UNITED STATES
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 SEPTEMBER 30, 1998
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____ TO _____
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, MD 20817
(Address of principal executive offices, including zip code)
(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 November 4, 1998.
Common Stock, $1.00 par value 14,677,390
- ----------------------------- ----------------
Class Number of Shares
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WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(THOUSANDS OF U.S. DOLLARS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED SEPTEMBER 30,
--------------------------------
1998 1997
------------ ------------
(Unaudited)
<S> <C> <C>
Fees $ 133,985 $ 125,553
Costs of providing services:
Salaries and employee benefits 78,498 64,207
Occupancy and communications 14,521 15,219
Professional and subcontracted services 8,714 11,177
Other 2,846 7,000
------------ ------------
104,579 97,603
General and administrative expenses 11,160 10,378
Depreciation and amortization 3,853 4,687
------------ ------------
119,592 112,668
Income from operations 14,393 12,885
Other:
Interest income 124 249
Interest expense (553) (409)
Income (loss) from affiliates 160 (99)
------------ ------------
Income before income taxes and minority interest 14,124 12,626
Provision for income taxes:
Current 6,830 5,811
Deferred - -
------------ ------------
6,830 5,811
------------ ------------
Income before minority interest 7,294 6,815
Minority interest in net income of consolidated subsidiaries - (44)
------------ ------------
Continuing operations net income 7,294 6,771
Discontinued operations:
Loss from operations of discontinued Outsourcing Business (less
applicable income tax benefit of $0 and $1,162 respectively) - (1,630)
============ ============
Net income $ 7,294 $ 5,141
============ ============
Earnings per share, continuing operations $ 0.47 $ 0.38
============ ============
Loss per share, discontinued operations $ - $ (0.09)
============ ============
Earnings per share, net income $ 0.47 $ 0.29
============ ============
See accompanying notes
F-2
</TABLE>
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<TABLE>
WATSON WYATT & COMPANY
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF U.S. DOLLARS)
SEPTEMBER 30, JUNE 30,
1998 1998
-------------- -------------
(Unaudited)
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 13,592 $ 13,405
Receivables from clients:
Billed, net of allowances of $4,951 and $2,142 67,147 69,671
Unbilled 73,644 59,725
-------------- -------------
140,791 129,396
Income taxes receivable - 2,216
Other current assets 10,232 6,945
-------------- -------------
Total current assets 164,615 151,962
Investment in affiliates 16,982 17,666
Fixed assets 36,584 37,368
Deferred income taxes 48,911 48,911
Other intangible assets 7,889 2,412
Other assets 9,356 9,991
-------------- -------------
$ 284,337 $ 268,310
============== =============
LIABILITIES, REDEEMABLE COMMON STOCK AND PERMANENT SHAREHOLDERS' EQUITY
Accounts payable and accrued liabilities $ 93,244 $ 116,548
Note payable and book overdrafts 44,610 11,666
Income taxes payable 3,396 -
-------------- -------------
Total current liabilities 141,250 128,214
Accrued retirement benefits 82,504 82,528
Deferred rent and accrued lease losses 12,041 12,676
Other noncurrent liabilities 35,291 32,784
Minority interest in subsidiaries 403 322
Redeemable Common Stock - $1 par value:
25,000,000 shares authorized;
15,015,940 and 15,916,757 issued
and outstanding; at redemption value 90,846 96,296
Permanent shareholders' equity:
Adjustment for redemption value less
than amounts paid in by shareholders 23,811 25,240
Retained deficit (98,945) (106,834)
Cumulative translation loss (2,864) (2,916)
Commitments and contingencies
-------------- -------------
$ 284,337 $ 268,310
============== =============
See accompanying notes
F-3
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<TABLE>
WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF U.S. DOLLARS)
THREE MONTHS ENDED SEPTEMBER 30,
--------------------------------
1998 1997
------------ -------------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 7,294 $ 5,141
Adjustments to reconcile net income to net cash
provided by operating activities:
Net loss from discontinued operations - 1,630
Provision for doubtful receivables from clients 1,957 3,830
Depreciation 3,601 3,559
Amortization of deferred software and development costs
and other intangible assets 252 1,127
Provision for deferred income taxes - 30
(Income) loss from affiliates (160) 99
Minority interest in net income of consolidated subsidiaries - 44
(Increase) decrease in assets (net of discontinued operations):
Receivables from clients (15,093) (15,704)
Income taxes receivable 2,216 (145)
Other current assets (3,287) (1,908)
Other assets 635 (379)
(Decrease) increase in liabilities (net of discontinued operations):
Accounts payable and accrued liabilities (18,828) (14,155)
Income taxes payable 3,396 2,168
Accrued retirement benefits (24) 1,027
Deferred rent and accrued lease losses (635) (1,126)
Other noncurrent liabilities 489 (468)
Other, net (108) (3)
Discontinued operations, net (717) (1,862)
------------ -------------
Net cash used by operating activities (19,012) (17,095)
------------ -------------
Cash flows from investing activities:
Purchases of fixed assets (2,775) (3,925)
Acquisitions (5,671) -
Investment in software and development costs - (899)
Investment in affiliates 1,151 760
Discontinued operations - (4,750)
------------ -------------
Net cash used in investing activities (7,295) (8,814)
------------ -------------
Cash flows from financing activities:
Borrowings and bank overdrafts 32,944 13,200
Issuances of Redeemable Common Stock - 525
Repurchases of Redeemable Common Stock (6,285) (2,569)
------------ -------------
Net cash provided by financing activities 26,659 11,156
------------ -------------
Effect of exchange rates on cash (165) (630)
------------ -------------
Increase (decrease) in cash and cash equivalents 187 (15,383)
Cash and cash equivalents at beginning of period 13,405 26,257
------------ -------------
Cash and cash equivalents at end of period $ 13,592 $ 10,874
============ =============
See accompanying notes
F-4
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<TABLE>
WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF CHANGES IN PERMANENT SHAREHOLDERS' EQUITY
(THOUSANDS OF U.S. DOLLARS)
ADJUSTMENT FOR
REDEMPTION VALUE
CUMULATIVE LESS THAN AMOUNTS
RETAINED TRANSLATION PAID IN BY
DEFICIT LOSS SHAREHOLDERS
------------ ---------- ----------
<S> <C> <C> <C>
Balance at June 30, 1998 $ (106,834) $ (2,916) $ 25,240
Comprehensive Income:
Net income 7,294 - -
Foreign currency translation adjustment - 52 -
------------ ---------- ----------
Total Comprehensive Income 7,294 52 -
Effect of repurchases of 900,817 shares of
common stock (various prices per share) 594 - (594)
Adjustment of redemption value for change
in Formula Book Value per share - - (835)
------------ ---------- ----------
Balance at September 30, 1998 $ (98,945) $ (2,864) $ 23,811
============ ========== ==========
See accompanying notes
F-5
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WATSON WYATT & COMPANY
NOTES TO THE 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 ("SEC") 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 year ended June
30, 1998.
The results of operations for the three months ended September 30, 1998 are
not necessarily indicative of the results that can be expected for the
entire fiscal year ending June 30, 1999. Certain prior year amounts have
been reclassified to conform to the current year presentation, including
the Consolidated Statements of Operations and of Cash Flows for September
30, 1997 which have been restated to reflect the Company's discontinued
operations.
2. 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 $6.05 per share at September 30, 1998 and June
30, 1998. Permanent shareholders' equity includes an adjustment for the
difference between the redemption value of the Redeemable Common Stock and
the amounts actually paid or deemed paid by shareholders for the shares.
3. During the three months ended September 30, 1998, the Company repurchased
900,817 shares of Redeemable Common Stock, at various prices per share. The
computation of earnings per share is based upon the weighted average number
of shares of Redeemable Common Stock outstanding during the period. The
number of shares (in thousands) used in the computation is 15,377 and
17,981 for the three months ended September 30, 1998 and 1997,
respectively.
4. During fiscal 1998, the Company discontinued its Benefits
Administration Outsourcing Business including its investment in its
affiliate Wellspring Resources, LLC ("Wellspring"). The Company recorded a
loss on discontinuation net of taxes of $69.9 million, which included the
write-off of its investment in Wellspring, net capitalized software
development costs for the Retained Clients and a provision for completion
of any obligations to clients, vendors or its former venture partner. In
October 1998, the Company consummated agreements with the remaining
Retained Clients, Wellspring and its former venture partner to transfer
operating responsibility for these clients to Wellspring, clarifying the
remaining future obligations and costs related to the discontinuation.
Management believes that savings of $25 million compared with initial
estimates in the third quarter of fiscal 1998 and $15 million from the
amount provided at June 30, 1998 will accrue to the Company from these
events.
5. On September 30, 1998, the Company adopted SFAS No. 130 "Reporting
Comprehensive Income." Comprehensive income includes net income and changes
in the cumulative translation gain or loss. For the three months ended
September 30, 1998, comprehensive income totaled $7.3 million compared with
$3.8 million for the three months ended September 30, 1997.
-6-
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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, provides employee benefits, human resources and human resources
systems technology consulting. The Company and its alliance partner, Watson
Wyatt Partners, a United Kingdom partnership, operate globally as Watson Wyatt
Worldwide. The Company works primarily with large and mid-sized organizations.
Founded in 1946, Watson Wyatt is owned almost entirely by its active employees.
The Company is incorporated in Delaware, and its principal executive offices are
located at 6707 Democracy Boulevard, Suite 800, Bethesda, MD 20817.
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
first quarter of fiscal year 1999 (September 30, 1998) and as of the end of the
prior fiscal year 1998 (June 30, 1998), and Consolidated Statements of
Operations, of Cash Flows and of Changes in Permanent Shareholders' Equity for
the three months ended September 30, 1998 and 1997.
RESULTS OF OPERATIONS--THREE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO THREE
MONTHS ENDED SEPTEMBER 30, 1997.
For the first three months of fiscal year 1999 the Company produced net income
of $7.3 million, an increase of $2.2 million from net income of $5.1 million for
the first three months of fiscal year 1998. Income for the first quarter of 1998
reflects a loss of $1.6 million from the operation of the Company's former
Benefits Administration Outsourcing Business. Continuing operations generated
net income of $7.3 million for the quarter, an increase of $0.5 million from
1998 levels of $6.8 million.
Fees for the first three months of fiscal year 1999 total $134.0 million,
compared to $125.6 million for the first three months of fiscal year 1998, an
increase of $8.4 million, or 7%. The revenue growth is attributable to improved
performance in the Company's North American Benefits Consulting Group and Human
Resource Technologies, primarily from increased billable hours.
Salaries and employee benefit expenses for the first quarter of fiscal year 1999
were $78.5 million, an increase of $14.3 million, or 22%, from $64.2 million in
the first quarter of fiscal year 1998. The increase is attributable to increased
compensation to associates of $9.6 million, partly the result of a 5% increase
in headcount. Further, personnel restructuring expenses and retirement benefits
expenses increased $3.6 million. The remaining $1.1 million increase is due to
higher related fringe benefits expenses.
Occupancy and communication expenses during the first quarter of fiscal year
1999 totaled $14.5 million, a decrease of $0.7 million, or 5%, from the first
quarter of the prior year. The change is related to a general reduction of
expense due to the relocation of offices to lower cost space.
Professional and subcontracted services decreased by $2.5 million, or 22%, from
the first quarter of fiscal year 1998, reflecting decreased legal and general
corporate expenses.
-7-
<PAGE>
Other costs of providing services were $2.8 million for the first quarter of
fiscal year 1999, a decrease of $4.2 million, or 60%, from the first quarter of
fiscal year 1998. The decrease is primarily the result of a $3.7 million gain
from the sale of defined contribution daily record-keeping software to a third
party.
General and administrative ("G&A") expenses for the first quarter of fiscal
year 1999 were $11.2 million, a $0.8 million, or 8%, increase from the first
quarter of fiscal year 1998.
Depreciation and amortization expense of $3.9 million for the first quarter of
fiscal year 1999 represents a decrease of $0.8 million from the first quarter of
fiscal year 1998. The decrease is attributable to the absence of amortization
expense for deferred software in 1999, as the Company had fully amortized such
balances at June 30, 1998.
Continuing operations income before income taxes and minority interest of $14.1
million in the first quarter of fiscal year 1999 resulted in a tax provision of
$6.8 million. This compares to a provision of $5.8 million on $12.6 million of
pre-tax income in fiscal year 1998. The effective tax rate for fiscal year 1999
is 48% compared to 46% for the same period in fiscal year 1998. The increase in
the effective tax rate is due to changes in income in various jurisdictions with
differing tax rates, particularly foreign jurisdictions.
LIQUIDITY AND CAPITAL RESOURCES.
The Company relies primarily on funds from operations and short-term borrowings
as its sources of liquidity. The Company believes that it has access to ample
financial resources to finance its growth, meet its commitments to affiliates as
well as support ongoing operations. The Company's cash and cash equivalents at
September 30, 1998 totaled $13.6 million, compared to $13.4 million at June 30,
1998. The Company had borrowings outstanding under its line of credit of $20.1
million at September 30, 1998 and $9.0 million at June 30, 1998.
CASH FROM OPERATIONS. For the first three months of fiscal year 1999, the
Company had cash outflows from operations of $19.1 million, compared to outflows
from operations of $17.1 million for the first three months of fiscal year 1998.
The increase in cash outflows results mainly from the payment of higher accrued
bonuses for fiscal year 1998 in fiscal year 1999 compared with the prior year.
The Company's ratio of current assets to current liabilities of 1.2 at September
30, 1998 remained unchanged from June 30, 1998.
CASH FROM INVESTING ACTIVITIES. Investing activity cash outflow was $7.3 million
for the first three months of fiscal year 1999, versus $8.8 million for the same
period in fiscal year 1998. The decrease in investing cash outflows was due to
lower expenditures for fixed assets and higher distributions from affiliates,
offset by amounts paid for recent acquisitions. There were no outflows for
discontinued operations in fiscal year 1999, compared with $4.8 million during
the same period in fiscal year 1998.
Anticipated commitments of funds are estimated at $22.5 million for the
remainder of fiscal year 1999, mostly for expected purchases of fixed assets.
The Company expects operating cash flows to provide for the Company's cash
needs.
-8-
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CASH FROM FINANCING ACTIVITIES. Cash flows provided by financing activities were
$26.7 million for the first three months of fiscal year 1999, versus $11.2
million in the preceding fiscal year. The increase is due to the higher level of
borrowings and book overdrafts, partially offset by greater repurchases of
Redeemable Common Stock in fiscal year 1999 than 1998.
The Company's revolving credit line matures on June 29, 2003. As of September
30, 1998, $74.9 million of the credit line was available to the Company as
revolving credit for operating needs, compared to $44.8 million on September 30,
1997.
YEAR 2000 ISSUE
During the first quarter, the Company continued to address issues associated
with the Year 2000 problem. For a more complete discussion of the Company's Year
2000 program, see the Company's Annual Report on Form 10-K for the fiscal year
ended June 30, 1998, filed September 24, 1998.
The Company is engaged in a significant effort to inventory and assess both
major and other systems, including those provided by vendors and those that the
Company has provided to its clients. Progress on specific projects varies, with
some ahead of schedule and some behind schedule. The following table summarizes
the approximate percentage of work, in the stages specified, which has been
completed as of October 30, 1998:
Assessment Remediation Testing
---------- ----------- -------
Major Systems 90% 75% 25%
Other Systems 25% 25% 25%
Since the date of the Form 10-K, there has been no material change to the
overall schedule for Year 2000 compliance activities, to the areas of risk
identified or to the costs projected by the Company for Year 2000 compliance.
Management continues to believe that the Company's Year 2000 compliance program
includes appropriate measures to address the risks identified to date and that
the shift to the Year 2000 will not have a material impact on the Company's
business, results of operations or financial condition. The Company projects
that the cost to address Year 2000 compliance issues in fiscal year 1999 will
exceed $2.0 million, but these estimates are subject to change. The Company is
likely, however, to revise its assessment of the schedule, projected costs,
areas of risk and overall consequences as a result of on-going assessment of
Year 2000 issues.
The information concerning the Company's Year 2000 compliance effort includes
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Such forward-looking statements involve known and
unknown risks, uncertainties and other factors that may cause actual events or
costs to be materially different than indicated by such forward-looking
statements. These factors include, among others, unanticipated costs of
remediation and replacement, the Company's inability to meet its targeted dates
as scheduled and extensive failures of governmental and municipal
infrastructures. Any estimates and projections described have been developed by
the management of the Company and are based on the Company's best judgments
together with the information that is available to date. Due to the many
uncertainties surrounding the Year 2000 problem, the shareholders of the Company
are cautioned not to place undue reliance on such forward-looking statements.
-9-
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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
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits
3.1 Restated Certificate of Incorporation of Watson Wyatt & Company2
3.2 Restated Bylaws (as amended through June 30, 1998)3
4 Form of Certificate Representing Common Stock1
10 Credit Agreement Among NationsBank, N.A. and Others dated
June 30, 19983
b. Reports on Form 8-K
None
- --------
1 Incorporated by reference from Registrant's Initial Statement on Form 10
(File No. 0-20724), filed on October 13, 1992
2 Incorporated by reference from Registrant's Annual Report on Form 10-K for
the fiscal year ended June 30, 1996 (file no. 0-20724), filed on
September 16, 1996
3 Incorporated by reference from Registrant's Annual Report on Form 10-K for
the fiscal year ended June 30, 1998 (file no. 0-20724), filed on
September 24, 1998
-10-
<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.
Watson Wyatt & Company
(Registrant)
/S/ A. W. Smith, Jr. November 4, 1998
- -------------------- ----------------
Name: A. W. Smith, Jr. Date
Title: President and Chief
Executive Officer
/S/ Carl D. Mautz November 4, 1998
- -------------------- ----------------
Name: Carl D. Mautz Date
Title: Controller and Acting
Chief Financial Officer
-11-
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-START> JUL-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 13,592
<SECURITIES> 0
<RECEIVABLES> 145,742
<ALLOWANCES> 4,951
<INVENTORY> 0
<CURRENT-ASSETS> 164,615
<PP&E> 115,356
<DEPRECIATION> 78,773
<TOTAL-ASSETS> 284,337
<CURRENT-LIABILITIES> 141,250
<BONDS> 129,836
0
0
<COMMON> 15,016
<OTHER-SE> (2,169)
<TOTAL-LIABILITY-AND-EQUITY> 284,337
<SALES> 0
<TOTAL-REVENUES> 133,985
<CGS> 104,579
<TOTAL-COSTS> 119,592
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 553
<INCOME-PRETAX> 14,124
<INCOME-TAX> 6,830
<INCOME-CONTINUING> 7,294
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,294
<EPS-PRIMARY> 0.47
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