delivered more frequent content updates and offered select free trials across our product suite in an effort that has been widely and praised in the last few weeks. And our research team has mobilized rapidly to create a wide variety of insight and research analysis. This has been delivered to the market timely through social media, podcasts, and our dedicated coronavirus webpage. The allocates we have received from clients tell us that we're doing the right things to support them at this crucial time. I am incredibly proud of the way my colleagues have stepped up to work with our clients to serve whatever their needs may be, keeping faithfully to our mission of providing critical tools and insights to help clients build resilient portfolios regardless of market conditions. And finally, we have taken a series of concrete actions to ensure MSCI remains well positioned financially and that our shareholders continue to benefit from their support of the company. Let me now turn our focus to Q1 and how we will continue to navigate during this crisis. During the first quarter, we delivered strong financial performance across our franchise. with year-over-year growth of 12% in operating revenues, 16% in adjusted EBITDA, and nearly 23% in adjusted earnings per share. Since the beginning of the year and through April 24th, we bought back $357 million of MSCI shares. a total of 1.4 million shares at an average price of $250.65. We also paid to shareholders approximately $58 million in dividends during the quarter, and our board has approved the upcoming second quarter dividend payment of 68 cents per share. These actions are consistent with our stated objectives of managing our business with the most optimized capital structure possible and of returning excess capital to our shareholders. Our share repurchase program since the start of the year is consistent with our practice of taking advantage of periods of volatility in our stock price. And our dividend declaration is consistent with our policy of paying 40 to 50% of adjusted EPS in the form of quarterly dividends. As stewards of your capital and as important shareholders ourselves, we are highly driven to manage our company carefully through these times of economic stress and market uncertainty. with an ongoing keen drive to innovate and strategically grow the business for the benefits of our stakeholders, regardless of market conditions. As you know, compensation costs are the most significant part of our expense base. Currently, we have a hiring freeze in place, and only very few health care additions are being made in critical areas. a significant part of our compensation expense is variable and meant to be flexed up or flexed down depending on the financial performance of the company. We are more focused than ever on driving productivity improvements and ensuring that our operations are appropriately scaled for the opportunities and challenges we see in front of us this year. As we continue to navigate this unprecedented and evolving environment, we are confident that MSCI's content, analytics, and technology applications remain must-have tools for our clients, underpinning the resiliency of our franchise. The enduring secular trends and drivers supporting our business also propel our confidence and belief in our ability to add significant value to our clients and create more value to our shareholders. I will now turn the call over to Bear, who will provide more color on what we are seeing and hearing from clients, as well as examples of our ongoing innovation. Bear?

Thank you, Henry. I share your confidence in our durable business model and in our colleagues' abilities to deliver significant value for our clients, even in environments like this. Our focus, therefore, remains to engage with our clients in detail about their businesses and investments and to run our own ship tightly to ensure total operational integrity. We continue to closely manage expenses. I'm personally reviewing every request for headcount and additional non-compensation expenditure to ensure prudence in using the resources entrusted to us. At the same time, we want to create catalysts for our clients to continue to rely on our tools, particularly in the context of the ongoing uncertainty around the depth and duration of the pandemic and its economic effects. Over the past several weeks, we have intensified our engagement with clients, providing research insights and tools to help them perform stress tests on their portfolios, identify key factors that reflect their investment views, and rebalance their portfolios to achieve their objectives. We are delivering daily research content, including pieces on liquidity, hedging risk exposures, and the performance of various asset classes, factors, and other strategies. Responding quickly to events in the market, we have upgraded certain of our modeling tools to enable clients to more closely monitor recent liquidity constraints. For users of our multi-asset class risk tools, we have provided access to model portfolio stress tests to simulate outcomes across equity, credit, oil, foreign currency, and commodity shocks. Many of MSCI's products and services have important risk management capabilities, and these features become even more critical during periods like this when economies and markets are under stress. We had several bright spots in the first quarter. One was the continued adoption of ESG investing. We observed a 120% year-over-year increase in assets under management in equity ETFs linked to MSCI ESG indexes, which reached $37 billion at the end of the first quarter. Year-to-date, we've observed $11.6 billion of cash inflows into ESG equity ETFs linked to MSCI indexes. Looking forward, we expect investors to continue demonstrating an appetite to implement these kinds of long-term, sustainable investing strategies. and our research indicates this has been a successful approach during the crisis so far. MSCI ESG indexes have shown resilience, even more notably in the first quarter of this year. Another bright spot I would like to highlight is our growth in index licensing for futures and options, which is part of our asset-based fees revenue and run rate within our index segment. The first quarter volume in futures and options linked to MSCI indexes grew approximately 54% year over year, reaching over 40 million contracts. With ongoing market volatility, we believe clients will continue dynamically trading and utilizing the unique multi-currency, multi-time zone derivative products linked to our indexes. Our run rate for futures and options linked to our indexes, based on annualizing our results from quarter end, now totals nearly $50 million, which has more than doubled since last year and continues to be one of our fastest-growing opportunities. In fact, our continuous innovation efforts will benefit a variety of facets of the ongoing growth in the company. As one example, we are currently working with a partner on a potential new series of thematic indexes focused on the important areas of innovation in genomics and robotics. This will add to our existing suite of thematic indexes ranging from digital economies to disruptive technology. This is just one example within our index franchise of our approach to creating tailored products to client demand across a wide variety of exposures, factors, and asset classes. Climate change remains another front of mind topic for investors. Most recently, we launched our Climate Value at Risk product in ESG. This effort has been a direct outcome of our successful acquisition of Carbon Delta in late 2019, and we expect we'll be an important growth driver for MSCI, not only with new and existing clients in ESG, but also for our real estate clients. Before I turn the call over to Linda... I'd like to share what we're seeing and hearing from our clients and how that might translate into opportunities or even headwinds going forward. Our asset owner clients are proving to be resilient part of our franchise. The ongoing trend of insourcing assets continues to catalyze them into upgrading their risk management tools and embracing factor investing and ESG integration even in this environment. Banks and broker-dealers remain generally well-capitalized and eager to improve their tools in index derivatives-related areas, ESG and liquidity risk, all areas of strength for MSCI. Clearly, the breadth and depth of the crisis will have a bearing on this going forward. I'm also encouraged by our progress within wealth management, an area we have targeted for growth. The crisis has heightened demand for more transparency and analytics among wealth managers. In response, we have had the opportunity to sell across new use cases that bring value to advisors. We are working to integrate our content into their platforms and reporting, driven in large measure by areas where we have expertise such as ESG factors and thematics. With regard to hedge funds, Some strategies have suffered greatly from the onset of the crisis and experienced outflows, as has been widely reported. Established players and selected other strategies have fared better. These firms have been keen to acquire more of the content, analytics, and technology applications MSEI can provide in order to better navigate the crisis. We are acutely aware that this operating environment could evolve to create challenges in generating new sales and avoiding cancellations. Thus far, we have seen deals pushed out later rather than pulled completely. Procurement processes have become tighter and may become more so. Additionally, we could see even more lumpiness in some of our larger ticket product sales, notably in analytics. At this point, the pipeline remains quite healthy. and retention rates indicate that the must-have nature of our products holds fast. We are certainly focused on doing everything we can to maintain this position of strength as we progress through the year. The continued strong level of client engagement and the variety of client problems and opportunities we are addressing continues to highlight the strength of our franchise. Let me now turn the call over to Linda, who will discuss more of the specifics of our first quarter performance, as well as our current outlook. Linda?

Thank you, Bear, and hello to everyone on the call. Let's start with a review of the first quarter's results and then move on to our capital position, our current guidance, and our downturn playbook. For the first quarter, focusing on operating revenue, MSCI recorded nearly $417 million, up 12% from the prior year. Looking at each of our business segments, first, in index, operating revenue grew approximately 16%. Growth in asset-based fees was a meaningful contributor of 22.5% year over year. In addition, we saw close to double-digit growth in recurring subscription revenue driven by continued momentum across modules. Second, analytics operating revenue increased more than 3%. We saw higher subscription revenue in our multi-asset class and equity analytics products. But noting Bear's comments, we would also remind you of the lumpiness we continue to see in this business. Finally, for the all other segment, operating revenue grew nearly 20%, reflecting robust growth across our ESG ratings and screening offerings and higher subscription revenue in real estate. We ended the first quarter of 2020 with assets under management in equity ETFs linked to MSCI indexes, $709.5 billion dollars, a decline of $225 billion from the fourth quarter of 2019. However, it is important to note that more than 96% of this sequential decrease was driven by market declines, and only 4% of the decrease was driven by cash outflows, the impacts most severe in international markets, notably in the last part of March. In the last few weeks, we have seen what appears to be a potential initial recovery in AUM levels across all equity ETFs linked to MSCI indexes. As of Thursday, April 23rd, these assets under management had increased to approximately $744 billion. In asset-based fees, we grew quarterly revenue nearly 23% from the prior year. Because we saw record AUM levels earlier in the quarter, even with the downward trend in March, we were able to drive higher asset-based fees from equity ETFs linked to MSCI indexes. As Bear noted, we were excited to see record quarterly volumes in futures and options linked to MSCI indexes, which grew approximately 54% to more than 40 million contracts. This helped to more than double our asset-based fee revenue from futures and options linked to our indexes, which was approximately $11 million for the quarter. Sequentially, the average basis point fee on equity ETFs linked to MSCI indexes decreased by 0.11 basis points. This decline reflected a continued mixed shift into funds with lower total expense ratios in line with our expectations. It also included, among other items, the most significant phase of the implementation of our contract renewal with BlackRock. Looking at our quarter-end exposures by geography across ETF assets under management linked to MSCI indexes, as I noted earlier, we observed more severe market declines in emerging markets and developed markets outside the U.S. This happened amid turbulent markets triggered by the pandemic, as well as volatility in oil prices compared to the greater resiliency we saw in U.S. exposures. With regard to the year-over-year drivers of our adjusted earnings per share growth, Approximately 80% of our 35% adjusted earnings per share increase came from growth in our business. The balance was largely the impact of our lower adjusted tax rate. And now I'll turn to our balance sheet. We ended the first quarter with a cash balance of approximately $1.1 billion. In February, you will recall that we issued $400 million of notes due 2030 at a coupon of 3.625% and used $300 million of the proceeds to refinance our remaining outstanding 2024 notes that had a coupon of 5.25%. As of the end of the first quarter, our gross debt to latest 12 months adjusted EBITDA ratio was 3.6 times, while our net debt to latest 12 months adjusted EBITDA ratio was 2.4 times. You may also notice in our 10-Q filing that we drew on our revolver in the quarter. We borrowed approximately $5 million from and then repaid it in April solely as part of our business continuity testing. We have a strong capital position that affords us the opportunity to continue to both invest selectively and strategically in our businesses and to return capital to our shareholders. As Henry noted, since the beginning of the year and through April 24th, we've returned approximately $416 million of capital through a combination of share repurchases and dividends. Now I'll review our current outlook for the full year 2020, including select guidance metrics we have revised based on our best view of the environment as of today. For the full year 2020, we now expect adjusted EBITDA expenses in the range of $700 million to $750 million, versus our prior guidance of $750 million to $770 million. Capital expenditures in the range of $50 million to $60 million versus our prior guidance of $60 million to $70 million, and free cash flow in the range of $540 million to $600 million versus our prior guidance of $580 million to $640 million. A full list of our guidance is included in our earnings release published this morning, as well as in our earnings presentation for this call. Both are available in the investor relations section of our website at msci.com. It's important to emphasize that these numbers reflect our best estimates at this time. As we gain additional information and experience, we will be able to further assess the implications of the pandemic and its impact on global economies, our clients, and our business. And finally, our updated guidance reflects a thorough review of our downturn playbook as we continue to closely monitor the operating environment. As both Henry and Bear referenced earlier, we remain highly thoughtful regarding both headcount-related spending and non-compensation expenditures with a focus on our most critical areas to support the long-term franchise. We have identified up to $50 million of adjusted EBITDA expenses we can cut if needed. In fact, we have already taken certain proactive actions. As Henry said, we have a hiring freeze in place. and only a very few headcount additions are being made for critical areas. And as we have noted previously, bonuses could also adjust depending on economic conditions. We have significantly reduced discretionary spending, such as travel, entertainment, and marketing, and expect that this spending generally will not return in the near term. And while we continue to continuously innovate, as Bear noted, we're spending investment dollars much more cautiously with various initiatives seeing changes to the timing, cadence, and or amount of spend we will commit. And the same is true of capital expenditures. Despite these actions, I nonetheless share Henry and Vera's confidence in our business. In fact, I would like to close by pointing back to our long-term targets that we shared with you last year at Investor Day. As Henry said earlier, we continue to believe that these trends and drivers will support our business and propel our team's execution of these targets. And with that, operator, please open the line for questions.

Thank you. The line is now open for questions. As a reminder, to ask a question, you will need to press star 1 on your telephone. We ask that you please limit yourself to one question and one follow-up question. You may then return to the queue. To withdraw your question, press the pound key. Please stand by while we compile the Q&A roster. Our first question will come from Tony Kaplan from Morgan Stanley. Please go ahead.

Thanks very much, and congrats on the quarter. I'm glad to hear that you're all safe. Just wanted to ask about if you could give us some color on what you're seeing in April in terms of new sales on the ESG front. Just wondering if the new sales pipeline has been building more slowly in the period of market volatility or if it's held up really well.

Thanks. Hi, Tony. Bear here. So, look, we really haven't seen, you know, dramatic change. You know, across the board, we've seen, you know, in all products, a little bit of slowness, particularly in the procurement process. I think you would expect that in the current environment, that people need to go an extra step to get signatures, etc., And, you know, that we're seeing in different degrees, and it's, you know, not a very clear pattern. But ESG certainly has held up well. So, you know, I would say that the simplest headline would be we've really seen no dramatic change in ESG and continued, you know, high levels of activity with clients moving in the right direction.

That's great. And then for my follow-up, just trying to think about long-term impacts on the business in the aftermath of COVID-19. Would you expect anything to just meaningfully change in terms of industry trends or any strategic changes within your company just as you think about all that's gone on with the current situation?

So, Tony, I think the – We see no significant long-term changes, at least no negative changes to the franchise and to the way we interface with clients and the drivers and trends underpinning our business. If anything, over the last 25 years or so, Bear and I have been working together for over 20 years In each one of these circumstances where we have had a dislocation or a crisis, we have been able to stay very close to our clients, to innovate faster, to come up with products much faster, and every time our franchise has come out stronger as a result of the crisis. So I would anticipate that that would be the case here in which we will come out stronger, and particularly because pretty much every one of our Prado clients have the wind in their back, you know, from sustainable investing to factor investing to risk management and risk analytics, particularly in a volatile environment like this, to passive investing, to private equity and private asset class investing, and so on and so forth. And obviously, as you know well, the underpinnings of our business are also predicated on three things. Data, huge amounts of data, a lot of analytics, one form or another, and an incredible amount of technology. So as clients work even more remotely and don't rely on a lot of interpersonal issues, therefore we should see an uptick on a lot of what we do with our clients.

Perfect. Thank you.

Thank you. Our next question will come from Alex Cram with UBS. Please go ahead.

Yes. Hey, hello, everyone. Just wanted to come back to the updated guidance for this year. So you're taking your expense guidance down, and you're also taking your cash flow guidance down more. At the same time, all your comments here sound pretty positive still in terms of retention and resilience, et cetera. So I guess my question is, are you just lowering your expectations for the asset-based side that you can obviously observe and can change real-time, or are you building in any sort of reduction in subscription revenues? And if so, what are the areas that you're, I guess, the most negative near-term? Thanks.

Look, I think clearly we have, as you know, Alex, a business that is about 80%. subscription base, which is always going to be very resilient. It's very sticky. It lags on the way down as well as it lags on the way up. And 20% of the business that is largely asset-based fee, although as we have been mentioning, a part of the asset-based fees is transaction-based, which is the futures and options, and a part which we intend at some point in the future to start breaking out so that people can see the difference between those two areas. So what we're reacting right now is largely to the decline of assets under management fees on ETF and other forms of passive in order to protect profitability. That can definitely be flexed up if the markets continue to do well, as they have so far during April. So... But in environments like this, it doesn't pay to be heroic. It pays to be cautious. It pays to make sure that you're sober. We don't know how the world will come out of this crisis, particularly in economic terms, how the various economies around the world will come out. We've been pleasantly surprised by the evaluation in equity markets relative to the state of the global economy and we hope that that continues, but if it doesn't continue and we see another downdraft on that, we have to be prepared to tighten the belt. One other thing that we're also doing is, in addition to that, we are looking at reallocating resources from projects that were very important before the crisis to projects that are more important now, and that would allow us to continue to invest and innovate The last thing that I will say, and there we'll go through that in more detail, is, you know, crises like this are exercises of throwing out, you know, the weak hands, right? So, therefore, we need to be cognizant that at MSCI we're also focused on intensely on efficiency and productivity because crises like this force you to do that, and that should also create savings for us to invest more Linda, anything else that you want to add to Alex's question?

Sure. Alex, let me just walk through what we're seeing with ABF. You're right that free cash flow has moved down more than cost cuts. Let me just take you a little bit through that. As Henry said, 80% subscription revenue business, but then we've got to think about ABF, which is about 20% of the total revenue. So the run rate for ABS as of March 31st was $350 million. So if you think about it in three buckets, roughly $200 million is from ETFs. Another $100 million or so is non-ETF passive. And remember, that's reported on a one-quarter lag, very sticky, doesn't move too much. And the remaining somewhat less than $50 million comes from futures and options. So what's happening with each of those? On the ETF run rate, we saw this $225 billion decline, and that was almost entirely driven by market depreciation. I commented on that in the script, 96% from market depreciation. Non-ETF passives, as we said, pretty stable, few outflows, quarter lag reporting, so that one hangs in there. And then futures and options are able to make up some of the decline that we've seen from the ABF run rate that we talked about before, but not all of it. And we think that that will continue to pick up. So we've got kind of one chunk that's down, which is asset-based fees. Passes hang in there. Futures and options doing really well. Now, on top of that, you have to lay in a couple of cash flow factors. So last year, coming off of 19, we had very significant stock-based compensation, which vested. We don't have that this year. And we have taken into account we may see some slowdown in collections. So as part of Henry's comment on conservative planning, we've thought about slowing that down a little bit, which also would hit our cash flow. However, we're working very hard to make sure that we keep our day's sales in line with what it's been. So it's mainly just conservative planning, and I hope that helps you.

No, that's great. Thank you. And then maybe just a very quick one, just so I make sure I heard you right. On the basis point side on the ABF fees, on the ETF fees, you said the BlackRock renegotiation is now fully in the run rate. So basically now – All else equal, basically, is the point, or are there any more step-downs that we should be thinking about as you maybe change some of the contracts around floors, et cetera, or is it all there now?

Sure, and Bear may want to comment on this after me. Of course, Alex, we're not going to go deeply into this, but I think we said on the script that the biggest chunk of that reset has now passed behind us, and that will have some impact as we go forward, but as we said, that's the biggest piece. Bear my wish to add.

I have nothing to add. I think that's pretty clear.

All right. Thank you again.

Thank you. Our next question will come from Manav Patnaik with Barclays. Please go ahead.

Thank you. There, you know, your opening remarks around, you know, feedback from the clients. Could you just remind us what the customer mix is by those clients? And I don't know if I missed this, but, you know, from the core asset manager base, I don't think you addressed what you heard there. Sure.

Okay. So we can give you the exact breakdown, but clearly, you know, with rounding error, You know, asset managers are our largest segment. I think we're at roughly 60%-ish at this stage. But, you know, more broadly, across the board, you know, we've had, I think, really an excellent client response. You know, we've been reaching out very broadly. I sent an email to all the clients. And we laid out a range of free trials on a number of products, which have had a very high uptick across all product lines and regions. Our research readership is, I think, up something like 70% over the 24-month average. We've been putting out a lot of very topical research related to market reactions, stress testing, etc., We've given clients enormous amounts of support related to working remotely. And, of course, even before that as a starting point, you know, we've shown great resiliency in all of our deliverables to clients. So I would say that, you know, in terms of the levels of client engagement, the outstanding job that our client coverage teams have done working remotely and reaching out to clients, continuing to do demos of our software products, et cetera, you know, has been great. At this stage, you know, in view of the fact that we're really only a month into the quarter, it's very hard to draw conclusions much beyond the ones that Henry laid out, you know, a bit earlier, which is for sure the sales cycle has got, you know, a bit slower. We are seeing certain things being pushed out a bit. We are seeing things being pushed a little bit more senior in organizations to get approval. And the likelihood is that will continue. And our expectation... is, although just to be clear, we haven't seen a great deal of evidence of this, but our expectation is likely that it would be logical that if the, you know, the economic consequences of the pandemic are those that we're reading about every day, that we will likely see some pressure from cancellations as certain clients come under, you know, strain. So I would say great client engagement. The pipeline's still healthy. and the sort of marginal tensions that you would expect at this stage without anything dramatic or anything that's a clear pattern.

Got it. And, you know, just somewhat tied to this question, just a philosophical question, like how flexible are you guys, you know, willing to be? I'm not sure of the analogies to draw from 08, 09, because, you know, this customization presumably maybe feels an impact at a lag. So once we get there, Does your philosophy around pricing and, you know, working with them, giving them concessions, et cetera, does that change at all?

Yeah, look, we're not in a position at this stage to need to seriously consider, you know, sort of structural adjustments. You know, the first stage that we've done is just to make things easier, right? So, for example, you know, giving free trials, that's not out of economic pressure, right? That's in order to make things easier for our clients, to make sure that they have access to the right tools immediately, such as our shorter-dated models. So I think, you know, we will see, you know, as things progress, you know, most of our clients, in fact, almost all of our clients have been in lockdown, as we have and you've been. We've had, you know, to a degree after the initial trough, some, you know, resilience in the equity markets and so some support in the fixed income markets from various governments. So, you know, we're in a situation now where I think it would be difficult to speculate as to what will happen going forward. But, you know, the simplest answer to your question is, as of today, we have no, we've not seen any fundamental changes in the way we operate our pricing or anything of that kind.

Okay, thank you. Thank you. Our next question will come from Chris Shetler with William Blair.

Hey, everyone. Good morning. You mentioned the outperformance of ESG indexes so far this year. I'm curious to what extent your team has parsed the data to understand how much of that, like just the underlying factors driving that outperformance, wondering how much of it is ESG factors specifically versus like quality growth and other types of factors. Yeah.

So I hope you don't get me in too much of a quantitative finance trap here as we have many experts in the building. But, you know, so look, the way I would understand it is for sure, you know, and this is on a high level. I'm sure you appreciate that and we'll be happy to send you all the relevant research. But the way I would say it is I think there are two things, right? One is likely the structural trend is of, you know, the larger amounts of capital are tilting toward ESG strategies, and so there's likely, you know, there's an element of simply more money following companies that have a better ESG rating. In terms of some of the factor analysis we've done, there is clearly a link to quality to a degree in some of those analytics. And in certain cases, with certain companies, surprisingly, there's actually sometimes been a link to momentum. So I think it's not the right place or time to give an exact parsing of that, but I think the main headlines are continued resilience of people wanting exposure to the companies, the ESG companies, that they believe will drive longer-term returns. And as I said, we're happy to give you a lot of other research and data around that.

Okay, thanks. Linda, just a quick update on that. ESG ETFs linked to MSCI saw cash inflows across all geographic exposures, and factors other than X value and growth saw inflows in all regions but emerging markets. And interestingly, from a market share perspective, MSCI-linked ETFs drove 81% of global ESG ETF flows and 165% of global factor ETF flows. Again, that's X value in growth. I hope that helps you a bit.

And one final point. Look, just leaving aside the performance, which, again, you know, there may be those better equipped to do the full breakdown of But look, going back to the earlier question about the ESG pipeline, certainly we are seeing very much clear and intense client focus on this. Even in the last few weeks, I've been on two senior client calls, one with a large asset manager linked to an insurance company, one with a large asset owner, a North American large asset owner, And for sure, the ESG conversation remains very front and center, and we see no evidence of, you know, that changing at all.

Okay, thanks for all the color. One more, and I certainly appreciate it, super early days, but any anecdotal evidence from your conversations with clients around the kind of active-passive approach you know, allocations, whether that may shift a little bit based on your conversations?

Look, I think the simplest answer is no. You know, I just don't think – no, but I really – I think with the relatively short amount of timeframe and the volatility of markets, for sure we haven't seen or heard anything that, you know, I'd like to – I'd feel comfortable extrapolating from.

Okay, fair enough. Thank you.

Thank you. Our next question will come from Bill Warmington with Wells Fargo. Please go ahead.

Good morning, everyone. So first question for you, I wanted to ask for a little color on the basically how you were able to retain such a high level of the AUM, meaning that in a $225 billion downtick, only 4% of that could be explained by the acid outflow. That seemed like very sticky. And I think ESG could probably explain some of that, but I just wanted to get your color on that.

So, Bill, I think what you have here is two or three different trends. The first one is, in general... we have seen in periods of significant market volatility and decline that investors who want to remain equitized and not simply sort of go to cash, prefer to put their money into indexed strategies. So that, in and of itself, has always supported the market for ETFs. And for sure, there's no withdrawals of any significant magnitude from institutional passive management. Secondly, with respect to MSCI, there's a mix going on that I would like to allude to. There's a shift towards factor investing, and we've benefited from that. There's a shift towards ESG investing. We've benefited from that. Our MSCI USA indexes licensed to ETFs in the U.S., such as the USA Minimum Volatility Index, for example, has gathered assets. And as you know, in this period of of volatility in the world, there's been money flocking to the U.S. markets, so we have been a beneficiary of that. Not to some extent that others, because obviously we do have a large exposure in the emerging market, which has been a negative, and in other developed markets around the world. But for sure, as we have developed more and more MSCI USA indices and licensed them to ETF managers, that has allowed more assets to flow into that compared to the past. So those are a few examples of why we believe we have outperformed relative to other index providers and our clients who are ETF managers have outperformed relative to other ETF managers.

Well, for my follow-up, question. You had mentioned hedge fund outflows, and I noticed on the retention rates for the end of Q1, they look fine, but should we be bracing ourselves for a tick down in the retention rates for the end of Q2?

Not really. I think that I'd like to sort of reinforce what Bear said, which is we were very pleased with the last week or so of the quarter, the last week of March, the last two weeks of March, even in the midst of huge amount of volatility in the markets, major scare and fear and uncertainty as to what will happen, a meaningful amount of our sales in the quarter end up being the last week or two of the quarter. And we were able to close the vast majority of those A few slip towards the following quarter, which is a normal cadence that happens. Sometimes, you know, you cannot get all the approval, so the sales slips to the next quarter. And in the month of April so far, we are clearly bracing ourselves to lower sales and higher cancels and elongated sales cycles and the like. But as Bear indicated, we have not seen significant evidence of that yet. Again, we are bracing ourselves, and we want to talk to all of you openly about that. And it is something that we want to prepare for, but we have not seen yet significant evidence of that.

Got it. All right. Well, thank you very much.

Thank you. Our next question comes from Craig Huber with Huber Research Partners. Please go ahead.

Thank you. Your cost guidance for the year, you obviously brought it down by $50 million, Linda. on the low end of your range there. Can you just sort of help us think about that for the two major segments? Is it sort of broken down 50-50 between indexes, analytics? I'll have a follow-up.

Sure. Craig, probably the first thing to focus on is we want to reiterate we said up to $50 million, and it is our fond hope that we won't have to cut that deeply. The actual amount depends on what we do and when, if the crisis gets worse, we can toggle more toward that 50 million. And if not, that may be too much. Some of the flexibility is already embedded in our process. You've seen our downturn playbook. The first bucket is the self-adjusting metrics-based incentive plans. So obviously, if we don't do as well, we don't pay out as much. So that happens automatically. We do have the majority of the expenses with the people. And so a meaningful amount of it is compensation. You heard we have a hiring freeze in place. That's across the board, and it doesn't relate to any of the businesses specifically. So just make it a very few critical hires. And, again, the bonuses could adjust based on the economic conditions. Then we have some discretionary spending that we also talk about in the downturn playbook. So, you know, T&E has largely frozen at this point. Training, professional fees, marketing, those kinds of things we can – we can limit pretty quickly, and that has allowed us to pull in on our cost base. So, again, if things are really difficult, we can go back to sort of having expenses being flat to last year, and if not, we will continue with less of an expense cut. But it's not really broken out specifically by businesses. We do intend to continue to invest. At this moment, we're holding on to a very high percentage of our investment dollars at this point, and we're going to have to see how things go through the rest of the year. But as Henry stresses all the time, we have to be prepared, so we are prepared, and we will see how conditions move. But $50 million is the outside if things are quite difficult. So I hope that helps you. Thank you.

What I'd like to add to Linda's comment is that we – We at the moment do not necessarily have a bearish view of our environment the same way that we don't necessarily have a bullish view on the environment. What we are doing at MSCI, and we always have done, is to ensure that we are prepared to flex up or flex down. Flex up meaning if the AUM recovers, we will be back at putting some of the investment spending that we have talked about, which are going to benefit us in the longer term. If things get more difficult, we will tighten the belt. And even in those scenarios of difficult market conditions, we're still doing a meaningful amount of investing, particularly in short-term return projects that will benefit us and will come out of this crisis much better. The last thing that I will say is there should not be any interpretation to anything that we have said that MSCI is not prepared to continue to innovate and invest in our business. We will be doing that even during this crisis. It's just the manner in which we do it is what is relevant.

My final question is your derivatives area, your futures and options business is obviously quite a bit smaller than one of your major competitors out there. Can you just touch on some of the innovations and the work you're doing there to help drive this going forward, please? Thank you.

So definitely a lot of innovation, you know, happening. A lot of new product development occurring. A lot of discussions with our partners, you know, around the world. We, a lot of our partners, you know, in the west, you know, Europe and the US is ICE and Eurex. And we've had a number of discussions with them about what new products to launch. So, for example, there's been a big emphasis in both ICE and Eurex to launch ESG index futures. So we're working on that. We are, we're also ramping up our discussion with our partners in Asia. in terms of optimizing the MSCI franchise in Asia. Right now, a big part of what we do there has been futures and options on Taiwan and Singapore and other single country. We're pushing pretty hard on the, you know, the futures contracts on the emerging market Asia, you know, the emerging market Asia index and the like. So quite a lot of activity on this front for sure. And we see it as, in particular in this environment, as a great time to be able to push all of that further in order to, you know, continue to diversify our revenue base.

Thank you.

Thank you. Our next question will come from Henry Chien with BMO. Please go ahead.

Hey, everybody. Thanks for taking the question. I wanted to ask, you know, broadly, you know, volatility reaction, but in the event that it's more like an economic recessionary type environment this year, you know, understanding the downturn playbook and longer sales cycles, how do you think about that, like an economic recessionary impact on the asset management industry and your clients, given like MSCI's history in the prior downturn and also given the fact that passive is a lot higher percentage of the asset management industry. I'd love to hear your thoughts there.

Thanks. I think what you have is a talk of two variables that typically happens in downturns like this. On one hand, pretty much all of our products are in a market, in a down market, become more important, much more essential to the success of our clients. For sure, risk management, you know, risk analytics, risk management of whether it's multi-asset class portfolio, fixed income portfolios, equity portfolios. For sure, factor investing, you know, because they need to understand that. We talked a lot about in this crisis the outperformance of ESG, so that's going to become more important. and passive. On one hand, yes, in an environment like this, active stock speaking benefits, but there is a huge amount of money that gets cash equitized in passive investing, so the passive gets a benefit. So that's the underlying trends behind our business become much more important in an environment like this. On the flip side, clearly is the budgets of our clients and how much can they make room in their budgets for those absolutely essential tools that they need to add to what they have. And that's where the art comes in. We try to be more flexible. We try to figure out easier ways for them to do business with us, et cetera. So I have to think of what happens. And in the end, it's a little bit of a, as I said, of a talk between those two variables, and there are times in which the positives outweigh the negatives, and there are times in which the negatives outweigh the positives, but there's never a big downturn in all of this. Now, the last point on respect to passive, obviously, compared to the financial crisis, our dependence on passive investing is more. It's probably double or triple, you know, probably triple what it was at the time of the financial crisis. But we're also very confident that even in markets like this of a crisis, the equity markets will remain resilient. Why? There is financial repression. The alternative of investing in bonds is very low compared to risk assets. So we remain fairly confident on our ability to recapture some of those fees in terms of assets under management fees. in quarters to come, even in the context of a recessionary environment.

Got it. Okay, thank you so much.

Thank you. And our last question today will come from Keith Husam with North Coast Research. Please go ahead.

Good morning, guys. First question is, can you guys remind us, how many sugar solutions can be done remotely with the work-at-home edict that's been going on now? Is it possible to implement all of your solutions when you're not at a customer site?

Yeah, almost entirely is the answer, right? So we have, you know, our products are typically no longer locally installed at our clients bar some extremely very small percentages which are really not worth going into. So, you know, our clients have been able to continue to access you know, all of our content, data, analytics, et cetera, continuously throughout the crisis, right? So I think it's been both, you know, a very strong operational outcome in terms of, you know, our business continuity planning and the fact that we have been able to move everyone out of our own offices and continue producing and launching new software versions and correcting bugs and doing all the day-to-day stuff. And equally, our clients have been able to move to their home locations and continue to do everything that they normally do. So in that regard, we're pretty well set up. for, you know, should this type of environment continue, you know, we feel very confident that we can continue to operate as we normally would do.

Okay. And then just as a follow-up, you know, obviously the environment's changed quite a bit over the past few months. You guys got a great balance sheet. Has your appetite for M&A changed as a result of what's currently happening, and does it become any easier or harder to get it done?

So in an environment like this, you know, we keep – we stay very – close to the companies that are of a strategic interest to us. We remain and become even more financially disciplined in valuation, in values and valuation in an environment like this. As time goes by, opportunities do present themselves in situations like this. we will be definitely analyzing them and if they meet our criteria of significant strategic value to us and appropriate rates of return, and in this case even enhanced rates of return given the risk premium that is happening around the world, we will definitely pursue them. We are a little more keen on following those M&A opportunities than we were six months or a year ago. But it is, you know, it's totally random, right? It's whatever happens, you know, become available that we can turn it into action.

Great. Thank you, Keith. It's Andy Wishman. Just to add a little bit more color, typically what you see in a crisis environment like this is normal processes of healthy companies get put on hold. So sellers don't have to sell. They usually don't want to run a process when there's uncertainty around the outcome, knowing that buyers tend to be very hesitant and bake that into their valuation expectations. So as a result, what we're seeing right now is much more of those sellers that have to sell. So in our space and our environment, Those tend to be early-stage startups that are cash flow negative and really dependent on their next capital raise. We're much more open to transacting. And as Henry said, we're very active looking at these, engaging with these companies. They tend to be relatively niche and have large cost base, which are the drawback. But we are staying very close to them to the extent there is an opportunity for us to take advantage, as Henry said. Great.

Thanks, Andy. It's Linda. I thought Andy might want to just take a minute to update on the Burgess investment that we made. And as a matter of housekeeping, I just wanted to remind everyone on the call that we're using the equity method of accounting for Burgess, so you won't see any revenues from Burgess this quarter because it's recorded on a one-quarter lag. The impact of the investment will show up in other expense and income nets if you're looking for it. and just thought that Andy might want to comment on how Burgess is going.

Sure, sure. Thanks, Linda. So just from an overall business performance standpoint, I would highlight that they are generally pretty stable. Their business is almost entirely subscription revenue. They, like MSCI, are providing mission-critical content services to their clients. And the largest portion of their client base is LPs or asset owners, as we would call them, which are by their nature relatively stable in these environments. And they are acutely focused on trying to understand what their exposures are in all the funds they've invested in, where they might have risk, trying to understand when the funds they've invested in might call capital, and then trying to understand when those funds might distribute cash. And so Burgess is helping those clients with all those mission-critical areas and that are that much more important in an environment like this. So they're in reasonably good shape. Just to underscore what Linda said from a financial reporting standpoint, two points to underscore here. One is that because their closing cycle is a little longer than ours, we are choosing to recognize our share of their earnings on a one-quarter lag. And so in the first quarter, we did not record any earnings from Burgess. And what you will see in the second quarter is our portion of earnings for the period that we had the investment in the first quarter. As Linda highlighted, that will flow through in the other income line. And then the other point to underscore just around Burgess is that we will amortize the portion of the excess value above our share of the company's book value that's attributable to intangible assets. And so there will be some intangible amortization flowing through that other income line. It's very small. But like we do with acquisitions, we will exclude that amortization expense in our net income, excuse me, in our adjusted net income and in our adjusted EPS.

Okay, thank you. As I'm showing no further questions at this time, I would now like to turn the call back over to Mr. Henry Fernandez, Chairman and CEO, for closing remarks.

Once again, thank you, everyone, for joining us today and for your continued interest in MSCI. We sincerely hope that you and your families stay safe during this difficult pandemic and look forward to keeping you updated on our progress. So, operator, this concludes today's call.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.