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 MARCH 31, 2000
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 May 9, 2000.
Common Stock, $1.00 par value 14,847,097
- ------------------------------ ----------------
Class Number of Shares
<PAGE>
<TABLE>
<CAPTION>
WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(THOUSANDS OF U.S. DOLLARS, EXCEPT SHARE AMOUNTS)
Three Months Ended March 31, Nine Months Ended March 31,
------------------------------- -----------------------------
2000 1999 2000 1999
---------- ---------- ---------- ----------
(Unaudited) (Unaudited)
<S> <C> <C> <C> <C>
Fees $ 157,502 $ 135,573 $ 456,236 $ 409,916
---------- ---------- ---------- ----------
Costs of providing services:
Salaries and employee benefits 85,871 70,977 246,624 219,845
Stock incentive bonus plan 8,200 6,900 23,200 14,500
Occupancy and communications 17,000 16,412 47,423 46,366
Professional and subcontracted services 9,082 11,573 34,009 33,625
Other 9,561 9,303 25,861 20,889
---------- ---------- ---------- ----------
129,714 115,165 377,117 335,225
General and administrative expenses 16,214 14,194 44,116 42,046
Depreciation and amortization 5,483 3,996 15,000 11,820
---------- ---------- ---------- ----------
151,411 133,355 436,233 389,091
---------- ---------- ---------- ----------
Income from operations 6,091 2,218 20,003 20,825
Other:
Interest income 232 127 1,484 655
Interest expense (431) (473) (1,519) (2,194)
Income from affiliates 481 583 2,624 1,608
---------- ---------- ---------- ----------
Income before income taxes and minority interest 6,373 2,455 22,592 20,894
Provision for income taxes 2,806 1,530 10,641 10,447
---------- ---------- ---------- ----------
Income before minority interest 3,567 925 11,951 10,447
Minority interest in net (income)/loss of
consolidated subsidiaries (9) 54 167 (31)
---------- ---------- ---------- ----------
Income from continuing operations 3,558 979 12,118 10,416
Discontinued operations:
Adjustment to reduce loss on disposal of discontinued
Outsourcing Business [less applicable income tax
expense of $6,322 for the nine months ended
March 31, 1999] - - - 8,678
---------- ---------- ---------- ----------
Net income $ 3,558 $ 979 $ 12,118 $ 19,094
========== ========== ========== ==========
Earnings per share, continuing operations, basic
and fully diluted $ 0.24 $ 0.07 $ 0.81 $ 0.70
Earnings per share, discontinued operations, basic
and fully diluted - - - 0.58
---------- ---------- ---------- ----------
Earnings per share, net income, basic
and fully diluted $ 0.24 $ 0.07 $ 0.81 $ 1.28
========== ========== ========== ==========
Weighted average shares of Redeemable Common Stock, 14,851 14,693 15,051 14,931
basic and fully diluted ========== ========== ========== ==========
See accompanying notes
F-2
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
WATSON WYATT & COMPANY
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF U.S. DOLLARS)
March 31, June 30,
2000 1999
------------- -------------
(Unaudited)
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 13,324 $ 35,985
Receivables from clients:
Billed, net of allowances of $5,154 and $3,701 77,514 72,798
Unbilled 71,541 63,068
------------- -------------
149,055 135,866
Other current assets 8,993 10,834
------------- -------------
Total current assets 171,372 182,685
Investment in affiliates 17,005 15,306
Fixed assets, net of accumulated depreciation of $88,976 and $80,368 37,246 42,797
Deferred income taxes 56,206 56,206
Intangible assets, net 9,092 7,455
Other assets 8,494 9,511
------------- -------------
$ 299,415 $ 313,960
============= =============
LIABILITIES, REDEEMABLE COMMON STOCK AND PERMANENT SHAREHOLDERS' EQUITY
Accounts payable and accrued liabilities $ 142,161 $ 152,371
Line of credit and book overdrafts 10,221 248
Income taxes payable 10,876 18,374
------------- -------------
Total current liabilities 163,258 170,993
Accrued retirement benefits 70,134 77,140
Deferred rent and accrued lease losses 6,537 9,270
Other noncurrent liabilities 22,280 22,608
Minority interest in subsidiaries 523 669
Redeemable Common Stock - $1 par value:
25,000,000 shares authorized;
14,852,297 and 16,112,416 issued
and outstanding; at redemption value 99,213 107,631
Permanent shareholders' equity:
Adjustment for redemption value less
than amounts paid in by shareholders 10,505 11,420
Retained deficit (70,671) (83,209)
Cumulative translation adjustment (accumulated other comprehensive loss) (2,364) (2,562)
Commitments and contingencies
------------- -------------
$ 299,415 $ 313,960
============= =============
See accompanying notes
F-3
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF U.S. DOLLARS)
Nine Months Ended March 31,
-----------------------------
2000 1999
---------- ----------
(Unaudited)
<S> <C> <C>
Cash flows from (used for) operating activities:
Net income $ 12,118 $ 19,094
Adjustments to reconcile net income to net cash
provided by operating activities:
Adjustment to reduce loss on discontinued operations - (8,678)
Provision for doubtful receivables from clients 7,596 9,670
Depreciation 13,595 10,780
Amortization of intangible assets 1,405 1,040
Income from affiliates (2,624) (1,608)
Minority interest in net (loss) income of consolidated subsidiaries (167) 31
(Increase) decrease in assets (net of discontinued operations):
Receivables from clients (20,785) (30,239)
Income taxes receivable - 2,216
Other current assets 1,841 (657)
Other assets 1,017 877
(Decrease) increase in liabilities (net of discontinued operations):
Accounts payable and accrued liabilities (8,012) 17,057
Income taxes payable (7,498) 5,492
Accrued retirement benefits (7,006) (1,599)
Deferred rent and accrued lease losses (2,733) (2,441)
Other noncurrent liabilities 567 1,210
Other, net (110) 210
Discontinued operations, net (895) (3,857)
---------- ---------
Net cash (used for) from operating activities (11,691) 18,598
---------- ---------
Cash flows from (used in) investing activities:
Purchases of fixed assets (10,217) (9,729)
Acquisitions (2,900) (6,207)
Investment in affiliates 891 3,151
---------- ----------
Net cash used in investing activities (12,226) (12,785)
---------- ----------
Cash flows from (used by) financing activities:
Net borrowings (repayments) and book overdrafts 9,973 (8,325)
Issuances of Redeemable Common Stock 166 15,055
Repurchases of Redeemable Common Stock (9,079) (13,224)
---------- ----------
Net cash from (used by) financing activities 1,060 (6,494)
---------- ----------
Effect of exchange rates on cash 196 32
---------- ----------
Decrease in cash and cash equivalents (22,661) (649)
Cash and cash equivalents at beginning of period 35,985 13,405
---------- ----------
Cash and cash equivalents at end of period $ 13,324 $ 12,756
========== ==========
See accompanying notes
F-4
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
WATSON WYATT & COMPANY
CONSOLIDATED STATEMENTS OF CHANGES IN PERMANENT SHAREHOLDERS' EQUITY
(THOUSANDS OF U.S. DOLLARS)
(Unaudited)
Adjustment for
Redemption Value
Cumulative Less Than Amounts
Retained Translation Paid in by
Deficit Loss Shareholders Total
------------ ---------- ---------- ---------
<S> <C> <C> <C> <C>
Balance at June 30, 1999 $ (83,209) $ (2,562) $ 11,420 $ (74,351)
Comprehensive Income:
Net income 12,118 - - 12,118
Foreign currency translation adjustment - 198 - 198
---------
Total Comprehensive Income 12,316
Effect of repurchases of 1,307,967 shares of
common stock 420 - (420) -
Adjustment of redemption value for change
in Formula Book Value per share - - (495) (495)
------------ ---------- ---------- ---------
Balance at March 31, 2000 $ (70,671) $ (2,364) $ 10,505 $ (62,530)
============ ========== ========== =========
See accompanying notes
F-5
</TABLE>
<PAGE>
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 Annual Report on Form 10-K for
the fiscal year ended June 30, 1999.
The results of operations for the nine months ended March 31, 2000 are
not necessarily indicative of the results that can be expected for the
entire fiscal year ending June 30, 2000. The results reflect prorata
growth in share value, anticipated tax rates and potential distributions
at the discretion of the Company's Board of Directors. Certain prior year
amounts have been reclassified to conform to the current year's
presentation.
2. On January 19, 2000, the Company filed registration statements on Form
S-3 and Form S-4 with the Securities and Exchange Commission to offer its
common stock to the public through a corporate reorganization and Initial
Public Offering ("IPO"). As a part of the proposed transaction, the
current operating company, Watson Wyatt & Company, will merge with an
indirect wholly-owned subsidiary to become a wholly-owned subsidiary of
Watson Wyatt & Company Holdings.
3. Under the Company's current Bylaws, which remain in effect pending
consummation of the corporate reorganization mentioned above, 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
$6.68 per share at March 31, 2000 and June 30, 1999. 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.
4. During the nine months ended March 31, 2000, the Company repurchased
1,307,967 shares of Redeemable Common Stock. The computation of earnings
per share, basic and fully diluted, 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 14,851 and
14,693 for the three months ended March 31, 2000 and 1999, respectively,
and 15,051 and 14,931 for the nine months ended March 31, 2000 and 1999,
respectively.
-6-
<PAGE>
5. In the third quarter of fiscal year 1998, the Company discontinued its
Benefits Administration Outsourcing Business, including its investment in
its affiliate, Wellspring Resources, LLC ("Wellspring"), and recorded an
after-tax loss of $69.9 million related thereto. In October 1998, the
Company consummated agreements with certain 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. The Company reduced the amount of
its provision for losses from disposal of the Outsourcing Business in the
second quarter of fiscal year 1999 by $8.7 million, net of tax, and
believes it has adequate provisions for any remaining costs.
6. The Company has 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 March 31, 2000,
Comprehensive Income totaled $3.8 million, compared with $0.9 million for
the three months ended March 31, 1999. For the nine months ended March 31,
2000 and 1999, Comprehensive Income totaled $12.3 million and $19.0
million, respectively. The decrease is mainly due to the $8.7 million
adjustment to reduce the loss from disposal of the Company's Outsourcing
Business in the second quarter of fiscal year 1999.
7. In fiscal year 1999, the Company adopted SFAS No. 131 "Disclosures about
Segments of an Enterprise and Related Information." The Company is
primarily organized geographically and has seven reportable segments:
(1) U.S. East
(2) U.S. Central
(3) U.S. West
(4) Asia/Pacific
(5) Canada
(6) Latin America
(7) Data Services
The Company evaluates the performance of its segments and allocates resources
to them based on net operating income. Prior and current year data has been
restated to be consistent with current classifications for comparative
purposes.
The table below presents specified information about reported segments as of
and for the three months ended March 31, 2000 (in thousands):
<TABLE>
<CAPTION>
U.S. U.S. U.S. Asia/ Latin Data
East Central West Pacific Canada America Services Total
---- ------- ---- ------- ------ ------- -------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fees (net of
reimbursable
expenses) $ 54,108 $ 43,933 $ 19,576 $ 15,279 $ 12,244 $ 1,977 $ 2,867 $ 149,984
Net operating
income 15,388 8,025 1,842 2,774 1,721 183 995 30,928
Receivables 55,687 46,655 18,734 14,110 11,953 2,310 - 149,449
</TABLE>
-7-
<PAGE>
The table below presents specified information about reported segments as of
and for the three months ended March 31, 1999 (in thousands):
<TABLE>
<CAPTION>
U.S. U.S. U.S. Asia/ Latin Data
East Central West Pacific Canada America Services Total
---- ------- ---- ------- ------ ------- -------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fees (net of
reimbursable
expenses) $ 48,350 $ 39,220 $ 14,449 $ 11,432 $10,721 $ 2,026 $ 2,649 $ 128,847
Net operating
income/(loss) 11,817 6,272 (5,076) 956 613 317 300 15,199
Receivables 54,530 40,865 21,187 12,013 12,113 1,846 - 142,554
</TABLE>
The table below presents specified information about reported segments as of
and for the nine months ended March 31, 2000 (in thousands):
<TABLE>
<CAPTION>
U.S. U.S. U.S. Asia/ Latin Data
East Central West Pacific Canada America Services Total
---- ------- ---- ------- ------ ------- -------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fees (net of
reimbursable
expenses) $158,766 $127,116 $ 58,768 $ 42,091 $32,019 $ 5,268 $ 9,769 $ 433,797
Net operating
income/(loss) 43,383 22,230 5,871 5,761 933 (335) 3,937 81,780
Receivables 55,687 46,655 18,734 14,110 11,953 2,310 - 149,449
</TABLE>
The table below presents specified information about reported segments as of
and for the nine months ended March 31, 1999 (in thousands):
<TABLE>
<CAPTION>
U.S. U.S. U.S. Asia/ Latin Data
East Central West Pacific Canada America Services Total
---- ------- ---- ------- ------ ------- -------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fees (net of
reimbursable
expenses) $141,915 $113,333 $ 54,746 $ 35,067 $30,392 $ 4,724 $10,709 $ 390,886
Net operating
income/(loss) 37,214 18,639 (210) 3,518 1,103 (393) 3,507 63,378
Receivables 54,530 40,865 21,187 12,013 12,113 1,846 - 142,554
</TABLE>
Information about interest income and tax expense is not presented as a segment
expense because it is not considered a responsibility of the segments'
operating management.
-8-
<PAGE>
A reconciliation of the information reported by segment to the consolidated
amounts follows for the three month and nine month periods ended March 31:
<TABLE>
<CAPTION>
Three Months Ended March 31, Nine Months Ended March 31,
------------------------------- -----------------------------
2000 1999 2000 1999
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Fees:
- -----
Total segment fees $ 149,984 $ 128,847 $ 433,797 $ 390,886
Reimbursable expenses not included in total
segment fees 6,996 7,802 22,377 22,086
Other, net 522 (1,076) 62 (3,056)
---------- ---------- ---------- ----------
Consolidated fees $ 157,502 $ 135,573 $ 456,236 $ 409,916
========== ========== ========== ==========
Net Operating Income:
- ---------------------
Total segment net operating income $ 30,928 $ 15,199 $ 81,780 $ 63,378
Income from affiliates 481 583 2,624 1,608
Differences in allocation methods for
depreciation, G&A and pension costs (200) 3,312 2,312 1,916
Gain on sale of business units - - - 3,822
Discretionary bonuses and stock incentive
bonus plan (21,450) (16,572) (63,200) (48,120)
Other, net (3,386) (67) (924) (1,710)
---------- ---------- ---------- ----------
Consolidated pretax income from
continuing operations $ 6,373 $ 2,455 $ 22,592 $ 20,894
========== ========== ========== ==========
Receivables:
- ------------
Total segment receivables -
billed and unbilled $ 149,449 $ 142,554 $ 149,449 $ 142,554
Net valuation differences and
receivables of discontinued operations (394) (1,995) (394) (1,995)
---------- ---------- ---------- ----------
Total billed and unbilled receivables 149,055 140,559 149,055 140,559
Assets not reported by segment 150,360 138,133 150,360 138,133
---------- ---------- ---------- ----------
Consolidated assets $ 299,415 $ 278,692 $ 299,415 $ 278,692
========== ========== ========== ==========
</TABLE>
8. In December 1999, the SEC issued Staff Accounting Bulletin No. 101
"Revenue Recognition in Financial Statements" (SAB 101) which summarizes
certain of the staff's views on revenue recognition. The Company's
revenue recognition policies have been and continue to be in accordance
with SAB 101.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
CORPORATE INFORMATION
Watson Wyatt & Company, including its subsidiaries, is a global provider of
human capital consulting services. The Company operates on a geographical basis
from 59 offices in 18 countries throughout North America, Asia-Pacific and
Latin America. The Company provides services in three principal practice areas:
employee benefits, human resources technologies and human capital consulting.
-9-
<PAGE>
Watson Wyatt & Company was incorporated in Delaware on February 17, 1958.
Including predecessors, the Company has been in business since 1946. The
Company conducted business as The Wyatt Company until changing its corporate
name to Watson Wyatt & Company in connection with the establishment of the
Watson Wyatt Worldwide alliance. In 1995, the Company entered into an alliance
agreement with R. Watson & Sons (now Watson Wyatt Partners), a United
Kingdom-based actuarial, benefits and human resources consulting partnership
that was founded in 1878. Since 1995, the Company has marketed its services
globally under the Watson Wyatt Worldwide brand, sharing resources,
technologies, processes and business referrals.
Although the Company operates globally as an alliance, its revenues and
operating expenses reflect solely the results of operations of Watson Wyatt &
Company. The Company's share of the results of operations of its affiliates,
recorded using the equity method of accounting, is reflected in the "Income
from affiliates" line. Watson Wyatt & Company's principal affiliates are
Watson Wyatt Partners, in which the Company holds a 10% interest in a defined
distribution pool, and Watson Wyatt Holdings (Europe) Limited, a holding
company through which the Company conducts its continental European operations.
The Company owns 25% of Watson Wyatt Holdings (Europe) Limited and Watson Wyatt
Partners owns the remaining 75%.
Watson Wyatt's principal executive offices are located at 6707 Democracy
Boulevard, Suite 800, Bethesda, Maryland, 20817. The Company's telephone number
is (301) 581-4600. The Company's web site is at http://www.watsonwyatt.com.
FINANCIAL STATEMENT OVERVIEW
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 2000 (March 31, 2000) and as of the end of fiscal
year 1999 (June 30, 1999), Consolidated Statements of Operations for the three
and nine month periods ended March 31, 2000 and 1999, Consolidated Statements
of Cash Flows for the nine month periods ended March 31, 2000 and 1999 and
Consolidated Statements of Changes in Permanent Shareholders' Equity for the
nine month period ended March 31, 2000.
The Company derives substantially all of its revenue from fees for consulting
services, which generally are billed at standard hourly rates or on a fixed-fee
basis; management believes the approximate percentages are 60% and 40%,
respectively. Clients are typically invoiced on a monthly basis with revenue
recognized as services are performed. For the most recent three fiscal years,
fees from U.S. consulting operations have comprised approximately 80% of
consolidated revenues. No single client accounted for more than 3% of the
Company's consolidated revenues for any of the most recent three fiscal years.
The Company's most significant expense is compensation to employees, which
typically comprises over 60% of total costs of providing services. In addition
to payroll and related benefits and taxes, compensation to employees also
includes incentive bonus expense, which is linked to the Company's operating
performance. Other significant costs of providing services include office rent
and related costs, communications and professional and subcontracted services.
-10-
<PAGE>
RESULTS OF OPERATIONS--NINE MONTHS ENDED MARCH 31, 2000 COMPARED TO NINE MONTHS
ENDED MARCH 31, 1999.
REVENUES. Fees for the nine months ended March 31, 2000 were $456.2 million,
compared to $409.9 million for the nine months ended March 31, 1999, an
increase of $46.3 million, or 11%. This revenue growth is primarily due to a
$16.0 million, or 11%, rise in fees generated by the Company's U.S. East
region, a $13.7 million, or 12% rise in fees generated by the Company's U.S.
Central region, a $3.1 million, or 5% increase in the Company's U.S. West
region, and a $0.8 million, or 2% increase in other North American regions. The
fee increase in the North American regions can be attributed to increased
chargeable hours, accounting for approximately $7.5 million, and to the
realization of net billing rate increases, accounting for approximately $26.1
million. In addition to these amounts, the Company's Asia-Pacific region
generated $7.5 million, or 21% higher fees than in the previous nine month
period, and the Company's Latin American region generated $0.5 million, or 11%
higher fees than in the previous nine month period. Within North America the
following individual lines of business, not all inclusive, showed the following
trends: Benefits Group, a $19.9 million, or 9% increase; HR Technologies Group,
a $6.5 million, or 11% increase; and Human Capital Group, a $5.5 million, or
16% increase.
Fees for the three months ended March 31, 2000 were $157.5 million, compared to
$135.6 million for the three months ended March 31, 1999, an increase of $21.9
million, or 16%. This revenue growth is primarily due to a $4.8 million, or 31%
increase in fees generated by the Company's U.S. West region, a $4.8 million,
or 9% increase in fees generated by the Company's U.S. East region, a $4.7
million, or 11% increase in fees generated by the Company's U.S. Central
region, and a $1.8 million, or 13% increase in other North American regions.
The fee increase in the North American regions can be attributed to increased
chargeable hours, accounting for approximately $0.6 million, and to the
realization of net billing rate increases, accounting for approximately $15.5
million. In addition to these amounts, the Company's Asia-Pacific region
generated $3.7 million, or 31% higher fees than in the previous three month
period. Within North America the following individual lines of business, not
all inclusive, showed the following trends: Benefits Group, a $4.9 million, or
6% increase; HR Technologies Group, a $4.8 million, or 31% increase; and Human
Capital Group, a $3.3 million, or 31% increase.
SALARIES AND EMPLOYEE BENEFITS. Salaries and employee benefit expenses for the
nine months ended March 31, 2000 were $246.6 million, compared to $219.8
million for the nine months ended March 31, 1999, an increase of $26.8 million,
or 12%. The increase is mainly due to an $18.8 million increase in compensation
expenses, which is partly the result of annual salary increases of 6% and a 4%
increase in headcount. The remainder of the difference can be attributed to a
$6.0 million higher fiscal year end bonus accrual, a $1.8 million increase in
medical claims, and a $1.0 million higher pension expense. Salaries and
employee benefit expenses for the third quarter of fiscal year 2000 were $85.9
million, compared to $71.0 million for the third quarter of fiscal year 1999,
an increase of $14.9 million, or 21%. The increase is mainly due to a $7.5
million increase in compensation expenses, which is partly the result of annual
salary increases of 6% and a 4% increase in headcount. The remainder of the
difference can be attributed to the $4.1 million third quarter fiscal year 1999
adjustment to pension expense due to higher investment gains, and a $3.4
million increase in the fiscal year end bonus accrual.
-11-
<PAGE>
STOCK INCENTIVE BONUS PLAN. The accrued bonus under the Company's stock
incentive bonus plan for the nine months ended March 31, 2000 was $23.2
million, compared to $14.5 million for the nine months ended March 31, 1999, an
increase of $8.7 million, or 60%. The stock incentive bonus plan expense for
the three months ended March 31, 2000 was $8.2 million, compared to $6.9
million for the three months ended March 31, 1999, an increase of $1.3 million,
or 19%. These increases are due to higher operating results for the three and
nine months ended March 31, 2000 compared to the operating results for the
three and nine months ended March 31, 1999. Under the equity based compensation
structure the Company plans to implement as a publicly traded enterprise, the
results of operations for the three and nine month periods ended March 31, 2000
and 1999 would not have included the accrual for bonuses under the stock
incentive bonus plan.
OCCUPANCY AND COMMUNICATIONS. Occupancy and communication expenses for the nine
months ended March 31, 2000 were $47.4 million, compared to $46.4 million for
the nine months ended March 31, 1999, an increase of $1.0 million, or 2%. The
increase is primarily due to a $0.5 million increase in telephone expense and a
$0.4 million increase in business taxes. Occupancy and communication expenses
for the three months ended March 31, 2000 were $17.0 million, compared to $16.4
million for the three months ended March 31, 1999, an increase of $0.6 million,
or 4%. The increase is primarily due to a $0.3 million increase in business
taxes and a $0.3 million increase in equipment rentals.
PROFESSIONAL AND SUBCONTRACTED SERVICES. Professional and subcontracted
services for the nine months ended March 31, 2000 were $34.0 million, compared
to $33.6 million for the nine months ended March 31, 1999, an increase of $0.4
million, or 1%. The difference is mainly due to a $1.2 million actuarial and
strategic consulting expense from a sub-contractor, $0.9 million in non-compete
payments, and a $1.0 million increase in international professional services,
offset by lower reimbursable expenses generated on behalf of clients of $1.7
million and a $1.0 million insurance claim. Professional and subcontracted
services for the three months ended March 31, 2000 were $9.1 million, compared
to $11.6 million for the three months ended March 31, 1999, a decrease of $2.5
million, or 22%. The decrease is attributable to a $1.0 million insurance
claim, lower reimbursable expenses generated on behalf of clients of $0.8
million and lower general expenses of $0.6 million in the Company's North
American offices.
OTHER. Other costs of providing services for the nine months ended March 31,
2000 were $25.9 million, compared to $20.9 million for the nine months ended
March 31, 1999, an increase of $5.0 million, or 24%. The increase is primarily
due to a $3.7 million gain from the sale of the Company's defined contribution
daily record-keeping software recognized in the nine months ended March 31,
1999, offset by a $0.7 million charge related to the exit from this business,
incurred during the third quarter of fiscal year 1999. Without the effect of
the Company's exit from its defined contribution record-keeping business, other
costs of providing services would have increased $2.0 million, or 8%. The
difference without giving effect to this item can be attributed to a $0.9
million increase in travel, a $0.6 million increase in professional
development, and a $0.5 million increase in dues and entertainment expenses.
Other costs of providing services for the three months ended March 31, 2000
were $9.6 million, compared to $9.3 million for the three months ended March
31, 1999, an increase of $0.3 million, or 3%. The increase is primarily due to
a $0.4 million increase in travel, a $0.3 million increase in professional
development, and a $0.3 million increase in dues and entertainment expenses,
partially offset by the charge related to the exit from the Company's defined
contribution daily record-keeping business mentioned above.
-12-
<PAGE>
GENERAL AND ADMINISTRATIVE. General and administrative expenses for the nine
months ended March 31, 2000 were $44.1 million, compared to $42.0 million for
the nine months ended March 31, 1999, an increase of $2.1 million, or 5%. G&A
expenses for the three months ended March 31, 2000 were $16.2 million, compared
to $14.2 million for the three months ended March 31, 1999, an increase of $2.0
million, or 14%. The majority of the increase in both periods can be attributed
to an increase of $1.5 million in legal expenses.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense for the
nine months ended March 31, 2000 was $15.0 million, compared to $11.8 million
for the nine months ended March 31, 1999, an increase of $3.2 million, or 27%.
Depreciation and amortization expense for the three months ended March 31, 2000
was $5.5 million, compared to $4.0 million for the three months ended March 31,
1999, an increase of $1.5 million, or 37%. The increase in both periods is due
to increased purchases of capital assets towards the end of the year for which
the Company records a full year's depreciation.
INTEREST INCOME. Interest income for the nine months ended March 31, 2000 was
$1.5 million, compared to $0.7 million for the nine months ended March 31,
1999, an increase of $0.8 million, or 114%. The increase can be attributed to
the receipt of interest of $0.5 million related to a federal tax refund and to
additional interest income of $0.3 million earned during the year on a higher
average investment balance for the first quarter of fiscal year 2000. Interest
income for the three months ended March 31, 2000 was $0.2 million, compared to
$0.1 million for the three months ended March 31, 1999, an increase of $0.1
million.
INTEREST EXPENSE. Interest expense for the nine months ended March 31, 2000 was
$1.5 million, compared to $2.2 million for the nine months ended March 31,
1999, a decrease of $0.7 million, or 32%. Interest expense for the three months
ended March 31, 2000 was $0.4 million, compared to $0.5 million for the three
months ended March 31, 1999, a decrease of $0.1 million, or 20%. On average,
the Company borrowed less money against its revolving line of credit in the
first nine months of fiscal year 2000 than in the first nine months of fiscal
year 1999.
INCOME FROM AFFILIATES. Income from affiliates for the nine months ended March
31, 2000 was $2.6 million, compared to $1.6 million for the nine months ended
March 31, 1999, an increase of $1.0 million, or 63%. The increase reflects
improvement in business operations by the Company's affiliates in both
Continental Europe and the United Kingdom. Income from affiliates for the three
months ended March 31, 2000 was $0.5 million, compared to $0.6 million for the
three months ended March 31, 1999, a decrease of $0.1 million.
PROVISION FOR INCOME TAXES. Income taxes for the nine months ended March 31,
2000 were $10.6 million, compared to $10.4 million for the nine months ended
March 31, 1999. The Company's effective tax rate was 47% for the nine months
ended March 31, 2000, compared to 50% for the nine months ended March 31, 1999.
The change is due to the use of federal and state tax credits. The Company's
tax rate is affected by differing foreign tax rates in various jurisdictions.
The Company does not record a tax benefit on foreign net operating loss
carryovers and foreign deferred expenses unless it is more likely than not that
a benefit will be realized.
DISCONTINUED OPERATIONS. During the nine months ended March 31, 1998, the
Company further resolved its future obligations related to the discontinuation
of the Company's Benefits Administration Outsourcing Business and reduced the
expected loss on disposal by $8.7 million, net of tax. Management believes the
Company has adequate provisions for any remaining costs related to the
discontinuation.
-13-
<PAGE>
NET INCOME. Net income for the nine months ended March 31, 2000 was $12.1
million, compared to $19.1 million for the nine months ended March 31, 1999, a
decrease of $7.0 million, or 37%. The decrease is principally due to the $8.7
million after-tax adjustment to reduce the loss on disposal of the discontinued
Benefits Administration Outsourcing Business recorded in fiscal year 1999. Net
income for the three months ended March 31, 2000 was $3.6 million, compared to
$1.0 million for the three months ended March 31, 1999, an increase of $2.6
million, or 260%. The increase is due to higher income from continuing
operations of $3.9 million, net of income taxes. Income from continuing
operations for the three and nine months ended March 31, 2000 and 1999 also
reflect the stock incentive bonus plan accruals discussed above.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash and cash equivalents at March 31, 2000 totaled $13.3
million, compared to $36.0 million at June 30, 1999. The decrease in cash from
June 30, 1999 to March 31, 2000 is mainly attributable to the year to date
corporate tax payments in North America of $17.4 million, purchases of $10.2
million in capital assets during the first nine months of fiscal year 2000, net
of borrowings against the Company's line of credit of $6.0 million at March 31,
2000. The Company had no borrowings under its line of credit as of June 30,
1999.
CASH FROM (USED FOR) OPERATING ACTIVITIES. Cash used for operating activities
for the nine months ended March 31, 2000 was $11.7 million, compared to cash
from operating activities of $18.6 million for the nine months ended March 31,
1999. The increase in cash outflows is due to $12.6 million in higher current
year bonus payouts, net of higher bonus accruals, higher corporate tax payments
compared to accruals of $13.0 million, an $11.4 million year over year decrease
in accounts payable, and increased benefits payments to retirees of $6.1
million, offset by a lower increase in receivables of $9.5 million and lower
payouts in connection with discontinued operations of $3.0 million. Further,
the allowance for doubtful accounts increased $1.4 million from June 30, 1999
to March 31, 2000. This increase is typical of the Company's historical
patterns, where the receivables and allowance are substantially reduced at year
end from an increased emphasis on collections. Both the receivable balances and
the related allowance usually decrease in the last three months of the year.
The number of months of accounts receivable outstanding was 1.6 at March 31,
2000 and 1.4 at March 31, 1999.
CASH USED IN INVESTING ACTIVITIES. Cash used in investing activities for the
nine months ended March 31, 2000 was $12.2 million, compared to $12.8 million
for the nine months ended March 31, 1999. The decrease in cash usage was due to
$3.3 million in lower contingent consideration payments associated with 1999
acquisitions, partially offset by $2.3 million in lower distributions from
affiliates to the Company and $0.5 million in higher current year purchases of
fixed assets.
CASH FROM (USED BY) FINANCING ACTIVITIES. Cash flows from financing activities
were $1.1 million for the nine months ended March 31, 2000, compared to cash
used by financing activities of $6.5 million for the nine months ended March
31, 1999. This change reflects the timing of borrowings and repayments of $14.2
million against the Company's revolving line of credit, a $4.0 million increase
in book overdrafts, and a $14.9 million decrease in issuances of Redeemable
Common Stock, all of which reflect the fact that the Company completed a formal
stock sale in the nine months ended March 31, 1999 but did not have a formal
stock sale in the nine month period ended March 31, 2000. This change also
reflects a $4.1 million decrease in repurchases of Redeemable Common Stock by
the Company for the nine months ended March 31, 2000.
-14-
<PAGE>
The Company has a $120.0 million revolving credit facility that matures on
June 30, 2003. Of the $95.0 million of the credit line that is allocated for
operating needs, $86.8 million was available as of March 31, 2000, compared to
$92.8 million on June 30, 1999. Further, the Company had borrowings outstanding
of $6.0 million as of March 31, 2000. The remaining $2.2 million is unavailable
as a result of support required for letters of credit issued under the credit
line.
The Company relies primarily on funds from operations and short-term borrowings
for liquidity. Management believes that the Company has access to ample
financial resources to finance anticipated growth, meet commitments to
affiliates, as well as support ongoing operations. Anticipated commitments of
funds are estimated at $11.5 million for the remainder of fiscal year 2000,
mainly for computer hardware purchases and for office relocations and
renovations. Management expects operating cash flows to provide for these cash
needs. In future fiscal years, management would expect that the Company's
capital needs would be similar in nature to what the Company has incurred in
the past. Capital expenditures will be required in conjunction with office
lease renewals and relocations required to support management's growth
strategy. Additionally, the Company's consultants will need to have access to
hardware and software that will support servicing the Company's client base. In
a rapidly changing technological environment, management anticipates the
Company will need to make investments in its knowledge sharing and financial
systems infrastructure. Management would expect cash from operations in
conjunction with the anticipated net proceeds from the proposed public offering
and the Company's existing credit facility to adquately provide for these cash
needs.
The Company's foreign operations do not materially impact liquidity or capital
resources. At March 31, 2000, $12.4 million of the total cash balance of $13.3
million was held outside of North America, which the Company has the ability to
readily access, if necessary. There are no significant repatriation
restrictions other than local or U.S. taxes associated with repatriation. The
foreign operations in total are substantially self-sufficient for their working
capital needs.
The Company continues to guarantee certain leases for office premises and
equipment for Wellspring. Minimum remaining payments guaranteed under these
leases at March 31, 2000 total $51.9 million, which expire at various dates
through 2007. These leases are also jointly and severally guaranteed by the
Company's former partner in Wellspring, State Street. The estimated loss from
the potential exercise of these guarantees has been included in the fiscal year
1998 loss on disposal of the Benefits Administration Outsourcing Business.
MARKET RISK
The Company is exposed to market risks in the ordinary course of business.
These risks include interest rate risk and foreign currency exchange risk.
Management has examined the Company's exposure to these risks and concluded
that none of our exposures in these areas are material to fair values, cash
flows or earnings.
-15-
<PAGE>
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
The following discussion of Year 2000, Note 5 on page 7, the last sentence of
"Provision for Income Taxes" and the last sentence of "Discontinued
Operations", both on page 13, the sixth paragraph of "Liquidity and Capital
Resources" on page 15, and the last sentence of the first paragraph of "Item 1
- - Legal Proceedings" on page 17 contain forward-looking statements that involve
substantial risks and uncertainties. These statements can be identified by
forward-looking words such as "may," "will," "expect," "anticipate," "believe,"
"estimate," "plan," "intend," "continue" or similar words. Statements that
contain these words should be read carefully because they discuss the Company's
future expectations, contain projections of the Company's future results of
operations or financial condition or state other "forward-looking" information.
YEAR 2000 ISSUE
The Company has substantially completed a program to address the Year 2000
issue as it affects its business and management believes that the Year 2000
issue is not likely to have a material adverse effect on the Company's
business, results of operations, or financial condition. Nevertheless, since
the effects of the Year 2000 issue are not predictable, management does not
expect that the Year 2000 compliance program will eliminate all risk to the
Company associated with the Year 2000 issue.
Management believes that the most significant risk facing the Company in
connection with the Year 2000 issue relates to software provided by the Company
for use by, or on behalf of, its clients. This software has been provided
principally by the HR Technologies Group, including benefit administration
software and call center services and the retirement practice, principally
spreadsheet-based benefit calculators. The risks presented include the
possibility of errors or contractual liability caused by non-compliant software
that is not identified or corrected and the costs of replacing or repairing
client systems. Testing and remediation have been completed on approximately
80% of such systems. Virtually all of the systems not yet repaired are used to
support open enrollment in benefits plans and any required Year 2000
remediation will be performed as a part of modifications to such systems before
they are next used.
The cost to address Year 2000 compliance issues exceeded $4.0 million for
fiscal year 1999. The principal expenditures were for repair and testing of
internal and client software, costs associated with managing and administering
the Company's Year 2000 compliance program and costs of outside consultants.
Management expects that the costs for the Company's Year 2000 compliance
program will be lower in fiscal year 2000. Funds for costs associated with the
Company's Year 2000 compliance efforts will come from operating cash flows for
all areas of its operations and will be expensed as incurred.
-16-
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time, the Company is a party to various lawsuits, arbitrations or
mediations that arise in the ordinary course of business. These disputes
typically involve claims relating to employment matters or the rendering of
professional services. The four matters summarized below involve the most
significant pending or potential claims against the Company. Management
believes, based on currently available information, that the results of all
such proceedings, in the aggregate, will not have a material adverse effect on
the Company's financial condition, but claims which are possible in its
business could be material to the financial results for a particular period,
depending, in part, upon the operating results for that period.
REGINA, SASKATCHEWAN POLICE. The Administrative Board of the Regina Police
Superannuation and Benefit Plan filed an action against the Company and three
individual employees in 1994 alleging errors in valuation methods, assumptions
and calculations for the Plan during the course of work provided for the plan
since the 1970s. Discovery is concluded and the exchange of expert reports is
anticipated during 2000. The Administrative Board seeks approximately $26
million in damages, plus interest.
CITY OF MILWAUKEE, WISCONSIN. The City of Milwaukee Employees Retirement Board
notified the Company of a potential claim involving an erroneously calculated
cost of living adjustment that was based on a formula provided by the staff of
the Employees Retirement Board. In response to the notice of claim, the Company
filed a declaratory judgment action against the City of Milwaukee and the
Employees Retirement Board in the U.S. District Court in Chicago. By mutual
consent, the parties agreed to dismiss the claim with leave to reinstate,
pending settlement discussions among other parties.
CONNECTICUT CARPENTERS PENSION FUND. The Connecticut Carpenters Pension Fund
has filed an action against the Company claiming errors in valuations from 1991
through 1998 that allegedly resulted in understated liabilities. The plaintiffs
are seeking damages of approximately $65 million, including punitive damages.
The case is in discovery.
CLAIM AGAINST WATSON WYATT PARTNERS. A law firm representing a client based in
Europe has notified Watson Wyatt Partners, the Company's European alliance
partner, of a claim involving alleged errors in the design of a global employee
stock option plan which may include work performed by present or former
subsidiaries of Watson Wyatt & Company. The parties are informally exchanging
information pursuant to English legal procedures.
The Company carries substantial professional liability insurance with a
self-insured retention of $1 million per occurrence which provides coverage for
professional liability claims. The Company also carries employment practices
liability insurance.
-17-
<PAGE>
ITEM 2. CHANGES IN SECURITIES
On March 28, 2000, 7,500 shares of the Company's Redeemable Common Stock were
issued 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 shares were
issued to the outside director in connection with his return to the Company's
board of directors in November 1999. The aggregate offering price was
$50,100.00.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
On January 27, 2000 the Company filed a Current Report on Form 8-K announcing
the filing of Registration Statements on Form S-3 and Form S-4 to effect a
corporate reorganization in order to create a holding company structure, and a
subsequent public offering by the holding company.
There is no assurance that the proposed reorganization or initial public
offering will be consummated.
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 November 19, 1998)3
4 Form of Certificate Representing Common Stock1
10 Credit Agreement Among NationsBank, N.A. and Others dated
June 30, 19984
b. Reports on Form 8-K
Report on Form 8-K, filed January 27, 2000.
- --------
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 Statement on Form S-8 (File
No. 33-369545), filed on December 23, 1998
4 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
-18-
<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/ John J. Haley May 9, 2000
- ----------------- -----------
Name: John J. Haley Date
Title: President and Chief
Executive Officer
/S/ Carl D. Mautz May 9, 2000
- ----------------- -----------
Name: Carl D. Mautz Date
Title: Vice President and Chief
Financial Officer
/S/ Peter L. Childs May 9, 2000
- ------------------- -----------
Name: Peter L. Childs Date
Title: Controller
-19-
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