McGraw Hill Financial, Inc. — Q2 2014 Form 10-Q
Reporting period: Three and six months ended June 30, 2014. The company provided ratings, benchmarks and analytics through S&P Ratings, S&P Capital IQ, S&P Dow Jones Indices and Commodities & Commercial Markets (C&C). The interim financial statements were reviewed by the independent auditor, not audited.
Key financial results
| Metric | Q2 2014 | Q2 2013 | First half 2014 | First half 2013 |
|---|---|---|---|---|
| Revenue | $1,346 million | $1,250 million | $2,581 million | $2,431 million |
| Operating profit | $486 million | $436 million | $916 million | $714 million |
| Operating margin | 36% | 35% | 35% | 29% |
| Income from continuing operations attributable to common shareholders | $292 million | $250 million | $540 million | $403 million |
| Diluted EPS from continuing operations | $1.06 | $0.90 | $1.95 | $1.43 |
| Cash provided by continuing operating activities | — | $459 million | $226 million |
First-half free cash flow, a company-defined non-GAAP measure, was $392 million versus $145 million, after capital expenditures and dividends/payments to noncontrolling interests. Cash and equivalents were $1.617 billion at June 30, 2014, including approximately 60% held abroad. Total current assets were $2.993 billion and current liabilities $2.252 billion.
Long-term debt was $799 million, unchanged from year-end 2013. The company had no commercial paper outstanding and access to a $1.0 billion credit facility, which expires in June 2017. The facility’s maximum indebtedness-to-cash-flow covenant is 3.25 to 1; the company reported it had never exceeded the limit. First-half financing included $362 million of cash share repurchases and $163 million of shareholder dividends. The quarterly dividend was raised to $0.30 per share from $0.28.
Changes and segment performance
- Revenue rose 8% in Q2 and 6% in the first half. Growth reflected subscriptions and transaction-related revenue, with international revenue increasing faster than domestic revenue in both periods.
- S&P Ratings revenue increased 11% in Q2 and 6% year to date, led by corporate bond issuance, bank loan ratings and non-transaction fees. First-half structured-finance and public-finance revenue declined.
- S&P Capital IQ revenue grew 7% in Q2 and 6% in the first half, supported by higher contract values and customer growth. S&P Dow Jones Indices revenue rose 8% and 13%, respectively, aided by higher ETF and mutual-fund assets under management.
- C&C revenue increased 1% in Q2 and 4% in the first half. Platts and J.D. Power growth was partly offset by lower commercial-market revenue; Q2 segment operating profit was flat.
- Reported operating-profit growth also reflects lower prior-year costs: 2013 included $54 million of separation/restructuring costs and approximately $77 million of pre-tax legal settlements in the first half. Excluding those items, first-half selling and general expenses increased 2%.
- Net income attributable to the company was $540 million for the first half, versus $989 million in 2013, when results included a $612 million after-tax gain on the sale of McGraw-Hill Education. The comparison is therefore not like-for-like; the business is presented as discontinued operations in 2013.
Outlook, risks and unusual items
- No specific revenue, earnings or EPS guidance was provided. Management said cash on hand, operating cash flow and credit-facility availability were expected to cover operating and recurring cash needs for the foreseeable future. Strategic priorities were growth and performance, including product innovation, global expansion and stronger execution.
- Management cautioned that results depend on credit and capital-market conditions, demand for ratings, regulation, foreign exchange, competition, litigation, and conditions in construction, automotive and energy markets. It stated that actual results could differ materially from forward-looking statements.
- On July 22, 2014, S&P Ratings received an SEC Wells Notice concerning ratings of six 2011 commercial mortgage-backed securities transactions and related public disclosures. A Wells Notice is preliminary, not a formal charge or finding. Potential remedies could include penalties or NRSRO registration sanctions. The company said it would cooperate and vigorously defend the matter; it could not predict the outcome or potential loss of pending legal matters.
- State attorneys-general cases were remanded to state courts in June 2014; discovery was ongoing. The filing also updated the status of Parmalat proceedings and referenced the previously disclosed DOJ civil complaint concerning ratings and structured-finance models. Management believed pending matters should not have a material adverse effect, but emphasized outcome uncertainty.
- Q2 included $9 million of other loss: a $6 million non-cash aircraft impairment tied to a pending sale to the board chair, and a $3 million loss on the data-center sale. The $58 million sale proceeds were recorded in other current assets because payment had not yet been received. The related-party aircraft purchase agreement was entered into July 2, after quarter-end.
- The company was evaluating strategic alternatives for McGraw Hill Construction. It acquired Eclipse Energy in July; the acquisition was described as immaterial. The sale of its data center closed June 30.
Investor verification priorities
- Assess the durability of ratings and index growth, including sensitivity to debt issuance, ETF assets and market activity.
- Separate underlying operating improvement from prior-year separation/legal costs, the Education divestiture gain, and current-period revenue-recognition and sales-allowance effects.
- Monitor SEC, DOJ, state and other litigation developments, potential remedies, and any resulting financial or regulatory consequences.
- Confirm cash conversion and the location/accessibility of overseas cash, while tracking repurchases, dividends, pension contributions and credit-facility covenant headroom.
- Review the strategic outcome for McGraw Hill Construction and the terms and completion of the related-party aircraft sale.