Moody’s Corporation — Q2 2014 Form 10-Q
Reporting period: Three and six months ended June 30, 2014; comparisons are with the corresponding 2013 periods unless noted. Moody’s operates Moody’s Investors Service (MIS), its ratings business, and Moody’s Analytics (MA), its non-rating research, data, software, risk-management, and professional-services business. Financial amounts are in U.S. dollars.
Financial performance
| Metric | Q2 2014 | Q2 2013 | H1 2014 | H1 2013 |
|---|---|---|---|---|
| Revenue | $873.5m | $756.0m | $1,640.7m | $1,487.8m |
| Operating income | $411.7m | $350.8m | $744.7m | $631.2m |
| Operating margin | 47.1% | 46.4% | 45.4% | 42.4% |
| Net income attributable to Moody’s | $319.2m | $225.5m | $537.2m | $413.9m |
| Diluted EPS | $1.48 | $1.00 | $2.47 | $1.83 |
| Adjusted operating income | $434.0m | $373.9m | $790.1m | $677.9m |
| Adjusted operating margin | 49.7% | 49.5% | 48.2% | 45.6% |
Adjusted operating measures and non-GAAP EPS are company-defined non-GAAP measures. Q2 and H1 2014 diluted EPS included a $0.36-per-share benefit from the $102.8m pretax ($78.5m after-tax) ICRA remeasurement gain. Excluding that gain, non-GAAP diluted EPS was $1.12 for Q2 and $2.11 for H1. H1 2013 non-GAAP EPS was $1.97 after excluding a $0.14-per-share litigation-settlement charge.
Segments and performance drivers
- MIS: Q2 external revenue was $621.7m, up 16%; adjusted operating income was $374.7m and adjusted margin 58.2%. Growth reflected high-yield corporate debt, bank loans, CLOs and infrastructure finance, along with pricing and fee-mix changes. U.S. public-finance refunding volumes were a partial offset.
- MA: Q2 external revenue was $251.8m, up 15%; adjusted operating income was $59.3m and adjusted margin 23.2%, down from 24.3%. RD&A and ERS grew; Professional Services growth included Amba, acquired in December 2013. Higher costs outpaced revenue growth at the adjusted-margin level.
- For H1, MIS external revenue rose 8% to $1,147.5m and MA external revenue rose 15% to $493.2m. H1 MA adjusted margin was 22.8%, versus 23.5%.
Q2 revenue grew 16% and H1 revenue 10%. Q2 operating income increased 17%; H1 increased 18%. The H1 margin comparison also benefited from a litigation settlement charge in 2013. Transaction revenue represented 53% of consolidated Q2 revenue and 51% for H1.
Cash flow, liquidity and debt
- H1 operating cash flow was $458.0m, versus $369.1m; free cash flow was $419.2m, versus $351.0m. Capital additions were $38.8m, compared with $18.1m.
- Cash and cash equivalents were $1,777.3m at June 30, 2014, down from $1,919.5m at year-end 2013; short-term investments were $182.0m. Approximately $1.4bn of cash and short-term investments was held outside the U.S., and the filing says most of the non-U.S. balance was held by entities with indefinitely reinvested earnings.
- Long-term debt was $2,104.5m; the company reported $1.0bn of unused revolving-credit capacity and compliance with debt covenants. It reported no cross-defaults.
- H1 financing cash outflow was $501.2m, including $459.7m of share repurchases and $119.2m of dividends. Moody’s expected approximately $1bn of repurchases in 2014, subject to cash availability, market conditions, and capital-allocation decisions.
Outlook, material events and risks
- 2014 outlook was raised: revenue growth guidance moved to the low-double-digit range from high-single-digit; operating-expense growth to high-single-digit from mid-single-digit. Guidance included operating margin of 42%–43%, adjusted operating margin of 45%–46%, an approximately 33% effective tax rate, capital expenditures of about $90m, free cash flow of about $900m, and non-GAAP diluted EPS of $3.90–$4.00. GAAP diluted EPS guidance was $4.26–$4.36, including the ICRA gain.
- Management’s outlook assumed quarter-end foreign-exchange rates and depended on uncertain macroeconomic and capital-market conditions, including interest rates, debt issuance, corporate profitability, M&A activity, borrowing and securitization.
- On June 26, Moody’s increased its ICRA ownership from 28.5% to 50.06%, obtaining control. It recognized the remeasurement gain and began consolidating ICRA’s balance sheet; results would be consolidated on a three-month lag, with only one quarter of ICRA operating results expected in 2014. The purchase-price allocation and acquired-asset useful lives were not final.
- After quarter-end, Moody’s issued $450m of 2.75% notes due 2019 and $300m of 5.25% notes due 2044, intending to retire the $300m Series 2005-1 Notes and use remaining proceeds for general corporate purposes. It also acquired WebEquity Solutions on July 17 and declared a $0.28 quarterly dividend.
- Risks include sensitivity of ratings revenue to capital-market issuance and economic conditions; extensive and evolving regulation of rating agencies; litigation and government inquiries relating to ratings; tax audits and legacy tax matters; foreign-exchange movements; cybersecurity and operational risks; and acquisition integration. Moody’s said it could not estimate a range of possible losses for certain legal contingencies. It recorded $17.8m for legacy tax matters and reported $204.5m of unrecognized tax benefits.
- Management said disclosure controls were effective and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Separate recurring operating trends from the one-time ICRA gain and the prior-year litigation-settlement comparison when assessing EPS and margins.
- Track MIS issuance-driven transaction revenue and MA recurring-revenue trends, including MA’s lower adjusted margin and ERS project-timing volatility.
- Review ICRA’s finalized purchase accounting, subsequent consolidated contribution, and noncontrolling-interest effects.
- Assess the refinancing of the Series 2005-1 Notes, post-quarter debt issuance, cash held abroad, and the sustainability of repurchases and dividends.
- Monitor legal proceedings, tax examinations, regulatory changes, and management’s assumptions underlying the raised 2014 outlook.