Morningstar, Inc. 10-Q Summary
Business Context and Reporting Period
Morningstar provides investment data, research, analytics, software, ratings, indexes, investment management, and workplace solutions to institutions, advisors, and individuals. This unaudited Form 10-Q covers the three and six months ended June 30, 2022, compared with the same periods in 2021.
The company completed the $645.5 million acquisition of Leveraged Commentary & Data (LCD) on June 1, 2022, and the $44.9 million acquisition of Praemium Portfolio Services Limited on June 30, 2022. Results include LCD for one month and Praemium only as of the acquisition date.
Financial Performance and Key Metrics
| Metric | Q2 2022 | Q2 2021 | Six months 2022 | Six months 2021 |
|---|---|---|---|---|
| Revenue | $470.4 million | $415.4 million | $927.4 million | $808.2 million |
| Revenue growth | 13.2% | — | 14.7% | — |
| Operating income | $53.9 million | $47.2 million | $110.3 million | $114.4 million |
| Operating margin | 11.5% | 11.4% | 11.9% | 14.2% |
| Net income | $30.1 million | $32.9 million | $76.2 million | $87.8 million |
| Diluted EPS | $0.70 | $0.76 | $1.77 | $2.03 |
| Operating cash flow | $68.7 million | $127.2 million | $92.2 million | $191.4 million |
| Free cash flow | $37.0 million | $108.5 million | $32.5 million | $150.0 million |
- License-based revenue increased 18.1% in the quarter and 17.7% year to date, driven by PitchBook, Sustainalytics, Morningstar Data, and Morningstar Direct. Organic license-based growth was 20.3% and 19.6%, respectively.
- Asset-based revenue increased 4.3% in the quarter and 7.8% year to date. Morningstar Indexes and Workplace Solutions offset weaker Investment Management revenue.
- Transaction-based revenue increased 2.6% in the quarter and 9.5% year to date. DBRS Morningstar revenue was relatively stable in the quarter amid softer issuance and market volatility.
- Q2 adjusted operating income was $73.4 million, compared with $96.4 million in the prior-year quarter; adjusted operating margin was 15.6%, versus 23.2%. Year-to-date adjusted operating income was $155.9 million, compared with $188.7 million.
- Higher compensation, stock-based compensation, professional fees, sales commissions, advertising, marketing, and travel costs pressured margins. The prior-year period also included a $26.6 million M&A-related earn-out that did not recur.
- The Q2 effective tax rate was 19.7%, compared with 29.7%; the year-to-date rate was 24.5%, compared with 24.2%. The quarterly decline primarily reflected the prior-year non-deductible M&A-related earn-out.
Cash Flow, Debt, and Liquidity
- Cash, cash equivalents, and investments totaled $416.8 million at June 30, 2022, down from $546.1 million at December 31, 2021. Cash and cash equivalents alone were $380.2 million.
- Operating cash flow declined 51.8% year to date, principally because of higher bonus payments related to 2021 performance, working-capital timing, M&A-related payments, and lower cash earnings. Capital expenditures rose 44.2% to $59.7 million.
- Total debt, net of issuance costs, was $1.176 billion at June 30, 2022, compared with $359.4 million at year-end 2021. Debt included $598.0 million under the term facility, $230.0 million under the revolving facility, and $348.4 million of 2.32% senior notes due 2030.
- The new 2022 Credit Agreement has initial borrowing capacity of up to $1.1 billion. At quarter-end, $828.0 million was outstanding under the agreement, with $220.0 million of revolving availability and $50.0 million of additional term-facility availability. The company was in compliance with its financial covenants.
- Management stated that cash, investments, operating cash flow, and available credit are expected to meet operating and cash needs for at least the next 12 months.
- The company declared a quarterly dividend of $0.36 per share and repurchased 374,358 shares for $92.5 million during the quarter. The remaining authorization was $195.6 million at June 30, 2022.
Material Changes, Outlook, and Risks
- LCD added substantial goodwill and intangible assets: preliminary goodwill was $385.3 million and acquired intangible assets were $275.6 million. Praemium added preliminary goodwill of $21.9 million and intangible assets of $22.1 million. Purchase accounting remains subject to measurement-period adjustments.
- Goodwill increased to $1.579 billion from $1.207 billion at year-end 2021. Foreign currency translation reduced goodwill by $35.3 million.
- Foreign currency movements reduced Q2 revenue by $12.3 million and first-half revenue by $17.4 million. Other comprehensive loss was $43.9 million in Q2, largely due to foreign currency translation.
- Management highlighted continued demand for subscription products, ESG data, PitchBook, Morningstar Data, and Morningstar Direct. It also noted market declines, interest-rate volatility, inflation, wage pressure, and competition for talent.
- The filing does not provide a clear numerical full-year revenue, earnings, or margin guidance.
- Key risks include integration of acquisitions, increased leverage and variable-rate interest exposure, market-related pressure on asset-based fees and ratings activity, foreign currency volatility, cybersecurity and data-licensing liabilities, regulatory scrutiny of credit ratings and ESG activities, technology and business-continuity risks, and employee retention.
- A $1.15 million SEC settlement involving Morningstar Credit Ratings was paid in Q2 and fully resolved on a neither-admit-nor-deny basis. Data-licensing audits and other regulatory or legal matters remain contingencies, although management does not expect them to have a material adverse effect.
- In July 2022, the company announced a planned shift of its Shenzhen, China operations toward the domestic market over approximately 12 months. The financial impact was still under evaluation.
Investor Verification Points
- Verify the final purchase accounting, contingent consideration, revenue contribution, and integration performance of LCD and Praemium.
- Assess debt repayment capacity, covenant headroom, refinancing needs, and sensitivity to higher SOFR; management estimates a 100-basis-point SOFR change would affect annual interest expense by approximately $8.3 million.
- Determine whether operating cash flow and free cash flow recover after the unusually high bonus payments and acquisition-related cash uses.
- Monitor margin trends, compensation and stock-based compensation growth, capitalized software spending, and the effect of inflation and hiring costs.
- Track foreign exchange exposure, market-driven changes in assets under management and advisement, ratings issuance volumes, and the one-quarter lag in certain asset-based revenues.
- Review subsequent disclosures regarding the Shenzhen transition, tax audits, data audits, regulatory matters, and any changes to the company’s outlook.