WTW

Business Context and Reporting Period

Company: Willis Group Holdings Limited (Willis Towers Watson)

Filing Type: Form 20-F (Annual Report)

Reporting Period: Fiscal year ended December 31, 2001

Business Overview: Willis is the third-largest global insurance broker, providing risk management consulting, employee benefits, and insurance brokerage services to approximately 50,000 clients in over 180 countries. The company operates through three main segments: Global, North America, and International. In 2001, the company completed an initial public offering (IPO) in June and a secondary offering in November, raising net proceeds of approximately $280 million, which were primarily used to redeem $273 million in preference shares.

Key Financial Metrics

Margins: Operating margin increased to 21% in 2001 from 13% in 2000. EBITDA margin expanded to 26% from 19% in 2000.

Debt & Liquidity: Total long-term debt decreased to $787 million. The company maintains an undrawn $150 million revolving credit facility. Cash and cash equivalents increased to $128 million.

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 9% to $1.424 billion, driven by higher premium rates, new business exceeding lost business, and acquisitions. Underlying revenue growth was 12%.
• Operating Income: Operating income rose 5% to $161 million. Excluding a $158 million non-cash charge for performance-based stock options, operating income increased 77% to $319 million.
• Net Income Volatility: Reported net income dropped to $2 million (from $9 million in 2000) primarily due to a $158 million non-cash compensation charge for performance options and a $35 million goodwill amortization charge. Underlying "Operating Cash Earnings" increased 172% to $147 million.
• Debt Reduction: Long-term debt decreased by $171 million due to early repayments of term loans and the repurchase of $111 million in senior subordinated notes.
• Acquisitions & Disposals: The company sold its 51% interest in Willis National (gain of $22 million) and the PENCO programs division. Acquisitions included Bradstock G.I.S. (Australia) and Richard N. Goldman & Co. (USA).

Guidance, Outlook, Risks, and Unusual Items

Management Commentary & Outlook

Management expects the trend of increasing fee income (currently ~30% of total revenue) to continue, reducing exposure to declining insurance premium rates. The company anticipates that internally generated funds will be sufficient to meet operating requirements, capital expenditures, and scheduled debt repayments (next mandatory repayment in 2005).

Unusual Items

• Performance-Based Stock Options: A non-cash charge of $158 million was recorded in 2001 as it became probable that performance targets (cash flow and EBITDA) would be met. This significantly impacted reported net income.
• Goodwill Amortization: $35 million charge recorded. Note: SFAS No. 142 adoption in 2002 will cease amortization, replacing it with annual impairment testing.
• Restructuring Costs: $18 million in 2000 related to North American business process redesign and exit from certain US business lines. No significant restructuring charges in 2001.

Risks and Contingencies

• Legal Proceedings: Significant exposure exists regarding the UK government review of personal pension plans sold between 1988-1994 (provision of $31 million remaining). Potential claims related to the September 11, 2001 World Trade Center destruction and reinsurance "spiral" disputes are monitored but not expected to be material.
• Put and Call Options: The company has obligations to purchase shares in associate Gras Savoye (France). If fully exercised, this could require payments up to $135 million (formula-based) or $108 million (fixed floor) between 2001 and 2005.
• Market Risk: Exposure to foreign currency fluctuations (particularly GBP/USD) and interest rate changes, managed via forward contracts and interest rate swaps.
• Controlling Shareholder: KKR 1996 Overseas, Limited beneficially owns approximately 52.7% of shares, controlling the board and corporate policy.

Investor Verification Checklist

• Non-Cash Charges: Verify the impact of the $158 million stock option charge on reported earnings versus the $147 million Operating Cash Earnings.
• Goodwill Accounting: Confirm the transition from amortization to impairment testing under SFAS 142 effective January 1, 2002, and its potential impact on future earnings.
• Gras Savoye Put Option: Assess the liquidity impact if the put option for Gras Savoye shares is exercised, potentially requiring up to $135 million in cash.
• Pension Review Liability: Monitor the $31 million remaining provision for the UK personal pension review and any potential increases in liability.
• Debt Covenants: Review compliance with financial covenants (EBITDA to interest ratios) given the high debt load relative to equity (Debt-to-Equity ratio of 1.1).
• Fee Income Trend: Validate the management claim that fee-based revenue is increasing as a percentage of total revenue to offset commission volatility.