SPGI

SEC Filing Summary: The McGraw-Hill Companies, Inc. (10-Q)

Business Context and Reporting Period

This Quarterly Report on Form 10-Q covers the period ended September 30, 2007. The registrant is The McGraw-Hill Companies, Inc., a diversified information company operating through three primary segments: McGraw-Hill Education, Financial Services (Standard & Poor's), and Information & Media. The financial statements have been reviewed by Ernst & Young LLP but are unaudited.

Key Financial Metrics (Nine Months Ended Sept 30, 2007)

Note: Debt increase is primarily due to short-term commercial paper and promissory notes utilized for share repurchases and working capital.

Material Changes vs. Prior Period

• Revenue Growth: Driven by an 18.3% increase in Financial Services revenue and an 8.0% increase in McGraw-Hill Education revenue. Service revenue grew 14.6% while product revenue grew 7.5%.
• One-Time Gains: Net income included a $17.3 million pre-tax gain from the sale of the mutual fund data business (Financial Services) and a $4.1 million gain from a product line divestiture (Education).
• Restructuring: The prior year (2006) included $15.4 million in restructuring charges, whereas 2007 had no new restructuring charges, only payments against prior reserves.
• Debt Structure: Short-term borrowings increased significantly to $1.33 billion (up from $235 million in 2006) to fund a $1.9 billion share repurchase program and manage seasonal working capital needs.
• Stock-Based Compensation: Total expense decreased to $94.4 million in 2007 from $106.2 million in 2006, partly due to the elimination of the restoration stock option program in 2006 which included a one-time charge.

Guidance, Outlook, and Risks

• Financial Services Outlook: Management expects global issuance levels to decline significantly in Q4 2007, particularly in structured finance (RMBS and CDOs), due to credit market conditions. U.S. RMBS issuance is projected to drop 70-75% in Q4 compared to the prior year.
• Education Outlook: The 2007 adoption market is estimated between $780 million and $820 million, compared to $685 million in 2006.
• Legal Proceedings:
  • Parmalat Litigation: Ongoing lawsuit in Italy alleging inflated ratings; damages claimed exceed €4 billion. Company intends to vigorously contest.
  • Subprime Mortgage Litigation: New lawsuits filed in California and D.C. regarding ratings of subprime mortgage-backed securities. Company believes claims are without merit.
  • Regulatory Scrutiny: Subject to investigations by the SEC, NY Attorney General, and Connecticut Attorney General regarding rating practices and conflicts of interest.
• Capital Allocation: The company repurchased 30 million shares for $1.9 billion in the first nine months of 2007. 35 million shares remain authorized under the 2007 repurchase program.

Investor Verification Checklist

• Debt Maturity Profile: Verify the average term of the $1.33 billion in short-term debt (currently 40 days) and the company's ability to refinance or repay as maturities approach.
• Structured Finance Exposure: Assess the sensitivity of Q4 and full-year 2008 Financial Services revenue to the projected 70-90% decline in RMBS and CDO issuance.
• Legal Contingencies: Monitor the status of the Parmalat litigation and subprime-related lawsuits for any potential material adverse judgments or settlements.
• Adoption Cycle Timing: Confirm the realization of the $780-$820 million adoption market estimate for McGraw-Hill Education, noting the seasonal nature of these revenues.
• Share Repurchase Impact: Evaluate the sustainability of the aggressive buyback program ($1.9 billion YTD) against future cash flow projections if operating margins compress due to market conditions.