Description
Filed with the SEC from April 12 to April 18:
Willis Group (WSH)
ValueAct Capital owns 10,433,390 shares (6%) after buying 1,854,980 from March 21 through April 11 at $34.87 to $35.90 each.
BUSINESS OVERVIEW
Our Business
Insurance and reinsurance is a global business, and its participants are affected by global trends in capacity and pricing. Accordingly, we operate as one global business which ensures all clients’ interests are handled efficiently and comprehensively, whatever their initial point of contact. We organize our business into three segments: North America and International, which together comprise our principal retail operations, and Global. In 2011 and 2010, approximately 50 percent of our total revenue was generated from within the US, with no other country contributing in excess of 20 percent. For information regarding revenues, operating income and total assets per segment, see Note 27 of the Consolidated Financial Statements contained herein.
Global
Our Global business provides specialist brokerage and consulting services to clients worldwide for the risks arising from specific industrial and commercial activities. In these operations, we have extensive specialized experience handling diverse lines of coverage, including complex insurance programs, and acting as an intermediary between retail brokers and insurers. We increasingly provide consulting services on risk management with the objective of assisting clients to reduce the overall cost of risk. Our Global business serves clients in over 150 countries, primarily from offices in the United Kingdom, although we also serve clients from offices in the United States, Continental Europe and Asia.
The Global business is divided into:
• Global Specialties;
• Willis Re;
• Willis Faber & Dumas (formerly London Market Wholesale); and
• Willis Capital Markets & Advisory.
Global Specialties
Global Specialties has strong global positions in Aerospace, Energy, Marine, Construction, Financial and Executive Risks as well as Financial Solutions.
• Aerospace
We are highly experienced in the provision of insurance and reinsurance brokerage and risk management services to Aerospace clients worldwide, including aircraft manufacturers, air cargo handlers and shippers, airport managers and other general aviation companies. Advisory services provided by Aerospace include claims recovery, contract and leasing risk management, safety services and market information. Aerospace’s clients include approximately one third of the world’s airlines. The specialist Inspace division is also prominent in supplying the space industry through providing insurance and risk management services to approximately 30 companies.
• Energy
Our Energy practice provides insurance brokerage services including property damage, offshore construction, liability and control of well and pollution insurance to the energy industry. Our Energy practice clients are worldwide. We are highly experienced in providing insurance brokerage for all aspects of the energy industry including exploration and production, refining and marketing, offshore construction and pipelines.
• Marine
Our Marine unit provides marine insurance and reinsurance brokerage services, including hull, cargo and general marine liabilities. Marine’s clients include ship owners, ship builders, logistics operators, port authorities, traders and shippers, other insurance intermediaries and insurance companies. Marine insurance brokerage is our oldest line of business dating back to our establishment in 1828.
• Construction
Our Construction practice provides risk management advice and brokerage services for a wide range of UK and international construction activities. The clients of the Construction practice include contractors, project owners, project managers, project financiers, professional consultants and insurers. We are a broker for a number of the leading global construction firms.
• Financial and Executive Risks
Our Financial and Executive Risks unit specializes in broking directors’ and officers’ insurance as well as professional indemnity insurance for corporations and professional firms.
• Financial Solutions
Financial Solutions is a global business unit which incorporates our political risk unit, as well as structured finance and credit teams. It also places structured crime and specialist liability insurance for clients across the broad spectrum of financial institutions as well as specializing in strategic risk assessment and transactional risk transfer solutions.
Willis Re
We are one of the world’s largest intermediaries for reinsurance and have a significant market share in all of the world’s major markets. Our clients are both insurance and reinsurance companies.
We operate this business on a global basis and provide a complete range of transactional capabilities, including, in conjunction with Willis Capital Markets & Advisory, a wide variety of capital markets based products. Our services are underpinned by leading modeling, financial analysis and risk management advice. We bolster and enhance all of these services with the cutting edge knowledge derived from our Willis Research Network, the insurance industry’s largest partnership with global academic research.
Willis Faber & Dumas
This business unit was created on January 1, 2011 and amalgamates Faber & Dumas and Global Markets International. Prior to January 1, 2012, this unit was known as London Market Wholesale.
• Faber & Dumas
Faber & Dumas, our wholesale brokerage division, comprises London-based operation, Glencairn, together with our Fine Art, Jewelry and Specie, Special Contingency Risk and Hughes-Gibb units.
• Glencairn principally provides property, energy, casualty and personal accident insurance to independent wholesaler brokers worldwide who wish to access the London, European and Bermudan markets.
• The Fine Art, Jewelry and Specie unit provides specialist risk management and insurance services to fine art, diamond and jewelry businesses and operators of armored cars. Coverage is also obtained for vault and bullion risks.
• The Special Contingency Risks unit specializes in producing packages to protect corporations, groups and individuals against special contingencies such as kidnap and ransom, extortion, detention and political repatriation.
• The Hughes-Gibb unit principally services the insurance and reinsurance needs of the horse racing and horse breeding industry and is successfully diversifying its portfolio into Agriculture/Crop sector.
• Global Markets International
Global Markets International works closely with other Global business units to further develop access for our retail clients to global markets, and provide structuring and placing skills in the relevant areas of property, casualty, terrorism, accident & health, facultative and captives.
Willis Capital Markets & Advisory
Willis Capital Markets & Advisory, with offices in New York and London, provides advice to companies involved in the insurance and reinsurance industry on a broad array of mergers and acquisition transactions as well as capital markets products, including acting as underwriter or agent for primary issuances, operating a secondary insurance-linked securities trading desk and engaging in general capital markets and strategic advisory work.
Retail operations
Our North America and International retail operations provide services to small, medium and large corporate clients, accessing Global’s specialist expertise when required.
North America
Our North America business provides risk management, insurance brokerage, related risk services, and employee benefits brokerage and consulting to a wide array of industry and client segments in the United States, Canada and Mexico. With around 120 locations, organized into seven geographical regions including Canada and Mexico, Willis North America locally delivers our global and national resources and specialist expertise through this retail distribution network.
In addition to being organized geographically and by specialty, our North America business focuses on four client segments: global, large national/middle-market, small commercial, and private client, with service, marketing and sales platform support for each segment.
• Construction
The largest industry practice group in North America is Construction, which specializes in providing risk management, insurance brokerage, and surety bonding services to the construction industry. Willis Construction provided these services to around 25 percent of the Engineering News Record Top 400 contractors (a listing of the largest 400 North American contractors based on revenue). In addition, this practice group has expertise in owner-controlled insurance programs for large projects and insurance for national homebuilders.
• Employee Benefits
Willis Employee Benefits, fully integrated into the North America platform, is our largest product-based practice group and provides health, welfare and human resources consulting, and brokerage services to all of our commercial client segments. This practice group’s value lies in helping clients control employee benefit plan costs, reducing the amount of time human resources professionals spend administering their companies’ benefit plans and educating and training employees on benefit plan issues.
• Executive Risks
Another industry-leading North America practice group is Willis Executive Risks, a national team of technical professionals who specialize in meeting the directors and officers, employment practices, fiduciary liability insurance risk management, and claims advocacy needs of public and private corporations and organizations. This practice group also has expertise in professional liability, especially internet risks.
• CAPPPS
The Captive, Actuarial, Programs, Pooling, Personal Lines and Strategic Outcomes (CAPPPS) group has a network of actuaries, certified public accountants, financial analysts and pooled insurance program experts who assist clients in developing and implementing alternative risk management solutions. The program business is a leader in providing national insurance programs to niche industries including ski resorts, auto dealers, recycling, environmental, and specialty workers’ compensation. Through our Loan Protector business, a specialty business acquired as part of the HRH business, this group also works with financial institutions to confirm their loans are properly insured and their interests are adequately protected.
• Other industry practice groups
Other industry practice groups include Healthcare, serving the professional liability and other insurance and risk management needs of private and not-for-profit health systems, hospitals and physicians groups; Financial Institutions, serving the needs of large banks, insurers and other financial services firms; and Mergers & Acquisitions, providing due diligence, and risk management and insurance brokerage services to private equity and merchant banking firms and their portfolio companies.
International
Our International business comprises our operations in Eastern and Western Europe, the United Kingdom and Ireland, Asia-Pacific, Russia, the Middle East, South Africa and Latin America.
Our offices provide services to businesses locally in over 120 countries around the world, making use of skills, industry knowledge and expertise available elsewhere in the Group.
The services provided are focused according to the characteristics of each market and vary across offices, but generally include direct risk management and insurance brokerage, specialist and reinsurance brokerage and employee benefits consulting.
As part of our on-going strategy, we continue to look for opportunities to strengthen our International market share through acquisitions and strategic investments. A list of significant subsidiaries is included in Exhibit 21.1 to this document.
We have also invested in associate companies; our significant associates at December 31, 2011 were GS & Cie Groupe (‘Gras Savoye’), a French organization (30 percent holding) and Al-Futtaim Willis Co. LLC, organized under the laws of Dubai (49 percent holding). In connection with many of our investments we retain the right to increase our ownership over time, typically to a majority or 100 percent ownership position. In addition, in certain instances our co-shareholders have a right, typically based on some price formula of revenues or earnings, to put some or all of their shares to us. On December 17, 2009 as part of a reorganization of the share capital of Gras Savoye our interest in that company reduced from 48 percent to 31 percent. In 2011 our ownership reduced further to 30 percent following issuance of additional share capital as part of an employee share incentive scheme. In addition, we have the option to acquire a 100 percent interest in the capital of Gras Savoye in 2015. For further information on the Gras Savoye capital reorganization see ‘Item 8—Financial Statements and Supplementary Data — Note 14 — Investments in Associates’.
We believe the combined total revenues of our International subsidiaries and associates provide an indication of the spread and capability of our International network. The team generated over 30 percent of the Group’s total consolidated commissions and fees in 2011.
Customers
Our clients operate on a global and local scale in a multitude of businesses and industries throughout the world and generally range in size from major multinational corporations to middle-market companies. Further, many of our client relationships span decades, for instance our relationship with The Tokio Marine and Fire Insurance Company Limited dates back over 100 years. No one client accounted for more than 10 percent of revenues for fiscal year 2011. Additionally, we place insurance with approximately 5,000 insurance carriers, none of which individually accounted for more than 10 percent of the total premiums we placed on behalf of our clients in 2011.
Competition
We face competition in all fields in which we operate based on global capability, product breadth, innovation, quality of service and price. According to the Directory of Agents and Brokers published by Business Insurance in July 2011, the 140 largest commercial insurance brokers globally reported brokerage revenues totaling $42 billion in 2010, of which Marsh & McLennan Companies Inc. had approximately 25 percent, Aon Corporation had approximately 25 percent and Willis had approximately 8 percent.
We compete with Marsh & McLennan and Aon, the two other providers of global risk management services, as well as with numerous specialist, regional and local firms. Competition for business is intense in all of our business lines and in every insurance market, and the other two providers of global risk management services have substantially greater market share than we do. Competition on premium rates has also exacerbated the pressures caused by a continuing reduction in demand in some classes of business. For example, rather than purchase additional insurance through brokers, many insureds have been retaining a greater proportion of their risk portfolios than previously. Industrial and commercial companies increasingly rely upon their own subsidiary insurance companies, known as captive insurance companies, self-insurance pools, risk retention groups, mutual insurance companies and other mechanisms for funding their risks, rather than buy insurance. Additional competitive pressures arise from the entry of new market participants, such as banks, accounting firms and insurance carriers themselves, offering risk management or transfer services.
In 2005, we, along with Marsh & McLennan and Aon, agreed with New York State and other regulators through an Assurance of Discontinuance, to implement certain business reforms which included codification of our October 2004 voluntary termination of contingent commission arrangements with insurers. Most other special, regional, and local insurance brokers, however, continued to accept contingent compensation and did not disclose the compensation received in connection with providing policy placement services to its customers. In February 2010, we entered into an Amended and Restated Assurance of Discontinuance with the Attorney General of the State of New York and the Amended and Restated Stipulation with the Superintendent of Insurance of the State of New York which ended many of the requirements previously imposed upon us. The new agreement no longer limited the type of compensation we could receive and simplified our compensation disclosure requirements.
Following the introduction of health care reform legislation in 2010, some major health insurance carriers in North America began to change their compensation practices in particular lines of business in certain locations. In response to market pressures those changes caused, we announced in July 2011 that in order to remain competitive, we would begin accepting standard compensation based on volume, but would continue to resist traditional contingent commissions and bonus payments because, while legal, we believe these forms of compensation create conflicts with our clients. After several months of review under changing market conditions, we have concluded that we cannot be fully competitive on Employee Benefits business if we continue to refuse these legal forms of compensation. Consequently, we will begin to accept all forms of compensation from Employee Benefits providers effective April 1, 2012. While accepting contingent compensation is legal, and while we will only accept them in full compliance with all applicable laws and regulations and consistent with ethical business practices, in the past it has been the subject of regulatory action and civil litigation and we cannot predict whether our position will cause regulatory or other scrutiny.
We will continue to refuse to accept contingent commissions from carriers in the non-Employee Benefit areas of our retail brokerage business unless similar external factors such as legislative change make our position untenable. However, we do not believe such a change is likely. To our knowledge, we are the only insurance broker that takes this stance. We seek to increase revenue through higher commissions and fees that we disclose to our clients, and to generate profitable revenue growth by focusing on the provision of value-added risk advisory services beyond traditional brokerage activities. Although we continue to believe in the success of our strategy, we cannot be certain that such steps will help us to continue to generate profitable organic commissions and fees growth. If we are unable to compete effectively against our competitors who are accepting or may accept contingent commissions, we may suffer lower revenue, reduced operating margins, and loss of market share which could materially and adversely affect our business.
Regulation
Our business activities are subject to legal requirements and governmental and quasi-governmental regulatory supervision in virtually all countries in which we operate. Also, such regulations may require individual or company licensing to conduct our business activities. While these requirements may vary from location to location they are generally designed to protect our clients by establishing minimum standards of conduct and practice, particularly regarding the provision of advice and product information as well as financial criteria. Our three most significant regulatory regions are described below:
United States
Our activities in connection with insurance brokerage services within the United States are subject to regulation and supervision by state authorities. Although the scope of regulation and form of supervision may vary from jurisdiction to jurisdiction, insurance laws in the United States are often complex and generally grant broad discretion to supervisory authorities in adopting regulations and supervising regulated activities. That supervision generally includes the licensing of insurance brokers and agents and the regulation of the handling and investment of client funds held in a fiduciary capacity. Our continuing ability to provide insurance brokerage in the jurisdictions in which we currently operate is dependent upon our compliance with the rules and regulations promulgated from time to time by the regulatory authorities in each of these jurisdictions.
European Union
The European Union Insurance Mediation Directive introduced rules to enable insurance and reinsurance intermediaries to operate and provide services within each member state of the EU on a basis consistent with the EU single market and customer protection aims. Each EU member state in which we operate is required to ensure that the insurance and reinsurance intermediaries resident in their country are registered with a statutory body in that country and that each intermediary meets professional requirements in relation to their competence, good repute, professional indemnity cover and financial capacity.
United Kingdom
In the United Kingdom, the statutory body is the Financial Services Authority (‘FSA’). The FSA has prescribed the methods by which our insurance and reinsurance operations are to conduct business, and has a wide range of rule-making, investigatory and enforcement powers aimed at meeting its overall aim of promoting efficient, orderly and fair markets and helping retail consumers achieve a fair deal. The FSA conducts monitoring visits to assess our compliance with regulatory requirements.
Certain of our activities are governed by other regulatory bodies, such as investment and securities licensing authorities. In the United States, our Willis Capital Markets & Advisory business operates through our wholly-owned subsidiary Willis Securities, Inc., a US-registered broker-dealer and investment advisor, member FINRA/SIPC, primarily in connection with investment banking-related services and advising on alternative risk financing transactions. Willis Capital Markets provides advice on securities or investments in the EU through our wholly-owned subsidiary Willis Capital Markets & Advisory Limited, which is authorized and regulated by the FSA.
Our failure, or that of our employees, to satisfy the regulators that we comply with their requirements or the legal requirements governing our activities, can result in disciplinary action, fines, reputational damage and financial harm.
All companies carrying on similar activities in a given jurisdiction are subject to regulations which are not dissimilar to the requirements for our operations in the United States and United Kingdom. We do not consider that these regulatory requirements adversely affect our competitive position.
See Part I, Item 1A-Risk Factors ‘Legal and Regulatory Risks’ for discussion of how actions by regulatory authorities or changes in legislation and regulation in the jurisdictions in which we operate may have an adverse effect on our business.
Employees
As of December 31, 2011 we had approximately 17,000 employees worldwide of whom approximately 3,400 were employed in the United Kingdom and 6,200 in the United States, with the balance being employed across the rest of the world. In addition, our associates had approximately 3,300 employees, all of whom were located outside the United Kingdom and the United States.
CEO BACKGROUND
William W. Bradley — Senator William W. Bradley, age 68, joined the Board on September 18, 2002. He is a Managing Director of Allen & Company LLC, an investment bank. From 2001 – 2004 he acted as chief outside advisor to McKinsey & Company’s non-profit practice. Senator Bradley is also currently a director and member of the Governance Committee of Starbucks Corp. and QuinStreet, Inc. and was a director of Seagate Technology until August 2010. He was a Senior Advisor and Vice Chairman of the International Council of JP Morgan & Co., Inc. from 1997 – 1999. During that time, he also worked as an essayist for CBS evening news and as a visiting professor at Stanford University, Notre Dame University and the University of Maryland. Senator Bradley served in the U.S. Senate from 1979 – 1997 representing the state of New Jersey. In 2000, he was a candidate for the Democratic nomination for President of the United States. Prior to serving in the Senate, he was an Olympic gold medalist in 1964 and a professional basketball player with the New York Knicks from 1967 – 1977 during which time they won two NBA championships. Senator Bradley holds a BA degree in American History from Princeton University and an MA degree from Oxford University where he was a Rhodes Scholar. He has authored six books on American politics, culture and economy. Currently, Senator Bradley hosts American Voices , a weekly show on Sirius Satellite Radio that highlights the remarkable accomplishments of Americans both famous and unknown.
• Legal, Governmental, Political or Diplomatic Experience — Senator Bradley has extensive experience with U.S. government and regulatory affairs and public policy based on 18 years in the U.S. Senate, his 2000 candidacy for the Democratic nomination for President of the United States and his work in academia and media.
• Extensive Knowledge of the Company’s Business — Senator Bradley has been a director of the Company since 2002, has served on the Company’s Corporate Governance and Nominating Committee since 2003, and has served as the Company’s Presiding Independent Director since February 2011. His understanding of the Company, its business and goals as well as his political background, extensive experience as an advisor to numerous public, private and not-for-profit organizations, and his many years serving on corporate boards has enabled him to serve as a strong and effective leader and current Chairman of the Governance Committee. As Presiding Independent Director and Chairman of the Governance Committee, Senator Bradley also chairs and has chaired the executive sessions of the Board, which are held before or after each Board meeting without the presence of management (including Mr. Plumeri, Chairman and CEO).
• CEO/President Experience — Senator Bradley is a Managing Director of an investment bank.
• Committee Experience — As the current Chairman of the Governance Committee, Senator Bradley benefits from his directorship and membership on the Governance Committees of Starbucks Corp. and QuinStreet, Inc.
Joseph A. Califano, Jr. — Mr. Califano, age 80, joined the Board on April 21, 2004. He previously served as the Chairman of the Board of the National Center on Addiction and Substance Abuse at Columbia University (“ CASA â€) in New York City from 1992 to 2011. Mr. Califano has served as Adjunct Professor of Public Health at Columbia University’s Medical School and School of Public Health and is a member of the Institute of Medicine of the National Academy of Sciences. Mr. Califano was a senior partner of the Washington, D.C. office of the law firm Dewey Ballantine from 1983 to 1992. Mr. Califano served as the United States Secretary of Health, Education, and Welfare from 1977 to 1979, and as President Lyndon B. Johnson’s Assistant for Domestic Affairs from 1965 to 1969. He is the author of 12 books and is a director and member of the Audit Committee and the Nominating and Corporate Governance Committee of CBS, Inc. He also formerly served as a director of Chrysler, Automatic Data Processing, Midway Games, Inc. and Viacom.
• Legal, Governmental, Political or Diplomatic Expertise — Mr. Califano’s deep understanding of government and legal affairs was gained through his service as the United States Secretary of Health, Education and Welfare, President Lyndon B. Johnson’s Assistant for Domestic Affairs, General Counsel of the Army and Special Assistant to the Secretary and Deputy Secretary of Defense and through his nine-year tenure as a partner at one of the country’s leading law firms.
• Extensive Knowledge of the Company’s Business — Mr. Califano’s service as a director of the Company for almost eight years, service as a current member of the Company’s Governance Committee and a former member of the Company’s Compensation Committee has provided him with an in-depth knowledge of the Company’s structure and operations.
• CEO/President Experience — Mr. Califano previously served as the Chairman of the Board of CASA, a nationwide and non-profit organization organized to study and combat substance abuse, which he founded in 1992.
• Committee Experience — As a current member of the Governance Committee, Mr. Califano benefits from his directorship and membership on the Nominating and Corporate Governance Committee and Audit Committee of CBS, Inc.
Anna C. Catalano — Ms. Catalano, age 52, joined the Board on July 21, 2006. She was Group Vice President, Marketing for BP plc from 2001 to 2003. Prior to that she held various executive positions in BP and Amoco, including Group Vice President, Emerging Markets at BP; Senior Vice President, Sales and Operations at Amoco; and President of Amoco Orient Oil Company. She was recognized by Fortune Magazine in 2001 as being among “The Most Powerful Women in International Business.†She currently serves on the Boards, Compensation Committees and Governance Committees of Mead Johnson Nutrition and U.S. Dataworks and the Compensation Committees of Chemtura Corporation and Kraton Performance Polymers. She serves on the Executive Committees of the Houston Chapter of the Alzheimer’s Association and the Juvenile Diabetes Research Foundation. Ms. Catalano formerly served on the boards of SSL International plc, Hercules Incorporated and Aviva plc and as an advisory board member of BT Global Services. Ms. Catalano holds a BS degree in Business Administration from the University of Illinois, Champaign-Urbana.
• International Business and Board Experience — Ms. Catalano has significant executive experience in international business operations through her roles as: Group Vice President, Marketing at BP plc; Group Vice President, Emerging Markets at BP; Senior Vice President, Sales and Operations at Amoco; and President of Amoco Orient Oil Company. In 2001, Ms. Catalano was recognized by Fortune Magazine as being among the “Most Powerful Women in International Business.†She also benefits from her former service on the international company boards of SSL International plc and Aviva plc.
• Marketing Experience — Ms. Catalano focused on marketing in her role as Group Vice President, Marketing at BP plc. She is also a frequent speaker on strategic and global branding.
• Committee Experience — As a current member of the Governance Committee, Ms. Catalano benefits from her directorship and membership on the Governance Committees of Mead Johnson Nutrition and U.S. Dataworks Inc.
Sir Roy Gardner — Sir Roy Gardner, age 66, joined the Board on April 26, 2006. He is a Chartered Certified Accountant and Chairman of Compass Group PLC, a food and support services company. He also serves as Chairman of the Nominating Committee of Compass Group PLC. He is a Senior Advisor to Credit Suisse and also a Director and Chairman of the Nominating Committee of Mainstream Renewable Power Limited, Chairman of the Advisory Board of the Energy Futures Lab of Imperial College London, President of Carers UK, Chairman of the Apprenticeship Ambassadors Network and Chairman and member of several board committees of Enserve Group Ltd. Sir Roy resigned as Chairman of Plymouth Argyle Football Club in December 2010. In addition, he was Chairman of Connaught plc between May and September 2010. He previously held positions as a former Chief Executive of Centrica plc, Chairman of Manchester United plc, Finance Director of British Gas plc, Managing Director of GEC-Marconi Ltd, Director of GEC plc and Director of Laporte plc.
• International Business and Board Experience — The United Kingdom is an important market for the Company. Sir Roy Gardner is a well-respected British businessman who began his career in 1963 and has held leadership positions at or held director positions on the boards of a number of UK and other European companies.
• CEO/President Experience — Sir Roy Gardner’s senior leadership roles include his position as former Chief Executive of Centrica plc for 9½ years. Centrica plc is a large multinational utility company, based in the United Kingdom but also having interests in North America. It is listed on the London Stock Exchange and is a constituent of the FTSE 100 Index.
• Extensive Knowledge of the Company’s Business — Sir Roy Gardner’s almost six years of experience on the Board, his financial background as a UK-Chartered Certified Accountant and his recent former service as the Chairman of the Company’s Compensation Committee provides him with an extensive knowledge of the Company’s business and allows him to serve as an effective Chairman of the Company’s Risk Committee.
The Rt. Hon. Sir Jeremy Hanley, KCMG — Sir Jeremy Hanley, age 66, joined the Board on April 26, 2006. He is a Chartered Accountant and a director of Willis Limited, a subsidiary of the Company, and a director and member of the Audit and Remuneration Committees of Langbar International Limited and of London Asia Capital plc. He also serves on the International Advisory Committee for Lottomatica S.p.A. Sir Jeremy was a Member of Parliament for Richmond and Barnes from 1983 to 1997 and held a number of ministerial position in the U.K. government, including Under Secretary of State for Northern Ireland, Minister of State for the Armed Forces, Cabinet Minister without Portfolio at the same time as being Chairman of the Conservative Party and Minister of State for Foreign & Commonwealth Affairs. He retired from politics in 1998. He also served on the Boards of Lottomatica S.p.A., Onslow Suffolk Limited, Mountfield Group Limited, Nymex London Limited and ITE Group plc. and the Audit Committee of the Joint Arab British Chamber of Commerce.
• Legal, Governmental, Political or Diplomatic Expertise — Sir Jeremy Hanley has a deep understanding of U.K. governmental and regulatory affairs and public policy based on his 14 years as a member of Parliament and significant ministerial positions in the UK government. Sir Jeremy Hanley’s background is important for his role as a director of Willis Limited, a subsidiary of the Company regulated by the Financial Services Authority, the regulator of the financial services industry in the UK.
• Financial Background — Sir Jeremy Hanley, a member of the Company’s Audit Committee, is a UK-Chartered accountant which qualifies him as an audit committee financial expert.
• International Board and Committee Experience — Sir Jeremy Hanley benefits from his service on numerous international boards, including his former service on the Board and Audit Committee of Lottomatica S.P.A., an Italian company.
Robyn S. Kravit — Ms. Kravit, age 60, joined the Board on April 23, 2008. She is an international business executive with almost 30 years of experience in establishing and directing significant China-based operations engaged in the international trading of industrial raw materials. Ms. Kravit co-founded Tethys Research LLC, a biotechnology company, and has acted as its Chief Executive Officer since 2000. From 2001 through 2010, Ms. Kravit was a Director of FONZ, the organization which manages commercial and educational activities for Smithsonian’s National Zoological Park, serving two terms as President and later chairing its Audit Committee. On January 1, 2012, she was appointed to a two-year term on the Standing Advisory Group of the Public Company Accounting Oversight Board (PCAOB), a nonprofit corporation established by Congress to oversee the audits of public companies. She currently serves on the Advisory Council of Johns Hopkins University’s Whiting School of Engineering and the Board of Governors of the Washington Foreign Law Society. She previously served on the Board of InovaChem Inc. Ms. Kravit holds a BA in East Asian Studies from Vassar College, and a MA in East Asian Studies from Harvard University.
• International Experience — China is an emerging market for the Company and Ms. Kravit’s almost 30 years of experience in international business, focusing on the Far East markets, provides the Company with an extensive knowledge base. She is fluent in Mandarin Chinese. She has established and directed significant China-based operations engaged in the international trading of industrial raw materials and has experience in devising marketing plans that adapt to evolving political and economic environments. She also has extensive experience in the management of foreign trade transactions and international risk management.
• CEO/President Experience — Ms. Kravit founded and since 2000 has been the Chief Executive Officer of Tethys Research LLC, a biotechnology company, and is responsible for contract, administrative and financial operations. Prior to Tethys, as Managing Director for Asian operations, Ms. Kravit functioned as CEO of a major business unit within a complex multinational corporation.
• Financial Background — Ms. Kravit is a member of the Company’s Audit Committee and was recently appointed to a two-year term on the Standing Advisory Group of the PCAOB. The Standing Advisory Group advises the PCAOB on issues relating to the development of auditing standards.
Jeffrey B. Lane — Mr. Lane, age 69, joined the Board on April 30, 2008. He is the current Chairman of the Board of CASA. He served as Chief Executive Officer of Modern Bank, a private bank, from July 1, 2008 to October 31, 2010. Prior to joining Modern Bank, he was Chairman and Chief Executive Officer of Bear Stearns Asset Management and before that, Vice Chairman of Lehman Brothers, Co-Chairman of Lehman Brothers Asset Management and Alternatives Division, and Chairman of Neuberger Berman Inc. He has also held senior management positions with Travelers Group, including Vice Chairman of that company’s Smith Barney division, and with Shearson Lehman Brothers.
• CEO/President Experience — Mr. Lane has held key senior management positions with major U.S. asset management and investment businesses, including as Chairman and CEO of Bear Stearns Asset Management, Vice Chairman of Lehman Brothers, Co-Chairman of Lehman Brothers Asset Management and Alternatives Division and Chairman of Neuberger Berman Inc. as well as his role as Chief Executive Officer of Modern Bank.
• Financial Background — Mr. Lane has an extraordinary financial background as a result of his MBA from Columbia University and the knowledge he gained through his financial sector business and operational experience since 1969.
Wendy Lane — Ms. Lane, age 60, joined the Board on April 21, 2004. She has been Chairman of Lane Holdings, Inc., an investment firm, since 1992. Prior to forming Lane Holdings, Inc., Ms. Lane was a Principal and Managing Director of Donaldson, Lufkin and Jenrette Securities Corporation, an investment banking firm, serving in these and other positions from 1981 to 1992. Ms. Lane is also a director, Nominating and Corporate Governance and Audit Committee member of Laboratory Corporation of America, and a director and Audit Committee member of UPM-Kymmene Corporation. She is also a Trustee of the U.S. Ski and Snowboard Team Foundation. Ms. Lane holds a BA from Wellesley College and a MBA from Harvard Business School.
• Financial Background — Ms. Lane has 15 years of experience in investment banking, including financings, mergers and acquisitions and advisory projects. Prior to forming her own investment firm in 1992, Ms. Lane was a Principal and Managing Director of Donaldson, Lufkin and Jenrette Securities Corporation, an investment banking firm, serving in these and other positions from 1981 to 1992. From 1977 – 1980, she was an investment banker at Goldman Sachs. Ms. Lane’s financial background qualifies her as an audit committee financial expert.
• Extensive Knowledge of the Company’s Business — Ms. Lane’s service as a director of the Company for almost eight years, financial expertise, current dual service as the Chairman of the Company’s Compensation Committee and member of the Audit Committee and former service as a member of the Company’s Nominating and Corporate Governance Committee have provided Ms. Lane with an invaluable knowledge base of the Company and a deep understanding of the interrelationships of issues and decisions between the Committees.
• International Board Experience — Ms. Lane has served for six years on the board of UPM-Kymmene Corporation, a Helsinki headquartered company with worldwide operations and revenues exceeding $11.5 billion.
• Committee Experience — As well as serving on almost all of Willis’ Committees, Ms. Lane has chaired the Compensation Committee of Laboratory Corporation of America, serves on the Audit Committees at Laboratory Corporation of America and UPM-Kymmene Corporation, serves on the Nominating and Governance Committee of Laboratory Corporation of America and has extensive committee experience on all of her current and past boards .
James F. McCann — Mr. McCann, age 60, joined the Board on April 21, 2004. Mr. McCann has served since 1976 as Chairman and Chief Executive Officer of 1-800-FLOWERS.COM, Inc., a florist and gift shop company. He also serves as a director for Dearborn National and JPMorgan Chase Regional Advisory Board. He previously served as a director and Compensation Committee member of Lottomatica S.p.A. and a director of Gateway, Inc. and The Boyds Collection, Ltd.
• CEO/President Experience — Mr. McCann has substantial management, strategic and operational experience as Chairman and CEO of 1-800-FLOWERS.COM, Inc. The knowledge and experience he has gained through his leadership of a consumer-product and service-based public company for over 30 years continues to benefit the Company both in his role as a director and member of the Compensation Committee.
• Extensive Knowledge of the Company’s Business — Mr. McCann’s service as a director of the Company for almost eight years, service as a current member of the Company’s Compensation Committee and former member of the Company’s Nominating and Corporate Governance Committee has provided him with an in-depth knowledge of the Company’s business and structure.
• International Board and Committee Experience — Mr. McCann, as a current member of the Compensation Committee, has benefited from his service as a former director and member of the Compensation Committee of Lottomatica S.p.A., an Italian headquartered company.
Joseph J. Plumeri — Mr. Plumeri, age 68, joined the Board on February 8, 2001. He is our Chairman and Chief Executive Officer. Prior to joining the Willis Group, Mr. Plumeri spent 32 years as an executive with Citigroup Inc. and its predecessors, where his responsibilities included overseeing the 450 North American retail branches of Citigroup’s Citibank unit. Before that, Mr. Plumeri served as Chairman and Chief Executive Officer of Citigroup’s Primerica Financial Services from 1995 to 1999. In 1994, Mr. Plumeri was appointed Vice Chairman of Citigroup’s predecessor, Travelers Group Inc. In 1993, Mr. Plumeri became the President of a predecessor of Citigroup’s Salomon Smith Barney unit after overseeing the merger of Smith Barney and Shearson and serving as the President and Managing Partner of Shearson since 1990. He is also a board member of a number of organizations, including The National Center on Addiction and Substance Abuse at Columbia University, and formerly served as a director of Commerce Bancorp Inc. and The Board of Visitors of the College of William & Mary and a Trustee for the Granum Value Fund.
• Extensive Knowledge of the Company’s Business — Mr. Plumeri has been the Company’s Chairman and CEO since 2001. Since joining the Company, he has navigated a number of challenges, including the soft insurance market, the current global economic downturn and an industry-wide investigation by former Attorney General Eliot Spitzer regarding the placement of insurance.
• CEO/President Experience — Prior to joining the Company in 2001, Mr. Plumeri had over 30 years of experience in the financial services industry where his responsibilities included, among other things, overseeing the 450 North American retail branches of Citigroup’s Citibank unit and serving as Chairman and CEO of Citigroup’s Primerica Financial Services.
• Financial Background — Mr. Plumeri’s over 30 years of experience in the financial services industry has provided a financial background necessary for him to serve as an effective public-company CEO.
Douglas B. Roberts — Mr. Roberts, age 64, joined the Board on February 13, 2003. He is the former Treasurer for the State of Michigan, a position held from April 2001 to December 2002 and from January 1991 to November 1998. From January 1999 to March 2001 he was Vice President of Business Development and Best Practices at Lockheed Martin IMS. Prior to January 1991, Mr. Roberts worked in the Michigan Senate as Director, Senate Fiscal Agency from April 1988 to December 1990 and as Deputy Superintendent of Public Instruction for the Department of Education. Mr. Roberts holds a doctorate in Economics from Michigan State University. Currently, Mr. Roberts is both a Professor and the Director for the Institute for Public Policy and Social Research at Michigan State University.
• Legal, Governmental, Political or Diplomatic Experience — Mr. Roberts has a deep understanding of public finance and other public policy matters from his 28-year tenure in state government, including his years as a Michigan state treasurer and his current academic position. As Michigan state treasurer, he oversaw the state’s revenue and cash positions during a period of rebirth in Michigan’s finances and economy which included five ratings upgrades. In addition, the state Treasurer is the sole fiduciary of the state’s pension systems valued at approximately $50 billion.
• Financial Background and Extensive Knowledge of the Company’s Business — Mr. Roberts’ business experience and education also qualify him as an audit committee financial expert and have positioned him well to serve as a Company’s director for nine years and as the Chairman of our Audit Committee since 2004.
Dr. Michael J. Somers — Dr. Somers, age 69, joined the Board on April 21, 2010. He was Chief Executive Officer of the Irish National Treasury Management Agency from 1990, when it was established, until the end of 2009. The Agency, which is a commercial entity outside the civil service, was initially set up to arrange Ireland’s borrowing and manage its national debt. Its remit was extended to establish and manage the National Pensions Reserve Fund, of which Dr. Somers was a Commissioner, and the National Development Agency, of which he was Chairman. It also incorporated the State Claims Agency, which handles claims against the State and against hospitals and other medical institutions. Dr. Somers previously worked in the Irish Department of Finance and the Central Bank and served as Secretary General of the Department of Defense from 1985 to 1987. He was the Irish member of the EU Monetary Committee from 1987 to 1990 and chaired the EU group that established the European Bank for Reconstruction and Development. He served on the board of the Irish Stock Exchange until the end of 2009. He is currently the Irish Director on the Board of the European Investment Bank and also serves on the Boards of Allied Irish Banks plc, St. Vincent’s Healthcare Group Ltd., the Institute of Directors, Hewlett Packard International Bank plc, Fexco Holdings Ltd., and has been nominated as a director of Goodbody Stockbrokers, a subsidiary of Fexco. He also serves on the Audit Committees of the Hewlett Packard International Bank plc and St. Vincent’s Healthcare Group and the Risk Committee of the AIB Bank. He was awarded the honor of Chevalier of the Légion d’Honneur by the President of France. He previously served as a Council Member of the Dublin Chamber of Commerce and Ulysses Securitization plc, a government established special purpose entity whose purpose has expired and assets have been liquidated. He holds various degrees, including a masters degree in economic science and a doctorate from University College Dublin. He is President of the Ireland Chapter of the Ireland-U.S. Council.
• Financial Background — Dr. Somers has an extensive finance background as a result of his experience relating to Ireland’s borrowing and managing its national debt as well as his experience as the Irish member of the EU Monetary Committee.
• International Business and Board Experience — Dr. Somers has extensive knowledge and experience in serving the Irish and European financial, business and governmental communities, including through his service on a number of Irish Boards. The Irish market is important to the Group which completed its redomicile to Ireland, in part, to facilitate business expansion. Dr. Somers also benefits from his experience on the Audit Committee and Risk Committee of various entities.
MANAGEMENT DISCUSSION FROM LATEST 10K
EXECUTIVE SUMMARY
Business Overview
We provide a broad range of insurance broking, risk management and consulting services to our clients worldwide and organize our business into three segments: Global, North America and International.
Our Global business provides specialist brokerage and consulting services to clients worldwide arising from specific industries and activities including Aerospace; Energy; Marine; Construction; Financial and Executive Risks; Fine Art, Jewelry and Specie; Special Contingency Risks; and Reinsurance.
North America and International comprise our retail operations and provide services to small, medium and large corporations and the employee benefits practice, our largest product-based practice group, provides health, welfare and human resources consulting and brokerage services.
In our capacity as advisor and insurance broker, we act as an intermediary between our clients and insurance carriers by advising our clients on their risk management requirements, helping clients determine the best means of managing risk, and negotiating and placing insurance with insurance carriers through our global distribution network.
We derive most of our revenues from commissions and fees for brokerage and consulting services and do not determine the insurance premiums on which our commissions are generally based. Commission levels generally follow the same trend as premium levels as they are derived from a percentage of the premiums paid by the insureds. Fluctuations in these premiums charged by the insurance carriers can therefore have a direct and potentially material impact on our results of operations.
Due to the cyclical nature of the insurance market and the impact of other market conditions on insurance premiums, commission revenues may vary widely between accounting periods. A period of low or declining premium rates, generally known as a ‘soft’ or ‘softening’ market, generally leads to downward pressure on commission revenues and can have a material adverse impact on our commission revenues and operating margin. A ‘hard’ or ‘firming’ market, during which premium rates rise, generally has a favorable impact on our commission revenues and operating margin.
Market Conditions
The years 2005 through 2010 were almost universally viewed as soft market years across most of our product offerings and our commission revenues and operating margins throughout that period were negatively impacted, although in 2009 the market experienced modest stabilization in the reinsurance market and certain specialty markets.
Our North America and UK and Irish retail operations were particularly impacted by the weakened economic climate and continued soft market throughout 2009 and 2010 with no material improvement in rates across most sectors in these geographic regions. This resulted in declines in revenues in these operations, particularly amongst our smaller clients who have been especially vulnerable to the economic downturn.
In 2011, we saw some modest increases in catastrophe-exposed property insurance and reinsurance pricing levels driven by significant 2011 catastrophe losses including the Japanese earthquake and tsunami, the New Zealand earthquake, the mid-west US tornadoes and Thailand floods. However, in general, we continued to be negatively impacted by the soft insurance market and challenging economic conditions across other sectors and most geographic regions.
We believe that, in the absence of a significant catastrophe loss or capital impairment in the industry, a universal turn in market rates is not likely to occur. However, more recently we have not seen the same reduction in rates globally that were faced in early 2011 and during 2010 and 2009. There have been recent signs that the unprofitability of certain business lines such as property catastrophe and workers compensation is slowly firming rates in those lines. Additionally, there has been some evidence of firming or hardening in certain sectors of the reinsurance market in early 2012.
Financial Performance
General
This discussion includes references to non-GAAP financial measures as defined in Regulation G of the rules of the Securities and Exchange Commission (‘SEC’). We present such non-GAAP financial measures, specifically, organic growth in commissions and fees, adjusted operating margin, adjusted operating income, adjusted net income from continuing operations and adjusted earnings per diluted share from continuing operations, as we believe such information is of interest to the investment community because it provides additional meaningful methods of evaluating certain aspects of the Company’s operating performance from period to period on a basis that may not be otherwise apparent on a GAAP basis. Organic growth in commissions and fees excludes the impact of acquisitions and disposals, year over year movements in foreign exchange, legacy contingent commissions assumed as part of the HRH acquisition, and investment and other income from growth in revenues and commissions and fees. Adjusted operating margin, adjusted net income from continuing operations and adjusted earnings per diluted share from continuing operations are calculated by excluding the impact of certain specified items from net income from continuing operations, the most directly comparable GAAP measure. These financial measures should be viewed in addition to, not in lieu of, the consolidated financial statements for the year ended December 31, 2011.
Consolidated Financial Performance
2011 compared to 2010
Despite difficult market conditions, total revenues in 2011 of $3,447 million increased by $115 million, or 3%, compared to 2010. This included organic growth in commissions and fees of 2% driven by our International and Global operations. Our North America operations reported a revenue decline of 4%, including a 4% decline in organic commissions and fees reflecting lower revenues generated by Loan Protector, a specialty business acquired as part of the HRH business, and the continued adverse impact of difficult economic conditions in the US.
Total expenses in 2011 of $2,881 million increased $302 million compared to 2010, primarily due to incremental expense relating to the 2011 Operational Review (discussed later in this section), a $22 million write-off of an uncollectible accounts receivable balance relating to periods prior to January 1, 2011, also discussed later in this section, continued investment to support future growth, increased incentives amortization relating to our cash retention awards, reinstatement of salary reviews for all associates in March 2011 and 401(k) matching contributions for our US associates from January 2011, unfavorable foreign currency translation and an $11 million UK FSA regulatory settlement. These increases were partially offset by cost savings arising from implementation of the 2011 Operational Review, reduced pension expense of $24 million and the year-on-year $8 million benefit from the release of funds and reserves related to potential legal liabilities.
Net income attributable to Willis shareholders from continuing operations was $203 million or $1.15 per diluted share in 2011 compared to $455 million or $2.66 per diluted share in 2010. The $252 million reduction in net income compared to 2010 primarily reflects the increase in total expenses described above and the $131 million post-tax cost relating to the make-whole amounts on the repurchase and redemption of $500 million of our senior debt and the write-off of related unamortized debt issuance costs, partly offset by revenue growth achieved during the year. Net income was also adversely impacted by an $11 million reduction in interest in earnings of associates, net of tax, mainly due to declining performance in our principal associate, Gras Savoye.
2010 compared to 2009
Total revenues in 2010 of $3,332 million increased by $79 million, or 2%, compared to 2009, reflecting organic growth in commissions and fees of 4% being partly offset by a 1% adverse impact from foreign currency translation and decreased investment and other income. Total expenses in 2010 of $2,579 million, were $16 million higher compared to 2009. Salaries and benefits expense increased by $46 million, primarily due to a $60 million increase in incentive expense, partly offset by reduced severance costs and favorable foreign currency translation. Other operating expenses declined by $26 million, driven by reduced losses on our forward hedging program and a reduction in the amortization of intangible assets of $18 million due to a lower amortization charge for HRH-related intangibles.
Net income attributable to Willis shareholders from continuing operations was $455 million or $2.66 per diluted share in 2010 compared to $434 million or $2.57 per diluted share in 2009. The $21 million increase in net income compared to 2009 primarily reflects the revenue growth described above, partly offset by the $16 million increase in total expenses, an increase in the effective tax rate from 18% in 2009 to 24% in 2010 and a $10 million reduction in interest in earnings of associates, net of tax following the December 2009 reduction from 49% to 31% in our ownership interest in Gras Savoye.
Adjusted Operating Income, Adjusted Net Income from Continuing Operations and Adjusted Earnings per Diluted Share from Continuing Operations
Adjusted operating income, adjusted net income from continuing operations and adjusted earnings per diluted share from continuing operations are calculated by excluding the impact of certain items from operating income and net income from continuing operations respectively, the most directly comparable GAAP measures. We believe that excluding these items, as applicable, from operating income and net income from continuing operations provides a more complete and consistent comparative analysis of our results of operations. We use these and other measures to establish Group performance targets and evaluate the performance of our operations. The Company also uses both adjusted earnings per diluted share from continuing operations and adjusted operating margin measures to form the basis of establishing and assessing components of compensation. As set out in the tables below, adjusted operating margin at 22.5% in 2011, was down 50 basis points compared to 2010, while adjusted net income from continuing operations at $482 million was $12 million higher than in 2010 and adjusted earnings per diluted share from continuing operations was $2.74 in 2011, compared to $2.75 in 2010.
The full year cost of the 2011 Operational Review at $180 million represents an increase of $20 million from our third quarter 2011 estimate. This is the result of the identification of additional opportunities to achieve efficiencies.
In 2011 we realized total cost savings attributable to the 2011 Operational Review of approximately $80 million. We now expect to achieve annualized savings of approximately $135 million beginning in 2012, an increase from our previous estimate of $115 million to $125 million, and represents incremental savings in 2012 compared to 2011 of approximately $55 million.
The statements under ‘2011 Operational Review’ constitute forward-looking statements. Please see ‘Forward-Looking Statements’ for certain cautionary information regarding forward-looking statements and a list of factors that could cause actual results to differ materially from those predicted in the forward-looking statements.
Make-whole on repurchase and redemption of senior notes and write-off of unamortized debt issuance costs
We issued $800 million of new debt in March 2011, comprised of $300 million 4.125% senior notes due 2016 and $500 million 5.750% senior notes due 2021. Net proceeds of approximately $787 million were used in part to repurchase and redeem $500 million 12.875% senior notes due 2016 and make related make-whole payments totaling $158 million. In addition to the make-whole payment we also wrote off unamortized debt issuance costs of $13 million.
Correction of commissions and fees overstatement relating to 2011 and prior periods
In the first quarter of 2012, we identified through our internal financial control process an uncollectible accounts receivable balance of approximately $28 million in a stand-alone business unit that appears to be due to fraudulent overstatements of Commissions and Fees from the years 2005 to 2011. This matter was brought to management’s attention after we had announced our fourth quarter and annual earnings on February 14, 2012.
The Company is conducting an internal investigation into this matter with the assistance of our professional advisors. Based on the results of the investigation to date, we believe that the overstatements resulted from the conduct of a few associates within or dealing with our Employee Benefits group who colluded to misapply certain current cash receipts to older outstanding accounts receivable balances. We have concluded that the overstatements we uncovered did not materially affect our previously-issued financial statements for any of the prior periods.
For the year ended December 31, 2011, we have corrected the misstatement of Commissions and Fees from prior periods by recognizing a $22 million charge to Other Operating Expenses to write off the uncollectible receivable at January 1, 2011, and by reversing the $6 million balance of Commissions and Fees which had been recorded during 2011. We have also reversed $2 million of Salaries and Benefits representing an over-accrual of production bonuses relating to the overstated revenue. As a result of correcting these misstatements, our financial statements for 2011 differ in certain immaterial respects, including a net $0.01 reduction in adjusted earnings per diluted share, from the unaudited financial statements included in our press release issued on February 14, 2012.
The associates in question, who have been placed on administrative leave pending completion of the investigation, have not been members of Willis executive management or played a significant role in internal control over financial reporting. Based on the results of our investigation to date, we do not believe that any client or carrier funds were misappropriated or that any other business units were affected.
We have taken steps to enhance our internal controls in relation to the business unit in question, including enhanced procedures over handling of cash receipts, increased segregation of duties between the operating unit and the accounting and settlement function, and additional central sign off on revenue recognition.
Cash retention awards
We started making cash retention awards in 2005 to a small number of employees. With the success of the program, we expanded it over time to include more staff and we believe it is a contributing factor to the reduction in employee turnover we have seen in recent years.
Salaries and benefits do not reflect the unamortized portion of annual cash retention awards made to employees. Employees must repay a proportionate amount of these cash retention awards if they voluntarily leave our employ (other than in the event of retirement or permanent disability) within a certain time period, currently three years. We make cash payments to our employees in the year we grant these retention awards and recognize these payments ratably over the period they are subject to repayment, beginning in the quarter in which the award is made.
During 2011, we made $210 million of cash retention award payments compared with $196 million in 2010 and $148 million in 2009. Salaries and benefits in 2011 include $185 million of amortization of cash retention award payments made on or before December 31, 2011, compared with $119 million in 2010 and $88 million in 2009. As of December 31, 2011, December 31, 2010 and December 31, 2009, we included $196 million, $173 million and $98 million, respectively, within other current assets and other non-current assets on the balance sheet, which represented the unamortized portion of cash retention award payments made on or before those dates.
Pension Expense
We recorded a net pension charge on our UK and US defined benefit pension plans in 2011 of $6 million, and $nil respectively, compared with $28 million and $1 million respectively in 2010 and $25 million and $7 million respectively in 2009. On our international defined benefit pension plans, we recorded a net pension charge of $5 million in 2011, compared with $6 million in 2010 and $10 million in 2009.
The UK plan charge was $22 million lower compared to 2010 as the benefits of higher asset returns, lower amortization of prior period losses and a lower service cost reflecting certain changes to plan benefits were partly offset by an increased interest cost. The UK pension charge was $3 million higher in 2010 compared to 2009 as the benefit from higher asset returns was more than offset by a higher service cost, higher amortization of prior period losses and higher interest cost.
The US pension charge was $1 million lower in 2011 compared with 2010 reflecting an increased asset return from a higher asset base partly offset by a reduction in amortization of prior period losses. The US pension charge was $6 million lower in 2010 compared to 2009 reflecting an increased asset return, a reduction in the amortization of prior period losses and the first full year’s benefit from closing the scheme to future accrual in May 2009, partly offset by the non-recurrence of a $12 million curtailment gain in 2009.
See ‘Contractual Obligations’ below for further information on our obligations relating to our pension plans.
Acquisitions and Disposals
During first quarter 2011, we acquired a 23% interest in a South African brokerage at a total cost of $2 million. During third quarter 2011, we acquired a 100% interest in a Polish brokerage, Brokerskie Centrum Ubezpieczeniowe, at a total cost of $2 million. In the fourth quarter 2011, we acquired 100% of Broking Italia, a Rome-based employee benefits broker at a total cost of $12 million.
During 2010, we acquired an additional 39% of our Chinese operations at a total cost of approximately $17 million, bringing our ownership to 90% and an additional 15% of our Colombian operations at a total cost of approximately $7 million, bringing our ownership to 80% at December 31, 2010.
On December 31, 2011, we disposed of Global Special Risks, LLC, Faber & Dumas Canada Ltd and the trade and assets of Maclean, Oddy & Associates, Inc. We have recorded within Discontinued Operations, net income of $1 million in 2011 associated with these entities, comprising a net loss for the year of $1 million offset by the benefit of a $2 million net gain on disposal.
MANAGEMENT DISCUSSION FOR LATEST QUARTER
EXECUTIVE SUMMARY
Business Overview
We provide a broad range of insurance broking, risk management and consulting services to our clients worldwide and organize our business into three segments: Global, North America and International.
Our Global business provides specialist brokerage and consulting services to clients worldwide arising from specific industries and activities including Aerospace; Energy; Marine; Construction; Financial and Executive Risks; Fine Art, Jewelry and Specie; Special Contingency Risks; and Reinsurance.
North America and International comprise our retail operations and provide services to small, medium and large corporations and the employee benefits practice, our largest product-based practice group, provides health, welfare and human resources consulting and brokerage services.
In our capacity as advisor and insurance broker, we act as an intermediary between our clients and insurance carriers by advising our clients on their risk management requirements, helping clients determine the best means of managing risk, and negotiating and placing insurance with insurance carriers through our global distribution network.
We derive most of our revenues from commissions and fees for brokerage and consulting services and do not determine the insurance premiums on which our commissions are generally based. Commission levels generally follow the same trend as premium levels as they are derived from a percentage of the premiums paid by the insureds. Fluctuations in premiums charged by the insurance carriers can therefore have a direct and potentially material impact on our results of operations.
Due to the cyclical nature of the insurance market and the impact of other market conditions on insurance premiums, commission revenues may vary widely between accounting periods. A period of low or declining premium rates, generally known as a ‘soft’ or ‘softening’ market, generally leads to downward pressure on commission revenues and can have a material adverse impact on our commission revenues and operating margin. A ‘hard’ or ‘firming’ market, during which premium rates rise, generally has a favorable impact on our commission revenues and operating margin.
Market Conditions
The years 2005 through 2010 were generally viewed as soft market years across most of our product offerings and our commission revenues and operating margins throughout that period were negatively impacted, although in 2009 the market experienced modest stabilization in the reinsurance market and certain specialty markets.
Our North America and UK and Irish retail operations were particularly impacted by the weakened economic climate and continued soft market throughout 2009 and 2010 with no material improvement in rates across most sectors in these geographic regions. This resulted in declines in revenues in these operations, particularly amongst our smaller clients who have been especially vulnerable to the economic downturn.
In 2011, we saw some modest increases in catastrophe-exposed property insurance and reinsurance pricing levels driven by significant 2011 catastrophe losses including the Japanese earthquake and tsunami, the New Zealand earthquake, the mid-west US tornadoes and Thailand floods. However, in general, we continued to be negatively impacted by the soft insurance market and challenging economic conditions across other sectors and most geographic regions.
Thus far in 2012, the trend in rates noted in 2011 in catastrophe-exposed regions continues as insurance and reinsurance rates in such regions have firmed or hardened.
There have been recent signs that the unprofitability of certain business lines such as property catastrophe and workers compensation is slowly firming rates in those lines. However, we believe that, in the absence of a significant catastrophe loss or capital impairment in the industry, a universal turn in market rates is not likely to occur.
Financial Performance
Consolidated Financial Performance
Results from operations: first quarter 2012
Total revenues of $1,013 million for first quarter 2012 were $6 million, or 1 percent, higher than in first quarter 2011. Total commissions and fees for first quarter 2012 were $1,005 million, up from $999 million in the prior year quarter, foreign currency movements negatively impacted commissions and fees by 1 percent and organic growth was 2 percent.
Our organic growth in commissions and fees was driven by our International (4 percent) and Global (5 percent) operations whilst our North America operations reported a 2 percent decline compared to first quarter 2011. This result was negatively impacted by the performance of Loan Protector. Loan Protector is a specialty business acquired as part of HRH in 2008 which provides lender placed insurance and insurance tracking services to the mortgage servicing industry. This business line has declined very significantly in the last year and we do not consider it representative of our operations, and we believe that excluding the results of Loan Protector gives a better measure of our financial performance. Excluding Loan Protector, North America’s organic commissions and fees grew 1 percent and overall organic commissions and fees grew 3 percent.
Total expenses in first quarter 2012 of $696 million were $72 million, or 9 percent, lower than in first quarter 2011. First quarter 2011 included a charge of $97 million relating to the 2011 Operational Review and a gain on disposal of $4 million. In first quarter 2012 we recorded an $18 million increase in the amortization of cash retention awards compared to first quarter 2011 and a $13 million write-off of uncollectible accounts receivable balance together with associated legal fees (see ‘Correction of Commissions and Fees Overstatement Relating to 2011 and Prior Periods’, below).
Net income attributable to Willis shareholders from continuing operations was $225 million or $1.28 per diluted share in first quarter 2012 compared to $35 million or $0.20 per diluted share in first quarter 2011. The $190 million increase reflects the reduction in total expenses described above. Additionally, first quarter 2011 results include a $124 million post-tax expense relating to the make-whole amounts on the repurchase and redemption of $500 million of our senior debt and write-off of related unamortized debt issuance costs. Foreign currency movements reduced earnings by $0.02 per diluted share in first quarter 2012 compared with first quarter 2011.
Correction of Commissions and Fees Overstatement Relating to 2011 and Prior Periods
As previously disclosed, in early 2012 we identified through our internal financial control process an uncollectible accounts receivable balance of approximately $28 million in a stand-alone business unit that appeared to be due to fraudulent overstatements of Commissions and Fees from the years 2005 to 2011. We concluded that the overstatement we uncovered did not materially affect our previously-issued financial statements for any of the prior periods. For the year ended December 31, 2011, we corrected the misstatement of Commissions and Fees from prior periods by recognizing in the fourth quarter of 2011 a $22 million charge to Other Operating Expenses to write off the uncollectible receivable at January 1, 2011, and by reversing the $6 million balance of Commissions and Fees which had been recorded during 2011. We also reversed $2 million of Salaries and Benefits representing an over-accrual of production bonuses relating to the overstated revenue.
We continued our investigation into these matters and identified an additional $12 million in fraudulent overstatement of Commissions and Fees. We have determined that the overstatement involved additional associates within the business unit and included the year 2004. We have concluded that the total $40 million of overstatement does not materially affect our previously-issued financial statements for any of the prior periods and we are correcting the additional misstatement by recognizing a $13 million charge (including legal expenses) to Other Operating Expenses in the first quarter of 2012.
The associates in question, whose employments have been terminated, were not members of Willis executive management nor did they play a significant role in internal control over financial reporting. Based on the results of our investigation, which has now been completed, we do not believe that any client or carrier funds were misappropriated or that any other business units were affected.
We have taken steps to enhance our internal controls in relation to the business unit in question, including enhanced procedures over receipt of checks and application of cash, increased segregation of duties between the operating unit and the accounting and settlement function, and additional central sign off on revenue recognition.
Cash Retention Awards
We started making cash retention awards in 2005 to a small number of employees. With the success of the program, we expanded it over time to include more staff and we believe it is a contributing factor to the reduction in employee turnover we have seen in recent years.
Salaries and benefits do not reflect the unamortized portion of annual cash retention awards made to employees. Employees must repay a proportionate amount of these cash retention awards if they voluntarily leave our employ (other than in the event of redundancy, retirement or permanent disability) within a certain time period, currently up to three years. We make cash payments to our employees in the year we grant these retention awards and recognize these payments ratably over the period they are subject to repayment, beginning in the quarter in which the award is made.
During first quarter 2012, we made $192 million of cash retention award payments compared with $195 million in first quarter 2011. Salaries and benefits in first quarter 2012 include $62 million of amortization of cash retention award payments made on or before March 31, 2012, compared with $44 million in first quarter 2011.
Included within the $62 million amortization of cash retention is a $7 million charge for retention waivers. In certain circumstances we may choose to waive repayment of retention awards when an employee leaves the Company. Therefore when we make the retention awards payments we book a provision to reflect the anticipated level of waivers.
The remaining increase between first quarter 2012 and first quarter 2011 of $11 million reflects the higher level of cash retention awards paid and expected to be paid in 2012 compared to cash retention awards paid in 2009, which were fully amortized in 2011.
As of March 31, 2012, December 31, 2011 and March 31, 2011, we included $334 million, $196 million and $328 million, respectively, within other current assets and other non-current assets on the balance sheet, which represented the unamortized portion of cash retention award payments made on or before those dates.
Pension Expense
We recorded a net pension (income)/charge on our UK and US defined benefit pension plans in first quarter 2012 of $(1) million, and $1 million respectively, compared with $2 million and $nil respectively in first quarter 2011. On our international defined benefit pension plans, we recorded a net pension charge of $1 million in both first quarter 2012 and 2011.
The UK pension charge was $3 million lower in 2012 compared to 2011 due to an increased asset return from a higher asset base partly offset by an increase in amortization of prior period losses. The US pension charge was $1 million higher in 2012 compared to 2011 reflecting an increase in amortization of prior period losses.
See ‘Contractual Obligations’ below for further information on our obligations relating to our pension plans.
Acquisitions and Disposals
In first quarter 2012 we acquired 49.9 percent of Gras Savoye Re at a cost of $29 million, increasing our shareholding from 50.1 percent to 100 percent.
We sold 49.9 percent of our retail operation in Peru, Willis Corredores de Seguros S.A. to Grupo Credito S.A. for $2.8 million reducing our shareholding to 50.1 percent. Grupo Credito S.A. is an investment arm of Peru’s largest financial services holding company.
We continue to consolidate these entities in our Group result, because we exercised management control both before and after these transactions. These transactions had an immaterial net impact on the first quarter 2012 results.
CONF CALL
Kerry Calaiaro
Thank you, and welcome to our third quarter 2010 earnings conference call and webcast. Our call today is hosted by Joe Plumeri, Willis Group Holdings' Chairman and Chief Executive Officer.
A replay of the call will be available through November 28th, 2010 at 11:59 PM Eastern Time by calling 888-385-2289 from within the US or 1-203-369-3262 from outside the US, with pass code. Alternatively, the webcast replay can be accessed through the Investor Relations section of our website at www.willis.com. If you have any questions after the call, my direct line is 212-915-8084.
As we begin our call, let me remind you that we may make certain statements relating to future results, which are forward-looking statements as that term is defined by the Private Securities Litigation Reform Act of 1995. Such statements are subject to certain risks and uncertainties that could cause the actual results to differ materially from historical results or those estimated or anticipated.
Please note that these forward-looking statements reflect our opinions only as of the date of this presentation and we undertake no obligation to revise or publicly update the results of any update to these forward-looking statements in light of new information or future events.
Please refer to our SEC filings; including our Annual Report on Form 10-K for the year ended December 31, 2009 as well as our earnings press release for a more detailed discussion of the risk factors that may affect our results. Copies may also be obtained from the SEC or by visiting the Investor Relations section of our website.
Also, please note that certain financial measures we use on the call are expressed on a non-GAAP basis. Our GAAP results and GAAP to non-GAAP reconciliation can be found in our earnings press release.
I will now turn the call over to Joe
Joe Plumeri
Thank you, Kelly, and hi, everybody, and welcome, and thank you for joining our call today.
On the call with me today are Grahame Millwater, our Group President; Don Bailey, CEO of North America; Michael Neborak, our CFO; and as usual other members, all of the members of our executive team and management team are also here, and will be happy to answer all of your questions.
Let me talk about the conditions that impact the third quarter 2010 and a little bit about the remainder of 2010. I am very happy with what we’ve delivered this quarter and in the year-to-date. We have reported exceptional organic growth in the face of a really tough external environment that is little changed from the last time we spoke.
In the US economic and unemployment remain anemic, a number of European economies also remained pressured. There are some bright spots, particularly among the emerging economies. And in addition, as I indicated the last quarter, the general rate environment remains soft and in the absence of a major loss activity, we see little term, little near-term sign of change.
Looking at earnings, we reported adjusted earnings per share of $0.37 for the quarter compared with $0.53 a year-ago with both years affected by tax items. If you look at adjusted earnings and apply the underlying effective rate of 26%, adjusted earnings per share would have been about the same in both periods.
Our culture of teamwork and discipline has served us well in this environment continues to serve us well with our commitment to growth and our focus on cost control. Our commitment to growth is reflected especially in another 4% organic growth in commissions and fees that we delivered in both the third quarter and in a year-to-date period, so that’s been pretty consistent and our ability to be able to deliver that I think shows the underlying sales cultures that I make reference to. This compares very well to the 2% organic growth that we delivered in the corresponding periods last year.
Each of our segments also delivered organic growth in both the quarter and year-to-date periods. This is especially something that we’re proud of, because all of our operating segments grew, again in a very difficult environment.
In the third quarter, North America grew 2%, where probably the rates are softest around the world and the economy is the worst. International grew 6% and global grew 4%. So across the board, our diversity, our ability to be able to distribute our product again shines through.
This Group continues to be driven in the main by new business generation across all segments. We spend a lot of time on it, it’s something that we’re good at it, and we can better at. Net growth of 13% for the quarter and a steady client retention, so you take the two – so clearly both of those are trending in the right direction, and there is no reason to believe that that trend wouldn’t continue.
I’m also happy that we delivered adjusted margin expansion in the quarter. The 140-basis point adjusted margin expansion largely reflects growth in organic commissions and fees, rigorous expense management, and favorable foreign currency movement, and that’s partly been offset by higher incentive compensation.
What do I mean by incentive compensation? I really mean the amortization of the retention award and higher payouts and higher payouts basically come from North America where we raise the payout during the integration period that was effective at the beginning of this year, so the payouts are higher and we’re getting higher revenue growth out of North America than we got the year before. So as a result, you see the incentive compensation line going up.
We increased the headcount also since last year on purpose, because we’re trying to support and fuel the areas that are growing the most for us. International has been a consistent growth leader for us for a long time over the last couple of years and we want to support that and we want to feed that to make sure that it continues to do that. And our global segments especially we’ve grown and added support levels and resources to our areas in London and across the world.
So even though North America has lowered its head count following the HRH integration, in a lot of other areas we’ve tried to reinforce very, very good growth, so that’s something that we’ve done on purpose. Shaping Our Future also continues to deliver net benefits, around $12 million in the third quarter, even as the number of the programs have become entrenched in the way we do business.
Now let me drill down a little bit into the segment results. North America as I said before has just been terrific. Not much though has changed as it relates to the external environment.
The economy and the recovery remains anemic and protracted and the employment recovery is slow, the rate environment remains soft, and there is little evidence of a turn, you’ve heard that before, I’m just going to tell you what everybody else has told you.
CIAB data for the third quarter indicated rate is down 5% compared with 6% in the second quarter, even in areas where we’re seeing some increases, lower underlying exposure basis or offsetting gains, and we really don’t see much of an improvement in exposures either.
In this environment, 2% organic growth for the quarter and 1% positive on a year-to-date basis is just an unbelievable result, especially when I see what’s happening elsewhere with our competitors. Delivery against the rate wind of 2%, that’s a net new business of 4%, and so we’re very proud of that, and my congratulations to our North American colleagues.
Our producers continued to generate double digit new business growth and client retention even got better. We even saw positive results across a number of regions, including the Northeast, Atlantic, and South Central, and some of the standout cities in the quarter were New York, Boston, Philadelphia, Baltimore, Atlanta, Dallas, and Los Angeles, which is really great about having said that, is that those cities are a blend of former HRH offices and former Willis offices, so that now that our impact in these major cities show the ramifications and results of the acquisition.
Our employee benefit business, our largest practice was up 4%, its second consecutive quarter of growth and a great result in a really tough labor market. So if we can do that in a tough labor market, it tells us again that we’re heading in the right direction as it relates to our value proposition and employee benefits in North America.
Now, our construction practice which is about 10% of our business in North America was down low single digits better than last year, but that’s in an area of the economy that is still not seeing much sign of improvement. So you got 2% improvement in revenue, when 10% of your business is going down. Again that shows great strength and our ability to retain our people and to grow our new business. We continued to see good results in a number of specialty practice areas such as executive risk healthcare and financial services.
North America’s operating margin remained steady at 21.4%. The results that our North American business delivered really reflects I think the success of the integration efforts and the teamwork across our enhanced network, and this success is illustrated by as I said great top line growth and even better client retention and strong producer retention, again in the aftermath of a major integration and a major acquisition which we’re really, really enthusiastic about and proud of.
Let me turn to international, international continues to deliver with organic growth in commissions and fees of 6% in the quarter and 6% year-to-date. And when I say 6% international, that means all of our offices outside of the United States. The new business generation remains in the double digits again against the headwind of 4%. The strength and diversity of our international network I think is reflected in these results, even if some of the economies in which we operate remained pressured.
Latin America, Asia, and Eastern Europe again all delivered double-digit growth with really strong contributions from Venezuela, Brazil, and Chile in Latin America; China and Korea in Asia were simply outstanding; and Poland and Russia in Eastern Europe continued to show great growth. Continental Europe was slightly positive in a seasonably light quarter for those countries.
As a matter of fact, this is a light quarter for international in general, and some of the numbers especially in the margin I think reflect that amidst continued economic weakness in Central Europe, Spain and Italy though among others continued to deliver positive growth.
The UK and Ireland, which is a really good story, also faced challenging economic conditions, but despite that, despite this headwind, they delivered another quarter of positive organic growth, supported by ongoing investments and sales teams and process, again we’re investing in places where we need to invest and support areas that are growing, and the result of that was both of the UK retail had significant revenue growth and Ireland showed some growth for the first time in a long time in an economy that’s still hasn’t gotten much better. The key revenue drivers in the quarter were major accounts and employee benefits.
So the international operating margin was 9.6%, now that was down from the 13.4% in the year-ago quarter, but again I’ll remind you that this is the smallest of our quarters internationally, we had very strong organic revenue growth, which was negated by unfavorable foreign currency movements. But we continue to support current and future growth; for example, with head count increase in international of over 200 from a year-ago. But again on purpose to again feed fuel and seed, a big growth area for us, that’s been consistent throughout the last couple of areas, even during the 2008-2009 meltdown.
As far as our global business is concerned, that segment comprised of Reinsurance, Global Specialties, Faber and Dumas. And Willis Capital Markets also performed well, delivering 4% organic growth against headwinds from rate of about 2% and clients continuing to retain more risk.
Reinsurance had mid single digit organic growth again. I could not say enough about or reinsurance operation it continually are delivering mid single digit organic growth, the revenue drives there continued to be strong new business generation with strong international growth in an area that is continued to be generally soft in a rating environment.
Global Specialties, again mid single digit organic growth. I think our specialisms are the best around, I congratulate them as well. The revenue drivers led by FINEX, in space, aerospace, and construction especially. Growth was really strong through new business and improved retention and then targeting hiring again. A producer of talent and global connectivity.
All part of a plan, all part of specifically and selectively spending our money where we think we can get the most growth both today and in the future, that’s why we are so confident about that. However, their environment again remains tough with depressed world trade and transit volumes, industry consolidation and pressure on financing of construction projects are still very evident.
We have weakness in Faber and Dumas, as they are impacted by a soft wholesale market. Remember that’s our wholesale operation, but continued pressure in the most economically sensitive lines such as bloodstock, jewelry, and fine arts.
Global operating margin was 19.7%, up 90 basis points, from the prior-year period, and helped by organic growth, favorable foreign currency translation impact on our London market business, while we’ll continue again to support the current and future growth of this area as well.
Now, I’d like to turn things over to Grahame Millwater to update priorities for 2010. Grahame.
Grahame Millwater
Thanks very much, Joe. Good morning, good afternoon, everyone. As part of the Group that Joe has discussed, our new business levels have continued to climb with all business units posting double-digit new business wins. We continue to drive this new business to our focus on developing healthy pipeline to prospects in targeted segments and geographies.
It’s important to point out that the diversified nature of the Group in geography, segments, and business mix is purposely designed to ensure robust and sustainable organic growth strategy.
Now, last quarter I talked briefly about the sales platform we’re building in the middle market and the franchise commercial network model for the small commercial segment. Today, I’d like to focus a little bit about our global large account segment.
We handled a significant number of major global accounts, particularly in specialty areas such as airlines, construction, and mining. However, generally speaking, we're underweight in this global major account segment compared to our natural market share, and we have a definitive plan to rectify this.
We’ve been refining our approach to this segment over the past 12 months, using our specialty skills, our global footprint, our analytics, together with our client advocate model to deliver the whole of Willis to these clients’ prospects, we believe we can seriously grow this segment. And our unique team orientated culture together with the integrated way we run the Group helps us to create a unique proposition in this space.
When considering a leader for this business, which we have called Global Solutions, to reflect the needs of these major clients, we wanted someone with real global experience, in-depth insurance knowledge, and the ability to interact with our global clients at the most senior levels. Martin Sullivan fits that description perfectly and we’re delighted to have him onboard. And after six weeks, I can truly say that both he and Willis could not be more excited by the opportunity we have this segment going forward.
Our Global Solutions sets us part of Willis Global, which comprises Global Solutions, Willis Analytics, Global Specialty, Willis REIT, Willis Capital Markets & Advisory, Willis Facultative, Global Markets, Global Placement, and our wholesale business Faber and Dumas. This brings together a really amazing powerhouse of client relationships, specialist skills, research and analytical capabilities, transactional prowess and carrier relationships that we believe that’s absolutely unique in the broker sector. And recently wins are confirming the power of this proposition when focused effectively.
The transformation of our business is a constant and I’m pleased to report that Shaping Our Future continues to deliver substantial benefits. In this quarter, we delivered a further $23 million worth of gross benefits with $12 million net benefits after reinvesting in certain areas which I’ll just go on to point to.
Client profitability in our placement strategy continued to deliver significant incremental revenue for us, while our business model updates such as Shaping Our Future Retail UK and Shaping Our Future London are delivering a transformation in the way we work with our clients.
A substantial portion of the benefits generated from these programs are reinvested to the businesses for future benefit. For example, in this quarter alone, we launched our World Place Initiative, part of our global placement strategy in Milan, in Italy, a rollout of our Eclipse technology platform into our Global Willis Reorganization, following the successful rollout of Eclipse into our London-based Global Specialty. A transformation program for our finance and accounting in this structure has started.
And in ethic, we continue to rollout of our US retail platform, and at the same time we continued to invest in initiatives such as the sales platform in our middle market and shaping of our future retail UK, initiatives which we would think will continue to deliver benefits for us and accolades over the coming years.
So a brief summary. And I handover to Mike, our CFO, to review the financial results. Mike.
Michael Neborak
Thank you, Grahame. I’m excited to be hear and part of this management team. So in the third quarter, we continued to execute with focus on organic revenue growth, cost control and further progress in capital management and debt reduction.
Our reported and adjusted earnings from continuing operations in Q3 2010 were $64 million or $0.37 per share. This includes a $0.02 per share benefit from favorable FX. For comparison, adjusted EPS from continuing operations in the third quarter of 2009 were $0.53 per share. Earnings in both quarters were positively impacted by certain tax items that I’ll talk about later.
As I said, foreign exchange had a positive $0.02 per share impact on EPS and a positive of 130-basis point impact on operating margin year-over-year. That positive impact from FX is principally the net result of dollar strength against the pound sterling where we are overweight on the expense side and dollar strength against the euro where we are overweight on the revenue side. Fortunately, the expense reduction was greater than the revenue reduction resulting in a positive $0.02 per share FX impact in the first to third quarter of 2009.
If rates remain unchanged to the remainder of 2010, we anticipate that the impact on margin and earnings per share in the fourth quarter would be slightly negative, while the full-year impact would remain positive.
Our revenues increased 1% to $733 million in the third quarter of 2010, compared the year-ago period, and increased 3% in the first nine months of the year to $2.5 billion. Reported commissions and fees grew 1% in the third quarter to $723 million and we’re up 3% for the nine months to $2.5 billion. It is important to note that the reported commission and fee growth of 1% in the third quarter was negatively impacted by foreign exchange movements. Organic growth was 4%.
Total investment income of $10 million was largely unchanged from the period a year-ago. While rates are lower, we continued to benefit from our forward hedging program.
On the expense side, total operating expenses were down 2.5% to $627 million, compared to Q3 2009. The salary and benefits piece was $462 million or a 63% of total revenues in the current quarter compared to $449 million or a 62% in the year-ago period. The 3% increase in salaries and benefits was primarily due to increased head count and higher incentive compensation, moderated by the impact of favorable foreign currency movement and lower stock-based compensation expense.
In the third quarter of 2010, salaries and benefits included $28 million of expense related to the amortization of cash retention award compared to $22 million in the year-ago quarter.
Other operating expenses were down 14.6% to $129 million, compared to $151 million in the year-ago quarter, reflecting our disciplined cost management and favorable FX movement. The year-ago quarter included $7 million in charges related to HRH integration costs and in addition other operating expenses in this quarter were favorably impacted by the release of a $7 million legal reserve.
Our reported and adjusted operating margin for the third quarter was 14.5%, an increase of a 140 basis points compared to the adjusted operating margin in the year-ago quarter. As Joe said, adjusted operating margin was positively impacted by continued growth and commissions and fees, rigorous expense management, and favorable foreign currency movements, partially offset by higher retention amortization and producer payout.
Let me now turn now to taxes where our income tax expense for the quarter was $10 million, compared to an income tax credit of $29 million the year-ago quarter. Tax expense in the quarter included a $7 million credit related to the release of a previously recorded tax provision with a statue of limitations had expired.
In addition, the third quarter 2009 tax credit also reflected the release of a $27 million provision, following a change to the UK tax law. The effective tax rate was 15.2% for the quarter and 24.8% for the nine months. The underlying effective tax rate however for both the quarters and nine months was approximately 26% the same as the 2009 full-year rate.
We recorded income from associates of $9 million in the third quarter of 2010, compared to $16 million in the quarter a year-ago, primarily due to our reduced ownership [inaudible].
On the pension side, our UK, US, and international defined benefit pension plans had a combined deficit of approximately $10 million at the end of the third quarter, down from approximately $120 million at the end of 2009, principally due to cash contributions.
Pension contribution payments were $44 million in the quarter and $103 million in the first nine months of 2010. We expect to make approximately $125 million total pension contribution payments during 2010. Pension expense was $9 million in the quarter and $27 million in the year-to-date period.
I am pleased to report that we made some progress on debt reduction and capital management in the quarter and that both Moody’s and S&P reaffirmed our investment grade ratings and stable outlook during the quarter.
Total debt including the revolver was $2.3 billion at the end of Q3, in line with the second quarter. Cash and cash equivalents were $141 million, up slightly from June 30th. During the quarter, we generated approximately $100 million in cash from operating activities and approximately $260 million cash from operating activities in the year-to-date period.
During the quarter, we also added a second revolver which is undrawn in the amount of $200 million, basically with the with a same terms as our existing revolver, and it will be priced if drawn, and again I mentioned it’s not drawn, at LIBOR plus 275 basis points. And the principal reason for entering into that facility was just to give us additional financial flexibility.
And with that, I’ll turn the call back to Joe.
Joe Plumeri
Thanks Mike. So, in conclusion, we’re very pleased with the results through the first nine months, but I want to reiterate our priorities which we have talked about in the course of this call.
One, to reinforce our sales and revenue culture to drive growth, evidenced in 4% organic growth in the quarter and year-to-date. We just think that in this environment that’s outstanding and we need to continue to support that and reinforce that, so that we can remain confident that that will continue.
Second, further execute Shaping Our Future and our growth strategies. And in doing so, continue to selectively invest in growing markets, and that’s people, I talked about that earlier, further develop our Willis Global unit including Global Solutions which Grahame talked about. Enhance our operating platform to support our business units.
What do we mean by that? That’s investments in systems like Epic in the United States which is, or North America is an accounting system, and everything can be driven off of it, continue to support Eclipse here in London, Will Place which is our new placement system. So that these things in building out our platform and enhance the platform to support our business units give us future efficiencies so that we can continue to run the place efficiency and look to drive out cost in all areas of our business, which gives us the ability to maintain disciplined expense management, as Mike said, continue to strengthen our balance sheet.
We think that these efforts position us extremely well for continuous success in the future. Thank you for listening. And we’ll be very glad to answer any questions that you may have.
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