Marsh & McLennan Companies, Inc. — Q3 2013 Form 10-Q
Reporting period: Three and nine months ended September 30, 2013; compared with the corresponding 2012 periods. MMC is a global professional services firm operating through Risk and Insurance Services (Marsh and Guy Carpenter) and Consulting (Mercer and Oliver Wyman). Amounts below are in U.S. dollars; financial statement figures are in millions unless noted.
Financial performance
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Revenue | $2,932 | $2,845 | $9,146 | $8,922 |
| Operating income | $404 | $378 | $1,588 | $1,423 |
| Operating margin | 13.8% | 13.3% | 17.4% | 16.0% |
| Income from continuing operations | $260 | $246 | $1,072 | $939 |
| Net income attributable to MMC | $253 | $241 | $1,054 | $917 |
| Diluted EPS from continuing operations | $0.45 | $0.43 | $1.88 | $1.66 |
| Diluted EPS attributable to MMC | $0.45 | $0.44 | $1.89 | $1.66 |
Q3 revenue rose 3% as reported and 4% on an underlying basis, excluding currency and acquisition/disposition effects. Q3 operating income increased 7%; operating expenses increased 2%. The nine-month revenue increase was 3% reported and 3% underlying, while operating income rose about 12%.
- Risk and Insurance Services: Q3 revenue increased 4% reported and 3% underlying to $1,504; operating income was unchanged at $222 and margin declined to 14.8% from 15.3%. Nine-month revenue increased 4% reported and 3% underlying; operating income rose to $1,111 from $1,024 and margin improved to 22.4% from 21.4%.
- Consulting: Q3 revenue rose 2% reported and 4% underlying to $1,437; operating income increased 13% to $232 and margin rose to 16.1% from 14.6%. Nine-month revenue increased 1% reported and 2% underlying; operating income rose to $624 from $552 and margin improved to 14.8% from 13.2%.
- Q3 compensation and benefits expense was $1,824 versus $1,760; other operating expense was $704 versus $707. Management attributed underlying expense growth primarily to higher incentive compensation, severance and pension costs, partly offset by lower professional indemnity claims costs.
Cash flow, balance sheet and liquidity
- Operating cash flow for the first nine months was $575, down from $750 in 2012. Investing cash outflow was $299 (prior year $369); financing cash outflow was $350 (prior year $524). Cash declined by $127 from year-end 2012 to $2,174.
- At September 30, cash and cash equivalents were $2,174; current assets were $6,161 and current liabilities $3,893. Fiduciary assets and liabilities of $4,657 are offset and are not available for corporate use.
- Total debt was $3,206, comprising $583 short-term and $2,623 long-term, compared with $2,918 at year-end 2012. Cash less reported debt was approximately $1,032. A $1.0 billion revolving credit facility, expiring in October 2016, had no borrowings; a $50 million term loan was outstanding. MMC reported compliance with credit-facility requirements. Ratings were Baa2/BBB for senior debt, with positive outlooks from both agencies.
- MMC issued $500 million of senior notes in September 2013. In October it redeemed $250 million principal of 5.75% notes due 2015, with approximately $275 million cash outflow including a $24 million early-redemption charge.
- Capital returns included $394 million of dividends paid during the nine months ($0.71 per share) and $400 million of share repurchases. The company had approximately $712.5 million remaining under its $1 billion repurchase authorization at September 30.
- MMC contributed approximately $552 million to defined-benefit plans during the nine months, including $250 million to U.K. plans and $70 million of discretionary Canadian contributions. It expected approximately $102 million of further contributions in the remainder of 2013. The filing cites approximately $1.7 billion of net pension liabilities for underfunded plans.
Changes, outlook and risks
- Q3 effective tax rate rose to 32.1% from 26.8%, partly because the 2012 quarter included discrete tax benefits. The nine-month rate was 30.1% versus 29.2%. Management noted sensitivity to earnings mix, repatriation, tax examinations and possible U.S. tax-law changes.
- Investment income was $14 in Q3 2013 versus a $4 loss in Q3 2012; nine-month investment income was $58 versus $20. Results included recognition of deferred Trident III performance fees ($13 in Q3 and $34 year-to-date). A further approximately $43 million of Trident III performance fees remained deferred; timing of recognition is unknown and outside MMC’s control.
- MMC completed six acquisitions in the first nine months, with total consideration of $156, including $37 of deferred and estimated contingent consideration. Acquired businesses contributed approximately $13 of revenue and no net operating income in the periods reported. The annual goodwill impairment review found no impairment.
- Management provided no specific revenue, earnings or margin guidance in the supplied filing text. It expected continued pension contributions and described repatriation plans as dependent on earnings and cash needs; some foreign cash was considered permanently invested.
- Key risks include errors-and-omissions claims, pending litigation and regulatory inquiries, pension funding needs, foreign exchange and interest-rate exposure, acquisitions and contingent payments, client and employee retention, competition, cybersecurity and data protection, and tax uncertainty. The company said it could not reasonably estimate possible losses for certain developing claims; adverse outcomes could materially affect future results, financial condition or cash flows.
- Market sensitivities disclosed: a 10% move in major currencies against the U.S. dollar, held constant for a year, was estimated to change annual operating income by approximately $50 million. An 8-basis-point change in short-term rates was estimated to affect annual interest income, including fiduciary funds, by approximately $1 million.
Most important facts for investors to verify
- Whether underlying revenue growth and segment operating margins continued after September 30, especially in Consulting and Risk and Insurance Services.
- Cash conversion and working-capital trends, given operating cash flow declined year over year despite higher net income.
- Debt, liquidity and the cash impact of the October note redemption, pension contributions, dividends and continued repurchases.
- Actual pension funding requirements following U.K. plan valuation negotiations, and the effect of asset returns and discount rates on pension obligations.
- Realization and potential reversal of deferred Trident III performance fees, contingent acquisition liabilities, and the outcome of litigation, tax matters and the Mercer subpoena concerning New York public pension funds.