Business Context and Reporting Period
Company: Marsh & McLennan Companies, Inc. (MMC)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2006
Business Overview: MMC is a global professional services firm operating in four segments: Risk and Insurance Services (Marsh, Guy Carpenter), Risk Consulting & Technology (Kroll), Consulting (Mercer), and Investment Management (Putnam). The company employs approximately 55,000 people in over 100 countries.
Key Financial Metrics (Six Months Ended June 30, 2006)
| Metric | 2006 (YTD) | 2005 (YTD) | Change |
|---|---|---|---|
| Operating Revenue | $6,005 million | $6,047 million | (1%) |
| Operating Income | $735 million | $554 million | +33% |
| Net Income | $588 million | $300 million | +96% |
| Diluted EPS (Net Income) | $1.05 | $0.56 | +88% |
| Cash and Equivalents | $1,375 million | $2,020 million (Dec 31, 2005) | (32%) |
| Total Debt (Short + Long Term) | $5,232 million | $5,542 million (Dec 31, 2005) | (6%) |
| Operating Cash Flow | ($375 million) used | ($377 million) used | Flat |
Note: Net Income for 2006 includes a $177 million gain from discontinued operations (sale of Sedgwick Claims Management Services). Income from Continuing Operations was $411 million.
Material Changes vs. Prior Period
- Profitability Surge: Operating income increased 33% year-over-year, driven primarily by a 4% reduction in operating expenses due to restructuring savings and lower legal/regulatory costs, despite a 1% decline in revenue.
- Discontinued Operations: The 2006 results include a significant one-time gain of $177 million (net of tax) from the sale of Sedgwick Claims Management Services (SCMS) in January 2006. Additionally, the U.K. wholesale operation, Price Forbes, was classified as a discontinued operation.
- Segment Performance:
- Risk & Insurance: Revenue declined 6% (3% underlying) due to lower retention rates in Europe and planned reductions in investment sales. However, operating income more than doubled to $407 million due to cost cuts.
- Consulting: Revenue grew 8% (9% underlying), led by Specialty Consulting.
- Investment Management (Putnam): Revenue declined 12% due to a 6% drop in average assets under management ($188 billion vs. $200 billion) and net redemptions of $12.6 billion.
- Accounting Changes: Adoption of SFAS 123(R) resulted in $67 million of stock-based compensation expense in 2006, which was not present in 2005 results.
Guidance, Outlook, and Risks
Management Commentary & Outlook:
- Restructuring: The 2005 restructuring plan is substantially complete. MMC expects to realize approximately $400 million in annual savings, with $160 million realized in 2005 and another $160 million in 2006. Remaining savings are expected in late 2006 and early 2007.
- Headquarters: MMC is vacating excess space in its New York headquarters, incurring approximately $40 million in costs through Q2 2006, with an additional $20 million expected over the next 18 months.
- Tax Rate: The effective tax rate on ongoing operations is expected to be 35% for the remainder of 2006.
Material Risks and Contingencies:
- Regulatory & Litigation (NYAG Settlement): MMC is subject to ongoing litigation and regulatory investigations regarding "market service agreements" (contingent commissions). A $850 million settlement fund was established in 2005; $255 million was paid in June 2006, with $170 million due in 2007 and 2008. Numerous class actions and derivative suits remain pending.
- Putnam Market-Timing: Putnam faces over 70 civil actions regarding market-timing and late trading. While some claims were dismissed, others remain. Putnam has agreed to indemnify funds for liabilities, and MMC has guaranteed these obligations.
- Foreign Exchange: Revenue and expenses are exposed to currency fluctuations, which impacted reported results.
Investor Verification Checklist
- Discontinued Operations Impact: Verify the sustainability of earnings by excluding the $177 million gain from the SCMS sale and analyzing "Income from Continuing Operations" ($411 million) as the primary profitability metric.
- Restructuring Savings Realization: Monitor the realization of the remaining $80 million in expected annual savings from the 2005 restructuring plan in the second half of 2006.
- Putnam Assets Under Management (AUM): Track the trend of net redemptions at Putnam, which declined 6% year-over-year, as this directly impacts the Investment Management segment's revenue.
- Legal Reserves: Review Note 15 for updates on the $850 million NYAG settlement fund payments and the status of pending class actions regarding market service agreements and market-timing.
- Stock-Based Compensation: Note the $67 million expense related to SFAS 123(R) adoption, which will be a recurring cost impacting future margins compared to 2005.