Marsh & McLennan Companies, Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017. Amounts are in U.S. dollars; financial statement amounts are in millions except per-share data.
Business context
Marsh & McLennan is a global professional services firm operating through Risk and Insurance Services (Marsh and Guy Carpenter) and Consulting (Mercer and Oliver Wyman Group). It reported more than 60,000 employees and operations in over 130 countries.
Financial performance
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Revenue | $3,503 | $3,336 | +5% reported; +4% underlying |
| Operating income | $809 | $733 | +10% |
| Operating margin | 23.1% | 22.0% | +1.1 percentage points |
| Net income attributable to the Company | $569 | $481 | +18% |
| Diluted EPS | $1.09 | $0.91 | +20% |
| Cash used for operations | $399 | $581 | $182 less cash used |
| Cash and cash equivalents, March 31 | $930 | $918 at March 31, 2016 | — |
The effective tax rate was 23.3%, versus 28.6% a year earlier. A newly adopted share-based compensation accounting rule reduced Q1 2017 income tax expense by approximately $44 million; excluding that benefit, the company reported an effective tax rate of 29.1%. Interest expense rose $12 million to $58 million, primarily due to higher average debt.
Segments and material changes
- Risk and Insurance Services: Revenue was $1,989, up 6% reported and 5% underlying. Operating income increased to $613 from $535; margin expanded to 30.8% from 28.6%. Marsh underlying revenue rose 5%; Guy Carpenter underlying revenue rose 4%.
- Consulting: Revenue was $1,526, up 3% reported and underlying. Operating income declined to $241 from $245; margin fell to 15.8% from 16.6%. Mercer underlying revenue rose 3% and Oliver Wyman’s rose 4%.
- Reported consolidated revenue growth included a 2% contribution from acquisitions, partly offset by a 1% foreign-currency headwind. Expenses rose 4% overall, primarily reflecting higher salaries, partly offset by acquisition-related contingent consideration credits.
- The company completed four Risk and Insurance Services acquisitions, including J. Smith Lanier & Co. Total purchase consideration was $509; acquired goodwill was $363. Q1 results included approximately $28 of acquisition-related revenue and $10 of operating income.
- Mercer reorganized its former Retirement and Investments activities into Wealth practices. The change affected presentation only, not previously reported total revenue or results.
Cash, debt and liquidity
- Cash from operations was negative $399; investing activities used $461, including $411 net cash paid for acquisitions and $62 of capital expenditures. Financing activities provided $697, including $987 of debt proceeds, $200 of share repurchases and $175 of dividends paid.
- Short-term debt was $412 and long-term debt $5,479 at March 31, for total balance-sheet debt of $5,891, compared with $4,807 at year-end 2016. The company issued $500 of 2.75% notes due 2022 and $500 of 4.35% notes due 2047 in January. It repaid $250 of notes on April 1.
- Commercial paper outstanding was $150. The company had no borrowings under its $1.5 billion revolving credit facility, which expires in November 2020 and is subject to quarterly coverage and leverage tests. Senior debt ratings were A- from S&P and Baa1 from Moody’s, both with stable outlooks.
- Current assets were $4,981 and current liabilities $3,588. Fiduciary assets and liabilities are restricted to client-related purposes and are not available for corporate liquidity.
- The company repurchased 2.7 million shares for $200 at an average price of $73.20; approximately $2.24 billion remained authorized for repurchases.
Outlook, risks and unusual items
- No specific revenue or earnings guidance was provided. Management expected to contribute approximately $25 to U.S. and $175 to non-U.S. defined benefit pension plans during the remainder of 2017.
- Management estimated that, if major currencies remained at March 31 rates, foreign-currency translation would reduce full-year 2017 net operating income by approximately $3. A 10% movement in major currencies against the dollar could change net operating income by approximately $50.
- The company adopted new share-based compensation accounting on January 1, 2017, creating the $44 tax benefit noted above. It expects to adopt the new revenue recognition standard in 2018, likely using the modified retrospective method; management anticipated some timing shifts in quarterly revenue and had not quantified the full impact.
- The FCA is investigating suspected sharing of competitively sensitive information in the U.K. aviation insurance and reinsurance sector. It inspected Marsh Limited’s London office on April 4, 2017. The company said it was cooperating and could not predict the investigation’s timing or ultimate impact.
- Other material exposures include professional errors-and-omissions claims, pension obligations, cyber and business-continuity risks, foreign-exchange and interest-rate movements, and regulatory and tax uncertainty. The filing states that potential losses for developing legal matters generally cannot be reasonably estimated.
- Goodwill increased to $8,769, principally reflecting acquisitions and foreign exchange. The company reported no goodwill impairment in its most recent annual assessment.
Important facts for investors to verify
- How much of the 20% diluted EPS growth reflects operating improvement versus the one-time $44 million share-based compensation tax benefit.
- Integration and performance of the 2017 acquisitions, particularly J. Smith Lanier, and the assumptions behind contingent consideration.
- Developments and any financial or reputational consequences from the FCA aviation-sector investigation.
- Cash conversion, debt levels and financing needs following the acquisitions and $1 billion of new senior-note issuance.
- Future pension funding requirements and the eventual effects of revenue-recognition and lease-accounting changes.