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 June 30, 2016
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 July 22, 2016, there were 43,059,012 shares of the Company’s common stock, no par value, outstanding.
MORNINGSTAR, INC. AND SUBSIDIARIES
INDEX
Unaudited Condensed Consolidated Statements of Income for the three and six months ended June 30, 2016 and 2015 | ||||
Unaudited Condensed Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2016 and 2015 | ||||
Unaudited Condensed Consolidated Balance Sheets as of June 30, 2016 and December 31, 2015 | ||||
Unaudited Condensed Consolidated Statement of Equity for the six months ended June 30, 2016 | ||||
Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2016 and 2015 | ||||
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PART 1. | FINANCIAL INFORMATION |
Item 1. | Financial Statements |
3
Morningstar, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Income
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions except per share amounts) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
Revenue | $ | 198.2 | $ | 202.1 | $ | 390.3 | $ | 391.9 | ||||||||
Operating expense: | ||||||||||||||||
Cost of revenue | 86.1 | 83.2 | 171.4 | 161.8 | ||||||||||||
Sales and marketing | 25.7 | 25.1 | 48.0 | 50.5 | ||||||||||||
General and administrative | 24.7 | 27.8 | 50.3 | 53.9 | ||||||||||||
Depreciation and amortization | 17.3 | 16.3 | 33.9 | 31.4 | ||||||||||||
Total operating expense | 153.8 | 152.4 | 303.6 | 297.6 | ||||||||||||
Operating income | 44.4 | 49.7 | 86.7 | 94.3 | ||||||||||||
Non-operating income (expense): | ||||||||||||||||
Interest income, net | 0.1 | 0.1 | 0.3 | 0.3 | ||||||||||||
Gain on sale of investments, reclassified from other comprehensive income | 0.3 | 0.5 | 0.2 | 0.4 | ||||||||||||
Other income (expense), net | 2.6 | — | 3.0 | (0.4 | ) | |||||||||||
Non-operating income, net | 3.0 | 0.6 | 3.5 | 0.3 | ||||||||||||
Income before income taxes and equity in net income of unconsolidated entities | 47.4 | 50.3 | 90.2 | 94.6 | ||||||||||||
Equity in net income (loss) of unconsolidated entities | (0.2 | ) | 0.6 | 0.3 | 1.0 | |||||||||||
Income tax expense | 15.4 | 18.7 | 30.0 | 33.6 | ||||||||||||
Consolidated net income | 31.8 | 32.2 | 60.5 | 62.0 | ||||||||||||
Net income attributable to noncontrolling interest | — | — | — | (0.2 | ) | |||||||||||
Net income attributable to Morningstar, Inc. | $ | 31.8 | $ | 32.2 | $ | 60.5 | $ | 61.8 | ||||||||
Net income per share attributable to Morningstar, Inc.: | ||||||||||||||||
Basic | $ | 0.74 | $ | 0.73 | $ | 1.41 | $ | 1.39 | ||||||||
Diluted | $ | 0.73 | $ | 0.72 | $ | 1.40 | $ | 1.39 | ||||||||
Dividends per common share: | ||||||||||||||||
Dividends declared per common share | $ | 0.22 | $ | 0.19 | $ | 0.44 | $ | 0.38 | ||||||||
Dividends paid per common share | $ | 0.22 | $ | 0.19 | $ | 0.44 | $ | 0.38 | ||||||||
Weighted average shares outstanding: | ||||||||||||||||
Basic | 43.0 | 44.3 | 43.0 | 44.3 | ||||||||||||
Diluted | 43.3 | 44.4 | 43.3 | 44.4 | ||||||||||||
See notes to unaudited condensed consolidated financial statements.
4
Morningstar, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Comprehensive Income
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
Consolidated net income | $ | 31.8 | $ | 32.2 | $ | 60.5 | $ | 62.0 | ||||||||
Other comprehensive income (loss): | ||||||||||||||||
Foreign currency translation adjustment | (12.6 | ) | 8.8 | (8.1 | ) | (11.0 | ) | |||||||||
Unrealized gains (losses) on securities, net of tax: | ||||||||||||||||
Unrealized holding gains (losses) arising during period | — | (0.6 | ) | 0.5 | (0.5 | ) | ||||||||||
Reclassification (gains) losses included in net income | (0.3 | ) | 0.3 | (0.2 | ) | 0.3 | ||||||||||
Other comprehensive income (loss) | (12.9 | ) | 8.5 | (7.8 | ) | (11.2 | ) | |||||||||
Comprehensive income | 18.9 | 40.7 | 52.7 | 50.8 | ||||||||||||
Comprehensive income attributable to noncontrolling interest | — | — | — | (0.2 | ) | |||||||||||
Comprehensive income attributable to Morningstar, Inc. | $ | 18.9 | $ | 40.7 | $ | 52.7 | $ | 50.6 | ||||||||
See notes to unaudited condensed consolidated financial statements.
5
Morningstar, Inc. and Subsidiaries
Unaudited Condensed Consolidated Balance Sheets
As of June 30 | As of December 31 | |||||||
(in millions except share amounts) | 2016 | 2015 | ||||||
Assets | ||||||||
Current assets: | ||||||||
Cash and cash equivalents | $ | 202.4 | $ | 207.1 | ||||
Investments | 43.8 | 41.5 | ||||||
Accounts receivable, less allowance of $1.7 and $1.8, respectively | 137.3 | 139.3 | ||||||
Other current assets | 25.5 | 22.0 | ||||||
Total current assets | 409.0 | 409.9 | ||||||
Property, equipment, and capitalized software, less accumulated depreciation and amortization of $191.0 and $169.8, respectively | 141.3 | 134.5 | ||||||
Investments in unconsolidated entities | 50.6 | 35.6 | ||||||
Goodwill | 371.5 | 364.2 | ||||||
Intangible assets, net | 70.0 | 74.2 | ||||||
Other assets | 9.6 | 10.6 | ||||||
Total assets | $ | 1,052.0 | $ | 1,029.0 | ||||
Liabilities and equity | ||||||||
Current liabilities: | ||||||||
Accounts payable and accrued liabilities | $ | 40.1 | $ | 39.2 | ||||
Accrued compensation | 50.4 | 80.9 | ||||||
Deferred revenue | 154.9 | 140.7 | ||||||
Short-term debt | 75.0 | 35.0 | ||||||
Other current liabilities | 8.2 | 8.6 | ||||||
Total current liabilities | 328.6 | 304.4 | ||||||
Accrued compensation | 9.9 | 8.9 | ||||||
Deferred tax liability, net | 19.9 | 19.8 | ||||||
Deferred rent | 23.9 | 25.4 | ||||||
Other long-term liabilities | 30.3 | 29.9 | ||||||
Total liabilities | 412.6 | 388.4 | ||||||
Equity: | ||||||||
Morningstar, Inc. shareholders’ equity: | ||||||||
Common stock, no par value, 200,000,000 shares authorized, of which 43,059,012 and 43,403,076 shares were outstanding as of June 30, 2016 and December 31, 2015, respectively | — | — | ||||||
Treasury stock at cost, 9,961,108 and 9,478,449 shares as of June 30, 2016 and December 31, 2015, respectively | (657.3 | ) | (619.8 | ) | ||||
Additional paid-in capital | 578.0 | 575.5 | ||||||
Retained earnings | 780.8 | 739.2 | ||||||
Accumulated other comprehensive loss: | ||||||||
Currency translation adjustment | (61.6 | ) | (53.5 | ) | ||||
Unrealized loss on available-for-sale investments | (0.8 | ) | (1.1 | ) | ||||
Total accumulated other comprehensive loss | (62.4 | ) | (54.6 | ) | ||||
Total Morningstar, Inc. shareholders’ equity | 639.1 | 640.3 | ||||||
Noncontrolling interest | 0.3 | 0.3 | ||||||
Total equity | 639.4 | 640.6 | ||||||
Total liabilities and equity | $ | 1,052.0 | $ | 1,029.0 | ||||
See notes to unaudited condensed consolidated financial statements.
6
Morningstar, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statement of Equity
For the six months ended June 30, 2016
Morningstar, Inc. Shareholders’ Equity | |||||||||||||||||||||||||||||||
Accumulated Other Comprehensive Loss | |||||||||||||||||||||||||||||||
Common Stock | Additional Paid-in Capital | Non- Controlling Interest | |||||||||||||||||||||||||||||
(in millions, except share amounts) | Shares Outstanding | Par Value | Treasury Stock | Retained Earnings | Total Equity | ||||||||||||||||||||||||||
Balance as of December 31, 2015 | 43,403,076 | $ | — | $ | (619.8 | ) | $ | 575.5 | $ | 739.2 | $ | (54.6 | ) | $ | 0.3 | $ | 640.6 | ||||||||||||||
Net income | — | — | — | 60.5 | — | — | 60.5 | ||||||||||||||||||||||||
Other comprehensive income (loss): | |||||||||||||||||||||||||||||||
Unrealized gain on available-for-sale investments, net of income tax of $0.3 | — | — | — | — | 0.5 | — | 0.5 | ||||||||||||||||||||||||
Reclassification of adjustments for gains included in net income | — | — | — | — | (0.2 | ) | — | (0.2 | ) | ||||||||||||||||||||||
Foreign currency translation adjustment, net | — | — | — | — | (8.1 | ) | — | (8.1 | ) | ||||||||||||||||||||||
Other comprehensive loss, net | — | — | — | — | (7.8 | ) | — | (7.8 | ) | ||||||||||||||||||||||
Issuance of common stock related to option exercises and vesting of restricted stock units, net of shares withheld for taxes on settlements of restricted stock units | 153,721 | — | 1.3 | (5.3 | ) | — | — | — | (4.0 | ) | |||||||||||||||||||||
Stock-based compensation | — | — | 7.8 | — | — | — | 7.8 | ||||||||||||||||||||||||
Common shares repurchased | (497,785 | ) | — | (38.8 | ) | — | — | — | — | (38.8 | ) | ||||||||||||||||||||
Dividends declared | — | — | — | (18.9 | ) | — | — | (18.9 | ) | ||||||||||||||||||||||
Balance as of June 30, 2016 | 43,059,012 | $ | — | $ | (657.3 | ) | $ | 578.0 | $ | 780.8 | $ | (62.4 | ) | $ | 0.3 | $ | 639.4 | ||||||||||||||
See notes to unaudited condensed consolidated financial statements.
7
Morningstar, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Cash Flows
Six months ended June 30 | ||||||||
(in millions) | 2016 | 2015 | ||||||
Operating activities | ||||||||
Consolidated net income | $ | 60.5 | $ | 62.0 | ||||
Adjustments to reconcile consolidated net income to net cash flows from operating activities: | ||||||||
Depreciation and amortization | 33.9 | 31.4 | ||||||
Deferred income taxes | (0.2 | ) | 1.3 | |||||
Stock-based compensation expense | 7.8 | 8.9 | ||||||
Provision for bad debt | 0.2 | 0.4 | ||||||
Equity in net income of unconsolidated entities | (0.3 | ) | (1.0 | ) | ||||
Other, net | (3.2 | ) | — | |||||
Changes in operating assets and liabilities, net of effects of acquisitions: | ||||||||
Accounts receivable | 1.0 | (8.8 | ) | |||||
Other assets | (4.0 | ) | — | |||||
Accounts payable and accrued liabilities | 1.6 | 2.0 | ||||||
Accrued compensation | (28.3 | ) | (18.1 | ) | ||||
Income taxes—current | (0.2 | ) | 15.7 | |||||
Deferred revenue | 13.6 | 19.1 | ||||||
Deferred rent | (1.4 | ) | 0.1 | |||||
Other liabilities | 1.8 | — | ||||||
Cash provided by operating activities | 82.8 | 113.0 | ||||||
Investing activities | ||||||||
Purchases of investments | (18.0 | ) | (14.0 | ) | ||||
Proceeds from maturities and sales of investments | 15.6 | 20.5 | ||||||
Capital expenditures | (29.4 | ) | (27.6 | ) | ||||
Acquisitions, net of cash acquired | (15.8 | ) | — | |||||
Purchases of equity- and cost-method investments | (16.4 | ) | — | |||||
Other, net | 0.1 | (5.1 | ) | |||||
Cash used for investing activities | (63.9 | ) | (26.2 | ) | ||||
Financing activities | ||||||||
Common shares repurchased | (38.8 | ) | (27.7 | ) | ||||
Dividends paid | (19.0 | ) | (16.9 | ) | ||||
Proceeds from short-term debt | 40.0 | 15.0 | ||||||
Repayment of short-term debt | — | (10.0 | ) | |||||
Proceeds from stock-option exercises | 0.4 | 3.2 | ||||||
Employee taxes paid from withholding of restricted stock units | (4.4 | ) | (4.9 | ) | ||||
Other, net | — | 0.1 | ||||||
Cash used for financing activities | (21.8 | ) | (41.2 | ) | ||||
Effect of exchange rate changes on cash and cash equivalents | (1.8 | ) | (5.2 | ) | ||||
Net increase (decrease) in cash and cash equivalents | (4.7 | ) | 40.4 | |||||
Cash and cash equivalents—beginning of period | 207.1 | 185.2 | ||||||
Cash and cash equivalents—end of period | $ | 202.4 | $ | 225.6 | ||||
Supplemental disclosure of cash flow information: | ||||||||
Cash paid for income taxes | $ | 30.5 | $ | 14.5 | ||||
Cash paid for interest | $ | 0.5 | $ | 0.3 | ||||
Supplemental information of non-cash investing and financing activities: | ||||||||
Unrealized gain on available-for-sale investments | $ | 0.4 | $ | 0.3 | ||||
Software and equipment obtained under long-term financing arrangement | $ | 3.4 | $ | 1.3 | ||||
See notes to unaudited condensed consolidated financial statements.
8
MORNINGSTAR, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation of Interim Financial Information
The accompanying unaudited 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 (U.S. GAAP) 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 are unaudited and should be read in conjunction with our Audited Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2015, filed with the SEC on February 26, 2016.
The acronyms that appear in the Notes to our Unaudited Condensed Consolidated Financial Statements refer to the following:
ASC: Accounting Standards Codification
ASU: Accounting Standards Update
FASB: Financial Accounting Standards Board
2. Summary of Significant Accounting Policies
We discuss our significant accounting policies in Note 2 of our Audited Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2015, filed with the SEC on February 26, 2016.
On May 28, 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The ASU will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. The original effective date for ASU 2014-09 would have required the Company to adopt beginning on January 1, 2017. In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers - Deferral of the Effective Date, which defers the effective date of ASU 2014-09 for one year and permits early adoption as early as the original effective date of ASU 2014-09. The new standard is effective for us on January 1, 2018. The standard permits the use of either the retrospective or cumulative effect transition method. We are evaluating the effect that ASU No. 2014-09 will have on our consolidated financial statements and related disclosures. We have not yet selected a transition method nor have we determined the effect of the standard on our ongoing financial reporting.
On March 17, 2016, the FASB issued ASU No. 2016-08, Revenue from Contracts with Customers - Principal versus Agent Considerations (Reporting Revenue Gross versus Net), which provides guidance on assessing whether an entity is a principal or an agent in a revenue transaction and whether an entity reports revenue on a gross or net basis. On April 14, 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers - Identifying Performance Obligations and Licensing, which provides guidance on identifying performance obligations and accounting for licenses of intellectual property. On May 6, 2016, the FASB issued ASU No. 2016-11, Revenue Recognition and Derivatives and Hedging - Rescission of SEC guidance because of ASU No. 2014-09 and ASU No. 2014-16 pursuant to staff announcements at the March 3, 2016 EITF Meeting, which rescinds the following SEC Staff Observer comments from ASC 605, Revenue Recognition, upon an entity's early adoption of ASC 606, Revenue from Contracts with Customers: Revenue and expense recognition for freight services in process, accounting for shipping and handling fees and costs, and accounting for consideration given by a vendor to a customer (including reseller of the vendor's products). On May 9, 2016, the FASB issued ASU No. 2016-12, Revenue from Contracts with Customers - Narrow-Scope Improvements and Practical Expedients, which makes narrow-scope amendments to ASU No. 2014-09 and provides practical expedients to simplify the transition to the new standard and clarify certain aspects of the standard.
9
The effective date and transition requirements for ASU No. 2016-08, ASU No. 2016-10, ASU No. 2016-11, and ASU No. 2016-12 are the same as the effective date and transition requirements of ASU No. 2014-09. We are evaluating the effect that ASU No. 2016-08, ASU No. 2016-10, ASU No. 2016-11, and ASU No. 2016-12 will have on our consolidated financial statements and related disclosures.
On February 25, 2016, the FASB issued ASU No. 2016-02, Leases, which will require lessees to recognize almost all leases on their balance sheet as a right-of-use asset and a lease liability. The new standard is effective for us on January 1, 2019. The new standard must be adopted using a modified retrospective transition, and provides for certain practical expedients. Transition will require application of the new guidance at the beginning of the earliest comparative period presented. We are evaluating the effect that ASU No. 2016-02 will have on our consolidated financial statements and related disclosures.
On March 15, 2016, the FASB issued ASU No. 2016-07, Simplifying the Transition to the Equity Method of Accounting, which eliminates the requirement to apply the equity method of accounting retrospectively when a reporting entity obtains significant influence over a previously held investment. The new standard is effective for us on January 1, 2017. Early adoption is permitted. The new standard should be applied prospectively for investments that qualify for the equity method of accounting after the effective date. We elected to early adopt ASU No. 2016-07 in the quarter ended March 31, 2016. The adoption of ASU No. 2016-07 did not have a material effect on our consolidated financial statements.
On March 30, 2016, the FASB issued ASU No. 2016-09, Improvements to Employee Share-Based Payment Accounting, which includes amendments to accounting for income taxes at settlement, forfeitures, and net settlements to cover withholding taxes. The new standard is effective for us on January 1, 2017. Early adoption is permitted but requires all elements of the amendments to be adopted at once rather than individually. We elected to early adopt ASU No. 2016-09 in the quarter ended June 30, 2016, which requires us to reflect any adjustments as of January 1, 2016, the beginning of the annual period that includes the interim period of adoption. The primary impact of adoption was the recognition of excess tax benefits in our provision for income taxes rather than paid in capital for all periods in fiscal year 2016. Additional amendments to the accounting for income taxes and minimum statutory withholding tax requirements had no impact to retained earnings as of January 1, 2016, where the cumulative effective of these changes are required to be recorded. We have elected to continue to estimate forfeiture expected to occur to determine the amount of compensation cost to be recognized in each period.
We elected to apply the presentation requirements for cash flows related to excess tax benefits retrospectively to all periods presented which resulted in an increase to both net cash provided by operating activities and net cash used for financing activities of $1.0 million and $2.1 million for the three and six months ended June 30, 2015, respectively. The presentation requirements for cash flows related to employee taxes paid for withheld shares had no impact to any of the periods presented in our consolidated cash flow statements because such cash flows have historically been presented as a financing activity.
Adoption of the new standard resulted in the recognition of excess tax benefits in our provision for income taxes rather than paid in capital of $0.8 million for the three and six months ended June 30, 2016. The adoption did not have a material effect on our previously reported results for the quarter ended March 31, 2016 as most of our stock options and restricted stock units vest in the second quarter.
3. Credit Arrangements
In March 2016, we increased our single-bank revolving credit facility from $75.0 million to $100.0 million. We had an outstanding principal balance of $75.0 million at an interest rate of LIBOR plus 100 basis points as of June 30, 2016, leaving borrowing availability of $25.0 million.
10
4. Acquisitions, Goodwill, and Other Intangible Assets
Acquisitions
On March 31, 2016, we acquired RequiSight, LLC, which does business as RightPond, a provider of business
intelligence data and analytics on defined contribution and defined benefit plans for financial services firms. We
began consolidating the financial results of RightPond in our Consolidated Financial Statements on March 31, 2016.
On May 31, 2016, we acquired InvestSoft Technology, Inc. (InvestSoft), a provider of fixed-income analytics. We began consolidating the financial results of InvestSoft in our Consolidated Financial Statements on May 31, 2016.
Goodwill
The following table shows the changes in our goodwill balances from December 31, 2015 to June 30, 2016:
(in millions) | ||||
Balance as of December 31, 2015 | $ | 364.2 | ||
Acquisitions and foreign currency translation | 7.3 | |||
Balance as of June 30, 2016 | $ | 371.5 | ||
We did not record any impairment losses in the first six months of 2016 or 2015. We perform our annual impairment reviews in the fourth quarter.
Intangible Assets
The following table summarizes our intangible assets:
As of June 30, 2016 | As of December 31, 2015 | |||||||||||||||||||||||||||
(in millions) | Gross | Accumulated Amortization | Net | Weighted Average Useful Life (years) | Gross | Accumulated Amortization | Net | Weighted Average Useful Life (years) | ||||||||||||||||||||
Intellectual property | $ | 28.4 | $ | (27.4 | ) | $ | 1.0 | 9 | $ | 28.3 | $ | (26.7 | ) | $ | 1.6 | 9 | ||||||||||||
Customer-related assets | 137.8 | (95.9 | ) | 41.9 | 12 | 137.5 | (92.3 | ) | 45.2 | 12 | ||||||||||||||||||
Supplier relationships | 0.2 | (0.1 | ) | 0.1 | 20 | 0.2 | (0.1 | ) | 0.1 | 20 | ||||||||||||||||||
Technology-based assets | 92.8 | (67.8 | ) | 25.0 | 8 | 89.5 | (64.4 | ) | 25.1 | 8 | ||||||||||||||||||
Non-competition agreements | 4.8 | (2.8 | ) | 2.0 | 5 | 4.6 | (2.4 | ) | 2.2 | 5 | ||||||||||||||||||
Total intangible assets | $ | 264.0 | $ | (194.0 | ) | $ | 70.0 | 10 | $ | 260.1 | $ | (185.9 | ) | $ | 74.2 | 10 | ||||||||||||
The following table summarizes our amortization expense related to intangible assets:
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
Amortization expense | $ | 4.7 | $ | 5.4 | $ | 9.8 | $ | 10.9 | ||||||||
We amortize intangible assets using the straight-line method over their expected economic useful lives.
11
We expect intangible amortization expense for the remainder of 2016 and subsequent years as follows:
(in millions) | ||||
Remainder of 2016 (from July 1 through December 31) | $ | 8.6 | ||
2017 | 13.8 | |||
2018 | 11.7 | |||
2019 | 9.2 | |||
2020 | 5.6 | |||
Thereafter | 21.1 | |||
Our estimates of future amortization expense for intangible assets may be affected by acquisitions, divestitures, changes in the estimated average useful life, and foreign currency translation.
5. Income Per Share
The following table shows how we reconcile our net income and the number of shares used in computing basic and diluted net income per share:
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions, except per share amounts) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
Basic net income per share attributable to Morningstar, Inc.: | ||||||||||||||||
Net income attributable to Morningstar, Inc. | $ | 31.8 | $ | 32.2 | $ | 60.5 | $ | 61.8 | ||||||||
Weighted average common shares outstanding | 43.0 | 44.3 | 43.0 | 44.3 | ||||||||||||
Basic net income per share attributable to Morningstar, Inc. | $ | 0.74 | $ | 0.73 | $ | 1.41 | $ | 1.39 | ||||||||
Diluted net income per share attributable to Morningstar, Inc.: | ||||||||||||||||
Net income attributable to Morningstar, Inc. | $ | 31.8 | $ | 32.2 | $ | 60.5 | $ | 61.8 | ||||||||
Weighted average common shares outstanding | 43.0 | 44.3 | 43.0 | 44.3 | ||||||||||||
Net effect of dilutive stock options, restricted stock units, and performance share awards | 0.3 | 0.1 | 0.3 | 0.1 | ||||||||||||
Weighted average common shares outstanding for computing diluted income per share | 43.3 | 44.4 | 43.3 | 44.4 | ||||||||||||
Diluted net income per share attributable to Morningstar, Inc. | $ | 0.73 | $ | 0.72 | $ | 1.40 | $ | 1.39 | ||||||||
The following table shows the number of weighted average restricted stock units and performance share awards excluded from our calculation of diluted earnings per share because their inclusion would have been anti-dilutive:
Three months ended June 30 | Six months ended June 30 | |||||||||||
(in thousands) | 2016 | 2015 | 2016 | 2015 | ||||||||
Weighted average restricted stock units | 2 | 43 | 10 | 42 | ||||||||
Weighted average performance share awards | — | 15 | — | 6 | ||||||||
Total | 2 | 58 | 10 | 48 | ||||||||
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6. Segment and Geographical Area Information
Segment Information
We report our results in a single reportable segment, which reflects how our chief operating decision maker allocates resources and evaluates our financial results.
Because we have one reportable segment, all required financial segment information can be found directly in the Unaudited Condensed Consolidated Financial Statements.
The accounting policies for our single reportable segment are the same as those described in “Note 2. Summary of Significant Accounting Policies” included in our Annual Report on Form 10-K for the year ended December 31, 2015. We evaluate the performance of our reporting segment based on revenue and operating income.
Geographical Area Information
The tables below summarize our revenue and long-lived assets by geographical area:
External revenue by geographical area | ||||||||||||||||
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
United States | $ | 145.3 | $ | 151.2 | $ | 287.1 | $ | 292.1 | ||||||||
United Kingdom | 15.3 | 16.0 | 30.6 | 30.8 | ||||||||||||
Continental Europe | 15.8 | 14.4 | 31.3 | 28.7 | ||||||||||||
Australia | 8.9 | 8.0 | 15.8 | 15.7 | ||||||||||||
Canada | 6.9 | 7.1 | 13.5 | 14.0 | ||||||||||||
Asia | 5.0 | 4.4 | 10.1 | 8.8 | ||||||||||||
Other | 1.0 | 1.0 | 1.9 | 1.8 | ||||||||||||
Total International | 52.9 | 50.9 | 103.2 | 99.8 | ||||||||||||
Consolidated revenue | $ | 198.2 | $ | 202.1 | $ | 390.3 | $ | 391.9 | ||||||||
Long-lived assets by geographical area | ||||||||
As of June 30 | As of December 31 | |||||||
(in millions) | 2016 | 2015 | ||||||
United States | $ | 126.3 | $ | 116.9 | ||||
United Kingdom | 7.2 | 8.6 | ||||||
Continental Europe | 2.2 | 2.2 | ||||||
Australia | 0.8 | 0.9 | ||||||
Canada | 0.6 | 0.7 | ||||||
Asia | 4.1 | 5.2 | ||||||
Other | 0.1 | — | ||||||
Total International | 15.0 | 17.6 | ||||||
Consolidated property, equipment, and capitalized software, net | $ | 141.3 | $ | 134.5 | ||||
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7. Investments and Fair Value Measurements
We classify our investments into three categories: available-for-sale, held-to-maturity, and trading securities. Our investment portfolio consists of stocks, bonds, options, mutual funds, money market funds, or exchange-traded products that replicate the model portfolios and strategies created by Morningstar. These investment accounts may also include exchange-traded products where Morningstar is an index provider. We classify our investment portfolio as shown below:
As of June 30 | As of December 31 | |||||||
(in millions) | 2016 | 2015 | ||||||
Available-for-sale | $ | 26.6 | $ | 17.3 | ||||
Held-to-maturity | 15.8 | 15.3 | ||||||
Trading securities | 1.4 | 8.9 | ||||||
Total | $ | 43.8 | $ | 41.5 | ||||
The following table shows the cost, unrealized gains (losses), and fair value of investments classified as available-for-sale and held-to-maturity:
As of June 30, 2016 | As of December 31, 2015 | |||||||||||||||||||||||||||||||
(in millions) | Cost | Unrealized Gain | Unrealized Loss | Fair Value | Cost | Unrealized Gain | Unrealized Loss | Fair Value | ||||||||||||||||||||||||
Available-for-sale: | ||||||||||||||||||||||||||||||||
Equity securities and exchange-traded funds | $ | 25.8 | $ | 1.1 | $ | (2.0 | ) | $ | 24.9 | $ | 17.4 | $ | 0.3 | $ | (1.6 | ) | $ | 16.1 | ||||||||||||||
Mutual funds | 1.7 | — | — | 1.7 | 1.3 | — | (0.1 | ) | 1.2 | |||||||||||||||||||||||
Total | $ | 27.5 | $ | 1.1 | $ | (2.0 | ) | $ | 26.6 | $ | 18.7 | $ | 0.3 | $ | (1.7 | ) | $ | 17.3 | ||||||||||||||
Held-to-maturity: | ||||||||||||||||||||||||||||||||
Certificates of deposit | $ | 14.0 | $ | — | $ | — | $ | 14.0 | $ | 15.3 | $ | — | $ | — | $ | 15.3 | ||||||||||||||||
Convertible note | 1.8 | — | — | 1.8 | — | — | — | — | ||||||||||||||||||||||||
Total | $ | 15.8 | $ | — | $ | — | $ | 15.8 | $ | 15.3 | $ | — | $ | — | $ | 15.3 | ||||||||||||||||
As of June 30, 2016 and December 31, 2015, investments with unrealized losses for greater than a 12-month period were not material to the Unaudited 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 June 30, 2016 and December 31, 2015.
As of June 30, 2016 | As of December 31, 2015 | |||||||||||||||
(in millions) | Cost | Fair Value | Cost | Fair Value | ||||||||||||
Available-for-sale: | ||||||||||||||||
Equity securities, exchange-traded funds, and mutual funds | $ | 27.5 | $ | 26.6 | $ | 18.7 | $ | 17.3 | ||||||||
Total | $ | 27.5 | $ | 26.6 | $ | 18.7 | $ | 17.3 | ||||||||
Held-to-maturity: | ||||||||||||||||
Due in one year or less | $ | 14.0 | $ | 14.0 | $ | 15.3 | $ | 15.3 | ||||||||
Due in one to three years | 1.8 | 1.8 | — | — | ||||||||||||
Total | $ | 15.8 | 15.8 | $ | 15.3 | $ | 15.3 | |||||||||
The following table shows the realized gains and losses arising from sales of our investments classified as available-for-sale recorded in our Unaudited Condensed Consolidated Statements of Income:
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
Realized gains | $ | 0.6 | $ | 0.7 | $ | 1.1 | $ | 0.9 | ||||||||
Realized losses | (0.3 | ) | (0.2 | ) | (0.9 | ) | (0.5 | ) | ||||||||
Realized gains, net | $ | 0.3 | $ | 0.5 | $ | 0.2 | $ | 0.4 | ||||||||
We determine realized gains and losses using the specific identification method.
The following table shows the net unrealized gains (losses) on trading securities as recorded in our Unaudited Condensed Consolidated Statements of Income:
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
Unrealized gains (losses), net | $ | 0.1 | $ | (0.2 | ) | $ | 0.1 | $ | (0.3 | ) | ||||||
The table below shows the fair value of our assets subject to fair value measurements that are measured at fair value on a recurring basis:
Fair Value | Fair Value Measurements as of June 30, 2016 | |||||||||||||||
as of | Using Fair Value Hierarchy | |||||||||||||||
(in millions) | June 30, 2016 | Level 1 | Level 2 | Level 3 | ||||||||||||
Available-for-sale investments: | ||||||||||||||||
Equity securities and exchange-traded funds | $ | 24.9 | $ | 24.9 | $ | — | $ | — | ||||||||
Mutual funds | 1.7 | 1.7 | — | — | ||||||||||||
Trading securities | 1.4 | 1.4 | — | — | ||||||||||||
Cash equivalents | 0.3 | 0.3 | — | — | ||||||||||||
Total | $ | 28.3 | $ | 28.3 | $ | — | $ | — | ||||||||
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Fair Value | Fair Value Measurements as of December 31, 2015 | |||||||||||||||
as of | Using Fair Value Hierarchy | |||||||||||||||
(in millions) | December 31, 2015 | Level 1 | Level 2 | Level 3 | ||||||||||||
Available-for-sale investments: | ||||||||||||||||
Equity securities and exchange-traded funds | $ | 16.1 | $ | 16.1 | $ | — | $ | — | ||||||||
Mutual funds | 1.2 | 1.2 | — | — | ||||||||||||
Trading securities | 8.9 | 8.9 | — | — | ||||||||||||
Cash equivalents | 0.2 | 0.2 | — | — | ||||||||||||
Total | $ | 26.4 | $ | 26.4 | $ | — | $ | — | ||||||||
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. |
We measure the fair value of money market funds, mutual funds, equity securities, and exchange-traded funds based on quoted prices in active markets for identical assets or liabilities. We did not hold any securities categorized as Level 2 or Level 3 as of June 30, 2016 and December 31, 2015.
8. Stock-Based Compensation
Stock-Based Compensation Plans
All of our employees and our non-employee directors are eligible for awards under the Morningstar 2011 Stock Incentive Plan (the 2011 Plan), which provides for a variety of stock-based awards, including stock options, performance share awards, restricted stock units, and restricted stock.
The following table summarizes the stock-based compensation expense included in each of our operating expense categories:
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
Cost of revenue | $ | 2.0 | $ | 2.1 | $ | 4.0 | $ | 4.1 | ||||||||
Sales and marketing | 0.5 | 0.6 | 1.0 | 1.1 | ||||||||||||
General and administrative | 1.3 | 1.9 | 2.8 | 3.7 | ||||||||||||
Total stock-based compensation expense | $ | 3.8 | $ | 4.6 | $ | 7.8 | $ | 8.9 | ||||||||
As of June 30, 2016, the total unrecognized stock-based compensation cost related to outstanding restricted stock units and performance share awards expected to vest was $33.5 million, which we expect to recognize over a weighted average period of 33 months.
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9. Income Taxes
Effective Tax Rate
The following table shows our effective tax rate for the three months and six months ended June 30, 2016 and June 30, 2015:
Three months ended June 30 | Six months ended June 30 | |||||||||||||||
(in millions) | 2016 | 2015 | 2016 | 2015 | ||||||||||||
Income before income taxes and equity in net income of unconsolidated entities | $ | 47.4 | $ | 50.3 | $ | 90.2 | $ | 94.6 | ||||||||
Equity in net income (loss) of unconsolidated entities | (0.2 | ) | 0.6 | 0.3 | 1.0 | |||||||||||
Net income attributable to noncontrolling interest | — | — | — | (0.2 | ) | |||||||||||
Total | $ | 47.2 | $ | 50.9 | $ | 90.5 | $ | 95.4 | ||||||||
Income tax expense | $ | 15.4 | $ | 18.7 | $ | 30.0 | $ | 33.6 | ||||||||
Effective tax rate | 32.7 | % | 36.7 | % | 33.2 | % | 35.2 | % | ||||||||
Our effective tax rate in the second quarter and for the first six months of 2016 was 32.7% and 33.2%, a respective decrease of 4.0 and 2.0 percentage points compared with the same periods a year ago. During the second quarter of 2016, we adopted ASU No. 2016-09, Improvements to Employee Share-Based Payment Accounting. Adoption of the new standard resulted in recognition of excess tax benefits in our provision for income taxes rather than paid in capital, thus decreasing our income tax expense in 2016. Also, the prior period tax expense in 2015 was higher because of changes in enacted tax rates that increased our tax expense attributable to deferred tax liabilities.
Unrecognized Tax Benefits
The table below provides information concerning our gross unrecognized tax benefits as of June 30, 2016 and December 31, 2015, as well as the effect these gross unrecognized tax benefits would have on our income tax expense, if they were recognized.
As of June 30 | As of December 31 | |||||||
(in millions) | 2016 | 2015 | ||||||
Gross unrecognized tax benefits | $ | 16.1 | $ | 14.5 | ||||
Gross unrecognized tax benefits that would affect income tax expense | $ | 12.1 | $ | 10.5 | ||||
Decrease in income tax expense upon recognition of gross unrecognized tax benefits | $ | 10.8 | $ | 9.4 | ||||
Our Unaudited Condensed Consolidated Balance Sheets include the following liabilities for unrecognized tax benefits. These amounts include interest and penalties, less any associated tax benefits.
As of June 30 | As of December 31 | |||||||
Liabilities for Unrecognized Tax Benefits (in millions) | 2016 | 2015 | ||||||
Current liability | $ | 4.6 | $ | 4.2 | ||||
Non-current liability | 7.1 | 6.0 | ||||||
Total liability for unrecognized tax benefits | $ | 11.7 | $ | 10.2 | ||||
Because we conduct business globally, we file income tax returns in U.S. federal, state, local, and foreign jurisdictions. We are currently under audit by federal and various state and local tax authorities in the United States, as well as tax authorities in certain non-U.S. jurisdictions. It is possible, though not likely, that the examination phase of some of these audits will conclude in 2016. It is not possible to estimate the effect of current audits on previously recorded unrecognized tax benefits.
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We have not provided federal and state income taxes on accumulated undistributed earnings of certain foreign subsidiaries because these earnings have been permanently reinvested. Approximately 79% of our cash, cash equivalents, and investments balance as of June 30, 2016 was held by our operations outside of the United States. We believe that our cash balances and investments in the United States, along with cash generated from our U.S. operations, will be sufficient to meet our U.S. operating and cash needs for the foreseeable future, without requiring us to repatriate earnings from these foreign subsidiaries. It is not practical to determine the amount of the unrecognized deferred tax liability related to the undistributed earnings.
Certain of our non-U.S. operations have incurred net operating losses (NOLs) which may become deductible to the extent these operations become profitable. 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. In the year that certain non-U.S. operations record a loss, we do not recognize a corresponding tax benefit, thus increasing our effective tax rate. 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.
10. Contingencies
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 the result of any of these matters will have a material adverse effect on our business, operating results, or financial position.
11. Share Repurchase Program
We have an ongoing authorization, originally approved by our board of directors in September 2010 and subsequently amended, to repurchase up to $1.0 billion in shares of our outstanding common stock. The authorization expires on December 31, 2017. 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 June 30, 2016, we had repurchased a total of 9,880,917 shares for $662.3 million under this authorization, leaving approximately $337.7 million available for future repurchases.
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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:
• | liability for any losses that result from an actual or claimed breach of our fiduciary duties; |
• | failing to maintain and protect our brand, independence, and reputation; |
• | failing to differentiate our products and continuously create innovative, proprietary research tools; |
• | failing to respond to technological change, keep pace with new technology developments, or adopt a successful technology strategy; |
• | liability related to our storage of personal information related to individuals as well as portfolio and account-level information; |
• | compliance failures, regulatory action, or changes in laws applicable to our investment advisory or credit rating operations; |
• | downturns in the financial sector, global financial markets, and global economy; |
• | the effect of market volatility on revenue from asset-based fees; |
• | the effect of changes in industry-wide issuance volume for commercial mortgage-backed securities; |
• | a prolonged outage of our database, technology-based products and services, or network facilities; |
• | challenges faced by our operations outside the United States, including the concentration of data and development work at our offshore facilities in China and India; and |
• | trends in the mutual fund industry, including the increasing popularity of passively managed investment vehicles. |
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, 2015. 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 previous 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 products and services for financial advisors, asset managers, retirement plan providers and sponsors, and individual investors. Many of our products are sold through subscriptions or license agreements. As a result, we typically generate recurring revenue.
Industry Overview
Despite significant market volatility and uncertainty for part of the period, equity markets managed to close out the second quarter with positive returns. The Morningstar U.S. Market Index, a broad market benchmark, was up 2.6% for the second quarter of 2016, while the Global Ex-U.S. Index finished the quarter up 1.2%.
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U.S. mutual fund assets stood at $15.9 trillion in May 2016, based on data from the Investment Company Institute (ICI), compared with $16.3 trillion in May 2015. Based on Morningstar's estimated asset flow data, investors added about $20.9 billion to long-term open-end and exchange-traded funds (ETFs) during the second quarter of 2016, compared with $67.6 billion in the second quarter of 2015. Fund flows to U.S. equity and sector-focused funds were negative in the quarter. Continuing a long-term trend, investors continued to shift assets in favor of lower-cost, passively managed vehicles. For the trailing 12 months ending June 30, 2016, actively managed funds had net outflows of more than $300 billion, while passively managed vehicles had net inflows of nearly $375 billion.
Assets in exchange-traded funds totaled $2.2 trillion in May 2016, up slightly from $2.1 trillion in May 2015, based on data from the ICI.
We believe the business environment for the financial services industry remains challenging. Low interest rates and the industrywide shift to passive investment management have continued to put pressure on spending for many asset management firms. The recent referendum by voters for the United Kingdom to exit the European Union has also added market uncertainty. In addition, new issuance volume for commercial mortgage-backed securities has declined significantly in 2016.
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Supplemental Operating Metrics
The tables below summarize our key product metrics and other supplemental data.
As of June 30 | |||||||||||||||||||||||
2016 | 2015 | Change | |||||||||||||||||||||
Our business | |||||||||||||||||||||||
Morningstar.com Premium Membership subscriptions (U.S.) | 119,019 | 122,235 | (2.6 | )% | |||||||||||||||||||
Morningstar.com registered users (U.S.) | 8,698,568 | 8,377,139 | 3.8 | % | |||||||||||||||||||
Advisor Workstation clients (U.S.) | 187 | 187 | — | % | |||||||||||||||||||
Morningstar Office licenses (U.S.) | 4,157 | 4,298 | (3.3 | )% | |||||||||||||||||||
Morningstar Direct licenses | 12,064 | 10,839 | 11.3 | % | |||||||||||||||||||
Assets under advisement and management (approximate) ($bil) (1) | |||||||||||||||||||||||
Workplace Solutions (Retirement) | |||||||||||||||||||||||
Managed Accounts (2) | $ | 43.3 | $ | 38.0 | 13.9 | % | |||||||||||||||||
Plan Sponsor Advice | 32.0 | 28.8 | 11.1 | % | |||||||||||||||||||
Custom Models | 19.7 | 18.3 | 7.7 | % | |||||||||||||||||||
Workplace Solutions (total) | $ | 95.0 | $ | 85.1 | 11.6 | % | |||||||||||||||||
Morningstar Investment Management | |||||||||||||||||||||||
Morningstar Managed Portfolios (3) | $ | 27.5 | $ | 25.6 | 7.4 | % | |||||||||||||||||
Institutional Asset Management | 58.6 | 63.4 | |||||||||||||||||||||