SPGI

Business Context and Reporting Period

This summary covers the Form 10-Q filed by The McGraw-Hill Companies, Inc. for the quarterly period ended September 30, 2005. The Company operates through three primary segments: McGraw-Hill Education, Financial Services (including Standard & Poor's), and Information and Media Services. The reporting period reflects significant strategic activity, including the acquisition of J.D. Power and Associates, Vista Research, and a majority stake in CRISIL Limited, alongside the divestiture of the Corporate Value Consulting (CVC) business.

Key Financial Metrics

Note: All per-share data reflects a two-for-one stock split effective May 17, 2005.

Material Changes vs. Prior Period

• Revenue Growth: Revenue increased 14.8% year-over-year for both the quarter and the nine-month period. Growth was driven by the Financial Services segment (+20.5% for the quarter) and McGraw-Hill Education (+10.7% for the quarter), aided by acquisitions.
• Profitability: Net income rose 17.5% for the quarter and 15.8% for the nine-month period. Operating profit increased 17.5% (quarter) and 18.0% (nine months).
• Acquisitions: The Company spent approximately $455 million on acquisitions in the first nine months of 2005, including J.D. Power and Associates ($520 million asset value) and Vista Research. These contributed significantly to revenue but diluted earnings per share by approximately $0.05 for the nine-month period.
• Divestitures: The sale of the Corporate Value Consulting (CVC) business on September 30, 2005, resulted in a pre-tax gain of $6.8 million.
• Expense Trends: Total expenses increased 13.9% for the quarter, primarily due to a 20% increase in compensation expenses driven by a 7.3% increase in the employee base and higher pension costs due to revised actuarial assumptions.

Guidance, Outlook, and Risks

• Acquisition Impact: Management expects acquisitions to negatively affect diluted earnings per share for the full year 2005 by $0.06 to $0.07.
• Tax Repatriation: The Company is considering repatriating foreign earnings in the fourth quarter of 2005, estimated between $200 million and $230 million. This is expected to incur approximately $10 million in incremental income tax and dilute EPS by $0.03 in Q4.
• Legal Proceedings: A significant lawsuit was filed in Milan, Italy, by the Extraordinary Commissioner of Parmalat. The plaintiff alleges Standard & Poor's negligently assigned inflated ratings to Parmalat prior to its collapse, seeking damages of approximately €4.07 billion. The Company intends to vigorously contest the action.
• Regulatory Environment: The Financial Services segment faces potential increased regulation regarding credit rating agencies (NRSROs) in the U.S. and Europe, though management does not believe current proposals will have a materially adverse effect.
• Seasonality: Educational publishing results are highly seasonal, with the third quarter being the most significant due to state adoption cycles.

Investor Verification Checklist

• Acquisition Integration: Verify the timeline for J.D. Power and Associates and CRISIL to reach profitability and offset the current EPS dilution.
• Legal Exposure: Monitor the status of the Parmalat litigation in Italy and any potential impact on Standard & Poor's reputation or operations.
• Tax Liability: Confirm the final amount of foreign earnings repatriated in Q4 and the associated tax impact on year-end earnings.
• Education Market: Assess the impact of hurricane-related delays in Gulf State textbook adoptions (Mississippi, Louisiana) on 2006 revenue projections.
• Debt Covenants: Review the amended credit facility covenants, specifically the indebtedness to cash flow ratio, to ensure compliance following recent M&A activity.