Business Context and Reporting Period
Company: Morningstar, Inc.
Filing Type: Form 8-K (Current Report)
Date of Report: August 7, 2009
Context: This filing serves as a Regulation FD disclosure containing responses to investor questions regarding the company's business strategy, product development, and operational metrics as of August 2009. The company operates in three major segments: individual investors, financial advisors, and institutions.
Key Financial Metrics and Operational Data
The filing does not provide a full income statement or balance sheet. However, it discloses specific operational and financial data points:
- Headcount: Increased from 2,370 to 2,510 in Q2 2009. Approximately 80 of these additions were from acquisitions; the remainder were organic (primarily in China, with some in the U.S. and Europe).
- Revenue Mix: Approximately 25% of revenue is generated outside the United States.
- Expense Mix: Approximately 33% of operating expenses are denominated in foreign currencies.
- Investment Consulting Renewals: Approximately $7 million in annual contract value is up for renewal in the next six months; approximately $14 million in the next 12 months.
- Managed Portfolios Fees: Morningstar Managed Portfolios typically charge 25 to 55 basis points.
- Operating Margin: The Investment Consulting segment reported an operating margin of nearly 60%.
- Principia Subscriptions: Over 38,000 subscriptions as of June 30, 2009.
Material Changes and Trends
- Product Reclassification: In January 2009, Morningstar reorganized operations, moving "Site Builder" licenses into the "Licensed Tools and Content" product line. Consequently, historical Advisor Workstation license counts have been revised downward to exclude Site Builder licenses.
- Client Consolidation: Industry-wide consolidation and pricing pressure have made client retention more challenging. However, Morningstar is leveraging its scale to help institutions consolidate vendors, particularly through its new DataHub service and Business Process Outsourcing unit.
- Investment Consulting Client Loss: The segment experienced a drop in assets under management due to the non-renewal of two clients (one in October 2008, one in May 2009).
- Advertising Pressure: Morningstar.com is facing pricing pressure from advertisers seeking concessions on new and established contracts, though high-demand inventory pricing remains intact.
Guidance, Outlook, and Risks
Management Commentary and Strategy
- Marketing: The company is not planning to ramp up marketing spending in the short term due to the difficult market environment. It is cutting programs that do not generate positive returns but maintains a global sales and marketing staff of approximately 380 employees.
- Capital Allocation: The primary focus remains on internal uses of cash (capital expenditures, working capital, and M&A). While share repurchases or dividends are not ruled out, they are unlikely in the near term given the company's growth opportunities and the CEO's large ownership stake.
- Acquisitions: The company prefers smaller "bolt-on" acquisitions but remains open to larger deals if they align with key growth strategies (global presence, funds-of-funds leadership, independent research).
- Equity Research: Morningstar expects to continue providing research to two banks previously covered under the Global Analyst Research Settlement (GARS), albeit at lower contract values.
Risks and Contingencies
- Market Volatility: Revenue from asset-based fees is sensitive to market volatility and the global financial crisis.
- Foreign Currency: Significant exposure to the British pound, Euro, Australian dollar, and Canadian dollar on both revenue and expense sides.
- Tax Rate Volatility: The effective tax rate is expected to fluctuate based on the profitability of non-U.S. entities and the realization of foreign net operating losses.
- Technology: Risks include prolonged outages of database and network facilities.
Investor Verification Checklist
- Verify the impact of the January 2009 reclassification on historical Advisor Workstation license growth trends.
- Monitor the renewal rates of the $14 million in Investment Consulting contracts coming up for renewal over the next 12 months.
- Assess the conversion rate of new trial starts to paid Premium memberships on Morningstar.com, as this is identified as a key pipeline metric.
- Track the realization of foreign net operating losses and its potential impact on the effective tax rate.
- Observe the trend in advertising pricing on Morningstar.com to gauge the severity of pricing pressure in the digital ad market.