Verisk Analytics, Inc. (VRSK) Q2 2021 Earnings Call Transcript

Good day, and welcome to the Verisk Second Quarter 2021 Earnings Results Conference Call. This call is being recorded. Operator instructions. For opening remarks and introductions, I would like to turn the call over to Verisk's Head of Investor Relations, Ms. Stacey Brodbar. Ms. Brodbar, please go ahead.

Thank you, Jay, and good day, everyone. We appreciate you joining us today for a discussion of our second quarter 2021 financial results. Today's call will be led by Scott Stephenson, Verisk's Chairman, President and Chief Executive Officer, who will provide an overview of our business. Lee Shavel, Chief Financial Officer and Group President, will follow with the financial review. Mark Anquillare, Chief Operating Officer and Group President, will join the team for the Q&A session. The earnings release referenced on this call as well as the associated 10-Q can be found in the Investors section of our website, verisk.com. The earnings release has also been attached to an 8-K that we have furnished to the SEC. A replay of this call will be available for 30 days on our website and by dial-in. Finally, as set forth in more detail in today's earnings release, I will remind everyone that today's call may include forward-looking statements about future performance, including, but not limited to, the potential impacts of the COVID-19 pandemic. Actual performance could differ materially from what is suggested by our comments today. Information about the factors that could affect future performance is contained in our recent SEC filings. Now I will turn the call over to Scott.

Thanks, Stacey, and good day, everyone. Thanks for joining us for our second quarter 2021 earnings conference call. I'm pleased to share that Verisk delivered a strong second quarter result. The strength of our business model has been on full display since the start of the pandemic and continues in the recovery. We delivered solid top line and profit growth in every quarter last year despite the weak economic environment and operating challenges from lockdowns because of the consistent and durable growth in our subscription-based businesses. As expected, we are now fully participating in the recovery as our transactional businesses are showing strong resilience and rebounding with the rollout of vaccines and global economies opening up. To be more specific in the second quarter, Verisk delivered organic constant currency revenue growth of 6.3%, comprised of growth of 5.5% in our mostly subscription-based non-COVID-sensitive revenues, and growth of 12.1% in our mostly transactional COVID-sensitive revenues. In fact, certain of our transactional businesses have already returned to pre-COVID levels. We have confidence this general trend can continue and believe that as the COVID impacts fully abate, we can return to delivering financial results in line with our long-term model. Lee will provide more details in his financial review. These results were delivered through the hard work, dedication and consistent focus on our customers by our 9,000 employees around the globe. In many parts of the world, we've already begun welcoming our employees back to our offices, with a plan guided by our mission of protecting the health and well-being of our team members and in line with directives from local governments and public health officials. While our Global Protection Services team is keeping a close eye on developments with the delta variant, our teams are energized to work together in person again. In fact, currently, more than half of our global offices are operating in a Phase 2 or 3 format. Across the U.S., we have plans to return to full use of our offices in September, unless circumstances change considerably. We have implemented a return to office policy of three days in the office, four with customers and two days for hub. This approach, which incorporates the best learnings from the pandemic, balances individual flexibility with the collaboration and creativity that stems from working together in person. We also believe that this flexible working policy will help to retain and attract the very best talent as we continue to grow in what is a very competitive hiring environment. Not only are we returning to office, we are also beginning to have certain in-person meetings with our customers, including on-site training and sales opportunities. Given how effectively we've worked in a fully remote format, we have confidence that this return to office policy is the optimal design. Our computing and network capacity have consistently and comfortably exceeded what we require, and our teams have adjusted to using all the virtual collaboration tools we have implemented enterprise-wide. On the topic of technology, we continue to make great strides on our efforts to modernize and optimize our technology platforms to always be best in class. As of today, we have effectively and seamlessly moved most of our applications off the mainframe. This has been a huge undertaking and is a great example of true collaboration and partnership between our IT teams and business units around the globe. In total, we currently have thousands of solutions running native in the cloud, including those that were moved from prior on-premise environments and those built native to the cloud. We are advancing our cloud-first strategy and currently have more than half of our compute environment running in the cloud. The migration to the cloud is a multifaceted multistage project, and we are pacing this transition in lockstep with our customers to ensure that we are always delivering on their highest expectations. In addition, as we advance on this journey, the process is ever improving, and we are seeing real benefits in terms of pace of innovation, resiliency, security and compliance. Our ability to introduce new products and release updates to existing products in a quick and efficient manner is vastly improved because of our shift to the cloud. We are also able to onboard new customers and enter new geographies faster and with reduced capital intensity. For example, we've successfully deployed our new cloud-based visualized ISO ClaimSearch platform to our P&C insurance customers. This modernized version of our industry-leading ClaimSearch platform provides a more engaging user experience for thousands of claim adjusters and investigators, and allows us to offer new features, functionality and solutions quickly and easily to customers through this platform. In addition, our new insurance digital media contributory database will take advantage of the flexibility and efficiencies of cloud technology to process, store and analyze claim-related digital images from more than 160 insurers. Initially, we expect to receive over 8 million digital media files per week as this new offering ramps up to help insurers better detect potential fraud and increase settlement efficiency for meritorious claims. The cloud is also advancing our sales process as we can offer customers an easy and cost-beneficial way to pilot or trial new solutions that was previously much more cumbersome in Verisk's prior on-premise format. This allows customers to truly see in action the value of our solutions. Our sales team can then focus on converting those customers to long-term subscriptions. The cloud has also made our solutions more resilient with less downtime as the duration of maintenance windows are greatly reduced. We no longer must take our cloud-native solutions offline to do things like update or release new features or protect them with the latest security patches and protocols. We have also constructed a cloud security program that uses artificial intelligence and machine learning to continuously monitor our entire environment, making us more secure and able to audit our entire process for full accountability. And finally, the cloud makes it easier to keep applications and data that are running in local geographies to adhere to the increasing nuances of regulatory and compliance requirements that are geographically specific. As our business expands globally, this becomes an increasing benefit of cloud. From a capital perspective, our cloud migration has reduced our ongoing need to spend on third-party hardware and software. We are reallocating those savings toward internal innovation and spending more on growth CapEx. We are leaning into our highest growth, highest return on invested capital organic opportunities across insurance and energy. Within Insurance, we have seen great success with the development of the LightSpeed platform. This organically developed data-forward platform has automated and improved the underwriting process for our customers, and is driving strong top line growth within our ISO business as we have extended it across personal and commercial lines. Specific to Commercial Lines, we've seen continued success in small commercial for business owners and commercial auto. With LightSpeed, we have augmented our AI and machine learning capabilities, introducing image analytics that will help present a holistic view of risk at the point of quote and ensure that small business owners get the coverage they need. We've also expanded our entity resolution and benchmarking data and analytics to help our diverse client base scale and increase their speed to market. We are also accelerating our customers' journey towards zero application questions, helping drive speed and efficiency. With over 80 traditional and InsurTech customers leveraging LightSpeed commercial, we are enabling the industry to free up underwriting talent to focus on more complex risks and helping our customers become the carrier or managing general agent of choice in this fast-moving and profitable space. Within energy, our internally developed cloud-based Lens platform is transforming the way customers interact with the Wood Mackenzie data as we are integrating our complex data sets seamlessly into their workflows. We have greatly reduced our research cycle times from days to hours, allowing us to commercialize solutions more quickly and update data in existing solutions more frequently. This empowers our customers with the data necessary to make timely and well-informed decisions about commodity markets around the globe. We are seeing strong value-based price realization and revenue growth, resulting in solid returns on capital for this platform. The capital management discipline is also evidenced in our acquisition strategy. While interest and valuations for data analytic assets are high, we've been very selective and focused our attention only on assets where we can create incremental value by combining data sets for new solutions, leveraging our infrastructure or improving sales and distribution through our strong customer relationships and industry scale. Our recent acquisition of FAST is a great example of how we are leveraging our relationships across the industry to accelerate the adoption of FAST software, driving strong returns on invested capital. On the engagement front, even in a mostly virtual mode, we continue to get ever closer to our customers. This engagement starts with the C-suite and runs through all levels of the organization. This is evidenced by increasing frequency of meetings, better attendance at our virtual events and increasing interest from customers to work with us as development partners. In fact, we recently announced two key development partners for our Lens Power solution, namely Vestas and Quinbrook. It has also translated into building sales pipelines and more sales opportunities. And we're having great success converting these sales opportunities into new contracts as we benefit from our ability to bundle our broad offerings to meet our customers' unique needs. This is particularly evident with our fastest-growing customer segment in InsurTech. On the innovation front, we recently launched the Cyber Risk Navigator, our cyber risk modeling application. This release represented a year-long effort to redevelop the platform from an on-premise solution to a cloud-native SaaS solution. Given the scalability of the cloud, clients are now able to run analyses in minutes that used to take hours. It also provides us the ability to bring new features and model updates to the market quickly, rather than being tied to annual software releases, which is essential for a rapidly changing risk such as cyber. We also made great strides in advancing our offerings in the telematics space with the introduction of the DrivingDNA Score. This enhanced solution is powered by the unique data from Verisk Data Exchange, that includes 260 billion miles and growing of robust driving behavior data from 8 million connected car drivers. The DrivingDNA Score enables our customers to enter and expand to the rapidly growing usage-based insurance market and is another key addition to our whole suite of telematics solutions. Finally, I'm excited to share about the progress Verisk has made on our environmental stewardship commitments. We recently completed our 2020 greenhouse gas emissions inventory. And I'm pleased to report that, for the fourth straight year, we balanced 100% of Verisk's reported Scope 1, 2 and 3, including business air travel emissions, through a combination of purposeful reduction initiatives and investments in renewable energy certificates and carbon offsets. We remain focused on implementing meaningful physical and operational changes that will reduce our greenhouse gas emissions over the long term. Those include the consolidation of multiple Verisk offices in Boston and London into new energy-efficient business centers as well as the continuing strategic realignment of our data management activities to take advantage of the major efficiencies presented by cloud computing. Building on the progress we've already achieved to date, I'm also pleased to share that Verisk has committed to an absolute 21% reduction in our Scope 1 and 2 greenhouse gas emissions by 2024 compared with the 2019 baseline. In developing the targets, Verisk collaborated with Ecometrica, an accomplished leader in the field of sustainability metrics, software and services. The resulting targets incorporate the latest science-based targets guidance, aligned with the 1.5-degree Celsius global future. I look forward to updating you on our progress as we remain committed to addressing the very real impacts of climate change today and for the benefit of future generations. I have great confidence that our focus on innovation and serving our customers will help us deliver on our long-term growth objectives, creating lasting shareholder value. As our business recovers from the short-term impacts of the pandemic, we continue to actively study the signs of resilience across the different parts of our company. Our dynamic capital process is designed to ensure that our capital is deployed into the highest-growth and highest-return opportunities. With that, let me turn the call over to Lee to cover our financial results.

Thank you, Scott. First, I would like to bring to everyone's attention that we have posted a quarterly earnings presentation that is available on our website. Moving to the financial results for the quarter. On a consolidated and GAAP basis, revenue grew 10.1% to $748 million. Net income attributable to Verisk decreased 14% to $154 million, while diluted GAAP earnings per share attributable to Verisk declined 13% to $0.94 per share. These declines are the result of a noncash revaluation charge related to the U.K. tax law change. Adjusting for the impact of the $0.21 per share noncash revaluation charge, diluted adjusted EPS increased 7% to $1.38. Moving to our organic constant currency results. Adjusted for nonoperating items, as defined in the non-GAAP financial measures section of our press release, we were very pleased with our operating results, led by consistent growth in our subscription revenues and recovery in our transactional revenues as our business rebounds from the COVID-related declines from last year. In the second quarter, organic constant currency revenue grew 6.3%, led by continued strength in our Insurance segment and sequential improvement in our Energy and Financial Services segment. Our non-COVID-sensitive revenues, as we defined at the beginning of the pandemic, increased 5.5% in the second quarter of 2021 as compared to the growth of 6.5% in the prior year quarter. This stable growth in our non-COVID-sensitive revenues, representing approximately 85% of our total revenues, reflects the durability and resilience of our primarily subscription model. Our COVID-sensitive revenues, which represent 15% of our consolidated revenues, continued on a sequential improvement trend and returned to growth this quarter, increasing 12.1%. This compares to declines of 20% in the second quarter last year and the prior quarter performance of declines of 5.9%. Growth was primarily the result of improvements in consulting in our Energy segment and a return to pre-pandemic growth rates in many of our products and services within Insurance, particularly within the U.S. We did experience continued COVID-related weakness in our Financial Services segment as government forbearance programs are negatively impacting bankruptcy volumes. Organic constant currency adjusted EBITDA growth was 4.2% in the second quarter, led by solid growth in Insurance and Energy, offset in part by weakness in Financial Services. Total adjusted EBITDA margin for the quarter, which includes both organic and inorganic revenue and adjusted EBITDA, was 49.6% in the quarter, down 172 basis points on a year-over-year basis, but still above our pre-pandemic margin level of 46.6% recorded in the second quarter of 2019. Much of the decline is associated with the normalization of our costs as we anniversary the COVID benefits from last year, including reduced head count growth and lower incentive compensation. This margin also reflects an increase in the pace of investment in our technological transformation, including our cloud transition costs and the impact of acquisitions. On that note, let's turn to our segment results on an organic constant currency basis. In the second quarter, Insurance segment revenues increased 7.8%, demonstrating strong resilience and recovery. We saw healthy growth in our industry standard insurance programs, catastrophe modeling solutions, repair cost estimating solutions and international insurance software solutions. We also experienced strong growth in transactional revenues, associated with an increased level of securitization revenues in our catastrophe modeling business, a modest benefit from storm-related revenue and double-digit recovery growth in our COVID-impacted revenues as we compare against declines last year. Adjusted EBITDA grew 6.6% in the second quarter while margins declined 148 basis points, reflecting a return to a normalized rate of head count growth compared to the prior year and higher year-over-year short-term incentive compensation expense. We also continue to invest in our breakout areas as well as our technology modernization, including our cloud transition. Energy and Specialized Markets revenue increased 5% in the second quarter due to a recovery in our consulting and project-based revenues across Energy and Power, strong growth in environmental health and safety solutions and our energy transition research. Included in the quarter was revenue associated with the strategic consulting project that added approximately 1 point to segment growth. We continue to benefit from strong adoption of our Lens platform as customers are seeing the value of our integrated cloud-based data analytic environment. We remain a key part of our customers' most strategic conversations as they deal with the ever-changing energy landscape and our broad base of solutions across all commodities are mission-critical to our customers as they navigate through this dynamic environment. Adjusted EBITDA grew 8.4% in the second quarter, while margins expanded 74 basis points, reflecting continued cost discipline and leverage from sales growth. As we look to the remainder of 2021, we want to remind you that we have a very tough margin comparison in the third quarter, associated with some head count reductions, furloughs and compensation adjustments that we made in reaction to the tough operating environment in 2020. However, some of these costs were reversed in the fourth quarter of 2020. All that said, we have a solid track record of managing through volatile times effectively and believe we are well-positioned with our energy transition solutions as well as our Lens platform to continue to outperform the end market and help our customers navigate this broad energy transition. Financial Services revenue declined 8.1% in the quarter, reflecting the continued impact of contract transitions that we undertook in 2020 and will continue through the third quarter of 2021 as well as a lower level of bankruptcy revenue because of government support and forbearance programs. Spend-informed analytics demonstrated stronger growth than expected as spending and advertising improved, which enabled us to reduce some of the negative impact on revenue growth from the contract transitions that we originally anticipated. Adjusted EBITDA declined 77% in the quarter, reflecting the negative impact of lower sales and a larger impact of corporate expense allocations on the segment's smaller base. We continue to believe that the actions we have taken with E&S over the last few years are setting the business on a stronger foundation from which to grow going forward. Our reported effective tax rate was 35.6% compared to 20.4% in the prior year quarter. This higher tax rate is the result of an earlier-than-anticipated enactment of a U.K. tax law change that caused a noncash revaluation charge. This is simply a timing difference from our original expectations as the impact occurred in the second quarter instead of the third quarter as we had originally forecast. There is no change to full year results. Given the earlier timing of the tax law change and the fact that this charge was one-time in nature, we now expect our tax rate to approximate 20% to 22% for the second half of 2021. Adjusted net income was $191 million, and diluted adjusted EPS was $1.17 for the second quarter 2021. Adjusting for the impact of a $0.21 per share noncash revaluation charge related to the U.K. tax law change described earlier, diluted adjusted EPS increased 7% to $1.38. These increases reflect organic growth in the business, contributions from acquisitions and a lower average share count. Net cash provided by operating activities was $233 million for the quarter, down 6.5% from the prior year period. The prior year period cash flow benefited from a deferral in both federal income tax payments and certain employer payroll taxes as a result of the CARES Act, partly offset by earn-out payments. Year-to-date, net cash provided by operating activities was $682 million, reflecting growth of 11.4% versus the prior year period. Capital expenditures were $62.5 million for the quarter, up 10.2%. We continue to believe that CapEx will be in the range of $250 million to $280 million, reflecting our continued investment in our innovation agenda, our technological transformation as well as the carryover of certain expenditures that were delayed in 2020 as a result of the pandemic. Related to CapEx, we expect fixed asset depreciation and amortization will be within the range of $200 million to $215 million and intangible amortization to be approximately $180 million, reflecting the impact of recent acquisitions and changes in foreign currency rates. Both depreciation and amortization elements are subject to FX variability, the timing of purchases and the completion of projects and future M&A activity. During the second quarter, we returned $197 million in capital to shareholders through share repurchases and dividends as our strong cash flow allows us to invest behind our highest-return growth initiatives, but also return capital to shareholders consistently. Our strategy to deliver long-term and sustainable growth remains unchanged. We are encouraged by the recovery we are experiencing in our COVID-impacted businesses, and we believe the stability and predictability of our subscription revenues will persist. We also have confidence in our ability to manage the cost structure effectively to protect profitability. While we do have tough cost comparisons this year, we believe that we should retain some of the margin expansion we experienced in 2020, delivering margins ahead of our 2019 level of 47%. Taking this all together, we believe that as the COVID impacts abate and the global economies continue to open up, we can return to our long-term growth model of 7% organic constant currency revenue growth, with core operating leverage allowing EBITDA to grow faster than revenue, although it is difficult to determine the timing. We hope this provides some useful context for you, and we look forward to addressing your questions. We continue to appreciate all of the support and interest in Verisk. Operator instructions. With that, I'll ask the operator to open the line for questions.

Operator instructions. Our first question comes from the line of Greg Peters of Raymond James.

I'm going to let the other analysts focus on the financials. I'd like to pivot to the Insurance business. Beyond, specifically for the property casualty industry, we're seeing two variables, first of all, the come out of the lockdown and then secondly, favorable pricing. Your organic was quite strong in insurance. The insurance industry is forecasting a moderation of growth for them for the balance of the year and into next year. Can you give us an expectation of how those variables are affecting your business?

Yes. Scott here. Thanks for the question. Two things. One is, if you were to look at the pricing algorithms that apply into solutions that we provide to the insurance industry, the way that we price our solutions is related to the value of the solutions that we're getting to our customers. So it's not the case that our pricing algorithm is tied directly to the amount of premium that our customers are putting through their own books of business. Our solutions are priced according to the amount of profitability and growth that they generate for our customers. And every CEO that I speak to in the insurance industry, every one of them to a person considers their business to grow the business. And so they are leaning into new methods as a way of trying to grow their businesses. And we expect that to persist. And it's always been the case actually that in our Insurance business, we have grown considerably faster than the underlying product marketplace. And actually, that's true to the energy vertical as well. And why? Because our customers are trying to make increasing use of data analytics solutions. So we're not really yoked to the net written premium volumes in the insurance industry.

Got it. My follow-up question, again sticking with operations, and you talked about your claim analytics and products and the suite of products you're offering there. The insurance industry is really beginning to struggle with inflation costs, repair costs on cars. Rental car rates have gone through the roof. I'm just curious, from an operational perspective, the products or services you are providing to the industry, how are they adapting rapidly to these changing conditions in the marketplace to help the insurance industry?

Yes, that is something that our customers care about a great deal. And so it's really incumbent upon us to make sure that the cost factors associated with the kinds of solutions we've got, which are aimed at understanding what it takes to repair something, we need to make sure that the underlying cost factors are current. And that is something that we give a lot of attention to. That has always been a part of the way that we approach this. But it's particularly important in a moment like this where demand surge and, therefore, the price of the underlying commodities moves around. You have highlighted something that our customers care quite a bit about. Actually, I'm going to turn to Mark here, who leads our insurance vertical. Not long ago, we were on a call with the CEO of one of the largest insurance companies in North America and this was one of the topics they highlighted. And we had a lot of conversation about what we're doing and the way that our solutions do keep up. So I'm really just affirming that the topic that you've highlighted there is on the minds of our customers. Mark, anything you want to add to that?

No, I think our customers expect us to be on top of that. So as an example, in the repair cost estimate solutions, we're making constant updates on a weekly basis. We're providing them what's the cost of lumber, as an example, which has been a very significant inflationary item. Their repair cost estimates are reflecting that increase. We are very much into the world of social inflation, the cost of litigation and the cost of claims is up as a result of that. Those trends are reflected in our loss costs. That's the pricing they do. It's reflected in the repair cost estimates. It's reflected in how they underwrite a property or any insurance risk, and I like to think that we are at the lead in thinking for them on that topic.

Next question comes from the line of Gary Bisbee of Bank of America.

Scott, thanks for the updates on innovation and technology. I wanted to ask a little bit about that. You talked about how the tech modernization progress you're making is accelerating the ability to innovate and reducing CapEx, which you're trading that off for higher capital spending on innovation and new products. I guess a two-parter. As we think about innovation broadly across the company, do you keep internally or can you help us think about the concept of a vitality index? How much more is all of this change you're doing contributing to growth from innovation? And then secondly, do you see that benefit more as something that should allow you to continue to deliver to the long-term 7% revenue growth target that you have? Or is there potential as that innovation accelerates that you could begin to outperform that target more meaningfully as innovation and new products become a larger part of your revenue?

Thanks, Gary. Well, maybe to your second question first. We do feel very good about the shape of our business, where we sit in the flow of what is happening in the business world. One of the most important things happening in the economy is businesses becoming the better, more analytic digital version of themselves. And that is fundamentally what is in and around and underneath our business and that we enjoy these tremendous relationships with our customers founded upon trust and some really valuable and distinctive solutions. That's our business. And the environment in which we're doing our work, obviously, the pandemic has had an effect as it did on everybody. But over longer periods of time, there are these very constructive trends. And so that's kind of fundamentally our growth story. Against that, our customers look to us to be their fill-in-the-blank tech partner. There are in every one of the verticals we serve, there's a fill-in-the-blank tech, InsurTech, fintech, energy tech. There's a list of players. Our customers expect us to be providing innovation. That is one of the reasons why they lean into the relationship with us in the first place. So I think the nature of your question, Gary, was like this investment into that solution and what is the effect of that in terms of our growth. We pay attention to that. It would probably surprise you to know the relatively modest size of investment opportunities that all the way to the office of the CEO we're looking at because it's the lifeblood of our business. And so we do—we are resolving things down to the level of the individual solution, and we pay attention to how they're doing. And we make decisions about should we put more in because it looks very promising, should we pull back from it because it appears not to be gaining steam. We're doing that all the time. That is what we do on a moment-to-moment basis. But when you talk about vitality, you really have to take it holistically. Because as we said earlier in this call, by count of corporate entity, in the insurance industry, the most rapidly growing segment are the InsurTechs, the new players. They show up with a clean sheet of paper and are rethinking everything. How are we going to build an insurance business? And they seem consistently to want to standardize on all of our solutions. That's vitality. Now they're adopting solutions that we in some cases created years ago. But they're buying into them because they remain right at the leading edge. I mean, they're very insistent that everything be cloud-native, tech-forward. They just aren't even going to look at you if you're not that way. So I would just encourage you to understand vitality means a lot of things. It means the infusion of value into a solution that has been around for a long period of time as well as the new solution. It's new customers as well as existing customers. But there's no question, if you pop all the way to the top of the organization and ask the question, look at that top line rate of organic revenue growth. One of the most powerful things that drives our growth is the adoption of solutions, whether it's a new solution by an existing customer or an existing but enhanced solution by a new customer. And the investing that we do in innovation is in support of all that. Mark, do you want to add something?

Yes, just maybe to provide a good example of everything Scott described. I think one of the big success stories is really inside of what is our underwriting and rating ISO business. We continue to have a very big business focused on what we refer to as loss cost rules and forms. We have been growing in an inflationary way because we've been very thoughtful with our customers. The growth that we've seen that has increased over the last several years is because of that innovation investment and kind of bundling things for these InsurTechs and others. So I just wanted to reaffirm and maybe provide tangible evidence to that.

And then just a quick follow-up for Lee. Margins, you did a nice job keeping the majority of the pandemic benefit from the prior year in this year's quarter. What caused, I guess, travel's one probably that hasn't come back. But what other causes may not have fully normalized and sort of—is this a good rule of thumb going forward? Or would you expect that more of the costs that came out last year likely will come back in, in the next quarter?

Thank you, Gary. I try to look at the cost structure and evaluate what's temporal and what's structural. And there is some temporal element of this that we've been able to hold on to. But I think to your point on the travel and entertainment side, I think there are structural savings that we are able to take advantage of over time. So I think some of that is a structural change. I also think over the longer term, as we adopt or adapt to the flexible work structure that Scott described in his comments, that it will provide opportunities for us from a productivity and real estate cost standpoint to reduce some of those expenses over time. But of course, that follows kind of the lease renewal process. Those will be things that we're able to achieve over time as well. And then finally, the other element is compensation, and that is more directly tied to our overall performance against the growth targets and overall head count growth. And I think that will normalize consistent with the achievement of our revenue growth and our EBITDA growth.

Next question comes from the line of Hamzah Mazari of Jefferies.

I just wanted to go back to the question on your long-term sort of 7%-plus organic growth aspiration. It was very consistent prior to 2015. And I realize, post-2015, you had mix issues, cyclicality, the business mix changed in the portfolio. But going forward, is it just the world reopens and you can get back to 7%-plus? Or do you need to see some of these benefits from the big investment spend that's been going on? And that really lags. Just give us a sense—is it just the macro? Or is it execution or any other thing we should be paying attention to, to get back to 7%-plus consistently?

Well, as I said before, the nature of our business is that because we're providing a unique kind of value to our customers, very consistently, our experience has been that we grow at a rate greater than the rate of growth in the verticals that we're serving. And I don't see any change in that. In stable normal environments, all else equal, that is supportive. And over long periods of time, the marketplaces that we serve are very important elements of the economy. So a thesis that they will remain important is a pretty sound one. And then, of course, there is a huge dependence upon execution. The whole innovation agenda has to be done well. We have to dig in with our customers as development partners to make sure that we hit what's needed, that we get it to market faster. All of those things have a lot to do with returns on any given innovation investment that we've made. Another thing is the dynamic inside of what we're doing in terms of looking at solution families and deciding where to invest, where to retire, and where to sell. We have a long track record of investing in promising areas and retiring things that are less strategic. It's like the duck on top of the lake: it looks steady, but underneath there's paddling going on. We get down to the level of individual solutions. For example, in insurance, we've retired a number of things we've been doing and invented a lot of things. All of that is inside of getting to this long-term view of growth potential.

If I can just supplement to provide some validation, Hamzah. If you look at the underlying insurance business, it has consistently delivered in that 7% organic growth area. Negative impacts have been from nearer-term cyclical elements associated with the energy business. But that business, as we've seen—particularly with the Lens platform and the investment in the energy transition practice—has demonstrated the potential to move to similar levels of growth. Financial Services has been undergoing a transition to a more focused, sustainable growth model, reducing some of that volatility. So I want to make certain that you appreciate that underneath the surface is a consistent track record of delivering on that potential, with other elements as we move down this path of investing in platforms to deliver the value of those rapidly growing data sets. That's been the recipe that supports our conviction about the achievability of that going forward.

That's extremely helpful, really appreciate that. And then just my follow-up question is around capital allocation. Your leverage is arguably going to get very low next year. Your CapEx at some point is going to go down and so free cash flow should inflect a lot. Should we be thinking about buybacks being a much bigger piece of return on your cash deployment? Or should we be thinking outsized growth in the dividend? You haven't done much large-scale M&A. So I'm assuming you can do M&A and return cash. Just any thoughts as to when you see that big free cash flow inflection at some point, what do you do with the cash?

Hamzah, thanks for the question. We appreciate you identifying the strength in the cash flow. One of the strongest elements we have is the opportunity to create value by investing internally—in technology, in data sets, in new services for our clients. So we start from the position of how much capital we are generating from the business and what our opportunities are to invest in the business to generate growth and returns. Secondly, we look for M&A opportunities to invest in businesses where we can create value by improving their revenue growth through our distribution, utilizing their data sets more effectively or improving their technology—FAST is a great example, as is Genscape in our energy business. The decision on share repurchases is an outcome of what capital we have that we don't see an opportunity to invest to generate growth or returns. So it is an outcome of our capital allocation process, not something that we target at the outset. If we don't see investment opportunities or M&A, then we would expect excess capital to be returned either through the dividend or through increased share repurchases, but it will be driven by that investment opportunity and our discipline.

Next question comes from the line of Andrew Jeffrey of Truist Securities.

Mark, maybe a question for you on LightSpeed. It sounds like it's one of the more exciting revenue growth drivers within your insurance businesses, especially as you expand beyond auto. Can you dimensionalize for us the kind of pricing power you might have in that business and how important that is to the durability of that 7% segment organic revenue growth target?

So let me try to provide some parameters. We believe that insurers, in their search for the best customer experience and digital engagement, want information that's actionable and can provide a bindable quote, meaning when you go online and you want to get a price, you don't want it to change after you show interest. Historically, 33% to 40% of the cases see the price change after additional underwriting. We're bringing all that information forward and combining our data and analytics so that the insurer has confidence to quote. That's a big change and important. In thinking about the opportunity here, we know who's providing that information. We feel it's about a $1 billion market opportunity in the insurance space. So we simply have a lot of runway, especially on the personal line side. We have a strong base on the commercial line side as well. That provides context for why we think it's important and why we've continued to emphasize it.

Yes, that's really helpful. I think being able to quantify some of these TAMs will really help investors gain confidence in the long-term growth targets. And then a quick follow-up on cat modeling. It seemed like that was a decent tailwind this quarter. Is that something we need to think about in terms of volatility? How much of an impact does that have on your business from an issuance perspective on a quarterly basis?

The majority of our catastrophe modeling is a subscription model that we've taken a lot of customers onto. The foundational growth is us winning customers and bringing them onto the platform. Where you're seeing some spikes and valleys is inside of the ILS market—cat bonds. That's a function of market timing. We had a good quarter. We might expect a strong end of year, but it's tough to predict quarter-to-quarter. Over the next five years, I would expect cat bonds to grow and we're well-positioned for that. Whether it's up or down in any particular quarter is hard to forecast, but we have a feel for year-over-year trends.

Next question comes from the line of Kevin McVeigh of Credit Suisse.

I wonder if you could just give us a little bit more context on the Duck Creek announcement earlier this quarter where they talked about the enhanced integration within your insured workflows and what that can mean to the business longer term in terms of similar templates. Should we expect similar opportunities?

One of the things we're seeing more and more frequently is our customers are looking for an interconnected ecosystem. They want the ability to use their internal solutions and third-party solutions in a connected way, whether that's through APIs or microservices. We're spending significant time and money making that happen. We are integrating with major insurance software solutions like Duck Creek and Guidewire so that customers get access to information and analytics from Verisk in a way that makes it easier and more efficient for them to operate. That integration also gives us easier sales because the integration is built in and connected. So we find it to be very customer-focused, and it gives us some runway and an accelerated sales pipeline.

Mark, just a follow-up. Does the cloud conversion enable you to do more of those integrations, whereas maybe a year ago when it was more on-prem, you wouldn't have the functionality to do it? Or is it just coincidence in terms of the timing?

We have had SaaS-based environments for years, so these were not locally installed solutions. The SaaS model facilitates integrations. The cloud transition allows us to do it quicker and more efficiently, and as we've transitioned to cloud, it has become more efficient and cost-effective.

Next question comes from the line of Jeff Meuler of Baird.

I appreciate all of the updates in terms of your current thinking on the cloud transition. I was hoping you could give us a similar update on the associated expense park. I think we said that there's a headwind from increased cloud transition costs this year. So would love any thoughts on how much are you spending per year, when does it flip positive, and when it flips positive, is it a step function change? Or should it just be viewed in the context of expanding organic EBITDA faster than organic revenue over time because there is a reallocation of those savings?

Thank you, Jeff. There are several elements to it. First, on cost: you take on additional cloud capacity before you eliminate legacy capacity, so there's a redundant period. In addition, you take on recoding expense as you migrate applications. As we've implemented this across hundreds of applications, you have that upfront cost that is a negative cost impact, which we view as an investment. We look at it project by project and the technology team tracks specific costs and savings. Think of this as rolling across the organization. For the first and second years, we are still in a net investment mode from a cost perspective. CapEx will be more limited going forward, so you will extract CapEx savings over time because the CapEx intensity of our technology footprint is declining. We're beginning to experience that in the second year of the project, and it will continue into the third year and beyond. If we think about OpEx and CapEx, we're still in a net investment mode in the second year. We would expect that in the third year that turns into a positive contribution. We will also shift some of that OpEx into other investment areas, which is where we generate incremental growth and returns. So we believe this will be additive going into the third year, and then we'll determine whether we see investment opportunities to pursue that. Beyond that is the more material benefit: pace of innovation, ability to associate more data sets to populate platforms, creating broader lift within the business.

To add, not trying to specify a particular margin level, but think of this transition as multiyear with discrete events. There will come a moment where we're no longer computing on the mainframe. We're not fully at that point yet, but we are already reducing the load. At some point we'll close on-prem data centers—there are fixed costs associated with data centers—and we'll call out those events when they happen. Another important aspect is purchasing compute capacity; in the previous model you bought large chunks, but in cloud the chunks are smaller and more variable. That changes how you think about and structure analytics. On the other side of the transition, you think differently about what you encode and how you use compute capacity. It's a multiyear effort, but the end state is materially different and better for a company like ours.

I appreciate the comprehensive response. You addressed the InsurTech impact and the vertical software providers that serve the insurance industry. I want to ask about the third category of adjacent players—there's a lot of funding going to companies that are gathering data with broad ambitions. There are real estate digital twin image capture companies, satellite-based, telematics companies. I know you have the Verisk Data Exchange, but curious as to how you view the impact on Verisk or your customers from those types of options and if they are competitive or partnership opportunities for you, etc.

In reverse order to your question, yes, there are partnership opportunities. If I took a list of the top 50 InsurTech companies, the number of them that we're in communication with today is high. Many of those conversations are because they are coming to us. In this world you can start with programming capability and create hosted solutions around digital workflows. We pay attention to that. There are many reasons why our customers lean into a relationship with us: breadth of solutions, proven track record, reliability, and critically strong content assets. Many of the fill-in-the-blank tech start-ups do not start with content. We stay very alert to these developments; we start from a strong position and we like talking to these tech players. If there's a place where one plus one is greater than two, we're very open to that.

Next question comes from the line of Alex Kramm of UBS.

Sorry if I missed this earlier, but on the COVID impact, the 15% that grew 12% this quarter—did you or can you talk about where we are there? Do you feel like we are fully recovered? Or what areas do you still wait for improvement?

Thank you, Alex. When we look at our COVID-sensitive revenues, we look business by business. We're seeing stronger recovery in certain areas—property has shown one of the strongest recoveries. Driving has seen some recovery but is not fully recovered yet. In Energy and Specialized Markets, we are seeing a strong rebound in consulting revenues. We're also seeing strengthening in new subscriptions, which will flow in over time reflecting improved pricing dynamics. In Financial Services, spend-informed analytics have seen uplift from advertising and marketing improvements, but the bankruptcy element is still challenged by government support and forbearance programs. So overall, it's a partial recovery, not full recovery, but the trends are for continued improvement. In Insurance and in Energy and Specialized Markets, our COVID-sensitive revenues were up 20% year-over-year; Financial Services still saw a year-over-year decline. Also, international travel-related revenues remain significantly depressed.

Okay. Maybe just a very quick follow-up on this. On the energy side specifically, if I look at some of the recurring versus transactional breakouts, it does look like a lot of the upside this quarter came from consulting on the more transactional side. Given Lens and everything you're talking about, is that not driving the impact yet that you are hoping for? Or are there maybe some retention issues elsewhere? It doesn't look like it's flowing through the business quite yet.

Thanks, Alex. Good distinction. Consulting is where we are seeing recovery on the COVID-sensitive side, while the subscription side will show rolling impact as renewals and new sales come in over time. Lens has been very positively received and has generated contract renewals with price increases in the mid- to high-single digits. There are two elements to ongoing impact: the rolling renewals as subscriptions come up for renewal and the phased nature of subscription roll-in. We are seeing positive uptake—clients are using Lens, operational assessments have been positive, and we've achieved price increases. That will result in a slow rolling improvement to growth before we also use the platform to expand the customer set and applications. We are still experiencing some impact from prior cycles—loss of one client in the energy space and consolidation in upstream areas—that has a near-term impact on research. But the distinction you made is relevant: consulting gave a near-term boost, while Lens provides constructive longer-term trends and pricing improvements that will flow over time.

Next question comes from the line of Andrew Steinerman of JPMorgan.

Lee, I wanted to ask you, as you've taken over operational responsibility of Argus, what have you found in terms of the fit of Argus in terms of Verisk's ability to create further customer value, find new customer segments for Argus data or innovate in general within a subscription model?

Thank you, Andrew. I've spent more time with the team at Verisk Financial Services. They have been focused on integrating data sets across businesses and moving from a compartmentalized approach to focus on broader client objectives. We've implemented organizational changes that support that approach and are moving to a more effectively integrated platform. We have taken steps structurally to move the business from a more consulting-oriented revenue base to more sustainable growth, and we are seeing that in new business signing and pipeline. Verisk Financial Services has been an intellectual capital engine for much of the rest of Verisk; a lot of what they've learned about managing large data sets and data architecture has been exported to the rest of the company. Many data scientists and leaders have come from that background, and we are drawing on their expertise. The replatforming of Argus 2.0 is an example where we've drawn external expertise. There is good dialogue across the entities and interactions between the credit dimensions in Financial Services and some elements of our insurance business to inform and generate new opportunities.

Next question comes from the line of Toni Kaplan of Morgan Stanley.

Wanted to ask another question on the fintech side. By partnering with the software platforms, it sounds like there's potential for upside from selling additional solutions on there. Just wanted to understand, compared to history before these platforms were as prevalent, were you providing a platform to your customers? Or were they just using their own platforms? In this case, is this complete upside? Or is there any revenue that is sort of lost by them going to a software platform that's not yours?

No, there's not revenue loss by customers going to a third-party platform. Over the past decade, we moved from primarily our own platforms or point solutions with customer-by-customer integration to being significantly more platform-based. That's constructive for growth. We're spending more developing software and building our own platforms, but when we partner with a third-party platform, it substitutes for a customer's internal integration efforts and does not impact the underlying value of what we provide. The movement toward platforms is customer-friendly and constructive for Verisk because we ourselves are increasingly platform-oriented.

That's helpful. And then just in the past couple of quarters, Financial Services has had single-digit EBITDA margins. Is this the new normalized margin? Or is there something depressing it temporarily? And any updated thoughts on strategic options?

Definitely not the new normal.

Toni, thanks for the question. What you are seeing in that quarterly impact is the result of contract transitions. We expect that as we come through the third quarter and complete those transitions, you will see more normalized margins within that business. So what you see now is not the expected sustained element.

Next question comes from the line of Manav Patnaik of Barclays.

Yes, I just wanted to follow up on Financial Services as well. We've heard positive spin on the business for quite some time. But for five years now, growth has declined and margins have come down. So what did you decide to do—cut the cord? What's the plan? How do we get comfortable that it can be additive to growth?

Thank you, Manav. We understand the frustration. Two factors are influencing current growth rates significantly. One is contract transitions that we believe are the right operational decision; they are structural and finite and will wrap up after the third quarter. The other is the pandemic impact on COVID-sensitive revenues—spend-informed activity, bankruptcy activity, and some bank consulting were affected. When we evaluate options for the business, the right time frame is to consider structural transitions and the pandemic. We believe 2022 should be a much more normalized year for revenue growth and margins, reflecting the structural changes and operating improvements we've implemented.

To be more direct, 2020 would have been a coming out year for Verisk Financial, but for the pandemic. The changes that were on deck and the plans we had were interrupted by the pandemic. The business has had an above-average level of transaction revenues relative to Verisk, which caused it to respond differently. But beginning in 2018 we acknowledged changes that needed to happen to the business model and those were ready to implement when the pandemic hit.

Okay. And then maybe just a similar question on Energy. Lens obviously has been doing really well, and you talked about energy transition growing. But I think collectively they're still a small part of the business. How do you accelerate growth in what's a pretty cyclical industry?

When we look at Wood Mackenzie and PowerAdvocate, they moved from a legacy upstream oil and gas focus to a broader role in energy transition. Lens is the platform that allows us to capture growth in data sets and analytics around the energy transition. We're seeing pricing improvements on legacy products and growth in energy transition revenues on both consulting and subscription bases. We've made acquisitions in adjacent areas, such as metals and mining, which have growing relevance given battery raw materials. We view Wood Mackenzie and PowerAdvocate as well-positioned to capture growth in demand for those products. The combination of future opportunity and the success we've had to date shows progress in moving the business from a legacy orientation to broader energy relevance.

And our last question comes from the line of Ashish Sabadra of RBC Capital Markets.

I just wanted to focus on the strength in software within the Insurance segment, both international as well as the life insurance side. You obviously talked about strength in the FAST business. I was wondering what's really driving it. Is it new customers? Is it ability to cross-sell? How do you comment on the pipeline? And maybe a follow-up: there was a lot of discussion about platform and partnership, but how do you think about buying and building or increasing your software intensity and expanding on the platform that you already have?

Let me describe the two areas. For international software, much of it represents our Sequel offering. We are a significant player in claims systems and platforms. Growth comes from acquiring new customers and extending different solutions and products, including acquisitions that extend that platform into specialty and commercial lines and expanding outside the U.K. and into the United States. Those are good wins and positive extensions. Regarding FAST, which is life insurance software, we've infused it with analytics and have won major life insurers who have committed to multi-year contracts—five- and ten-year deals. We're implementing now, and that will produce substantial recurring revenue as new products and volumes are introduced. Those are new logos as well as extensions within existing customers. We've significantly increased investment to transition to SaaS and cloud and extended capabilities through build and acquisition.

Thank you. I will turn the call over to our presenters for any closing remarks.

Thank you. This is Scott. We're concluded. Thank you all for your time today, your interest. We'll be following up with a number of you. We appreciate as always the dialogue. Have a great rest of the day.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect. Have a great day.