<page>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
-------- --------
Commission File Number 1-1023
THE MCGRAW-HILL companies, INC.
- --------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
New York 13-1026995
- --------------------------------- ---------------------------------
(State of other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1221 Avenue of the Americas, New York, N.Y. 10020
- ---------------------------------------------------------------------------
(Address of Principal executive offices) (Zip Code)
Registrant's telephone number, including area code (212) 512-2000
--------------
Not Applicable
- ----------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
YES [X] NO [ ]
On July 15, 2002 there were approximately 193.5 million shares of common
stock (par value $1.00 per share) outstanding.
<page>
The McGraw-Hill Companies, Inc.
-------------------------------
TABLE OF CONTENTS
-----------------
Page Number
-----------
PART I. FINANCIAL INFORMATION
- ------------------------------
Item 1. Financial Statements
------
Consolidated Statement of Income for
the three and six month periods ended
June 30, 2002 and 2001 3
Consolidated Balance Sheets at June 30, 2002,
December 31, 2001 and June 30, 2001 4-5
Consolidated Statement of Cash Flows for the six 6
months ended June 30, 2002 and 2001
Notes to Consolidated Financial Statements 7-17
Item 2. Management's Discussion and Analysis of Operating
------ Results and Financial Condition 18-26
Item 3. Quantitative and Qualitative Disclosures
------ About Market Risk 26
Part II. OTHER INFORMATION
- ---------------------------
Item 1. Legal Proceedings 26-27
------
Item 4. Submission of Matters to a Vote of Security Holders 27
------
Item 6. Exhibits and Reports on Form 8-K 27-30
------
<page>
<table>
Part I
Financial Information
Item 1. Financial Statements
---------------------
The McGraw-Hill Companies, Inc.
-------------------------------
Consolidated Statement of Income
-------------------------------
Periods Ended June 30, 2002 and 2001
------------------------------------------
<caption>
Three Months Six Months
-------------------- -------------------
2002 2001 2002 2001
------- ------- ------- -------
(in thousands, except per-share data)
Operating Revenue: $1,191,401 $1,149,470 $2,038,053 $1,995,867
Expenses:
Operating $490,844 $485,295 $897,339 $900,861
Selling and general 379,741 378,656 707,121 697,122
Depreciation 23,356 22,756 47,040 45,380
Amortization of intangibles
and prepublication costs 81,535 68,127 124,537 105,825
Goodwill amortization (Note 10) - 14,510 - 28,541
---------- ---------- ---------- ----------
Total expenses 975,476 969,344 1,776,037 1,777,729
Other income - net 9,578 9,924 16,632 21,948
---------- ---------- ---------- ----------
Income from operations 225,503 190,050 278,648 240,086
Interest expense 7,151 16,021 13,573 32,901
---------- ---------- ---------- ----------
Income before taxes on income 218,352 174,029 265,075 207,185
Provision for taxes on income 81,882 54,032 99,403 66,797
---------- ---------- ---------- ----------
Net income $ 136,470 $ 119,997 $ 165,672 $ 140,388
========== ========== ========== ==========
Earnings per common share:
Basic earnings per common
share $ 0.71 $ 0.62 $ 0.86 $ 0.72
Diluted earnings per common $ 0.70 $ 0.61 $ 0.85 $ 0.71
share
Average number of common
shares outstanding: (Note 11)
Basic 193,267 194,571 193,026 194,433
Diluted 195,050 196,962 194,956 196,632
</table>
<page>
<table>
The McGraw-Hill Companies, Inc.
------------------------------
Consolidated Balance Sheet
--------------------------
<caption>
June 30, Dec. 31, June 30,
2002 2001 2001
---------- ----------- ----------
(in thousands)
ASSETS
Current assets:
Cash and equivalents $ 50,518 $ 53,535 $ 11,428
Accounts receivable (net of allowance
for doubtful accounts and sales
returns) (Note 5) 1,010,259 1,038,308 1,094,172
Inventories (Note 5) 455,628 402,647 484,574
Deferred income taxes 218,964 218,676 196,394
Prepaid and other current assets (Note 6) 108,467 99,781 132,971
---------- ---------- ----------
Total current assets 1,843,836 1,812,947 1,919,539
---------- ---------- ----------
Prepublication costs (net of accumulated
amortization) (Note 5) 565,269 557,295 547,311
Investments and other assets:
Investment in Rock-McGraw, Inc. - at
equity 111,692 105,538 100,802
Prepaid pension expense 239,178 211,582 185,648
Other 222,439 200,443 242,950
---------- ---------- ----------
Total investments and other assets 573,309 517,563 529,400
---------- ---------- ----------
Property and equipment - at cost 1,078,322 1,078,730 1,034,443
Less - accumulated depreciation 648,069 623,790 614,367
---------- ---------- ----------
Net property and equipment 430,253 454,940 420,076
Goodwill - net (Note 10) 1,246,205 1,231,028 1,174,480
Copyrights - net (Note 10) 339,809 353,252 379,628
Other intangible assets - net (Note 10) 225,897 234,166 188,457
---------- ---------- ----------
Total goodwill and intangible
assets 1,811,911 1,818,446 1,742,565
---------- ---------- ----------
Total assets $5,224,578 $5,161,191 $5,158,891
========== ========== ==========
</table>
<page>
<table>
The McGraw-Hill Companies, Inc.
------------------------------
Consolidated Balance Sheet
--------------------------
<caption>
June 30, Dec. 31, June 30,
2002 2001 2001
----------- ---------- ----------
(in thousands)
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Notes payable $244,093 $222,953 $283,529
Accounts payable 296,874 339,541 303,259
Accrued liabilities 277,581 385,712 248,594
Income taxes currently payable 128,238 77,628 107,183
Unearned revenue 536,635 508,055 494,916
Other current liabilities (Note 4 & 6 ) 304,250 342,504 345,048
---------- ---------- ----------
Total current liabilities 1,787,671 1,876,393 1,782,529
---------- ---------- ----------
Other liabilities:
Long-term debt (Note 7) 919,367 833,571 1,012,774
Deferred income taxes 183,188 190,334 169,872
Accrued postretirement and other 174,583 175,844 175,443
benefits
Other non-current liabilities 234,345 231,164 233,053
---------- ---------- ----------
Total other liabilities 1,511,483 1,430,913 1,591,142
---------- --------- ----------
Total liabilities 3,299,154 3,307,306 3,373,671
---------- ---------- ----------
Shareholders' equity (Notes 8 & 9)
Capital stock 205,852 205,852 205,852
Additional paid-in capital 73,452 64,638 64,897
Retained income 2,359,387 2,292,342 2,150,288
Accumulated other comprehensive
income (112,290) (126,860) (127,793)
---------- ---------- ----------
2,526,401 2,435,972 2,293,244
Less - common stock in treasury-at cost 576,956 566,775 477,707
Unearned compensation on restricted stock 24,021 15,312 30,317
---------- ---------- ----------
Total shareholders' equity 1,925,424 1,853,885 1,785,220
---------- ---------- ----------
Total liabilities & shareholders'
equity $5,224,578 $5,161,191 $5,158,891
========== ========== ==========
</table>
<page>
The McGraw-Hill Companies, Inc.
-------------------------------
Consolidated Statement of Cash Flows
------------------------------------
For The Six Months Ended June 30, 2002 and 2001
--------------------------------------------------
<caption>
2002 2001
---------- ----------
Cash flows from operating activities (in thousands)
- ---------------------------------------------------
Net income $ 165,672 $140,388
Adjustments to reconcile net income to
cash provided by operating activities:
Depreciation 47,040 45,380
Amortization of goodwill and intangibles 19,740 44,686
Amortization of prepublication costs 104,797 89,680
Provision for losses on accounts receivable 16,197 25,909
Gain on sale of real estate - (6,925)
Other (4,550) (5,756)
Changes in assets and liabilities net of effect of
acquisitions and dispositions:
Decrease/(increase) in accounts receivable 13,730 (19,450)
Increase in inventories (52,633) (84,774)
Increase in prepaid and other current assets (8,287) (2,809)
Decrease in accounts payable and accrued expenses (154,362) (127,729)
Increase in unearned revenue 27,031 15,352
(Decrease)/increase in other current liabilities (46,475) 10,631
Increase in interest and income taxes
currently payable 57,547 68,341
(Increase)/decrease in deferred income taxes (1,202) 369
Net change in other assets and liabilities (12,502) (13,212)
- --------------------------------------------------- ---------- ---------
Cash provided by operating activities 171,743 180,081
- --------------------------------------------------- ---------- ---------
Investing activities
- ---------------------------------------------------
Investment in prepublication costs (114,870) (115,608)
Purchases of property and equipment (26,865) (41,083)
Additions to technology projects (33,812) (11,093)
Acquisition of businesses and equity investments (3,730) (146,265)
Disposition of businesses, property and equipment 6,782 17,324
Other 3,299 -
- --------------------------------------------------- ---------- ---------
Cash used for investing activities (169,196) (296,725)
- --------------------------------------------------- ---------- ---------
Financing activities
- ---------------------------------------------------
Additions to short-term debt - net 107,037 251,222
Dividends paid to shareholders (98,629) (95,245)
Exercise of stock options 45,667 47,216
Repurchase of treasury shares (63,787) (75,455)
Other (218) (165)
- --------------------------------------------------- --------- ---------
Cash (used for)/provided by financing activities (9,930) 127,573
- --------------------------------------------------- --------- ---------
Effect of exchange rate fluctuations on cash 4,366 (2,672)
--------- ---------
Net change in cash and equivalents (3,017) 8,257
Cash and equivalents at beginning of period 53,535 3,171
- --------------------------------------------------- --------- ---------
Cash and equivalents at end of period $ 50,518 $ 11,428
========= =========
</table>
<page>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
------------------------------------------
1. The financial information in this report has not been audited, but in the
opinion of management all adjustments (consisting only of normal recurring
adjustments) considered necessary to present fairly such information have
been included. The operating results for the three and six month periods
ended June 30, 2002 and 2001 are not necessarily indicative of results to
be expected for the full year due to the seasonal nature of some of the
Company's businesses. The financial statements included herein should be
read in conjunction with the financial statements and notes included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2001.
Certain prior year amounts have been reclassified for comparability
purposes.
The SEC issued Financial Reporting Release No. 60, "Cautionary Advice
Regarding Disclosure About Critical Accounting Policies" ("FRR 60"),
relating to the provision of additional disclosure and commentary on those
accounting policies of the Company considered most critical. FRR 60
considers an accounting policy to be critical if it is important to the
Company's financial condition and results, and requires significant
judgment and estimates on the part of management in its application. The
Company believes the following represent its critical accounting policies
as contemplated by FRR 60.
Revenue is generally recognized when goods are shipped to customers or
services are rendered. Units whose revenue is principally from service
contracts record revenue as earned. Revenue relating to agreements which
provide for more than one service is recognized based upon the fair value
to the customer of each service component and as each component is earned.
If the fair value to the customer for each service is not objectively
determinable, revenue will be recognized ratably over the service period.
Fair value is determined for each service component through a bifurcation
analysis which relies upon the pricing of similar cash arrangements that
are not part of the multi-element arrangement. Advertising revenue is
recognized when the page is run or the spot is aired. Subscription income
is recognized over the related subscription period.
The accounts receivable reserve methodology is based on historical analysis
and a review of outstanding balances. A significant estimate in the
McGraw-Hill Education segment, and particularly within the Higher
Education, Professional and International Group, is the allowance for sales
returns, which is based on the historical rate of return and current market
conditions. Prepublication costs, principally outside preparation costs,
are amortized from the year of publication over their estimated useful
lives, primarily three to five years, using either the accelerated or the
straight-line method. The majority of the programs are amortized using an
accelerated methodology. It is the Company's policy to evaluate the
remaining lives and recoverability of such costs, which is sometimes
dependent upon program acceptance by state adoption authorities, based on
expected undiscounted cash flows. The Company reviews long-lived assets,
including intangible assets, and goodwill for impairment annually, or
sooner whenever events or changes in circumstances indicate the carrying
amounts of such assets may not be recoverable. Upon such an occurrence,
recoverability of these assets is determined as follows. For long-lived
assets that are held for use, the Company compares the forecasted
undiscounted net cash flows to the carrying amount. If the long-lived asset
is determined to be unable to recover the carrying amount, then it is
written down to fair value. For long-lived assets held for sale, assets are
written down to fair value. Fair value is determined based on discounted
cash flows, appraised values or management's estimates, depending upon the
nature of the assets. Intangibles with indefinite lives are tested by
comparing their carrying amounts to fair value. Impairment within goodwill
is tested using a two step method. The first step is to compare the fair
value of the reporting unit to its book value, including goodwill. If the
fair value of the unit is less than its book value, the Company then
determines the implied fair value of goodwill by deducting the fair value
of the reporting unit's assets from the fair value of the reporting unit's
goodwill. If the book value of goodwill is greater than its implied fair
value, the Company writes down goodwill to its implied fair value.
<page>
<table>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
-------------------------------------------
2. The following table is a reconciliation of the Company's net income to
comprehensive income for the three month and six month periods ended June
30:
<caption>
Three Months Six Months
---------------------- ----------------------
2002 2001 2002 2001
--------- ---------- ---------- --------
(in thousands)
Net income $136,470 $119,997 $ 165,672 $140,388
Other comprehensive income, net of
tax:
Foreign currency translation
adjustment 18,687 1,497 14,570 (17,435)
-------- --------- --------- --------
Comprehensive income $155,157 $121,494 $180,242 $122,953
======== ========= ========= ========
</table>
3. The Company has three reportable segments: McGraw-Hill Education,
Financial Services, and Information and Media Services. McGraw-Hill
Education is one of the premier global educational publishers serving the
elementary and high school, college and university, professional and
international markets. The Financial Services segment consists of Standard
& Poor's operations including ratings, indexes, related financial and
investment analysis and information, and corporate value services. The
Information and Media Services segment includes business and professional
media offering information, insight and analysis.
Operating profit by segment is the primary basis for the chief operating
decision maker of the Company, the Executive Committee, to evaluate the
performance of each segment. A summary of operating results by segment for
the three months and six months ended June 30, 2002 and 2001 follows:
<table>
2002 2001
---------------------- ----------------------
Operating Operating
Revenue Profit Revenue Profit
---------- ---------- ---------- ----------
(in thousands)
Three Months
- ------------
McGraw-Hill Education $ 576,963 $ 64,042 $566,150 $ 67,990
Financial Services 416,715 154,445 365,781 110,051
Information and Media Services 197,723 26,556 217,539 33,073
- ------------------------------ ---------- ---------- ---------- ---------
Total operating segments 1,191,401 245,043 1,149,470 211,114
General corporate expense - (19,540) - (21,064)
Interest expense - (7,151) - (16,021)
- ------------------------------ ---------- ---------- ---------- ---------
Total company $1,191,401 $ 218,352* $1,149,470 $174,029*
========== ========== ========== =========
</table>
*Income before taxes on income.
<table>
2002 2001
---------------------- ---------------------
Operating Operating
Revenue Profit Revenue Profit
---------- ---------- ---------- ----------
(in thousands)
Six Months
- ----------
McGraw-Hill Education $ 858,584 $ (7,768) $873,908 $ 10,160
Financial Services 797,593 287,699 710,962 216,659
Information and Media Services 381,876 38,518 410,997 46,744
- ----------------------------- ---------- ---------- ---------- ---------
Total operating segments 2,038,053 318,449 1,995,867 273,563
General corporate expense - (39,801) - (33,477)
Interest expense - (13,573) - (32,901)
- ------------------------------ ---------- ---------- ---------- ---------
Total company $2,038,053 $ 265,075* $1,995,867 $207,185*
========== ========== ========== =========
</table>
*Income before taxes on income.
<page>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
------------------------------------------
4. In the fourth quarter of 2001, the Company announced a worldwide
restructuring program that includes the exiting of certain businesses,
product lines and markets in each of its operating segments. As part of the
restructuring program, the Company is focusing its resources on those
businesses and products with higher profit margins and improving the
effectiveness of the organization. As a result, the Company recorded a
restructuring and asset impairment charge of $159.0 million pre-tax. This
charge is comprised of $62.1 million for McGraw-Hill Education, $43.1
million for Financial Services, $34.9 million for Information and Media
Services and $18.9 million for Corporate. The after-tax charge recorded was
$112.0 million, or 57 cents per diluted share. All of the restructuring
expenses were classified as operating expenses on the Consolidated
Statement of Income at December 31, 2001.
The restructuring that was recorded at December 31, 2001 consisted of the
following:
<table>
(in millions)
Employee severance and benefit costs $ 30.2
Asset impairment losses 128.8
-------
Total $ 159.0
=======
</table>
Employee severance and benefit costs of $30.2 million includes a planned
workforce reduction of approximately 925 people related to the exiting of
certain business activities, product lines and publishing programs to be
discontinued or curtailed, and other efforts to improve the effectiveness
of the organization. Through June 30, 2002, 773 employees have been
terminated and $15.6 million of employee severance and benefit costs were
paid.
Asset impairment losses of $128.8 million include $36.6 million associated
with the closing of the McGraw-Hill Education's business training
coursework operation, $37.2 million attributed to the disposing of
non-strategic properties in the investment services area in Financial
Services and costs associated with the disposal, $36.0 million primarily
arising from losses on the Construction Information Group's e-commerce
investments and emerging technology investments in the venture fund, and
$19.0 million on the write-off of certain assets.
Changes in the marketplace led to a shift to online learning solutions
which impacted McGraw-Hill Education's business training coursework
operations. As a result and as part of the restructuring, the Company
initiated a complete shutdown of the business training coursework
operations leading to a charge of approximately $36.6 million. This charge
is primarily comprised of write-offs of plant costs and goodwill
associated with the operation.
As a result of the Company's decision to dispose of the non-strategic
properties in the investment services area, losses of approximately $37.2
million were recognized which comprised the complete write-off of certain
investments and the write-down of goodwill associated with properties to be
sold. As part of the restructuring plan, discussions were initiated with
potential buyers and the write-down of goodwill were determined based upon
the net realizable values. The remaining carrying values of these assets
approximate $22 million and the disposals are expected to be completed
within one year.
<page>
<table>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
------------------------------------------
Also reflected in the total asset impairment losses is $36.0 million
primarily arising from losses on Construction Information Group's
e-commerce investments and the emerging technology investments in the
venture fund as the Company has decided to scale back on these initiatives.
These impairment losses reflect the permanent write-down of the investments
to fair value that was determined based upon the earnings capability and
expected cash flow of the related investees.
The $19.0 million is primarily attributed to the write-off of net assets
associated with the programs and product lines to be discontinued.
The restructuring is expected to be completed by December 31, 2002. At June
30, 2002, the remaining reserve, which is included in other current
liabilities, was approximately $23.5 million and comprised $14.6 million
for employee severance and benefit costs and $8.9 million for other costs;
primarily, contract termination costs.
5. The allowance for doubtful accounts and sales returns, the components of
inventory and the accumulated amortization of prepublication costs were as
follows:
<caption>
June 30, Dec. 31, June 30,
2002 2001 2001
---------- ---------- ----------
(in thousands)
Allowance for doubtful accounts $115,026 $147,855 $140,095
========== ========== ==========
Allowance for sales returns $ 88,230 $129,034 $ 87,009
========== ========== ==========
Inventories:
Finished goods $409,029 $340,488 $404,394
Work-in-process 20,236 30,595 37,709
Paper and other materials 26,363 31,564 42,471
---------- ---------- ----------
Total inventories $455,628 $402,647 $484,574
========== ========== ==========
Accumulated amortization of
prepublication costs $786,616 $910,720 $757,733
========== ========== ==========
</table>
<page>
<table>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
------------------------------------------
6. A subsidiary of J.J. Kenny Co. acts as an undisclosed agent in the purchase
and sale of municipal securities for broker-dealers and dealer banks and
the company had $322.3 million of matched purchase and sale commitments at
June 30, 2002. Only those transactions not closed at the settlement date
are reflected in the balance sheet as other current assets and other
current liabilities.
7. A summary of long-term debt follows:
<caption>
June 30, Dec. 31, June 30,
2002 2001 2001
---------- ---------- ----------
(in thousands)
Commercial paper supported by
bank revolving credit agreement $898,160 $800,080 $ 871,200
Extendible Commercial Notes 20,000 32,000 140,000
Other 1,207 1,491 1,574
----------- ---------- -----------
Total long-term debt $919,367 $833,571 $ 1,012,774
=========== ========== ===========
8. Common shares reserved for issuance for conversions and
stock based awards were as follows:
</table>
<table>
June 30, Dec. 31, June 30,
2002 2001 2001
---------- ---------- ----------
$1.20 convertible preference stock
at the rate of 13.2 shares for each
share of preference stock 17,530 17,530 17,530
Stock based awards 29,250,202 21,136,084 21,654,441
---------- ---------- ----------
29,267,732 21,153,614 21,671,971
========== ========== ==========
</table>
None of the convertible preference shares provided a beneficial conversion
feature at the time they were originally issued.
<page>
<Table>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
------------------------------------------
9. Cash dividends per share declared during the periods were as follows:
<caption>
Three Months Six Months
------------ -----------
2002 2001 2002 2001
---- ---- ---- ----
Common stock $.255 $.245 $.510 $.490
Preference stock .300 .300 .600 .600
10. Effective as of January 1, 2002, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 142, Goodwill and Other Intangible
Assets. Under SFAS No. 142, goodwill and other intangible assets with
indefinite lives are no longer amortized but are reviewed annually, or more
frequently if impairment indicators arise. During the year ended December
31, 2001, the Company started the required transitional impairment review
of goodwill. This review required the Company to estimate the fair value of
its identified reporting units as of December 31, 2001. For each of the
reporting units, the estimated fair value was determined utilizing the
expected present value of the future cash flows of the units. In all
instances, the estimated fair value of the reporting units exceeded their
book values and therefore no write-down of goodwill was required.
The following table reflects unaudited pro forma results of operations of
the Company, giving effect to SFAS No. 142 as if it were adopted on January
1, 2001: (in thousands except earnings per share)
</table>
<Table>
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
------- -------- ---------- ---------
Net income, as reported $136,470 $119,997 $165,672 $140,388
Add back: amortization expense,
net of tax - 8,922 - 17,551
--------- -------- ---------- ---------
Pro forma net income $136,470 $128,919 $165,672 $157,939
========== ======== ========== =========
Basic earnings per common share:
As reported $ 0.71 $ 0.62 $ 0.86 $ 0.72
Pro forma $ 0.71 $ 0.66 $ 0.86 $ 0.81
Diluted earnings per common share:
As reported $ 0.70 $ 0.61 $ 0.85 $ 0.71
Pro forma $ 0.70 $ 0.65 $ 0.85 $ 0.80
</table>
<page>
<table>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
-------------------------------------------
The following table summarizes the activity in goodwill for the periods
indicated: (in thousands)
<caption>
Six Months Twelve Months Six Months
Ended Ended Ended
June 30, December 31, June 30,
2002 2001 2001
----------- ------------ -----------
Beginning balance $1,231,028 $1,155,268 $1,155,268
Net change from acquisitions
and dispositions 10,000 188,657 54,428
Amortization expense - (56,636) (28,541)
Other 5,177 (56,261) (6,675)
----------- ---------- -----------
Total $1,246,205 $1,231,028 $1,174,480
=========== ========== ===========
The following table summarizes net goodwill by segment: (in thousands)
June 30, December 31, June 30,
2002 2001 2001
----------- ------------ -----------
McGraw-Hill Education $ 867,576 $ 853,829 $ 868,541
Financial Services 290,745 288,400 263,661
Information & Media Services 87,884 88,799 42,278
----------- ---------- ----------
Total $ 1,246,205 $1,231,028 $1,174,480
=========== ========== ==========
</table>
<page>
<table>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
------------------------------------------
The following table summarizes the activity in goodwill for the periods
indicated: (in thousands)
<caption>
Six Months Twelve Months Six Months
Ended Ended Ended
June 30, December 31, June 30,
2002 2001 2001
------------ ------------ ------------
McGraw-Hill Education
---------------------
Beginning balance $ 853,829 $ 842,953 $ 842,953
Additions/(dispositions) 10,628 54,714 49,009
Amortization - (39,516) (19,814)
Other 3,119 (4,322) (3,607)
------------ ------------- ------------
Total $ 867,576 $ 853,829 $ 868,541
============ ============= ============
</table>
<table>
Financial Services
------------------
Beginning balance $ 288,400 $ 269,207 $ 269,207
Additions/(dispositions) 576 84,114 5,419
Amortization - (14,041) (7,133)
Other 1,769 (50,880) (3,832)
------------ ------------- ------------
Total $ 290,745 $ 288,400 $ 263,661
============ ============= ============
</table>
<table>
Information & Media Services
----------------------------
Beginning balance $ 88,799 $ 43,108 $ 43,108
Additions/(Dispositions) (1,204) 49,829 -
Amortization - (3,079) (1,594)
Other 289 (1,059) 764
------------ ------------- ------------
Total $ 87,884 $ 88,799 $ 42,278
============ ============= ============
</table>
There were no material acquisitions or dispositions for the periods
indicated, both individually and in the aggregate, and therefore pro forma
financial information is not required.
<page>
<table>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
------------------------------------------
The following table summarizes other intangibles subject to amortization at
the dates indicated: (in thousands)
<caption>
Six Months Twelve Months Six Months
Ended Ended Ended
June 30, December 31, June 30,
2002 2001 2001
------------ ------------ ------------
Copyrights $ 538,314 $ 538,784 $ 538,813
Accumulated amortization (198,505) (185,532) (159,185)
------------ ------------- ------------
Net copyrights 339,809 353,252 379,628
------------ ------------- ------------
Other intangibles 280,662 276,788 222,058
Accumulated amortization (92,830) (80,687) (71,666)
------------ ------------- ------------
Net other intangibles 187,832 196,101 150,392
------------ ------------- ------------
Total $ 527,641 $ 549,353 $ 530,020
============ ============ ============
The following table summarizes other intangibles not subject to
amortization at the dates indicated: (in thousands)
</table>
<Table>
Six Months Twelve Months Six Months
Ended Ended Ended
June 30, December 31, June 30,
2002 2001 2001
------------ ------------ ------------
FCC Licenses $ 38,065 $ 38,065 $ 38,065
------------ ------------ ------------
Total $ 38,065 $ 38,065 $ 38,065
============ ============ ============
</table>
Amortization expense for other intangibles totaled $19.7 million and $16.1
million for the six months ended June 30, 2002 and 2001, respectively.
Amortization expense for the twelve months ended December 31, 2001, totaled
$34.9 million. The weighted average life of the intangible assets at June
30, 2002, is 17 years. The projected amortization expense for our
intangible assets, assuming no further acquisition or dispositions, is
approximately $38 million per year over the next five years.
<page>
<table>
The McGraw-Hill Companies, Inc.
-------------------------------
Notes to Consolidated Financial Statements
------------------------------------------
11. A reconciliation of the number of shares used for calculating basic
earnings per common share and diluted earnings per common share for the
three months and the six months ended June 30, 2002 and 2001 follows:
<caption>
Three month period 2002 2001
------------------ ---------- ----------
(thousands of shares)
Average number of common shares outstanding 193,267 194,571
Effect of stock options and other dilutive
securities 1,783 2,391
---------- ----------
195,050 196,962
========== ==========
</table>
<table>
Six month period 2002 2001
---------------- ---------- ----------
(thousands of shares)
Average number of common shares outstanding 193,026 194,433
Effect of stock options and other dilutive
securities 1,930 2,199
---------- ----------
194,956 196,632
========== ==========
</table>
Restricted performance shares outstanding at June 30, 2002 of 482,000 were
not included in the computation of diluted earnings per common shares
because the necessary vesting conditions have not yet been met.
12. In June 2001, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 143, Accounting for Asset Retirement Obligations. SFAS No. 143 requires
that the fair value of the liability for an asset retirement obligation be
recognized in the period in which it is incurred if a reasonable estimate
of fair value can be made. The associated asset retirement costs are
capitalized as part of the carrying amount of the long-lived assets. This
statement is effective January 1, 2003. The Company does not expect that
the adoption will have a material impact on its financial statements.
In October 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS No. 144 establishes a
single accounting model for long-lived assets to be disposed of by sale and
to address significant implementation issues. The framework of SFAS No. 144
was established in SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of. The Company
does not expect that the adoption of SFAS No. 144 will have a material
impact on its financial statements.
<page>
Item 2. Management's Discussion and Analysis of Operating Results and
- ------- -------------------------------------------------------------
Financial Condition
-------------------
Operating Results - Comparing Three Months Ended June 30, 2002 and 2001
- -----------------------------------------------------------------------
Consolidated Review
- -------------------
The Segment Review that follows is incorporated herein by reference.
Operating revenue for the second quarter increased by 3.6% to $1.2 billion,
as compared to the prior year's second quarter. The revenue increase is
primarily attributable to growth in the Financial Services segment. Net income
was $136.5 million, an increase of $16.5 million, or 13.7%, over the second
quarter of 2001. Results from operations reflect the acquisitions of Frank
Schaffer Publications, in May 2001, recorded in McGraw-Hill Education, Corporate
Value Consulting (CVC), in August 2001, recorded in Financial Services and
Financial Times Energy (FT Energy), in September 2001, recorded in Information
and Media Services. In May of 2001, the Financial Services segment divested DRI,
a provider of economic analysis and information. The acquisition of Frank
Schaffer Publications had an immaterial impact on the McGraw-Hill Education
segment for the quarter ended June 30, 2002. CVC added $20.9 million to the
revenue of the Financial Services segment for the second quarter of 2002. FT
Energy added $10.8 million to the revenue of the Information and Media Services
segment for the second quarter of 2002. Beginning January 2002, in accordance
with Statement of Financial Accounting Standards No. 142 (SFAS No. 142),
Goodwill and Other Intangible Assets, the Company no longer amortizes goodwill.
The impact of SFAS No. 142 was $14.5 million pre-tax, or approximately 4 cents
per diluted earnings per share, for the second quarter 2002. The quarter also
reflects the seasonal nature of the Company's educational publishing operations,
with the first quarter the least significant and the third quarter the most
significant.
Net income for the quarter increased $16.5 million over the comparable quarter
in the prior year. Diluted earnings per share for the quarter were 70 cents
versus 61 cents in the prior year, a 14.8% increase. Included in net income for
2001 is the gain on the sale of DRI of $26.3 million after taxes (13 cents per
diluted share, $8.8 million pretax). Also included in net income for 2001 is
$21.9 million after tax charge (11 cents per diluted share, $22.8 million
pretax) for the write-down of selected assets, the shutdown of the Blue List and
the contribution of Rational Investors to mPower.com within the Financial
Services segment. Blue List was a municipal bond service for the secondary
market. Rational Investors was exchanged for an equity position in the online
investment advisory service for the retirement market.
Total expenses in 2002 increased 0.6%. This modest increase is due
primarily to cost containment activities. For 2002, combined printing, paper and
distribution prices are now expected to decrease an additional 0.6% from the
previous estimate, for a total decrease of 3.8%, due to successful supplier
negotiations and weak market conditions.
Interest expense decreased 55.4% to $7.2 million from $16.0 million in the
second quarter of 2002. The primary reason for the decrease is due to the
reduction in the average interest rate for the second quarter in 2002 as
compared to the same period in 2001. The average interest rate on commercial
paper borrowings decreased from 5.1% in 2001 to 1.9% in 2002.
The provision for taxes as a percent of income before taxes is 37.5%, 6.5%
more than the second quarter in 2001. The change in the effective tax rate is
primarily the result of the incremental tax benefit from the divestiture of DRI
in 2001 which did not repeat in 2002.
Segment Review
- --------------
McGraw-Hill Education's revenue increased 1.9% over the prior year's second
quarter to $577.0 million. The operating profit decreased 5.8% to $64.0 million
over the prior year's second quarter. The revenue increase was not enough to
offset a normal expense increase of 3.3%. The segment's operating results
include the acquisition of Frank Schaffer Publications in May of 2001, and the
impact of the accounting change pursuant to Statement of Financial Accounting
Standards No. 142 (SFAS No. 142) Goodwill and Other Intangible Assets. The
acquisition of Frank Schaffer Publications had an immaterial impact on the
McGraw-Hill Education segment for the second quarter of 2002. The impact of SFAS
No. 142 on operating profit for this segment was a favorable $10.2 million.
Solid results in McGraw-Hill Higher Education, Professional and International
Group (HPI) generated the growth in the segment. The segment was negatively
impacted by the seasonal nature of its business, with the first quarter being
the least significant and the third quarter being the most significant. The
anticipated 2002 elementary-high school markets growth rate will be lower than
the originally estimated 0%-4% increase.
<page>
The McGraw-Hill School Education Group's revenue declined 1.4% to $406.5
million, as it was negatively impacted by the change in both adoption and
non-adoption opportunities within key states. The McGraw-Hill School Education
Group experienced reductions primarily in the adoption opportunities within
North Carolina and Texas. North Carolina is adopting music and art in 2002,
which represents a much smaller market than reading and literature in 2001.
Texas also has a smaller adoption in 2002, science versus reading and language
arts in 2001. The McGraw-Hill basal reading program is not meeting expectations
in the Oklahoma and Florida adoptions, however the research-based reading
programs are performing well in Florida, California and the open territories.
Increased accountability for educational performance is resulting in increased
demand for custom testing contracts, because the No Child Left Behind Act
requires testing be matched to state standards.
McGraw-Hill Higher Education, Professional and International Group (HPI) had
revenue increase by 10.9% to $170.5 million. Some of the more important titles
contributing to the increase in revenue were McConnell, Economics, 15/e; Larson,
Fundamental Accounting Principles, 16/e; Garrison, Managerial Accounting, 10/e;
and Schiller, Economy Today, 9/e. The release of the Encyclopedia of Science and
Technology, 9/e also benefited the Group. The change to a "credit card only"
policy at the beginning of 2002 in the direct marketing channel depressed 2002
second quarter revenue but helped margins. Softness in the investing/business
and computer/technology markets dampened growth both domestically and
internationally. While the domestic economy started to weaken in the first
quarter of 2001, the dramatic decline that occurred in the latter half of the
year is still being felt in both of these markets. Increased sales in Latin
America across all disciplines contributed 23% to revenue growth. Increases of
12.7% in revenue in Canada were due to strong higher education and school sales.
Financial Services' revenue increased 13.9% to $416.7 million and operating
profit increased 40.3% to $154.4 million over 2001 second quarter results. The
SFAS No. 142 accounting change contributed $3.6 million to operating profit of
this segment. Results from operations reflect the acquisition of Corporate Value
Consulting (CVC) in August 2001. Corporate Value Consulting (CVC) added $20.9
million to the revenue of the Financial Services' segment. Included in Financial
Services' results in 2001 is the gain on the sale of DRI for $8.8 million pretax
($26.3 million after tax, 13 cents per diluted share). Also impacting Financial
Services' results in 2001 is the write-down of selected assets, the shutdown of
the Blue List and the contribution of Rational Investors to mPower.com in
exchange for equity position in the online investment advisory service for the
retirement market. The total charge for these items was $22.8 million pretax
($21.9 million after tax, 11 cents per diluted share).
The Financial Services segment increased revenue primarily based on the
performance of Structured Finance, representing approximately 40% of the growth,
and the acquisition of CVC. Operating profit grew primarily due to growth in
Structured Finance. New issue dollar volume in the U.S. market was off 5.7% and
unit volume declined 9.9% in the second quarter, according to Securities Data.
In Europe, new dollar volume fell 11.1% and unit volume was off 12.6%, according
to Bondware. U.S. Corporate new issue dollar volume was off 32.1% in the second
quarter while U.S. municipal issuance was up 22.0% and U.S. mortgage-backed
volume climbed 13.3%. U.S. asset-backed issuance was up 27.4%. The internet
redistribution and foreign exchange markets remained soft.
Information and Media Services' revenue decreased $19.8 million, or 9.1% to
$197.7 million from 2001 second quarter results. Operating profit decreased $6.5
million, or 19.7%, to $26.6 million from 2001 second quarter results. The
acquisition of Financial Times Energy, (FT Energy) occurred in September 2001
and contributed $10.8 million to the revenue of the segment in the current
period. The change in accounting pursuant to SFAS No. 142 contributed $0.7
million to operating profit. Revenue declined at the Business-to-Business Group,
by 9.6%, and at Broadcasting, by 5.6%. Both groups were negatively impacted by
the soft advertising market. At Business Week, advertising pages in the second
quarter were off 20.4%, according to the Publishers Information Bureau. At
Broadcasting, weakness in the local advertising markets, an approximate 15%
decline year-to-year for the second quarter, more than offset increased
political revenues. National time sales were up a total of 7%.
<page>
Six Months
- ----------
Consolidated Review
- -------------------
The Segment Review that follows is incorporated herein by reference.
For the first six months of the year, revenue increased 2.1%, or $42.2
million as compared to the six month period ended June 30, 2001. The revenue
increase reflects the solid performance of Standard & Poor's Credit Market
Services. Net income was $165.7 million, an increase of $25.3 million over the
six month period ended June 30, 2001. The Company purchased Frank Schaffer
Publications in May 2001, recorded in McGraw-Hill Education, Corporate Value
Consulting (CVC) in August 2001, recorded in Financial Services and Financial
Times Energy (FT Energy), in September 2001, recorded in Information and Media
Services. The acquisition of Frank Schaffer Publications had an immaterial
impact on the McGraw-Hill Education segment. Corporate Value Consulting (CVC)
added $42.5 million in revenue to the Financial Services segment. FT Energy
contributed $20.7 million to the revenue of Information and Media Services.
Beginning January 2002, in accordance with Statement of Financial Accounting
Standards No. 142 (SFAS No. 142), Goodwill and Other Intangible Assets, the
Company no longer amortizes goodwill. The impact of SFAS No. 142 was $28.5
million pre-tax, or approximately 9 cents per diluted earnings per share, for
the first half 2002 comparative. In May 2001, the Company divested DRI, which
resulted in a $26.3 million after tax gain (13 cents per diluted share, $8.8
million pretax), recorded within the Financial Services segment. Also included
in net income in 2001 in the Financial Services segment was the write-down of
certain assets, the shutdown of the Blue List and the contribution of Rational
Investors to mPower.com in exchange for an equity position in the online
investment advisory service for the retirement market. The total charge for
these items was $21.9 million after tax, (11 cents per diluted share, $22.8
million pretax). Net income also included $6.9 million pretax, 2 cents per
diluted share, related to a gain on the sale of real estate in the first quarter
of 2001, which was recorded as other income on the consolidated statement of
income.
Total expenses remained flat due to cost containment measures including
benefits from the restructuring announced in the fourth quarter of 2001. For
2002, combined printing, paper and distribution prices are now expected to
decrease an additional 0.6% from the previous estimate, for a total decrease of
3.8%, due to successful supplier negotiations and weak market conditions.
Interest expense decreased 58.7% to $13.6 million from $32.9 million in the
first half of 2002. The primary reason for the decrease is the reduction in the
average interest rate as compared to the corresponding period in 2001. The
average interest rate on commercial paper borrowing decreased from 5.6% in 2001
to 1.9% in 2002.
The provision for taxes as a percent of income before taxes was 37.5%, 5.3%
more than the first six months of 2001. The change in the effective tax rate is
primarily the result of the additional tax benefit from the DRI divestiture in
2001, which did not repeat in 2002.
Segment Review
- --------------
McGraw-Hill Education's revenue of $858.6 million was 1.8% lower than the
prior year's first half. The segment posted an operating loss of $7.8 million
for the first six months of 2002 versus an operating profit of $10.2 million in
the prior year. The segment's operating loss is attributable to the seasonal
nature of the business, the global slowdown and softness in the
computer/technology and investing/business markets. The segment's operating
results include the acquisition of Frank Schaffer Publications in May of 2001,
and the impact of the accounting change pursuant to Statement of Financial
Accounting Standard No. 142 (SFAS No. 142) Goodwill and Other Intangible Assets.
Frank Schaffer Publications had an immaterial impact on the McGraw-Hill
Education segment for the first half of 2002. The impact of SFAS No. 142 on this
segment was a favorable $19.8 million. The anticipated 2002 elementary-high
school markets growth rate will be lower than the originally estimated 0%-4%
increase.
The McGraw-Hill School Education Group had revenue decrease by 3.2% to
$550.8 million. The McGraw-Hill School Education Group was negatively impacted
by the change in both adoption and non-adoption opportunities within key states.
The McGraw-Hill School Education Group experienced reductions primarily in the
adoption opportunities within North Carolina, California and Texas. In
California in 2001, a large sale to the Los Angeles school district of Open
Court Reading, will not be repeated in 2002. Increased accountability for
educational performance is resulting in increased demand for custom testing
contracts, because the No Child Left Behind Act requires testing be matched to
state standards.
<page>
The McGraw-Hill Higher Education, Professional and International Group
increased revenue by 1.0% to $307.8 million primarily from the performance of
its frontlist sales. Some of the more important titles include McConnell,
Economics, 15/e; Larson, Fundamental Accounting Principles, 16/e; Garrison,
Managerial Accounting, 10/e; and Schiller, Economy Today, 9/e. The successful
release of Harrison's Principles of Internal Medicine, 15/e, in the first
quarter 2001 will not be repeated in 2002. The change to a "credit card only"
policy at the beginning of 2002 in the direct marketing channel depressed 2002
first half revenue but increased margins. Softness in the investing/business and
computer/technology markets continued both domestically and internationally.
While the domestic economy started to weaken in the first quarter of 2001, the
dramatic decline that occurred in the latter half of the year is still being
felt in both these markets.
Financial Services' revenue increased 12.2% to $797.6 million and operating
profit increased 32.8% to $287.7 million over 2001 first half results. The SFAS
No. 142 accounting change contributed $7.1 million to the operating profit of
this segment. The acquisition of CVC contributed $42.5 million to revenue of the
segment for the first half of 2002. Structured Finance accounted for
approximately 40% of the growth in revenues for the segment for the first half
of 2002. New issue dollar volume in the U.S. market was off 6.8% and unit volume
declined 4.4% in the first half, according to Securities Data. In Europe, new
issue dollar volume fell 17.4% and unit volume was off 13.3%, according to
Bondware. U.S. Corporate new issue dollar volume was off 27.4% in the first half
while U.S. municipal issuance was up 18.8% and U.S. mortgage-backed volume
climbed 22.9%. U.S. asset-backed issuance was up 13.0%. The internet
redistribution and foreign exchange markets continued to be soft.
Information and Media Services' revenue decreased $29.1 million, or 7.1%,
to $381.9 million from 2001 first half results. Operating profit decreased $8.2
million, or 17.6%, to $38.5 million from 2001 first half results. The
acquisition of Financial Times Energy (FT Energy) in September 2001 contributed
$20.7 million to revenue for the first half of 2002. The change in accounting
pursuant to SFAS No. 142 contributed $1.6 million to operating profit for the
period. Revenue at the Business-to-Business Group declined by $25.5 million and
at the Broadcasting Group by $3.6 million as compared to the first half of 2001.
Softness in advertising was experienced in both groups. At Business Week,
advertising pages in the first half were off 26.0%, according to the Publishers
Information Bureau, with one fewer issue published, but the same number of
issues recognized for revenue recognition purposes. At Broadcasting, weakness in
the local advertising markets, a decrease of 16.2%, offset growth in national
time sales, which increased 5.7%.
Critical Accounting Policies
- ----------------------------
The SEC issued Financial Reporting Release No. 60, "Cautionary Advice
Regarding Disclosure About Critical Accounting Policies" ("FRR 60"), relating to
the provision of additional disclosure and commentary on those accounting
policies of the Company considered most critical. FRR 60 considers an accounting
policy to be critical if it is important to the Company's financial condition
and results, and requires significant judgment and estimates on the part of
management in its application. The Company believes the following represent its
critical accounting policies as contemplated by FRR 60.
Revenue is generally recognized when goods are shipped to customers or
services are rendered. Units whose revenue is principally from service contracts
record revenue as earned. Revenue relating to agreements which provide for more
than one service is recognized based upon the fair value to the customer of each
service component and as each component is earned. If the fair value to the
customer for each service is not objectively determinable, revenue will be
recognized ratably over the service period. Fair value is determined for each
service component through a bifurcation analysis which relies upon the pricing
of similar cash arrangements that are not part of the multi-element arrangement.
Advertising revenue is recognized when the page is run or the spot is aired.
Subscription income is recognized over the related subscription period.
<page>
The accounts receivable reserve methodology is based on historical analysis
and a review of outstanding balances. A significant estimate in the McGraw-Hill
Education segment, and particularly within the Higher Education, Professional
and International Group, is the allowance for sales returns, which is based on
the historical rate of return and current market conditions. Prepublication
costs, principally outside preparation costs, are amortized from the year of
publication over their estimated useful lives, primarily three to five years,
using either the accelerated or the straight-line method. The majority of the
programs are amortized using an accelerated methodology. It is the Company's
policy to evaluate the remaining lives and recoverability of such costs, which
is sometimes dependent upon program acceptance by state adoption authorities,
based on expected undiscounted cash flows. The Company reviews long-lived
assets, including intangible assets, and goodwill for impairment annually, or
sooner whenever events or changes in circumstances indicate the carrying amounts
of such assets may not be recoverable. Upon such an occurrence, recoverability
of these assets is determined as follows. For long-lived assets that are held
for use, the Company compares the forecasted undiscounted net cash flows to the
carrying amount. If the long-lived asset is determined to be unable to recover
the carrying amount, then it is written down to fair value. For long-lived
assets held for sale, assets are written down to fair value. Fair value is
determined based on discounted cash flows, appraised values or management's
estimates, depending upon the nature of the assets. Intangibles with indefinite
lives are tested by comparing their carrying amounts to fair value. Impairment
within goodwill is tested using a two step method. The first step is to compare
the fair value of the reporting unit to its book value, including goodwill. If
the fair value of the unit is less than its book value, the Company then
determines the implied fair value of goodwill by deducting the fair value of the
reporting unit's assets from the fair value of the reporting unit's goodwill. If
the book value of goodwill is greater than its implied fair value, the Company
writes down goodwill to its implied fair value.
Financial Condition
- -------------------
The Company continues to maintain a strong financial position. Cash flow from
operations of $171.7 million decreased by $8.4 million in 2002 compared with
$180.1 million in the first half of 2001. The decrease in cash provided by
operating activities primarily relates to a decrease in other current
liabilities caused by payments related to the restructuring reserves set up in
the fourth quarter of 2001. Also reducing other current liabilities in 2002 is
the offset of current assets to previously established reserves for the final
closedown of the former Continuing Education Center, resulting in no cash or
income statement impact. Total debt increased $106.9 million since year-end,
reflecting the seasonal spending on inventory and prepublication costs and
dividend payments. The Company's strong presence in the school and higher
education markets significantly impacts the seasonality of its earnings and
borrowing patterns during the year, with the Company borrowing during the first
half of the year and generating cash in the second half of the year, primarily
in the fourth quarter.
Commercial paper borrowings at June 30, 2002 totaled $1.1 billion, an
increase of $122.6 million from December 31, 2001. The Company's 364-day
revolving credit facility agreement provided that the Company could borrow until
August 13, 2002, on which date the facility commitment terminates and the
maturity of such borrowings may not be later than August 13, 2003. On July 23,
2002, the Company replaced this credit facility with a new 364-day credit
facility that allows it to borrow until July 22, 2003, on which date the
facility agreement terminates and the maturity of such borrowings may not be
later than July 22, 2004. The Company continues to pay a facility fee of 5 basis
points on the 364-day facility (whether or not amounts have been borrowed) and
borrowings may be made at 15 points above LIBOR. The commercial paper borrowings
are also supported by a $625 million 5-year revolving credit facility. All of
the facilities contain certain covenants, and the only financial covenant
requires that the Company not exceed indebtedness to cash flow ratio, as
defined, of 4 to 1 at any time. This restriction has never been exceeded. At
June 30, 2002 there were no borrowings under any of the facilities. Eighty
percent or $898.2 million of the commercial paper borrowings outstanding are
classified as long-term.
Extendible Commercial Notes (ECNs) replicate commercial paper, except that
the Company has an option to extend the note beyond its initial redemption date
to a maximum final maturity of 390 days. However, if exercised, such an
extension is at a higher reset rate, which is at a predetermined spread over
LIBOR, and is related to the Company's commercial paper rating at the time of
extension. As a result of the extension option, no backup facilities for these
borrowings are required. As is the case with commercial paper, ECNs have no
financial covenants. There were $25 million in ECNs outstanding at June 30,
2002.
<page>
Under a shelf registration that became effective with the Securities and
Exchange Commission in 1990, an additional $250 million of debt securities can
be issued. Debt could be used to replace a portion of the commercial paper
borrowings with longer-term securities if and when market conditions warrant.
Gross accounts receivable of $1.2 billion decreased $101.7 million from the
end of 2001 primarily from seasonal collections from the educational publishing
business. Inventory increased $53.0 million from the end of 2001 to $455.6
million as the Company prepares itself for the school and higher education
publishing selling season later this year.
Net prepublication costs increased $8.0 million from the end of 2001 to
$565.3 million due to spending for school, higher education, children's and
professional publishing titles. Prepublication cost spending in the first half
of 2002 totaled $114.9 million which was comparable to the spending in the
first half of 2001. Prepublication cost spending is expected to increase over
the remainder of the year totaling an estimated $300.0 million. Purchases of
property and equipment were $26.9 million, $14.2 million lower than the prior
year. Spending is expected to be lower than the comparative prior year period
for the remainder of the year.
The Board of the Directors approved a 4.1% increase in the quarterly common
stock dividend to 25.5 cents per share in January 2002. In 1999, the Board of
Directors authorized a stock repurchase program of up to 15 million shares. The
repurchased shares will be used for general corporate purposes, including the
issuance of shares for the exercise of employee stock options. Purchases under
this program may be made from time to time on the open market and in private
transactions depending on market conditions. Approximately 10.4 million shares
have been repurchased under this program through June 30, 2002.
In the fourth quarter of 2001, the Company announced a worldwide restructuring
program that includes the exiting of certain businesses, product lines and
markets in each of its operating segments. The restructuring expenses were
classified as operating expenses on the Consolidated Statement of Income at
December 31, 2001 and consisted of $30.2 million in employee severance and
benefit costs and $128.8 million in asset impairment losses. The planned
workforce reduction of 925 people related to the exiting of certain business
activities, product lines and publishing programs to be discontinued or
curtailed, and other efforts to improve the effectiveness of the organization.
Through June 30, 2002, 773 employees have been terminated and $15.6 million of
employee severance and benefit costs were paid. The restructuring is expected to
be completed by December 31, 2002. At June 30, 2002 the remaining reserve, which
is included in other current liabilities, was approximately $23.5 million and
comprised $14.6 million for employee severance and benefit costs and $8.9
million for other cost, primarily, contract termination costs.
Market Risk
- -----------
The Company has operations in various foreign countries. The functional currency
is the local currency for all locations, except in the McGraw-Hill Education
segment where operations that are extensions of the parent have the U.S. dollar
as the functional currency. In the normal course of business, these operations
are exposed to fluctuations in currency values. The Company does not generally
enter into derivative financial instruments in the normal course of business,
nor are such instruments used for speculative purposes. The Company has
naturally hedged positions in most countries with a local currency perspective
and asset and liability offsets. The gross amount of the Company's foreign
exchange positions is $119 million, and management has estimated using a value
at risk analysis with 90% certainty that based on the historical volatilities of
the portfolio that the foreign exchange losses will not exceed $11.3 million
over the next year. The Company's interest expense is sensitive to changes in
the general level of U.S. interest rates. Based on average debt outstanding over
the past six months, the following is the projected impact on interest expense
on current operations:
-------------------------------------------------------------------
Percent change in interest Projected impact on operations
rates (+/-) (millions)
-------------------------------------------------------------------
1% $5.1
-------------------------------------------------------------------
"Safe Harbor" Statement Under the Private Securities Litigation
---------------------------------------------------------------
Reform Act of 1995
------------------
This section, as well as other portions of this document, includes certain
forward-looking statements about the Company's business, new products, sales,
expenses, cash flows, spending, and operating and capital requirements. Such
forward-looking statements include, but are not limited to: Educational
Publishing's level of success in 2002 adoptions and non-adoptions; the level of
educational funding; the strength of higher education, professional and
international publishing markets; the level of interest rates and the strength
of profit levels and the capital markets in the U.S. and abroad with respect to
Standard & Poor's Credit Market Services; the strength of the domestic and
international advertising markets; Broadcasting's level of advertising; and the
level of future cash flow, debt levels, capital and other expenditures and
prepublication cost investment.
<page>
Actual results may differ materially from those in any forward-looking
statements because any such statements involve risks and uncertainties and are
subject to change based upon various important factors, including, but not
limited to, worldwide economic, financial and political conditions, currency and
foreign exchange volatility, the health of capital and equity markets, including
future interest rate changes, the level of funding in the education market (both
domestically and internationally), the pace of recovery of the economy and in
advertising, the successful marketing of new products, and the effect of
competitive products and pricing.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
- ------ ------------------------------------------------------------------
The Company has no material changes to the disclosure made on this matter in the
Company's report on Form 10-K for the year ended December 31, 2001. Please see
the financial condition section of this 10-Q for additional market risk
disclosures in Item 2.
Part II
-------
Other Information
------------------
Item 1. Legal Proceedings
- ------ -----------------
While the Registrant and its subsidiaries are defendants in
numerous legal proceedings in the United States and abroad,
neither the Registrant nor its subsidiaries are a party to, or
any of their properties subject to, any known material pending
legal proceedings which Registrant believes will result in a
material adverse effect on its financial statements or business
operations.
Item 4. Submission of Matters to a Vote of Security Holders
- ------- ---------------------------------------------------
(a) The 2001 Annual Meeting of Shareholders of the Registrant
was held on April 24, 2002.
(b) The following nominees, having received the FOR votes set
forth opposite their respective names, constituting a
plurality of the votes cast at the Annual Meeting for the
election of Directors, were duly elected Directors of the
Registrant for three year terms:
DIRECTOR FOR WITHHOLD AUTHORITY
- -------- --- ------------------
Sir Winfried Bischoff 155,695,510 1,614,574
Linda Koch Lorimer 156,567,597 742,487
Harold W. McGraw III 156,597,047 713,037
The terms of office of the following directors continued after
the meeting:
Pedro Aspe, Vartan Gregorian, Robert P. McGraw, Lois Dickson
Rice, James H. Ross, Edward B. Rust, Jr. and Sidney Taurel.
(c) (i) Shareholders approved the adoption of the 2002 Stock
Incentive Plan. The vote was 104,547,993 shares FOR and
52,187,980 shares AGAINST, with 574,111 shares
abstaining and no broker non-votes.
(ii) Shareholders ratified the appointment of Ernst & Young
LLP as independent auditors for the Registrant and its
subsidiaries for 2002. The vote was 151,388,896 shares
FOR and 5,638,115 shares AGAINST, with 283,073 shares
abstaining and no broker non-votes.
(iii) Shareholders approved the proposal requesting shareholder
vote on poison pills. The vote was 74,852,162 shares
FOR and 63,829,288 shares AGAINST, with 2,716,985
shares abstaining and no broker non-votes.
Item 6. Exhibits and Reports on Form 8-K Page Number
- ------ -------------------------------- -----------
(a) Exhibits
(10) 2002 Stock Incentive Plan;
(12) Computation of Ratio of Earnings to Fixed
Charges; 29
(99) Pro-Forma Presentation of Impact of FAS No. 142,
Goodwill and Intangible Assets, As of
January 1, 1999 30
(b) Reports on Form 8-K
No report on Form 8-K was filed during the
second quarter.
<page>
Signatures
----------
Pursuant to the requirements of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
The McGraw-Hill Companies, Inc.
-------------------------------
Date: By
-------------------------- -----------/s/----------------
Robert J. Bahash
Executive Vice President
and Chief Financial Officer
Date: By
-------------------------- ----------/s/-----------------
Kenneth M.Vittor
Executive Vice President
and General Counsel
Date: By
-------------------------- ---------/s/------------------
Talia M. Griep
Senior Vice President
and Corporate Controller
<page>
Exhibit 10
THE McGraw-HILL COMPANIES, INC.
2002 Stock Incentive Plan
<page>
Table of Contents
Page
SECTION 1. Purpose: Definitions...........................................1
SECTION 2. Administration.................................................3
SECTION 3. Stock Subject to Plan..........................................5
SECTION 4. Eligibility....................................................6
SECTION 5. Stock Options..................................................6
(a) Option Price.........................................................6
(b) Option Term..........................................................6
(c) Exercisability.......................................................7
(d) Method of Exercise...................................................7
(e) Non-Transferability of Options.......................................8
(f) Termination by Death.................................................8
(g) Termination by Reason of Disability..................................8
(h) Termination by Reason of Retirement..................................8
(i) Termination by Reason of a Division Sale...............................9
(j) Other Termination......................................................9
SECTION 6. Stock Appreciation Rights......................................9
(a) Grant and Exercise...................................................9
(b) Terms and Conditions................................................10
SECTION 7. Stock Awards..................................................10
(a) Stock Awards in General.............................................10
(b) Performance Stock...................................................10
(c) Restricted Stock....................................................11
(d) Conditions of Stock Awards..........................................11
(e) Restrictions and Conditions of Shares...............................11
SECTION 8. Other Stock-Based Awards......................................13
(a) Other Stock-Based Awards in General.................................13
(b) Terms and Conditions................................................13
SECTION 9. Qualifying Awards.............................................14
(a) General.............................................................15
(b) Qualifying Stock Options and Stock Appreciation Rights..............15
(c) Qualifying Awards other than Stock Options and Stock
Appreciation Rights.............................................15
SECTION 10. Change In Control Provisions..................................16
(a) Impact of Event.....................................................16
(b) Definition of "Change in Control"...................................17
(c) Change in Control Price.............................................18
SECTION 11. Amendments and Termination....................................19
SECTION 12. Unfunded Status of Plan.......................................19
SECTION 13. General Provisions............................................19
SECTION 14. Effective Date and Duration of Plan...........................20
<page>
THE McGraw-HILL COMPANIES, INC.
-------------------------------
2002 Stock Incentive Plan
-------------------------
SECTION 1...Purpose: Definitions.
---------------------
The purpose of The McGraw-Hill Companies, Inc. 2002 Stock Incentive Plan
(the "Plan") is to enable the Company to offer its employees long-term
performance-based stock incentives and other equity interests in McGraw-Hill,
thereby attracting, retaining and rewarding such employees, and strengthening
the mutuality of interests between employees and McGraw-Hill's shareholders.
For purposes of the Plan, the following terms shall be defined as set forth
below:
(a) "Aggregate Limit" shall have the meaning set forth in Section 3(a).
(b) "Award" means a Stock Option, Stock Appreciation Right, Stock Award,
Other Stock-Based Award or Qualifying Award.
(c) "Award Documentation" shall have the meaning set forth in Section 2(d).
(d) "Board" means the Board of Directors of McGraw-Hill.
(e) "Cause" shall mean, except as otherwise defined in an employee's
employment agreement or the Award documentation in respect of an Award, the
employee's misconduct in respect of the employee's obligations to the Company or
other acts of misconduct by the employee occurring during the course of the
employee's employment, which in either case results in or could reasonably be
expected to result in material damage to the property, business or reputation of
the Company; provided that in no event shall unsatisfactory job performance
alone be deemed to be "Cause"; and provided further that no termination of
employment that is carried out at the request of a person seeking to accomplish
a Change in Control or otherwise in anticipation of a Change in Control shall be
deemed to be for "Cause".
(f) "Change in Control" and "Change in Control Price" shall have meanings
set forth, respectively, in Sections 10(b) and (c).
(g) "Code" means the Internal Revenue Code of 1986, as amended from time to
time, and any successor thereto.
(h) "Commission" means the Securities and Exchange Commission or any
successor thereto.
(i) "Committee" means the Compensation Committee of the Board. If at any
time no Committee shall be in office, then the functions of the Committee
specified in the Plan shall be exercised by the Board or by a committee of Board
members.
(j) "Company" means McGraw-Hill and all domestic and foreign corporations,
partnerships and other legal entities of which at least 20% of the voting
securities or ownership interests in such corporations, partnerships or other
legal entities are owned directly or indirectly by McGraw-Hill.
(k) "Disability" means, with respect to an Award, disability as defined
under the Company's long-term disability plan applicable to the recipient of
such Award.
(l) "Division Sale" means the sale, transfer, or other disposition to a
third party not affiliated with the Company of substantially all of the assets
or all of the capital stock of a business unit of the Company, but excluding a
Change in Control.
(m) "Early Retirement" means retirement from the Company on or after
attaining age 55, but before attaining age 65, after having completed at least
10 years of service with the Company and being eligible to receive Company
pension benefits.
<page>
(n) "Effective Date" shall have the meaning set forth in Section 14.
(o) "Exchange Act" means the Securities Exchange Act of 1934, as amended
from time to time, and any successor thereto.
(p) "Fair Market Value" for purposes of this Plan, unless otherwise
required by any applicable provision of the Code or any regulations issued
thereunder, shall mean, as of any given date, the mean between the highest and
lowest prices at which the Stock is actually traded on such date as reported on
the Consolidated Transaction Reporting System, or, if there is no sale of the
Stock on such date, the mean between the bid and asked prices on such Exchange
at the close of the market on such date or, if there is no bid and asked
activity on such date, such value as may be determined by the Committee in good
faith.
(q) "Incentive Stock Option" means any Stock Option intended to be and
designated as an "Incentive Stock Option" within the meaning of Section 422 of
the Code.
(r) "Individual Limit" shall have the meaning set forth in Section 3(a).
(s) "ISO Limit" shall have the meaning set forth in Section 3(b).
(t) "Limited Stock Appreciation Right" shall have the meaning set forth in
Section 6(b)(iv).
(u) "McGraw-Hill" means The McGraw-Hill Companies, Inc., a corporation
organized under the laws of the State of New York, or any successor corporation.
(v) "Non-Qualified Stock Option" means any Stock Option that is not an
Incentive Stock Option.
(w) "Normal Retirement" means retirement from active employment with the
Company on or after age 65.
(x) "Other Stock-Based Award" means an award under Section 8 that is
payable in cash or Stock and is valued in whole or in part by reference to, or
is otherwise based on, Stock.
(y) "Outstanding Common Stock" shall have the meaning set forth in Section
10(b)(i).
(z) "Outstanding Voting Securities" shall have the meaning set forth in
Section 10(b)(i).
(aa) "Performance Stock" means an award of shares of Stock under Section 7
whose vesting and forfeiture restrictions relate to the attainment of
performance goals and objectives.
(bb) "Plan" means The McGraw-Hill Companies, Inc. 2002 Stock Incentive
Plan, as hereinafter amended from time to time, including any rules, guidelines
or interpretations of the Plan adopted by the Committee.
(cc) "Qualifying Award" means an Award made in accordance with the
provisions of Section 9.
(dd) "Restricted Stock" means an award of shares of Stock under Section 7
whose vesting and forfeiture restrictions relate to the participant's continued
service with the Company for a specified period of time.
(ee) "Restriction Period" shall have the meaning set forth in Section
7(e)(ii).
(ff) "Retirement" means Normal or Early Retirement.
(gg) "Stock" means the Common Stock, $1.00 par value per share, of
McGraw-Hill.
<page>
(hh) "Stock Award" means an award of Performance Stock or Restricted Stock
under Section 7.
(ii) "Stock Appreciation Right" means the right granted under Section 6 to
surrender to the Company all (or a portion) of a Stock Option in exchange for an
amount equal to the difference between (i) the Fair Market Value, as of the date
such Stock Option (or such portion thereof) is surrendered, of the shares of
Stock covered by such Stock Option (or such portion thereof), and (ii) the
aggregate exercise price of such Stock Option (or such portion thereof).
(jj) "Stock Option" means any option to purchase shares of Stock granted
under Section 5.
SECTION 2...Administration.
---------------
(a) The Plan shall be administered by the Committee. The Committee shall
have full authority to grant Awards, pursuant to the terms of the Plan, to
officers and other employees eligible under Section 4.
In particular, the Committee shall have the authority:
(i) to select the officers and other employees of the Company to whom
Awards may from time to time be granted;
(ii) to determine whether and to what extent the individual types of Awards
are to be granted to one or more eligible employees;
(iii) to determine the number of shares to be covered by each Award;
(iv) to determine the terms and conditions, not inconsistent with the terms
of the Plan, of any Award (including, but not limited to, the share price, any
restriction or limitation, the granting of restoration options, or any vesting
acceleration or forfeiture waiver, based on such factors as the Committee shall
determine, in its sole discretion);
(v) to determine whether, to what extent and under what circumstances
grants of Awards are to operate on a tandem basis or in conjunction with or
apart from cash awards made by the Company outside of this Plan; and
(vi) to determine whether, to what extent and under what circumstances a
Stock Option may be settled in cash.
(b) Subject to Section 11 hereof, the Committee shall have the authority to
adopt, alter and repeal such administrative rules, guidelines and practices
governing the Plan as it shall, from time to time, deem advisable; to interpret
the terms and provisions of the Plan and any Award (and any agreements relating
thereto); and to otherwise supervise the administration of the Plan.
Subject to Section 11 hereof, all decisions made by the Committee pursuant
to the provisions of the Plan shall be made in the Committee's sole discretion
and shall be final and binding on all persons, including the Company and Plan
participants.
(c)...The Committee may, but need not, from time to time delegate some or
all of its authority under the Plan to one or more members of the Committee or
to one or more officers of the Company; provided, however, that the Committee
may not delegate its authority under Section 2(b) or its authority to make
Qualifying Awards or Awards to participants who are delegated authority
hereunder or who are subject to the reporting rules under Section 16(a) of the
Exchange Act at the time the Award is made. Any delegation hereunder shall be
subject to the restrictions and limits that the Committee specifies at the time
of such delegation or thereafter. Nothing in the Plan shall be construed as
obligating the Committee to delegate any authority to any person or persons
hereunder. The Committee may, at any time, rescind any delegation hereunder and
any person or persons who are delegated authority hereunder shall, at all times,
serve in such capacity at the pleasure of the Committee. Any action undertaken
by any person or persons in accordance with a delegation hereunder shall have
the same force and effect as if undertaken directly by the Committee, and any
reference in the Plan to the Committee shall, to the extent consistent with the
terms and limitations of such delegation, be deemed to include a reference to
such person or persons.
(d)...In connection with the grant of an Award, the Committee shall specify
the form of award documentation (the "Award Documentation") to set forth the
terms and conditions of the Award. Award Documentation may include, without
limitation, an agreement signed by the participant and the Company or a
certificate signed only by the Company. Award Documentation may be in written,
electronic or other form approved by the Committee.
<page>
SECTION 3...Stock Subject to Plan.
----------------------
(a) The total number of shares of Stock reserved and available for
distribution under the Plan shall be 4.9% of the number of issued and
outstanding shares as of the shareholder record date for the Annual Meeting of
Shareholders to be held on April 24, 2002 (the "Aggregate Limit"). Such shares
may consist, in whole or in part, of authorized and unissued shares or treasury
shares. The Aggregate Limit shall be reduced by the number of shares of Stock
subject to any Award, unless the terms of such Award preclude the distribution
of such Stock in settlement of such Award. No eligible person may be granted
under the Plan in any 60-month period Stock Options (including, for this
purpose, Stock Options granted in tandem with a Stock Appreciation Right or
Limited Stock Appreciation Right) or Other Stock-Based Awards in the form of
stock appreciation rights which, in the aggregate, cover more than 2,000,000
shares of Stock (the "Individual Limit").
(b) The aggregate number of shares of Stock subject to Stock Awards and
Other Stock-Based Awards shall not exceed 33% of the Aggregate Limit. There
shall be no comparable limitation, however, on the aggregate number of shares of
Stock subject to Stock Options or Stock Appreciation Rights; provided, however,
that the aggregate number of shares of Stock subject to Incentive Stock Options
granted under this Plan shall not exceed 4.9% of the number of issued and
outstanding shares as of the shareholder record date for the Annual Meeting of
Shareholders to be held on April 24, 2002 (the "ISO Limit").
(c) The Aggregate Limit shall be increased by shares of Stock that are
(i) subject to any Award that is forfeited, settled in cash or property
other than Stock, or are otherwise not distributable under the Award, unless the
terms of such Award preclude the distribution of Stock in settlement of such
Award;
(ii) tendered to pay the exercise or purchase price of an Award;
(iii) withheld or tendered to satisfy applicable wage or other required
withholding in connection with the exercise, vesting or payment of, or other
event related to, an Award; or
(iv) repurchased by the Company with the option proceeds (determined under
generally accepted accounting principles) in respect of the exercise of a Stock
Option; provided, however, that the Aggregate Limit shall not be increased under
this Section 3(c)(iv) in respect of any Stock Option by a number of shares of
Stock greater than (A) the amount of such proceeds, divided by (B) the Fair
Market Value on the date of exercise.
(d) In the event of any merger, reorganization, consolidation,
recapitalization, Stock dividend (other than a dividend or its equivalent which
is credited to a Plan participant or a regular cash dividend), Stock split,
spinoff or other change in corporate structure affecting the Stock, such
substitution or adjustment shall be made in the aggregate number and the kind of
shares reserved for issuance under the Plan, in the maximum number of shares
issuable to any single participant, in the number, kind and option price of
shares subject to outstanding Stock Options, and in the number and kind of the
shares subject to other outstanding Awards, as may be determined to be
appropriate by the Committee, in its sole discretion. Such adjusted option price
shall also be used to determine the amount payable by the Company upon the
exercise of any Stock Appreciation Right associated with any Stock Option.
(e) The Aggregate Limit shall not be reduced by shares subject to Awards
granted in substitution of awards granted by a business or entity that is
acquired by, or whose assets are acquired by, the Company.
<page>
SECTION 4...Eligibility.
------------
Officers and other employees of the Company (but excluding members of the
Committee and any person who serves only as a director of the Board) who are
responsible for or contribute to the management, growth or profitability of the
business of the Company are eligible for Awards. Eligibility under the Plan
shall be determined solely by the Committee.
SECTION 5...Stock Options.
--------------
Stock Options may be granted alone or in addition to other Awards. Stock
Options shall be in such form as the Committee may from time to time approve.
Stock Options may be of two types: (i) Incentive Stock Options and (ii)
Non-Qualified Stock Options.
The Committee shall have the authority to grant to any optionee Incentive
Stock Options, Non-Qualified Stock Options or both types of Stock Options (in
each case with or without Stock Appreciation Rights); provided, however, that
the Committee may not grant to any participant Incentive Stock Options in
respect of shares constituting part of the ISO Limit on or after the tenth
anniversary of the earlier of (i) the date of the approval of the Plan by the
Board or (ii) the Effective Date.
Stock Options shall be subject to the following terms and conditions and
shall contain such additional terms and conditions, including the grant of
restoration options, not inconsistent with the terms of the Plan, as the
Committee shall deem desirable:
(a) Option Price. The option price per share of Stock subject to a Stock
Option shall be determined by the Committee at the time of grant but shall be
not less than 100% of the Fair Market Value of the Stock at grant.
(b) Option Term. The option term of each Stock Option shall be fixed by the
Committee; provided however, that no Stock Option shall be exercisable more than
ten years after the date of grant.
(c) Exercisability(i) Stock Options shall be exercisable at such time or
times and subject to such terms and conditions as shall be determined by the
Committee at or after grant; provided, however, that, except as provided in
Sections 5(f), (g), (h) and (i) and Section 10, unless the Committee otherwise
determines at or after the time of grant, no Stock Option shall be exercisable
prior to the first anniversary of the date of grant. If the Committee provides,
in its discretion, that any Stock Option is exercisable only in installments,
the Committee may waive such installment exercise provisions at any time at or
after grant in whole or in part, based on such factors as the Committee shall
determine, in its sole discretion.
(ii) Notwithstanding anything in this Section 5 to the contrary, if an
optionee dies during a post-termination exercise period under Section 5(g), (h),
(i) or (j), any unexercised Stock Option held by such optionee shall thereafter
be exercisable, to the extent to which it was exercisable at the time of death,
for a period of one year from the date of death or, in the case of an Incentive
Stock Option, for a period of one year from the date of death or until the
expiration of the option term, whichever period is shorter.
(d) Method of Exercise.
(i) Subject to whatever installment exercise and waiting period provisions
apply under Section 5(c), Stock Options may be exercised in whole or in part at
any time during the option term, by giving written notice of exercise to the
Company specifying the number of shares to be purchased. Subject to Section
5(d)(iv), such notice shall be accompanied by payment in full of the option
price in such form as the Committee may accept.
<page>
(ii) If and to the extent determined by the Committee in its sole
discretion at or after grant, payment in full or in part may also be made in the
form of unrestricted Stock duly owned by the optionee (and for which the
optionee has good title free and clear of any liens and encumbrances) based, in
each such case, on the Fair Market Value of the Stock on the last trading date
preceding payment, as determined by the Committee. Unless otherwise determined
by the Committee at or after the time of grant, such payment may be made by
constructive delivery of such shares of owned and unrestricted Stock pursuant to
an attestation or other similar form as determined by the Committee.
(iii) Subject to Section 5(d)(iv), no shares of Stock shall be distributed
until payment therefore, as provided herein, has been made. An optionee shall
generally have the rights to dividends or other rights of a shareholder with
respect to shares subject to the Stock Option when the optionee has given
written notice of exercise, has paid for such shares as provided herein, and, if
requested, has given the representation described in Section 13(a).
(iv) Stock Options may also be exercised pursuant to a cashless exercise
procedure approved by the Committee pursuant to which shares of Stock are sold
by a broker or other appropriate third party on the market with the proceeds of
such sale (or, if applicable, extension of credit by such broker) remitted to
the Company to pay the exercise price of the Stock Option and the applicable
withholding taxes, and the balance of such proceeds (less commissions and other
expenses of such sale) paid to the optionee.
(e) Non-Transferability of Options. Unless the Committee determines
otherwise at or after grant, no Stock Option shall be transferable by the
optionee otherwise than by will or by the laws of descent and distribution, and,
unless the Committee determines otherwise at or after grant, all Stock Options
shall be exercisable, during the optionee's lifetime, only by the optionee.
(f) Termination by Death. Unless the Committee otherwise determines at or
after the time of grant, if an optionee's employment by the Company terminates
by reason of death, any Stock Option held by such optionee shall be fully vested
and may thereafter be exercised by the legal representative of the estate or by
the legatee of the optionee under the will of the optionee, for a period of one
year (or such other period as the Committee may specify at or after grant) from
the date of death or, for an Incentive Stock Option, for a period of one year
from the date of death or until the expiration of the option term, whichever
period is the shorter.
(g) Termination by Reason of Disability. Unless the Committee otherwise
determines at or after the time of grant, if an optionee's employment by the
Company terminates by reason of Disability, any Stock Option held by such
optionee shall be fully vested and may thereafter be exercised by the optionee,
subject to Section 5(c)(ii), for a period of three years (or such other period
as the Committee may specify at or after grant) from the date of such
termination of employment or until the expiration of the option term, whichever
period is the shorter.
(h) Termination by Reason of Retirement. Unless the Committee otherwise
determines at or after the time of grant, if an optionee's employment by the
Company terminates by reason of Normal Retirement, any Stock Option held by such
optionee shall be fully vested and may thereafter be exercised by the optionee,
subject to Section 5(c)(ii), for a period of three years (or such other period
as the Committee may specify at or after grant) from the date of such
termination of employment or the expiration of the option term, whichever period
is the shorter. Unless the Committee otherwise determines at or after the time
of grant, if an optionee's employment with the Company terminates by reason of
Early Retirement, any Stock Option held by such optionee may thereafter be
exercised by the optionee to the extent it was exercisable at the date of
retirement, subject to Section 5(c)(ii), for a period of three years (or such
other period as the Committee may specify at or after grant) from the date of
such termination of employment or the expiration of the option term, whichever
period is the shorter. If and only if the Committee so approves at the time of
Early Retirement, if an optionee's employment with the Company terminates by
reason of Early Retirement, any Stock Option held by the optionee shall be fully
vested and may thereafter be exercised by the optionee as provided above in
connection with termination of employment by reason of Normal Retirement.
<page>
(i) Termination by Reason of a Division Sale. Unless the Committee
otherwise determines at or after the time of grant, if an optionee's employment
by the Company terminates by reason of a Division Sale, any Stock Option held by
such optionee shall be fully vested and may thereafter be exercised by the
optionee, subject to Section 5(c)(ii), for a period of six months (or such other
period as the Committee may specify at or after grant) from the date of such
termination of employment or until the expiration of the option term, whichever
period is the shorter; provided, however, that, if the optionee shall be, on the
date of the Division Sale, eligible for Early Retirement, any unexercised Stock
Option held by such optionee may thereafter be exercised by the optionee,
subject to Section 5(c)(ii), until the expiration of the option term.
(j) Other Termination. Unless the Committee otherwise determines at or
after the time of grant, if an optionee's employment terminates for any reason
other than death, Disability, Retirement, Division Sale or for Cause, any Stock
Option held by such optionee may thereafter be exercised by the optionee to the
extent it was exercisable at the date of termination, subject to Section
5(c)(ii), for a period of six months (or such other period as the Committee may
specify at or after grant) from the date of such termination of employment or
until the expiration of the option term, whichever period is the shorter. If an
optionee's employment with the Company is involuntarily terminated by the
Company for Cause, the Stock Option shall thereupon terminate and shall not be
exercisable thereafter.
SECTION 6. Stock Appreciation Rights.
--------------------------
(a) Grant and Exercise. Stock Appreciation Rights may be granted in
conjunction with all or part of any Stock Option. In the case of a Non-Qualified
Stock Option, such rights may be granted either at or after the time of the
grant of such Stock Option. In the case of an Incentive Stock Option, such
rights may be granted only at the time of the grant of such Stock Option.
A Stock Appreciation Right or applicable portion thereof granted with
respect to a given Stock Option shall terminate and no longer be exercisable
upon the termination or exercise of the related Stock Option; except that,
unless the Committee otherwise determines, in its sole discretion, at the time
of grant, a Stock Appreciation Right granted with respect to less than the full
number of shares covered by a related Stock Option shall not be reduced until
the number of shares covered by an exercise or termination of the related Stock
Option exceeds the number of shares not covered by the Stock Appreciation Right.
A Stock Appreciation Right may be exercised by an optionee, in accordance
with Section 6(b), by surrendering the applicable portion of the related Stock
Option. Upon such exercise and surrender, the optionee shall be entitled to
receive an amount determined in the manner prescribed in Section 6(b). Stock
Options which have been so surrendered, in whole or in part, shall no longer be
exercisable to the extent the related Stock Appreciation Rights have been
exercised.
(b) Terms and Conditions. Stock Appreciation Rights shall be subject to
such terms and conditions, not inconsistent with the provisions of the Plan, as
shall be determined from time to time by the Committee, including the following:
(i) Stock Appreciation Rights shall be exercisable only at such time or
times and to the extent that the Stock Options to which they relate shall be
exercisable in accordance with the provisions of Section 5 and this Section 6.
(ii) Upon the exercise of a Stock Appreciation Right, an optionee shall be
entitled to receive up to, but not more than, an amount in cash, shares of Stock
or a combination thereof equal in value to the excess of the Fair Market Value
of one share of Stock over the option price per share specified in the related
Stock Option multiplied by the number of shares in respect of which the Stock
Appreciation Right shall have been exercised. Subject to Section 6(b)(iv), the
form of payment of a Stock Appreciation Right may be specified by the Committee
at or after the date of grant or be subject to Committee approval after grant,
or the Committee may specify at or after the time of grant that a participant
may elect the form of payment at the time of the exercise of a Stock
Appreciation Right.
(iii) Stock Appreciation Rights shall be transferable only when and to the
extent that the underlying Stock Option would be transferable under Section
5(e).
(iv) In its sole discretion, the Committee may grant at or after the date
of grant of an Option "Limited Stock Appreciation Rights", i.e., Stock
Appreciation Rights that become exercisable only in the event of a Change in
Control, subject to such terms and conditions as the Committee may specify at
grant. Limited Stock Appreciation Rights shall be settled solely in cash.
<page>
SECTION 7. Stock Awards.
-------------
(a) Stock Awards in General. Stock Awards may be awarded either alone or in
addition to other Awards. Stock Awards may be of two types: (i) Performance
Stock and (ii) Restricted Stock. The Committee shall have authority to award to
any participant Performance Stock, Restricted Stock or both types of Stock
Awards. The Committee shall determine, in its sole discretion, the eligible
persons to whom, and the time or times at which, grants of Stock Awards will be
made, the number of shares subject to Stock Awards, the price (if any) to be
paid by the recipient (subject to Section 7(d)), the time or times within which
Stock Awards may be subject to forfeiture, the performance goals and objectives
and performance periods applicable to, the vesting schedule and rights to
acceleration of, and all other terms and conditions of the Stock Awards. The
provisions of Stock Awards need not be the same with respect to each recipient,
and, with respect to individual recipients, need not be the same in subsequent
years.
(b) Performance Stock. Performance Stock is an award of Stock whose vesting
and forfeiture restrictions are related to the attainment of one or more
performance goals and objectives (including the goals and objectives described
in Section 9(c)(i)) and such other terms and conditions as may be specified by
the Committee at or after the date of grant.
(c) Restricted Stock. Restricted Stock is an award of Stock whose vesting
and forfeiture restrictions are related to the participant's continued service
with the Company for a specified period of time and such other terms and
conditions as may be specified by the Committee at or after the date of grant.
(d) Conditions of Stock Awards. Stock Awards shall be subject to the
following conditions:
(i) The purchase price, if any, for shares of Stock subject to a Stock
Award shall be set by the Committee at the time of grant.
(ii) A participant who is selected to receive a Stock Award may be
required, as a condition to receipt of such Stock Award, to execute and to
deliver to the Company the applicable Award Documentation, and to pay whatever
price (if any) is required under Section 7(d)(i).
(iii) Each participant receiving a Stock Award shall be issued a stock
certificate in respect of such shares of Performance Stock or Restricted Stock.
Such certificate shall be registered in the name of such participant, and shall
bear an appropriate legend referring to the terms, conditions, and restrictions
applicable to such Award, substantially in the following form:
"The transferability of this certificate and the shares of stock
represented hereby are subject to the terms and conditions (including
forfeiture) of The McGraw-Hill Companies, Inc. 2002 Stock Incentive Plan and the
Award Documentation dated ___________. Copies of such Plan and the Award
Documentation are on file in the offices of The McGraw-Hill Companies, Inc.,
1221 Avenue of the Americas, New York, NY 10020."
(iv) The Committee shall require that the stock certificates evidencing
such shares be held in custody by the Company until the restrictions thereon
shall have lapsed, and that, as a condition of any Stock Award, the participant
shall have delivered a duly signed stock power, endorsed in blank, relating to
the Stock covered by the Stock Award. The Company may, in lieu of the above
provisions of this subparagraph (iv) and the aforesaid subparagraph (iii) with
respect to stock certificates, provide for a book entry on behalf of the
participant in respect of such shares of Performance Stock or Restricted Stock
which shall be subject to the same limitations contained therein.
(e) Restrictions and Conditions of Shares. The shares subject to a Stock
Award shall be subject to the following restrictions and conditions:
(i) Unless the Committee determines otherwise at or after the time of
grant, such shares shall not vest prior to the first anniversary of the date of
grant. Except in the case of Restricted Stock subject to which the aggregate
number of shares does not exceed five percent of the Aggregate Limit, (A) the
shares subject to Restricted Stock shall not vest earlier than in pro rata
installments over a period of three years and (B) notwithstanding anything in
Section 7(e)(v) to the contrary, the Committee shall not waive or accelerate
vesting and forfeiture restrictions for shares subject to Restricted Stock,
other than in connection with death, disability, retirement, termination of
employment, sale of the business unit or change in control.
(ii) Subject to the provisions of this Plan and the Award Documentation,
during a period set by the Committee commencing with the date of grant (the
"Restriction Period"), the participant shall not be permitted to sell, transfer,
pledge or assign such shares. Within these limits, the Committee, in its sole
discretion, may provide for the lapse of such restrictions in installments and
may accelerate or waive such restrictions in whole or in part, based on service,
performance or such other factors or criteria as the Committee may determine, in
its sole discretion.
<page>
(iii) Except as provided in Section 7(e)(ii), the participant shall have,
with respect to such shares, the right to vote and to receive any dividend or
dividend equivalent payments in cash.
(iv) Subject to the applicable provisions of the Award Documentation and
this Section 7, upon termination of a participant's employment with the Company
for any reason during the Restriction Period, all such shares still subject to
restriction shall vest or be forfeited in accordance with the terms and
conditions established by the Committee at or after grant.
(v) In the event of hardship or other special circumstances of a
participant whose employment with the Company is involuntarily terminated (other
than for Cause), the Committee may, in its sole discretion, waive in whole or in
part any or all remaining restrictions with respect to any such shares of the
participant based on such factors as the Committee may deem appropriate.
(vi) If and when the Restriction Period expires without a prior forfeiture
of any such shares, and subject to payment to the Company of the applicable
withholding taxes, the certificates for such remaining shares shall be delivered
to the participant. Subject to Section 13(a), all legends shall be removed from
said certificates at the time of delivery to the participant.
SECTION 8. Other Stock-Based Awards.
-------------------------
(a) Other Stock-Based Awards in General. Other awards of Stock and other
awards that are payable in cash or Stock and are valued in whole or in part by
reference to, or are otherwise based in whole or in part on, Stock ("Other
Stock-Based Awards"), including, without limitation, cash settled performance
shares, cash or Stock settled stock appreciation rights, shares valued by
reference to subsidiary performance, and phantom stock and similar units, may be
granted either alone or in addition to or in tandem with other Awards.
Subject to the provisions of the Plan, the Committee shall have authority
to determine the persons to whom and the time or times at which Other
Stock-Based Awards shall be made, the number of shares of Stock to be awarded,
the cash payment to be made pursuant to, and all other conditions of, Other
Stock-Based Awards.
The provisions of Other Stock-Based Awards need not be the same with
respect to each recipient.
(b) Terms and Conditions. Other Stock-Based Awards shall be subject to the
following terms and conditions:
(i) Subject to the provisions of this Plan and the applicable Award
Documentation, participants' rights with respect to Other Stock-Based Awards,
including the shares subject to Other Stock-Based Awards, may not be sold,
assigned, transferred, pledged or otherwise encumbered prior to the date on
which the shares are distributed to the participant, or, if later, the date on
which any applicable restriction, performance or deferral period lapses.
(ii) Unless the Committee otherwise determines at the time of award,
subject to the provisions of this Plan and the applicable Award Documentation,
recipients of Other Stock-Based Award shall be entitled to receive, currently or
on a deferred basis, dividends or dividend equivalents with respect to the
number of shares or deemed number of shares covered by Other Stock-Based Awards,
as determined at or after the time of the award by the Committee, in its sole
discretion.
(iii) Other Stock-Based Awards and any cash payments or Stock covered by
Other Stock-Based Awards shall vest or be forfeited to the extent so provided in
the applicable Award Documentation, as determined by the Committee, in its sole
discretion.
(iv) In the event of the participant's Retirement, Disability or death, or
in cases of special circumstances, the Committee may, in its sole discretion,
waive in whole or in part any or all of the limitations imposed hereunder (if
any) with respect to any or all Other Stock-Based Awards.
(v) Each Other Stock-Based Award shall be confirmed by, and subject to the
terms of, the applicable Award Documentation.
(vi) Stock distributed on a bonus basis under this Section 8 may be awarded
for no cash consideration.
<page>
SECTION 9. Qualifying Awards.
------------------
(a) General. The Committee may, in its sole discretion, grant an Award to
any participant with the intent that such Award qualifies as "performance-based
compensation" for "covered employees" under Section 162(m) of the Code (a
"Qualifying Award"). The provisions of this Section 9 as well as all other
applicable provisions of the Plan not inconsistent with this Section 9 shall
apply to all Qualifying Awards. Qualifying Awards shall be of the type set forth
in paragraph (b) or (c)
below.
(b) Qualifying Stock Options and Stock Appreciation Rights. Qualifying
Awards may be in the form of Stock Options, Stock Appreciation Rights or Other
Stock-Based Awards in the form of stock appreciation rights granted by the
Committee and subject to the Individual Limit.
(c) Qualifying Awards other than Stock Options and Stock Appreciation
Rights.
(i) Qualifying Awards (other than Stock Options, Stock Appreciation Rights
and Other Stock-Based Awards in the form of stock appreciation rights) may be in
the form of Stock Awards and Other Stock-Based Awards whose payment is
conditioned upon the achievement of the performance objectives described in this
paragraph. Amounts earned under such Qualifying Awards shall be based upon the
attainment of performance objectives for the performance goals established by
the Committee for a performance cycle in accordance with the provisions of
Section 162(m) of the Code and the applicable regulations thereunder related to
performance-based compensation. More than one performance goal may apply to a
given performance cycle and payments may be made for a given performance cycle
based upon the attainment of the performance objectives for any of the
performance goals applicable to that cycle. The duration of a performance cycle
shall be determined by the Committee, and the Committee shall be authorized to
permit overlapping or consecutive performance cycles. The performance goals and
the performance objectives applicable to a performance cycle shall be
established by the Committee in accordance with the timing requirements set
forth in Section 162(m) of the Code and the applicable regulations thereunder.
The performance goals that may be selected by the Committee for a performance
cycle include any of the following: diluted earnings per share, net income, net
operating income, pretax profit, revenue growth, return on sales, return on
equity, return on assets, return on investment, total return to shareholders,
EBITDA, economic profit and cash flow, each of which may be established on a
corporate-wide basis or established with respect to one or more operating units,
divisions, acquired businesses, minority investments, partnerships or joint
ventures, and may be measured on an absolute basis or relative to selected peer
companies or a market index. The Committee shall have the discretion, by
participant and by Qualifying Award, to reduce (but, in the case of Qualifying
Awards only, not to increase) some or all of the amount that would otherwise be
payable under the Qualifying Award by reason of the satisfaction of the
performance objectives set forth in the Qualifying Award.
(ii) For any performance cycle with a duration of thirty-six months, no
participant may receive Qualifying Awards under this Section 9(c) covering more
than 150,000 shares of Stock or which provide for the payment for such
performance cycle of more than 150,000 shares of Stock (or cash amounts based on
the value of more than 150,000 shares of Stock). For a performance cycle that is
longer or shorter than thirty-six months, the maximum limits set forth in the
previous sentence shall be adjusted by multiplying such limit by a fraction, the
numerator of which is the number of months in the performance cycle and the
denominator of which is thirty-six. Except as otherwise provided in Section 10,
no amounts shall be paid in respect of a Qualifying Award granted under this
Section 9(c) unless, prior to the date of such payment, the Committee certifies,
in a manner intended to meet the requirements of Section 162(m) of the Code and
the applicable regulations thereunder related to performance-based compensation,
that the criteria for payment of Qualifying Awards related to that cycle have
been achieved.
<page>
SECTION 10. Change In Control Provisions.
-----------------------------
(a) Impact of Event. Unless the Committee otherwise determines at the time
of grant, in the event of a Change in Control, the following acceleration and
valuation provisions shall apply notwithstanding any other provision of the
Plan:
(i) Any Stock Appreciation Rights (including, without limitation, any
Limited Stock Appreciation Rights) and any Stock Options (including Qualifying
Awards) not previously exercisable and vested shall become fully exercisable and
vested and shall remain exercisable for the remainder of their original terms,
notwithstanding any subsequent termination of the applicable participant's
employment for any reason.
(ii) The restrictions and deferral limitations applicable to any Stock
Awards and Other Stock-Based Awards (including Qualifying Awards), in each case
to the extent not already vested under the Plan, shall lapse and such Awards
shall be deemed fully vested, notwithstanding any subsequent termination of the
applicable participant's employment for any reason.
(iii) All outstanding Awards (including Qualifying Awards) shall either (A)
be cashed out by the Company on the basis of the Change in Control Price as of
the date such Change in Control is determined to have occurred or (B) be
converted into awards based upon publicly traded common stock of the corporation
that acquires McGraw-Hill, with which McGraw-Hill merges, or which otherwise
results from the Change in Control, with appropriate adjustments pursuant to
Section 3(d) to preserve the value of the Awards. The Committee shall determine,
in its sole discretion, which of the foregoing clauses (A) and (B) shall apply;
provided, however, that the Committee shall be obligated to make such
determination not later than three business days prior to a Change in Control;
provided further that if no such determination is made by the Committee in
accordance with the preceding clause, then the provisions of Section
10(a)(iii)(A) herein shall apply. In the event that the provisions of Section
10(a)(iii)(B) herein shall apply following a determination by the Committee,
then all no-trading policies and other internal corporate approvals required
with respect to the exercise or sale of Awards (including Qualifying Awards)
and/or the underlying shares of Stock shall be waived.
(b) Definition of "Change in Control". For purposes of this Plan, the term
"Change in Control" shall mean any of the following events:
(i) An acquisition by any individual, entity or group (within the meaning
of Section 13(d)(3) or 14(d)(2) of the Exchange Act) (a "Person" of beneficial
ownership (within the meaning of Rule 13d-3 promulgated under the Exchange Act)
of 20% or more of either (1) the then outstanding shares of Stock (the
"Outstanding Common Stock") or (2) the combined voting power of the then
outstanding voting securities of McGraw-Hill entitled to vote generally in the
election of directors (the "Outstanding Voting Securities"); excluding, however,
the following: (1) any acquisition directly from McGraw-Hill, other than an
acquisition by virtue of the exercise of a conversion privilege unless the
security being so converted was itself acquired directly from McGraw-Hill; (2)
any acquisition by McGraw-Hill; (3) any acquisition by any employee benefit plan
(or related trust) sponsored or maintained by McGraw-Hill or any entity
controlled by McGraw-Hill; or (4) any acquisition pursuant to a transaction
which complies with clauses (A), (B) and (C) of subsection (iii) of this Section
10(b); or
(ii) A change in the composition of the Board such that the individuals
who, as of the Effective Date, constitute the Board (such Board shall be
hereinafter referred to as the "Incumbent Board") cease for any reason to
constitute at least a majority of the Board; provided, however, for purposes of
this Section 10(b), that any individual who becomes a member of the Board
subsequent to the Effective Date, whose election, or nomination for election by
McGraw-Hill's shareholders, was approved by a vote of at least a majority of
those individuals who are members of the Board and who were also members of the
Incumbent Board (or deemed to be such pursuant to this proviso) shall be
considered as though such individual were a member of the Incumbent Board; but
provided further that any such individual whose initial assumption of office
occurs as a result of either an actual or threatened election contest (as such
terms are used in Rule 14a-11 of Regulation 14A promulgated under the Exchange
Act) or other actual or threatened solicitation of proxies or consents by or on
behalf of a Person other than the Board shall not be so considered as a member
of the Incumbent Board; or
<page>
(iii) Consummation of a reorganization, merger or consolidation or sale or
other disposition of all or substantially all of the assets of McGraw-Hill
("Corporate Transaction"); excluding, however, such a Corporate Transaction
pursuant to which (A) all or substantially all of the individuals and entities
who are the beneficial owners, respectively, of the Outstanding Common Stock and
Outstanding Voting Securities immediately prior to such Corporate Transaction
will beneficially own, directly or indirectly, more than 50% of, respectively,
the outstanding shares of common stock, and the combined voting power of the
then outstanding voting securities entitled to vote generally in the election of
directors, as the case may be, of the corporation resulting from such Corporate
Transaction (including, without limitation, a corporation which as a result of
such transaction owns McGraw-Hill or all or substantially all of McGraw-Hill's
assets either directly or through one or more subsidiaries) in substantially the
same proportions as their ownership, immediately prior to such Corporate
Transaction, of the Outstanding Common Stock and Outstanding Voting Securities,
as the case may be, (B) no Person (other than McGraw-Hill, any employee benefit
plan (or related trust) of McGraw-Hill or such corporation resulting from such
Corporate Transaction) will beneficially own, directly or indirectly, 20% or
more of, respectively, the outstanding shares of common stock of the corporation
resulting from such Corporate Transaction or the combined voting power of the
outstanding voting securities of such corporation entitled to vote generally in
the election of directors except to the extent that such ownership existed prior
to the Corporate Transaction, and (C) individuals who were members of the
Incumbent Board will constitute at least a majority of the members of the board
of directors of the corporation resulting from such Corporate Transaction; or
(iv) The approval by the shareholders of McGraw-Hill of a complete
liquidation or dissolution of McGraw-Hill.
(c) Change in Control Price. For purposes of this Section 10, "Change in
Control Price" means the highest price per share paid in any transaction
reported on the Consolidated Transaction Reporting System, or paid or offered in
the transaction or transactions that result in the Change in Control or any
other bona fide transaction related to a Change in Control or possible change in
control of McGraw-Hill at any time during the sixty-day period ending on the
date of the Change in Control, as determined by the Committee.
SECTION 11. Amendments and Termination. The Board may amend, alter,
discontinue or terminate the Plan, but no amendment, alteration, discontinuation
or termination shall be made which would impair the rights of an optionee or
participant under an Award theretofore granted, without the optionee's or
participant's consent. In addition, the Board shall have the right to amend,
modify or remove the provisions of the Plan which are included to permit the
Plan to comply with the "performance-based" exception to Section 162(m) of the
Code if Section 162(m) of the Code is subsequently amended, deleted or
rescinded.
The Committee may amend the terms of any Award theretofore granted,
prospectively or retroactively; but, subject to Section 3(d), no such amendment
or other action by the Committee shall impair the rights of any holder without
the holder's consent or reduce the option price per share of Stock subject to a
Stock Option without prior shareholder approval.
Subject to the above provisions, the Board shall have broad authority to
amend the Plan to take into account changes in applicable securities and tax
laws and accounting rules, as well as other developments.
SECTION 12. Unfunded Status of Plan. The Plan is intended to constitute an
"unfunded" plan for incentive and deferred compensation. With respect to any
payments not yet made to a participant or optionee by the Company, nothing
contained herein shall give any such participant or optionee any rights that are
greater than those of a general creditor of the Company.
SECTION 13. General Provisions.
-------------------
(a) The Committee may require each person purchasing shares pursuant to an
Award to represent to and agree with the Company in writing that the optionee or
participant is acquiring the shares without a view to distribution thereof. The
certificates for such shares may include any legend which the Committee deems
appropriate to reflect any restrictions on transfer.
All certificates for shares of Stock delivered under the Plan shall be
subject to such stop transfer orders and other restrictions as the Committee may
deem advisable under the rules, regulations, and other requirements of the
Commission, any stock exchange upon which the Stock is then listed, any
applicable federal or state securities law, and any applicable corporate law,
and the Committee may cause a legend or legends to be put on any such
certificates to make appropriate reference to such restrictions.
(b) Nothing contained in this Plan shall prevent the Board from adopting
other or additional compensation or equity plans or arrangements, subject to
shareholder approval if such approval is required; and such arrangements may be
either generally applicable or applicable only in specific cases.
(c) The adoption of the Plan shall not confer upon any employee of the
Company any right to continued employment with the Company, as the case may be,
nor shall it interfere in any way with the right of the Company to terminate the
employment of any of its employees at any time.
<page>
(d) No later than the date as of which an amount first becomes includible
in the gross income of the participant for income tax purposes with respect to
any Award (including dividends or dividend equivalents on any non-vested Stock
Award or Other Stock-Based Award), the participant shall pay to the Company, or
make arrangements satisfactory to the Committee regarding the payment of, any
federal, FICA, state, or local taxes of any kind required by law to be withheld
or paid with respect to such amount. Unless the Committee otherwise determines,
tax withholding or payment obligations may be settled with Stock, including
Stock that is part of the Award that gives rise to the withholding requirement.
The obligations of the Company under the Plan shall be conditional on such
payment or arrangements and the Company shall, to the extent permitted by law,
have the right to deduct any such taxes from any payment of any kind otherwise
due to the participant.
(e) The Plan and all Awards and actions taken thereunder shall be governed
by and construed in accordance with the laws of the State of New York.
(f) Any payment under this Plan shall not be deemed compensation for
purposes of computing benefits under any retirement plan of the Company and
shall not affect any benefits under any other benefit plan now or subsequently
in effect under which the availability or amount of benefits is related to the
level of compensation.
(g) The Committee may grant Awards to eligible employees who are foreign
nationals, who are located outside the United States, or who are otherwise
subject to or cause the Company to be subject to legal or regulatory provisions
of countries or jurisdictions outside the United States, on such terms and
conditions different from those specified in the Plan as may, in the judgment of
the Committee, be necessary or desirable to foster and promote achievement of
the purposes of the Plan and, in furtherance of such purposes, the Committee may
make such modifications, amendments, procedures, subplans and the like as may be
necessary or advisable to comply with such legal or regulatory provisions.
SECTION 14. Effective Date and Duration of Plan. The Plan shall become
effective as of the date of shareholder approval of the Plan in accordance with
applicable law and the by-laws of McGraw-Hill (the "Effective Date"). The Plan
shall continue in effect until all available shares have been issued, unless
earlier terminated by the Board.
<page>
<table>
Exhibit (12)
The McGraw-Hill Companies, Inc.
-------------------------------
Computation of Ratio of Earnings to Fixed Charges
-------------------------------------------------
June 30, 2002 June 30, 2001
-------------------- -------------
Six Twelve Six
Months Months Months
-------- ------- -------
Earnings
Earnings from continuing operations
before income tax expense (Note) $ 258,921 $ 662,058 $ 202,245
Fixed charges 37,404 82,123 54,753
--------- --------- ----------
Total Earnings $ 296,325 $ 744,181 $ 256,998
========= ========= ==========
Fixed Charges (Note)
Gross interest expense $ 14,427 $37,933 $ 34,470
Portion of rental payments deemed to
be interest 22,977 44,190 20,283
--------- --------- ----------
Total Fixed Charges $ 37,404 $82,123 $ 54,753
========= ========= ==========
Ratio of Earnings to Fixed Charges 7.9x 9.1x 4.7x
(Note) For purposes of computing the ratio of earnings to fixed charges,
"earnings from continuing operations before income taxes" excludes
undistributed equity in income of less than 50%-owned companies,
primarily the Company's earnings in its 45% interest in Rock-McGraw,
Inc. Rock-McGraw earnings for the six and twelve months periods ended
June 30, 2002 and the six month period ended June 30, 2001, are $6.2
million, $10.9 million and $4.9 million, respectively. "Fixed charges"
consist of (1) interest on debt, and (2) the portion of the Company's
rental expense deemed representative of the interest factor in rental
expense.
Earnings from continuing operations before income taxes for the
twelve month period ended June 30, 2002 includes a $159.0 million
provision for restructuring and asset write-down.
</table>
<page>
<table>
Exhibit (99)
The McGraw-Hill Companies, Inc.
-------------------------------
The following table reflects pro forma results of the Company in 2001,
2000 and 1999, giving effect to Statement of Financial Accounting Standards
No. 142, Goodwill and Other Intangible Assets, as if it were adopted as of
January 1, 1999: (in thousands, except earnings per share)
<caption>
2001 2000* 1999
---------- --------- --------
(in thousand)
Income before cumulative adjustment, as
reported $377,031 $471,916 $425,574
Add back: amortization expense, net of tax 34,831 29,167 25,698
-------- -------- --------
Pro forma income before cumulative
adjustment $411,862 $501,083 $451,272
======== ======== ========
Net income, as reported 377,031 $403,794 $425,574
Add back: amortization expense, net of tax 34,831 29,167 25,698
-------- -------- --------
Pro forma net income $411,862 $432,961 $451,272
======== ======== ========
Basic earnings per common share:
Income before cumulative adjustment, as
reported $ 1.95 $ 2.43 $ 2.17
Pro forma income before cumulative
adjustment $ 2.13 $ 2.58 $ 2.30
Net Income, as reported $ 1.95 $ 2.08 $ 2.17
Pro forma net income $ 2.13 $ 2.23 $ 2.30
Diluted earnings per common share:
Income before cumulative adjustments,
as reported $ 1.92 $ 2.41 $ 2.14
Pro forma income before cumulative
adjustment $ 2.10 $ 2.56 $ 2.27
Net Income, as reported $ 1.92 $ 2.06 $ 2.14
Pro forma net income $ 2.10 $ 2.21 $ 2.27
<FN>
* The Company adopted the Securities and Exchange Commission's
Staff Accounting Bulletin (SAB) No. 101, Revenue Recognition in
Financial Statements, as of January 1, 2000. The cumulative effect
of the accounting change resulted in a charge to income of $68,122
(net of taxes of $46,688).
</FN>
</table>