Business Context and Reporting Period
Company: Morningstar, Inc.
Filing Type: Form 8-K (Current Report)
Date of Report: March 12, 2018
Purpose: Regulation FD Disclosure providing answers to investor questions regarding 2017 performance, strategic shifts, and accounting changes.
Key Financial Metrics
- 2017 Revenue: $911.7 million.
- Operating Margin (2017): 18.6% (declined 400 basis points year-over-year).
- Adjusted Operating Margin: Declined 170 basis points excluding acquisitions and currency.
- Effective Tax Rate (2017): 23.9% (includes a $10.6 million provisional net benefit from Tax Reform).
- Assets Under Management (AUM) - Managed Portfolios: $39.8 billion (up 31.8% year-over-year).
- Total AUM (Investment Management): $68.3 billion.
- Revenue Growth by Segment (2017):
- Morningstar Data: 7.2% organic growth.
- Morningstar Direct: 12.6% organic growth.
- Credit Ratings: 18.8% revenue growth.
Material Changes vs. Prior Period
- Strategic Shift in Asset Management: Institutional Asset Management assets declined 69.7% year-over-year (approx. $40 billion drop) due to a strategic decision to stop pursuing new customized business and focus on the scalable Managed Portfolios product. A significant portion of the decline occurred in Q4 2017 due to the loss of a large client.
- Margin Compression: Operating margins declined primarily due to the acquisition of PitchBook (higher expense profile), increased sales commissions and bonuses from exceeding 2017 targets, and an asset impairment charge.
- Product Evolution: Morningstar Direct is transitioning to a purely web-based platform with new fixed-income analytics and MiFID II datasets.
Guidance, Outlook, and Risks
Outlook and Management Commentary
- Market Opportunity: Global spend on financial market data/analysis exceeded $27 billion in 2016, suggesting ample growth potential for Morningstar.
- Future Tax Rate: Management projects a go-forward effective tax rate in the mid-20s, excluding discrete items.
- Investment Focus: Continued investment in PitchBook to drive scale and growth in 2018. Managed Portfolios is expected to represent an increasing percentage of total AUM.
- Accounting Changes (ASC 606):
- Third-party content revenue will be recognized on a gross basis (estimated $6–7 million increase in revenue and cost of revenue).
- Sales commissions will be capitalized and amortized over up to three years, resulting in a $25–30 million increase to retained earnings and $14–16 million in 2018 commission expense.
Risks and Contingencies
- Liability for breaches of fiduciary duties or data storage failures.
- Regulatory changes (e.g., MiFID II) and compliance failures.
- Technology outages or risks associated with moving infrastructure to the public cloud.
- Market volatility impacting asset-based fees.
- Concentration of data and development work in offshore facilities (China and India).
Investor Verification Checklist
- Verify the impact of the ASC 606 accounting standard adoption on Q1 2018 revenue and expense recognition.
- Monitor the trajectory of PitchBook's contribution to operating margins as the company scales the business.
- Confirm the finalization of the Tax Reform measurement period and the resulting permanent tax rate adjustment.
- Track the growth rate of Managed Portfolios AUM versus the continued decline in Institutional Asset Management.
- Review the launch and adoption of the new Morningstar Mutual Funds in the U.S. scheduled for 2018.