MSCI Inc. — Q3 2011 Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2011. Financial statements are unaudited. Comparisons use the three and nine months ended August 31, 2010, respectively, because MSCI changed its fiscal year-end to December 31; these are not September 2010 comparisons. RiskMetrics and Measurisk were acquired in 2010, affecting comparability.
Business context
MSCI supplies investment decision-support products, including indices, portfolio and risk analytics, and corporate governance research and services. It reports two segments: Performance and Risk, and Governance. Revenue is primarily recurring subscription and licensing revenue, with index asset-based fees also significant.
Financial results
| Metric | Q3 2011 | Comparable 2010 period | Nine months 2011 | Comparable 2010 period |
|---|---|---|---|---|
| Revenue | $225.0m | $202.7m | $674.8m | $449.6m |
| Operating income | $82.2m | $41.4m | $240.4m | $135.4m |
| Operating margin | 36.5% | 20.4% | 35.6% | 30.1% |
| Net income | $49.8m | $10.3m | $129.0m | $61.9m |
| Diluted EPS | $0.40 | $0.08 | $1.05 | $0.55 |
| Operating cash flow | Not presented for the quarter | $174.9m | $121.2m |
Q3 revenue rose 11.0%; operating income nearly doubled. Lower expenses versus the prior comparator included the absence of $13.7m in prior-year RiskMetrics acquisition costs and a $1.0m restructuring benefit, including a reserve reversal. For the nine months, reported revenue rose 50.1%, but approximately $169.5m of the increase reflected acquired businesses. Against prior-year pro forma combined results, revenue increased 11.9%, operating income 35.4%, and net income 59.9%.
Q3 revenue growth was led by Index and ESG products (+20.4%, including asset-based fees +39.4%) and Risk Management Analytics (+13.3%). Governance revenue declined 5.0%; portfolio management analytics was nearly flat and energy and commodity analytics declined. Nine-month pro forma growth was supported by benchmark subscriptions, index-linked asset fees, and risk analytics.
Q3 tax expense was $20.5m, with a 29.2% effective tax rate, versus 50.0% in the comparator period. The nine-month effective rate was 33.3%, versus 39.6%. Management attributed the differences principally to higher income and a lower rate, including discrete tax items.
Cash, debt and liquidity
- At September 30, cash and cash equivalents were $221.6m and short-term investments were $142.8m; total current assets were $632.4m and current liabilities were $433.9m.
- Nine-month operating cash flow was $174.9m; investing cash outflow was $86.6m, including $16.8m of capital expenditures; financing cash outflow was $134.4m. Cash at period-end was $221.6m.
- Debt carrying value was approximately $1.114bn, comprising $10.3m current maturities and $1.104bn long-term debt. The 2011 Term Loan principal was $1.125bn and matures in March 2017; the revolving facility is $100m and matures in June 2015.
- The term loan was repriced in March 2011 to LIBOR plus 2.75%, subject to a leverage-based stepdown, with a 1.00% LIBOR floor. The filing reports a 4.16% effective combined rate on hedged and unhedged debt for the nine months. Two swaps covered $420.8m of notional debt.
- At quarter-end, the company reported a 2.56:1 consolidated leverage ratio and 7.65:1 interest coverage ratio, within stated covenant limits. Debt is secured by substantially all domestic assets and subject to restrictive covenants and mandatory excess-cash-flow prepayments.
Outlook, commentary and material risks
- No specific revenue, earnings, margin, or cash-flow guidance is provided. Management said it intends to invest in products, technology, sales, client support, and global operations, while aiming over time for expense growth below revenue growth. Interim results may not indicate full-year performance.
- Run Rate was $876.2m at September 30, up 8.1% year over year but down 1.3% sequentially. Total retention was 91.3% for the quarter and 91.6% for the nine months. Run Rate is a company-defined forward-looking measure, not a revenue forecast; asset-based fees and market movements can cause actual revenue to differ.
- Assets in ETFs linked to MSCI indices were $290.1bn at September 30, down 19.5% from June 30, reflecting a $70.4bn market depreciation. Management noted that asset-based revenue depends on markets, fund flows, client pricing, and continued use of MSCI indices.
- BlackRock, which generated 8.4% of nine-month 2011 revenue, announced it was seeking regulatory clearance to create indices for its own ETFs. MSCI cautioned that clients may switch indices or negotiate lower asset-based fees.
- Foreign exchange movements affect reported revenue, expenses, and index-linked fees. The filing also identifies interest-rate exposure, dependence on electronic delivery and internet systems, and risks from unauthorized access to confidential client data.
- MSCI entered into a new New York headquarters lease: approximately 126,000 square feet, aggregate base rent of about $170.1m over the initial term plus customary expenses. Rent begins in February 2013; the initial lease term runs to February 2033, with an early termination option subject to conditions and a fee.
- The company reported ongoing tax examinations, including U.S., New York, U.K., and Japan matters; it expects to settle certain New York issues during 2012 and indemnify Morgan Stanley for applicable assessments. Management considers its tax reserves adequate, but says future income-statement effects could be material in a particular period. Management did not expect pending legal matters, individually or together, to have a material effect based on information then available.
- RiskMetrics-related restructuring continued; $3.5m of expense was recorded for the nine months, and management said additional costs could occur. Goodwill tests on June 1 and July 1, 2011 found no impairment. The interim statements received an independent accountant review, not an audit.
Important facts for investors to verify
- Separate organic growth from acquisition-driven growth, especially in nine-month results and risk analytics.
- Track ETF-linked assets, market sensitivity, client concentration, and the competitive implications of BlackRock’s planned indices.
- Confirm debt balances, revolver availability, covenant headroom, required cash-flow prepayments, and the effect of variable rates and swaps.
- Assess whether Governance revenue weakness and sequential Run Rate decline persist, and whether reported retention translates into realized revenue.
- Monitor restructuring costs, tax examinations and uncertain tax benefits, the new headquarters lease commitment, and cybersecurity and service-continuity controls.