Edgar Filing: Morningstar, Inc.

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington D.C. 20549

FORM 10-Q

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED March 31, 2011

OR

o	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: 000-51280

MORNINGSTAR, INC.

(Exact Name of Registrant as Specified in its Charter)

Illinois		36-3297908
(State or Other Jurisdiction of		(I.R.S. Employer
Incorporation or Organization)		Identification Number)

22 West Washington Street
Chicago, Illinois		60602
(Address of Principal Executive Offices)		(Zip Code)

(312) 696-6000

(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 o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer x	Accelerated filer o	Non-accelerated filer o	Smaller reporting company o
	(Do not check if a smaller reporting company)

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

As of April 29, 2011, there were 50,265,946 shares of the Company’s common stock, no par value, outstanding.

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MORNINGSTAR, INC. AND SUBSIDIARIES

INDEX

PART 1		FINANCIAL INFORMATION

	Item 1.	Unaudited Condensed Consolidated Financial Statements

			Unaudited Condensed Consolidated Statements of Income for the three months ended March 31, 2011 and 2010

			Unaudited Condensed Consolidated Balance Sheets as of March 31, 2011 and December 31, 2010

			Unaudited Condensed Consolidated Statement of Equity and Comprehensive Income (Loss) for the three months ended March 31, 2011

			Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2011 and 2010

			Notes to Unaudited Condensed Consolidated Financial Statements

	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations

	Item 3.	Quantitative and Qualitative Disclosure about Market Risk

	Item 4.	Controls and Procedures


PART 2		OTHER INFORMATION

	Item 1.	Legal Proceedings

	Item 1A.	Risk Factors

	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds

	Item 6.	Exhibits

SIGNATURE

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PART 1. FINANCIAL INFORMATION

Item 1. Unaudited Condensed Consolidated Financial Statements

Morningstar, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Income


	Three months ended March 31
(in thousands except per share amounts)	2011		2010

Revenue	$	151,767	$	128,290

Operating expense (1):
Cost of goods sold	40,669		34,316
Development	11,988		10,889
Sales and marketing	26,482		22,561
General and administrative	30,617		20,643
Depreciation and amortization	10,202		8,939
Total operating expense	119,958		97,348

Operating income	31,809		30,942

Non-operating income (expense):
Interest income, net	524		587
Other income (expense), net	250		(766		)
Non-operating income (expense), net	774		(179		)

Income before income taxes and equity in net income of unconsolidated entities	32,583		30,763

Income tax expense	10,518		10,995

Equity in net income of unconsolidated entities	374		389

Consolidated net income	22,439		20,157

Net loss attributable to the noncontrolling interest	98		31

Net income attributable to Morningstar, Inc.	$	22,537	$	20,188

Net income per share attributable to Morningstar, Inc.:
Basic	$	0.45	$	0.41
Diluted	$	0.44	$	0.40

Weighted average shares outstanding:
Basic	49,800		48,828
Diluted	50,953		50,332


	Three months ended March 31
	2011		2010
(1) Includes stock-based compensation expense of:
Cost of goods sold	$	879	$	715
Development	471		393
Sales and marketing	422		403
General and administrative	1,877		1,426
Total stock-based compensation expense	$	3,649	$	2,937

See notes to unaudited condensed consolidated financial statements.

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Morningstar, Inc. and Subsidiaries

Unaudited Condensed Consolidated Balance Sheets

(in thousands except share amounts)	March 31 2011			December 31 2010
Assets
Current assets:
Cash and cash equivalents	$	193,374		$	180,176
Investments	191,886			185,240
Accounts receivable, less allowance of $951 and $1,056, respectively	115,259			110,891
Deferred tax asset, net	2,648			2,860
Income tax receivable, net	9,361			10,459
Other	15,450			17,654
Total current assets	527,978			507,280
Property, equipment, and capitalized software, net	62,364			62,105
Investments in unconsolidated entities	24,664			24,262
Goodwill	325,318			317,661
Intangible assets, net	162,569			169,023
Other assets	7,335			5,971
Total assets	$	1,110,228		$	1,086,302

Liabilities and equity
Current liabilities:
Accounts payable and accrued liabilities	$	40,528		$	42,680
Accrued compensation	36,799			62,404
Deferred revenue	157,660			146,267
Other	1,446			1,373
Total current liabilities	236,433			252,724
Accrued compensation	5,071			4,965
Deferred tax liability, net	18,503			19,975
Other long-term liabilities	26,468			27,213
Total liabilities	286,475			304,877

Equity:
Morningstar, Inc. shareholders’ equity:
Common stock, no par value, 200,000,000 shares authorized, of which 50,234,935 and 49,874,392 shares were outstanding as of March 31, 2011 and December 31, 2010, respectively	5			5
Treasury stock at cost, 276,073 shares as of March 31, 2011 and 279,456 shares as of December 31, 2010	(6,561		)	(6,641		)
Additional paid-in capital	471,079			458,426
Retained earnings	343,402			323,408
Accumulated other comprehensive income:
Currency translation adjustment	13,819			4,503
Unrealized gain on available-for-sale securities	1,012			615
Total accumulated other comprehensive income	14,831			5,118
Total Morningstar, Inc. shareholders’ equity	822,756			780,316
Noncontrolling interest	997			1,109
Total equity	823,753			781,425
Total liabilities and equity	$	1,110,228		$	1,086,302

See notes to unaudited condensed consolidated financial statements.

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Morningstar, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statement of Equity and Comprehensive Income (Loss)

For the Three Months Ended March 31, 2011

	Morningstar, Inc. Shareholders’ Equity
												Accumulated
												Other
	Common Stock						Additional					Comprehensive		Non
	Shares	Par		Treasury			Paid-in		Retained			Income		Controlling			Total
(in thousands, except share amounts)	Outstanding	Value		Stock			Capital		Earnings			(Loss)		Interests			Equity

Balance as of December 31, 2010	49,874,392	$	5	$	(6,641	)	$	458,426	$	323,408		$	5,118	$	1,109		$	781,425

Comprehensive income (loss):

Net income (loss)		—		—			—		22,537			—		(98		)	22,439
Unrealized gain on available-for-sale investments, net of income tax of $211		—		—			—		—			397		—			397
Foreign currency translation adjustment, net		—		—			—		—			9,316		(14		)	9,302
Total comprehensive income (loss)		—		—			—		22,537			9,713		(112		)	32,138

Issuance of common stock related to stock-option exercises and vesting of restricted stock units, net	360,543	—		80			4,841		—			—		—			4,921
Stock-based compensation — restricted stock units		—		—			2,785		—			—		—			2,785
Stock-based compensation — restricted stock		—		—			864		—			—		—			864
Excess tax benefit derived from stock-option exercises and vesting of restricted stock units		—		—			4,122		—			—		—			4,122
Dividends declared — common shares outstanding		—		—			—		(2,502		)	—		—			(2,502		)
Dividends declared — restricted stock units		—		—			41		(41		)	—		—			—

Balance as of March 31, 2011	50,234,935	$	5	$	(6,561	)	$	471,079	$	343,402		$	14,831	$	997		$	823,753

See notes to unaudited condensed consolidated financial statements.

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Morningstar, Inc. and Subsidiaries

Unaudited Condensed Consolidated Statements of Cash Flows

	Three months ended March 31
(in thousands)	2011			2010

Operating activities
Consolidated net income	$	22,439		$	20,157
Adjustments to reconcile consolidated net income to net cash flows from operating activities:
Depreciation and amortization	10,202			8,939
Deferred income tax benefit	(677		)	(1,287		)
Stock-based compensation expense	3,649			2,937
Provision for bad debt	285			162
Equity in net income of unconsolidated entities	(374		)	(389		)
Excess tax benefits from stock-option exercises and vesting of restricted stock units	(4,122		)	(3,048		)
Other, net	(512		)	792
Changes in operating assets and liabilities, net of effects of acquisitions:
Accounts receivable	(3,357		)	(4,867		)
Other assets	1,453			(480		)
Accounts payable and accrued liabilities	(2,600		)	1,174
Accrued compensation	(26,876		)	(22,516		)
Income taxes payable	5,297			3,681
Deferred revenue	9,847			10,430
Deferred rent	(399		)	(392		)
Other liabilities	91			(843		)
Cash provided by operating activities	14,346			14,450

Investing activities
Purchases of investments	(67,352		)	(50,964		)
Proceeds from maturities and sales of investments	62,359			87,934
Capital expenditures	(5,037		)	(1,650		)
Acquisitions, net of cash acquired	—			(738		)
Other, net	(14		)	—
Cash provided by (used for) investing activities	(10,044		)	34,582

Financing activities
Proceeds from stock-option exercises	4,921			3,494
Excess tax benefits from stock-option exercises and vesting of restricted stock units	4,122			3,048
Dividends paid	(2,494		)	—
Other, net	(214		)	315
Cash provided by financing activities	6,335			6,857

Effect of exchange rate changes on cash and cash equivalents	2,561			(1,032		)
Net increase in cash and cash equivalents	13,198			54,857
Cash and cash equivalents—beginning of period	180,176			130,496
Cash and cash equivalents—end of period	$	193,374		$	185,353

Supplemental disclosure of cash flow information:
Cash paid for income taxes	$	6,962		$	8,565
Supplemental information of non-cash investing and financing activities:
Unrealized gain on available-for-sale investments	$	609		$	46

See notes to unaudited condensed consolidated financial statements.

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MORNINGSTAR, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. Basis of Presentation of Interim Financial Information

The accompanying condensed consolidated financial statements of Morningstar, Inc. and subsidiaries (Morningstar, we, our, the Company) have been prepared to conform to the rules and regulations of the Securities and Exchange Commission (SEC). The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amount of assets, liabilities, revenue, and expenses. Actual results could differ from those estimates. In the opinion of management, the statements reflect all adjustments, which are of a normal recurring nature, necessary to present fairly our financial position, results of operations, equity, and cash flows. These financial statements and notes should be read in conjunction with our Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2010, filed with the SEC on February 28, 2011.

The acronyms that appear in the Notes to our Condensed Consolidated Financial Statements refer to the following:

ASC: Accounting Standards Codification

ASU: Accounting Standards Update

EITF: Emerging Issues Task Force

FASB: Financial Accounting Standards Board

SEC: Securities and Exchange Commission

2. Summary of Significant Accounting Policies

We discuss our significant accounting policies in Note 3 of our Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2010, as filed with the SEC on February 28, 2011.

In addition, effective January 1, 2011, we adopted FASB ASU No. 2009-13, Revenue Recognition (Topic 605): Multiple-Deliverable Revenue Arrangements. ASU 2009-13 supersedes EITF Issue 00-21, Revenue Arrangements with Multiple Deliverables and establishes the accounting and reporting guidance for arrangements when a vendor performs multiple revenue-generating activities, addresses how to separate deliverables, and specifies how to measure and allocate arrangement consideration. We are applying this guidance for revenue arrangements entered into or materially modified from January 1, 2011. The adoption of ASU 2009-13 does not significantly affect either the timing or amount of our revenue recognition.

In conjunction with the adoption of ASU 2009-13, we have updated our disclosures concerning revenue recognition, as follows:

Revenue recognition: We recognize revenue in accordance with SEC SAB 104, Revenue Recognition, ASC 605-25, Revenue Recognition: Multiple Element Arrangements, and ASC 985-605, Software: Revenue Recognition.

We recognize revenue when all of the following conditions are met:

· There is persuasive evidence of an arrangement, as evidenced by a signed contract;

· Delivery of our products and services is a prerequisite for recognition of revenue. If arrangements include an acceptance provision, we generally begin recognizing revenue upon the receipt of customer acceptance;

· The amount of fees to be paid by the customer is fixed or determinable; and

· The collectibility of the fees is reasonably assured.

We generate revenue through sales of Licensed Data, Morningstar Advisor Workstation, including Morningstar Office, Morningstar Direct, Morningstar Equity Research, Premium membership fees for Morningstar.com, and a variety of other investment-related products and services. The revenue arrangements for these offerings are generally structured as licenses or subscriptions. We recognize revenue from licenses and subscription sales ratably as the product or service is delivered and over the service obligation period defined by the terms of the customer contract.

We also generate revenue from Internet advertising, primarily from “impression-based” contracts. For advertisers who use our cost-per-impression pricing, we charge fees each time their ads are displayed on our site.

Investment Consulting represents a broad range of services. Pricing for the consulting services is based on the scope of work and the level of service required, and includes asset-based fees for work we perform that involves investment management or acting as a subadvisor to investment portfolios. In arrangements that involve asset-based fees, we generally invoice clients quarterly in arrears based on average assets for the quarter. We recognize asset-based fees once the fees are fixed and determinable assuming all other revenue recognition criteria are met.

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Our Retirement Advice offerings help retirement plan participants plan and invest for retirement. We offer these services both through retirement plan providers (typically third-party asset management companies that offer proprietary mutual funds) and directly to plan sponsors (employers that offer retirement plans to their employees). For our Retirement Advice offerings, we provide both a hosted solution as well as proprietary installed software advice solution. The installed customized software can be integrated with a client’s existing systems to help investors accumulate wealth, transition into retirement, and manage income during retirement. The revenue arrangements for Retirement Advice generally extend over multiple years. Our contracts may include one-time setup fees, implementation fees, technology licensing and maintenance fees, asset-based fees for managed retirement accounts, fixed and variable fees for advice and guidance, or a combination of these fee structures. Upon customer acceptance, we recognize revenue ratably over the term of the agreement. We recognize asset-based fees and variable fees in excess of any minimum once the value is fixed and determinable.

Some of our revenue arrangements with our customers combine multiple products and services. These products and services may be provided at different points in time or over different time periods within the same arrangement. We allocate fees to the separate deliverables based on the deliverables’ relative selling price. This relative selling price is generally based on the price we charge when the same deliverable is sold separately.

We record taxes imposed on revenue-producing transactions (such as sales, use, value-added, and some excise taxes) on a net basis; therefore, such taxes are excluded from revenue in our Consolidated Statements of Income.

Deferred revenue represents the portion of subscriptions billed or collected in advance of the service being provided, which we expect to recognize to revenue in future periods. Certain arrangements may have cancellation or refund provisions. If we make a refund, it typically reflects the amount collected from a customer for which services have not yet been provided. The refund therefore results in a reduction of deferred revenue.

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3. Acquisitions, Goodwill, and Other Intangible Assets

2011 Acquisitions

We did not complete any acquisitions in the first quarter of 2011.

2010 Acquisitions

The table below summarizes the acquisitions completed during 2010. Some of the purchase price allocations related to these acquisitions are preliminary as they relate to tax-related balances and values of certain intangible assets. Additional information concerning these acquisitions can be found in the Notes to our Consolidated Financial Statements included in our Annual Report on Form 10-K filed with the SEC on February 28, 2011.

Acquisition	Description	Date of Acquisition	Purchase Price*
Footnoted business of Financial Fineprint Inc.	Footnoted is a highly regarded blog for professional money managers, analysts, and sophisticated individual investors. Footnoted Pro, a service for institutional investors, provides insight on actionable items and trends in SEC filings.	February 1, 2010	Not separately disclosed
Aegis Equities Research	A leading provider of independent equity research in Sydney, Australia.	April 1, 2010	$10.7 million
Old Broad Street Research Ltd.	A premier provider of fund research, ratings, and investment consulting services in the United Kingdom.	April 12, 2010	$16.8 million
Realpoint, LLC	A Nationally Recognized Statistical Rating Organization (NRSRO) that specializes in structured finance.	May 3, 2010	$38.4 million in cash and 199,174 shares of restricted stock (valued at approximately $10 million as of the date the acquisition was announced in March 2010)
Morningstar Danmark A/S (Morningstar Denmark)	Acquisition of the 75% ownership interest not previously owned by Morningstar, bringing our ownership to 100%.	July 1, 2010	$14.6 million
Seeds Group	A leading provider of investment consulting services and fund research in France.	July 1, 2010	Not separately disclosed
Annuity intelligence business of Advanced Sales and Marketing Corporation	The Annuity Intelligence business provides a web-based service that leverages a proprietary database of more than 1,000 variable annuities that includes “plain-English” translations of complex but important information found in prospectuses and other public filings.	November 1, 2010	$14.1 million

* Total purchase price, less cash acquired, subject to post closing adjustments.

Goodwill

The following table shows the changes in our goodwill balances from December 31, 2010 to March 31, 2011:

	($000)
Balance as of December 31, 2010	$	317,661
Adjustments to 2010 acquisitions	2,000
Other, primarily currency translation	5,657
Balance as of March 31, 2011	$	325,318

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We did not record any impairment losses in the first quarter of 2011 and 2010, respectively. We perform our annual impairment reviews in the fourth quarter.

The following table summarizes our intangible assets:

	As of March 31, 2011								As of December 31, 2010
($000)	Gross		Accumulated Amortization			Net		Weighted Average Useful Life (years)	Gross		Accumulated Amortization			Net		Weighted Average Useful Life (years)
Intellectual property	$	32,202	$	(16,819	)	$	15,383	10	$	33,990	$	(15,970	)	$	18,020	10
Customer-related assets	136,950		(43,473		)	93,477		12	130,675		(39,951		)	90,724		11
Supplier relationships	240		(75		)	165		20	240		(72		)	168		20
Technology-based assets	81,328		(28,531		)	52,797		9	78,651		(25,682		)	52,969		9
Non-competition agreement	1,761		(1,014		)	747		4	1,751		(909		)	842		4
Intangible assets related to acquisitions with preliminary purchase price allocations	—		—			—		—	6,407		(107		)	6,300		10
Total intangible assets	$	252,481	$	(89,912	)	$	162,569	10	$	251,714	$	(82,691	)	$	169,023	10

The following table summarizes our amortization expense related to intangible assets:

	Three months ended March 31
($000)	2011		2010
Amortization expense	$	6,513	$	5,468

We amortize intangible assets using the straight-line method over their expected economic useful lives.

Based on acquisitions completed through March 31, 2011, we expect intangible amortization expense for 2011 and subsequent years as follows:

	($000)
2011	$	25,714
2012	24,315
2013	21,595
2014	20,334
2015	19,453
2016	14,836

Our estimates of future amortization expense for intangible assets may be affected by changes to the preliminary purchase price allocations, additional acquisitions, and currency translations.

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4. Income Per Share

The following table shows how we reconcile our net income and the number of shares used in computing basic and diluted income per share:

	Three months ended March 31
(in thousands, except per share amounts)	2011			2010

Basic net income per share attributable to Morningstar, Inc.:
Net income attributable to Morningstar, Inc.:	$	22,537		$	20,188
Less: Distributed earnings available to participating securities	(10		)	—
Less: Undistributed earnings available to participating securities	(79		)	—
Numerator for basic net income per share — undistributed and distributed earnings available to common shareholders	$	22,448		$	20,188
Weighted average common shares outstanding	49,800			48,828
Basic net income per share attributable to Morningstar, Inc.	$	0.45		$	0.41

Diluted net income per share attributable to Morningstar, Inc.:
Numerator for basic net income per share — undistributed and distributed earnings available to common shareholders	$	22,448		$	20,188
Add: Undistributed earnings allocated to participating securities	79			—
Less: Undistributed earnings reallocated to participating securities	(78		)	—
Numerator for diluted net income per share — undistributed and distributed earnings available to common shareholders	$	22,449		$	20,188

Weighted average common shares outstanding	49,800			48,828
Net effect of dilutive stock options and restricted stock units	1,153			1,504
Weighted average common shares outstanding for computing diluted income per share	50,953			50,332

Diluted net income per share attributable to Morningstar, Inc.	$	0.44		$	0.40

5. Segment and Geographical Area Information

Morningstar has two operating segments:

· Investment Information. The Investment Information segment includes all of our data, software, and research products and services. These products are typically sold through subscriptions or license agreements.

The largest products in this segment based on revenue are Licensed Data, Morningstar Advisor Workstation, including Morningstar Office, Morningstar.com, Morningstar Direct, Site Builder and Licensed Tools, and Morningstar Principia. Licensed Data is a set of investment data spanning all of our investment databases, including real-time pricing data, and is available through electronic data feeds. Advisor Workstation is a web-based investment planning system for advisors. Advisor Workstation is available in two editions: Morningstar Office for independent financial advisors and an enterprise edition for financial advisors affiliated with larger firms. Morningstar.com includes both Premium Memberships and Internet advertising sales. Morningstar Direct is a web-based institutional research platform. Site Builder and Licensed Tools are services that help institutional clients build customized websites or enhance their existing sites with Morningstar’s online tools and components. Principia is our CD-ROM-based investment research and planning software for advisors.

The Investment Information segment also includes Morningstar Equity Research, which we distribute through several channels. We also sell Equity Research to other companies that purchase our research for their own use or provide our research to their affiliated advisors or individual investor clients.

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· Investment Management. The Investment Management segment includes all of our asset management operations, which earn the majority of their revenue from asset-based fees.

The key products and services in this segment based on revenue are Investment Consulting, which focuses on investment monitoring and asset allocation for funds of funds, including mutual funds and variable annuities; Retirement Advice, including the Morningstar Retirement Manager and Advice by Ibbotson platforms; and Morningstar Managed Portfolios, a fee-based discretionary asset management service that includes a series of mutual fund, exchange-traded fund, and stock portfolios tailored to meet a range of investment time horizons, risk levels, and investment strategies that financial advisors can use for their clients’ taxable and tax-deferred accounts.

Our segment accounting policies are the same as those described in Note 2, except for the capitalization and amortization of internal product development costs, amortization of intangible assets, and costs related to corporate functions. We exclude these items from our operating segment results to provide our chief operating decision maker with a better indication of each segment’s ability to generate cash flow. This information is one of the criteria used by our chief operating decision maker in determining how to allocate resources to each segment. We include capitalization and amortization of internal product development costs, amortization of intangible assets, and costs related to corporate functions in the Corporate Items category. Our segment disclosures are consistent with the business segment information provided to our chief operating decision maker on a recurring basis; for that reason, we don’t present balance sheet information by segment. We disclose goodwill by segment in accordance with the requirements of FASB ASC 350-20-50, Intangibles - Goodwill - Disclosure.

The following tables show selected segment data for the three months ended March 31, 2011 and 2010:

	Three months ended March 31, 2011
($000)	Investment Information		Investment Management		Corporate Items			Total
External revenue	$	120,399	$	31,368	$	—		$	151,767
Operating expense, excluding stock-based compensation expense, depreciation, and amortization	83,763		13,838		8,506			106,107
Stock-based compensation expense	2,470		442		737			3,649
Depreciation and amortization	1,859		42		8,301			10,202
Operating income (loss)	$	32,307	$	17,046	$	(17,544	)	$	31,809

U.S. capital expenditures								$	1,930
Non-U.S. capital expenditures								$	3,107

U.S. revenue								$	108,181
Non-U.S. revenue								$	43,586

	Three months ended March 31, 2010
($000)	Investment Information		Investment Management		Corporate Items			Total
External revenue	$	103,524	$	24,766	$	—		$	128,290
Operating expense, excluding stock-based compensation expense, depreciation, and amortization	67,645		10,932		6,895			85,472
Stock-based compensation expense	1,488		493		956			2,937
Depreciation and amortization	1,645		48		7,246			8,939
Operating income (loss)	$	32,746	$	13,293	$	(15,097	)	$	30,942

U.S. capital expenditures								$	901
Non-U.S. capital expenditures								$	749

U.S. revenue								$	92,610
Non-U.S. revenue								$	35,680

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	As of March 31, 2011
(000’s)	Investment Information		Investment Management		Corporate Items		Total
Goodwill	$	282,989	$	42,329	$	—	$	325,318

U.S. long-lived assets							$	39,351
Non-U.S. long-lived assets							$	23,013

	As of December 31, 2010
(000’s)	Investment Information		Investment Management		Corporate Items		Total
Goodwill	$	275,611	$	42,050	$	—	$	317,661

U.S. long-lived assets							$	39,496
Non-U.S. long-lived assets							$	22,609

6. Investments and Fair Value Measurements

We account for our investments in accordance with FASB ASC 320, Investments—Debt and Equity Securities. We classify our investments in three categories: available-for-sale, held-to-maturity, and trading. We monitor the concentration, diversification, maturity, and liquidity of our investment portfolio, which is primarily invested in fixed-income securities, and classify our investment portfolio as shown below:

($000)	As of March 31 2011		As of December 31 2010
Available-for-sale	$	178,647	$	173,072
Held-to-maturity	7,707		7,476
Trading securities	5,532		4,692
Total	$	191,886	$	185,240

The following table shows the cost, unrealized gains (losses), and fair values related to investments classified as available-for-sale and held-to-maturity:

	As of March 31, 2011									As of December 31, 2010
($000)	Cost		Unrealized Gain		Unrealized Loss			Fair Value		Cost		Unrealized Gain		Unrealized Loss			Fair Value
Available-for-sale:
Government obligations	$	109,817	$	33	$	(29	)	$	109,821	$	113,597	$	36	$	(56	)	$	113,577
Corporate bonds	50,642		49		(47		)	50,644		42,839		63		(24		)	42,878
Commercial paper	2,997		1		—			2,998		2,994		—		(3		)	2,991
Equity securities	5,450		676		(1		)	6,125		4,510		418		(6		)	4,922
Mutual funds	8,146		913		—			9,059		8,146		558		—			8,704
Total	$	177,052	$	1,672	$	(77	)	$	178,647	$	172,086	$	1,075	$	(89	)	$	173,072

Held-to-maturity:
Certificates of deposit	$	7,707	$	—	$	—		$	7,707	$	7,476	$	—	$	—		$	7,476

As of March 31, 2011 and December 31, 2010, investments with unrealized losses for greater than a 12-month period were not material to the Condensed Consolidated Balance Sheets and were not deemed to have other than temporary declines in value.

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The table below shows the cost and fair value of investments classified as available-for-sale and held-to-maturity based on their contractual maturities as of March 31, 2011 and December 31, 2010. The expected maturities of certain fixed-income securities may differ from their contractual maturities because some of these holdings have call features that allow the issuers the right to prepay obligations without penalties.

	As of March 31, 2011				As of December 31, 2010
($000)	Cost		Fair Value		Cost		Fair Value
Available-for-sale:
Due in one year or less	$	84,865	$	84,847	$	85,990	$	85,964
Due in one to three years	78,591		78,616		73,440		73,482
Equity securities and mutual funds	13,596		15,184		12,656		13,626
Total	$	177,052	$	178,647	$	172,086	$	173,072

Held-to-maturity:
Due in one year or less	$	7,454	$	7,454	$	7,223	$	7,223
Due in one to three years	253		253		253		253
Total	$	7,707	$	7,707	$	7,476	$	7,476

Held-to-maturity investments include a $1,600,000 certificate of deposit held as collateral against two bank guarantees for our office lease in Australia.

The following table shows the realized gains and losses arising from sales of our investments classified as available-for-sale recorded in our Condensed Consolidated Statements of Income:

	Three months ended March 31
($000)	2011		2010
Realized gains	$	64	$	17
Realized losses	—		(1		)
Realized gains, net	$	64	$	16

The following table shows the net unrealized gains on trading securities as recorded in our Condensed Consolidated Statements of Income:

	Three months ended March 31
($000)	2011		2010
Unrealized gains, net	$	45	$	68

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The fair value of our assets subject to fair value measurements and the necessary disclosures are as follows:

	Fair Value		Fair Value Measurements as of
	as of		March 31, 2011 Using Fair Value Hierarchy
($000)	March 31, 2011		Level 1		Level 2		Level 3
Available-for-sale investments
Government obligations	$	109,821	$	—	$	109,821	$	—
Corporate bonds	50,644		—		50,644		—
Commercial paper	2,998		—		2,998		—
Equity securities	6,125		6,125		—		—
Mutual funds	9,059		9,059		—		—
Trading securities	5,532		5,532		—		—
Total	$	184,179	$	20,716	$	163,463	$	—

	Fair Value		Fair Value Measurements as of
	as of		December 31, 2010 Using Fair Value Hierarchy
($000)	December 31, 2010		Level 1		Level 2		Level 3
Available-for-sale investments
Government obligations	$	113,577	$	—	$	113,577	$	—
Corporate bonds	42,878		—		42,878		—
Commercial paper	2,991		—		2,991		—
Equity securities	4,922		4,922		—		—
Mutual funds	8,704		8,704		—		—
Trading securities	4,692		4,692		—		—
Total	$	177,764	$	18,318	$	159,446	$	—

Level 1:	Valuations based on quoted prices in active markets for identical assets or liabilities that we have the ability to access.
Level 2:	Valuations based on quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly.
Level 3:	Valuations based on inputs that are unobservable and significant to the overall fair value measurement.

In the first quarter of 2011, we revised the classification for our investments in government obligations, corporate bonds, and commercial paper. Because these investments typically lack quoted prices from active market exchanges, we believe classifying these investments as Level 2 in the fair value hierarchy is appropriate. We determine the fair value of these investments using prices for recently traded financial instruments with similar underlying terms as well as directly or indirectly observable inputs.

Based on our analysis of the nature and risks of our investments in equity securities and mutual funds, we have determined that presenting these investment categories each in the aggregate is appropriate.

7. Investments in Unconsolidated Entities

Our investments in unconsolidated entities consist primarily of the following:

($000)	As of March 31 2011		As of December 31 2010
Investment in MJKK	$	19,362	$	19,036
Other equity method investments	112		109
Investments accounted for using the cost method	5,190		5,117
Total investments in unconsolidated entities	$	24,664	$	24,262

Morningstar Japan K.K. Morningstar Japan K.K. (MJKK) develops and markets products and services customized for the Japanese market. MJKK’s shares are traded on the Osaka Stock Exchange, “Hercules Market,” using the ticker 4765. We account for our investment in MJKK using the equity method. The following table summarizes our ownership percentage in MJKK and the market value of this investment based on MJKK’s publicly quoted share price:

	As of March 31 2011			As of December 31 2010
Morningstar’s approximate ownership of MJKK	34		%	34		%

Approximate market value of Morningstar’s ownership in MJKK:
Japanese yen (¥000)	¥	2,657,000		¥	3,197,000
Equivalent U.S. dollars ($000)	$	32,553		$	38,361

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Other Equity Method Investments. As of March 31, 2011 and December 31, 2010, other equity method investments include our investment in Morningstar Sweden AB (Morningstar Sweden). Morningstar Sweden develops and markets products and services customized for its respective market. Our ownership interest in Morningstar Sweden was approximately 24% as of March 31, 2011 and December 31, 2010.

Cost Method Investments. As of March 31, 2011 and December 31, 2010, our cost method investments consist mainly of minority investments in Pitchbook Data, Inc. (Pitchbook) and Bundle Corporation (Bundle). Pitchbook offers detailed data and information about private equity transactions, investors, companies, limited partners, and service providers. Bundle is a social media company dedicated to helping people make smarter spending and saving choices. Its website, Bundle.com, features a money comparison tool that shows spending trends across the United States, along with a range of information on saving, investing, and budgeting. We did not record any impairment losses on our cost method investments in the first quarter of 2011 and 2010, respectively.

8. Liability for Vacant Office Space

The following table shows the change in our liability for vacant office space from December 31, 2010 to March 31, 2011:

Liability for vacant office space	($000)
Balance as of December 31, 2010	$	2,429
Reduction of liability for lease payments	(365		)
Balance as of March 31, 2011	$	2,064

9. Stock-Based Compensation

Stock-Based Compensation Plans

In November 2004, we adopted the 2004 Stock Incentive Plan. The 2004 Stock Incentive Plan provides for grants of options, stock appreciation rights, restricted stock units, and performance shares. All of our employees and our non-employee directors are eligible for awards under the 2004 Stock Incentive Plan. Joe Mansueto, our chairman and chief executive officer, does not participate in the 2004 Stock Incentive Plan or prior plans.

Since the adoption of the 2004 Stock Incentive Plan, we have granted stock options, restricted stock units, and restricted stock.

Stock options granted under the 2004 Stock Incentive Plan generally vest ratably over a four-year period and expire 10 years after the date of grant. Almost all of the options granted under the 2004 Stock Incentive Plan have a premium feature in which the exercise price increases over the term of the option at a rate equal to the 10-year Treasury bond yield as of the date of grant.

Restricted stock units represent the right to receive a share of Morningstar common stock when that unit vests. Restricted stock units granted under the 2004 Stock Incentive Plan generally vest ratably over a four-year period. For restricted stock units granted through December 31, 2008, employees could elect to defer receipt of the Morningstar common stock issued upon vesting of the restricted stock unit.

In conjunction with the Realpoint acquisition in May 2010, we issued 199,174 shares of restricted stock to the selling employee-shareholders. The restricted stock vests ratably over a five-year period from the acquisition date and may be subject to forfeiture if the holder terminates his or her employment during the vesting period.

The following table summarizes the number of shares available for future grants under our 2004 Stock Incentive Plan:

(000)		As of March 31 2011		As of December 31 2010
Shares available for future grants		1,643		1,600

Prior to November 2004, we granted stock options under various plans, including the 1993 Stock Option Plan, the 2000 Morningstar Stock Option Plan, and the 2001 Morningstar Stock Option Plan (collectively, the Prior Plans). The 2004 Stock Incentive Plan amends and restates the Prior Plans. Under the 2004 Stock Incentive Plan, we will not grant any additional options under any of the Prior Plans, and any shares subject to an award under any of the Prior Plans that are forfeited, canceled, settled, or otherwise terminated without a distribution of shares, or withheld by us in connection with the exercise of options or in payment of any required income tax withholding, will not be available for awards under the 2004 Stock Incentive Plan.

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Accounting for Stock-Based Compensation Awards

The following table summarizes our stock-based compensation expense and the related income tax benefit we recorded in the three months ended March 31, 2011 and 2010:

	Three months ended March 31
($000)	2011		2010
Restricted stock units	$	2,785	$	2,937
Restricted stock	864		—
Total stock-based compensation expense	$	3,649	$	2,937

Income tax benefit related to the stock-based compensation expense	$	725	$	893

In accordance with FASB ASC 718, Compensation—Stock Compensation, we estimate forfeitures of employee stock-based awards and recognize compensation cost only for those awards expected to vest. Because our largest annual equity grants typically have vesting dates in the second quarter, we adjust the stock-based compensation expense at that time to reflect those awards that ultimately vested and update our estimate of the forfeiture rate that will be applied to awards not yet vested.

Restricted Stock Units

We measure the fair value of our restricted stock units on the date of grant based on the closing market price of the underlying common stock on the day prior to grant. We amortize that value to stock-based compensation expense, net of estimated forfeitures, ratably over the vesting period. The following table summarizes restricted stock unit activity during the first three months of 2011:

Restricted Stock Units (RSUs)	Unvested		Vested but Deferred		Total		Weighted Average Grant Date Value per RSU
RSUs outstanding—December 31, 2010	777,666		45,189		822,855		$	47.14
Granted	1,661		—		1,661		52.00
Vested	(12,709	)	—		(12,709	)	49.31
Issued	—		(20,572	)	(20,572	)	46.47
Forfeited	(44,266	)	—		(44,266	)	47.69
RSUs outstanding—March 31, 2011	722,352		24,617		746,969		47.10

As of March 31, 2011, the total amount of unrecognized stock-based compensation expense related to restricted stock units was approximately $23,296,000. We expect to recognize this expense over an average period of approximately 31 months.

Restricted Stock

Because of the terms of the restricted share agreements prepared in conjunction with the Realpoint acquisition, we account for these grants as stock-based compensation expense, and not as part of the acquisition consideration. See Note 3, in the Notes to our Condensed Consolidated Financial Statements, for additional information concerning the Realpoint acquisition.

We measured the fair value of the restricted stock on the date of grant based on the closing market price of our common stock on the day prior to the grant. We amortize this value to stock-based compensation expense over the vesting period. The stock-based compensation expense recorded in the first quarter of 2011 includes approximately $396,000 of expense recognized upon the accelerated vesting of a restricted stock grant. We have assumed that all of the remaining restricted stock will ultimately vest, and therefore we have not incorporated a forfeiture rate for purposes of determining the stock-based compensation expense.

As of March 31, 2011, the total amount of unrecognized stock-based compensation expense related to restricted stock was approximately $7,250,000. We expect to recognize this expense over 49 months, from April 2011 through April 2015.

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Stock Option Activity

All stock options granted under the 2004 Stock Incentive Plan and the Prior Plans were vested as of January 1, 2010. As a result, we no longer recognize expense related to stock option grants. Because the options under these plans expire 10 years after the date of grant, some options granted under these plans remain outstanding as of March 31, 2011.

The following tables summarize stock option activity in the first three months of 2011 for our various stock option grants. The first table includes activity for options granted at an exercise price below the fair value per share of our common stock on the grant date; the second table includes activity for all other option grants.

Options Granted At an Exercise Price Below the Fair Value Per Share on the Grant Date	Underlying Shares		Weighted Average Exercise Price
Options outstanding—December 31, 2010	648,885		$	18.91
Exercised	(92,830	)	18.93
Options outstanding—March 31, 2011	556,055		19.11

Options exercisable— March 31, 2011	556,055		$	19.11

All Other Option Grants, Excluding Activity Shown Above	Underlying Shares		Weighted Average Exercise Price
Options outstanding—December 31, 2010	1,207,540		$	17.09
Canceled	(350	)	17.25
Exercised	(246,307	)	14.52
Options outstanding— March 31, 2011	960,883		17.88

Options exercisable— March 31, 2011	960,883		$	17.88

The following table summarizes the total intrinsic value (difference between the market value of our stock on the date of exercise and the exercise price of the option) of options exercised:

	Three months ended March 31
($000)	2011		2010
Intrinsic value of options exercised	$	13,933	$	10,619

The table below shows additional information for options outstanding and exercisable as of March 31, 2011:

	Options Outstanding and Exercisable
Range of Exercise Prices	Number of Options	Weighted Average Remaining Contractual Life (years)	Weighted Average Exercise Price		Aggregate Intrinsic Value ($000)
$8.57 - $14.70	496,723	1.46	$	10.20	$	23,934
$19.13 - $42.94	1,020,215	3.69	22.29		36,816
$8.57 - $42.94	1,516,938	2.96	18.33		$	60,750

The aggregate intrinsic value in the table above represents the total pretax intrinsic value all option holders would have received if they had exercised all outstanding options on March 31, 2011. The intrinsic value is based on our closing stock price of $58.38 on that date.

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Excess Tax Benefits Related to Stock-Based Compensation

FASB ASC 718, Compensation—Stock Compensation, requires that we classify the cash flows that result from excess tax benefits as financing cash flows. Excess tax benefits correspond to the portion of the tax deduction taken on our income tax return that exceeds the amount of tax benefit related to the compensation cost recognized in our Statement of Income. The following table summarizes our excess tax benefits for the three months ended March 31, 2011 and 2010:

	Three months ended March 31
($000)	2011		2010
Excess tax benefits related to stock-based compensation	$	4,122	$	3,048

10. Income Taxes

The following table shows our effective income tax rate for the three months ended March 31, 2011 and 2010:

	Three months ended March 31
($000)	2011			2010
Income before income taxes and equity in net income of unconsolidated entities	$	32,583		$	30,763
Equity in net income of unconsolidated entities	374			389
Net loss attributable to the noncontrolling interest	98			31
Total	$	33,055		$	31,183
Income tax expense	$	10,518		$	10,995
Effective tax rate	31.8		%	35.3		%

Our effective tax rate of 31.8% reflects the positive effect of certain income tax benefits, the difference between U.S. federal and foreign tax rates, and tax credits related to our research and development activities.

We conduct business globally and as a result, we file income tax returns in U.S. Federal, state, local, and foreign jurisdictions. In the normal course of business we are subject to examination by tax authorities throughout the world. The open tax years for our U.S. Federal tax returns and most state tax returns include the years 2007 to the present. In non-U.S. jurisdictions, the statute of limitations generally extends to years prior to 2004.

There were no significant changes to uncertain tax positions in the first quarter of 2011 as a result of lapses of statutes of limitation or audit activity. As of December 31, 2010, our Condensed Consolidated Balance Sheet included a current liability of $654,000 and a non-current liability of $8,173,000 for unrecognized tax benefits. These amounts include interest and penalties, less any associated tax benefits.

We are currently under audit by various state and local tax authorities in the United States. We are also under audit by the tax authorities in certain non-U.S. jurisdictions. It is likely that the examination phase of some of these state, local, and non-U.S. audits will conclude in 2011. It is not possible to estimate the impact of current audits on previously recorded unrecognized tax benefits.

Our effective tax rate reflects the fact that we are not recording an income tax benefit related to losses recorded by certain of our non-U.S. operations. The net operating losses (NOLs) may become deductible in certain non-U.S. tax jurisdictions to the extent these non-U.S. operations become profitable. In the year certain non-U.S. entities record a loss, we do not record a corresponding tax benefit, thus increasing our effective tax rate. For each of our operations, we evaluate whether it is more likely than not that the tax benefits related to NOLs will be realized. As part of this evaluation, we consider evidence such as tax planning strategies, historical operating results, forecasted taxable income, and recent financial performance. Upon determining that it is more likely than not that the NOLs will be realized, we reduce the tax valuation allowances related to these NOLs, which results in a reduction to our income tax expense and our effective tax rate in the period.

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11. Contingencies

InvestPic, LLC

In November 2010, InvestPic, LLC filed a complaint in the United States District Court for the District of Delaware against Morningstar, Inc. and several other companies alleging that each defendant infringes U.S. Patent No. 6,349,291, which relates to methods for performing statistical analysis on investment data and displaying the analyzed data in graphical form. InvestPic seeks, among other things, unspecified damages because of defendants’ alleged infringing activities and costs. Morningstar is evaluating the lawsuit but cannot predict the outcome of the proceeding.

Egan-Jones Rating Co.

In June 2010, Egan-Jones Rating Co. filed a complaint in the Court of Common Pleas of Montgomery County, Pennsylvania against Realpoint, LLC and Morningstar, Inc. in connection with a December 2007 agreement between Egan-Jones and Realpoint for certain data-sharing and other services. In addition to damages, Egan-Jones filed a petition seeking an injunction to temporarily prevent Morningstar from offering corporate credit ratings through December 31, 2010. In September 2010, the court denied Egan-Jones’s request for a preliminary injunction against Morningstar’s corporate credit ratings business. Realpoint and Morningstar continue to vigorously contest liability on all of Egan-Jones’ claims for damages. We cannot predict the outcome of the proceeding.

Business Logic Holding Corporation

In November 2009, Business Logic Holding Corporation filed a complaint in the Circuit Court of Cook County, Illinois against Ibbotson Associates, Inc. and Morningstar, Inc. relating to Ibbotson’s prior commercial relationship with Business Logic. Business Logic is alleging that Ibbotson Associates and Morningstar violated Business Logic’s rights by using its trade secrets to develop a proprietary web-service software and user interface that connects plan participant data with the Ibbotson Wealth Forecasting Engine. Business Logic seeks, among other things, injunctive relief and unspecified damages. Ibbotson and Morningstar answered the complaint, and Ibbotson asserted a counterclaim against Business Logic alleging trade secret misappropriation and breach of contract, seeking damages and injunctive relief. While Morningstar and Ibbotson Associates are vigorously contesting the claims against them, we cannot predict the outcome of the proceeding.

Morningstar Associates, LLC Subpoena from the New York Attorney General’s Office

In December 2004, Morningstar Associates, LLC, a wholly owned subsidiary of Morningstar, Inc., received a subpoena from the New York Attorney General’s office seeking information and documents related to an investigation the New York Attorney General’s office is conducting. The subpoena asks for documents relating to the investment consulting services the company offers to retirement plan providers, including fund lineup recommendations for retirement plan sponsors. Morningstar Associates has provided the requested information and documents.

In 2005, Morningstar Associates received subpoenas seeking information and documents related to investigations being conducted by the SEC and United States Department of Labor. The subpoenas were similar in scope to the New York Attorney General subpoena. In January 2007 and September 2009, respectively, the SEC and Department of Labor each notified Morningstar Associates that it had ended its investigation, with no enforcement action, fines, or penalties.

In January 2007, Morningstar Associates received a Notice of Proposed Litigation from the New York Attorney General’s office. The Notice centers on disclosure relating to an optional service offered to retirement plan sponsors (employers) that select 401(k) plan services from ING, one of Morningstar Associates’ clients. The Notice gave Morningstar Associates the opportunity to explain why the New York Attorney General’s office should not institute proceedings. Morningstar Associates promptly submitted its explanation and has cooperated fully with the New York Attorney General’s office.

We cannot predict the scope, timing, or outcome of this matter, which may include the institution of administrative, civil, injunctive, or criminal proceedings, the imposition of fines and penalties, and other remedies and sanctions, any of which could lead to an adverse impact on our stock price, the inability to attract or retain key employees, and the loss of customers. We also cannot predict what impact, if any, this matter may have on our business, operating results, or financial condition.

Other matters

In addition to these proceedings, we are involved in legal proceedings and litigation that have arisen in the normal course of our business. Although the outcome of a particular proceeding can never be predicted, we do not believe that the result of any of these other matters will have a material adverse effect on our business, operating results, or financial position.

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12. Quarterly Dividend and Share Repurchase Programs

In February 2011, our board of directors declared a quarterly dividend of 5 cents per share. The quarterly dividend was paid on April 29, 2011 to shareholders of record as of April 15, 2011. As of March 31, 2011, we recorded a liability for dividends payable of $2,502,000.

In September 2010, the board of directors approved a share repurchase program that authorizes the repurchase of up to $100 million in shares of our outstanding common stock. We may repurchase shares from time to time at prevailing market prices on the open market or in private transactions in amounts that we deem appropriate. As of March 31, 2011, we had repurchased 76,218 shares for $3,785,000 under this authorization.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The discussion included in this section, as well as other sections of this Quarterly Report on Form 10-Q, contains forward-looking statements as that term is used in the Private Securities Litigation Reform Act of 1995. These statements are based on our current expectations about future events or future financial performance. Forward-looking statements by their nature address matters that are, to different degrees, uncertain, and often contain words such as “may,” “could,” “expect,” “intend,” “plan,” “seek,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” or “continue.” These statements involve known and unknown risks and uncertainties that may cause the events we discuss not to occur or to differ significantly from what we expect. For us, these risks and uncertainties include, among others:

· general industry conditions and competition, including ongoing economic weakness and uncertainty;

· the effect of market volatility on revenue from asset-based fees;

· damage to our reputation resulting from claims made about possible conflicts of interest;

· liability for any losses that result from an actual or claimed breach of our fiduciary duties;

· the increasing concentration of data and development work carried out at our offshore facilities in China and India;

· failing to differentiate our products and continuously create innovative, proprietary research tools;

· failing to successfully integrate acquisitions;

· challenges faced by our non-U.S. operations; and

· a prolonged outage of our database and network facilities.

A more complete description of these risks and uncertainties can be found in our other filings with the Securities and Exchange Commission (SEC), including our Annual Report on Form 10-K for the year ended December 31, 2010. If any of these risks and uncertainties materialize, our actual future results may vary significantly from what we expect. We do not undertake to update our forward-looking statements as a result of new information or future events.

All dollar and percentage comparisons, which are often accompanied by words such as “increase,” “decrease,” “grew,” “declined,” “was up,” “was down,” “was flat,” or “was similar” refer to a comparison with the same period in the prior year unless otherwise stated.

Understanding our Company

Our Business

Our mission is to create great products that help investors reach their financial goals. We offer an extensive line of Internet, software, and print-based products for individual investors, financial advisors, and institutional clients. We also offer asset management services for advisors, institutions, and retirement plan participants. Many of our products are sold through subscriptions or license agreements. As a result, we typically generate recurring revenue.

We emphasize a decentralized approach to running our business to create a culture of responsibility and accountability. Our company has two operating segments: The Investment Information segment includes all of our data, software, and research products and services. These products and services are typically sold through subscriptions or license agreements. The Investment Management segment includes all of our asset management operations, which are registered investment advisors and earn more than half of their revenue from asset-based fees.

Historically, we have focused primarily on organic growth by introducing new products and services and expanding our existing products. However, we have made and expect to continue to make selective acquisitions that support our five key growth strategies, which are:

· Enhance our position in each of our key market segments by focusing on our three major Internet-based platforms;

· Create a premier global investment database;

· Continue building thought leadership in independent investment research;

· Become a global leader in fund-of-funds investment management; and

· Expand our international brand presence, products, and services.

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Industry Overview

We monitor developments in the economic and financial information industry on an ongoing basis and use these insights to help inform our company strategy, product development plans, and marketing initiatives.

The U.S. equity market generally showed strong performance in the first quarter of 2011, continuing the positive trend from 2010. Morningstar’s U.S. Market Index, a broad market benchmark, was up 6.4% during the quarter, and the Global Ex-U.S. Index rose 4.3%. Total U.S. mutual fund assets increased to $12.2 trillion as of March 31, 2011, based on data from the Investment Company Institute (ICI), up from $11.2 trillion as of March 31, 2010.

Assets in exchange-traded funds (ETFs) increased to $1.1 trillion as of March 31, 2011, compared with $805 billion as of March 31, 2010, based on data from the ICI.

Based on data from Nielsen/Net Ratings, aggregate page views, unique users, and pages viewed per visit all decreased compared with the first quarter of 2010. Overall, page views to finance and investment sites were down about 15%, based on Nielsen’s data. We attribute this trend to individual investors’ lower level of engagement with investing-related topics despite the upturn in the market over the past 12 months. Unique visitor figures to Morningstar.com also declined, but page views and pages viewed per visit both increased, according to Nielsen’s data.

Following a strong rebound in online advertising spending in 2010, industry trends remained positive in the first quarter of 2011. Magna Global, a division of Interpublic Group, is projecting a 19% increase in online advertising revenue in 2011.

Overall, we believe that business conditions in financial services have continued improving in recent months, although some areas, such as consumer discretionary spending, remain under pressure because of ongoing economic weakness.

Three Months Ended March 31, 2011 vs. Three Months Ended March 31, 2010

Consolidated Results

	Three months ended March 31
Key Metrics ($000)	2011			2010			Change
Revenue	$	151,767		$	128,290		18.3	%
Operating income	31,809			30,942			2.8	%
Operating margin	21.0		%	24.1		%	(3.1	)pp

Cash provided by (used for) investing activities	(10,044		)	$	34,582		NMF
Cash provided by financing activities	6,335			6,857			(7.6	)%

Cash provided by operating activities	$	14,346		$	14,450		(0.7	)%
Capital expenditures	(5,037		)	(1,650		)	205.3	%
Free cash flow	$	9,309		$	12,800		(27.3	)%

pp — percentage points

NMF — Not meaningful

We define free cash flow as cash provided by or used for operating activities less capital expenditures. We present free cash flow solely as supplemental disclosure to help you better understand how much cash is available after we spend money to operate our business. Our management team uses free cash flow to evaluate our business. Free cash flow is not equivalent to any measure required to be reported under U.S. generally accepted accounting principles (GAAP). Also, the free cash flow definition we use may not be comparable to similarly titled measures used by other companies.

Because we’ve made several acquisitions in recent years, comparing our financial results from year to year is complex. To make it easier for investors to compare our results in different periods, we provide information on both organic revenue, which reflects our underlying business excluding acquisitions, and revenue from acquisitions. We include an acquired operation as part of our revenue from acquisitions for 12 months after we complete the acquisition. After that, we include it in organic revenue.

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Consolidated organic revenue (revenue excluding acquisitions and the impact of foreign currency translations) is considered a non-GAAP financial measure. The definition of organic revenue we use may not be the same as similarly titled measures used by other companies. Organic revenue should not be considered an alternative to any measure of performance as promulgated under GAAP.

The table below shows the period in which we included each acquired operation in revenue from acquisitions.

Acquisition	Date of Acquisition	Three months ended March 31, 2011
Footnoted business of Financial Fineprint Inc.	February 1, 2010	January 1 through January 31, 2011
Aegis Equities Research	April 1, 2010	January 1 through March 31, 2011
Old Broad Street Research Ltd.	April 12, 2010	January 1 through March 31, 2011
Realpoint, LLC	May 3, 2010	January 1 through March 31, 2011
Seeds Group	July 1, 2010	January 1 through March 31, 2011
Morningstar Danmark A/S (Morningstar Denmark)	July 1, 2010	January 1 through March 31, 2011
Annuity intelligence business of Advanced Sales and Marketing Corporation	November 1, 2010	January 1 through March 31, 2011

Consolidated Revenue

In the first quarter of 2011, our consolidated revenue increased 18.3% to $151.8 million compared with $128.3 million in the first quarter of 2010. We had $9.0 million in incremental revenue from acquisitions during the quarter, which contributed about 7.0 percentage points to our consolidated revenue growth. Currency movements had a positive effect in the quarter, contributing approximately 1.3 percentage points to revenue growth.

Excluding acquisitions and the impact of foreign currency translations, consolidated revenue increased by about $12.8 million, or 10.0%, with increases across all major product lines. Higher revenue from Morningstar Direct and Investment Consulting were the main drivers behind the revenue increase.

The table below reconciles consolidated revenue with organic revenue (revenue excluding acquisitions and the impact of foreign currency translations):

	Three months ended March 31
($000)	2011			2010		Change
Consolidated revenue	$	151,767		$	128,290	18.3	%
Less: acquisitions	(9,015		)	—		NMF
Less: impact of foreign currency translations	(1,680		)	—		NMF
Organic revenue	$	141,072		$	128,290	10.0	%

International revenue made up about 29% of our consolidated revenue in the first quarter of 2011. Revenue from international operations rose $7.9 million, or 22.2%, to $43.6 million for the period. Acquisitions contributed $3.5 million of additional revenue outside the United States, and foreign currency translations had a positive effect. Excluding acquisitions and the effect of foreign currency translations, non-U.S. revenue rose 7.7%, reflecting stronger product sales in Europe. In Japan, we have a majority-owned subsidiary, Ibbotson Associates Japan K.K., and own a minority ownership position in Morningstar Japan K.K. Neither of these operations experienced significant disruption as a result of the Great East Japan Earthquake that occurred in March 2011.

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International organic revenue (international revenue excluding acquisitions and the impact of foreign currency translations) is considered a non-GAAP financial measure. The definition of international organic revenue we use may not be the same as similarly titled measures used by other companies. International organic revenue should not be considered an alternative to any measure of performance as promulgated under GAAP. The tables below present a reconciliation from international revenue to international organic revenue (international revenue excluding acquisitions and the impact of foreign currency translations):

	Three months ended March 31
($000)	2011			2010		Change
International revenue	$	43,586		$	35,680	22.2	%
Less: acquisitions	(3,485		)	—		NMF
Less: impact of foreign currency translations	(1,680		)	—		NMF
International organic revenue	$	38,421		$	35,680	7.7	%

Consolidated Operating Expense

	Three months ended March 31
($000)	2011			2010			Change
Operating expense	$	119,958		$	97,348		23.2	%
% of revenue	79.0		%	75.9		%	3.1	pp

In the first quarter of 2011, our consolidated operating expense increased $22.6 million, or 23.2%. We completed seven acquisitions in 2010. Because of the timing of these acquisitions, our first-quarter results include operating expense that did not exist in the same period last year. Incremental operating expense from acquired businesses represented approximately 40% of the operating expense increase in the period.

Higher salary expense represented approximately 40% of the total operating expense increase, reflecting additional headcount from acquisitions and filling open positions, as well as salary increases that were effective in July 2010. We review employee salaries annually and generally implement salary adjustments in the third quarter. We had approximately 3,235 employees worldwide as of March 31, 2011 compared with 2,760 as of March 31, 2010. We added about 125 employees through acquisitions over the 12 months ending March 31, 2011. The remainder of the increase in headcount mainly reflects continued hiring for our development centers in China and India.

Higher incentive compensation and employee benefit costs represented another 18% of the total change in operating expense in the quarter. Bonus expense for the quarter increased about $2.9 million compared with the prior-year period. This increase was partially offset because bonuses paid were approximately $0.4 million lower compared with the amount accrued in 2010. Although the net difference was approximately $0.4 million, there were some greater differences by cost category, which we describe below. Sales commissions were $0.9 million higher, reflecting improved sales activity. In 2011, we reinstated some of the benefits we temporarily suspended in previous years. This included increasing the matching contributions to our 401(k) plan in the United States, representing approximately $0.8 million of additional expense in the first quarter of 2011.

General and administrative expense in the first quarter of 2011 includes $3.2 million of expense for a previously announced separation agreement with Tao Huang, our former chief operating officer.

Our first-quarter 2010 results included an expense of $0.8 million to increase our liability for vacant office space for the former Ibbotson headquarters because we finalized sub-lease arrangements for a portion of this space. This expense did not recur in the first quarter of 2011.

Intangible amortization expense increased $1.0 million compared with the prior-year period. The increase primarily reflects amortization expense from recent acquisitions.

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Cost of Goods Sold

	Three months ended March 31
($000)	2011			2010			Change
Cost of goods sold	$	40,669		$	34,316		18.5	%
% of revenue	26.8		%	26.7		%	0.1	pp
Gross profit	$	111,098		$	93,974		18.2	%
Gross margin	73.2		%	73.3		%	(0.1	)pp

Cost of goods sold is our largest category of operating expense, accounting for more than one-third of our total operating expense. Our business relies heavily on human capital, and cost of goods sold includes the compensation expense for employees who produce our products and services.

Cost of goods sold rose $6.4 million in the first quarter of 2011. Approximately half of the increase was related to recent acquisitions. Higher salaries and other compensation-related expense also contributed to the increase. Higher bonus expense of $1.4 million for 2011 was largely offset because we paid a smaller portion of the 2010 bonus to employees in this category. We provide additional information on page 28 concerning bonus expense.

Our gross margin in the first quarter of 2011 was about the same as the first quarter of 2010 as expenses in this category increased at approximately the same rate as the revenue increase.

Development Expense

Three months ended March 31