Aon plc — Q2 2020 Form 10-Q Summary
Business context and reporting period
Aon is a global professional services firm providing risk, retirement, and health solutions. This unaudited filing covers the quarter and six months ended June 30, 2020, compared with the same 2019 periods. Results reflect COVID-19 disruption. Aon completed its reorganization to an Irish parent on April 1, 2020.
Financial results
Unless noted otherwise, amounts are in millions of U.S. dollars.
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Revenue | $2,497 | $2,606 | $5,716 | $5,749 |
| Operating income | $594 | $413 | $1,627 | $1,285 |
| Operating margin | 23.8% | 15.8% | 28.5% | 22.4% |
| Net income from continuing operations | $410 | $287 | $1,202 | $963 |
| Diluted EPS from continuing operations | $1.70 | $1.14 | $5.00 | $3.85 |
| Adjusted operating margin (non-GAAP) | 26.8% | 24.4% | 31.8% | 29.5% |
| Adjusted diluted EPS (non-GAAP) | $1.96 | $1.87 | $5.65 | $5.19 |
- Q2 revenue fell 4%; management attributed the decline mainly to 2% foreign-exchange impact, 1% organic decline, and 1% lower fiduciary investment income. First-half revenue fell 1%, despite 2% organic growth.
- Q2 operating expenses declined $290 million, notably reflecting lower restructuring charges, favorable currency effects, lower amortization, and temporary discretionary-spending reductions. These factors more than offset $18 million of WTW transaction costs. The 2019 comparison included $127 million of restructuring expense in Q2 and $218 million in the first half; the restructuring plan had closed by year-end 2019.
- Interest expense increased to $89 million in Q2 and $172 million in the first half, primarily because of higher term debt and commercial paper borrowings. The six-month effective tax rate was 18.6%, versus 15.9% in 2019; favorable discrete items included share-based payments and release of a U.K. deferred-tax valuation allowance.
- Six-month operating cash flow was $1,219 million, versus $361 million; free cash flow, a non-GAAP measure, was $1,130 million, versus $255 million. Management cited working-capital actions, temporary salary reductions, lower restructuring cash outlays, and operational improvement. Capital expenditures were $89 million.
- At June 30, cash and cash equivalents were $757 million and short-term investments were $654 million. Total debt was approximately $8.0 billion, up $0.7 billion from year-end 2019. Aon had $1.65 billion of committed credit facilities available and no borrowings under them; it reported covenant compliance. Fiduciary assets and matching liabilities were $13.794 billion and are not available for general corporate use.
Material changes and business-line trends
- Q2 organic revenue was down 1% overall. Reinsurance Solutions grew 9% organically; Commercial Risk Solutions grew 1%. Retirement Solutions declined 1%, Health Solutions declined 18%, and Data & Analytic Services declined 8%.
- Health Solutions was particularly weak: reported Q2 revenue fell 19% to $258 million. In addition to COVID-related employment, renewal, timing, and discretionary-service impacts, results included a one-time $16 million negative revenue adjustment for prior-period revenue identified during implementation of a new system.
- For the first half, organic growth was 9% in Reinsurance and 3% in Commercial Risk; Retirement declined 1%, Health declined 4%, and Data & Analytic Services declined 3%. Travel and events weakness affected Data & Analytic Services.
- Aon issued $1 billion of 2.80% senior notes due 2030 and used part of the proceeds to redeem $600 million of 5.00% notes, recognizing a $7 million extinguishment loss. Share repurchases were suspended in Q2; first-half repurchases totaled $463 million. Shares outstanding averaged 233.6 million diluted in Q2, down from 242.8 million.
- Six acquisitions were completed in the first half for $368 million net of acquired cash; one business was sold for $30 million net proceeds. Goodwill increased to $8.356 billion. Aon wrote off $1.0 billion of fully amortized tradenames, including Hewitt and Benfield; the filing says it no longer expects economic benefits from them.
Outlook, risks, and contingencies
- Aon provided no numerical full-year earnings or revenue guidance in the supplied filing text. Management said the duration and severity of COVID-19 impacts could not be estimated; it expected operations, revenue, earnings, and cash flows to be adversely affected depending on economic conditions and regulatory responses. Core revenues had not significantly decreased in Q2, while more discretionary project-related work weakened.
- Management described liquidity as strong and expected cash flows, cash, credit facilities, commercial paper access, and capital markets to meet foreseeable needs. Salaries temporarily reduced in Q2 were restored at quarter-end, with withheld amounts to be repaid in Q3. Aon was considering limited second-half share repurchases, subject to conditions and WTW transaction restrictions.
- Aon and Willis Towers Watson agreed to a share-for-share combination: WTW holders would receive 1.08 Aon shares per WTW share. Completion was expected in the first half of 2021, subject to approvals and other conditions. CFIUS had concluded its review without unresolved national-security concerns; shareholder meetings were expected August 26, 2020.
- Credit ratings were S&P A- / A-2, Moody’s Baa2 / P-2, both Stable; Fitch BBB+ / F-2, Negative outlook. A downgrade could raise borrowing costs or limit market access.
- Material uncertainties include COVID-19, integration and completion risks for the WTW combination, currency and interest-rate changes, leverage, pensions, regulation, and litigation. Aon estimated reasonably possible losses for described legal matters, in excess of accrued amounts and excluding insurance, at $0 to $100 million. Specific matters include a New Zealand arbitration seeking NZD 528 million plus interest and costs, a U.S. client claim seeking $45–$85 million, and aviation-broking competition investigations whose impact Aon said it could not estimate.
- Other disclosed exposures include guarantees related to the divested business: maximum potential lease payments of $62 million and performance-guarantee payments of $127 million; contingent client premium-payment guarantees of $89 million; and $73 million of letters of credit. These are maximum or contingent amounts, not expected losses.
Important facts for investors to verify
- Whether organic revenue, particularly in discretionary services and Health Solutions, stabilizes as COVID-19 effects evolve.
- How much of the large operating-margin and cash-flow improvement is sustainable versus restructuring comparisons, temporary cost controls, working-capital timing, and other items.
- Debt maturities, commercial-paper usage, interest costs, credit ratings, and covenant headroom; distinguish corporate liquidity from fiduciary assets.
- Approval, timing, financing, integration costs, and expected benefits of the WTW combination, including transaction-related restrictions on capital allocation.
- Developments in the disclosed litigation and regulatory investigations, and whether estimates of potential losses or guarantees change.
- The basis and future implications of the $16 million Health revenue adjustment and the tradename write-off; compare reported results with the company’s non-GAAP reconciliations.