MMC
MARSH & MCLENNAN COMPANIES
Annual Report 1998
[FRONT COVER: PAINTING OF GALLERY WITH VIEWS OF MODERN ROME]
MMC is a global professional services firm with annual revenues exceeding $7
billion. It is the parent company of Marsh Inc., the world's leading risk and
insurance services firm; Putnam Investments, one of the largest investment
management companies in the United States; and Mercer Consulting Group, a major
global provider of consulting services. More than 50,000 employees provide
analysis, advice and transactional capabilities to clients in over 100
countries.
Financial Highlights
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For the Three Years Ended December 31, 1998 1997 1996
(in millions, except per share figures)
- --------------------------------------------------------------------------------
Revenue $7,190 $6,009 $4,404
Income Before Income Taxes(1) $1,305 $ 715 $ 668
Net Income(1) $ 796 $ 434 $ 459
Stockholders' Equity $3,659 $3,233 $1,889
- --------------------------------------------------------------------------------
Diluted Net Income Per Share (1) $ 2.98 $ 1.73 $ 2.08
Dividends Paid Per Share $ 1.46 $ 1.26 $ 1.11
Year-end Stock Price $58.44 $49.71 $34.67
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(1) MMC's 1997 operating results include the impact of a special charge
principally resulting from the combination with Johnson & Higgins.
[The following tables were represented as bar charts in the printed material.]
- --------------------- -------------------
Year-end Year-end
Market Capitalization Share Price
(in billions)
- --------------------- -------------------
Compound Compound
Annual Growth 28% Annual Growth 22%
- --------------------- -------------------
94 $ 5.8 94 26.42
95 6.5 95 29.58
96 7.5 96 34.67
97 13.0 97 49.71
98 15.4 98 58.44
Dear Shareholder
MMC had an outstanding 1998. We solidified our long-term leadership in risk and
insurance services with the strategic acquisition of Sedgwick Group, the largest
European-based insurance broker; continued to expand our investment management
business; and strengthened our position as a leading global provider of
consulting services.
MMC's revenues for the year rose 20 percent to $7.2 billion from $6.0 billion in
1997. Net income grew 34 percent to $796 million and earnings per share
increased 26 percent to $2.98, compared with $592 million and $2.36,
respectively, excluding special charges in 1997.
These strong financial results reflect the excellent performance of all our
business segments, and I am pleased to report that we see significant potential
for continuing to increase earnings. In each of our businesses, we are
consolidating our position as provider of choice. As a global firm, we have the
resources and perspective to invest the assets of our institutional clients and
mutual fund shareholders successfully and to work with clients to find solutions
to their problems and respond to the increasingly more complex risks that
affect their operations worldwide.
The leadership of MMC will be crucial in the years ahead. The Company is made
stronger by the appointment of Jeffrey W. Greenberg, who was elected president
in January 1999 and will succeed me as chief executive by the end of this year.
Jeff is a respected and experienced professional whose reputation as an
innovator was most recently evident in his work as chairman of Marsh & McLennan
Capital, our private equity investment subsidiary. This, in addition to his
earlier experience as a senior executive of American International Group and at
Marsh & McLennan, where he began his professional career in 1976, will serve him
well as he assumes his new responsibilities. I am certain that his exceptional
talents and professional standards will be an asset to MMC for many years to
come.
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2
MMC's financial performance produced excellent results for its shareholders.
During the year, we split our stock three-for-two and increased our quarterly
dividend 20 percent, continuing our record of increasing total annual dividends
paid to shareholders each year since we went public in 1962. The total return on
our common stock including dividends was 21 percent in 1998.
Our investment management business, Putnam Investments, had another superb year.
It is one of the leading money managers in the United States and its growth
continues to exceed that of the industry. Despite market volatility, Putnam
reported remarkable earnings growth, margin improvement and high levels of new
institutional and mutual fund sales. For the year, revenues grew 22 percent,
operating income climbed 46 percent and assets under management rose 25 percent
to $294 billion. Mutual fund assets increased 22 percent to $221 billion,
supported by investor preference for Putnam's breadth of products and
disciplined investment style, as well as the company's strong marketing and
sales efforts and award-winning investor services. Institutional assets rose to
$73 billion, up 37 percent from 1997, reflecting robust growth in both the
defined benefit and defined contribution plan business where Putnam excels,
based on its product range, investment skills and client service.
For 1998, our risk and insurance services revenues reached $3.4 billion, an
increase of 20 percent from 1997. Our businesses produced solid organic revenue
growth and have sound prospects for increased earnings. In early 1999, we
created a new holding company for our risk and insurance services business,
Marsh Inc. This company reflects the integration of the three respected
traditions of Marsh & McLennan, Johnson & Higgins and Sedgwick, which we
acquired late in 1998. Sedgwick not only increased the presence of our risk and
insurance services business worldwide, but that of our consulting business as
well. Our cultures, areas of specialization and work-quality standards are
similar, so we are able to combine capabilities with Sedgwick quickly, to
deliver significant advantages to our clients. We expect Sedgwick to be
accretive to earnings in 2000 based on the significant operating efficiencies
and consolidation savings we will achieve.
[Photograph of A.J.C. Smith]
A.J.C. Smith
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3
Marsh & McLennan Capital, our private equity investment firm, also had a very
good year as it continued to organize and invest in insurance and related
industries. It is forming Trident II, a fund expected to exceed $1 billion in
capital commitments from investors for global opportunities in insurance,
reinsurance and other financial services companies.
Mercer Consulting Group achieved its financial goal of double-digit revenue
growth and margin improvement. Revenues for 1998 were $1.5 billion, up 15
percent over the prior year. Human resource consulting, where Mercer is the
global leader, grew 11 percent, with excellent results for all practices. The
compensation consulting area was reinforced by the addition of KPMG Peat
Marwick's U.S. compensation practice and Control Resources Group, an
international firm with particular strength in Asia and Europe. The management
consulting business made progress in a very receptive market, capturing large
new assignments in the United States and around the world. It expanded its
European presence by acquiring one of Germany's top management consulting firms,
Dr. Seebauer & Partner.
MMC elected several new members to the Board of Directors in 1998. We welcomed
Saxon Riley and Rob White-Cooper, former chairman and chief executive officer,
respectively, of Sedgwick, as well as three outside directors: Stephen R.
Hardis, Gwendolyn S. King and John D. Ong. Richard S. Hickok and Richard M.
Morrow retired from the Board. Richard H. Blum, vice chairman for Marsh Inc.,
who led Guy Carpenter & Company from 1984 to 1996, also retired. Dick made many
important contributions to the firm over his long career, including his recent
work on the integration of Johnson & Higgins. We are pleased that he will
continue to serve in a consulting role.
As we look to 1999 and beyond, MMC has never been stronger. Over the past few
years, we have strengthened our position in each of our business sectors, made
strategic acquisitions and delivered excellent performance. In the pages
following, the heads of our operating companies respond to questions about their
firms' prospects.
MMC's continued success depends on the intelligence and dedication of the men
and women who carry out our goals each day. We appreciate their efforts and our
shareholders' support as we build the premier professional services firm.
/s/ A.J.C. Smith
A.J.C. Smith
Chairman and Chief Executive Officer
March 5, 1999
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4
Performance Over Time
Building on our history of innovation and leadership, MMC is today a $7 billion
professional services firm with risk and insurance services, investment
management and consulting companies that lead their respective industries. This
unique mix is attractive to clients and investors alike, providing depth of
specialist expertise and a source of diversified earnings, which have
contributed to our excellent long-term performance. The leaders of our operating
companies discuss achievements and opportunities for the future.
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5
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RISK AND INSURANCE SERVICES
Marsh Inc. has grown and prospered by responding quickly and effectively to
changing market conditions and offering increasingly wide-ranging service and
advice to its clients. The company's leadership has been reinforced by the
recent combination with two of the best-known companies in risk and insurance
services. John T. Sinnott, chairman and chief executive officer, shares his
thoughts on recent developments and future prospects.
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[Pages 6-7: Painting of the Rialto Bridge, Venice]
Please update us on the integration of Johnson & Higgins.
Our firms are fully integrated and I'm pleased to report that the results have
exceeded our expectations. Johnson & Higgins had an excellent reputation and was
a quality firm. The many compatibilities and complements that we saw in the
joining together of our organizations have now been realized.
Quantitatively, you can look at the high levels of client and staff retentions
and net new business. We achieved remarkable consolidation savings in 1998, and
our 1999 results should reflect additional benefits from the merger. This
combination has permanently strengthened our company's earnings power.
Qualitatively, we have created one organization that draws on the best practices
and talents of each firm. I believe our company has the greatest expertise and
knowledge in our industry, which in turn will benefit all of our clients.
How does the acquisition of Sedgwick strengthen the risk and insurance services
business?
We feel the acquisition of Sedgwick is an excellent fit, both strategically and
operationally. It was the largest European-based insurance broker with about
$1.2 billion in annual risk and insurance services revenues. Our merger combines
compatible resources, talented professionals and our excellent reputations to
significantly enhance both our client service capabilities and potential for
growth.
Sedgwick expands our coverage geographically. In the United Kingdom, Sedgwick's
strong direct insurance broking business and London market operations
complement Marsh's existing position. We expect to integrate our operations in
the United Kingdom in much the same way that we so successfully integrated
Johnson & Higgins' operations in the United States. Sedgwick also augments our
operations in Continental Europe and Asia Pacific, especially in Australia and
New Zealand.
Guy Carpenter & Company, our reinsurance unit, benefits from the Sedgwick
acquisition on a worldwide basis. In the United States, we have greater
representation in national accounts and facultative reinsurance. Our London
practice has been expanded and Far East business has also been enhanced.
Sedgwick has operated in some U.S. cities where Marsh did not have a presence.
And while Sedgwick has served a full range of clients, it has a particularly
strong base of mid-sized customers, which will reinforce the excellent inroads
we made in this market following the Johnson & Higgins merger. Seabury & Smith's
program management business will be enhanced by the addition of Sedgwick, as
will our specialty practices. Sedgwick also has an excellent claims man-
[The following table was represented as a bar chart in the printed material.]
---------------------
Revenue
(in billions)
---------------------
Compound
Annual Growth 15%
---------------------
94 $1.9
95 2.0
96 1.9
97 2.8
98 3.4
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8
agement business, which will add to our capabilities in the United States. We
will add to our client base as well as achieve operational efficiencies.
Finally, we also expect to realize significant consolidation savings from the
merger, which will be accretive to our earnings beginning in 2000.
What are the prospects for growth in risk and insurance services?
There are significant engines of growth for our industry and, in particular, for
our firm. Few organizations--in any industry--can deliver the breadth and scope
of our services. Over the last 20 years, we have carefully built a worldwide
organization and invested in resources and specializations that are available on
a global basis. Our specialist practices, which are organized by industry, type
of risk exposure and client-service style, are designed to handle each client's
unique insurance needs. This strategy has consistently strengthened client
service and contributed to our revenue growth. It should continue to do so,
particularly as risks become more complex.
The opportunities for long-term growth worldwide are exciting. In Europe,
economic trends of market liberalization, privatization and unification all
signal the need for our services. There is also increased awareness of and
exposure to product, professional and environmental liabilities, which pose
serious threats to commercial clients' earnings.
We are also well positioned in Latin America. In spite of the recent turmoil in
its financial markets, this region has had some of the fastest growing
economies and highest growth rates in property and casualty insurance products
and services for the past decade.
We remain optimistic about the opportunities in Asia Pacific and anticipate that
these markets will welcome providers who specialize in advice and services that
are critical to asset protection.
[Architectural Drawing]
There have been a number of recent innovations that have expanded the company's
approach to risk. Please comment.
In 1998, we had an unprecedented year of new service and product offerings. Our
clients are facing risks that are growing not only in number but also in
complexity. Working together as partners, we have helped them create new ways to
manage and transfer risk, including capital market solutions, which supplement
traditional insurance and reinsurance programs. As an example, our new
investment banking unit, Marsh & McLennan Securities, worked with our broking
specialists in London and Bermuda to arrange a pioneering program for an
international aircraft manufacturer that limits the client's liabilities arising
from the leasing of aircraft it produces. Another
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9
breakthrough program protects a major newspaper against increases in the price
of newsprint.
We have also created innovative programs that protect and enhance a client's
earnings stream. These include environmental policies, tax-opinion guarantees,
insurance alternatives to credit lines, coverages that facilitate mergers and
acquisitions and other financially oriented products. We recently introduced a
unique employment practices liability program specifically designed to protect
large organizations against the sharp increase in employee lawsuits. In
addition, we are applying a comprehensive approach to risks, bundling a wide
range of property and liability exposures within a single, multiyear financing
solution. This benefits our clients by reducing the cost of the total program
and simplifying administration.
Traditionally, companies have looked at financial, strategic, operational and
hazard risks separately. More and more, we are seeing a blending of disparate
risks. We help our clients combine traditional hazard protection with coverage
against financial risks, such as fluctuations in interest and currency rates.
Combining all of a company's exposures in a comprehensive approach may produce
lower costs and better risk management over time. Our Enterprise Risk Management
initiative draws on the expertise of other colleagues within MMC in consulting
and investment management, and this unique combination of resources helps us to
identify and address the range of exposures that major organizations
increasingly face today.
[The following was represented as a pie chart in the printed material.]
1998 Operating Income
by Geographic Region
$613 million
I: United States 55%
II: Europe 30%
III: Canada 6%
IV: Latin America 5%
V: Asia Pacific/Other 4%
What is the function of Marsh & McLennan Capital in the company's risk and
insurance services activities?
This operation is a continuation and broadening of our market-making role that
began decades ago. Its combination of expertise in insurance and finance has
enabled us to take advantage of capital from different funding alternatives.
This activity was heightened during the mid-1980s, when we established ACE and
EXEL, when clients weren't able to find coverage at any price.
More recently, we have expanded this role by investing in funds to capitalize
the insurance industry. In 1994, we launched Trident, an investment fund with
approximately $660 million in capital commitments from investors for the global
insurance and reinsurance markets. As a follow-up to this extremely successful
undertaking, we are forming Trident II, a fund expected to exceed $1 billion.
Marsh & McLennan Capital keeps us at the forefront of financial developments in
insurance. Its results have been excellent. Over time, we have built up
effectively and carefully a private equity business that reaps financial rewards
for our shareholders. Marsh & McLennan Capital's access to MMC's global network
of professionals provides it with a significant competitive advantage over other
similar private equity investors in identifying attractive investment
opportunities.
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10
Please comment on the role technology will play in Marsh's future.
Technology mobilizes our global expertise and enables us to improve the quality
of our services to clients. Our communications and database networks connect our
professionals with one another and our clients, which fosters teamwork and
provides access to a wealth of capabilities and information. For example, we
have created an Internet-based tool that clients can access to stay current on
all the elements involved in a complex risk management program. Clients can also
tap into databases that provide information on a wide range of business,
financial and risk subjects, such as the insurance and regulatory environments
worldwide.
On the transactional side, we are implementing technology that will vastly
improve the collection and analysis of pricing and coverage information in the
global markets. It will produce substantial efficiencies and enhance accuracy by
substituting electronic processes for the current paper-based methods of
conducting insurance transactions. It also gives us improved data handling and
retrieval capabilities as well as the ability to conduct more specific research
on behalf of our clients.
How do you manage your business in an environment of premium rate reductions?
For many of our professionals, the current down cycle in insurance rates is the
only environment that they have ever known. Plentiful capacity and expanded
terms and conditions have characterized the U.S. marketplace for 12 years and
more recently have been evident in the world's insurance markets. This has
created a very competitive market with lower pricing for the transfer of
commercial risk.
We've learned to prosper in any environment by constantly examining the way we
do business and by making sure that we are at the forefront of industry
practices. We emphasize efficiency and are reaping the benefits of expanding
geographically. All this positions us to grow profitably as demand for our
expertise expands in the world's major economies, as well as in developing
countries.
[Architectural Drawing]
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INVESTMENT MANAGEMENT
Putnam Investments has been transformed over the last decade, emerging from a
group of small to medium-sized firms to hold a commanding presence in investment
management. It is today one of the largest and fastest growing money management
firms in the United States and is turning its sights globally. Prospects for
continued growth are superb, supported by demographic trends throughout the
world and investors' growing preference for Putnam's products and services.
Lawrence J. Lasser, president and chief executive officer, discusses the
company's near- and long-term outlook.
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[Pages 12-13: Painting of the Arrival of Aeneas at Carthage]
How would you characterize Putnam's growth and transformation over the last
several years?
No matter the measurement period--from 1970, when MMC acquired Putnam and assets
were less than $2 billion, or five years ago, when assets were $90
billion--Putnam has experienced strong, even unimaginable, growth. We have
emerged from a largely undifferentiated group of small to medium-sized
competitors to become an industry leader with $294 billion in assets under
management.
To attain this success, we transformed Putnam. We instilled an aggressive,
entrepreneurial can-do culture, with an emphasis on profitable growth. Our
paramount interest is not in growing the top line or becoming the largest
firm--we have aimed to be the best, most profitable company. In addition, we've
attempted to manage our growth in terms of asset quality. By that, I mean our
goal is not merely to gain new business, but profitable, high value-added
business.
In 1998, how has Putnam been affected by the market's volatility?
Historically, the stock market's average annual growth has been 8 percent to 10
percent. In the period from 1995 to 1998, growth exceeded 20 percent for each of
those years, which is unprecedented in terms of both its level and duration. An
adjustment would seem to be inevitable--unless the rules of the history of the
stock market, going back 150 years, suddenly were no longer to apply.
A principal driver of both Putnam's and the industry's growth has been the
market. If it is down, then the main generator of Putnam's revenue and profit
growth is absent. If the market rises, all firms gain, but not equally. We have
succeeded in outdistancing our competitors to the degree that Putnam's marketing
and sales in mutual funds, robust defined benefit business, highly competitive
defined contribution business and international initiatives have been able to
win market share. Putnam's investment-style breadth and above average investment
performance also contributed to our growth.
[Architectural Drawing]
Will the market's return to more normal levels affect Putnam adversely?
Putnam's growth rate, which exceeded 30 percent over the last five years, would
slow, but our business initiatives--in marketing, sales, distribution, new
product and global business development--show no signs of losing momentum. And
the need for our services should not lessen either. Institutional clients are
required to maintain and fund defined benefit programs on behalf of their
employees. Individual customers' retirement aspirations have not changed as a
consequence of market turns. The number
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of baby boomers moving into retirement and requiring money management expertise
will not decline.
Remember that the world's stock markets are replete with innovative companies
managed by smart, entrepreneurial people who are prepared to adapt to and
exploit change. It is up to us to continue to find and invest in those
companies. If we deliver competitive performance, we will get our share of
business. If we continue to deliver superior performance, we will get more than
our share and in that way cushion any market reversal.
[The following table was represented as a bar chart in the printed material.]
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Operating Income
(in millions)
---------------------
Compound
Annual Growth 34%
---------------------
94 208
95 244
96 338
97 463
98 677
Please comment on Putnam's long-term growth outlook.
Barring any prolonged market downturn, the scenario for Putnam is very positive.
The emphasis on retirement planning and the establishment of mutual funds as the
preferred savings vehicle in an increasingly savings-oriented society will
continue to support Putnam's U.S. growth. Further, non-U.S. markets that share
demographic, sociological and economic wealth factors represent a new and
largely untapped source of business for a globally focused, U.S.-based money
manager like Putnam.
The inherent economics of the investment management business are excellent,
where Putnam has been a major factor as measured by its size, breadth, prestige
and asset quality. Fundamental demand for and acceptance of the products and
services of the industry, and of Putnam in particular, has never been stronger
or more widespread. Individuals' need for advice in making financial decisions
should continue to grow as their portfolios increase in size and investment
options multiply. And their need for a disciplined investment management style
that they can count on will intensify. Our professional staff is of the highest
caliber, and the diversity of our asset classes and distribution channels gives
us great flexibility and coverage.
Would you describe the distinguishing characteristics of Putnam's money
management philosophy.
Putnam has built a balanced business by having a presence in all sectors of
money management across the entire investment spectrum for individual and
institutional investors. We manage equity and fixed income, domestic and global,
aggressive and conservative products. We place great importance on delivering
consistent and competitive returns for clients through disciplined investment
strategies and by strictly adhering to our investment-style guidelines. A
globally integrated investment process also distinguishes Putnam, assuring
better communication and knowledge sharing in a
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team environment. Putnam, in fact, was the first firm to make the transition to
a team management approach in the mid-1980s, breaking away from the star system
of portfolio managers that has traditionally dominated investment management.
While we depend on enormously skilled and gifted individuals, the team process
allows us to capture the best aspects of individual thinking and collective
judgments.
Please discuss the role technology has played in Putnam's development.
We have benefited from the power of the computer combined with quantitative
techniques to support the management of money. For example, technology enables
us to screen and test portfolios and to forecast performance by substituting one
variable for another. More important, it allows us to measure risk and to gauge
what can be earned in relation to the risk taken. This, in turn, has encouraged
more specific client mandates.
Technology has revolutionized the service side of Putnam's business for both our
individual mutual fund and institutional investors. We recognized early on that
beyond excellent investment results, our shareholders, plan sponsors and the
intermediaries who distribute our funds want outstanding service. Our solution
was to create a "factory" whose product would be superior, almost flawless,
service. Putnam's three major service centers in the Boston suburbs--Andover,
Quincy and Franklin--each required a high capital investment; they are staffed
with dedicated, carefully trained and supervised people and utilize an enormous
amount of technology to provide client-focused service.
We have been standard setters in our industry, achieving a series of firsts in
using new technology to deliver excellent service. Putnam has been acknowledged
for its leadership, having won for the second straight year the prestigious
Dalbar "triple crown" award for service to mutual fund investors, variable
annuity clients and financial advisors. Putnam was the only company to be
recognized for outstanding service in all three categories.
Putnam is one of the first major mutual fund companies to be Year 2000
compliant--one year early. We began to eliminate potential problems starting in
early 1995, adjusting hundreds of programs and working with business partners,
suppliers and clients to ensure that data from outside the company were
acceptable. By year-end 1998, we had already used our upgraded systems to
produce shareholder statements. Our internal teams will continue to conduct
tests throughout 1999 to ensure we are prepared for the turn of the century.
[The following was represented as a pie chart in the printed material.]
Year-end
1998 Assets
Under Management
$294 billion
I: Funds Retail 66%
II: Defined Benefit 22%
III: Defined
Contribution 12%
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What is the position of Putnam's international business?
Putnam began investing internationally more than 25 years ago on behalf of U.S.
clients. The aggregate assets we invest internationally today are about $35
billion.
Over the last four years, we have worked to attract assets from non-U.S. sources
and have been extremely successful through our activities in Japan and Italy. In
1997, we established a very effective joint venture with Nippon Life Insurance
Company, one of the world's largest life insurance companies with a commanding
position in the Japanese pension market, to manage money for its institutional
clients. We recently strengthened that alliance by taking a stake in Nippon's
mutual fund affiliate and are working together to develop a retail mutual fund
business in Japan. In 1995, we entered into a joint venture with an Italian
financial services organization to develop, manage and distribute mutual funds
in Italy. That relationship has also been very profitable. We now manage $3
billion and our partner has expanded its distribution network by a factor of
three or four.
In the next five years, our goal is to derive about one-fifth of our total
assets from sources outside the United States. A confluence of factors should
help us to achieve this. The shift from government-sponsored pension plans to
more individual responsibility for retirement financing; the deregulation of
banking and financial services enabling foreign participation; the lack of
investment management capabilities in many countries; the growing awareness of
investment products such as mutual funds--all of these represent enormous
long-term global opportunities for select U.S. money managers such as Putnam.
Based upon the depth of our investment management skills and resources and, in
particular, our strength in investor services and knowledge of distribution,
Putnam should become a major global player as we apply our expertise abroad.
[Architectural Drawing]
How would you like Putnam to be perceived by your current and prospective
customers?
Putnam has gained prominence in the investment management industry as measured
by its size, reputation for excellence, professionalism and uncompromising
integrity. Most important, we have grown by keeping our organization centered
on--and responsive to--the needs of our clients. Beyond these attributes, I
would hope we are recognized for our dedication to the very serious business of
delivering investment performance that benefits people's lives. We help our
customers--and we have more than 10 million individual mutual fund
shareholders--finance their retirements and their children's educations, buy
homes and build financial wealth. We are very aware of our responsibilities and
consider ourselves fortunate to do such important work.
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CONSULTING
A number of trends have come together in the 1990s--demographic, geographic and
economic--fueling the demand by organizations for high value-added human
resource and management consulting advice worldwide. Mercer Consulting Group is
a major global provider of consulting services; it has continued to strengthen
and expand its areas of expertise and the geographies in which it operates to
position itself as a market leader. Peter Coster, president, addresses Mercer's
prospects for growth.
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[Pages 18-19: Painting of Rome with the Bridge and Castel St. Angelo by the
Tiber.]
Please update us on Mercer Consulting Group's recent performance and tell us how
it fits the company's historical growth pattern.
We had an outstanding year in 1998. Revenues increased 15 percent and operating
earnings grew 36 percent. Looking back over the past five years, our compound
earnings growth rate is 20 percent.
Our recent record is quite consistent with what we have achieved long term. When
MMC separated its consulting business from insurance broking in 1975, the Mercer
name was unknown outside of Canada, and the business consisted largely of
benefits advice in North America. Over the intervening period, Mercer has
established itself as a broad-based human resource consulting firm with a
leadership position in every major market in the world, and we have added
outstanding capabilities in the areas of business strategy, economic and
corporate image consulting. Since 1975, revenues and earnings have grown at
compound annual rates of 16 percent and 13 percent, respectively.
Our reputation for thought leadership and top quality advice has never been
higher, and we continue to attract the most talented people to come work for us.
Not surprisingly, this leads to an impressive number of major new client
relationships.
What is driving the growth?
The consulting industry benefits from a number of broad economic and social
trends--rapid change, global competition, deregulation, technical complexity and
the increasing size of many organizations--all of which drive demand for
objective, third-party expertise. We also see attractive opportunities for
consulting as governments, employers and individuals react and adjust to the
increasing burden of state-provided benefits. Part of the opportunity lies in
the retirement area, where governments are struggling to provide for the future
security of state-funded retirement programs in the face of developments that
are leading to fewer tax-paying workers supporting more and more retirees. One
leading alternative is increased dependence on the private sector and
individuals, which represents opportunities for Mercer. Also, we are finding
that the knowledge we have gained on health care cost control in the United
States is equally valuable in countries where health care is still largely a
governmental responsibility.
Within this broad framework, Mercer's success is linked to our people and our
ideas. I believe we have the best.
Our access to capital as part of MMC is also a major advantage. In contrast to
many competitors, our network of global locations is wholly owned, which is a
big plus in terms of knowledge sharing, level of service and our ability to
order client priorities.
[The following table was represented as a bar chart in the printed material.]
---------------------
Operating Income
(in millions)
---------------------
Compound
Annual Growth 20%
---------------------
94 96.4
95 108.7
96 119.4
97 148.4
98 201.8
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20
How do acquisitions fit Mercer's growth strategy?
We don't make acquisitions with the objective of gaining market share. We make
acquisitions to build critical mass where we need it and to secure new customer
segments and capabilities where we have gaps. They enable us to achieve a
position that accelerates our rate of organic growth.
From a practice standpoint, our recent acquisition activity has been focused on
high value-added sectors, such as executive compensation, investment consulting
and management consulting. Geographically, we have concentrated on East Asia,
Latin America and Continental Europe. In late 1997, for example, Mercer
Management Consulting acquired Corporate Decisions, Inc., a strategy consulting
firm that is prominent for its advice on building shareholder value. The
acquisition of KPMG's U.S. compensation practice in 1998 brings us a number of
nationally prominent consultants as well as a new stream of consulting
opportunities through KPMG. The addition of Corporate Resources Group, a
compensation consulting and human resource data firm with particular strength in
Asia and Europe, also strengthens our compensation area. Eager & Associates,
which advises investment managers in fund design, product positioning and
product development, enhances our investment-related consulting. And Dr.
Seebauer & Partner, one of Germany's top management consulting firms with
specialization in the financial services industry, is an important addition to
our European presence.
[The following was represented as a pie chart in the printed material.]
1998 Revenue
by Practice
$1.5 billion
I: Pension &
Retirement 41%
II: Management
Consulting 17%
III: Health Care 17%
IV: Compensation &
Communication 12%
V: Other Human Resource
Consulting 8%
VI: Economic 5%
Would you discuss the impact of the Foster Higgins integration and what you
anticipate for Sedgwick Noble Lowndes.
We integrated Foster Higgins into our organization quickly and have achieved
significant consolidation savings, which have contributed to MMC's overall
growth and bottom line. We plan to do the same with Sedgwick Noble Lowndes.
The insurance broking side of MMC, through the Johnson & Higgins and Sedgwick
acquisitions, strategically drove both of these transactions, which brought a
lot of talented people and excellent client relationships to Mercer. This is
especially the case for Sedgwick Noble Lowndes, which has been one of Mercer's
largest and most highly regarded competitors in human resource consulting in the
United Kingdom, Ireland, Australia and Continental Europe.
----------
21
Please comment on Mercer's businesses outside of the human resource consulting
arena.
Mercer Management Consulting is a major player in strategy consulting and its
prospects for growth are excellent. It has developed the intellectual capital
for helping clients grow and maximize shareholder value. Mercer's book, The
Profit Zone, was named one of the ten best business books of 1998 by Business
Week, and a new book, Profit Patterns, is slated to appear in the spring of
1999. The marketplace reception for these insights has been excellent. Still,
Mercer Management Consulting is a relative newcomer in a market dominated by
firms founded decades ago; it will take a while to achieve market leadership.
Our plans embrace organic growth, selective acquisition, market-leading
intellectual capital and top quality work, and 1998 marked another year of solid
progress. Demand for the services of National Economic Research Associates, the
leading firm of consulting economists, is also strong, including large
assignments in Asia and Latin America relating to deregulation and
privatization. Lippincott & Margulies, the leading consultant to major companies
on issues of corporate image, has grown significantly.
Where do you see your best growth opportunities?
Wherever we look in the world, companies are under increasing pressure to be
more profitable, and Mercer Consulting Group is ideally positioned to help them.
We continue to see the major English-speaking countries as excellent markets,
and we are also looking to Asia, Europe and Latin America to fuel growth in the
longer term. In Europe in particular, we believe the adoption of the euro will
trigger changes that will greatly increase the demand for business consulting
services of all types. Privatization has also brought formerly government-owned
and -operated enterprises into the competitive mix, which continues to generate
significant consulting opportunities.
In terms of practice areas, we expect to see a growing convergence of human
resource and traditional management consulting. Of all the strategic changes
initiated by companies, a large percentage never achieve full potential because
their people strategies are not aligned with their business strategies. Our
studies show that mobilizing the organization behind change is the most
important element in business success--more important even than understanding
the market or competition or economics. We believe Mercer is the best qualified
of all consulting firms to combine human resource and strategy consulting to
bring value to our clients' bottom lines.
[Architectural Drawing]
----------
22
[Architectural Drawing]
Are you working on other internal synergies?
One of our most important goals presently is to strengthen our global client
management process to ensure that we respond to multicountry client issues with
the right teams and the right mix of practice expertise. The combinations of
Daimler-Chrysler, BP-Amoco and Deutsche Bank-Bankers Trust are standout examples
of the ways in which business is becoming ever larger and more global. One way
this affects Mercer is that greater numbers of clients are interested in global
approaches to human resource issues that are fair and equitable across national
borders despite the different social, economic and regulatory environments.
While Mercer continues to have many excellent clients whose businesses are local
or regional only, our work is increasingly for multinational organizations, and
we need to improve continuously how we use our network of offices to serve them.
Looking to 1999 and beyond, what are Mercer's prospects?
Our near-term financial objectives are to continue our double-digit growth and
to further improve profit margins. In this context, a priority is to improve the
profitability of the newly acquired Sedgwick Noble Lowndes business.
As to the long term, we are positioned strongly in large and growing markets,
and the economic trends favor our business. Mercer has name recognition and an
excellent reputation, which we expect to reinforce and enhance. The future looks
good.
----------
23
================================================================================
MMC WORLDWIDE
RISK AND INSURANCE SERVICES
Marsh Inc. is the world's leading risk and insurance services firm. Insurance
broking is generally conducted under various forms of the Marsh name and
includes the total range of services to identify, value, control, transfer and
finance risk. Worldwide reinsurance broking advice and services for insurance
and reinsurance companies are provided through Guy Carpenter & Company, Inc. The
company structures and places reinsurance coverage and other risk-transfer
financing with reinsurance firms and capital markets worldwide. Insurance
program management services in the United States and Canada are provided through
Seabury & Smith, Inc., which designs, markets and administers specialized
insurance programs. The company also provides underwriting management services
in North America and the United Kingdom to insurers, primarily for professional
liability coverages.
Marsh & McLennan Capital, Inc. originates, structures and manages
insurance-related private equity investments on a global basis.
INVESTMENT MANAGEMENT
Putnam Investments, Inc., one of the oldest and largest money management
organizations in the United States, offers a full range of both equity and fixed
income products, invested domestically and globally, for individual and
institutional investors. Putnam, which manages more than 110 mutual funds, has
over 900 institutional clients and 10 million individual shareholder accounts.
It had $294 billion in assets under management at year-end 1998.
CONSULTING
Mercer Consulting Group, Inc., one of the largest consulting firms in the world,
provides advice and services to organizations. William M. Mercer Companies LLC
is a market leader in human resource, employee benefit and compensation
consulting. Mercer Management Consulting, Inc. is a leader in helping
enterprises achieve sustained shareholder value growth through the development
and implementation of innovative business designs. National Economic Research
Associates, Inc. (NERA), the leading firm of consulting economists, specializes
in providing solutions to problems involving competition, regulation, finance
and public policy.
================================================================================
[Pages 24-25: Painting of Gallery with Views of Modern Rome]
Financial Contents
27 Management's Discussion and Analysis
of Financial Condition and Results of Operations
36 Consolidated Statements of Income
37 Consolidated Balance Sheets
38 Consolidated Statements of Cash Flows
39 Consolidated Statements of Stockholders' Equity
and Comprehensive Income
40 Notes to Consolidated Financial Statements
55 Report of Management
55 Report of Independent Auditors
56 Selected Quarterly Financial Data
and Supplemental Information (Unaudited)
57 Five-Year Statistical Summary of Operations
----------
26
Marsh & McLennan Companies, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
General
Marsh & McLennan Companies, Inc. and Subsidiaries ("MMC") is a professional
services firm providing risk and insurance services, investment management and
consulting. More than 50,000 employees worldwide provide analysis, advice and
transactional capabilities to clients in over 100 countries.
MMC is organized in three principal business segments based on the services that
each provides. Segment performance is evaluated based on operating income, which
is after deductions for directly related expenses but before special charges.
The accounting policies of the segments are identical to those used for the
consolidated financial statements, described in Note 1 to the consolidated
financial statements.
This management's discussion and analysis of financial condition and results of
operations contains certain statements relating to future results which are
forward-looking statements as that term is defined in the Private Securities
Litigation Reform Act of 1995. See "Cautionary Language Regarding
Forward-Looking Information" on the inside back cover page of this annual
report.
The consolidated results of operations follow:
================================================================================
(In millions, except per share figures) 1998 1997 1996
- --------------------------------------------------------------------------------
Revenue:
Risk and Insurance Services $ 3,351 $ 2,789 $ 1,907
Investment Management 2,296 1,882 1,338
Consulting 1,543 1,338 1,159
- --------------------------------------------------------------------------------
7,190 6,009 4,404
- --------------------------------------------------------------------------------
Expense:
Compensation and Benefits 3,565 3,044 2,204
Other Operating Expenses 2,209 1,923 1,425
Special Charges/(Credits), net (4) 244 60
- --------------------------------------------------------------------------------
5,770 5,211 3,689
- --------------------------------------------------------------------------------
Operating Income $ 1,420 $ 798 $ 715
================================================================================
Net Income $ 796 $ 434 $ 459
================================================================================
Net Income Per Share:
Basic(a) $ 3.11 $ 1.77 $ 2.11
================================================================================
Diluted(a) $ 2.98 $ 1.73 $ 2.08
================================================================================
Average Number of
Shares Outstanding:
Basic(a) 256 245 217
================================================================================
Diluted(a) 264 251 221
================================================================================
(a) Information for 1997 and 1996 has been restated to reflect the
three-for-two stock distribution in the form of a stock dividend issued on
June 26, 1998.
During the third quarter of 1998, MMC announced its offer to acquire Sedgwick
Group plc ("Sedgwick"), a London-based holding company of one of the world's
leading insurance and reinsurance broking and consulting groups, for total cash
consideration of approximately $2.2 billion. On November 3, 1998, MMC announced
that all conditions of the merger had been satisfied. On November 16, 1998, MMC
remitted approximately $1.9 billion to the United Kingdom receiving agent for
immediate distribution to Sedgwick security holders who had tendered outstanding
ordinary shares and convertible bonds representing 87.6% and 97.5% of such
securities, respectively. The compulsory acquisition of all previously
untendered Sedgwick shares was completed in February 1999. MMC has reflected the
acquisition of Sedgwick in its results of operations beginning in November 1998.
In 1997, the results of operations reflected MMC's business combination with
Johnson & Higgins ("J&H"), completed on March 27, 1997 beginning with the second
quarter of 1997.
In 1998, revenue, derived mainly from commissions and fees, rose 20% from 1997
due, in part, to the impact of the J&H transaction, which was not reflected in
the results of operations in the first quarter of 1997, as well as the
acquisition of Sedgwick in November 1998. Excluding acquisitions and
dispositions, revenue grew approximately 11% over 1997. This growth was driven
by a 22% increase in revenue in the investment management segment as average
assets under management in 1998 were substantially higher than 1997. Risk and
insurance services revenue grew 5% for the year reflecting net new business
development partially offset by premium rate declines. Also, the consulting
segment experienced 12% growth in revenue due to an increased level of services
provided in all lines of business.
In 1997, revenue rose 36% from 1996 primarily reflecting the impact of the
combination with J&H and the acquisition of Compagnie Europeenne De Courtage
d'Assurances et de Reassurances ("CECAR") in January 1997. Excluding
acquisitions and dispositions, revenue grew approximately 14% over 1996,
principally due to a 41% increase in the investment management segment
attributable to higher assets under management. In addition, an increased level
of services provided in the retirement consulting area contributed to a 10%
growth in revenue from MMC's consulting segment.
In 1998, expenses increased 11% over 1997 primarily reflecting higher
compensation and client service related costs in the investment management and
consulting segments to support a higher volume of business in 1998. The expense
growth in 1998 also reflects one additional quarter of J&H operating expenses in
1998 as compared with 1997 as well as the acquisition of Sedgwick in November
1998. These increases were offset, in part, by approximately $75 million of net
integration savings associated with the combination with J&H and the
year-over-year impact of the $244 million of special charges recorded in 1997.
Of the $75 million net integration savings achieved in 1998, approximately $55
million was realized by risk and insurance services, approximately $15 million
by consulting and approximately $5 million by corporate.
Expenses increased 41% in 1997 compared with 1996, primarily due to the
combination with J&H, the acquisition of CECAR, and special
----------
27
charges totaling $244 million. The special charges for 1997 included $168
million of merger costs predominantly related to the combination with J&H, a
charge of $61 million related to lease abandonment costs associated with the
consolidation of various London operations along with costs to abandon and
redevelop MMC's London building and $15 million for the disposal of certain EDP
assets, which were written-off in 1997. These charges are explained, in more
detail, under the caption Special Charges in this Management's Discussion and
Analysis.
Excluding acquisitions, dispositions, and the special charges, expenses grew 12%
in 1997 mostly as a result of staff growth in the investment management and
consulting segments as well as higher incentive compensation levels in the
investment management segment commensurate with very strong operating
performance. Client service related costs for investment management also
increased resulting from the higher level of business activity.
Net income for 1996 included a tax adjustment that reduced the income tax
provision by $40 million. The tax adjustment primarily related to the permanent
deployment of funds outside the United States in a tax-efficient manner and
favorable state and local tax developments in the U.S. The net impact of the tax
adjustment and net special charges increased earnings per share in 1996 by $.01
for the year.
Effective January 1, 1998, MMC adopted Statement of Financial Accounting
Standards ("SFAS") No. 130, "Reporting Comprehensive Income," which was
effective for fiscal years beginning after December 15, 1997. As described more
fully in Note 3 to the consolidated financial statements, SFAS No. 130
established standards for reporting and displaying comprehensive income and its
components; such comprehensive income information is included in Note 3 to the
consolidated financial statements.
In 1998, MMC adopted SFAS No. 131, "Disclosures About Segments of an Enterprise
and Related Information," which was effective for fiscal years beginning after
December 15, 1997. The required segment disclosure is provided in Note 16 to the
consolidated financial statements.
In February 1998, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 132, "Employers' Disclosures about Pensions and Other Postretirement
Benefits." The new standard did not change the measurement or recognition of
those plans, but revised pension and other postretirement benefit plan
disclosures. MMC adopted SFAS No. 132 in fiscal 1998 and the required disclosure
is provided in Note 6 to the consolidated financial statements.
In 1998, MMC adopted the American Institute of Certified Public Accountants
Statement of Position No. 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use." This statement provided guidance on
accounting for the costs of internal use software and is effective for fiscal
years beginning after December 15, 1998, with earlier adoption encouraged.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This standard, which establishes new
accounting and reporting requirements for derivative instruments, is effective
for fiscal years beginning after June 15, 1999. MMC does not expect the adoption
of this standard to have a material impact on its results of operations or
consolidated financial condition.
Risk and Insurance Services
The operations within this segment provide risk and insurance services to
insureds, insurance underwriters and other brokers. J&H Marsh & McLennan, Inc.
is a world leader in providing risk management and insurance broking services.
Guy Carpenter & Co. provides reinsurance broking services to insurance and
reinsurance risk takers worldwide and Seabury & Smith provides insurance program
management services to individuals, businesses and their employees, and
associations and other affinity groups and their members. In addition, Marsh &
McLennan Capital provides services principally in connection with originating,
structuring and managing insurance and related industry investments. The
recently acquired Sedgwick operations are being integrated into the various
businesses noted above.
Insurance broking services are provided to clients primarily in connection with
risk management and the insurance placement process and involve analyzing
various types of property and liability loss exposures including large and
complex risks that require access to global insurance markets. Services include
insurance broking and risk transfer activities and professional consulting
services on risk management issues, including risk analysis, coverage
requirements, self insurance and alternative insurance and risk financing
methods, as well as claims collection, injury management and loss prevention.
Insurance placement services include the placement of insurance coverages with
insurers worldwide, sometimes involving other intermediaries.
Reinsurance broking services primarily involve acting as an intermediary for
insurance and reinsurance organizations on all classes of reinsurance. The
intermediary assists the insurer by providing advice, placing reinsurance
coverage with reinsurance organizations located around the world, placing risk
transfer financing with capital markets, and furnishing related services such as
actuarial, financial and regulatory consulting, portfolio analysis and
catastrophe modeling. Generally, the purpose of reinsurance is to spread the
risk of primary insurance or the reinsurance thereof to lessen the concentration
of risk with any one insurance or reinsurance company.
The insurance program management operation primarily designs, places and
administers life, health, accident, disability, automobile, homeowners and
professional liability and other insurance programs usually on a group marketing
basis to individuals, businesses and their employees, and associations and other
affinity groups and their members in the United States and Canada. In addition,
it provides underwriting management services to insurers in the United States,
Canada and the United Kingdom, principally for professional liability coverages.
MMC has been instrumental in the formation of several substantial insurance and
reinsurance entities. Marsh & McLennan Capital is also an adviser to The Trident
Partnership L.P., an independent private investment partnership formed in 1994
to make private equity investments in the global insurance and reinsurance
industry.
Revenue attributable to the risk and insurance services segment consists
primarily of fees paid by clients; commissions and fees paid by insurance and
reinsurance companies; interest income on funds held in a fiduciary capacity for
others, such as premiums and claims proceeds; and placement services revenues
earned from insurance carriers. Through Marsh & McLennan Capital, MMC receives
compensation in various forms including fees and dividends,
----------
28
as well as appreciation that has been realized on sales of MMC's holdings in
insurance and related industry entities.
Revenue generated by risk and insurance services is fundamentally derived from
the value of services provided to clients and markets, and is affected by
premium rate levels in the property and casualty insurance markets and available
insurance capacity because compensation is frequently related to the premiums
paid by insureds. Revenue is also affected by fluctuations in the amount of risk
retained by insurance and reinsurance clients themselves and by insured values,
the development of new products, markets and services, new and lost business,
merging of clients and the volume of business from new and existing clients, as
well as by interest rates for fiduciary funds. Placement services revenue
includes payments or allowances by insurance companies based upon such factors
as the overall volume of business placed by the broker with that insurer, the
aggregate commissions paid by the insurer for that book during specific periods,
or the loss performance to the insurer of that business.
The results of operations for the risk and insurance services segment are
presented below:
================================================================================
(In millions of dollars) 1998 1997 1996
- --------------------------------------------------------------------------------
Revenue $3,351 $2,789 $1,907
Expense(a) 2,738 2,293 1,544
- --------------------------------------------------------------------------------
Operating Income $ 613 $ 496 $ 363
================================================================================
Operating Income Margin 18.3% 17.8% 19.0%
================================================================================
(a) Excluding special charges, which are detailed below.
Revenue
Revenue for the risk and insurance services segment grew 20% over 1997 primarily
due to the fact that 1998 was the first full year of combined operations after
the merger with J&H, whereas 1997 had only three quarters. Furthermore, the
Sedgwick acquisition was completed late in the fourth quarter of 1998, adding
somewhat to revenue growth in 1998. Excluding acquisitions and dispositions,
risk and insurance services revenue rose approximately 5%. Insurance broking
revenue, which represented 74% of risk and insurance services, grew 5%
reflecting net new business development partially offset by continued premium
rate declines in virtually all lines of coverage. The increased level of net new
business development was primarily concentrated in the United States and the
United Kingdom. Revenues from reinsurance broking and insurance program
management increased by 5% and 6%, respectively, in 1998.
In 1997, risk and insurance services revenue increased 46% primarily due to the
J&H transaction, the acquisitions of CECAR, a French insurance and reinsurance
broking operation, and the acquisition of Albert H. Wohlers & Co., a U.S.-based
insurance program management operation offset, in part, by the year-over-year
impact of the sale of Frizzell in 1996. Excluding the effect of acquisitions and
dispositions, risk and insurance services revenue grew 4% in 1997, as revenue
rose 3% in insurance broking and 6% in insurance program management while
reinsurance broking fell 2% in 1997 from 1996 levels. The increase in insurance
broking revenue, which represented 76% of risk and insurance services revenue in
1997, primarily reflected net new business development partially offset by
declines in commercial property and casualty premium rates.
Expense
Risk and insurance services expenses increased 19%, largely attributable to the
business combination with J&H, which was effective as of the end of the first
quarter of 1997 resulting in 1998 having one additional quarter of expense, and
the acquisition of Sedgwick in November 1998. Excluding acquisitions and
dispositions, expenses increased approximately 2% from 1997 reflecting salary
progressions for continuing staff and higher technology and systems spending.
The increases in spending were offset by the realization of approximately $55
million of net integration savings related to the J&H transaction.
In 1997, risk and insurance services expenses increased 48% primarily due to the
impact of acquisitions. Excluding acquisitions and dispositions, expenses
increased approximately 1% from 1996.
Investment Management
The operations within the investment management segment provide services
primarily under the "Putnam" name. The services, which are performed principally
in the United States, include securities investment advisory and management
services consisting of investment research and management, and accounting and
related services for a group of publicly held investment companies (the "Putnam
Funds"). A number of the open-end funds serve as funding vehicles for variable
insurance contracts. Investment management services are also provided to
corporate profit-sharing and pension funds, state and other government and
public employee retirement funds, university endowment funds, charitable
foundations, collective investment vehicles (both U.S. and non-U.S.) and other
domestic and foreign institutional accounts. Putnam serves as transfer agent,
dividend disbursing agent, registrar and custodian for the Putnam Funds and
provides custody services to several external clients. In addition, Putnam
provides administrative and trustee (or custodial) services for employee benefit
plans (in particular 401(k) plans), IRA's and other clients for which it
receives compensation pursuant to service and trust or custodian contracts.
Putnam also acts as principal underwriter of the shares of the open-end Putnam
Funds, selling primarily through independent broker/dealers, financial planners
and financial institutions, including banks, and directly to certain large
401(k) plans and other institutional accounts. Shares of open-end funds are
generally sold at their respective net asset value per share plus a sales
charge, which varies depending on the individual fund and the amount purchased.
Essentially all Putnam Funds are available with a contingent deferred sales
charge in lieu of a front-end load. The related prepaid dealer commissions
initially paid by Putnam to broker/dealers for distributing such funds are
recovered through charges and fees received over a number of years.
Putnam's revenue is derived primarily from investment management and 12b-1 fees
received from the Putnam Funds and institutional accounts. Fees paid by the
Putnam Funds are approved annually by the trustees or shareholders of the Putnam
Funds and are charged at various rates depending on the individual mutual fund
or account and are usually based upon a sliding scale in relation to the level
of assets under management and, in certain instances, are also based on
investment performance. The management of Putnam and the trustees of the Putnam
Funds regularly review the fund fee structure in light of fund performance, the
level and range of services provided, industry
----------
29
conditions and other relevant factors. Putnam also receives compensation for
providing certain shareholder and custody services.
The results of operations for the investment management segment are presented
below:
================================================================================
(In millions of dollars) 1998 1997 1996
- --------------------------------------------------------------------------------
Revenue $2,296 $1,882 $1,338
Expense 1,619 1,419 1,000
- --------------------------------------------------------------------------------
Operating Income $ 677 $ 463 $ 338
================================================================================
Operating Income Margin 29.5% 24.6% 25.3%
================================================================================
Revenue
Putnam's revenue increased 22% in 1998 reflecting significant growth in the
level of average assets under management on which management fees are earned.
Assets under management aggregated $294 billion at December 31, 1998 compared
with $235 billion at December 31, 1997 reflecting $28 billion of net new sales
of mutual funds and net additional investments by institutional accounts, as
well as a $31 billion growth in market value related to an increase in
securities market levels during the year.
Putnam's revenue increased 41% in 1997 reflecting record growth in the level of
average assets under management. Net new sales of mutual funds and net
additional investments by institutional accounts amounted to $33 billion while
higher securities markets contributed $29 billion to the growth in assets under
management.
Expense
Putnam's expenses increased 14% in 1998 primarily reflecting increased client
service-related costs, including the amortization of deferred commissions,
resulting from the higher level of business activity as well as increased
incentive compensation.
In 1997, Putnam's expenses increased 42% reflecting the effect of staff growth
to support new business, increased incentive compensation levels commensurate
with very strong operating performance and increased client service-related
costs, including a new service center, resulting from the higher level of
business activity.
Year-end and average assets under management are presented below:
================================================================================
(In billions of dollars) 1998 1997 1996
- --------------------------------------------------------------------------------
Mutual Funds:
Domestic Equity $153 $119 $ 80
Taxable Bond 38 36 30
Tax-Free Income 16 16 16
International Equity 14 11 8
- --------------------------------------------------------------------------------
221 182 134
- --------------------------------------------------------------------------------
Institutional Accounts:
Fixed Income 25 22 19
Domestic Equity 32 21 14
International Equity 16 10 6
- --------------------------------------------------------------------------------
73 53 39
- --------------------------------------------------------------------------------
Year-end Assets $294 $235 $173
================================================================================
Average Assets $264 $206 $149
================================================================================
Assets under management and revenue levels are particularly affected by
fluctuations in domestic and international bond and stock market prices and by
the level of investments and withdrawals for current and new fund shareholders
and clients. They are also affected by investment performance, service to
clients, the development and marketing of new investment products, the relative
attractiveness of the investment style under prevailing market conditions and
changes in the investment patterns of clients. Revenue levels are sensitive to
all of the factors above, but in particular, to significant changes in bond and
stock market valuations.
Putnam provides individual and institutional investors with a broad range of
equity and fixed income investment products and services designed to meet
varying investment objectives and which affords its clients the opportunity to
allocate their investment resources among various alternative investment
products as changing worldwide economic and market conditions warrant.
At the end of 1998, assets held in equity securities represented 73% of assets
under management, compared with 69% in 1997 and 62% in 1996, while investments
in fixed income products represented 27%, compared with 31% last year and 38% in
1996.
Consulting
Through Mercer Consulting Group, Inc., the operations within this segment
provide consulting services to a predominantly corporate clientele from
locations around the world, in the areas of human resources and employee benefit
programs, including retirement, health care, and compensation; and general
management consulting, which comprises strategy, operations and marketing.
Economic consulting and analysis services are also provided.
William M. Mercer provides professional advice and services to corporate,
government and institutional clients worldwide. Consultants help organizations
design, implement, administer and communicate retirement, compensation and other
human resource programs, and provide other types of actuarial advice. In
addition, William M. Mercer advises the management of health care providers on
various business issues.
Mercer Management Consulting, Inc. provides advice and assistance on issues of
business strategy, primarily to large corporations in North America, Europe and
Asia. Consultants help senior executives more fully understand the behavior of
their customers, optimize the economics of their business, and structure their
organizations, processes and systems to achieve their strategic goals.
National Economic Research Associates, Inc. ("NERA"), a firm of consulting
economists, serves law firms, corporations, trade associations and governmental
agencies. NERA provides research and analysis of economic and financial issues
arising in litigation, regulation, public policy and management.
The major component of Mercer Consulting Group's revenue is fees paid by clients
for advice and services. In addition, commission revenue is received from
insurance companies for the placement of individual and group insurance
contracts, primarily life, health and accident coverages. A relatively small
amount of revenue is derived from brokerage commissions in connection with a
registered securities broker dealer.
----------
30
Revenue in the consulting business is affected by changes in clients' industries
including government regulation, as well as new products and services, the stage
of the economic cycle and broad trends in employee demographics and in the
management of large organizations.
The results of operations for the consulting segment are presented below:
================================================================================
(In millions of dollars) 1998 1997 1996
- --------------------------------------------------------------------------------
Revenue $1,543 $1,338 $1,159
Expense(a) 1,341 1,190 1,040
- --------------------------------------------------------------------------------
Operating Income $ 202 $ 148 $ 119
================================================================================
Operating Income Margin 13.1% 11.1% 10.3%
================================================================================
(a) Excluding special charges, which are detailed below.
Revenue
Consulting services revenue increased 15% in 1998 reflecting an increase in the
level of services provided as well as the impact of the combination with J&H,
the Sedgwick acquisition and several small acquisitions. Partially offsetting
these increases was the impact of a transfer of certain business lines to
Automatic Data Processing ("ADP"), as part of a strategic alliance, in October
1997. Excluding acquisitions and dispositions, consulting's revenue increased
approximately 12% in 1998. Retirement consulting revenue, which represented 41%
of the consulting segment, grew 11% over 1997 principally due to a higher level
of services provided. In addition, revenue rose 22% in the economic consulting
practice, 18% in global compensation consulting, 8% in health care consulting
and 6% in general management consulting due to a higher volume of business in
these practice lines in 1998.
In 1997, consulting services revenue increased 15% reflecting the J&H
combination as well as an increase in the level of services provided partially
offset by the business transfer to ADP. Adjusting for the impact of acquisitions
and dispositions, consulting's revenue increased approximately 10% in 1997.
Retirement consulting revenue, which represented 43% of the consulting segment,
grew 10% over 1996 reflecting higher worldwide request for services. In
addition, revenue rose 24% in the global compensation practice, 8% in general
management consulting and 1% in health care consulting in 1997.
Expense
Consulting services expenses increased 13% in 1998. Excluding acquisitions and
dispositions, expenses increased approximately 9% reflecting the effect of staff
growth to support new business, higher incentive compensation commensurate with
strong operating performance along with compensation expense increases. These
increases were partially offset by approximately $15 million of realized net
integration savings related to the J&H transaction.
Consulting services expenses increased 14% in 1997. Excluding acquisitions and
dispositions, expenses increased approximately 9% reflecting salary
progressions, the impact of staff growth to support new business and investments
in information technology systems and networks.
Special Charges, net
In 1996, MMC recorded, among others, a $17 million special charge for costs
associated with restructuring certain elements of its insurance and reinsurance
back-office operations in London. MMC was committed to implementing this plan;
however, within three months of its approval, J&H was acquired. Consequently,
the plan was temporarily suspended in order to evaluate it in light of the J&H
transaction and its U.K. operation. In the fall of 1997, it was determined that
the plan could proceed and negotiations were finalized to lease office space to
house the back office group which would enable MMC to achieve the planned
economies. After a build-out of the space, the group moved into their new
location in the summer of 1998. Before the staff reduction portion of the plan
could be implemented, the acquisition of Sedgwick was announced and the plans
needed to be evaluated again in light of this potential change in circumstances,
which would occur only if the governmental approvals were secured and no other
suitor out-bid MMC's offer. The acquisition of Sedgwick became unconditional in
the fourth quarter of 1998 and, with Sedgwick's substantial presence in the
U.K., it was determined that the remaining staff reduction plan could no longer
be executed. As a result, the remaining reserve of $15 million was reversed in
1998. While MMC still intends to complete a staff reduction plan, the
acquisition of Sedgwick will require a total reassessment of the individuals and
the severance benefits to be offered and the accrual for such charges will be
recorded when all of the appropriate requirements are met. Partially offsetting
this credit in 1998 is an $11 million charge associated with acquisition related
stock unit awards issued to certain senior employees of Sedgwick in 1998.
The $244 million of special charges for 1997 included $168 million of merger
costs predominantly related to the combination with J&H, a charge of $61 million
related to lease abandonment costs associated with the consolidation of various
London operations along with costs to abandon and redevelop MMC's London
building and $15 million for the disposal of certain EDP assets, which were
written-off in 1997. Of the total $244 million of special charges, $224 million
was applicable to risk and insurance services, $17 million related to consulting
and $3 million was recorded in general corporate. The net impact of the special
charges was $158 million after tax, or $.63 per diluted share.
The $168 million of merger costs, which related to employees and offices of MMC,
included personnel-related expenses principally involving severance and related
benefits associated with the reduction of approximately 1,300 positions
worldwide ($117 million), costs related to the planned consolidations of
approximately 30 offices ($38 million) and other integration costs ($13
million). In addition, $143 million of merger costs for planned reductions of
over 900 positions and consolidations of approximately 50 offices of J&H were
allocated to the cost of the acquisition. The utilization of these charges is
summarized in Note 4 to the consolidated financial statements. In 1998, the
actions contemplated by these plans were substantially completed and the
remaining actions are expected to be completed in early 1999.
Of the combined merger-related costs totaling $311 million, cash payments of
approximately $86 million and $122 million were made in 1997 and 1998,
respectively. Estimated cash payments of
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31
approximately $40 million are expected to be made in 1999. Some accruals,
primarily representing future rent under noncancelable leases (net of
anticipated sublease income), and salary continuance arrangements, primarily in
Canada and the Netherlands, are expected to be paid out over several years.
Management believes the gross annual savings associated with the J&H integration
should approximate $200 million when it is completed by the end of 1999, most of
which will result from reduced compensation and benefits expense reflecting the
elimination of approximately 2,200 positions and lower facilities costs
reflecting the consolidation of approximately 80 offices, primarily in the
United States. Net annual savings are expected to be approximately $125 million
for the full year 1999 after giving effect to incremental goodwill amortization.
Net savings of approximately $75 million were realized in 1998.
During 1996, MMC completed the sale of Frizzell for approximately $290 million
which resulted in a $33 million pretax gain. In addition, pretax charges
aggregating $93 million were recorded representing a provision of approximately
$34 million principally for London real estate consolidations; $27 million
primarily for severance and related benefits associated with the planned
reduction of over 600 employees relating to restructuring certain elements of
MMC's insurance and reinsurance back-office operations in London and several
office closings; $17 million for goodwill write-offs; and $15 million related to
the Lloyd's Reconstruction and Renewal Plan. The net impact of the gain on sale,
the special charges and the 1996 tax adjustment discussed in Note 5 increased
diluted net income per share by $.01 for the year.
The London insurance and reinsurance operations were restructured because there
were duplicative back office groups performing similar functions which could be
consolidated into shared services departments at an estimated annual savings of
between $20 and $25 million. Of the net $60 million special charge, $49 million
was applicable to risk and insurance services, $9 million related to consulting
and $2 million was recorded in general corporate.
Of the total charge of $93 million, $25 million of assets were written-off and
cash payments of $20 million were made during 1997. During 1998, an additional
$6 million of payments were made and $15 million of the reserve was reversed as
part of the 1998 net special credit described above. The remaining balance of
$27 million relates primarily to the London real estate reserve and it is
expected to be paid out over several years. Estimated cash payments of
approximately $7 million are expected to be made in 1999.
During 1997, MMC continued the evaluation of its London real estate issues and
in the fourth quarter recorded an additional special charge of $61 million
relating to the further consolidation of offices and the razing and
redevelopment of its London building.
The above actions did not result in any meaningful disruptions of MMC's
operations.
MMC is currently in the process of completing its integration plans associated
with the acquisition of Sedgwick. This initiative will result in a special
charge that will be recorded in 1999. Since this process has not been finalized,
the amount of the special charge cannot be quantified at this time. However, MMC
expects to achieve gross synergy savings of approximately $200 million
associated with the integration of Sedgwick and net annual savings should be
similar to that achieved as part of the J&H integration.
Interest
Interest income earned on corporate funds increased to $25 million in 1998 from
$24 million in 1997. Interest expense increased to $140 million in 1998 from
$107 million in 1997 primarily due to interest expense associated with the
incremental debt incurred in November 1998 to finance the Sedgwick acquisition
as well as the additional quarter of interest expense in 1998 related to
increased bank borrowings associated with the J&H transaction.
Interest income earned on corporate funds increased to $24 million in 1997
compared with $14 million in 1996 due, in large part, to the J&H combination.
Interest expense increased to $107 million in 1997 from $61 million in 1996 as a
result of increased bank borrowings used to finance the acquisitions of J&H and
CECAR as well as the assumption of J&H's long-term debt.
Income Taxes
MMC's consolidated tax rate was 39.00% of income before income taxes in 1998
compared with 39.30% in 1997. In 1997, excluding the tax effect of the special
charges, the underlying rate was 38.25%. In 1996, the underlying tax rate was
37.25% (prior to the tax adjustment described below). Comparing the underlying
tax rates, the increase in the tax rate was largely attributable to the
nondeductibility of goodwill associated with the J&H acquisition and other
acquisitions. The overall tax rates are higher than the U.S. federal statutory
rate primarily because of provisions for state and local income taxes.
In 1996, MMC recorded a tax adjustment that reduced the income tax provision by
$40 million. The tax adjustment primarily related to the permanent deployment of
funds outside the United States in a tax-efficient manner and favorable state
and local tax developments in the U.S.
Liquidity and Capital Resources
MMC's cash and cash equivalents aggregated $610 million at the end of 1998, an
increase of $186 million from the end of 1997.
Operating Cash Flows
MMC generated $1.1 billion of cash from operations in 1998 compared with $415
million in 1997. These amounts reflect the net income earned by MMC in those
years adjusted for non-cash charges and working capital changes. Included in the
cash flow from operations are the net cash requirements of Putnam's prepaid
dealer commissions, which amounted to $75 million in 1998 compared with $140
million in 1997. The tax benefit associated with these prepaid dealer
commissions is recorded as a deferred tax liability.
As further explained in Note 15 to the consolidated financial statements,
certain present and former English subsidiaries are under review by the Personal
Investment Authority concerning the disclosure and advice given to clients
regarding certain private pension transactions. The contingent exposure for
pension redress and related cost is estimated to be approximately $355 million
of which $170 million is expected to be recovered from insurers. Approximately
two-thirds of the contingent exposure is associated
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32
with the recently completed Sedgwick acquisition while the balance is associated
with other current and former subsidiaries of MMC. All amounts in excess of
anticipated insurance recoveries have been reserved for in the accompanying
balance sheet. Although the timing and amount of payments relating to the
pension review process cannot be predicted with certainty, it may be that MMC
will temporarily fund such payments by drawing upon its existing credit lines.
Financing Cash Flows
As previously mentioned, during the fourth quarter, MMC acquired Sedgwick, a
London-based holding company of one of the world's leading insurance and
reinsurance broking and consulting groups, for total cash consideration of
(pound)1.25 billion or approximately $2.2 billion. MMC has initially financed
the transaction with commercial paper that has been supported by a committed
bank facility comprising 19 banks and led by J. P. Morgan. MMC intends to
finalize a permanent financing arrangement, consisting of a combination of
long-term debt and equity, during 1999.
MMC completed its business combination with J&H, a leading insurance broker, on
March 27, 1997 for total consideration of approximately $1.8 billion.
Approximately one-third of the total consideration was cash and two-thirds MMC's
common stock. MMC also purchased CECAR for approximately $200 million during
January 1997. The cash portion of these transactions is being financed with bank
borrowings.
Financing activities for MMC used cash of $366 million in 1998 and contributed
cash of $399 million in 1997. Dividends paid by MMC amounted to $375 million in
1998 ($1.46 per share) and $306 million in 1997 ($1.26 per share). MMC
periodically purchases shares of its common stock to meet the requirements of
the various stock compensation and benefit programs. MMC purchased 4.1 million
shares in 1998 and 3.7 million shares in 1996.
MMC, in connection with the Sedgwick transaction, assumed debt amounting to $108
million at December 31, 1998. This debt consists of $60 million of 7.68% Senior
Loan notes, $36 million related to capital leases and $12 million of other
borrowings.
During 1997, MMC executed a revolving credit facility with several banks to
support its commercial paper borrowings and to fund other general corporate
requirements. This noncancelable facility, which expires June 2002, provides
that MMC may borrow up to $1.2 billion at market rates of interest which may
vary depending upon the level of usage of the facility and MMC's credit ratings.
Outstanding borrowings under revolving credit facilities at December 31, 1998
and 1997 amounted to $583 million and $709 million, respectively. Borrowings
under revolving credit facilities have been classified as long-term debt based
on MMC's intent and ability to maintain or refinance these obligations on a
long-term basis. MMC also maintains other credit facilities with various banks,
primarily related to operations located outside the United States, aggregating
$553 million as of December 31, 1998. MMC has borrowed $25 million under these
facilities at December 31, 1998 and has included $15 million of these borrowings
in long-term debt in the Consolidated Balance Sheet.
MMC has a fixed rate non-recourse mortgage note agreement due in 2009 amounting
to $200 million, at an interest rate of 9.8%, in connection with its interest in
its worldwide headquarters building. Also related to the purchase and renovation
of the building, MMC has an interest rate swap that fixes the interest rate at
approximately 9.5% on $100 million of variable rate borrowings. This swap
expired in February 1999.
During 1997, in connection with the J&H transaction, MMC assumed a note payable
due 2012 which has an outstanding balance of $86 million at December 31, 1998.
Interest on this debt is fixed at 8.62%.
Investing Cash Flows
Investing activities for MMC reduced cash by $587 million in 1998 and by $676
million in 1997. In 1998, cash used for acquisition activity, related to several
insurance and reinsurance broking, insurance program management and consulting
businesses, was $302 million. In 1997, cash used for acquisition activity,
primarily related to J&H and CECAR, was $473 million. MMC's capital
expenditures, which amounted to $297 million in 1998 and $202 million in 1997
have primarily related to computer equipment purchases and the refurbishing and
modernizing of office facilities.
Market Risk
Certain of MMC's recorded revenues, expenses, assets and liabilities are exposed
to the impact of interest rate changes and fluctuations in foreign currency
exchange rates. MMC manages its net exposure to interest rate changes by
utilizing a mixture of variable and fixed rate borrowings to finance MMC's asset
base. Interest rate swaps are utilized on a very limited basis. MMC does not
enter into foreign currency or interest rate transactions for trading or other
speculative purposes.
MMC had the following investments and debt instruments subject to variable
interest rates:
================================================================================
Year Ended December 31,
(In millions of dollars) 1998
- --------------------------------------------------------------------------------
Cash and cash equivalents invested in certificates of
deposit and time deposits $ 520
Fiduciary cash and investments $3,257
Variable rate debt outstanding $3,396
Interest rate swaps $ 140
================================================================================
MMC's results of operations are affected by changes in short-term interest rates
and their impact on the above-noted items. Based on the above balances, if
short-term interest rates increase by 25 basis points, annual interest income
would increase by approximately $9 million; however, this would be partially
offset by an $8 million increase in interest expense resulting in a net increase
to income before income taxes of $1 million.
The translated values of revenue and expense from MMC's international risk and
insurance services and consulting operations are subject to fluctuations due to
changes in currency exchange rates. However, the net impact of these
fluctuations on MMC's results of operations or cash flows has not been material.
Forward contracts and options are periodically utilized by MMC to limit foreign
currency exchange rate exposure on net income and cash flows for specific,
clearly defined transactions arising in the ordinary course of its business. At
December 31, 1998, MMC primarily had open forward exchange contracts to both
sell U.S. dollars for sterling and purchase U.S. dollars for sterling
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33
for underlying principal amounts of $28 million and $70 million, respectively.
These contracts were entered into by Sedgwick principally to hedge both firm
commitments and anticipated transactions.
Year 2000 Issue
MMC is in the final stages of updating its systems in preparation for the Year
2000. For this purpose, the term "systems" includes computer equipment and
software that are commonly thought of as information technology ("IT") systems
including accounting, data processing, telephone and other miscellaneous
systems, as well as non-information technology ("non-IT") systems, such as
embedded technology in MMC's facilities and equipment.
In connection with this project, which began in 1995, MMC and each of its
operating segments has undertaken a five-step process consisting of (1) taking
an inventory of all technical areas, including hardware, software (application
and system), data, third-party services and infrastructure that could
potentially be affected by the Year 2000 issue, (2) assessing the scope and
severity of the issue, (3) performing necessary remediation, (4)
testing/implementation and (5) preparing contingency plans for internal and
external failures. Steering committees have been established comprising
executive level management in each operating segment, and at the MMC level. The
Audit Committee of MMC's Board of Directors is regularly updated on the status
of MMC's Year 2000 efforts.
Each operating segment has already enhanced or replaced a number of systems to
ensure their Year 2000 readiness. At this time, all of MMC's operating segments
are predominantly in the testing/implementation phase of the process for mission
critical IT and non-IT systems.
A detailed review and evaluation of Sedgwick's Year 2000 plans has also been
conducted. That review determined that the approach adopted by Sedgwick was
broadly consistent with MMC's. In January 1999, the individual components of the
Sedgwick plans were incorporated into the Year 2000 project plans of the
existing operating segments with which they will be aligned. As a result of the
integration analysis, it is anticipated that Sedgwick's pre-existing plans will
be carried out to completion or, where appropriate, Sedgwick's non-compliant
systems will be replaced by MMC's compliant systems. The incremental costs of
the Sedgwick plans are included in the amounts shown below.
The total cost of the Year 2000 project is estimated to be $65 million. Of the
total cost, $22 million is anticipated to be incurred in 1999, $26 million was
expensed during 1998 and $17 million prior to 1998. Such costs do not include
expenses incurred in replacing systems and applications in the ordinary course
which have the effect of making such systems and applications Year 2000
compliant, but which were not incurred for that specific purpose. Costs of
modifying computer software for Year 2000 conversion are being charged to
expense as they are incurred and are funded from operating cash flows. No
projects have been deferred or canceled as a result of Year 2000 efforts. In
1998, Year 2000 expenses represented approximately 5% of MMC's overall
information technology budget. Future costs associated with addressing this
issue are not expected to have a material adverse impact on MMC's financial
position or results of operations.
MMC expects that all of its mission critical IT and non-IT systems, including
those associated with supporting the Sedgwick operations, will be Year 2000
compliant by mid-1999. Non-mission critical IT and non-IT systems that could
impact MMC's ability to serve clients and conduct business beyond January 1,
2000 have been assessed and are expected to be Year 2000 ready before the end of
1999. MMC recognizes that there may be some non-mission critical IT and non-IT
systems utilized for internal purposes that may not be compliant by the end of
1999. It is expected that these systems will be replaced or phased out of use.
In addition, MMC is continuing its inquiries as to the state of readiness of its
significant third party relationships including clients and vendors. This
process has included a review of third parties' Year 2000 readiness and the
incorporation of certain third party dependencies into MMC's test plans.
Although MMC is unable to verify the Year 2000 readiness of third parties, where
MMC has been unable to validate the status of a third party, but has received
information such that the timing or status of that third party's Year 2000
project does not align with its own, if significant, that supplier has or will
be replaced. For example, J&H Marsh & McLennan is notifying clients when
responses are not received from insurance companies.
The individual operating segments of MMC are currently in the process of
analyzing the operational problems and costs (including loss of revenues) that
would be reasonably likely to result from MMC's failure or the failure of
certain third parties to complete efforts necessary to achieve Year 2000
readiness on a timely basis. For internal systems, although our expectation is
that no significant disruption will occur, MMC's 1999 test plans and contingency
processes have been designed to address such a risk. For third party risks,
every effort is being made to assess and test those risks. For example, Putnam
is actively involved in industry-wide Year 2000 testing. In July 1998, Putnam
participated in the "Street-wide Test" carried out under the auspices of the
Securities Industry Association. Putnam will participate in all future testing,
which will include the simulation of a trading cycle from order entry to
settlement in a Year 2000 environment.
MMC is in the process of completing a contingency plan for dealing with the most
reasonably likely worst case scenarios presented by the Year 2000 problem. This
process has been based, in part, upon MMC's existing disaster recovery process.
These analyses and contingency plans will be completed during 1999. While MMC
expects its Year 2000 efforts to reduce the scope and likelihood of potential
Year 2000 failures, due to the overall uncertainty of the effect of a potential
failure in Year 2000 readiness, particularly with respect to MMC's business
partners or the communities in which MMC operates, MMC is unable specifically to
determine whether any particular failure or groups of failures will have a
material adverse impact on MMC.
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34
Other
MMC has been instrumental in developing new sources of insurance capacity. MMC,
through Marsh & McLennan Capital, maintains ownership interest in various
entities it assisted in organizing. These investments have been classified as
available for sale securities and, as discussed more fully in Note 11 to the
consolidated financial statements, the aggregate fair value of these holdings is
included in long-term securities in the Consolidated Balance Sheets. Marsh &
McLennan Capital expects to continue to manage and develop further these
activities.
The insurance coverage for potential liability resulting from alleged errors and
omissions in the professional services provided by MMC includes elements of both
risk retention and risk transfer. MMC believes it has adequately reserved for
the self-insurance contingencies. Payments related to the respective
self-insured layers are made as legal fees are incurred and claims are resolved
and generally extend over a considerable number of years. The amounts paid in
that regard vary in relation to the severity of the claims and the number of
claims active in any particular year. The long-term portion of this liability is
included in other liabilities in the Consolidated Balance Sheets.
MMC's policy for funding its tax qualified U.S. defined benefit retirement plan
is to contribute amounts at least sufficient to meet the funding requirements
set forth in U.S. employee benefit and tax laws. As illustrated more fully in
Note 6 to the consolidated financial statements, the plan has been and continues
to be well funded; consequently, MMC has not been able to make a tax deductible
contribution since 1986. Because this situation is expected to continue, a 1999
cash contribution is currently not anticipated.
MMC contributes to certain health care and life insurance benefits provided to
its retired employees. The cost of these postretirement benefits for employees
in the United States is accrued during the period up to the date employees are
eligible to retire, but is funded by MMC as incurred. This postretirement
liability is included in other liabilities in the Consolidated Balance Sheets.
In September 1997, Putnam adopted the Putnam Investments, Inc. Equity
Partnership Plan ("Plan") pursuant to which Putnam is authorized to grant or
sell to certain key employees of Putnam or its subsidiaries restricted shares of
a new class of common stock of Putnam ("Class B Common Stock") and options to
acquire the Class B Common Stock. Such awards or options generally vest over a
four-year period. Holders of Putnam Class B shares are not entitled to vote and
have no rights to convert their shares into any other securities of Putnam.
However, in the event of certain change in control events, Class B shares will
be converted into Class A Common Stock on a share for share basis. Awards of
restricted stock and/or options may be made under the Plan with respect to a
maximum of 12,000,000 shares of Class B Common Stock, which would represent
approximately 12% of the outstanding shares on a fully diluted basis. Through
December 31, 1998, Putnam has made awards pursuant to the Plan with respect to
approximately 7,660,000 shares of Class B Common Stock, including 3,830,000
shares of restricted stock and 3,830,000 shares subject to options. The purpose
of the Plan is to foster and promote the long-term success of Putnam and to
increase shareholder value by enabling Putnam to attract and retain the services
of an outstanding management team and professional staff. Pursuant to an
executive compensation agreement, Putnam has also awarded 300,000 restricted
stock units and 325,000 options related to Class B Common Stock to a key
executive of Putnam.
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35
Marsh & McLennan Companies, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF INCOME
================================================================================
For the Three Years Ended December 31, 1998
(In millions, except per share figures) 1998 1997 1996
- --------------------------------------------------------------------------------
Revenue $ 7,190 $ 6,009 $ 4,404
Expense 5,770 5,211 3,689
- --------------------------------------------------------------------------------
Operating income 1,420 798 715
Interest income 25 24 14
Interest expense (140) (107) (61)
- --------------------------------------------------------------------------------
Income before income taxes 1,305 715 668
Income taxes 509 281 209
- --------------------------------------------------------------------------------
Net income $ 796 $ 434 $ 459
================================================================================
Basic net income per share $3.11 $1.77 $2.11
================================================================================
Diluted net income per share $2.98 $1.73 $2.08
================================================================================
Average number of shares outstanding -- Basic 256 245 217
================================================================================
Average number of shares outstanding -- Diluted 264 251 221
================================================================================
The accompanying notes are an integral part of these consolidated statements.
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36
Marsh & McLennan Companies, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
====================================================================================================================================
December 31, 1998 and 1997
(In millions of dollars) 1998 1997
- ------------------------------------------------------------------------------------------------------------------------------------
ASSETS
Current assets:
Cash and cash equivalents (including interest-bearing amounts
of $520 in 1998 and $378 in 1997) $ 610 $ 424
- ------------------------------------------------------------------------------------------------------------------------------------
Receivables--
Commissions and fees 1,584 1,296
Advanced premiums and claims 129 95
Other 294 160
- ------------------------------------------------------------------------------------------------------------------------------------
2,007 1,551
Less -- allowance for doubtful accounts (98) (53)
- ------------------------------------------------------------------------------------------------------------------------------------
Net receivables 1,909 1,498
- ------------------------------------------------------------------------------------------------------------------------------------
Prepaid dealer commissions -- current portion 315 283
Deferred tax assets 76 166
Other current assets 335 196
- ------------------------------------------------------------------------------------------------------------------------------------
Total current assets 3,245 2,567
Long-term securities 828 720
Fixed assets, net 1,287 957
Intangible assets 4,826 2,417
Prepaid dealer commissions 799 756
Other assets 886 495
- ------------------------------------------------------------------------------------------------------------------------------------
$ 11,871 $ 7,912
====================================================================================================================================
====================================================================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Short-term debt $ 2,234 $ 237
Accounts payable and accrued liabilities 1,438 1,223
Accrued compensation and employee benefits 841 564
Accrued income taxes 385 234
Dividends payable 104 85
- ------------------------------------------------------------------------------------------------------------------------------------
Total current liabilities 5,002 2,343
- ------------------------------------------------------------------------------------------------------------------------------------
Fiduciary liabilities 3,257 2,282
Less -- cash and investments held in a fiduciary capacity (3,257) (2,282)
- ------------------------------------------------------------------------------------------------------------------------------------
-- --
Long-term debt 1,590 1,240
- ------------------------------------------------------------------------------------------------------------------------------------
Other liabilities 1,620 1,096
- ------------------------------------------------------------------------------------------------------------------------------------
Commitments and contingencies -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Stockholders' equity:
Preferred stock, $1 par value, authorized 6,000,000 shares, none issued -- --
Common stock, $1 par value, authorized 400,000,000 shares,
issued 258,867,125 shares in 1998 and 258,586,766 shares in 1997 259 172
Additional paid-in capital 889 994
Retained earnings 2,412 2,010
Accumulated other comprehensive income 206 167
- ------------------------------------------------------------------------------------------------------------------------------------
3,766 3,343
Less -- treasury shares, at cost 1,956,825 shares in 1998 and 3,661,256 shares in 1997 (107) (110)
- ------------------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 3,659 3,233
- ------------------------------------------------------------------------------------------------------------------------------------
$ 11,871 $ 7,912
====================================================================================================================================
The accompanying notes are an integral part of these consolidated statements.
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37
Marsh & McLennan Companies, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
====================================================================================================================================
For the Three Years Ended December 31, 1998
(In millions of dollars) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
Operating cash flows:
Net income $ 796 $ 434 $ 459
Gain on sale of businesses -- (13) (33)
Special charges (credits) (4) 244 93
Depreciation of fixed assets 169 149 119
Amortization of intangible assets 82 50 21
Provision (benefit) for deferred income taxes 79 (139) (21)
Prepaid dealer commissions (75) (140) (339)
Other liabilities 18 22 19
Other, net (23) (1) (11)
Net changes in operating working capital other than cash and cash equivalents --
Receivables (171) (155) (95)
Other current assets 63 (3) (61)
Accrued compensation and employee benefits 175 160 137
Accounts payable and accrued liabilities (121) (111) (21)
Accrued income taxes 147 (79) 29
Effect of exchange rate changes (2) (3) 21
- ------------------------------------------------------------------------------------------------------------------------------------
Net cash generated from operations 1,133 415 317
- ------------------------------------------------------------------------------------------------------------------------------------
Financing cash flows:
Net increase (decrease) in commercial paper 425 (161) (165)
Other borrowings 52 2,358 255
Repayments of other borrowings (411) (1,702) (91)
Purchase of treasury shares (242) -- (230)
Issuance of common stock 185 210 143
Dividends paid (375) (306) (239)
Other, net -- -- 2
- ------------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used for) financing activities (366) 399 (325)
- ------------------------------------------------------------------------------------------------------------------------------------
Investing cash flows:
Additions to fixed assets (297) (202) (157)
Net cash proceeds from sale of businesses -- 54 242
Acquisitions (302) (473) (7)
Other, net 12 (55) (92)
- ------------------------------------------------------------------------------------------------------------------------------------
Net cash used for investing activities (587) (676) (14)
- ------------------------------------------------------------------------------------------------------------------------------------
Effect of exchange rate changes on cash and cash equivalents 6 (14) (6)
- ------------------------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents 186 124 (28)
Cash and cash equivalents at beginning of year 424 300 328
- ------------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 610 $ 424 $ 300
====================================================================================================================================
The accompanying notes are an integral part of these consolidated statements.
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38
Marsh & McLennan Companies, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
====================================================================================================================================
For the Three Years Ended December 31, 1998
(In millions of dollars, except per share figures) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
COMMON STOCK
Balance, beginning of year $ 172 $ 77 $ 77
Acquisitions -- 9 --
Common stock split 87 86 --
- ------------------------------------------------------------------------------------------------------------------------------------
Balance, end of year $ 259 $ 172 $ 77
- ------------------------------------------------------------------------------------------------------------------------------------
ADDITIONAL PAID-IN CAPITAL
Balance, beginning of year $ 994 $ 148 $ 155
Acquisitions -- 908 --
Common stock split (87) (86) --
Exercise of stock options and related tax benefits (11) 15 (10)
Issuance of shares under compensation plans and related tax benefits 7 10 8
Issuance of shares under employee stock purchase plans and related tax benefits (14) (1) (5)
- ------------------------------------------------------------------------------------------------------------------------------------
Balance, end of year $ 889 $ 994 $ 148
- ------------------------------------------------------------------------------------------------------------------------------------
RETAINED EARNINGS
Balance, beginning of year $ 2,010 $ 1,902 $ 1,689
Net income 796(a) 434(a) 459(a)
Cash dividends declared -- (per share amounts:
$1.53 in 1998, $1.29 in 1997 and $1.14 in 1996) (394) (326) (246)
- ------------------------------------------------------------------------------------------------------------------------------------
Balance, end of year $ 2,412 $ 2,010 $ 1,902
- ------------------------------------------------------------------------------------------------------------------------------------
ACCUMULATED OTHER COMPREHENSIVE INCOME
Balance, beginning of year $ 167 $ 145 $ 62
Foreign currency translation adjustments 18(b) (66)(b) 11(b)
Unrealized securities holding gains, net of reclassification adjustments 45(c) 88(c) 72(c)
Minimum pension liability adjustment (24)(d) -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Balance, end of year $ 206 $ 167 $ 145
- ------------------------------------------------------------------------------------------------------------------------------------
TREASURY SHARES
Balance, beginning of year $ (110) $ (383) $ (317)
Acquisitions -- 47 --
Purchase of treasury shares (242) -- (230)
Exercise of stock options 97 147 95
Issuance of shares under compensation plans 29 15 10
Issuance of shares under employee stock purchase plans 119 64 59
- ------------------------------------------------------------------------------------------------------------------------------------
Balance, end of year $ (107) $ (110) $ (383)
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL STOCKHOLDERS' EQUITY $ 3,659 $ 3,233 $ 1,889
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL COMPREHENSIVE INCOME (a+b+c+d) $ 835 $ 456 $ 542
====================================================================================================================================
The accompanying notes are an integral part of these consolidated statements.
----------
39
Marsh & McLennan Companies, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1 Summary of Significant Accounting Policies
- --------------------------------------------------------------------------------
Principles of Consolidation: The accompanying consolidated financial statements
include the accounts of Marsh & McLennan Companies, Inc. and all its
subsidiaries ("MMC"). Various subsidiaries and affiliates have transactions with
each other in the ordinary course of business. All significant intercompany
accounts and transactions have been eliminated.
Fiduciary Assets and Liabilities: In its capacity as an insurance broker or
agent, MMC collects premiums from insureds and, after deducting its commissions,
remits the premiums to the respective insurance underwriters; MMC also collects
claims or refunds from underwriters on behalf of insureds. Unremitted insurance
premiums and claims are held in a fiduciary capacity. Interest income on these
fiduciary funds, included in revenue, amounted to $137 million in 1998, $111
million in 1997 and $94 million in 1996.
Net uncollected premiums and claims and the related payables, amounting to $10.0
billion at December 31, 1998 and $5.2 billion at December 31, 1997, are not
included in the accompanying Consolidated Balance Sheets.
In certain instances, MMC advances premiums, refunds or claims to insurance
underwriters or insureds prior to collection. These advances are made from
corporate funds and are reflected in the accompanying Consolidated Balance
Sheets as receivables.
Revenue: Revenue includes insurance commissions, fees for services rendered,
placement services revenue earned from insurance carriers, compensation for
services provided in connection with the formation or capitalization of various
insurers and reinsurers and related firms, including gains from sales of
interests in such entities, commissions on the sale of mutual fund shares and
interest income on fiduciary funds. Insurance commissions generally are recorded
as of the effective date of the applicable policies or, in certain cases
(primarily in MMC's reinsurance and London market operations), as of the
effective date or billing date, whichever is later. Fees for services rendered
are recorded as earned. Sales of mutual fund shares are recorded on a settlement
date basis and commissions thereon are recorded on a trade date basis, in
accordance with industry practice.
Cash and Cash Equivalents: Cash and cash equivalents primarily consist of
certificates of deposit and time deposits, generally with original maturities of
three months or less.
Fixed Assets, Depreciation and Amortization: Fixed assets are stated at cost
less accumulated depreciation and amortization. Expenditures for improvements
are capitalized. Upon sale or retirement, the cost and related accumulated
depreciation and amortization are removed from the accounts and the resulting
gain or loss, if any, is reflected in income. Expenditures for maintenance and
repairs are charged to operations as incurred.
Depreciation of buildings, building improvements, furniture and equipment is
provided on a straight-line basis over the estimated useful lives of these
assets. Leasehold improvements are amortized on a straight-line basis over the
periods covered by the applicable leases or the estimated useful life of the
improvement, whichever is less.
The components of fixed assets are as follows:
================================================================================
December 31, 1998 and 1997
(In millions of dollars) 1998 1997
- --------------------------------------------------------------------------------
Land and buildings $ 628 $ 471
Furniture and equipment 1,011 878
Leasehold and building improvements 468 406
- --------------------------------------------------------------------------------
2,107 1,755
Less -- accumulated depreciation
and amortization (820) (798)
- --------------------------------------------------------------------------------
$ 1,287 $ 957
================================================================================
Intangible Assets: Acquisition costs in excess of the fair value of net assets
acquired are amortized on a straight-line basis over periods up to 40 years.
Other intangible assets are amortized on a straight-line basis over their
estimated lives. MMC periodically assesses the recoverability of intangible
assets by comparing expected undiscounted future cash flows from the underlying
business operation with recorded intangible asset balances. If such assessments
indicate that the undiscounted future cash flows are not sufficient to recover
the related carrying value, the assets are adjusted to fair values.
Prepaid Dealer Commissions: Essentially all of the mutual funds marketed by
MMC's investment management segment are also made available with a contingent
deferred sales charge in lieu of a front end load. The related commissions,
initially paid by MMC to broker/dealers for distributing the funds, are
recovered through charges and fees received over a number of years. The prepaid
dealer commissions are generally amortized over a six year period.
Capitalized Software Costs: MMC capitalizes certain costs to develop, purchase
or modify software for the internal use of MMC in accordance with American
Institute of Certified Public Accountants Statement of Position No. 98-1,
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use," which was adopted in 1998. These costs are amortized on a
straight-line basis not to exceed five years. Unamortized computer software
costs amounting to $110 million and $53 million at December 31, 1998 and 1997,
respectively, are included in other assets in the Consolidated Balance Sheets.
Income Taxes: Income taxes provided reflect the current and deferred tax
consequences of events that have been recognized in MMC's financial statements
or tax returns. U.S. Federal income taxes are provided on unremitted foreign
earnings except those that are considered permanently reinvested, which at
December 31, 1998 amounted to approximately $500 million. However, if these
earnings were not considered permanently reinvested, the incremental tax
liability which otherwise might be due upon distribution, net of foreign tax
credits, would be approximately $60 million.
Risk Management Instruments: Net amounts received or paid under interest rate
swaps and foreign exchange contracts are included in the Consolidated Statements
of Income as incurred.
----------
40
Concentrations of Credit Risk: Financial instruments which potentially subject
MMC to concentrations of credit risk consist primarily of cash and cash
equivalents and commissions receivable. MMC maintains a policy providing for the
diversification of cash and cash equivalents and places its investments in an
extensive number of high quality financial institutions to limit the amount of
credit risk exposure. Concentrations of credit risk with respect to receivables
are limited due to the large number of clients and markets in which MMC does
business, as well as the dispersion across many geographic areas.
Per Share Data: Basic net income per share is calculated by dividing net income
by the average number of shares of MMC's common stock outstanding. Diluted net
income per share is calculated by reducing net income for the potential minority
interest associated with unvested shares under the Putnam Equity Partnership
Plan. This result is then divided by the average common shares outstanding which
have been adjusted for the dilutive effect of potential common shares.
The following reconciles net income to net income for diluted earnings per share
and basic weighted average common shares outstanding to diluted weighted average
common shares outstanding:
====================================================================================================================================
For the Three Years Ended December 31, 1998
(In millions) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
Net income $ 796 $ 434 $ 459
Less: Potential minority interest associated with Putnam Equity Partnership Plan (10) -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Net income for diluted earnings per share $ 786 $ 434 $ 459
====================================================================================================================================
Basic weighted average common shares outstanding 256 245 217
Dilutive effect of stock options 8 6 4
- ------------------------------------------------------------------------------------------------------------------------------------
Diluted weighted average common shares outstanding 264 251 221
====================================================================================================================================
Estimates: The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
New Accounting Pronouncements: In June 1998, the Financial Accounting Standards
Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No.
133, "Accounting for Derivative Instruments and Hedging Activities." This
standard, which establishes new accounting and reporting requirements for
derivative instruments, is effective for fiscal years beginning after June 15,
1999. MMC does not expect the adoption of this standard to have a material
impact on its results of operations or consolidated financial condition.
Reclassifications: Certain reclassifications have been made to the prior year
amounts to conform to the current year presentation.
2 Supplemental Disclosure to the Consolidated Statements of Cash Flows
- --------------------------------------------------------------------------------
The following schedule provides additional information concerning acquisitions
and interest and income taxes paid:
================================================================================
For the Three Years Ended December 31, 1998
(In millions of dollars) 1998 1997 1996
- --------------------------------------------------------------------------------
Purchase acquisitions:
Assets acquired, excluding cash $ 3,345 $ 2,832 $ 10
Liabilities assumed (852) (1,165) (3)
Issuance of debt and other obligations (2,191) (221) --
Shares issued -- (973) --
- --------------------------------------------------------------------------------
Net cash outflow for acquisitions $ 302 $ 473 $ 7
================================================================================
Interest paid $ 164 $ 92 $ 60
Income taxes paid $ 305 $ 471 $ 200
================================================================================
----------
41
3 Comprehensive Income
- --------------------------------------------------------------------------------
Effective January 1, 1998, MMC adopted SFAS No. 130, "Reporting Comprehensive
Income," which requires the reporting and display of comprehensive income and
its components. The adoption of SFAS No. 130 had no impact on MMC's results of
operations or consolidated financial condition. Net unrealized gains and losses
on MMC's available for sale securities as well as foreign exchange gains or
losses, which prior to adoption were reported separately in stockholders'
equity, are now included in other comprehensive income. Prior year consolidated
financial statements have been reclassified to conform to the requirements of
SFAS No. 130.
The components of other comprehensive income are as follows:
====================================================================================================================================
For the Three Years Ended December 31, 1998
(In millions of dollars) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
Foreign currency translation adjustments $ 18 $ (66) $ 11
Unrealized securities holding gains, net of income taxes of $39, $60 and $45 in 1998, 1997 and 1996 71 111 83
Less: Reclassification adjustment for gains included in net income, net of income taxes of $14, $13
and $6 in 1998, 1997 and 1996 (26) (23) (11)
Minimum pension liability adjustment, net of income taxes of $16 (24) -- --
- ------------------------------------------------------------------------------------------------------------------------------------
$ 39 $ 22 $ 83
====================================================================================================================================
The components of accumulated other comprehensive income are as follows:
================================================================================
December 31, 1998 and 1997
(In millions of dollars) 1998 1997
- --------------------------------------------------------------------------------
Foreign currency translation adjustments $(124) $(142)
Unrealized securities holding gains 354 309
Minimum pension liability adjustment (24) --
- --------------------------------------------------------------------------------
$ 206 $ 167
================================================================================
4 Acquisitions and Dispositions
- --------------------------------------------------------------------------------
Acquisitions: In the fourth quarter of 1998, MMC consummated a business
combination with Sedgwick Group plc ("Sedgwick"), a London-based holding company
of one of the world's leading insurance and reinsurance broking and consulting
groups, for total cash consideration of approximately $2.2 billion, which has
been initially funded with commercial paper borrowings. The business combination
is being accounted for using the purchase method of accounting. Accordingly,
goodwill of approximately $2.0 billion resulting from the preliminary purchase
price allocation is being amortized over 40 years. Assets acquired and
liabilities assumed have been recorded at their estimated fair values and are
subject to adjustment when purchase accounting is finalized in 1999.
In March 1997, MMC consummated a business combination with Johnson & Higgins
("J&H"), a privately-held risk and insurance services and employee benefit
consulting firm. MMC agreed to pay total consideration of approximately $1.8
billion consisting of $600 million in cash and approximately $1.2 billion or
29.4 million shares (adjusted to reflect subsequent stock splits) of MMC's
common stock. Approximately $1.3 billion was paid at closing or shortly
thereafter and approximately $500 million is being paid in annual installments
over the four years following the closing. The business combination is being
accounted for using the purchase method of accounting. Accordingly, goodwill of
approximately $1.7 billion which resulted from the purchase price allocation is
being amortized over 40 years. In arriving at fair value, MMC discounted the
market value of the $1.2 billion stock issuance by $120 million reflecting
certain transfer restrictions associated with the shares issued. MMC allocated
the cost of the acquisition to assets acquired and liabilities assumed based on
its estimate of fair values. No intangible assets, other than goodwill, were
acquired as part of the business combination with J&H.
An agreed upon number of shares issued in connection with the J&H transaction
carry restrictions and, consequently, cannot be sold in the first and second
years following the closing. In addition, approximately 2.4 million of the 29.4
million shares of common stock were placed in escrow for a period of up to two
years in order to secure indemnification obligations with respect to
representations and warranties.
The following unaudited pro forma summary presents the consolidated results of
operations of MMC as if the Sedgwick business combination had occurred on
January 1, 1997 and as if the J&H combination had occurred on January 1, 1996.
The pro forma results are shown for illustrative purposes only and do not
purport to be
----------
42
indicative of the results which would have been reported if the business
combinations had occurred on the dates indicated or which may occur in the
future. The pro forma information reflected below includes the impact of pretax
special charges in 1998 of $201 million recorded by Sedgwick prior to its being
acquired by MMC, primarily related to pension redress issues discussed in Note
15, and pretax special charges recorded by MMC of $244 million in 1997 and $60
million in 1996 discussed in Note 12.
================================================================================
Year Ended December 31,
(In millions of dollars, except per share figures) 1998 1997 1996
- --------------------------------------------------------------------------------
Revenue $ 8,646 $ 7,902 $ 5,552
Net Income 641 427 482
Basic net income per share 2.42 1.63 1.96
Diluted net income per share 2.31 1.60 1.93
================================================================================
During 1998, MMC also acquired or increased its interest in several other
insurance and reinsurance broking, insurance program management, and consulting
businesses for a total cost of $413 million in transactions accounted for as
purchases. The cost of these acquisitions exceeded the fair value of net assets
acquired by $422 million.
During 1997, MMC also acquired or increased its interest in several other
insurance and reinsurance broking and consulting businesses for a total cost of
$285 million in transactions accounted for as purchases. The cost of these
acquisitions exceeded the fair value of net assets acquired by $317 million. In
addition, MMC issued approximately 1.4 million shares of common stock (adjusted
to reflect subsequent stock splits) in connection with the acquisition of an
insurance program management business accounted for as a pooling of interests.
During 1996, MMC acquired an insurance broking business and various other
insurance and reinsurance broking assets for a total cost of $13 million in
transactions accounted for as purchases. The cost of these acquisitions exceeded
the fair value of net assets acquired by $8 million.
Dispositions: As part of the combination with Sedgwick, MMC acquired several
insurance underwriting companies that were already in run-off along with
consulting businesses not compatible with its existing operations. MMC intends
to sell these operations in the near future and accordingly, $84 million of net
assets of these businesses at December 31, 1998 are included in other current
assets in the Consolidated Balance Sheet as assets to be sold. The net assets at
December 31, 1998 are stated at their estimated realizable value.
During 1997, MMC sold an insurance program management business and a consulting
operation for $54 million and recognized pretax gains of $13 million.
During 1996, MMC sold The Frizzell Group Limited ("Frizzell") for approximately
$290 million and recognized a pretax gain of $33 million.
In 1997, as part of the integration of J&H, MMC adopted plans to consolidate
duplicative offices and reduce staff. The estimated cost of the plans relating
to employees and offices of J&H ("J&H Plan") amounted to $143 million and was
allocated to the cost of the acquisition. Merger related costs for employees and
offices of MMC ("MMC Plan") amounted to $168 million and were recorded as part
of a special charge in 1997.
The $143 million allocated to the cost of the J&H acquisition included $69
million of costs principally related to the planned consolidations of
approximately 50 offices and $74 million for employee related costs, primarily
severance and related benefits associated with the reduction of over 900
positions worldwide. The $168 million recorded as part of the MMC special charge
included $117 million of severance and related benefits associated with the
reduction of approximately 1,300 positions worldwide; $38 million of costs
principally related to the planned consolidations of approximately 30 offices;
and $13 million for other integration related costs. The office consolidation
costs primarily represent future rent under noncancelable leases (net of
anticipated sublease income) and lease termination payments.
The utilization of the charges is summarized as follows:
================================================================================
Balance
Initial Utilized Utilized Dec. 31,
(In millions of dollars) Balance in 1997 in 1998 1998
- --------------------------------------------------------------------------------
J&H Plan:
Termination payments to
employees $ 70 $ (17) $ (37) $ 16
Other employee related costs 4 (2) (1) 1
Future rent under
noncancelable leases 45 (1) (5) 39
Leasehold termination costs 24 (4) (13) 7
- --------------------------------------------------------------------------------
$ 143 $ (24) $ (56) $ 63
================================================================================
Number of employee
terminations 900 (600) (250) 50
Number of office
consolidations 50 (10) (35) 5
================================================================================
MMC Plan:
Termination payments to
employees $ 117 $ (44) $ (58) $ 15
Future rent under
noncancelable leases 21 (2) (4) 15
Leasehold termination costs 17 (10) (2) 5
Other integration related costs 13 (6) (2) 5
- --------------------------------------------------------------------------------
$ 168 $ (62) $ (66) $ 40
================================================================================
Number of employee
terminations 1,300 (800) (450) 50
Number of office
consolidations 30 (10) (17) 3
================================================================================
In January 1999, the final group of nearly 100 employees who were determined to
be redundant under the Plans were severed from employment with MMC. The
remaining real estate actions are expected to be completed during 1999. The
remaining balances, primarily representing future rent under noncancelable
leases and salary continuance arrangements, primarily in Canada and the
Netherlands, are expected to be paid out over several years.
----------
43
5 Income Taxes
- --------------------------------------------------------------------------------
Income before income taxes shown below is based on the geographic location to
which such income is attributable. Although income taxes related to such income
may be assessed in more than one jurisdiction, the income tax provision
corresponds to the geographic location of the income.
================================================================================
For the Three Years Ended December 31, 1998
(In millions of dollars) 1998 1997 1996
- --------------------------------------------------------------------------------
Income before income taxes:
U.S $ 897 $ 510 $ 437
Other 408 205 231
- --------------------------------------------------------------------------------
$ 1,305 $ 715 $ 668
================================================================================
Income taxes:
Current--
U.S. Federal $ 284 $ 218 $ 94
Other national governments 89 141 97
U.S. state and local 57 61 39
- --------------------------------------------------------------------------------
430 420 230
- --------------------------------------------------------------------------------
Deferred--
U.S. Federal 30 (55) 48
Other national governments 49 (71) (40)
U.S. state and local -- (13) (29)
- --------------------------------------------------------------------------------
79 (139) (21)
- --------------------------------------------------------------------------------
Total income taxes $ 509 $ 281 $ 209
================================================================================
The significant components of deferred income tax assets and liabilities and
their balance sheet classifications are as follows:
================================================================================
December 31, 1998 and 1997
(In millions of dollars) 1998 1997
- --------------------------------------------------------------------------------
Deferred tax assets:
Accrued expenses not currently deductible $ 752 $ 616
Accrued retirement benefits 137 117
Differences related to non-U.S. operations 215 119
Depreciation and amortization -- 11
Other 18 15
- --------------------------------------------------------------------------------
$ 1,122 $ 878
================================================================================
Deferred tax liabilities:
Depreciation and amortization $ 43 $ --
Prepaid dealer commissions 401 376
Safe harbor leasing 10 14
Unbilled revenue 14 18
Unrealized securities holding gains 192 167
Differences related to non-U.S. operations 71 36
Other 56 18
- --------------------------------------------------------------------------------
$ 787 $ 629
================================================================================
Balance sheet classifications:
Current assets $ 76 $ 166
Other assets 359 181
Accrued income taxes (100) (98)
================================================================================
A reconciliation from the U.S. Federal statutory income tax rate to MMC's
effective income tax rate is as follows:
================================================================================
For the Three Years Ended
December 31, 1998 1998 1997 1996
- --------------------------------------------------------------------------------
U.S. Federal statutory rate 35.00% 35.00% 35.00%
U.S. state and local income taxes--
net of U.S. Federal income
tax benefit 2.90 4.40 3.90
Differences related to non-U.S
operations (.40) (.20) (1.25)
Tax adjustment -- -- (6.00)
Other 1.50 .10 (.40)
- --------------------------------------------------------------------------------
Effective tax rate 39.00% 39.30% 31.25%
================================================================================
During 1996, MMC recorded a tax adjustment that reduced the income tax provision
by $40 million. The tax adjustment primarily related to the permanent deployment
of funds outside of the United States in a tax efficient manner and favorable
state and local tax developments in the U.S.
In 1997, MMC received a Notice of Proposed Adjustment from a local field office
of the Internal Revenue Service ("IRS") challenging its tax treatment related to
12b-1 fees paid by the Putnam Funds. The notice reflected the preliminary
thinking of the IRS field office and did not constitute a formal assertion of
liability by the IRS. The notice in question asserts a position contrary to the
position enunciated in an IRS 1993 Technical Advice Memorandum. The IRS field
office withdrew the Notice of Proposed Adjustment and submitted the matter to
the national office of the IRS for consideration in a request for technical
advice. Consequently, the issue is under consideration by the IRS. MMC believes
its tax treatment of these fees is consistent with current industry practice and
applicable requirements of the Internal Revenue Code and previously issued IRS
technical advice.
Taxing authorities periodically challenge positions taken by MMC on its tax
returns. On the basis of present information and advice received from counsel,
it is the opinion of MMC's management that any assessments resulting from
current tax audits will not have a material adverse effect on MMC's consolidated
results of operations or its consolidated financial position.
----------
44
6 Retirement Benefits
- --------------------------------------------------------------------------------
In 1998, MMC adopted SFAS No. 132, "Employers' Disclosures about Pensions and
Other Postretirement Benefits." The new standard does not change the measurement
or recognition of those plans, but revises disclosures about pensions and other
postretirement benefit plans. Restatement of disclosures for the prior year has
been made for comparative purposes.
The following schedules provide information concerning MMC's U.S. defined
benefit pension plans and postretirement benefit plans:
====================================================================================================================================
U.S. Pension U.S. Postretirement
Benefits Benefits
December 31, 1998 and 1997 --------------------------------------------------------------
(In millions of dollars) 1998 1997 1998 1997
- ------------------------------------------------------------------------------------------------------------------------------------
Change in benefit obligation:
Benefit obligation at beginning of year $ 1,434 $ 798 $ 175 $ 88
Service cost 46 39 3 4
Interest cost 104 90 10 10
Actuarial (gain) loss 87 107 (6) 13
Acquisitions 365 464 6 66
Benefits paid (82) (64) (5) (6)
Plan amendments 2 -- (18) --
- ------------------------------------------------------------------------------------------------------------------------------------
Benefit obligation at end of year 1,956 1,434 165 175
- ------------------------------------------------------------------------------------------------------------------------------------
Change in plan assets:
Fair value of plan assets at beginning of year 1,651 947 -- --
Actual return on plan assets 256 272 -- --
Acquisitions 392 399 -- --
Employer contributions 19 97 5 6
Benefits paid (82) (64) (5) (6)
- ------------------------------------------------------------------------------------------------------------------------------------
Fair value of plan assets at end of year 2,236 1,651 -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Funded status 280 217 (165) (175)
Unrecognized net actuarial gain (245) (216) (7) (1)
Unrecognized prior service cost (credit) 10 15 (14) --
Unrecognized transition amount (28) (33) -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Net asset (liability) recognized $ 17 $ (17) $ (186) $ (176)
====================================================================================================================================
Amounts recognized in Balance Sheet consist of:
Prepaid benefit cost $ 144 $ 111 $ -- $ --
Accrued benefit liability (161) (128) (186) (176)
Intangible asset 10 -- -- --
Accumulated other comprehensive income 24 -- -- --
- ------------------------------------------------------------------------------------------------------------------------------------
Net asset (liability) recognized $ 17 $ (17) $ (186) $ (176)
====================================================================================================================================
The weighted average actuarial assumptions utilized in determining the above
amounts for the U.S. defined benefit and other postretirement benefit plans as
of the end of the year were as follows:
================================================================================
U.S. Pension U.S. Postretirement
Benefits Benefits
-------------------------------------------
1998 1997 1998 1997
- --------------------------------------------------------------------------------
Weighted average assumptions:
Discount rate 7.0% 7.25% 7.0% 7.25%
Expected return on plan assets 10.0% 10.0% -- --
Rate of compensation increase 4.0% 4.0% -- --
================================================================================
The increases in benefit obligation and plan assets relating to acquisitions
pertain to MMC's acquisitions of Sedgwick (and the current terms of its plans)
and J&H in 1998 and 1997, respectively. In 1998, the discount rate used to value
the liabilities of the U.S. defined benefit pension plans and postretirement
benefit plans was decreased to reflect current interest rates of high quality
fixed income debt securities.
The projected benefit obligation, accumulated benefit obligation and fair value
of plan assets for the U.S. pension plans with accumulated benefit obligations
in excess of plan assets were $279 million, $247 million and $114 million,
respectively, as of December 31, 1998 and $239 million, $206 million and $99
million, respectively, as of December 31, 1997.
----------
45
The components of the net periodic benefit cost for the U.S. defined benefit and
other postretirement benefit plans are as follows:
====================================================================================================================================
U.S. Pension Benefits U.S. Postretirement Benefits
For the Three Years Ended December 31, 1998 -----------------------------------------------------------------------
(In millions of dollars) 1998 1997 1996 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
Service cost $ 46 $ 39 $ 28 $ 3 $ 4 $ 2
Interest cost 104 90 60 10 10 6
Expected return on plan assets (146) (115) (81) -- -- --
Amortization of prior service cost (credit) 7 7 7 (2) -- --
Amortization of transition asset (4) (4) (4) -- -- --
Recognized actuarial (gain) loss 5 (5) (6) -- (1) (1)
- ------------------------------------------------------------------------------------------------------------------------------------
$ 12 $ 12 $ 4 $ 11 $ 13 $ 7
====================================================================================================================================
The assumed health care cost trend rate was approximately 9% in 1998, gradually
declining to 4% in the year 2041. Assumed health care cost trend rates have a
significant effect on the amounts reported for the health care plans. A
one-percentage-point change in assumed health care cost trend rates would have
the following effects (in millions of dollars):
====================================================================================================================================
1-Percentage- 1-Percentage-
Point Increase Point Decrease
- ------------------------------------------------------------------------------------------------------------------------------------
Effect on total of service and interest cost components $ 2 $ (2)
Effect on postretirement benefit obligation $ 17 $(15)
====================================================================================================================================
The following schedules provide information on MMC's significant non-U.S.
defined benefit pension plans:
================================================================================
Non-U.S. Pension Benefits
December 31, 1998 and 1997 --------------------------
(In millions of dollars) 1998 1997
- --------------------------------------------------------------------------------
Change in benefit obligation:
Benefit obligation at beginning of year $ 900 $ 724
Service cost 48 41
Interest cost 66 62
Employee contributions 10 10
Actuarial loss 209 10
Acquisitions 1,503 109
Benefits paid (48) (44)
Foreign currency changes (9) (23)
Plan amendments 1 11
- --------------------------------------------------------------------------------
Benefit obligation at end of year 2,680 900
- --------------------------------------------------------------------------------
Change in plan assets:
Fair value of plan assets at beginning of year 1,202 948
Actual return on plan assets 172 172
Acquisitions 1,385 128
Company contributions 15 11
Employee contributions 10 10
Benefits paid (48) (44)
Foreign currency changes (15) (23)
- --------------------------------------------------------------------------------
Fair value of plan assets at end of year 2,721 1,202
- --------------------------------------------------------------------------------
Funded status 41 302
Unrecognized net actuarial gain (35) (170)
Unrecognized prior service cost 8 8
Unrecognized net asset (12) (18)
- --------------------------------------------------------------------------------
Net asset recognized $ 2 $ 122
================================================================================
Amounts recognized in Balance Sheet consist of:
Prepaid benefit cost $ 143 $ 140
Accrued benefit liability (141) (18)
- --------------------------------------------------------------------------------
Net asset recognized $ 2 $ 122
================================================================================
Weighted average assumptions:
Discount rate 5.9% 7.6%
Expected return on plan assets 8.9% 9.1%
Rate of compensation increase 4.2% 5.4%
================================================================================
The increases in benefit obligation and plan assets relating to acquisitions
pertain primarily to MMC's acquisitions of Sedgwick and J&H in 1998 and 1997,
respectively. In 1998, the discount rates used to value the liabilities of the
non-U.S. plans were decreased to reflect current worldwide interest rates.
Assumptions, including projected compensation increases and potential cost of
living adjustments for retirees, were also revised to reflect current
expectations as to future levels of inflation.
The projected benefit obligation, accumulated benefit obligation and fair value
of plan assets for the non-U.S. pension plans with accumulated benefit
obligations in excess of plan assets were $1.55 billion, $1.52 billion and $1.40
billion, respectively, as of December 31, 1998 and $41 million, $33 million and
$14 million, respectively, as of December 31, 1997. The increase in the pension
obligation and related assets in 1998 was due principally to the Sedgwick
acquisition.
The components of the net periodic benefit cost for the non-U.S. defined benefit
pension plans are as follows:
================================================================================
For the Three Years Non-U.S. Pension Benefits
Ended December 31, 1998 ---------------------------
(In millions of dollars) 1998 1997 1996
- --------------------------------------------------------------------------------
Service cost $ 48 $ 41 $ 32
Interest cost 66 62 51
Expected return on plan assets (98) (90) (75)
Amortization of prior service cost 1 -- --
Amortization of transition asset (6) (6) (6)
- --------------------------------------------------------------------------------
$ 11 $ 7 $ 2
================================================================================
Contribution Plans: MMC maintains certain defined contribution plans for its
employees, including the Marsh & McLennan Companies Stock Investment Plan
("SIP"), the Putnam Investments, Inc. Profit Sharing Retirement Plan (the
"Putnam Plan") and the Johnson & Higgins Cash Accumulation Plan ("J&H Plan").
Under these plans, eligible employees may contribute a percentage of their base
salary, subject to certain limitations. For the SIP and the J&H Plan, MMC
matches a portion of the employees' contributions, while under the Putnam Plan
the contributions are at the discretion of MMC subject to IRS limitations. The
cost of these defined contribution plans was $62 million, $55 million and $40
million for 1998, 1997 and 1996, respectively.
----------
46
7 Stock Benefit Plans
- --------------------------------------------------------------------------------
As provided under SFAS No. 123, "Accounting for Stock-Based Compensation," MMC
has elected to continue to account for stock-based compensation in accordance
with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" ("APB 25") and has provided the required additional pro forma
disclosures.
In accordance with the intrinsic value method allowed by APB 25, no compensation
cost has been recognized in the Consolidated Statements of Income for MMC's
stock option and stock purchase plans and the stock options awarded under the
Putnam Investments, Inc. Equity Partnership Plan. Had compensation cost for
MMC's stock-based compensation plans been determined consistent with the fair
value method prescribed by SFAS No. 123, MMC's net income and net income per
share for 1998, 1997 and 1996 would have been reduced to the pro forma amounts
indicated in the table below.
The fair value of each of MMC's option grants included in pro forma net income
is estimated on the date of grant using the Black-Scholes option-pricing model
with the following weighted average assumptions used for grants in 1998, 1997
and 1996, respectively; dividend yield of 3.0% in 1998 and 1997 and 3.5% in
1996; expected volatility of 18.9% in 1998, 17.5% in 1997 and 14.0% in 1996;
risk-free interest rate of 5.6% in 1998, 6.5% in 1997 and 6.0% in 1996; and an
expected life of five years. The compensation cost as generated by the
Black-Scholes model may not be indicative of the future benefit, if any, that
may be received by the option holder. The weighted average fair value of options
granted during the years ended December 31, 1998, 1997 and 1996 was $11.65,
$8.47 and $4.90 per share, respectively.
================================================================================
(In millions of dollars,
except per share figures) 1998 1997 1996
- --------------------------------------------------------------------------------
Net Income:
As reported $ 796 $ 434 $ 459
Pro forma $ 762 $ 414 $ 448
Net Income Per Share:
Basic:
As reported $3.11 $1.77 $2.11
Pro forma $2.98 $1.69 $2.06
Diluted:
As reported $2.98 $1.73 $2.08
Pro forma $2.85 $1.65 $2.03
================================================================================
The pro forma information reflected above may not be representative of the
amounts to be expected in future years as the fair value method of accounting
contained in SFAS No. 123 has not been applied to options granted prior to
January 1995.
Incentive and Stock Award Plans: During 1997, MMC adopted the Marsh & McLennan
Companies, Inc. 1997 Employee Incentive and Stock Award Plan (the "Employee
Plan") and the Marsh & McLennan Companies, Inc. 1997 Senior Executive Incentive
and Stock Award Plan (the "Executive Plan"). The Employee and Executive Plans
(the "1997 Plans") replace the 1992 Incentive and Stock Award Plan (the "1992
Plan"). The types of awards permitted under these Plans include stock options,
restricted stock, stock bonus units, restricted and deferred stock units payable
in MMC common stock or cash, and other stock-based and performance-based awards.
The Compensation Committee of the Board of Directors (the "Compensation
Committee") determines, at its discretion, which affiliates may participate in
the plans, which eligible employees will receive awards, the types of awards to
be received and the terms and conditions thereof. The right of an employee to
receive an award may be subject to performance conditions as specified by the
Compensation Committee. The 1997 Plans contain provisions which, in the event of
a change in control of MMC, may accelerate the vesting of the awards. Awards
relating to not more than 18,000,000 shares of common stock may be made over the
life of the Employee Plan plus shares remaining unused under pre-existing
approved stock plans. Awards relating to not more than 7,500,000 shares of
common stock may be made over the life of the Executive Plan plus shares
remaining unused under pre-existing approved stock plans. There were 24,506,619
and 31,203,936 shares available for awards under the 1997 Plans and prior plans
at December 31, 1998 and 1997, respectively.
Stock Options: Options granted under the 1997 Plans may be designated as
incentive stock options or as non-qualified stock options. The Compensation
Committee shall determine the terms and conditions of the option, including the
time or times at which an option may be exercised, the methods by which such
exercise price may be paid and the form of such payment. Except under certain
limited circumstances, no stock option may be granted with an exercise price of
less than the fair market value of the stock at the time the stock option is
granted.
----------
47
Stock option transactions under the 1997 Plans and prior plans are as follows:
====================================================================================================================================
1998 1997 1996
---------------------------- --------------------------- ---------------------------
Weighted Average Weighted Average Weighted Average
Shares Exercise Price Shares Exercise Price Shares Exercise Price
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at beginning of period 24,332,522 $31.18 25,666,431 $28.11 26,162,385 $26.88
Granted 6,115,165 $60.19 5,166,120 $41.39 4,122,180 $31.70
Exercised (3,427,830) $26.63 (5,865,160) $26.59 (3,861,090) $23.55
Forfeited (527,037) $38.76 (634,869) $31.99 (757,044) $28.50
---------- ---------- ----------
Balance at end of period 26,492,820 $38.27 24,332,522 $31.18 25,666,431 $28.11
====================================================================================================================================
Options exercisable at year-end 14,587,332 $30.01 14,706,623 $28.17 16,468,995 $27.12
====================================================================================================================================
The following table summarizes information about stock options at December 31,
1998:
====================================================================================================================================
Options Outstanding Options Exercisable
------------------------------------------------------- ------------------------------------
Weighted Average
Range of Outstanding Remaining Weighted Average Exercisable Weighted Average
Exercise Prices at 12/31/98 Contractual Life Exercise Price at 12/31/98 Exercise Price
- ------------------------------------------------------------------------------------------------------------------------------------
$16.46-26.44 5,981,218 3.6 years $25.82 5,344,951 $25.77
$26.94-33.35 9,818,089 5.2 years $31.06 8,000,598 $30.93
$35.25-60.59 10,693,513 8.7 years $51.85 1,241,783 $42.35
---------- ----------
$16.46-60.59 26,492,820 6.3 years $38.27 14,587,332 $30.01
====================================================================================================================================
Restricted Stock: Restricted shares of MMC's common stock may be awarded and
shall be subject to such restrictions on transferability and other restrictions,
if any, as the Compensation Committee may impose. The Compensation Committee may
also determine when and under what circumstances the restrictions may lapse and
whether the participant shall have the rights of a stockholder, including,
without limitation, the right to vote and receive dividends. Unless the
Compensation Committee determines otherwise, restricted stock that is still
subject to restrictions shall be forfeited upon termination of employment.
There were 124,350, 135,000 and 158,400 restricted shares granted in 1998, 1997
and 1996, respectively. MMC recorded compensation expense of $7 million in 1998
and $6 million in 1997 and 1996, related to these shares. Shares that have been
granted generally become unrestricted at the earlier of: (1) January 1 of the
eleventh year following the grant or (2) the later of the recipient's normal or
actual retirement date.
Restricted Stock Units: Restricted stock units, payable in stock or cash, may be
awarded under the Plans. The Compensation Committee shall determine the
restrictions on such units, when the restrictions shall lapse, when the units
shall vest and be paid, and upon what terms the units shall be forfeited.
There were 94,902, 98,856 and 119,277 restricted stock units awarded during
1998, 1997 and 1996, respectively. MMC recorded compensation expense of $6
million, $4 million and $5 million in 1998, 1997 and 1996, respectively, related
to restricted stock units.
Deferred Stock Units: Deferred stock units, payable in stock or cash, may be
awarded under the Plans. The Compensation Committee shall determine the
restrictions on such units, when the restrictions shall lapse, when the units
shall vest and be paid, and upon what terms the units shall be forfeited.
There were 557,542 and 445,833 deferred stock units awarded during 1998 and
1997, respectively. MMC recorded compensation expense of $20 million and $6
million in 1998 and 1997, respectively, related to deferred stock units. The
1998 expense includes an $11 million charge associated with acquisition related
stock unit awards issued to certain senior employees of Sedgwick (see Note 12).
Putnam Investments, Inc. Equity Partnership Plan: In September 1997, Putnam
adopted the Putnam Investments, Inc. Equity Partnership Plan (the "Equity Plan")
pursuant to which Putnam is authorized to grant or sell to certain key employees
of Putnam or its subsidiaries restricted shares of a new class of common stock
of Putnam ("Class B Common Stock") and options to acquire the Class B Common
Stock. Such awards or options generally vest over a four-year period. Holders of
Putnam Class B shares are not entitled to vote and have no rights to convert
their shares into any other securities of Putnam. However, in the event of
certain change in control events, Class B shares will be converted into Class A
common stock on a share for share basis. Awards of restricted stock and/or
options may be made under the Equity Plan with respect to a maximum of
12,000,000 shares of Class B Common Stock which would represent approximately
12% of the outstanding shares on a fully diluted basis. In 1998, Putnam made
awards pursuant to the Equity Plan with respect to approximately 3,660,000
shares of Class B Common Stock, including 1,830,000 shares of restricted stock
with a value of $94 million and 1,830,000 shares subject to options. In 1997,
Putnam made awards with respect to approximately 4,000,000 shares of Class B
Common Stock, including 2,000,000 shares of restricted stock with a value of $83
million and 2,000,000 shares subject to options. There were approximately
4,774,000 shares available for grant related to the Equity Plan at December 31,
1998.
Pursuant to an executive compensation agreement, Putnam has also awarded 300,000
restricted stock units with a value of $14 million and 325,000 options related
to Class B Common Stock to a key executive of Putnam.
The fair value of each option grant included in the pro forma net income is
estimated on the date of grant using the Black-Scholes
----------
48
option-pricing model with the following weighted average assumptions used for
grants in 1998 and 1997: dividend yield of 5.0% for 1998 and 1997; expected
volatility of 28.3% in 1998 and 26.4% in 1997; risk-free interest rate of 5.6%
in 1998 and 6.1% in 1997; and an expected life of five years. The compensation
cost as generated by the Black-Scholes model may not be indicative of the future
benefit, if any, that may be received by the option holder. The weighted average
fair value of each Class B option was $10.42 in 1998 and $8.30 in 1997.
Stock Purchase Plans: In May 1994, MMC's stockholders approved an employee stock
purchase plan (the "1994 Plan") to replace the 1990 Employee Stock Purchase Plan
which terminated on September 30, 1994 following its fourth annual offering.
Under these plans, eligible employees may purchase shares of MMC's common stock,
subject to certain limitations, at prices not less than 85% of the lesser of the
fair market value of the stock at the beginning or end of any offering period.
Under the 1994 Plan, no more than 12,000,000 shares of MMC's common stock plus
the remaining unissued shares in the 1990 Plan may be sold. Employees purchased
1,932,060, 1,855,500 and 1,959,000 shares in 1998, 1997 and 1996, respectively.
At December 31, 1998, 5,500,440 shares were available for issuance under the
1994 Plan. During 1995, MMC's Board of Directors approved the Marsh & McLennan
Companies Stock Purchase Plan for International Employees (the "International
Plan") which is similar to the 1994 Plan. Under the International Plan, no more
than 1,500,000 shares of MMC's common stock may be sold. Employees purchased
238,854, 211,500 and 15,000 shares in 1998, 1997 and 1996, respectively. At
December 31, 1998, 1,034,646 shares were available for issuance under the
International Plan. The fair value of each employee purchase right granted under
these Stock Purchase Plans is included in the pro forma net income for 1998,
1997 and 1996 and was estimated using the Black-Scholes model with the following
assumptions: dividend yield of 3.0% for 1998 and 1997 and 3.5% for 1996;
expected life of one year; expected volatility of 18.9% for 1998, 17.5% for 1997
and 14.0% for 1996; and risk-free interest rate of 4.4% for 1998, 5.5% for 1997
and 5.6% for 1996. The weighted average fair value of each purchase right
granted in 1998, 1997 and 1996 was $10.61, $10.96 and $6.38, respectively.
8 Long-term Obligations
- --------------------------------------------------------------------------------
MMC leases office facilities, equipment and automobiles under noncancelable
operating leases. These leases expire on varying dates; in some instances
contain renewal and expansion options; do not restrict the payment of dividends
or the incurrence of debt or additional lease obligations; and contain no
significant purchase options. In addition to the base rental costs, occupancy
lease agreements generally provide for rent escalations resulting from increased
assessments for real estate taxes and other charges. Approximately 95% of MMC's
lease obligations are for the use of office space.
At December 31, 1998, the aggregate future minimum rental commitments under all
noncancelable operating lease agreements are as follows:
================================================================================
For the Years Ending Gross Rentals Net
December 31, Rental from Rental
(In millions of dollars) Commitments Subleases Commitments
- --------------------------------------------------------------------------------
1999 $ 310 $ 12 $ 298
2000 263 9 254
2001 211 6 205
2002 163 4 159
2003 129 3 126
Subsequent years 570 15 555
- --------------------------------------------------------------------------------
$1,646 $ 49 $1,597
================================================================================
The accompanying Consolidated Statements of Income include net rental costs of
$313 million, $265 million and $217 million for 1998, 1997 and 1996,
respectively, after deducting rentals from subleases ($7 million in 1998 and
1997 and $8 million in 1996).
MMC has entered into agreements with various service companies to outsource
certain information systems activities and responsibilities. Under these
agreements, MMC is required to pay minimum annual service charges. Additional
fees may be payable depending upon the volume of transactions processed with all
future payments subject to increases for inflation. At December 31, 1998, the
aggregate fixed future minimum commitments under these agreements are as
follows:
================================================================================
Future
For the Years Ending December 31, Minimum
(In millions of dollars) Commitments
- --------------------------------------------------------------------------------
1999 $ 68
2000 56
2001 35
2002 28
2003 25
Subsequent years 20
- --------------------------------------------------------------------------------
$232
================================================================================
9 Short-term Debt
- --------------------------------------------------------------------------------
MMC's outstanding short-term debt is as follows:
================================================================================
December 31, 1998 and 1997
(In millions of dollars) 1998 1997
- --------------------------------------------------------------------------------
Commercial paper $2,213 $ 230
Bank loans 10 --
Current portion of long-term debt 11 7
- --------------------------------------------------------------------------------
$2,234 $ 237
================================================================================
The weighted average interest rates on outstanding commercial paper borrowings
at December 31, 1998 and 1997 are 5.3% and 6.1%, respectively.
During 1998, MMC executed an additional revolving credit facility with several
banks to support its commercial paper borrowings made to initially finance its
acquisition of Sedgwick. This facility, which expires in August 1999, provides
that MMC may borrow up to $2.25 billion at market rates of interest which may
vary depending upon the level of usage of the facility and MMC's credit ratings.
MMC maintains credit facilities with various banks, primarily related to
operations located outside the United States, aggregating $553 million at
December 31, 1998. MMC has borrowed $25 million under these facilities and has
included $15 million of these borrowings in Long-term Debt.
----------
49
10 Long-term Debt
- --------------------------------------------------------------------------------
MMC's outstanding long-term debt is as follows:
================================================================================
December 31, 1998 and 1997
(In millions of dollars) 1998 1997
- --------------------------------------------------------------------------------
Commercial paper $ 600 $ --
Revolving credit facility 583 709
Mortgage -- 9.8% due 2009 200 200
Notes payable -- due 2012 86 111
Notes payable -- 7.68% due 2006 60 --
Bank borrowings -- 184
Other 72 43
- --------------------------------------------------------------------------------
1,601 1,247
Less current portion 11 7
- --------------------------------------------------------------------------------
$1,590 $1,240
================================================================================
Commercial paper borrowings of $600 million at December 31, 1998 have been
classified as long-term debt based on MMC's intent and ability to maintain or
refinance these obligations on a long-term basis.
During 1997, MMC executed a revolving credit facility with several banks to
support its commercial paper borrowings and to fund other general corporate
requirements. This noncancelable facility, which expires in June 2002, provides
that MMC may borrow up to $1.2 billion at market rates of interest which may
vary depending upon the level of usage of the facility and MMC's credit ratings.
Commitment fees of 7 basis points are payable on any unused portion. The
facility requires MMC to maintain consolidated net worth of at least $1.7
billion and contains other restrictions relating to consolidations, mergers and
the sale or pledging of assets.
Outstanding borrowings at December 31, 1998 under this revolving credit facility
amounted to $583 million and have been classified as long-term debt based on
MMC's intent and ability to maintain or refinance these obligations on a
long-term basis. The weighted average interest rate associated with these
borrowings was 5.6% and 6.0% at December 31, 1998 and 1997, respectively.
MMC has a fixed rate non-recourse mortgage note agreement due in 2009 amounting
to $200 million, bearing an interest rate of 9.8%, in connection with its
interest in its worldwide headquarters building. In the event the mortgage is
foreclosed following a default, MMC would be entitled to remain in the space and
would be obligated to pay rent sufficient to cover interest on the notes or,
starting in 1999, at fair market value if greater.
MMC has an interest rate swap which was entered into as part of the acquisition
and renovation of MMC's worldwide headquarters which fixes the interest rate at
approximately 9.5% on $100 million of variable rate borrowings. This swap
expired in February 1999. The weighted average interest rate received on this
swap at December 31, 1998, 1997 and 1996 was 5.7%, 5.8% and 5.7%, respectively.
The difference between the fixed rate and the weighted average rate is included
in interest expense in the Consolidated Statements of Income.
MMC has a note payable due 2012, the outstanding balance of which was $86
million and $111 million at December 31, 1998 and 1997, respectively. Interest
on this debt is fixed at 8.62%. The decrease from 1997 reflects MMC's repayment
of the variable rate portion of the note.
In connection with the Sedgwick transaction, MMC assumed debt amounting to $108
million at December 31, 1998. This debt consists of $60 million of 7.68% Senior
Loan Notes, $36 million related to capital leases and $12 million of other
borrowings.
Scheduled repayments of long-term debt in 1999 and in the four succeeding years
are $11 million, $21 million, $9 million, $1.2 billion and $6 million,
respectively.
11 Financial Instruments
- --------------------------------------------------------------------------------
The estimated fair value of MMC's significant financial instruments is provided
below. Certain estimates and judgments were required to develop the fair value
amounts. The fair value amounts shown below are not necessarily indicative of
the amounts that MMC would realize upon disposition nor do they indicate MMC's
intent or ability to dispose of the financial instrument.
================================================================================
1998 1997
---------------------------------------
December 31, 1998 and 1997 Carrying Fair Carrying Fair
(In millions of dollars) Amount Value Amount Value
- --------------------------------------------------------------------------------
Nonderivatives:
Cash and cash equivalents $ 610 $ 610 $ 424 $ 424
Long-term securities 828 828 720 720
Short-term debt 2,234 2,234 237 237
Long-term debt 1,590 1,665 1,240 1,313
Derivatives:
Other assets (liabilities):
Interest rate swaps -- 4 -- (5)
Forward exchange contracts -- 1 -- --
================================================================================
Cash and Cash Equivalents: The estimated fair value of MMC's cash and cash
equivalents approximates their carrying value.
Long-term Securities: Long-term securities primarily consist of available for
sale securities recorded at quoted market prices. MMC also has certain
additional long-term securities, for which there are no readily available market
prices, amounting to $82 million and $73 million at December 31, 1998 and 1997,
respectively, which are carried on a cost basis. Based on present information,
MMC believes that the cost of these investments approximates their fair value.
Short-term and Long-term Debt: The fair value of MMC's short-term debt, which
consists primarily of commercial paper borrowings, approximates its carrying
value. The estimated fair value of MMC's long-term debt is based on discounted
future cash flows using current interest rates available for debt with similar
terms and remaining maturities. The estimated fair value of borrowings under the
revolving credit facility approximates the carrying value.
----------
50
Interest Rate Swaps: Historically, MMC has managed its net exposure to interest
rate changes by utilizing a mixture of variable and fixed rate borrowings to
finance MMC's asset base. Interest rate swaps have been utilized on a limited
basis to convert variable rate borrowings into fixed rate borrowings. Sedgwick
has utilized interest rate swaps to manage its exposure to interest rate
movements on its cash and investments as well as its interest expense on
borrowings. MMC does not utilize financial instruments for trading or other
speculative purposes. The counterparties to these contracts are major financial
institutions. Management believes that risk of loss is remote and in any event
would be immaterial.
The fair value of these interest rate swaps are the estimated amounts that MMC
would pay to terminate the agreements at the reporting date, taking into account
the current interest rate environment. Amounts currently due to or from interest
rate swap counterparties are recorded in interest expense in the period in which
they accrue.
A summary of MMC's interest rate swaps as of December 31, 1998 and 1997 is as
follows:
================================================================================
Weighted Average
Interest Rates
Notional Termination ------------------
(In millions of dollars) Amount Dates Receive Pay
- --------------------------------------------------------------------------------
1998 --
Receive fixed --
pay variable $599 1999-2003 6.8% 5.9%
Receive variable --
pay fixed $140 1999-2005 5.7% 8.4%
1997 --
Receive variable --
pay fixed $142 1999-2005 5.8% 8.4%
================================================================================
Forward Exchange Contracts: At December 31, 1998, MMC primarily had open forward
exchange contracts to both sell U.S. dollars for sterling and purchase U.S.
dollars for sterling for underlying principal amounts of $28 million and $70
million, respectively. These contracts were entered into by Sedgwick principally
to hedge both firm commitments and anticipated transactions.
Unrealized Securities Holding Gains: MMC has classified as available for sale
primarily equity securities having an aggregate fair value of $746 million and
$647 million at December 31, 1998 and 1997, respectively. Gross unrealized
gains, amounting to $546 million and $476 million at December 31, 1998 and 1997,
respectively, have been excluded from earnings and reported as accumulated other
comprehensive income which is a component of stockholders' equity, net of
deferred income taxes.
Proceeds from the sale of available for sale securities for the years ended
December 31, 1998, 1997 and 1996 were $62 million, $69 million and $28 million,
respectively. Gross realized gains on available for sale securities sold during
1998, 1997 and 1996 amounted to $40 million, $36 million and $17 million,
respectively. The cost of securities sold is determined using the average cost
method for equity securities.
A portion of insurance fiduciary funds which MMC holds to satisfy fiduciary
obligations are invested in high quality debt securities which are generally
held to maturity. The difference between cost and fair value of these
investments is not material.
12 Special Charges/Credits
- --------------------------------------------------------------------------------
During 1998, MMC recorded a special charge of $11 million representing
acquisition related stock unit awards issued to certain senior employees of
Sedgwick. In addition, as further explained below, a reserve related to a 1996
provision for restructuring of approximately $15 million was reversed in 1998.
The resulting net special credit of $4 million increased diluted net income per
share by $.01 for the year.
During 1997, MMC recorded special charges totaling $244 million. The net impact
of the special charges on diluted net income per share was $.63 for the year.
These charges included $168 million of merger costs predominantly related to the
combination with J&H, a charge of $61 million related to London real estate, and
$15 million for the disposal of certain EDP assets which were written-off in
1997. The merger costs are discussed in detail in Note 4. The $61 million charge
for London real estate included $35 million associated with a plan to abandon
and demolish a company-owned building and $26 million of lease abandonment costs
(net of anticipated sublease income) relating to vacating several leased
locations. Payments and write-offs associated with this reserve began in 1998
and are expected to continue for several years. The remaining London real estate
reserve is $25 million at December 31, 1998.
During 1996, MMC completed the sale of Frizzell for approximately $290 million
which resulted in a $33 million pretax gain. In addition, pretax charges
aggregating $93 million were also recorded. The net impact of these special
charges and the 1996 tax adjustment discussed in Note 5 increased diluted net
income per share by $.01 for the year. These charges included a provision of $34
million primarily for London real estate representing lease abandonment costs
for certain leased locations (net of anticipated sublease income); $27 million
primarily for severance and related benefits associated with the planned
reduction of over 600 employees relating to restructuring certain elements of
MMC's insurance and reinsurance back office operations in London and several
office closings; $17 million for goodwill write-offs; and $15 million related to
the Lloyd's Reconstruction and Renewal Plan.
----------
51
The utilization of the 1996 special charges is summarized as follows:
====================================================================================================================================
Balance
Initial Non-Cash Payments Amount December 31,
(In millions of dollars) Balance Charges Made Reversed 1998
- ------------------------------------------------------------------------------------------------------------------------------------
Real estate consolidations $34 $ (8) $ (2) $ -- $24
Staff reductions and office closings 27 -- (12) (15) --
Goodwill write-offs 17 (17) -- -- --
Lloyd's Reconstruction and Renewal Plan 15 -- (12) -- 3
- ------------------------------------------------------------------------------------------------------------------------------------
$93 $(25) $(26) $(15) $27
====================================================================================================================================
The London real estate and staff reduction plans were expected to commence in
1997 and continue through 1998; however, execution of these plans was delayed as
a result of the J&H acquisition and put under review. After further evaluation,
management still was committed to carrying out these plans and in the fall of
1997 leased space in the East India Dock section of London to begin the
consolidation of its back office operations. The leased space was built out and
then occupied during the summer of 1998. However, with the acquisition of
Sedgwick in the fourth quarter of 1998, management concluded that the remaining
staff reduction plan to reorganize the London back office could no longer be
executed and, therefore, the remaining severance accrual of $15 million was
reversed. The remaining balance, primarily representing future rent under
noncancelable leases, is expected to be paid out over several years.
13 Common Stock
- --------------------------------------------------------------------------------
On May 20, 1998, the Board of Directors authorized a three-for-two stock
distribution of MMC's common stock, which was issued as a stock dividend on June
26, 1998.
On May 21, 1997, the Board of Directors authorized a two-for-one stock
distribution of MMC's common stock, which was issued as a stock dividend on June
27, 1997.
All references to per share amounts have been restated for these stock
distributions.
14 Stockholder Rights Plan
- --------------------------------------------------------------------------------
On September 18, 1997, MMC's Board of Directors approved the extension of the
benefits afforded by MMC's existing rights plan by adopting a new stockholder
rights plan. Under the new plan, Rights to purchase stock, at a rate of one
Right for each common share held, were distributed to shareholders of record on
September 29, 1997 and automatically attach to shares acquired thereafter. Under
the plan, the Rights generally become exercisable after a person or group (i)
acquires 15% or more of MMC's outstanding common stock or (ii) commences a
tender offer that would result in such a person or group owning 15% or more of
MMC's common stock. When the Rights first become exercisable, a holder will be
entitled to buy from MMC a unit consisting of one two-hundredth of a share of
Series A Junior Participating Preferred Stock of MMC at a purchase price of
$260. Alternatively, if any person acquires 15% or more of MMC's common stock
except pursuant to an offer for all shares at a price which is fair and not
inadequate or if a 15% holder acquires MMC by means of a reverse merger in which
MMC and its stock survive, each Right not owned by a 15% or more shareholder
would become exercisable for common stock of MMC (or in certain circumstances,
other consideration) having a market value equal to twice the exercise price of
the Right. The Rights expire on September 29, 2007, except as otherwise provided
in the plan.
----------
52
15 Claims, Lawsuits and Other Contingencies
- --------------------------------------------------------------------------------
MMC and its subsidiaries are subject to various claims, lawsuits and proceedings
consisting principally of alleged errors and omissions in connection with the
placement of insurance or reinsurance and in rendering investment and consulting
services. Some of these matters seek damages, including punitive damages, in
amounts which could, if assessed, be significant.
On November 24, 1997, an action captioned "Aiena et al. vs. Olsen et al."
("Aiena") was brought in the United States District Court for the Southern
District of New York by certain former directors of J&H, which was acquired by
MMC in March 1997, against twenty-four selling shareholders of J&H, as well as
J&H itself and MMC. The action essentially challenges the allocation of the
consideration paid in connection with MMC's combination with J&H as between the
defendants who were directors and shareholders of J&H at the time of the
transaction and the plaintiffs who were former directors and shareholders of
J&H. The complaint asserts, among others, claims for breach of fiduciary duty,
federal securities law violations, breach of contract, and ERISA violations.
Plaintiffs seek compensatory and punitive damages. Two other former directors of
J&H have commenced similar actions (Sempier v. Olsen et al.; and Clements v.
Olsen et al.), which are also pending before the United States District Court
for the Southern District of New York and are contemplated to be heard together
with the Aiena action.
In 1993, several years prior to the acquisition of J&H, the Equal Employment
Opportunity Commission ("EEOC") commenced a lawsuit against J&H in the United
States District Court for the Southern District of New York. The action alleges
that a mandatory retirement policy for directors then in effect at J&H violated
the federal Age Discrimination in Employment Act ("ADEA"). In 1995, the District
Court ruled in the EEOC's favor that the J&H mandatory retirement policy
violated the ADEA. The Court of Appeals for the Second Circuit affirmed that
ruling in 1996. The EEOC seeks to recover damages on behalf of certain former
directors and a trial on the matter of damages, unless the action is resolved,
may be held later in 1999. Pursuant to the Stock Purchase Agreement between MMC
and J&H and the stockholders of J&H, MMC will bear one-half of all damages and
expenses in this action.
Sedgwick Group plc, since prior to its acquisition, has been engaged in a review
of previously undertaken personal pension plan business as required by United
Kingdom regulators to determine whether redress should be made to customers.
Settlements and related costs previously paid amount to $80 million of which $30
million is due from insurers. The contingent exposure of Sedgwick for pension
redress and related costs as of Sedgwick's acquisition by MMC is estimated to be
$220 million. Sedgwick had recorded $150 million of reserves and recognized
approximately $70 million of insurance recoveries related to this exposure.
Other present and former subsidiaries of MMC are engaged in a comparable review
of their personal pension plan businesses, although the extent of their activity
in this area, and consequently their financial exposure, was proportionally much
less than Sedgwick. The contingent exposure of the present and former
non-Sedgwick subsidiaries of MMC for pension redress and related costs is
estimated to be approximately $135 million. Approximately $100 million of this
amount is expected to be recovered from insurers and accounting reserves have
been provided for the remaining balance. Settlements and related costs
previously paid total approximately $15 million.
MMC's ultimate exposure from the United Kingdom's personal pension plan review,
as presently calculated and including Sedgwick, is subject to a number of
variable factors including, among others, equity markets, the rate of response
to the pension review mailings, the interest rate established quarterly by the
U.K. Pension Investment Authority for calculating compensation, and the precise
scope, duration, and methodology of the review as required by that Authority.
As part of the combination with Sedgwick, MMC acquired several insurance
underwriting companies that were already in run-off. MMC intends to sell these
operations in the near future. Sedgwick had given guarantees with respect to
certain liabilities relating to some of these operations.
On the basis of present information, anticipated insurance coverage and advice
received from counsel, it is the opinion of MMC's management that the
disposition or ultimate determination of these claims, lawsuits, proceedings or
guarantees will not have a material adverse effect on MMC's consolidated results
of operations or its consolidated financial position.
16 Segment Information
- --------------------------------------------------------------------------------
MMC has adopted SFAS No. 131 "Disclosures About Segments of an Enterprise and
Related Information" effective with the 1998 year-end. Prior year information
has been restated to conform with the current year presentation.
MMC, a professional services firm, is organized based on the different services
that it offers. Under this organizational structure, MMC operates in three
principal business segments: risk and insurance services, investment management,
and consulting. The risk and insurance services segment provides insurance
broking, reinsurance broking and insurance program management for business,
professional, institutional and public-entity clients. It also provides services
principally in connection with originating, structuring and managing insurance
and related industry investments. The investment management segment primarily
provides securities investment advisory and management services and
administrative services for a group of publicly held investment companies. The
consulting segment provides advice and services to the managements of
organizations primarily in the areas of human resources and employee benefit
programs, general management consulting, and economic consulting and analysis.
MMC evaluates segment performance based on operating income, which is after
deductions for directly related expenses but before special charges. The
accounting policies of the segments are the same as those used for the
consolidated financial statements, described in Note 1. Revenues are attributed
to geographic areas on the basis of where the services are performed.
----------
53
Selected information about MMC's operating segments and geographic areas of
operation follow:
====================================================================================================================================
For the Three Years Ended Revenue Segment
December 31, 1998 from External Operating Total Depreciation and Capital
(In millions of dollars) Customers Income Assets Amortization Expenditures
- ------------------------------------------------------------------------------------------------------------------------------------
1998--
Risk and Insurance Services $ 3,351(a) $ 613 $ 8,084 $ 163 $ 216
Investment Management 2,296 677 1,437 45 38
Consulting 1,543 202 1,490 38 40
- ------------------------------------------------------------------------------------------------------------------------------------
$ 7,190 $ 1,492 $ 11,011 $ 246 $ 294
====================================================================================================================================
1997--
Risk and Insurance Services $ 2,789(a) $ 496 $ 5,231 $ 126 $ 87
Investment Management 1,882 463 1,163 37 81
Consulting 1,338 148 909 32 32
- ------------------------------------------------------------------------------------------------------------------------------------
$ 6,009 $ 1,107 $ 7,303 $ 195 $ 200
====================================================================================================================================
1996--
Risk and Insurance Services $ 1,907(a) $ 363 $ 3,039 $ 82 $ 67
Investment Management 1,338 338 1,010 27 52
Consulting 1,159 119 652 27 33
- ------------------------------------------------------------------------------------------------------------------------------------
$ 4,404 $ 820 $ 4,701 $ 136 $ 152
====================================================================================================================================
A reconciliation of the totals for the operating segments to the applicable line
items in the consolidated financial statements is as follows:
================================================================================
1998 1997 1996
- --------------------------------------------------------------------------------
Income Before Income Taxes:
Total segment operating income $ 1,492 $ 1,107 $ 820
Special (charges) credits
(see Note 12) 4 (244) (93)
Gain on sale of Frizzell
(see Note 12) -- -- 33
Corporate (76) (65) (45)
- --------------------------------------------------------------------------------
Operating income 1,420 798 715
Interest income 25 24 14
Interest expense (140) (107) (61)
- --------------------------------------------------------------------------------
Total income before income taxes $ 1,305 $ 715 $ 668
================================================================================
===============================================================================
Total
Operating Adjustments/ Total
Segments Corporate Eliminations Consolidated
- --------------------------------------------------------------------------------
Other Significant Items:
1998 --
Total assets $11,011 $ 5,983(b) $(5,123)(c) $11,871
Depreciation and
amortization 246 5 -- 251
Capital expenditures 294 3 -- 297
1997 --
Total assets 7,303 4,681(b) (4,072)(c) 7,912
Depreciation and
amortization 195 4 -- 199
Capital expenditures 200 2 -- 202
1996 --
Total assets 4,701 2,982(b) (3,138)(c) 4,545
Depreciation and
amortization 136 4 -- 140
Capital expenditures 152 5 -- 157
================================================================================
Information by geographic area is as follows:
================================================================================
Revenue
from External Fixed
Customers Assets
- --------------------------------------------------------------------------------
Geographic Area:
1998 --
United States $5,235 $ 720
United Kingdom 820 413
Continental Europe 551 85
Other 584 69
- --------------------------------------------------------------------------------
$7,190 $1,287
================================================================================
1997 --
United States $4,316 $ 702
United Kingdom 657 136
Continental Europe 564 56
Other 472 63
- --------------------------------------------------------------------------------
$6,009 $ 957
================================================================================
1996 --
United States $3,064 $ 573
United Kingdom 595 120
Continental Europe 372 35
Other 373 42
- --------------------------------------------------------------------------------
$4,404 $ 770
================================================================================
(a) Includes interest income on fiduciary funds ($137 million in 1998, $111
million in 1997, and $94 million in 1996).
(b) Corporate assets primarily include investments in consolidated
subsidiaries, intercompany receivables, unallocated goodwill, and a
portion of MMC's headquarters building.
(c) Primarily represents the elimination of investments in consolidated
subsidiaries and intercompany balances.
----------
54
Report of Management
- --------------------------------------------------------------------------------
The management of Marsh & McLennan Companies, Inc. has prepared and is
responsible for the accompanying financial statements and other related
financial information contained in this annual report. MMC's financial
statements were prepared in accordance with generally accepted accounting
principles, applying certain estimates and informed judgments as required.
Deloitte & Touche LLP, independent auditors, have audited the financial
statements and have issued their report thereon.
MMC maintains a system of internal accounting controls designed to provide
reasonable assurance that transactions are executed in accordance with
management's authorization, that assets are safeguarded and that proper
financial records are maintained. Key elements of MMC's internal controls
include securing the services of qualified personnel and proper segregation of
duties. Internal auditors monitor the control system by examining financial
reports, by testing the accuracy of transactions, and by otherwise obtaining
assurance that the system is operating in accordance with MMC's objectives.
The Audit Committee of the Board of Directors is composed entirely of outside
directors and is responsible for recommending to the Board the independent
auditors to be engaged to audit MMC's financial statements, subject to
stockholder ratification. In addition, the Audit Committee meets periodically
with internal auditors and the independent auditors, both with and without
management, to discuss MMC's internal accounting controls, financial reporting
and other related matters. The internal auditors and independent auditors have
full and unrestricted access to the Audit Committee.
/s/ Frank J. Borelli
Frank J. Borelli
Senior Vice President and
Chief Financial Officer
March 5, 1999
Report of Independent Auditors
- --------------------------------------------------------------------------------
The Board of Directors and Stockholders of
Marsh & McLennan Companies, Inc.:
We have audited the accompanying consolidated balance sheets of Marsh & McLennan
Companies, Inc. and subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of income, stockholders' equity and
comprehensive income, and cash flows for each of the three years in the period
ended December 31, 1998. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Marsh & McLennan Companies, Inc.
and subsidiaries as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1998 in conformity with generally accepted accounting principles.
/s/ Deloitte & Touche LLP
DELOITTE & TOUCHE LLP
New York, New York
March 5, 1999
----------
55
Marsh & McLennan Companies, Inc. and Subsidiaries
SELECTED QUARTERLY FINANCIAL DATA AND
SUPPLEMENTAL INFORMATION (UNAUDITED)
====================================================================================================================================
Net Income (Loss)
Net Per Share(a) Dividends Stock
(In millions of dollars, Operating Income --------------- Paid Per Price Range
except per share figures) Revenue Income (Loss) Basic Diluted Share High-Low
- ------------------------------------------------------------------------------------------------------------------------------------
1998:
First quarter $ 1,776 $ 404 $ 231 $ .90 $ .87 $ .33 $61.67-46.38
Second quarter 1,750 346 193 .75 .72 .33 $63.25-54.83
Third quarter 1,719 335 186 .73 .69 .40 $64.31-46.13
Fourth quarter 1,945 335 186 .73 .70 .40 $61.94-43.38
- ------------------------------------------------------------------------------------------------------------------------------------
$ 7,190 $ 1,420 $ 796 $3.11 $2.98 $1.46 $64.31-43.38
====================================================================================================================================
1997:
First quarter $ 1,295 $ 277 $ 164 $ .75 $ .73 $ .30 $43.21-34.21
Second quarter 1,540 262 145 .57 .56 .30 $50.17-37.71
Third quarter 1,548 249 140 .55 .54 .33 $53.17-45.50
Fourth quarter 1,626 10 (15) (.05) (.05) .33 $53.33-44.00
- ------------------------------------------------------------------------------------------------------------------------------------
$ 6,009 $ 798 $ 434 $1.77 $1.73 $1.26 $53.33-34.21
====================================================================================================================================
1996:
First quarter $ 1,123 $ 243 $ 143 $ .65 $ .65 $ .27 $33.88-28.08
Second quarter 1,098 193 115 .53 .51 .27 $32.54-29.67
Third quarter 1,057 174 103 .48 .47 .27 $33.00-29.33
Fourth quarter 1,126 105 98 .45 .45 .30 $38.29-31.83
- ------------------------------------------------------------------------------------------------------------------------------------
$ 4,404 $ 715 $ 459 $2.11 $2.08 $1.11 $38.29-28.08
====================================================================================================================================
(a) Net income per share is computed independently for each of the periods
presented. Accordingly, the sum of the quarterly net income per share
amounts exceeds the total for the year in 1997.
All per share amounts have been restated for a three-for-two stock distribution
of MMC's common stock, which was issued as a stock dividend on June 26, 1998.
MMC's common stock (ticker symbol:MMC) is traded on the New York, Chicago,
Pacific and London stock exchanges. As of February 26, 1999, there were 26,100
stockholders of record.
----------
56
Marsh & McLennan Companies, Inc. and Subsidiaries
FIVE-YEAR STATISTICAL SUMMARY OF OPERATIONS
====================================================================================================================================
Compound
For the Five Years Ended December 31, 1998 Growth Rate
(In millions of dollars, except per share figures) 1998 1997(b) 1996(d) 1995 1994 1993-1998
- ------------------------------------------------------------------------------------------------------------------------------------
Revenue:
Risk and Insurance Services $ 3,351 $2,789 $1,907 $1,964 $1,887 13%
Investment Management 2,296 1,882 1,338 917 747 32%
Consulting 1,543 1,338 1,159 1,056 933 13%
- ------------------------------------------------------------------------------------------------------------------------------------
Total Revenue 7,190 6,009 4,404 3,937 3,567 17%
- ------------------------------------------------------------------------------------------------------------------------------------
Expenses:
Compensation and benefits 3,561 3,044 2,204 1,949 1,740 17%
Other operating expenses 2,209 2,167 1,485 1,293 1,157 17%
- ------------------------------------------------------------------------------------------------------------------------------------
Total Expenses 5,770 5,211 3,689 3,242 2,897 17%
- ------------------------------------------------------------------------------------------------------------------------------------
Operating Income 1,420 798(c) 715(e) 695 670 19%
Interest Income 25 24 14 18 12
Interest Expense (140) (107) (61) (63) (51)
- ------------------------------------------------------------------------------------------------------------------------------------
Income Before Income Taxes and Cumulative
Effect of Accounting Changes 1,305 715 668 650 631 19%
Income Taxes 509 281 209(f) 247 249
- ------------------------------------------------------------------------------------------------------------------------------------
Income Before Cumulative Effect of Accounting Changes $ 796 $ 434 $ 459 $ 403 $ 382 19%
====================================================================================================================================
Net Income $ 796 $ 434 $ 459 $ 403 $ 372(g) 19%
====================================================================================================================================
Basic Net Income Per Share Information:
Income Before Cumulative Effect of Accounting Changes $3.11 $1.77 $2.11 $1.84 $1.73 16%
Net Income Per Share $3.11 $1.77 $2.11 $1.84 $1.68(g) 16%
Average Number of Shares Outstanding 256 245 217 219 221
====================================================================================================================================
Diluted Net Income Per Share Information:
Income Before Cumulative Effect of Accounting Changes $2.98 $1.73 $2.08 $1.82 $1.71 15%
Net Income Per Share $2.98 $1.73 $2.08 $1.82 $1.67(g) 15%
Average Number of Shares Outstanding 264 251 221 221 223
====================================================================================================================================
Dividends Paid Per Share $1.46 $1.26 $1.11 $ .99 $ .93 10%
Return on Average Stockholders' Equity 23% 17% 26% 26% 26%
Year-end Financial Position:
Working capital $(1,757)(a) $ 224 $ 192 $ 110 $ 54
Total assets $11,871 $7,912 $4,545 $4,330 $3,831
Long-term debt $ 1,590 $1,240 $ 458 $ 411 $ 409
Stockholders' equity $ 3,659 $3,233 $1,889 $1,666 $1,461
Total shares outstanding (excluding treasury shares) 257 255 217 218 220
Other Information:
Number of employees 54,300 36,400 27,000 27,200 26,100
Stock price ranges--
U.S. exchanges--High $64.31 $53.33 $38.29 $30.04 $29.59
--Low $43.38 $34.21 $28.08 $25.37 $23.75
London Stock Exchange--High (Pd.)38.78 (Pd.)32.71 (Pd.)22.78 (Pd.)19.50 (Pd.)19.65
--Low (Pd.)25.59 (Pd.)20.37 (Pd.)18.29 (Pd.)15.96 (Pd.)15.11
Price/earnings multiple 19.6 28.7 16.7 16.3 15.9
====================================================================================================================================
(a) Includes $2.2 billion of commercial paper borrowings made to initially
finance the acquisition of Sedgwick.
(b) Includes the operating results of Johnson & Higgins, an insurance broking
and consulting services firm, acquired in March 1997 and CECAR, a French
insurance services firm.
(c) Includes a special charge of $244 million.
(d) The Frizzell Group Limited was sold in June 1996.
(e) Includes net special charges of $93 million partially offset by a $33
million gain on the sale of Frizzell.
(f) Includes a tax adjustment that reduced income taxes by $40 million.
(g) Reflects the adoption, effective January 1, 1994, of SFAS No. 112,
"Employers' Accounting for Postretirement Benefits."
See Management's Discussion and Analysis of Financial Condition and Results of
Operations for discussion of significant items affecting the results of
operations in 1998 and 1997.
----------
57
BOARD OF DIRECTORS AND CORPORATE OFFICERS
BOARD OF DIRECTORS
A.J.C. Smith
Chairman and Chief Executive Officer
Jeffrey W. Greenberg
President
Norman Barham
Vice Chairman, Marsh Inc.
Lewis W. Bernard
Chairman, Classroom, Inc.
Former Chief Administrative
and Financial Officer,
Morgan Stanley & Co., Inc.
Frank J. Borelli
Senior Vice President and
Chief Financial Officer
Peter Coster
President,
Mercer Consulting Group, Inc.
Robert F. Erburu
Former Chairman,
The Times Mirror Company
Ray J. Groves
Chairman, Legg Mason
Merchant Banking, Inc.
Former Chairman, Ernst & Young
Stephen R. Hardis
Chairman, Eaton Corporation
Gwendolyn S. King
Former Senior Vice President,
PECO Energy
The Rt. Hon. Lord Lang of Monkton
Former British Secretary of State
for Trade & Industry
Lawrence J. Lasser
President and Chief Executive Officer,
Putnam Investments, Inc.
David A. Olsen
Former Chairman, Johnson & Higgins
John D. Ong
Chairman Emeritus,
The BFGoodrich Company
George Putnam
Chairman, The Putnam Funds
Saxon Riley
Former Chairman, Sedgwick Group
Adele Smith Simmons
President,
John D. and Catherine T. MacArthur Foundation
John T. Sinnott
Chairman and Chief Executive Officer,
Marsh Inc.
Frank J. Tasco
Former Chairman, MMC
W.R.P. White-Cooper
Chairman and
Chief Executive Officer-International, Marsh Inc.
ADVISORY DIRECTORS
Richard E. Heckert
Former Chairman,
E.I. du Pont de Nemours and Company
Richard S. Hickok
Former Chairman,
KMG Main Hurdman
Dean R. McKay
Former Senior Vice President,
IBM Corporation
Richard M. Morrow
Former Chairman, Amoco Corporation
Arthur C. Nielsen, Jr.
Former Chairman, A.C. Nielsen Company
John M. Regan, Jr.
Former Chairman, MMC
R. J. Ventres
Former Chairman, Borden, Inc.
COMMITTEES OF THE BOARD
Audit
The Rt. Hon. Lord Lang of Monkton, Chairman
Stephen R. Hardis
Gwendolyn S. King
John D. Ong
Adele Smith Simmons
Frank J. Tasco
Compensation
Lewis W. Bernard, Chairman
Robert F. Erburu
Ray J. Groves
Executive
A.J.C. Smith, Chairman
Lewis W. Bernard
Ray J. Groves
Adele Smith Simmons
Frank J. Tasco
OTHER CORPORATE OFFICERS
Francis N. Bonsignore
Senior Vice President,
Human Resources and Administration
Gregory F. Van Gundy
General Counsel and Secretary
INTERNATIONAL ADVISORY BOARD
Abdlatif Y. Al-Hamad (Middle East)
Chairman, Arab Fund for Economic
and Social Development
Raymond Barre (France)
Deputy, National Assembly
Former Prime Minister
Mathis Cabiallavetta (Switzerland)
Former Chairman, UBS AG
John R. Evans (Canada)
Chairman, Torstar Corporation
Oscar Fanjul (Spain)
Honorary Chairman, Repsol
Toyoo Gyohten (Japan)
President, Institute for
International Monetary Affairs
Former Chairman, The Bank of Tokyo
Erno Kemenes (Eastern Europe)
Former Minister of Economics, Hungary
Walther Leisler Kiep (Germany)
International Advisory Board Chairman
Former General Partner,
Gradmann & Holler
Marcilio Marques Moreira (Brazil)
Senior International Advisor,
Merrill Lynch
Former Ambassador of Brazil
to the United States
Paul F. Oreffice (United States)
Former Chairman
and Chief Executive Officer,
The Dow Chemical Company
Saxon Riley (United Kingdom)
Director, MMC
Jesus Silva-Herzog (Mexico)
Institute for Monetary Affairs
Former Ambassador of Mexico
to the United States
Wei Ming Yi (China)
Chairman, International
Advisory Council
China International Trust and Investment Corporation
----------
58
================================================================================
SHAREHOLDER INFORMATION
Annual Meeting
The 1999 annual meeting of shareholders will be held at 10 a.m., Thursday, May
20, in the 2nd floor auditorium of the McGraw-Hill Building, 1221 Avenue of the
Americas, New York City. At the time of the mailing of this annual report, the
notice of the annual meeting and proxy statement, together with a proxy card, is
scheduled to be sent to each shareholder.
Anticipated 1999 Dividend Payment Dates
February 12 (paid), May 14, August 13, November 15
Financial and Investor Information
Shareholders and prospective investors inquiring about reinvestment and payment
of dividends, consolidation of accounts, changes of registration and stock
certificate holdings should contact:
The Bank of New York
Shareholder Relations Department
P.O. Box 11258
Church Street Station
New York, NY 10286
Telephone: (800) 457-8968
(212) 815-2560
Certificates for transfer and address changes should be sent to:
The Bank of New York
Receive and Deliver Department
P.O. Box 11002
Church Street Station
New York, NY 10286
The Bank of New York
c/o Computershare Services
Registrar's Department
P.O. Box 82, Caxton House
Redcliffe Way, Bristol BS99 7NH
England
Telephone: 117-9306666
The Bank of New York's Web site:
http://stock.bankofny.com
E-mail inquiries:
Shareowner-svcs@Email.bankofny.com
Copies of our annual and quarterly reports, and Forms 10-K and 10-Q, may be
obtained by contacting:
Corporate Development
Marsh & McLennan Companies, Inc.
1166 Avenue of the Americas
New York, NY 10036
Telephone: (212) 345-5475
MMC's Web site: www.marshmac.com
Stock Listings
MMC's common stock (ticker symbol: MMC) is listed on the New York, Chicago,
Pacific and London stock exchanges.
- --------------------------------------------------------------------------------
Cautionary Language
Regarding Forward-Looking Information
This annual report to shareholders contains forward-looking statements, which by
their nature involve risks and uncertainties. Please refer to Marsh & McLennan
Companies' 1998 Annual Report on Form 10-K for "Information Concerning
Forward-Looking Statements" and a description of certain factors that may cause
actual results to differ from goals referred to herein or contemplated by such
statements.
- --------------------------------------------------------------------------------
Art Credits:
Pages 6-7:
"The Rialto Bridge,Venice" by Canaletto
Christie's Images Ltd; Bridgeman Art Library
Pages 12-13:
"The Arrival of Aeneas at Carthage" attributed to Monsu` Desiderio
(C) Christie's Images Ltd, 1999
Pages 18-19:
"A View of Rome with the Bridge and Castel St. Angelo
by the Tiber" by Gaspar van Wittel
Roy Miles Esq.; Bridgeman Art Library
Cover and Pages 24-25:
"Gallery with Views of Modern Rome" by Giovanni Paolo Pannini
Louvre; Bridgeman Art Library; RMN
================================================================================
Designed and Produced by Taylor & Ives, Inc., NYC
Marsh & McLennan Companies, Inc.
1166 Avenue of the Americas
New York, NY 10036
(212) 345-5000
www.marshmac.com
[BACK COVER: PAINTING OF GALLERY WITH VIEWS OF MODERN ROME]