MSCI Inc. — Q2 2014 Form 10-Q
Reporting period: Three and six months ended June 30, 2014; comparative periods are 2013. Amounts are in U.S. dollars. MSCI provides investment decision-support tools, including indexes, ESG products, and risk and portfolio analytics. Following the April 30 sale of Institutional Shareholder Services (ISS), MSCI reports one continuing operating segment; ISS and the previously sold CFRA product line are presented as discontinued operations.
Financial performance
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Continuing-operations revenue | $254.2m | $228.4m | $493.9m | $447.9m |
| Operating income | $88.5m | $89.9m | $168.0m | $172.8m |
| Operating margin | 34.8% | 39.4% | 34.0% | 38.6% |
| Continuing-operations net income | $56.8m | $56.1m | $103.9m | $109.1m |
| Net income, including discontinued operations | $107.7m | $61.1m | $188.1m | $120.0m |
| Diluted EPS, continuing operations | $0.48 | $0.46 | $0.88 | $0.89 |
| Diluted EPS, total | $0.91 | $0.50 | $1.59 | $0.98 |
- Revenue mix and growth: Q2 revenue rose 11.3%. Index and ESG revenue increased 13.7% to $150.3m, risk management analytics rose 10.7% to $77.7m, and portfolio management analytics grew 0.8% to $26.3m. For the first half, revenue increased 10.3%; portfolio management analytics declined 2.9%.
- Profitability: Operating expenses grew 19.6% in Q2 and 18.5% in the first half, outpacing revenue growth. SG&A and compensation costs were significant contributors. Management cited increased headcount and higher technology, professional services, occupancy, recruiting and other costs. First-half operating income declined 2.7%.
- Cash flow: First-half operating cash flow was $94.1m, down from $156.7m, reflecting higher expenses and cash payments, including income taxes. Investing activities provided $340.9m, largely reflecting ISS sale proceeds; financing used $110.8m, including $108.9m of treasury-share repurchases.
- Liquidity and debt: Cash and equivalents were $683.2m at June 30, versus $358.4m at year-end. Current assets were $1,006.9m and current liabilities $475.5m. Reported debt was approximately $797.9m, net of discounts, comprising $19.8m current and $778.1m long-term. The term loan carried a 2.40% rate; the revolving facility had $100m of capacity. Covenant leverage was 1.88x against a 3.25x maximum, and interest coverage was 21.90x against a 5.00x minimum.
- Operating indicators: Run Rate was $986.5m, up 12.0% year over year. Aggregate retention was 93.0% for the first half, compared with 92.3%; risk analytics retention was lower year over year at 91.3% versus 92.8%. MSCI-indexed ETF assets were $378.7bn at June 30, up 40.4% year over year.
Material changes and unusual items
- ISS was sold for approximately $367.4m cash, subject to final working-capital adjustments. The filing reports a $78.7m gain on sale; discontinued-operations income was $50.9m in Q2 and $84.1m for the first half. Total net income and EPS therefore substantially reflect the divestiture and should be distinguished from continuing performance.
- MSCI revised its December 31, 2013 balance sheet for previously understated tax liabilities. Adjustments included an $11.3m reduction to beginning retained earnings and a $13.6m increase in long-term deferred tax liabilities. The company concluded the corrections were not material to previously issued financial statements and said debt covenant compliance was unaffected.
- The first-half effective tax rate was 34.0%, versus 31.0% in 2013. The 2014 rate included $2.7m of discrete tax benefits; unrecognized tax benefits could change significantly within 12 months, but the company could not estimate the amount or effect.
Outlook, risks and contingencies
- Management said 2014 spending growth in sales, client service, IT and product development was expected to exceed revenue growth and weigh on operating-profit growth. It believes these investments can support higher medium-term revenue and operating-profit growth. No specific full-year financial guidance is provided in the supplied filing text.
- Management stated available cash, operating cash flows and credit capacity should fund operations and commitments for at least the next 12 months. Some foreign cash is subject to repatriation tax or local-law restrictions.
- Market risks include foreign-exchange exposure and variable-rate debt; a hypothetical 100-basis-point LIBOR increase for a year was estimated to add about $7.9m of interest expense. A $13.0m foreign-currency forward was outstanding at quarter-end.
- MSCI announced a planned $15m cash acquisition of GMI Ratings, expected to close in the quarter ending September 30, 2014, subject to customary conditions. The filing also identifies ordinary-course legal matters and ongoing tax examinations; management did not expect pending legal matters to have a material effect based on information then available.
- Management reported effective disclosure controls as of June 30, 2014. The interim financial statements were reviewed by independent accountants, not audited.
Important facts for investors to verify
- Separate continuing results from ISS-related discontinued income and sale gains when assessing earnings growth.
- Track expense growth, operating margins and whether management’s planned investments translate into sustained revenue and profit growth.
- Monitor Run Rate, retention—especially risk analytics—and ETF asset flows, market performance and related asset-based fees.
- Confirm final ISS working-capital adjustments, GMI Ratings closing and purchase terms, and the effects of the tax revision and pending tax examinations.
- Assess debt covenant headroom, the large December 2018 term-loan final payment, interest-rate sensitivity, and cash available after repurchases and restricted-payment requirements.