SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1997
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 0-20724
WATSON WYATT & COMPANY
(Exact name of registrant as specified in its charter)
DELAWARE 53-0181291
(State or other (I.R.S. Employer
jurisdiction of Identification No.)
incorporation or
organization)
6707 Democracy Boulevard
Suite 800
Bethesda, Maryland 20817-1129
(Address of principal executive offices, including zip code)
TELEPHONE NUMBER (301) 581-4600
(Registrant's telephone number, including area code)
- -------------------------------------------------------------------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days:
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of May 9, 1997.
Common Stock, $1.00 par value 18,307,632
- ----------------------------- ----------
Class Number of Shares
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(Thousands of U.S. Dollars, Except Per Share Amounts)
Quarters Ended March 31, Nine Months Ended March 31,
-------------------------- --------------------------
1997 1996 1997 1996
----------- ----------- ----------- -----------
(Unaudited) (Unaudited)
<S> <C> <C> <C> <C>
Fees $ 126,009 $ 126,080 $ 378,520 $ 361,871
Costs of providing services:
Salaries and employee benefits 63,715 62,105 187,848 182,950
Occupancy and communications 15,493 16,533 55,956 48,746
Professional and subcontracted services 18,280 17,619 56,943 51,141
Other 6,243 6,381 18,287 18,335
---------- ---------- ---------- ----------
103,731 102,638 319,034 301,172
General and administrative expenses 12,472 9,567 33,005 28,547
Depreciation and amortization 6,327 7,680 17,553 19,258
---------- ---------- ---------- ----------
122,530 119,885 369,592 348,977
Income from operations 3,479 6,195 8,928 12,894
Other:
Interest income 701 210 1,158 975
Interest expense (573) (243) (1,340) (733)
Income (loss) from affiliates (1,959) 390 (5,076) 107
---------- ---------- ---------- ----------
Income before income taxes and minority interest 1,648 6,552 3,670 13,243
Provision for income taxes 890 2,918 1,982 7,495
---------- ---------- ---------- ----------
Income before minority interest 758 3,634 1,688 5,748
Minority interest in net (income) loss of consolidated subsidiaries (2) 54 (86) (71)
---------- ---------- ---------- ----------
Net income $ 756 $ 3,688 $ 1,602 $ 5,677
========== ========== ========== ==========
Earnings per share $ 0.04 $ 0.20 $ 0.09 $ 0.31
========== =========== ========== ==========
</TABLE>
See accompanying notes
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<PAGE>
<TABLE>
<CAPTION>
WATSON WYATT & COMPANY
CONSOLIDATED BALANCE SHEETS
(Thousands of U.S. Dollars)
March 31, June 30,
1997 1996
------------- ------------
ASSETS (unaudited)
<S> <C> <C>
Cash and cash equivalents $ 8,124 $ 21,694
Receivables from clients:
Billed, net of allowances 66,001 71,431
Unbilled 64,944 53,122
----------- -----------
130,945 124,553
Other current assets 7,245 6,936
----------- -----------
Total current assets 146,314 153,183
Investment in affiliates 46,881 41,195
Fixed assets 36,492 36,466
Deferred income taxes 41,983 41,983
Deferred software and development costs 35,054 35,746
Other intangible assets 3,345 3,820
Other assets 10,462 8,426
----------- -----------
$ 320,531 $ 320,819
=========== ===========
LIABILITIES, REDEEMABLE COMMON STOCK, AND PERMANENT SHAREHOLDERS' EQUITY
Accounts payable and accrued liabilities $ 80,879 $ 88,203
Note payable 5,700 -
Income taxes payable 690 11,362
Deferred income taxes 34,830 34,830
----------- -----------
Total current liabilities 122,099 134,395
Accrued retirement benefits 86,076 81,141
Deferred rent and accrued lease losses 15,839 9,904
Other noncurrent liabilities 9,787 10,635
Minority interest in subsidiaries 281 362
Redeemable Common Stock - $1 par value:
25,000,000 shares authorized;
18,454,179 and 18,261,963 issued
and outstanding; at redemption value 91,164 90,214
Permanent shareholders' equity:
Adjustment for redemption value greater than amounts paid in by shareholders (31,814) (37,549)
Retained earnings 26,003 30,677
Cumulative translation gain 1,096 1,040
Commitments and contingencies
----------- -----------
$ 320,531 $ 320,819
=========== ===========
</TABLE>
See accompanying notes
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<PAGE>
<TABLE>
<CAPTION>
WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Thousands of U.S. Dollars)
Nine Months Ended March 31,
------------------------------
1997 1996
---------- ----------
(Unaudited)
<S> <C> <C>
Cash flows from operating activities:
Net income $ 1,602 $ 5,677
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for doubtful receivables from clients 6,800 4,133
Depreciation 10,181 11,126
Amortization of deferred software and development costs
and other intangible assets 7,372 8,132
Change in deferred income taxes - (491)
Loss (income) from affiliates 5,076 (107)
Minority interest in net income of consolidated subsidiaries 86 71
(Increase) decrease in assets:
Receivables from clients (13,192) 6,709
Income taxes receivable - (63)
Other current assets (309) 365
Other assets (2,017) (1,901)
Increase (decrease) in liabilities:
Accounts payable and accrued liabilities (5,091) 3,747
Income taxes payable (10,672) 4,983
Accrued retirement benefits 4,935 8,475
Deferred rent 5,935 (997)
Other noncurrent liabilities (848) (387)
Other (210) 72
---------- ----------
Net cash provided by operating activities 9,648 49,544
---------- ----------
Cash flows from investing activities:
Purchases of fixed assets (10,649) (17,059)
Proceeds from sales of fixed assets 436 4,714
Acquisitions (1,176) (1,945)
Investment in software and development costs (5,535) (25,883)
Investment in affiliates (11,570) (4,054)
---------- ----------
Net cash used in investing activities (28,494) (44,227)
---------- ----------
Cash flows from financing activities:
Net borrowings 5,700 -
Issuances of Redeemable Common Stock 15,098 10,013
Repurchases of Redeemable Common Stock (14,689) (9,881)
---------- ----------
Net cash provided by financing activities 6,109 132
---------- ----------
Effect of exchange rate changes on cash (833) (478)
---------- ----------
Decrease in cash and cash equivalents (13,570) 4,971
Cash and cash equivalents at beginning of period 21,694 11,860
---------- ----------
Cash and cash equivalents at end of period $ 8,124 $ 16,831
========== ==========
</TABLE>
See accompanying notes
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<PAGE>
<TABLE>
<CAPTION>
WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF CHANGES IN PERMANENT SHAREHOLDERS' EQUITY
(Thousands of U.S. Dollars)
Adjustment For Redemption
Cumulative Value Greater Than Amounts
Retained Translation Paid In By
Earnings Gain Shareholders
----------- ----------- -----------
<S> <C> <C> <C>
Balance at June 30, 1996 $ 30,677 $ 1,040 $ (37,549)
Net income 1,602
Effect of repurchases of 2,870,700 shares of
common stock (various prices per share) (6,276) 6,276
Foreign currency translation adjustment 56
Adjustment of redemption value for change
in formula book value per share (541)
----------- ----------- -----------
Balance at March 31, 1997 (unaudited) $ 26,003 $ 1,096 $ (31,814)
=========== =========== ===========
</TABLE>
See accompanying notes
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<PAGE>
WATSON WYATT & COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. The accompanying unaudited consolidated financial statements of Watson
Wyatt & Company and its subsidiaries, (collectively, "Watson Wyatt" or "the
Company"), are presented in accordance with the rules and regulations of
the Securities and Exchange Commission and do not include all of the
disclosures normally required by generally accepted accounting principles.
In the opinion of management, these statements reflect all adjustments,
consisting only of normal recurring adjustments, which are necessary for a
fair presentation of the consolidated financial statements for the interim
periods. The consolidated financial statements should be read in
conjunction with the audited consolidated financial statements and notes
thereto contained in the Company's Form 10-K for the fiscal year ended June
30, 1996.
The results of operations for the nine months ended March 31, 1997 are not
necessarily indicative of the results that can be expected for the entire
fiscal year ending June 30, 1997. Certain prior year amounts have been
reclassified to conform to the current year presentation.
2. On March 31, 1996, the Company and State Street Bank & Trust Company
("State Street"), formed Wellspring Resources, LLC ("Wellspring"), a
limited liability company established to provide benefits and human
resources administration outsourcing services. The Company contributed its
existing employee outsourced benefits operations and deferred software
development costs with a book value of $15.4 million to Wellspring in
exchange for a 50% interest, and State Street contributed cash of $15.4
million for the remaining 50% interest. The Company and State Street share
equally in the future funding requirements of Wellspring.
In connection with the formation of Wellspring, Watson Wyatt retained
certain client contracts for administrative and recordkeeping services and
entered into an agreement whereby Wellspring will provide the services
required by the contracts on behalf of the Company at cost. Expenses
charged to the Company by Wellspring for such services during the nine
months ended March 31, 1997 were $30.2 million. The client contracts
provide for the receipt of fees during an implementation period in which
the Company develops custom software platforms and systems and performs the
related activities necessary to commence the administrative and
recordkeeping services. The Company defers all fees received and all
directly related software and systems development costs during the
implementation period, and recognizes such fees and costs in income over
the remaining lives of the contracts upon commencement of services under
such contracts. Deferred software and development costs related to these
contracts totaled $26.9 million and $25.3 million and the related deferred
contract revenues totaled $9.3 million and $7.3 million at March 31, 1997
and June 30, 1996, respectively.
3. Under the Company's bylaws, the Company is obligated to repurchase its
Redeemable Common Stock, except in certain circumstances. Accordingly, the
redemption value of outstanding shares is classified as Redeemable Common
Stock and not as permanent shareholders' equity. Redeemable Common Stock is
equal to the number of shares outstanding multiplied by the Formula Book
Value per share, which was $4.94 per share at March 31, 1997 and June 30,
1996. Permanent shareholders' equity includes an adjustment for the
difference between the redemption value of the Redeemable Common Stock and
the amounts actually paid by shareholders for the shares.
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<PAGE>
4. During the nine months ended March 31, 1997, the Company repurchased
2,870,700 shares of common stock, at various prices per share. The
computation of earnings per share is based upon the weighted average number
of shares of common stock outstanding during the period. The number of
shares used in the computation is 16,841,000 and 18,130,000 for the three
months ended March 31, 1997 and 1996, respectively, and 17,197,000 and
18,501,000 for the nine months ended March 31, 1997 and 1996, respectively.
5. During fiscal year 1997, the Company recorded sublease and lease
termination losses of $12.1 million, of which $10.3 million related to the
relocation of the corporate office space. The corporate office relocation
to a less expensive suburban location will result in a reduction of
occupancy expense in future years.
6. The Company guarantees certain leases for office premises and equipment for
its affiliate, Wellspring. Minimum rentals guaranteed under these leases
are $3.1 million in fiscal year 1997 and aggregate $74.5 million for the
remaining lease terms, which expire at various dates through 2007. These
leases are also jointly and severally guaranteed by State Street.
-7-
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
Watson Wyatt & Company, together with its affiliates and consolidated
subsidiaries, (collectively, "Watson Wyatt" or "the Company"), provides human
resource and employee benefits consulting and administrative/recordkeeping
services. The Company also provides a broad range of services in risk management
and general insurance and investment consulting, and derives fees from sales of
surveys. The Company works with organizations of all sizes, from the largest
multinationals to public employers and nonprofit institutions.
Watson Wyatt's fiscal year ends June 30. The financial statements contained in
this quarterly report reflect consolidated balance sheets as of the end of the
third quarter of fiscal year 1997 (March 31, 1997) and as of the end of the
prior fiscal year 1996 (June 30, 1996), and consolidated statements of
operations, of cash flows and of changes in permanent shareholders' equity for
the three and nine months ended March 31, 1997 and 1996.
RESULTS OF OPERATIONS - THREE AND NINE MONTHS ENDED MARCH 31, 1997 COMPARED TO
THREE AND NINE MONTHS ENDED MARCH 31, 1996.
For the first nine months of fiscal year 1997 the Company produced net income of
$1.6 million, a decrease of $4.1 million from net income of $5.7 million for the
first nine months of fiscal year 1996. Fiscal year 1997 results include a
sublease loss of $10.3 million associated with the relocation of the corporate
offices in Washington, D.C. to a less expensive suburban facility and $1.8
million in other lease losses. Excluding the effect of the lease losses in
fiscal year 1997, the Company's net income of $1.6 million for the first nine
months would have been $7.2 million, an increase of $1.5 million over fiscal
year 1996 net income for the first nine months.
Fees for the first nine months of fiscal year 1997 total $378.5 million compared
to $361.9 million for the first nine months of fiscal year 1996, an increase of
$16.6 million, or 5%. Principal areas of significant revenue growth were the
Asia Pacific and Latin America consulting regions and the outsourcing clients
retained by the Company. While year-to-date fees have increased over the prior
year, fees in the third quarter of fiscal year 1997 compared to fiscal year 1996
were flat in North America and up in Asia Pacific, offset by the reduction from
businesses which were sold in fiscal year 1996.
Salaries and employee benefit expenses for the third quarter of fiscal year 1997
were $63.7 million, an increase of $1.6 million or 3%, from $62.1 million for
the third quarter of fiscal year 1996. The Company incurred salaries and
employee benefit expenses of $187.8 million in the first nine months of fiscal
year 1997, an increase of $4.8 million, or 3%, from $183.0 million the prior
fiscal year. The increase is due to normal annual salary increases.
Occupancy and communication expenses during the third quarter of fiscal year
1997 totaled $15.5 million, a decrease of $1.0 million, or 6%, from the third
quarter of the prior year. For the first nine months of fiscal year 1997,
occupancy and communication expenses totaled $56.0 million, an increase of $7.2
million, or 15%, from the first nine months of the prior year. The increase is
due to $12.1 million in sublease and lease termination losses primarily from the
relocation of the corporate office recorded in fiscal year 1997 partially offset
by $5.6 million in lower expenses as a result of the sale of the Minneapolis
outsourcing center and the formation of Wellspring in March 1996.
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<PAGE>
Professional and subcontracted services relating to consulting offices were
$18.3 million during the third quarter of fiscal year 1997, an increase of $.7
million over the third quarter of the prior fiscal year. For the first nine
months of fiscal year 1997, professional and subcontracted services were $56.9
million, an increase of $5.8 million, or 11%, over $51.1 million for the first
nine months of fiscal year 1996. The increase is primarily due to costs charged
by Wellspring for servicing the retained outsourcing clients.
General and administrative ("G&A") expenses for the third quarter of fiscal year
1997 were $12.5 million, a $2.9 million, or 30%, increase from the third quarter
of fiscal year 1996. For the first nine months of fiscal year 1997, G&A expenses
were $33.0 million, a $4.5 million, or 16% increase from $28.5 million the prior
fiscal year. The increase in expense is primarily attributable to strategic
marketing and planning initiatives.
Depreciation and amortization expense of $6.3 million for the third quarter of
fiscal year 1997 represents a decrease of $1.4 million over the third quarter of
fiscal year 1996. For the first nine months of fiscal year 1997, depreciation
decreased $1.7 million, or 9%, over the prior year expense of $19.3 million. The
decrease is attributable to the disposal of assets in the prior year and lower
levels of capital expenditures in the current fiscal year.
Income (loss) from affiliates for the quarter and nine months ended March 31,
1997 is primarily affected by the results of the Company's Wellspring affiliate.
Income before income taxes and minority interest of $3.7 million for the first
nine months of fiscal year 1997 resulted in a tax provision of $2.0 million.
This compares to a provision of $7.5 million on $13.2 million of income before
income taxes and minority interest for the first nine months of fiscal year
1996. The effective tax rates for the nine months ended March 31, 1997 and March
31, 1996 were 54% and 57%, respectively. The somewhat higher effective tax rate
for the nine months ended March 31, 1996 was due to the nondeductibility of
certain expenses recorded during that period.
LIQUIDITY AND CAPITAL RESOURCES.
The Company relies primarily on funds from operations and short-term borrowings
as its source of liquidity. The Company believes that it has access to ample
financial resources to finance its growth as well as support ongoing operations.
The Company's cash and cash equivalents at March 31, 1997 totaled $8.1 million,
compared to $21.7 million at June 30, 1996. The Company had borrowings
outstanding under its line of credit of $5.7 million at March 31, 1997 and no
borrowings at June 30, 1996.
CASH FLOWS FROM OPERATING ACTIVITIES for the first nine months of fiscal year
1997 was an inflow of $9.6 million, compared to an inflow of $49.5 million for
the first nine months of fiscal year 1996. The decrease is due to accelerated
payments, increased advances to affiliates and reduced client collections.
The Company's ratio of current assets to current liabilities was 1.2 at March
31, 1997 and 1.1 at June 30, 1996.
CASH FLOWS FROM INVESTING ACTIVITIES decreased from outflows of $44.2 million
for the first nine months of fiscal year 1996 to outflows of $28.5 million for
the nine months of fiscal year 1997. The decrease is due to lower levels of
capital expenditures and lower spending on software and development costs offset
by an increase in cash outflow from investments in affiliates due to increased
investment in Wellspring.
Wellspring has experienced unanticipated increases in computer charges from a
primary vendor as well as software development and system implementation delays
resulting in additional expense and delayed
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<PAGE>
revenue. In addition to the $15.4 million of initial capital contributed by each
partner at the formation of Wellspring, the Company and State Street have funded
the remaining initially agreed-upon capitalization of $14.6 million each, and
have committed an additional $4.0 million each to fund cash requirements for
Wellspring through approximately June 30, 1997. The Company anticipates that the
Wellspring business will continue to require additional cash resources in fiscal
year 1998, although Wellspring's fiscal year 1998 forecasts are still being
developed.
Anticipated commitments of funds for the remainder of fiscal year 1997 are
approximately $16.0 million, which includes expected purchases of capital assets
and investments in affiliates. Included in anticipated commitments is the $4.0
million noted above to be invested in Wellspring. Operating cash flows should,
in combination with the line of credit described below, provide for the
Company's ongoing cash needs.
The Company has an $80 million revolving credit line which is scheduled to
mature on January 5, 2001. Fifty-five million dollars of the credit line is
available to the Company as revolving credit for operating needs, subject to
certain borrowing limitations. The remaining $25 million is available to secure
loans to associates from financial institutions for the purchase of Redeemable
Common Stock made available under the Company's stock purchase program. At March
31, 1997, $30.0 million of the credit line is available to the Company as
revolving credit for operating needs.
CASH FLOWS FROM FINANCING ACTIVITIES was an inflow of $6.1 million for the first
nine months of fiscal year 1997, versus $.1 million in the preceding year. The
increase is due primarily to the increased level of borrowing in fiscal year
1997.
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<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Watson Wyatt is from time to time a defendant in various lawsuits which arise in
the ordinary course of business. These disputes typically involve claims
relating to employment matters or the rendering of professional services. The
management of the Company does not believe that any such currently pending or
threatened litigation is likely to have a material adverse effect on the
business or financial condition of Watson Wyatt.
ITEM 2. CHANGES IN SECURITIES
On January 7, 1997, 4,049 unregistered shares of the Company's common stock were
sold to an outside director, in a transaction not involving a public offering in
reliance on Section 4(2) of the Securities Act of 1933. The aggregate offering
price was $20,002 (4,049 shares at $4.94 per share).
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None.
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<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORMS 8-K
a. Exhibits
3.1 Restated Certificate of Incorporation of Watson Wyatt & Company(1)
3.2 Restated Bylaws, dated November 22, 1996(4)
4.1 Form of Certificate Representing Common Stock(2)
10.1 Third Amended and Restated Credit and Security Agreement, dated
January 5, 1996(3)
10.2 First Amendment to The Third Amended and Restated Credit and Security
Agreement, dated June 14, 1996(1)
b. Reports on Form 8-K
None
- ------------------
1 Incorporated by reference from the Registrant's Annual Report on Form 10-K
for the year ended June 30, 1996 (File No. 0-20724), filed on September
27,1996.
2 Incorporated by reference from Registrant's Initial Registration Statement
on Form 10 (File No. 0-20724), filed on October 13, 1992.
3 Incorporated by reference from Registrant's Quarterly Report on Form 10-Q
for the quarter ended March 31, 1996 (File No. 0-20724), filed on May 13,
1996.
4 Incorporated by reference from Registrant's Quarterly Report on Form 10-Q
for the quarter ended December 31, 1996 (File No. 0-20724), filed on
February 12, 1997.
-12-
<PAGE>
Signatures
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: May 12, 1997
Watson Wyatt & Company
(Registrant)
/S/ A. W. Smith, Jr. /S/ Barbara L. Landes
- ------------------------- -------------------------
Name: A. W. Smith, Jr. Name: Barbara L. Landes
Title: President and Chief Title: Vice President and Chief
Executive Officer Financial Officer
-13-
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> JUN-30-1997
<PERIOD-START> JUL-01-1996
<PERIOD-END> MAR-31-1997
<CASH> 8,124
<SECURITIES> 0
<RECEIVABLES> 137,420
<ALLOWANCES> 6,475
<INVENTORY> 0
<CURRENT-ASSETS> 146,314
<PP&E> 141,525
<DEPRECIATION> 105,033
<TOTAL-ASSETS> 320,531
<CURRENT-LIABILITIES> 122,099
<BONDS> 111,702
0
0
<COMMON> 18,454
<OTHER-SE> 67,995
<TOTAL-LIABILITY-AND-EQUITY> 320,531
<SALES> 0
<TOTAL-REVENUES> 378,520
<CGS> 319,034
<TOTAL-COSTS> 369,592
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,340
<INCOME-PRETAX> 3,670
<INCOME-TAX> 1,982
<INCOME-CONTINUING> 1,688
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<NET-INCOME> 1,602
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</TABLE>
