MSCI Inc (MSCI) — Q2 2020 Earnings Call Transcript

Thank you, operator. Good day, and welcome to the MSCI second quarter 2020 earnings conference call. Earlier this morning, we issued a press release announcing our results for the second quarter 2020. This press release along with an earnings presentation we will reference on this call, as well as a brief second 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 only 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 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 including, but not limited to organic operating revenue growth rates, 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 GAAP 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 in the Appendix pages of the earnings presentation. We will also discuss organic run rate, which estimates at a particular point in time, the annualized value of the recurring revenues under our client agreements for the next 12 months, subject to a variety of adjustments and exclusions that we detail in our SEC filings. As a result of those adjustments and exclusions, the actual amount of recurring revenues we will realize over the following 12 months will differ from run rate. We, therefore, caution you not to place undue reliance on run rate to estimate or forecast recurring revenue. Additionally, we will discuss organic run rate growth figures, which exclude the impact of changes in foreign currency and the impact of any acquisitions or divestitures. On the call today are Henry Fernandez, our Chairman and CEO; Baer Pettit, our President and COO; and Linda Huber, our Chief Financial Officer. Andy Wiechmann, our Chief Strategy Officer will also join us for the Q&A portion of the call. 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 now turn the call over to Henry Fernandez. Henry?

Thank you, Salli. Hello, everyone, and thank you for joining us today. MSCI's second quarter performance once again demonstrates the resilience of our franchise and the mission-critical nature of our content, analytics and technology applications for investors, particularly during these times of market uncertainty. Specifically, today, we reported solid operating revenue growth of 6.2%; strong adjusted EBITDA growth of 11.8%, reflecting our ability to tightly manage expenses; and strong adjusted earnings per share growth of nearly 15%. As you are aware and we have discussed in these calls, we have a number of strategic initiatives underway at MSCI. First, we are expanding our coverage of asset classes to include areas in fixed income and private assets. Second, we are creating new products that can apply to a specific asset class or across multiple asset classes. These new products include content in ESG, climate change, factors, risk models, thematics and futures and options just to name a few. Third, we are broadening our reach to newer client segments like wealth managers, insurance companies and corporates. And fourth, we are transforming our technological capabilities, not only to benefit our clients but also to enable our employees to operate even more effectively in the virtual world we're living in. We have made significant investments in these initiatives and I'm very pleased to report that these investments are yielding strong results. During our call this morning, I would like to highlight three areas. First, in ESG and climate change, we have continued to expand our content, including research on key topics, additional ratings coverage and new indices in both equity and fixed income, and risk models that integrate ESG and climate change variables. These investments in ESG and climate solutions are providing significant returns. In the second quarter, our ESG franchise across the whole company performed very strongly, reaching a run rate of $174 million. ESG research itself reported its highest ever quarterly subscription sales. And in ESG Indices, AUM in equity ESG and climate change ETFs linked to our indices almost doubled year-over-year reaching $55 billion at the end of the quarter. We are encouraged by investors' increasing adoption of our tools to effectively integrate ESG and climate change criteria as a core component of building resilient portfolios. And we believe our ESG solutions have the additional benefit of driving transparency and creating standards for many market participants. As you know all too well, we have long believed sustainable investing is a critical part of the long-term investment process. Our early moves in this area have given us substantial leadership and competitive advantage, which we will continue to capitalize on. A second area I would like to highlight is index, futures and options. We are helping our clients build the various elements of an MSCI ecosystem of financial products with deep liquidity on a wide range of market exposures. This ecosystem includes ETFs, listed futures and options, OTC swaps and options, and structured products all fitting and benefiting from one another. Recently, and as part of this important initiative, we significantly expanded our relationship with Hong Kong Exchanges and Clearing, further aligning MSCI with a global exchange leader in the Asia time zone and enabling deeper and more liquid markets for MSCI-linked futures and options. We believe Hong Kong provides access to and the benefits of a large client base, including Mainland China investors, a significant pool of liquidity, and an ecosystem of both listed and non-listed derivatives. The third area that I would like to highlight is our investment in our technological transformation. Last week, we entered into a partnership with Microsoft that will not only strengthen and scale our infrastructure but also continuously improve our client experience. Our transformation through Microsoft Azure includes an advanced global network of data centers, a fully integrated cloud infrastructure to provide massive scale and product delivery, and sophisticated artificial intelligence and natural language processing capabilities. We intend to take full advantage of all the benefits that this partnership can bring to MSCI. Facilitated by this partnership with Microsoft, we will be able to help investors more swiftly and efficiently manage data and understand better the drivers of risk and return in their portfolios. Despite the ongoing macroeconomic uncertainty, we will continue to selectively invest in the highest-returning areas of our business both to further position MSCI for growth and to drive operating efficiencies. As you can discern from my remarks, we continue to execute well and obtain significant returns in the areas we're making strategic investments in. I would like now to turn the call over to Baer to go over our efforts in more detail. Baer?

Thank you, Henry. I'm quite pleased with our team's high effectiveness in working completely remotely with clients this past quarter. Our results clearly demonstrate our success in adapting to a virtual engagement model. We also continue to roll out new content and capabilities across the firm. In June, we launched Real Estate Climate Value-at-Risk, a forward-looking tool that provides real estate investors and managers with the ability to evaluate and review climate exposures and concentrations across their portfolios. We also launched Index Metrics, a service to provide investors the ability to evaluate, compare and monitor strategies linked to MSCI indexes. We introduced a mobile app on iOS to support investors with real-time access and performance information for MSCI indexes. And in May, we made 36,000 ESG fund ratings publicly available on msci.com and launched the MSCI Index Profile tool to provide better access to ESG metrics for both ESG and non-ESG Indexes. During the quarter, we drove new recurring subscription sales growth of 16% against a strong second quarter last year and amid the current uncertain macroeconomic backdrop. ESG in particular reported its highest quarterly subscription sales on record with growth of 93% over the prior year. Index recorded over 20% higher sales growth, featuring strong growth in non-recurring sales, which benefited from increasing demand from broker-dealer and bank clients for bespoke OTC derivatives and structured products linked to MSCI indexes. Analytics' new subscription sales were also strong, growing 10%. Offsetting some of the strength in sales was an elevated level of cancellations, particularly from certain bank and hedge fund clients. While a modest number of the cancellations could be attributed to COVID, particularly among hedge funds, most are the result of ongoing restructuring within our clients' businesses. Overall, MSCI's retention rate for the second quarter was approximately 200 basis points lower year-over-year, a respectable outcome considering the context. The retention rate in our Real Estate business was notably strong at 96.2%, which helped offset some of the weaker sales. Looking forward, while we do not have any indication at present in the pipeline that elevated cancellations are a trend, this environment is unpredictable and could be subject to change. I'd like to spend a few minutes on our Index segment. In the second quarter, our clients launched approximately 30 new ETFs linked to MSCI indexes. The vast majority of these were ESG and climate products. In July, 17 MSCI index future contracts began trading on HKEX, with an additional 20 expected to launch in the near future. We also extended our agreement with the Singapore Exchange for the listing of both futures and options on the MSCI Singapore Index. Year-over-year, futures and options run rate grew 85%. However, volumes and contracts created for futures and options linked to MSCI indexes declined sequentially as we observed a reversion to normal levels of market volatility compared to the beginning of the year. As you are aware, and can see in our results this quarter, we have remained very disciplined in our expense management in this environment. We have nonetheless continued investing in our business as Henry noted. For 2020, we targeted and have been executing against a $140 million investment program to change the business. These investments span across Index, where we continue to build our infrastructure and functionality to enable clients to get more sophisticated and timely indexes, client coverage, where we made select key hires to our global leadership team; ESG, where we have a range of investments, for example in improving our climate capabilities; and select other high-return opportunities that support our business growth and enable greater operational efficiency. Before I turn the call over to Linda, I thought it might be helpful to provide an update on my client segment commentary from last quarter. Asset managers continue to drive the largest mix of new subscription sales across MSCI through both new and upsell opportunities, and this past quarter had a retention rate of 94.6% despite continued industry pressures facing active managers. We're seeing ongoing traction in client segments we have targeted for growth, including for example wealth managers where we have more than doubled new subscription sales year-over-year and corporates, where we're beginning to put dedicated sales coverage. We have also had success increasing our footprint with asset owners, who are particularly active in implementing climate strategies, across asset classes, providing MSCI with attractive opportunities for our climate solutions. Finally, for hedge funds, we are seeing two different cohorts. The crisis has pressured some funds to exit their strategies and/or restructure, sometimes leading to cancellations with MSCI. Others have performed exceedingly well, and in some instances are inclined to acquire more of MSCI's content, analytics and technology applications. Hedge funds have therefore been both a source of higher cancellations but also of significant recurring subscription sales growth. As we enter the second half of 2020, while we continue to observe tighter transaction and procurement controls from certain clients, we remain confident in the overall long-term trajectory of our franchise. Let me now turn the call over to Linda who will discuss more specifics of our quarterly performance. Linda?

Thank you, Baer, and hello to everyone on the call this morning. The second quarter was another quarter of solid execution for MSCI. Operating revenue grew just over 6%. And recurring subscription run rate grew nearly 10%, reflecting strength in Index recurring subscriptions and ESG as well as more modest growth in asset-based fees, Analytics and Real Estate. Turning now to assets under management, assets under management and equity ETFs linked to MSCI indexes ended the second quarter at $825.4 billion, recovering nearly $116 billion from the end of the first quarter. All of this AUM improvement came from a rebound in market levels across all exposures. During the second quarter we saw net cash outflows of $1.5 billion, driven by ETFs with international exposures that were only partially offset by positive inflows into ETFs linked to MSCI indexes with U.S. exposures. Notably, sequential cash inflows into equity ESG and climate ETFs linked to MSCI indexes totaled $10.4 billion. Additionally, equity ETFs linked to MSCI Factor Indexes saw $2.9 billion of inflows from the first quarter. As of July 22nd, assets under management linked to MSCI Indexes have further improved to more than $880 billion. I'll turn now to asset-based fees, which were up slightly at 0.4%. We recorded substantially higher year-over-year asset-based fees in futures and options linked to MSCI indexes, which grew more than 90% to $8.6 million in the quarter. Asset-based fees from non-exchange-traded funds linked to MSCI indexes were $26.8 million, growing approximately 7%. Year-over-year, the relatively flat AUM levels and lower basis point fee levels resulted in a decline in asset-based fees from equity ETFs linked to MSCI indexes. Sequentially, the basis point fee on equity ETFs linked to MSCI indexes decreased 0.04 basis points, predominantly reflecting a mix shift into funds with lower total expense ratios. We ended the second quarter at 2.67 basis points. Our quarter-end ETF AUM linked to MSCI indexes was higher among U.S. exposures sequentially and year-over-year. Our international market exposures in emerging markets and developed markets outside the U.S. were down year-over-year but both have increased quarter-over-quarter. And I'll turn now to our adjusted earnings per share growth grew year-over-year. Higher subscription revenue was the largest driver of our almost 15% growth in adjusted earnings per share. Excluding the impact of FX and including depreciation and amortization, total expenses increased slightly. This was offset by our tighter expense management in the quarter, including the hiring freeze we noted during our last earnings call, as well as significantly lower travel and entertainment and other non-compensation expenses. The balance of our adjusted earnings per share growth was driven by favorable tax and foreign currency impacts and a lower share count. These were offset by higher interest expense associated with the higher debt balance during the second quarter, as well as lower interest income on cash balances. And turning now to our balance sheet, we ended the second quarter with a cash balance of approximately $1.4 billion. In May, we issued $1 billion of notes due 2031 at a coupon of 3.875% and used $800 million of the proceeds to redeem our 2025 notes that had a coupon of 5.75%. We remain very confident in our capital position, which continues to enable us to invest selectively and strategically in our businesses and to return capital to our shareholders. In the second quarter, we repurchased $31 million of stock and paid approximately $57 million in dividends to our shareholders. Yesterday, the MSCI Board also approved a dividend increase of 15% to $0.78 per share for the third quarter. This is in line with our payout target of 40% to 50% of adjusted EPS. Now moving on to our outlook for the full year 2020, as we announced in our earnings release earlier today, we are reiterating most of our lines of guidance as we continue to invest in our business for growth and operating efficiencies. We do now expect a lower effective tax rate for 2020 in the range of 16% to 19%. For free cash flow, we now expect to be toward the upper end of our guidance range of $540 million to $600 million, primarily reflecting the lower effective tax rate range as well as stronger cash collections. Full year interest expense is still expected to be approximately $158 million. However, the current low-rate environment is also likely to drive quarterly interest income earned on cash balances to be at similar levels as this quarter for the foreseeable future. In closing, I want to reiterate Henry and Baer's confidence in our business model, people, operations and opportunities. We have a solid balance sheet and ample liquidity. While the range of economic and macroeconomic outlooks remains broad, we will continue to take proactive management decisions in the best interest of our employees, shareholders, clients and other stakeholders. And with that, operator, please open the line for questions.

Thank you. The retention rate stepped down a little bit this quarter but the new sales were very strong, especially in ESG and Analytics. And I think that's the opposite of what I would have expected just in the current environment. So you mentioned restructuring within client businesses, just wondering if you're seeing that continue into the third quarter, and just any sort of extra color on the drivers of retention and new sales that you were seeing this quarter and if those are continuing. Thanks.

Hi, Toni, it's Baer. The sales figures indicate the positive measures we implemented during the quarter and our robust client outreach efforts. It's evident that some items in our pipeline took longer to develop, so not all business originated in this quarter or the very end of the last one. However, we experienced strong sales activity and are pleased with that trend. Regarding cancellations, as previously mentioned, some were related to the current environment, particularly among small and medium hedge funds and other sectors. The restructuring of client businesses we referenced tends to involve longer-term changes. There were instances of sell-side and asset management clients withdrawing from certain business lines, which were not solely due to COVID or short-term market issues, unlike the hedge funds. Some cases involved sell-side firms significantly reducing their equity activities, which have occurred over time. Additionally, while competitive factors contributed, they represented a smaller portion of the cancellations. Looking ahead, we see two somewhat contradictory trends. First, our assessment of the pipeline does not suggest that cancellations will worsen, and we do not have strong evidence to support that notion. However, given the ongoing challenges in the pandemic, particularly in the U.S., and the declining macroeconomic indicators, as well as the potential end of economic support programs later this year, we maintain the expectation that cancellations may continue to pose challenges, although the specific sources remain uncertain at this time. We are simply being cautious in light of the current situation. This summarizes our perspective.

That's very helpful. And hopefully on a brighter note, could you give some additional color on the strategic alliance with Microsoft? Is there a way to quantify…

Sure. I'm happy to share that we are pleased with the sales outcomes, especially considering the significant changes we've experienced this quarter. Our collaboration with Microsoft is particularly exciting. I've invested a considerable amount of my personal time in this initiative alongside our CTO, Jigar Thakkar. We are focusing on the cloud migration, which offers substantial opportunities for efficiency and speed to market, particularly in our DevOps processes. Thanks to this partnership, we are already seeing quicker software releases compared to six months ago. Additionally, we believe they can assist us in improving our corporate technology operations, yielding further efficiencies. We also see potential in the ESG space due to Microsoft's extensive global presence and the increasing corporate emphasis on ESG initiatives. Lastly, we are utilizing advanced technologies, including AI and natural language processing, in various data operations, including ESG. This collaboration presents a comprehensive opportunity, and we have been having productive discussions for quite some time. We are thrilled about the outcome and see this as a significant partnership for MSCI.

Thank you. Good morning. Maybe I can just follow up on that question. And if you guys could just maybe refresh and let us know, you called out the ongoing technology transformation. So maybe you could just give us a kind of snapshot of where MSCI is today and what that technology transformation actually means or where you're heading towards?

Sure. Continuing from my earlier points, a major focus for us is fostering both innovation and efficiency across MSCI. Due to our past acquisitions, we have a variety of applications available to clients, and we are progressing towards greater consistency in the foundation of these, particularly in our data environment where we've made significant strides in recent years. We believe there is still more progress to be made moving forward. Regarding client applications, the experience with MSCI technology is set to become much more cohesive, standardized, and user-friendly in the coming year or two. Data is one key area, the client experience is another, and internally, we anticipate significant efficiencies in our processes that connect client coverage with finance. Just as we noted several years ago about the One MSCI initiative being client-focused, we've demonstrated that through unified segments like ESG and factors. We see this as a new phase of that initiative, with technology playing a crucial role in enabling our progress.

Got it. Thank you for that. And maybe just a quick question around your expanding client segments that you called out. I mean, what is typically the entry sale to get into an insurance company or the corporates, for example? Is it different from the traditional? I just wanted to get some flavor there.

Yes. In terms of our Plan segments, we have traditionally been strong in pension funds, all types of asset managers, and banks and broker-dealers. We aim to expand further with banks and broker-dealers, particularly with the recent developments in listed futures and options. This will help them license our indices to create various structured products, OTC swaps, and OTC options. Regarding insurance companies, we have faced challenges penetrating their principal accounts, not just their asset managers, due to our earlier limited presence in fixed income. Given that insurance companies hold a large portion of their assets in fixed income products, our recent launches of fixed income risk models and indices with ESG and factor overlays present a significant opportunity to engage with life insurance companies, as well as to enhance our Real Estate product line. For corporates, the current focus is on ESG. We are actively gathering substantial data on their ESG disclosures, particularly regarding climate change, and providing them feedback for review and analysis. We are developing ongoing relationships with these corporates and are looking to sell them ESG data sets to help them understand their ratings and benchmark themselves against peers in their industry regarding ESG and climate change. We also aim to explore a partnership with Microsoft to create a data platform that could benefit both corporates and investors.

Yes, hey everyone. Quick ones from me, I think. On the expenses, Linda, you didn't change your guidance but it's still fairly wide. ABF is doing much better than it did a quarter ago. So, I assume to push up expenses a little bit too in terms of performance comp, etc., or where do you see the remainder of the year shaking out given how business is doing right now?

Sure Alex. As you noted, we've done a pretty good job of expense management. We have been able to do a number of things including maintaining the investments that we're planning to make in the company at about $140 million. And everything that we've talked about on the call today is already baked into the expense forecast. So, nothing is incremental. Part of this will hinge on how the rest of the year looks and that's why we're leaving a range that might be a little bit toward the wider side and performance has been pretty solid given everything that we're facing. So, we continue to be very selective about hiring. We continue to be very focused on our expense base. T&E, of course, is reduced sort of around $2 million a quarter given that we're largely staying in place right now. So, I think we'll keep that range and we'll see how the back half of the year comes together. But we feel pretty good about everything that we've done and the way the business is running right now.

Okay. So, it's too early to not just any sort of lower end higher end or something like that at this point, right?

Yes, I think so.

The sales pattern has been quite steady. We continue to focus heavily on the ratings data area, which is the main driver of our sales. We are noticing a significant increase in discussions related to climate over the past six months across all client types. While these discussions take time to translate into material outcomes, the overarching theme remains our intent to deepen and broaden client relationships. I want to highlight that we had a substantial sell-side deal during the quarter, and our discussions have broadened with the sell side, as well as with traditional asset managers and asset owners. It’s worth noting that these developments are closely tied to various financial products like structured products and ETFs, which have seen continued issuance. The creators of these products require more data and infrastructure, sometimes even for their own ratings. This pattern is broad and spans various sectors. Most of our focus remains in the Americas and Europe, but we are also increasing our efforts in Asia, and we anticipate seeing more activity from that region in the latter half of the year.

Thank you. Good morning everyone. Price has historically been an important part of revenue growth for the subscriptions in Index and I wanted to ask how you're finding success in continuing that trend in this environment?

I think it's the same. No difference in the pattern at this point. The source of additional revenues or additional sales that's coming from price versus volume continues to be the same mix, so nothing really new to report there.

We have faced some staffing challenges in our Real Estate client coverage, but we have nearly resolved this issue. While there may still be one open position in Real Estate sales, most of our new hires are on board and transitioning into productive roles. We expect that this change will lead to improved sales. The retention rate reflects the significant efforts made by the Real Estate team over the past year in reaching out to clients, and we've had a solid quarter regarding our research and thought leadership outreach. The Real Estate team did an excellent job engaging clients through various panels. Overall, client satisfaction in Real Estate is evident in the retention rate. While the Real Estate asset class may face some challenges in the current environment, it is essential to distinguish between long-term retention efforts and short-term staffing issues in sales. Additionally, a slight decrease in revenue can be attributed to the timing of deliveries and foreign exchange factors, but this is a minor, temporary concern.

Thank you. I wanted to ask on fixed income. In the past you guys have described your run rate of revenues in fixed income being less than 5%. Just want to hear if I could, what you guys view as the opportunity there, both the analytics area as well as your industry business long-term. I mean, for example, in five years, is there sort of a number in your mind of what percent of revenues is aspirationally fixed income could be revenues? Could it be 7%, 10%? How are you sort of thinking about that?

We are very excited about our significant entry into fixed income portfolio management, analytics, and indices. I mention portfolio management specifically because we have traditionally been strong in fixed income risk and performance attribution for the middle office and central risk management of our clients. We see many opportunities starting with fixed income indices, but not in the traditional manner of issuance-weighted or market cap-weighted indices; instead, we are focusing on overlaying ESG on those indices and incorporating factors or a combination of both ESG and factors. Over the past six to nine months, we launched a wide variety of indices, and there is a promising pipeline of licenses for these in ETFs, other passive products, and structured products. While it will take time to develop this into a significant revenue stream, we are eager about it. We are also enthusiastic about the fixed income analytics, particularly the new generation of factor models we have introduced, which feed into the factor indices in fixed income. This is an area where we are dedicating considerable effort. Additionally, liquidity metrics have been a key driver of sales in analytics, which has always included a fixed income component. Finally, fixed income analytics encompasses not just content, such as models and factor models, but also workflow tools. We believe that, given MSCI's footprint and client base, not becoming one of the largest providers of fixed income analytics tools and indices globally would be a missed opportunity. Therefore, we see significant potential for growth in this area.

I also want to ask you on the futures and options side, as you think forward here about investing in that business. Can you just touch upon the opportunity there, in particular, as you sort of expanded your various relationships, I guess around the world with various exchanges out there? But, can you just touch on the opportunity on futures and options long-term? Thank you.

It represents a very significant and immediate opportunity. By immediate, I mean that we've seen the increase in the run rate driven not only by the volatility we've observed but also, more importantly, by the normal volumes and the re-pricing of many of our licenses. We began this process about a year ago, and announced our first agreement in North America last year. The second agreement followed in Europe, and now we have our third agreement in Asia. This means we have established agreements in the three major regions of the world. We also have smaller agreements with emerging markets, but the main ones are secured. This is promising because the market for multi-country, multi-currency equity index futures and options is expanding significantly, alongside the structured products market. Additionally, the growth we achieve here is highly profitable, as we have already developed this intellectual property. The costs associated with these licenses primarily involve our teams – specifically, the over-the-counter and structured products teams, as well as our broker-dealer client coverage to license our indices and the futures and options team. There are negligible costs involved, resulting in high profitability. Therefore, we anticipate this will generate hundreds of millions of dollars in revenue over the next five to ten years.

Hi everyone, good morning. Expenses grew less than 2% year-over-year in the quarter. Linda, you mentioned a $2 million quarterly decrease in travel and entertainment impact, which would help lower expense growth by about 1% per year. I understand that you have slowed hiring, but it seems that employee numbers in developed markets are still up about 4% year-over-year. Could you discuss where you have reduced expenses and where you are identifying efficiencies?

Sure. The most important part of this is, we've been as we said very, very selective with hiring. And you can probably see that the balance of our employees are still very much located in emerging markets versus developed markets. So we're managing everything very closely. And in addition to the headcount which still generally has to run through Baer and Henry to be approved for hiring, we are thinking about discretionary expenditures on consulting fees, projects, things like that. So with all of that, we've been able to manage our expenses pretty flat to the same quarter last year which has been a pretty great achievement. At the same time we're focusing very hard on our cash flow. You'll note that we've been able to move our cash flow guidance up toward the high end of the range which is a really good thing. That's dependent on the tax rate being lower as we talked about in guidance. And then, also the fact that we're doing particularly well with our collections, we're being very careful about our working capital and our collections. So that's been very, very helpful. So hopefully that gives you enough color, but we're quite proud of what we've been able to do on expense management particularly this quarter.

Thank you for that insight. Moving on to a different subject, I want to revisit direct indexing since it's becoming more relevant these days. Henry, I know you've addressed this before, but I’d like to gain a deeper understanding of the implications for MSCI. On one hand, the potential downside could be a decrease in your fee rates compared to the average ETF fee rates. However, if more assets are indexed to your indexes, that would certainly be beneficial. Is this simply another instance of potentially exchanging price for volume?

It's Chris, and now we have Chris here. I apologize to Bill; I initially thought it was Chris who asked the question earlier, but it was Bill. I think the answer remains the same, whether it's direct indexing, self-indexing, or using third-party indexing like COS. Ultimately, MSCI's main philosophy is that we are not in the business of creating indices. Our focus is on helping our clients build better portfolios, which involves our proprietary indices. If clients wish to create their own indices to develop their portfolios, we are prepared to provide our entire infrastructure to help them achieve that goal. There are numerous clients who would be willing to rent this infrastructure. In fact, we could potentially earn more from renting the infrastructure than simply licensing the final product generated from it. Therefore, we do not view this as a threat; rather, we see it as a significant opportunity. We already have several clients pursuing this path, and we have been encouraging other clients to follow suit, although it is progressing slowly. Baer, do you have additional comments on this topic? Baer, I think you're muted.

Yes. I would add that the direct indexing opportunity does involve benchmarks and doesn't operate without them. Additionally, those engaged in this area typically require a variety of other MSCI tools. We are exploring some very interesting opportunities. As Henry mentioned, we are assisting clients in enhancing their portfolios. The individuals involved tend to be highly quantitative, utilizing various models and portfolio software. Therefore, we don't see this as a threat to Index; rather, we view it as a significant opportunity for other firms.

Hi, everybody, good morning. I wanted to ask a little bit more about the planned $140 million in investments. I'm not sure if you talked about it before, but just wondering if you can give an update on the kind of key areas that you're focused on and any progress so far in those areas?

Let me begin by discussing the overall landscape, and then Baer can provide insights into specific investment areas. Historically, we haven't disclosed the numbers in detail. To put it into perspective, we are allocating over $140 million from an expense base of $700 million to $750 million, which represents a significant portion of our expenses. This $140 million can be broken down, with approximately 80% being operating expenses, which are compared to the $700 million to $750 million, and 20% being capital expenditures. All of this has been included in the guidance we issued earlier in the year, so there are no changes to that. We see tremendous opportunities for high-return investments across our company and with our clients. We are seeing advantages in various areas, including indices, risk models, ESG initiatives, climate change, and private asset classes like fixed income in different forms. When we evaluate these investments based on priority, many are expected to produce triple-digit returns within one to three years, indicating significant outcomes rather than long paybacks with modest returns. This is largely because many of these investments build on our existing infrastructure, meaning that for every additional dollar of revenue generated, we will need to spend less on incremental costs. This creates a virtuous cycle of success for these investments. Baer, would you like to share some qualitative breakdown on this?

Yes. I believe Henry covered a lot of ground, but I would like to add a few more insights. First, I want to emphasize our strict discipline in evaluating the expected returns on all our investments. At the start of this period, when we paused some of our initiatives due to the crisis, we took the opportunity to revisit and reassess all the projects we had yet to commence. We feel confident in our approach and are focused on objectively analyzing the return potential. Functionally, our main areas of focus include client coverage, product developments—particularly new features—and technology. I've previously mentioned some technology advancements, especially regarding our partnership with Microsoft. These elements closely align with our analytics efforts, where we believe we can enhance sales through improved efficiency, quicker market access, and additional content, such as the fixed income topics we discussed. We're also investing significantly in our Index infrastructure, developing what we refer to as Index 2.0, which aims to enhance the client experience with Index products, including direct indexing to assist clients in building better portfolios. ESG is another crucial area, and we will continue to invest in related technology and content. These represent our key investment areas, and while we cannot predict the future, we are confident in the processes we've implemented to allocate capital toward what we hope will be strong returning investments.

Great. Good morning everyone. Thanks for the question. In terms of the Microsoft arrangement, can you conceptualize perhaps how are you thinking about it in terms of is this a net cost, or is it going to be a net savings, I guess, over the next several years? And if it's a net savings are you reinvesting back in the business, or does that flow to the bottom line?

Yes. There are three main aspects of the Microsoft partnership. First, we are moving all our production and delivery to the cloud, starting with Index and Analytics and later expanding to other product lines. This transition is expected to be cost-neutral or even result in cost savings. However, it's important to note that over the next two to three years, we will shift from capital expenditures and amortization to operational expenses, as we will be paying Microsoft operational costs instead of investing in our server data centers and related technology. The second aspect is Microsoft's capability to assist us in developing new products, like client-facing technology, to increase volume and improve our processes. Additionally, we will leverage advanced technologies such as AI, natural language processing, and machine learning for data capture related to ESG and production quality in our Index factor. Finally, we aim to collaborate on an ESG platform.

Henry, just a second, we wanted to do a few housekeeping matters before we ended the call. A number of you had asked some questions about the below-the-line items. So just before we close, we wanted to note that interest expense was slightly higher in our second quarter by $2.2 million for the duplicate costs of our old 2025 notes and our new 2031 notes for 30 days, while we waited out the redemption period. And we have maintained interest expense guidance for the rest of the year. On interest income, we just like everybody to take a look at the fact that in a low-interest rate environment, we're earning less on our cash balances than we had before. That's right now per quarter, we're earning about $1 million per year maybe a bit less. And in the previous quarters, that's been a bit higher. So everyone should take a look at interest expense and interest income. The other questions we got were on the tax rate. And our 17.3% tax rate for the quarter was largely due to that loss on the debt extinguishment, which you can see in Note 10 of our financials. Secondly, we had a higher income tax benefit related to some equity awards which vested. And third, we had a favorable mix of earnings. So everybody can take a look at that. Also, I wanted to call everyone's attention to our increased dividend of $0.68; it has now been increased. And we'd just like to make sure that everyone models that correctly going forward to the $0.78 which was set yesterday. So with that, I think we'll turn it back over to Henry.

Thank you for joining us today and for your continued interest in MSCI. We appreciate the great questions you raised, and we hope to have addressed them as best as possible. Please feel free to reach out if you have any further questions or suggestions for improvement. I wish everyone safety and a wonderful rest of the summer. We look forward to providing updates during our third quarter earnings call in October. This concludes our call today.