Moody’s Corporation — Q2 2010 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2010. Amounts are in millions of U.S. dollars, except per-share data. Moody’s reports Moody’s Investors Service (MIS), its ratings business, and Moody’s Analytics (MA), its research, data, software and services business.
Financial performance
| Metric | Q2 2010 | Q2 2009 | Six months 2010 | Six months 2009 |
|---|---|---|---|---|
| Revenue | $477.8 | $450.7 | $954.4 | $859.6 |
| Operating income | $190.5 | $187.2 | $387.3 | $336.1 |
| Operating margin | 39.9% | 41.5% | 40.6% | 39.1% |
| Net income attributable to Moody’s | $121.0 | $109.3 | $234.4 | $199.5 |
| Diluted EPS | $0.51 | $0.46 | $0.99 | $0.84 |
| Effective tax rate | 31.1% | 36.4% | 34.2% | 36.1% |
- Q2 revenue rose 6%; first-half revenue rose 11%. First-half growth excluding favorable foreign-exchange translation was $82.1 million.
- Ratings revenue benefited mainly from bank-loan issuance and, in the first half, high-yield corporate debt and banking-related issuance. MA growth was led by risk management software (RMS); professional services revenue declined in the first half.
- Q2 operating expenses increased $23.8 million, with SG&A up $20.8 million, reflecting higher compensation, technology investment, and legal and litigation costs. First-half expenses increased $43.6 million. First-half operating income increased 15%; Q2 operating income increased 2%.
- The lower effective tax rate primarily reflected completed tax audits, recognition of unrecognized tax benefits, and lower taxes on foreign income. Favorable Legacy Tax Matter resolutions benefited EPS by about $0.02 in both Q2 and the first half of 2010.
Cash flow, liquidity and debt
- First-half operating cash flow was $304.0 million, versus $324.5 million in 2009. Investing cash outflow was $33.3 million; financing cash outflow was $223.8 million. Cash increased $12.0 million to $485.9 million, after a $34.9 million adverse foreign-exchange effect.
- At June 30, cash and cash equivalents were $485.9 million and short-term investments were $7.7 million. Total debt was $1,106.4 million, including $356.4 million of commercial paper; debt was $1,193.7 million at year-end 2009. The company reported $1.1 billion of debt and approximately $644 million of additional capacity.
- Current assets were $960.0 million and current liabilities $1,094.2 million. Moody’s had a shareholders’ deficit of $491.9 million. It reported compliance with debt covenants and no cross-defaults at quarter-end; the maximum Debt/EBITDA covenant was 4.0 to 1.0.
- Capital allocation included $99.9 million of share repurchases in the first half and $49.5 million of dividends paid. The board declared a quarterly dividend of $0.105 per share for payment in September 2010. The company had $1.3 billion of remaining share-repurchase authorization at June 30.
Material changes and outlook
- Management reaffirmed full-year 2010 diluted EPS guidance of $1.75–$1.85. It expected revenue growth in the mid-single digits, expense growth in the mid- to high-single digits, operating margin in the high-thirties, and an effective tax rate of 34%–35%.
- MIS full-year revenue was expected to grow in the mid-single digits: U.S. growth in the low double digits, with non-U.S. revenue expected to decline in the low single digits. Corporate finance was forecast to grow in the high teens to low twenties; structured finance was expected to decline in the high single to low double digits.
- MA revenue was expected to grow in the mid-single digits, including low-single-digit growth in research, data and analytics; low-double-digit growth in RMS; and mid-single-digit growth in professional services. Management estimated new regulatory compliance costs at approximately $15 million in 2010 and $15–$25 million in 2011.
- Management said outlook depends on uncertain macroeconomic and capital-market conditions. It expected positive operating cash flow over the next 12 months and intended to maintain the dividend and repurchase shares at modest levels, subject to cash flow and other capital-allocation decisions.
Risks, contingencies and unusual items
- On March 18, 2010, MIS received an SEC Wells Notice concerning its 2007 NRSRO registration application and a rating-committee policy violation. Moody’s disputed the SEC staff’s stated theory and submitted a response; the notice was not a finding of wrongdoing.
- The company described ongoing government inquiries and litigation involving ratings, structured-finance products and alleged disclosures, as well as an SEC and Department of Justice investigation involving its Wall Street Analytics unit. Management said pending non-tax matters were not likely to materially affect consolidated financial position, but could materially affect results in an individual period.
- Recorded Legacy Tax Matter liabilities were $57.0 million at June 30; the company cautioned that the ultimate liability could be higher and materially affect future results, financial position or cash flows. Contractual-obligations disclosures also excluded $226.1 million of net long-term tax liabilities because payment timing could not be reasonably estimated.
- The Dodd-Frank Act was signed on July 21, 2010. Moody’s cited potential increases in compliance costs, legal exposure and regulatory requirements, and possible effects on rating demand, pricing and operations. EU CRA regulation was also expected to apply in the third quarter of 2010.
- Other notable exposures include long-term office leases and build-out costs. The company reported approximately $572 million of remaining 7 World Trade Center lease payments and expected about £13 million of Canary Wharf build-out costs over the following 12 months.
Most important facts for investors to verify
- Whether full-year EPS and segment revenue guidance remained achievable as credit-market and issuance conditions changed.
- Whether increased legal, litigation and regulatory costs persist, and how the SEC Wells Notice and other proceedings develop.
- The scope and cash-flow timing of Legacy Tax Matter and other uncertain tax liabilities.
- Whether first-half cash generation can sustain dividends, share repurchases, debt service and planned property spending.
- Whether MA revenue growth—particularly RMS—translates into improved segment profitability, given expense growth and nearly flat segment operating income.