Marsh & McLennan Companies, Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018. The company is a global professional services firm operating through Risk and Insurance Services (Marsh and Guy Carpenter) and Consulting (Mercer and Oliver Wyman Group).
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Revenue | $3.734B | $3.495B | $7.734B | $6.998B |
| Operating income | $691M | $701M | $1.599B | $1.450B |
| Net income attributable to company | $531M | $501M | $1.221B | $1.070B |
| Diluted EPS | $1.04 | $0.96 | $2.38 | $2.05 |
| Operating margin | 18.5% | 20.1% | 20.7% | 20.7% |
| Cash provided by operations | — | — | $413M | $343M |
- Q2 revenue rose 7% year over year, or 3% on an underlying basis; first-half revenue rose 11%, or 4% underlying. Underlying growth excludes currency, acquisitions and other comparability effects, including revenue-standard changes.
- Q2 operating income declined 1%; management attributed the result to a 5% decline in underlying operating earnings, chiefly reflecting restructuring costs. First-half operating income increased 10%, including a substantial benefit from the new revenue accounting standard.
- Q2 diluted EPS increased 8% and first-half diluted EPS increased 16%. The company cited lower effective tax rates, higher investment income and fewer diluted shares, in addition to operating factors.
- Q2 segment results: Risk and Insurance Services revenue was $2.096B and operating income $472M (22.5% margin), versus $1.916B and $482M (25.2%) a year earlier. Consulting revenue was $1.650B and operating income $267M (16.2% margin), versus $1.592B and $265M (16.6%).
Cash, debt and liquidity
- Cash and cash equivalents were $1.036B at June 30, down from $1.205B at year-end 2017. First-half operating cash flow was $413M; capital expenditures were $135M.
- Total debt was approximately $6.252B, comprising $439M short-term and $5.813B long-term debt. The company issued $600M of 4.20% senior notes due 2048 in March. Cash less debt was approximately $5.216B.
- A $1.5B revolving credit facility, expiring November 2020, had no borrowings outstanding. Commercial paper capacity is also $1.5B, with $175M outstanding. Senior debt ratings were A- from S&P and Baa1 from Moody’s, both with stable outlooks.
- First-half financing used $232M, including $500M of share repurchases and $383M of dividends paid. First-half investing used $279M, including $144M net cash for acquisitions.
Material changes, outlook and risks
- Revenue accounting: The company adopted the new revenue standard on January 1, 2018 using the modified retrospective method; prior-year comparisons were not restated. Adoption increased opening retained earnings by $364M and accelerated recognition of certain reinsurance brokerage revenue. Relative to legacy accounting, adoption increased reported Q2 revenue by $24M and first-half revenue by $185M, and increased first-half net income by $85M. Management said the standard shifts revenue between quarters but is not expected to materially affect annual revenue.
- Restructuring: Marsh launched an organizational simplification initiative in Q2 and recorded $55M of related severance and consulting costs. Management expected another $25M–$45M of costs. The initiative is intended to improve efficiency and enable reinvestment in people and technology.
- Tax: Effective tax rates were 25.6% in Q2 and 24.7% for the first half, versus 28.6% and 25.9% in the comparable 2017 periods. The company cited the lower U.S. statutory rate and tax planning benefits, partly offset by other TCJA effects. Its 2017 provisional TCJA charge was $460M; first-half 2018 adjustments increased tax expense by $3M, and estimates could change as the analysis is completed.
- Business developments: The company completed 12 acquisitions in the first half for $192M total consideration. It announced an agreement to acquire Wortham Insurance, expected to close in Q3 2018. In July it agreed to sell Marsh ClearSight; the sale was not expected to materially affect ongoing revenue or results.
- Contingencies and risks: The company is cooperating with European Commission investigations into aviation insurance and reinsurance brokerage and commercial motor insurance in Ireland. It said timing, outcome and potential impact could not be predicted; adverse outcomes could materially affect results, financial condition or cash flows. The FCA ended its related U.K. aviation investigation without further action against Marsh. Other risks include professional-liability claims, cybersecurity and data privacy, regulation, foreign exchange and interest-rate movements, and tax uncertainty.
- Investment exposure: Alexander Forbes’ carrying value was $246M versus a June 30 market value of approximately $188M; the company concluded it was not impaired but warned a future impairment could result if the share price does not recover.
- No formal earnings or revenue guidance is provided in the filing. Management’s stated outlook includes expected remaining 2018 pension contributions of approximately $54M and additional Marsh restructuring costs noted above.
Key facts for investors to verify
- How much reported growth reflects underlying business performance versus accelerated revenue recognition, foreign exchange and acquisitions.
- Whether Marsh’s simplification delivers expected efficiencies and what total restructuring charges ultimately reach.
- Final TCJA tax accounting and the timing and amount of foreign-earnings repatriation.
- Developments and potential financial effects of the regulatory investigations, litigation and other contingencies.
- Debt maturities, cash needs, pension funding obligations and the sustainability of buybacks and dividends.
- Whether Alexander Forbes’ market value recovers and whether any impairment becomes necessary.