This discussion includes references to non-GAAP financial measures as defined in
Regulation G of the rules of the Securities and Exchange Commission ('SEC'). We
present such non-GAAP financial measures, specifically, organic growth in
commissions and fees, adjusted operating margin, adjusted operating income,
adjusted net income from continuing operations and adjusted earnings per diluted
share from continuing operations, as we believe such information is of interest
to the investment community because it provides additional meaningful methods of
evaluating certain aspects of the Company's operating performance from period to
period on a basis that may not be otherwise apparent on a GAAP basis. Organic
growth in commissions and fees excludes the impact of acquisitions and
disposals, period over period movements in foreign exchange, legacy contingent
commissions assumed as part of the HRH acquisition, and investment and other
income from growth in revenues and commissions and fees. Adjusted operating
margin, adjusted net income from continuing operations and adjusted earnings per
diluted share from continuing operations are calculated by excluding the impact
of certain specified items from operating income, net income from continuing
operations, and earnings per diluted share from continuing operations,
respectively, the most directly comparable GAAP measures. These financial
measures should be viewed in addition to, not in lieu of, the consolidated
financial statements for the three and six months ended June 30, 2012.
This discussion includes forward-looking statements. Please see 'Forward-Looking
Statements' for certain cautionary information regarding forward-looking
statements and a list of factors that could cause actual results to differ
materially from those predicted in those statements.
EXECUTIVE SUMMARY
Business Overview
We provide a broad range of insurance broking, risk management and consulting
services to our clients worldwide and organize our business into three segments:
Global, North America and International.
Our Global business provides specialist brokerage and consulting services to
clients worldwide arising from specific industries and activities including
Aerospace; Energy; Marine; Construction; Financial and Executive Risks; Fine
Art, Jewelry and Specie; Special Contingency Risks; and Reinsurance.
North America and International comprise our retail operations and provide
services to small, medium and large corporations and the employee benefits
practice, our largest product-based practice group, provides health, welfare and
human resources consulting and brokerage services.
In our capacity as advisor and insurance broker, we act as an intermediary
between our clients and insurance carriers by advising our clients on their risk
management requirements, helping clients determine the best means of managing
risk, and negotiating and placing insurance with insurance carriers through our
global distribution network.
We derive most of our revenues from commissions and fees for brokerage and
consulting services and do not determine the insurance premiums on which our
commissions are generally based. Commission levels generally follow the same
trend as premium levels as they are derived from a percentage of the premiums
paid by the insureds. Fluctuations in these premiums charged by the insurance
carriers can therefore have a direct and potentially material impact on our
results of operations.
Due to the cyclical nature of the insurance market and the impact of other
market conditions on insurance premiums, commission revenues may vary widely
between accounting periods. A period of low or declining premium rates,
generally known as a 'soft' or 'softening' market, generally leads to downward
pressure on commission revenues and can have a material adverse impact on our
commission revenues and operating margin. A 'hard' or 'firming' market, during
which premium rates rise, generally has a favorable impact on our commission
revenues and operating margin.
Market Conditions
The years 2005 through 2010 were generally viewed as soft market years across
most of our product offerings and our commission revenues and operating margins
throughout that period were negatively impacted, although in 2009 the market
experienced modest stabilization in the reinsurance market and certain specialty
markets.
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Our North America and UK and Irish retail operations were particularly impacted
by the weakened economic climate and continued soft market throughout 2009 and
2010 with no material improvement in rates across most sectors in these
geographic regions. This resulted in declines in revenues in these operations,
particularly amongst our smaller clients who have been especially vulnerable to
the economic downturn.
In 2011, we saw some modest increases in catastrophe-exposed property insurance
and reinsurance pricing levels driven by significant 2011 catastrophe losses
including the Japanese earthquake and tsunami, the New Zealand earthquake, the
mid-west US tornadoes and Thailand floods. However, in general, we continued to
be negatively impacted by the soft insurance market and challenging economic
conditions across other sectors and most geographic regions.
Thus far in 2012, the trend in rates noted in 2011 in catastrophe-exposed
regions continues as insurance and reinsurance rates in such regions have firmed
or hardened.
There have been recent signs that the unprofitability of certain business lines
such as property catastrophe and workers' compensation is slowly firming rates
in those lines. However, we believe that, in the absence of a significant
catastrophe loss or capital impairment in the industry, a universal turn in
market rates is not likely to occur.
The outlook for our business, operating results and financial condition
continues to be challenging due to the economic conditions within certain
European Union countries, in particular, Greece, Ireland, Italy, Portugal and
Spain. If the Eurozone debt crisis continues or further deteriorates, there will
likely be a negative effect on our European business as well as the businesses
of our European clients. A significant devaluation of the Euro would cause the
value of our financial assets that are denominated in Euros to be significantly
reduced.
Financial Performance
Consolidated Financial Performance
Results from operations: second quarter 2012
Total revenues of $842 million for second quarter 2012 were $19 million, or
2 percent, lower than in second quarter 2011. Total commissions and fees for
second quarter 2012 were $837 million, down from $852 million in the prior year
quarter. Foreign currency movements negatively impacted commissions and fees by
$24 million, or 4 percent, and organic growth was 2 percent.
Organic growth in commissions and fees was driven by 7 percent growth in our
Global and 2 percent growth in our International operations whilst our North
America operations reported a 3 percent decline compared to second quarter 2011.
The North America result was negatively impacted by the performance of Loan
Protector. Loan Protector is a specialty business acquired as part of HRH in
2008 which provides lender placed insurance and insurance tracking services to
the mortgage servicing industry. This business line has declined very
significantly in the last year and we do not consider it representative of our
operations. We believe that excluding the results of Loan Protector gives a
better measure of our financial performance. Excluding Loan Protector, North
America's organic commissions and fees declined by 2 percent and overall organic
commissions and fees grew by 2 percent.
Total expenses in second quarter 2012 of $663 million were $42 million, or 6
percent, lower than in second quarter 2011. Foreign currency movements
positively impacted total expenses by $37 million or 5 percent.
Excluding the impact of foreign exchange, total expenses were $700 million, $5
million or 1 percent lower than in second quarter 2011. The $10 million increase
in amortization of cash retention awards and the impact of salary increases and
investment hires in second quarter 2012 was partially offset by a $5 million
insurance recovery, while second quarter 2011 incurred non-recurring charges of
$18 million relating to the 2011 Operational Review and an $11 million
regulatory settlement.
Net income attributable to Willis shareholders from continuing operations was
$107 million or $0.61 per diluted share in second quarter 2012 compared to $84
million or $0.48 per diluted share in second quarter 2011. The $23 million
increase reflects the reduction in total expenses described above.
Foreign currency movements increased earnings by $0.06 per diluted share in
second quarter 2012 compared with second quarter 2011.
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Business discussion
Results from operations: six months ended June 30, 2012
Total revenues of $1,855 million for first half 2012 were $13 million, or
1 percent, lower than in first half 2011. Total commissions and fees for first
half 2012 were $1,842 million, down from $1,851 million in first half 2011.
Foreign currency movements negatively impacted commissions and fees by 2 percent
and organic growth was 2 percent.
Organic growth in commissions and fees was driven by 6 percent growth in our
Global and 3 percent growth in our International operations, whilst our North
America operations reported a 3 percent decline compared to first half 2011.
This result was negatively impacted by the performance of Loan Protector.
Excluding Loan Protector, North America's organic commissions and fees declined
1 percent and overall organic commissions and fees grew 3 percent.
Total expenses in first half 2012 of $1,359 million were $114 million, or 8
percent, lower than in first half 2011. Foreign currency movements positively
impacted expenses by $44 million or 3 percent.
Excluding the impact of foreign exchange, total expenses were $1,403 million,
$70 million or 5 percent lower than first half 2011. First half 2012 expenses
included a $28 million increase in amortization of cash retention awards, a $13
million write-off of an uncollectible accounts receivable balance together with
associated legal fees (see 'Correction of Commissions and Fees Overstatement
Relating to 2011 and Prior Periods', below) and the impact of annual salary
increases and investment hires. In first half 2011 we incurred non-recurring
charges of $115 million relating to the 2011 Operational Review and an $11
million regulatory settlement.
Net income attributable to Willis shareholders from continuing operations was
$332 million or $1.89 per diluted share in first half 2012 compared to $119
million or $0.68 per diluted share in first half 2011. The $213 million increase
reflects the reduction in total expenses described above. Additionally, first
half 2011 results include a $124 million post-tax expense relating to the
make-whole amounts on the repurchase and redemption of $500 million of our
senior debt and write-off of related unamortized debt issuance costs.
Foreign currency movements increased earnings by $0.04 per diluted share in
first half 2012 compared with first half 2011.
Adjusted Operating Income, Adjusted Net Income from Continuing Operations and
Adjusted Earnings per Diluted Share from Continuing Operations
Adjusted operating income, adjusted net income from continuing operations and
adjusted earnings per diluted share from continuing operations are calculated by
excluding the impact of certain items (as detailed below) from operating income,
net income from continuing operations, and earnings per diluted share from
continuing operations, respectively, the most directly comparable GAAP measures.
The following items are excluded from operating income and net income from
continuing operations as applicable:
(i) write-off of uncollectible accounts receivable balance and associated
legal fees arising in a stand-alone business due to fraudulent
overstatement of commissions and fees;
(ii) costs associated with the 2011 Operational Review;
(iii) significant legal and regulatory settlements which are managed centrally;
(iv) gains and losses on the disposal of operations;
(v) insurance recoveries; and
(vi) make-whole amounts on repurchase and redemption of senior notes and
write-off of unamortized debt issuance costs.
We believe that excluding these items, as applicable, from operating income, net
income from continuing operations, and earnings per diluted share, provides a
more complete and consistent comparative analysis of our results of operations.
We use these and other measures to establish Group performance targets and
evaluate the performance of our operations. The
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Company also uses both adjusted earnings per diluted share from continuing
operations and adjusted operating margin measures to form the basis of
establishing and assessing components of compensation.
As set out in the tables below, adjusted operating margin at 20.7 percent in
second quarter 2012 was down 80 basis points compared to second quarter 2011,
while second quarter 2012 adjusted net income from continuing operations was
$104 million, $3 million lower than in second quarter 2011. Adjusted earnings
per diluted share from continuing operations was $0.59 in second quarter 2012,
compared to $0.61 in second quarter 2011.
Adjusted operating margin at 27.2 percent in first half 2012 was down 50 basis
points compared to first half 2011, while first half 2012 adjusted net income
from continuing operations was $337 million, $6 million higher than in first
half 2011. Adjusted earnings per diluted share from continuing operations was
$1.91 in first half 2012, compared to $1.89 in first half 2011.
A reconciliation of adjusted operating income to reported operating income, the
most directly comparable GAAP measure, for the three and six months ended
June 30, is as follows (in millions, except percentages):
Three months ended Six months ended
June 30, June 30,
2012 2011 2012 2011
Operating income, GAAP basis $ 179 $ 156 $ 496 $ 395
Excluding:
Write-off of uncollectible accounts
receivable balance and legal costs(a) - - 13 -
Insurance recovery(b) (5 ) - (5 ) -
2011 Operational Review(c) - 18 - 115
FSA regulatory settlement(d) - 11 - 11
Net gain on disposal of operations - - - (4 )
Adjusted operating income $ 174 $ 185 $ 504 $ 517
Operating margin, GAAP basis, or
operating income as a percentage of
total revenues 21.3 % 18.1 % 26.7 % 21.1 %
Adjusted operating margin, or adjusted
operating income as a percentage of
total revenues 20.7 % 21.5 % 27.2 % 27.7 %
(a) Write-off of uncollectible accounts receivable balance and associated legal
costs relating to periods prior to January 1, 2012. See 'Correction of
Commissions and Fees Overstatement Relating to 2011 and Prior Periods',
below.
(b) Related to previously disclosed fraudulent activity in a stand-alone North
America business. See 'Correction of Commissions and Fees Overstatement
Relating to 2011 and Prior Periods', below.
(c) Charge relating to the 2011 Operational Review, including $9 million and
$57 million of severance costs for the three and six months ended June 30,
2011 respectively related to the elimination of approximately 150 and 600
positions in the three and six months ended June 30, 2011, respectively.
(d) Regulatory settlement with the Financial Services Authority (FSA).
A reconciliation of reported net income from continuing operations and reported
earnings per diluted share from continuing operations, the most directly
comparable GAAP measures, to adjusted net income from continuing operations and
adjusted earnings per diluted share from continuing operations, is as follows
(in millions, except per share data):
Per diluted share
Three months ended Three months ended
June 30, June 30,
% %
2012 2011 Change 2012 2011 Change
Net income from continuing operations
attributable to Willis Group Holdings plc $ 107 $ 84 27.4 % $ 0.61 $ 0.48 27.1 %
Excluding:
Insurance recovery, net of tax ($2,
$nil)(b) (3 ) - (0.02 ) -
2011 Operational Review charge, net of tax
($nil, $6)(c) - 12 - 0.07
FSA regulatory settlement, net of tax
($nil, $nil)(d) - 11 - 0.06
Adjusted net income $ 104 $ 107 (2.8 )% 0.59 0.61 (3.3 )%
Diluted shares outstanding, GAAP basis 176 176
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Six months ended Per diluted share
June 30, Six months ended June 30,
% %
2012 2011 Change 2012 2011 Change
Net income from continuing operations
attributable to Willis Group Holdings plc $ 332 $ 119 179.0 % $ 1.89 $ 0.68 177.9 %
Excluding:
Write-off of uncollectible accounts
receivable balance and legal costs, net
of tax ($5, $nil)(a) 8 - 0.04 -
Insurance recovery, net of tax ($2,
$nil)(b) (3 ) - (0.02 ) -
2011 Operational Review charge, net of
tax ($nil, $34)(c) - 81 - 0.46
FSA regulatory settlement, net of tax
($nil, $nil)(d) - 11 - 0.06
Gain on disposal of operations, net of
tax ($nil, $nil) - (4 ) - (0.02 )
Make-whole amounts on repurchase and
redemption of Senior Notes and write-off
of unamortized debt issuance costs, net
of tax ($nil, $47) - 124 - 0.71
Adjusted net income $ 337 $ 331 1.8 % 1.91 1.89 1.1 %
Diluted shares outstanding, GAAP basis 176 175
(a) Write-off of uncollectible accounts receivable balance and associated legal
costs relating to periods prior to January 1, 2012. See 'Correction of
Commissions and Fees Overstatement Relating to 2011 and Prior Periods',
below.
(b) Related to previously disclosed fraudulent activity in a stand-alone North
America business. See 'Correction of Commissions and Fees Overstatement
Relating to 2011 and Prior Periods', below.
(c) Charge relating to the 2011 Operational Review, including $9 million of
severance costs relating to the elimination of approximately 150 positions
in the second quarter of 2011 and $57 million of severance costs related to
the elimination of approximately 600 positions in the first half 2011.
(d) Regulatory settlement with the Financial Services Authority (FSA).
Correction of Commissions and Fees Overstatement Relating to 2011 and Prior
Periods
As previously disclosed, in early 2012 we identified through our internal
financial control process and a subsequent internal investigation an
uncollectible accounts receivable balance of approximately $40 million in a
stand-alone business unit from the fraudulent overstatement of Commissions and
fees from the years 2005 to 2011.
We concluded that the total $40 million of overstatement does not materially
affect our previously issued financial statements for any of the prior periods
and we corrected the misstatement by recognizing a charge to Other operating
expenses to write off the uncollectible receivable (a) of $13 million (including
legal expenses) in the first quarter of 2012 and (b) of $22 million in the
fourth quarter of 2011. In the fourth quarter 2011 we also reversed a $6 million
balance of Commissions and fees which had been recorded during 2011 and $2
million of Salaries and benefits expense representing an over-accrual of
production bonuses relating to the overstated revenue. During the second quarter
2012, we have recorded within Other operating expenses a $5 million insurance
recovery being an interim settlement from insurers in respect of our claim under
Group insurance policies, for compensation paid out in the years 2005 to 2010 on
the fraudulently overstated revenues discussed above.
The employees in question, who have been terminated, were not members of Willis
executive management nor did they play a significant role in internal control
over financial reporting. Based on the results of our investigation, which has
now been completed, we do not believe that any client or carrier funds were
misappropriated or that any other business units were affected.
We have enhanced our internal controls in relation to the business unit in
question, including enhanced procedures over receipt of checks and application
of cash, increased segregation of duties between the operating unit and the
accounting and settlement function, and additional central sign off on revenue
recognition.
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Willis Group Holdings plc
Cash Retention Awards
We started making cash retention awards in 2005 to a small number of employees.
With the success of the program, we expanded it over time to include more staff
and we believe it is a contributing factor to the reduction in employee turnover
we have seen in recent years.
Salaries and benefits do not reflect the unamortized portion of annual cash
retention awards made to employees. Employees must repay a proportionate amount
of these cash retention awards if they voluntarily leave our employ (other than
in the event of redundancy, retirement or permanent disability) within a certain
time period, currently three years. We make cash payments to our employees in
the year we grant these retention awards and recognize these payments ratably
over the period they are subject to repayment, beginning in the quarter in which
the award is made.
During second quarter and first half 2012, we made $25 million and $217 million,
respectively, of cash retention award payments compared with $11 million and
$206 million in the same periods of 2011. Salaries and benefits expense in
second quarter and first half 2012 include $54 million and $116 million,
respectively, of amortization of cash retention award payments made on or before
June 30, 2012, compared with $44 million and $88 million in the same periods of
2011.
Included within the $116 million amortization of cash retention awards is a $7
million charge for retention waivers. In certain circumstances we may choose to
waive repayment of retention awards when an employee leaves the Company.
Therefore when we make the retention award payments we book a provision to
reflect the anticipated level of waivers.
The remaining increase of $21 million reflects the higher level of cash
retention awards paid and expected to be paid in 2012 compared to cash retention
awards paid in 2009, which were fully amortized in 2011.
As of June 30, 2012, December 31, 2011 and June 30, 2011, we included
$301 million, $196 million and $293 million, respectively, within Other current
assets and Other non-current assets on the balance sheet, which represented the
unamortized portion of cash retention award payments made on or before those
dates.
Pension Expense
We recorded a net pension income on our UK defined benefit pension plan in
second quarter and first half 2012 of $1 million, and $2 million, respectively,
compared with a net charge of $2 million and $4 million in the same periods of
2011. On our US defined benefit pension plan we recorded a net pension charge in
second quarter and first half 2012 of $nil, and $1 million respectively,
compared with $nil and $nil in the same periods of 2011. On our international
defined benefit pension plans, we recorded a net pension charge of $1 million
and $2 million in second quarter and first half, respectively, of both 2012 and
2011.
The UK pension charge was $3 million and $6 million lower in second quarter 2012
and first half 2012, respectively, compared to second quarter 2011 and first
half 2011 due to an increased asset return from a higher asset base partly
offset by an increase in amortization of prior period losses. The US pension
charge was $1 million higher in first half 2012 compared to first half 2011
reflecting an increase in amortization of prior period losses.
See 'Contractual Obligations' below for further information on our obligations
relating to our pension plans.
Acquisitions and Disposals
In second quarter 2012, we acquired 100 percent of Attain Consulting Limited and
Trustee Principles Limited at a total cost of $3 million.
In first quarter 2012 we acquired 49.9 percent of Gras Savoye Re at a cost of
$29 million, increasing our shareholding from 50.1 percent to 100 percent.
We sold 49.9 percent of our retail operation in Peru, Willis Corredores de
Seguros S.A. to Grupo Credito S.A for $3 million reducing our shareholding to
50.1 percent. Grupo Credito S.A. is an investment arm of Peru's largest
financial services holding company.
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Business discussion
Business Strategy
Our aim is to be the insurance broker and risk adviser of choice globally.
Our business model is aligned to the needs of each client segment:
• Insurer - platform-neutral capital management and advisory services;
• Large Accounts - delivering Willis' global capabilities through client
advocacy;
• Mid-Market - mass-customization through our Sales 2.0 model;
• Commercial - providing products and services to networks of retail
brokers; and
• Personal - focused on affinity models and High Net Worth segments.
Our business model has three elements:
• Organic growth;
• Recruitment of teams and individuals; and
• Strategic acquisitions.
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REVIEW OF CONSOLIDATED RESULTS
The following table is a summary of our revenues, operating income, operating
margin, net income from continuing operations and diluted earnings per share
from continuing operations (in millions, except per share data and percentages):
Three months ended Six months ended
June 30, June 30,
2012 2011 2012 2011
REVENUES
Commissions and fees $ 837 $ 852 $ 1,842 $ 1,851
Investment income 5 8 10 16
Other income - 1 3 1
Total revenues 842 861 1,855 1,868
EXPENSES
Salaries and benefits (500 ) (505 ) (1,006 ) (1,088 )
Other operating expenses (129 ) (164 ) (285 ) (316 )
Depreciation expense (19 ) (19 ) (38 ) (39 )
Amortization of intangible assets (15 ) (17 ) (30 ) (34 )
Net gain on disposal of operations - - - 4
Total expenses (663 ) (705 ) (1,359 ) (1,473 )
OPERATING INCOME 179 156 496 395
Make-whole on repurchase and redemption
of senior notes and write-off of
unamortized debt issuance costs - - - (171 )
Interest expense (33 ) (34 ) (65 ) (74 )
INCOME BEFORE INCOME TAXES AND INTEREST
IN EARNINGS OF ASSOCIATES 146 122 431 150
Income taxes (36 ) (31 ) (104 ) (32 )
INCOME BEFORE INTEREST IN EARNINGS OF
ASSOCIATES 110 91 327 118
Interest in earnings of associates, net
of tax (1 ) (3 ) 14 13
INCOME FROM CONTINUING OPERATIONS 109 88 341 131
Discontinued operations, net of tax 1 1 1 -
NET INCOME 110 89 342 131
Less: net income attributable to
noncontrolling interests (2 ) (4 ) (9 ) (12 )
NET INCOME ATTRIBUTABLE TO WILLIS GROUP
HOLDINGS $ 108 $ 85
$ 333$ 119
Salaries and benefits as a percentage
of total revenues 59.4 % 58.7 % 54.2 % 58.2 %
Other operating expenses as a
percentage of total revenues 15.3 % 19.0 % 15.4 % 16.9 %
Operating margin (operating income as a
percentage of total revenues) 21.3 % 18.1 % 26.7 % 21.1 %
Diluted earnings per share from
continuing operations $ 0.61 $ 0.48 $ 1.89 $ 0.68
Average diluted number of shares
outstanding 176 176 176 175
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Business discussion
Revenues
Total revenues for the Group and by segment for the three and six months ended
June 30, 2012 and 2011 are shown below (millions, except percentages):
Attributable to:
Foreign Organic
% currency Contingent commissions and
Three months ended June 30, 2012 2011 Change translation Commissions(b) fees growth (a)
Global $ 282 $ 269 5 % (2 )% - % 7 %
North America 314 326 (4 )% - % (1 )% (3 )%
International 241 257 (6 )% (8 )% - % 2 %
Commissions and fees $ 837 $ 852 (2 )% (4 )% - % 2 %
Investment income 5 8 (38 )%
Other income - 1 (100 )%
Total revenues $ 842 $ 861 (2 )%
Attributable to:
Foreign Organic
% currency Contingent commissions and
Six months ended June 30, 2012 2011 Change translation Commissions(b) fees growth (a)
Global(c) $ 652 $ 626 4 % (2 )% - % 6 %
North America 660 682 (3 )% - % - % (3 )%
International 530 543 (2 )% (5 )% - % 3 %
Commissions and fees $ 1,842 $ 1,851 - % (2 )% - % 2 %
Investment income 10 16 (38 )%
Other income 3 1 200 %
Total revenues $ 1,855 $ 1,868 (1 )%
(a) Organic commissions and fees growth excludes: (i) the impact of foreign
currency translation; (ii) the first twelve months of net commission and fee
revenues generated from acquisitions; (iii) the net commission and fee
revenues related to operations disposed of in each period presented; (iv) in
North America, legacy contingent commissions assumed as part of the HRH
acquisition that had not been converted into higher standard commissions;
and (v) investment income and other income from reported revenues.
(b) Included in North America reported commissions and fees were legacy
contingent commissions assumed as part of the HRH acquisition that had not
been converted into higher standard commissions of $nil in second quarter
2012 and $1 million in first half 2012, compared with $nil and $4 million
respectively in the same periods of 2011.
(c) Reported commissions and fees included a favorable impact from a change in
accounting methodology in a Global Specialty business in our Global segment
of $6 million in first half 2011.
Our methods of calculating these measures may differ from those used by other
companies and therefore comparability may be limited.
Second quarter 2012
Revenues for second quarter 2012 at $842 million were $19 million or 2 percent
lower than in same period 2011.
Total commissions and fees for second quarter 2012 were $837 million, down from
$852 million, in the prior year quarter. Foreign currency movements negatively
impacted commissions and fees by 4 percent. Organic commissions and fees growth
was 2 percent. This was driven by new business growth, a slight benefit from
improving premium rates and other market factors, partially offset by negative
timing and lower retention rates.
The Global segment reported a 5 percent increase in commissions and fees,
including 7 percent organic growth, driven by positive growth in Reinsurance and
Global Specialties.
The North America segment's reported commissions and fees declined 4 percent
with organic commissions and fees declining by 3 percent. This decline was
partly attributable to the Loan Protector business. Excluding Loan Protector,
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North America's organic commissions and fees declined 2 percent. The benefit of
rate improvement during the quarter was more than offset by lower insured
exposures.
The International segment reported a decline in commissions and fees of 6
percent, comprising 2 percent organic commissions and fees growth and an 8
percent negative impact from foreign currency translation. The 2 percent organic
growth includes high single-digit growth in our Asia and Latin America regions,
together with mid single-digit growth in Eastern Europe. Continental Europe had
low single-digit growth in the quarter, as high growth in Germany, Denmark and
Italy was offset by high single-digit decline in Spain.
Our International and Global segments earn a significant portion of their
revenues in currencies other than the US dollar, including the Euro and Pound
sterling. For the quarter ended June 30, 2012, reported revenues were adversely
impacted by the net effects of foreign currency translation.
Investment income was $5 million for second quarter 2012, $3 million lower than
in second quarter 2011, primarily due to declining net yields on cash and cash
equivalents.
The impact of the low interest rates on our investment income was partially
mitigated by our forward hedging program. We are no longer renewing the hedges
as they roll off because it is no longer economically beneficial to do so.
During second quarter 2012, the Company closed out its legacy position for these
interest rate swap contracts.
Six months ended June 30, 2012
Revenues for first half 2012 of $1,855 million were $13 million or 1 percent
lower than in same period 2011.
Total commissions and fees for first half 2012 were $1,842 million, down from
$1,851 million, in the same period of 2011. Organic growth in commissions and
fees was 2 percent, driven by new business growth and modest benefits from
improving premium rates.
The Global segment reported a 4 percent increase in commissions and fees,
including 6 percent organic growth, driven by positive growth in Reinsurance and
Willis Faber & Dumas. Reported revenues for first half 2012 were adversely
impacted by the net effects of foreign currency translation. Growth in first
half 2012 was achieved despite a $6 million benefit recognized in first quarter
2011 from a change in accounting within a Global Specialty business to conform
to current Group accounting policy.
The North America segment reported an organic commissions and fees decline of 3
percent primarily attributable to the Loan Protector business. Excluding Loan
Protector, North America's organic commissions and fees declined 1 percent as
the benefit of new business and firming rates were offset by lower insured
exposures.
The International segment reported a 2 percent decline in commissions and fees,
but excluding the negative impact of foreign currency movements achieved 3
percent organic growth. We achieved double-digit growth in our Latin America and
Eastern Europe regions, together with single-digit growth in Asia and
Continental Europe.
Organic commissions and fees growth by segment is discussed further in 'Review
of Segmental Results' below.
Investment income was $10 million for first half 2012, $6 million lower than in
first half 2011, primarily due to declining net yields on cash and cash
equivalents.
Salaries and Benefits
Second quarter 2012
Salaries and benefits decreased by $5 million, or 1 percent, in second quarter
2012, compared with second quarter 2011. Foreign currency movements lowered
salaries and benefits by $14 million or, 3 percent.
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Business discussion
Excluding the impact of foreign exchange, salaries and benefits increased by $9
million or 2 percent in second quarter 2012, compared with second quarter 2011
primarily reflecting the $10 million increase in amortization of cash retention
awards together with the impact of the annual salary increase and investment
hires partially offset by the non-recurrence of a $10 million charge associated
with our 2011 Operational Review.
The period-over-period positive impact from foreign exchange was driven
principally by the strengthening of the US dollar against the Pound sterling and
the Euro.
Six months ended June 30, 2012
Salaries and benefits decreased by $82 million, or 8 percent, in first half
2012, compared with first half 2011, primarily reflecting the non-recurrence of
a $92 million charge associated with our 2011 Operational Review and $19 million
period-over-period impact from favorable foreign exchange movements which were
partially offset by higher amortization of cash retention awards and the impact
of annual salary increases and investment hires.
Other Expenses
Second quarter 2012
Other operating expenses decreased by $35 million, or 21 percent, in second
quarter 2012 compared to second quarter 2011. Foreign currency movements
positively impacted expenses by $23 million, or 15 percent.
Excluding the impact of foreign exchange, other operating expenses declined by
$12 million, or 7 percent principally due to the non-recurrence of a $7 million
charge relating to the 2011 Operational Review and an $11 million FSA regulatory
settlement together with the second quarter 2012 $5 million insurance recovery
related to a previously disclosed fraudulent activity in a stand-alone North
America business.
The period-over-period positive impact from foreign exchange was driven by a
combination of the strengthening of the US dollar against the Euro and Pound
sterling and the impact of the balance sheet revaluation of certain Pound
sterling denominated positions in our London market operations.
Depreciation expense was $19 million in both second quarters 2012 and 2011.
Amortization of intangible assets was $15 million in second quarter 2012
compared to $17 million for the same period of 2011. The decrease is primarily
due to the reduction in the HRH acquisition-related amortization.
Six months ended June 30, 2012
Other operating expenses decreased by $31 million, or 10 percent, in first half
2012 compared to first half 2011. Foreign currency movements positively impacted
expenses by $24 million, or 8 percent.
Excluding foreign exchange, other operating expenses declined by $7 million or 2
percent. The $7 million decline is primarily due to the non-recurrence of an $18
million charge relating to the 2011 Operational Review and an $11 million FSA
regulatory settlement, the second quarter 2012 $5 million insurance recovery
related to a previously disclosed fraudulent activity in a stand-alone North
America business and favorable movements in foreign exchange partially offset by
$13 million charge for the write-off of an uncollectible accounts receivable
balance and associated legal costs (see 'Correction of Commissions and Fees
Overstatement Relating to 2011 and Prior Periods', above).
The period-over-period positive impact from foreign exchange was driven by a
combination of the strengthening of the US dollar against the Euro and Pound
sterling and the impact of the balance sheet revaluation of certain Pound
sterling denominated positions in our London market operations.
Depreciation expense was $38 million first half 2012 compared to $39 million for
the same period of 2011. The first half 2011 included a $5 million charge
relating to the 2011 Operational Review. This was offset by increased
depreciation expense in 2012 following a number of systems-related projects
becoming operational at the end of 2011.
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We expect the depreciation expense for full year 2012 to be approximately $83
million compared with $74 million for full year 2011.
Amortization of intangible assets was $30 million in first half 2012 compared to
$34 million for the same period of 2011. The decrease is primarily due to the
reduction in the HRH acquisition-related amortization.
We expect the amortization of intangible assets expense for full year 2012 to be
approximately $60 million compared with $68 million for full year 2011.
Net gain on disposal of operations of $4 million was recorded in first half 2011
following conclusion of the accounting for the December 2009 Gras Savoye
leveraged transaction during which the Group's interest in Gras Savoye was
reduced from 49 percent to 31 percent.
Interest Expense
Interest expense in second quarter and first half 2012 was $33 million and $65
million, respectively, compared to $34 million and $74 million for the same
periods of 2011. The reduction in the expense primarily reflected the lower
coupon payable on our new debt issued in March 2011 and December 2011 and a net
gain recognized on our forward rate hedging program.
We continue to monitor our debt profile to identify any further opportunities to
reduce our financing costs.
Income Taxes
The reported tax rate for the second quarter and first half 2012 was 25 percent
and 24 percent respectively, compared to 25 percent and 21 percent for the same
periods of 2011. The tax rate in the first half of 2011 reflected the
recognition of a higher rate of tax on the $171 million make-whole amounts
related to the redemption and repurchase of senior notes and write-off of
unamortized debt issuance costs in first quarter 2011. The estimated annual
effective tax rate related to ordinary income (or loss) for both quarters ended
June 30, 2012 and 2011 was 25 percent.
Interest in Earnings of Associates
Interest in earnings of associates, net of tax, in second quarter 2012 was a
loss of $1 million compared to a loss of $3 million in second quarter 2011. The
result for first half 2012 was a profit of $14 million compared to a profit of
$13 million in the same period of 2011.
Like many businesses located in the Eurozone, Gras Savoye's operations are being
pressured by the economic conditions. In addition, Gras Savoye recently
appointed a new CEO and is undergoing a business review that is designed to
drive growth in revenues and improve operational efficiencies. As a result of
these two factors, we expect the Associates line for 2012 to be down $6 million
to $7 million versus 2011. In the third quarter, we expect the Associates line
to be a loss of $1 million to $2 million. In fourth quarter, we expect the line
to show a loss of $5 million to $6 million. While these are our best estimates,
we do not control the numbers produced by our Associates and therefore actual
results may not be in line with our best estimates.
LIQUIDITY AND CAPITAL RESOURCES
Debt
Total debt, total equity and the capitalization ratio at June 30, 2012 and
December 31, 2011 were as follows (millions, except percentages):
June 30, December 31,
2012 2011
Long-term debt $ 2,397 $ 2,354
Short-term debt and current portion of long-term debt $ 14 $ 15
Total debt $ 2,411 $ 2,369
Stockholders' equity $ 2,687 $ 2,486
Capitalization ratio 47.3 % 48.8 %
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Business discussion
In March 2011 we issued $800 million of new debt, comprising $300 million
4.125% senior notes due 2016 and $500 million 5.750% senior notes due 2021. We
received net proceeds, after underwriting discounts and expenses of
approximately $787 million, which were used largely in part to repurchase and
redeem $500 million 12.875% senior notes due 2016 and make related make-whole
payments totaling $158 million, which represented a slight discount to the
make-whole redemption amount provided in the indenture governing this debt. In
addition to the make-whole payments of $158 million, we also wrote off
unamortized debt issuance costs of $13 million.
In December 2011 we refinanced our bank facility, comprising a new 5-year
$300 million term loan and a new 5-year $500 million revolving credit facility.
The proceeds from the $300 million term loan were used to repay the majority of
the $328 million balance outstanding on our $700 million 5-year term loan
facility. The $500 million revolving credit facility replaced our existing
$300 million and $200 million revolving credit facilities. Unamortized debt
issuance costs of $10 million relating to these replaced facilities were written
off in December 2011 following completion of the refinancing.
These refinancing actions have lengthened our debt maturity profile. At June 30,
2012, the only scheduled debt repayments falling due over the next 12 months are
scheduled repayments on our new $300 million 5-year term loan totaling
$14 million.
In first half 2012, we made $5 million of mandatory repayments against the
5-year term loan, thereby reducing the total outstanding balance as at June 30,
2012 to $295 million. We also repaid the final installment of $4 million on the
6% loan notes.
At June 30, 2012, we had $50 million outstanding under our $500 million
revolving credit facility and $nil outstanding under our $20 millionUK
facility, which is solely for use by our main regulated UK entity, Willis
Limited, in certain exceptional circumstances.
Liquidity
Our principal sources of liquidity are cash from operations, cash and cash
equivalents of $407 million at June 30, 2012, and remaining availability of $450
million under our revolving credit facilities, excluding the $20 millionUK
facility which is solely for use by our main regulated UK entity in certain
exceptional circumstances.
We remain committed to our previously stated goals of ongoing debt repayment and
returning capital to shareholders.
As of June 30, 2012, our short-term liquidity requirements consisted of the
payment of interest on debt and $14 million of mandatory repayments under our
5-year term loan; capital expenditure; working capital; and funding our $100
million share buyback program described below under 'Share Buybacks'.
Our long-term liquidity requirements consist of the principal amount of
outstanding notes; and borrowings under our 5-year term loan and revolving
credit facility; and our pension contributions as discussed below.
Based on current market conditions and information available to us at this time,
we believe that we have sufficient liquidity to meet our cash needs for at least
the next 12 months.
Pension contributions
UK Plan
For the six months ended June 30, 2012, the Company had made cash contributions
of $40 million (2011: $40 million) into the UK defined benefit pension plan, in
addition to $6 million (2011: $6 million) in respect of employees' salary
sacrifice contributions.
On March 30, 2012, the Company agreed a revised schedule of contributions with
the UK pension trustee which sets out the contributions toward on-going accrual
of benefits and deficit funding contributions the Company will make to the UK
plan over the next six years ended December 31, 2017. Contributions in 2012 are
expected to total $92 million, of which approximately $23 million relates to
on-going contributions calculated as 15.9 percent of active plan members'
pensionable salaries, $57 million relates to contributions towards funding the
deficit and approximately $12 million relates to employees' salary sacrifice
contributions.
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In addition, there are further contributions payable to the UK pension defined
benefit plan in 2013 and beyond, dependent upon certain contribution
calculations as detailed in the 'Contractual Obligations' section below.
US Plan
We made cash contributions to our US defined benefit plan of $16 million in
first half 2012, compared with $13 million in first half 2011.
For the US plan, expected contributions are the contributions we will be
required to make under US pension legislation based on our December 31, 2011
balance sheet position. We currently expect to contribute $40 million for full
year 2012.
International Plans
We made cash contributions to our international defined benefit pension plans of
$4 million in first half 2012, compared with $4 million in first half 2011.
In full year 2012, we expect to contribute approximately $12 million to our
international plans.
Summary consolidated cash flow information (millions):
