Willis Towers Watson plc — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; unaudited. Willis Towers Watson is a global advisory, broking and solutions company. Comparisons are affected by the January 2016 merger and related purchase-accounting, integration and restructuring items.
Financial performance
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Total revenue | $2.319 billion | $2.234 billion |
| Income from operations | $463 million | $326 million |
| Net income attributable to WTW | $344 million | $238 million |
| Diluted EPS | $2.50 | $1.75 |
| Operating margin | 20% | 15% |
| Net cash from operating activities | $95 million | $119 million |
| Free cash flow | $33 million | $71 million |
- Revenue rose 4% as reported and 6% on a constant-currency and organic basis; currency translation reduced revenue by $50 million. All segments grew. Exchange Solutions revenue increased 10% as reported.
- Adjusted operating income was $681 million versus $646 million; adjusted EBITDA was $708 million versus $671 million; adjusted diluted EPS was $3.71 versus $3.41. These are non-GAAP measures defined by the company.
- GAAP profit growth reflected higher revenue and $52 million lower total costs of providing services. The prior-year comparison included a $50 million Stanford litigation provision and $32 million of merger-related deferred-revenue purchase-accounting adjustment; these were absent in Q1 2017.
- Effective tax rate was 11.6%, up from 6.9%, primarily due to $19 million of U.S. tax expense from an internal reorganization. Interest expense was $46 million in both periods.
- Cash and equivalents were $901 million at quarter-end, versus $870 million at year-end 2016. Cash from operations declined mainly because higher revenue had not yet been collected. Fiduciary assets and matching liabilities were each $12.266 billion; fiduciary funds are generally unavailable for corporate use.
- Total debt was $4.095 billion, versus $3.865 billion at year-end; shareholders’ equity was $10.278 billion. The capitalization ratio rose to 28.5% from 27.7%. The company reported compliance with financial covenants.
- Current assets were $15.795 billion and current liabilities $14.585 billion; these totals include the equal fiduciary asset and liability balances. The $1.25 billion revolving facility had $182 million available to draw at quarter-end.
Material changes and management commentary
- Human Capital and Benefits reported segment revenue of $955 million, Corporate Risk and Broking $655 million, Investment, Risk and Reinsurance $507 million, and Exchange Solutions $179 million. Segment allocations and business assignments were revised for 2017; prior comparatives were recast.
- Management cited strong demand and utilization in Human Capital and Benefits overall, but weaker North American Talent and Rewards consulting. Corporate Risk and Broking growth was led by international business and Western Europe, while North America declined slightly. Exchange Solutions benefited from annual enrollment and new clients.
- The company expects Exchange Solutions revenue growth to slow to around 10% in 2017 as retiree enrollment stabilizes, while active exchange growth is expected to remain strong. The filing provides no clear overall full-year revenue or EPS guidance.
- Management expects $130 million of 2017 restructuring charges in the final year of the Operational Improvement Program, bringing cumulative charges to approximately $440 million. It estimates about $188 million of additional 2017 fixed-asset and internal-software spending.
- A new $1.25 billion revolving credit facility maturing in 2022 replaced the prior $800 million facility. WTW repaid 6.2% senior notes due 2017. Management was considering up to $700 million of longer-term debt financing, subject to market conditions.
- The company repurchased 1.237 million shares for $156 million in Q1. Approximately $978 million of repurchase authority remained, with the company intending to repurchase up to that amount during the remainder of 2017 and 2018, subject to conditions. The quarterly dividend was raised to $0.53 per share.
- Management said it believes available cash, operating cash flow and revolving facilities are sufficient for the next 12 months. It characterized Brexit’s near-term effects as uncertain and expected the impact to be neutral to slightly positive over the next couple of years; currency hedging is intended to mitigate fluctuations.
Risks, contingencies and unusual items
- Stanford litigation: The company’s $120 million settlement remains subject to final court approval and bar orders; objections have been raised and the court had reserved its decision. The company warns resolution could differ from the recorded provision.
- Other litigation: The City of Houston’s expert asserted approximately $430 million of damages through July 1, 2017 and about $400 million in future damages on a present-value basis; WTW disputes the claims and could not estimate a probable loss range. Meriter seeks approximately $135 million, with no loss range estimated beyond amounts accrued.
- CalPERS: A $9.75 million settlement in principle in the Elma Sanchez matter requires court approval and other conditions.
- Regulatory investigation: The U.K. Financial Conduct Authority opened a formal investigation into possible agreements or concerted practices in aviation broking, a business representing less than $100 million of revenue. WTW is cooperating and cannot estimate a potential loss.
- Other disclosed risks include softening insurance markets, competition, integration and retention challenges, litigation and regulatory outcomes, foreign-exchange exposure, pension obligations, cybersecurity and data protection, and uncertainty related to Brexit. The filing reported no material change to previously disclosed risk factors or market-risk exposure.
- Accounting changes include adoption of share-based compensation guidance and early adoption of intra-entity asset-transfer tax guidance, which reduced opening retained earnings by $3 million. The company plans to adopt the new revenue standard in 2018 and expects some revenue-recognition timing changes, notably for Retiree Medicare Exchange commissions.
Most important facts for investors to verify
- Whether revenue growth and margin improvement persist after adjusting for currency, merger accounting, litigation and other non-GAAP exclusions.
- Cash conversion and collections: operating cash flow and free cash flow fell year over year despite higher earnings.
- Debt refinancing plans, revolver availability, covenant headroom and the effect of additional borrowing on leverage.
- Final approval and payment timing for the Stanford settlement, and developments in the Houston, Meriter, CalPERS and FCA matters.
- Delivery of expected restructuring savings, the Exchange Solutions growth outlook, and the planned share repurchases and dividends.