Morningstar, Inc. 2016 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2016. The filing also provides unaudited fourth-quarter data for the three months ended December 31, 2016. Morningstar provides investment data, research, software, ratings, investment management, retirement solutions, credit ratings, indexes, and private-capital-market information globally.
Fourth Quarter 2016
| Metric | Q4 2016 | Q4 2015 |
|---|---|---|
| Revenue | $212.2 million | $201.6 million |
| Operating income | $49.9 million | $50.1 million |
| Operating margin | 23.5% | 24.9% |
| Net income attributable to Morningstar | $70.3 million | $37.3 million |
| Diluted EPS | $1.63 | $0.85 |
Fourth-quarter net income included a $37.1 million non-cash holding gain from acquiring the remaining interest in PitchBook, which was previously accounted for as an equity-method investment.
Annual Financial Performance
| Metric | 2016 | 2015 | Change |
|---|---|---|---|
| Revenue | $798.6 million | $788.8 million | 1.2% |
| Operating income | $180.8 million | $190.6 million | (5.2)% |
| Operating margin | 22.6% | 24.2% | (1.6) percentage points |
| Net income attributable to Morningstar | $161.0 million | $132.6 million | 21.4% |
| Diluted EPS | $3.72 | $3.00 | 24.0% |
| Effective tax rate | 28.3% | 32.1% | (3.8) percentage points |
Revenue growth was supported by Morningstar Direct, Morningstar Data, Workplace Solutions, and PitchBook. Revenue was pressured by lower Morningstar Credit Ratings activity, Internet advertising declines, and unfavorable foreign-currency translation of approximately $9.5 million. Organic revenue increased 1.7%, excluding acquisitions, divestitures, and currency effects.
Cash Flow, Liquidity, and Debt
- Cash provided by operating activities was $213.7 million, down from $241.5 million in 2015.
- Capital expenditures were $62.8 million, producing reported free cash flow of $150.9 million, down 18.1% year over year. Free cash flow is a non-GAAP measure and is not presented as an indicator of liquidity.
- Cash used for investing activities was $274.2 million, including $191.6 million for acquisitions, net of cash acquired.
- Cash, cash equivalents, and investments totaled $304.0 million at year-end, including cash and cash equivalents of $259.1 million.
- Long-term debt was $250.0 million under a $300.0 million revolving credit facility, leaving $50.0 million of availability. The company was in compliance with its leverage and interest-coverage covenants.
- Deferred revenue increased to $179.5 million from $152.0 million, providing future revenue recognition as services are delivered.
- Morningstar repurchased approximately 0.6 million shares for $49.5 million during 2016 and paid $37.9 million in dividends. Approximately $327.1 million remained available under the $1.0 billion repurchase authorization at year-end.
Material Changes Versus the Prior Comparable Period
- Revenue growth slowed to 1.2% from 3.8% in 2015, while operating margin declined because operating expenses increased 3.3%, primarily from higher compensation, depreciation, amortization, and continued technology investment.
- Asset-based revenue increased 18.6% to $138.7 million; average assets under management and advisement increased to approximately $192.6 billion from $179.7 billion.
- Morningstar Direct revenue rose 8.7% to $110.5 million, and Morningstar Data revenue rose 5.3% to $152.1 million. Workplace Solutions revenue rose 7.0% to $71.3 million.
- Transaction-based revenue declined 24.1% to $55.4 million, primarily because of lower structured-credit ratings activity and Internet advertising revenue.
- Weighted average contract renewal declined to approximately 96% from 99%; subscription retention declined to approximately 66% from 67%.
- PitchBook was acquired in December 2016 for a preliminary total fair value of $235.1 million, including $188.2 million of cash paid for the remaining 78% interest. The acquisition added $193.6 million of preliminary goodwill and $60.7 million of intangible assets.
- Year-end total assets increased to $1.35 billion from $1.03 billion, while long-term liabilities increased to $359.2 million from $84.0 million, primarily because of the new debt and acquisition-related liabilities.
Outlook, Commentary, Risks, and Unusual Items
- Management does not provide public financial forecasts or earnings guidance. It expects available cash, operating cash flow, investments, and credit availability to fund operating and cash needs for at least the next 12 months.
- Management expects regular quarterly dividends of $0.23 per share in 2017 and approximately $38.0 million of annual bonus payments related to 2016 during the first quarter of 2017.
- Key strategic priorities include expanding proprietary research and data, developing Morningstar Direct as the flagship decision-support platform, and growing investment-management and retirement solutions.
- Management expects approximately $24.4 million of intangible-asset amortization expense in 2017, primarily reflecting the PitchBook acquisition.
- Principal risks include market declines affecting asset-based fees, the shift from active to passive investing, regulatory and fiduciary liability, data privacy and cybersecurity, technology outages, foreign-currency exposure, offshore operating concentration, acquisition integration, goodwill impairment, and competition from larger financial-information providers.
- The company does not hedge foreign-currency exposure. A 100-basis-point increase in LIBOR was estimated to affect annual interest expense by approximately $2.5 million based on year-end debt.
- The company reported no material adverse effect from ongoing ordinary-course litigation and no goodwill or intangible-asset impairment in 2016.
- KPMG issued unqualified opinions on the consolidated financial statements and internal control over financial reporting. The internal-control assessment excluded PitchBook, which represented $283.3 million of consolidated assets and $4.1 million of 2016 revenue.
- The company elected early adoption of the stock-compensation accounting update in 2016. Revenue recognition under the new customer-contract standard was deferred to January 1, 2018; management did not anticipate a material change in revenue timing but was still evaluating the effects.
Most Important Facts for Investors to Verify
- Whether PitchBook can achieve the growth and profitability assumptions supporting the $193.6 million of preliminary goodwill and the associated acquisition debt.
- The sustainability of renewal rates, Morningstar Direct growth, and asset-based revenue as clients face fee pressure and market volatility.
- Whether operating-expense growth and higher amortization reduce margins despite recurring subscription and license revenue.
- The company’s ability to meet the revolving-credit facility’s 3.00-to-1.00 maximum leverage and 3.00-to-1.00 minimum interest-coverage covenants.
- Exposure to passive-investment trends, structured-credit issuance volumes, Internet advertising weakness, foreign-currency movements, and regulatory changes.
- Progress integrating PitchBook and the extent to which its controls, deferred-revenue balances, intangible valuations, and tax items remain preliminary.