Morningstar(MORN) - 2020 Q1 - Quarterly Report

PART 1 FINANCIAL INFORMATION Financial Statements This section presents Morningstar's unaudited condensed consolidated financial statements for Q1 2020, highlighting revenue growth, operating income decline, and a comprehensive loss Unaudited Condensed Consolidated Statements of Income Q1 2020 saw revenue increase by 25.1% to $324.0 million, but operating income and net income declined due to faster expense growth Q1 2020 vs Q1 2019 Income Statement Highlights | Metric | Three months ended March 31, 2020 | Three months ended March 31, 2019 | Change | | :--- | :--- | :--- | :--- | | Revenue | $324.0 million | $258.9 million | +25.1% | | Operating Income | $44.5 million | $49.5 million | -10.1% | | Consolidated Net Income | $23.9 million | $33.2 million | -28.0% | | Diluted EPS | $0.55 | $0.77 | -28.6% | | Dividends Declared per Share | $0.30 | $0.28 | +7.1% | Unaudited Condensed Consolidated Statements of Comprehensive Income The company reported a Q1 2020 comprehensive loss of $20.3 million, primarily due to negative foreign currency translation adjustments Comprehensive Income (Loss) Comparison | (in millions) | Three months ended March 31, 2020 | Three months ended March 31, 2019 | | :--- | :--- | :--- | | Consolidated net income | $23.9 | $33.2 | | Foreign currency translation adjustment | $(40.4) | $3.4 | | Comprehensive income (loss) | $(20.3) | $38.0 | Unaudited Condensed Consolidated Balance Sheets As of March 31, 2020, total assets and equity slightly decreased, primarily due to goodwill reduction from foreign currency translation Balance Sheet Highlights | (in millions) | As of March 31, 2020 | As of December 31, 2019 | | :--- | :--- | :--- | | Cash and cash equivalents | $322.5 | $334.1 | | Goodwill | $1,013.2 | $1,039.1 | | Total Assets | $2,292.0 | $2,370.9 | | Long-term debt | $519.4 | $502.1 | | Total Liabilities | $1,259.3 | $1,287.3 | | Total Equity | $1,032.7 | $1,083.6 | Unaudited Condensed Consolidated Statements of Cash Flows Cash provided by operating activities decreased to $48.7 million, while cash used for financing activities declined, resulting in an overall cash decrease Cash Flow Summary | (in millions) | Three months ended March 31, 2020 | Three months ended March 31, 2019 | | :--- | :--- | :--- | | Cash provided by operating activities | $48.7 | $59.0 | | Cash used for investing activities | $(19.5) | $(19.5) | | Cash used for financing activities | $(26.9) | $(60.7) | | Net decrease in cash and cash equivalents | $(11.6) | $(20.2) | Notes to Unaudited Condensed Consolidated Financial Statements Notes detail accounting policies, COVID-19 impact, credit, acquisitions, revenue recognition, and contingencies, including SEC settlement and subsequent acquisitions - The company is closely monitoring the impact of the COVID-19 pandemic, which remains fluid, and the CARES Act had no impact on the financial statements for the quarter ended March 31, 2020[21][22] - Total debt stood at $530.4 million as of March 31, 2020, primarily from a credit facility used to finance the DBRS acquisition, with $210.0 million of borrowing availability under its revolving credit facility[30][32] - Revenue is disaggregated into three types: License-based ($216.0 million), Asset-based ($57.2 million), and Transaction-based ($50.8 million), with license-based revenue from subscriptions being the largest component[50] - Morningstar Credit Ratings, LLC reached an agreement in principle with SEC staff to settle an investigation for a civil penalty of $3.5 million, which was accrued as of December 31, 2019[79] - Subsequent to the quarter end, Morningstar announced an agreement to acquire the remaining ~60% of Sustainalytics, a leader in ESG ratings and research, for approximately EUR 55.0 million upfront plus future performance-based payments[85] Management's Discussion and Analysis of Financial Condition and Results of Operations Management discusses a 25.1% revenue increase driven by DBRS acquisition, offset by rising expenses, leading to an operating income decline and reduced free cash flow COVID-19 Update The company is managing COVID-19 impacts, anticipating potential delays in client purchases and market volatility effects on revenue streams - The full impact of the COVID-19 pandemic cannot be reasonably estimated, but it could lead clients to delay purchases or reduce spending[93] - Asset-based revenue will likely see impacts from Q1 market volatility in future periods due to reporting lags[93] - Transaction-based revenue from DBRS Morningstar was negatively impacted by tightening credit markets and volatility toward the end of Q1[93] - The company has implemented business continuity plans, transitioned to a remote workforce, and is focused on maintaining a strong balance sheet with $348.8 million in cash and investments and $210.0 million in credit facility availability[94][95] Consolidated Results of Operations Q1 2020 consolidated revenue grew 25.1% to $324.0 million, primarily due to DBRS acquisition, while operating expenses rose 33.5%, impacting operating margin Revenue by Type (Q1 2020 vs Q1 2019) | Revenue Type | Q1 2020 (in millions) | Q1 2019 (in millions) | Change | Organic Change | | :--- | :--- | :--- | :--- | :--- | | License-based | $216.0 | $195.5 | +10.5% | +10.8% | | Asset-based | $57.2 | $48.8 | +17.2% | +18.0% | | Transaction-based | $50.8 | $14.6 | +247.9% | -17.2% | - PitchBook was a key driver of license-based revenue growth, with revenue up 40.2% to $45.3 million and licenses increasing 67.5% YoY to 41,308[99][111] - Total operating expense increased by $70.1 million (33.5%), with DBRS Morningstar contributing 20.1 percentage points to this growth[123] Operating Income and Adjusted Operating Income Reconciliation | (in millions) | Q1 2020 | Q1 2019 | Change | | :--- | :--- | :--- | :--- | | Operating income (GAAP) | $44.5 | $49.5 | (10.1)% | | Add: intangible amortization expense | $14.0 | $4.9 | +185.7% | | Add: M&A-related expenses | $2.9 | $0.3 | +866.7% | | Adjusted operating income (Non-GAAP) | $61.4 | $54.7 | +12.2% | Liquidity and Capital Resources The company maintained strong liquidity with $348.8 million in cash, despite a decline in free cash flow and ongoing share repurchases - As of March 31, 2020, cash, cash equivalents, and investments totaled $348.8 million, with approximately 70% of this balance held by operations outside the U.S[140][145] - The company has an outstanding principal balance of $530.4 million on its credit facility and was in compliance with all financial covenants[142] - In Q1 2020, the company repurchased 176,925 shares for $20.0 million, with approximately $454.4 million remaining under the current repurchase authorization[147] Free Cash Flow | (in millions) | Three months ended March 31, 2020 | Three months ended March 31, 2019 | Change | | :--- | :--- | :--- | :--- | | Cash provided by operating activities | $48.7 | $59.0 | (17.5)% | | Capital expenditures | $(15.1) | $(18.7) | (19.3)% | | Free cash flow | $33.6 | $40.3 | (16.6)% | Quantitative and Qualitative Disclosures about Market Risk The company faces market risks from interest rate fluctuations and foreign currency exchange rates, with sensitivity analyses provided for both - The company is subject to interest rate risk on its long-term debt, where an annualized 100 basis-point change in the LIBOR rate would impact interest expense by an estimated $5.3 million[157] - The company is subject to foreign currency risk from its international operations, where a 10% adverse currency fluctuation would have an estimated negative impact of $25.1 million on equity from its British Pound exposure and $11.8 million from its Canadian Dollar exposure[158] Controls and Procedures Management concluded disclosure controls were effective as of March 31, 2020, with DBRS internal controls integration ongoing for the 2020 assessment - The CEO and CFO concluded that the company's disclosure controls and procedures are effective to provide reasonable assurance of timely and accurate reporting[160] - The integration of DBRS's operations into the company's internal control framework is ongoing and will be incorporated into the annual assessment for the fiscal year ending December 31, 2020[161] PART 2 OTHER INFORMATION Legal Proceedings This section incorporates legal proceedings information from Note 12, detailing a pending SEC settlement for Morningstar Credit Ratings - Information regarding legal proceedings is detailed in Note 12 of the Notes to Unaudited Condensed Consolidated Financial Statements[164] Risk Factors A new material risk factor addresses the uncertain and potentially adverse impacts of the COVID-19 pandemic on operations and financial condition - A new risk factor has been added regarding the uncertain and unpredictable material and adverse impacts of the COVID-19 pandemic[166] - Risks include operational challenges from extended remote work for employees, vendors, and customers, as well as potential degradation of cybersecurity and internal controls[166] - Longer-term risks involve a potential decline in demand for products and services due to a prolonged economic downturn, reduced assets under management, and a decline in credit issuance activity[167] Unregistered Sales of Equity Securities and Use of Proceeds In Q1 2020, Morningstar repurchased 176,925 shares for $20.0 million under its $500.0 million share repurchase program Issuer Purchases of Equity Securities (Q1 2020) | Period | Total Shares Purchased | Average Price Paid per Share | Total Cost (approx.) | | :--- | :--- | :--- | :--- | | Jan 2020 | — | — | — | | Feb 2020 | — | — | — | | Mar 2020 | 176,925 | $113.04 | $20.0 million | | Total Q1 | 176,925 | $113.04 | $20.0 million | - As of March 31, 2020, approximately $454.4 million remained available for repurchase under the existing program, which expires on December 31, 2020[171] Exhibits This section lists Form 10-Q exhibits, including CEO and CFO certifications and financial statements in Inline XBRL format - The exhibits include CEO and CFO certifications and financial data in Inline XBRL format[172]