**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**(Mark One)**

 

** ****x****           ****QUARTERLY REPORT PURSUANT TO SECTION 13OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the quarterly period ended March 31,2008**

 

**OR**

 

** ****o****              ****TRANSITION REPORT PURSUANT TO SECTION 13OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the transition period from           to          **

 

**Commission File Number: 001-16159**

 

**WATSON WYATT WORLDWIDE, INC.**

(Exact name of Registrant as specified in itscharter)

 

| **Delaware**                                                     | ** ** | **52-2211537**                       |
|------------------------------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of   incorporation or organization) |       | (I.R.S. Employer Identification No.) |

 

| **901 N. Glebe Road**                    | ** ** | ** ** |
|------------------------------------------|------------|------------|
| **Arlington, VA**                        | ** ** | **22203**  |
| (Address of principal executive offices) |       | (zip code) |

** **

**(703) 258-8000**

(Registrant’s telephone number, includingarea code)

 

Indicate by check mark whether the Registrant (1) has filed allreports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the Registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days.

 

Yes x    Noo

 

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer, a non-accelerated filer, or a smaller reportingcompany. See definitions of “large accelerated filer,” “accelerated filer,” and“smaller reporting company” in Rule 12b-2 of the Exchange Act. (Checkone):

 

| Large  accelerated filer x                     |   | Accelerated  filer o         |
|------------------------------------------------|--------|-----------------------------------|
|                                           |   |                              |
| Non-accelerated  filer o                       |   | Smaller  reporting company o |
| (Do  not check if a smaller reporting company) |   |                              |

 

Indicate bycheck mark whether the Registrant is a shell company (as defined in Rule 12b-2of the Exchange Act).

 

Yes o    Nox

 

Indicate the number of shares outstanding of each of the issuer’sclasses of common stock, as of April 30, 2008.

 

| **Class**                                           | ** ** | **Outstanding at April 30, 2008** |
|-----------------------------------------------------|------------|----------------------------------------|
| Class A Common Stock, $.01 par value per share |       | 42,665,164 shares                      |

 

** **

----

 

**WATSON WYATT WORLDWIDE, INC.INDEX TO FORM 10-Q**

 

For the Three and Nine Months Ended March 31,2008

 
| PART I.   | FINANCIAL INFORMATION                                                                                                |   |   |
|----------------|----------------------------------------------------------------------------------------------------------------------|--------|--------|
|           |                                                                                                                 |   |   |
| Item 1.        | Condensed Consolidated Financial Statements (Unaudited)                                                              |   |   |
|           |                                                                                                                 |   |   |
|           | Condensed Consolidated Statements of Operations—Three  and Nine Months Ended March 31, 2008 and 2007       |   | 1      |
|           |                                                                                                                 |   |   |
|           | Condensed Consolidated Balance Sheets—March 31,  2008 and June 30, 2007                               |   | 2      |
|           |                                                                                                                 |   |   |
|           | Condensed Consolidated Statements of Cash Flows—Nine Months Ended  March 31, 2008 and 2007                 |   | 3      |
|           |                                                                                                                 |   |   |
|           | Condensed Consolidated Statement of Changes in Stockholders’  Equity—Nine Months Ended March 31, 2008 |   | 4      |
|           |                                                                                                                 |   |   |
|           | Notes to the Condensed Consolidated Financial  Statements                                                            |   | 5      |
|           |                                                                                                                 |   |   |
| Item 2.        | Management’s Discussion and Analysis of Financial  Condition and Results of Operations                          |   | 22     |
|           |                                                                                                                 |   |   |
| Item 3.        | Quantitative and Qualitative Disclosures  About Market Risk                                                          |   | 42     |
|           |                                                                                                                 |   |   |
| Item 4.        | Controls and Procedures                                                                                              |   | 42     |
|           |                                                                                                                 |   |   |
| PART II.  | OTHER INFORMATION                                                                                                    |   |   |
|           |                                                                                                                 |   |   |
| Item 1.        | Legal Proceedings                                                                                                    |   | 43     |
|           |                                                                                                                 |   |   |
| Item 1A.       | Risk Factors                                                                                                         |   | 43     |
|           |                                                                                                                 |   |   |
| Item 2.        | Unregistered Sales of Equity Securities and  Use of Proceeds                                                         |   | 43     |
|           |                                                                                                                 |   |   |
| Item 3.        | Defaults Upon Senior Securities                                                                                      |   | 44     |
|           |                                                                                                                 |   |   |
| Item 4.        | Submission of Matters to a Vote of Security  Holders                                                                 |   | 44     |
|           |                                                                                                                 |   |   |
| Item 5.        | Other Information                                                                                                    |   | 44     |
|           |                                                                                                                 |   |   |
| Item 6.        | Exhibits                                                                                                             |   | 45     |
|           |                                                                                                                 |   |   |
| Signatures     |                                                                                                                 |   | 46     |
|           |                                                                                                                 |   |   |
| Certifications |                                                                                                                 |   |   |

 

----

 

**WATSON WYATT WORLDWIDE, INC.**

**CondensedConsolidated Statements of Operations**

(Thousands of U.S. Dollars, Except Per Share Data)

(Unaudited)

 
| ** **                                              | ** ** | **Three months ended March 31,** | ** ** | **Nine months ended March 31,** | ** ** |
|---------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                              | ** ** | **2008**                                             | ** ** | **2007**                                            | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Revenue                                                 |       | $                                                    | 457,525    |                                                | $          | 395,598 |   | $ | 1,306,244 |   | $ | 1,098,027 |   |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Costs of providing services:                            |       |                                                 |       |                                                |       |   |   |   |   |
| Salaries and employee benefits                          |       | 254,147                                              |       | 211,807                                             |       | 722,583 |   | 598,447 |   |
| Professional and subcontracted services                 |       | 20,334                                               |       | 26,494                                              |       | 75,154 |   | 72,659 |   |
| Occupancy, communications and other                     |       | 54,955                                               |       | 49,375                                              |       | 148,187 |   | 136,008 |   |
| General and administrative expenses                     |       | 45,390                                               |       | 40,445                                              |       | 131,486 |   | 118,005 |   |
| Depreciation and amortization                           |       | 18,265                                               |       | 15,123                                              |       | 53,225 |   | 41,797 |   |
|                                                    |       | 393,091                                              |       | 343,244                                             |       | 1,130,635 |   | 966,916 |   |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Income from operations                                  |       | 64,434                                               |       | 52,354                                              |       | 175,609 |   | 131,111 |   |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Loss from affiliates                                    |       | (29                                                  | )          | (4,490                                              | )          | (603 | ) | (5,357 | ) |
| Interest expense                                        |       | (1,353                                               | )          | (304                                                | )          | (5,580 | ) | (1,336 | ) |
| Interest income                                         |       | 1,585                                                |       | 889                                                 |       | 4,356 |   | 3,101 |   |
| Other non-operating income                              |       | 179                                                  |       | 37                                                  |       | 454 |   | 141 |   |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Income before income taxes                              |       | 64,816                                               |       | 48,486                                              |       | 174,236 |   | 127,660 |   |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Provision for income taxes                              |       | 22,270                                               |       | 14,652                                              |       | 60,465 |   | 43,018 |   |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Net income                                              |       | $                                                    | 42,546     |                                                | $          | 33,834 |   | $ | 113,771 |   | $ | 84,642 |   |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Earnings per share:                                     |       |                                                 |       |                                                |       |   |   |   |   |
| Net income - Basic                                      |       | $                                                    | 1.01       |                                                | $          | 0.80 |   | $ | 2.69 |   | $ | 1.99 |   |
| Net income - Diluted                                    |       | $                                                    | 0.96       |                                                | $          | 0.76 |   | $ | 2.56 |   | $ | 1.90 |   |
|                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Weighted average shares of common stock, basic  (000)   |       | 42,064                                               |       | 42,488                                              |       | 42,230 |   | 42,430 |   |
| Weighted average shares of common stock, diluted  (000) |       | 44,333                                               |       | 44,586                                              |       | 44,515 |   | 44,562 |   |

 

Seeaccompanying notes to the

condensedconsolidated financial statements

 

1

----

** **

**WATSON WYATT WORLDWIDE, INC.**

**CondensedConsolidated Balance Sheets**

(Thousands of U.S. Dollars, Except Share Data)

(Unaudited)

 
| ** **                                                                                                                                              | ** ** | **March 31,** | ** ** | **June 30,** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------|------------|-------------------|------------|
| ** **                                                                                                                                              | ** ** | **2008**           | ** ** | **2007**          | ** ** |
|                                                                                                                                                    |       |               |       |              |       |
| **Assets**                                                                                                                                              | ** ** | ** **         | ** ** | ** **        | ** ** |
| Cash and cash equivalents                                                                                                                               |       | $                  | 157,816    |              | $          | 248,186 |   |
| Receivables from clients:                                                                                                                               |       |               |       |              |       |
| Billed, net of allowances of $10,721 and  $6,216                                                                                                        |       | 254,842            |       | 227,130           |       |
| Unbilled, at estimated net realizable value                                                                                                             |       | 133,440            |       | 109,697           |       |
|                                                                                                                                                    |       | 388,282            |       | 336,827           |       |
|                                                                                                                                                    |       |               |       |              |       |
| Other current assets                                                                                                                                    |       | 83,241             |       | 51,749            |       |
| Total current assets                                                                                                                                    |       | 629,339            |       | 636,762           |       |
|                                                                                                                                                    |       |               |       |              |       |
| Fixed assets, net                                                                                                                                       |       | 178,123            |       | 172,147           |       |
| Deferred income taxes                                                                                                                                   |       | 61,994             |       | 66,751            |       |
| Goodwill                                                                                                                                                |       | 636,157            |       | 382,936           |       |
| Intangible assets, net                                                                                                                                  |       | 231,877            |       | 211,715           |       |
| Other assets                                                                                                                                            |       | 68,134             |       | 59,398            |       |
|                                                                                                                                                    |       |               |       |              |       |
| **Total Assets**                                                                                                                                        |       | $                  | 1,805,624  |              | $          | 1,529,709 |   |
| ** **                                                                                                                                              | ** ** | ** **         | ** ** | ** **        | ** ** |
| **Liabilities**                                                                                                                                         | ** ** | ** **         | ** ** | ** **        | ** ** |
| Accounts payable and accrued liabilities,  including discretionary compensation                                                                         |       | $                  | 328,202    |              | $          | 303,346 |   |
| Income taxes payable and deferred                                                                                                                       |       | 5,796              |       | 7,062             |       |
| Total current liabilities                                                                                                                               |       | 333,998            |       | 310,408           |       |
|                                                                                                                                                    |       |               |       |              |       |
| Revolving credit facility                                                                                                                               |       | 110,500            |       | 105,000           |       |
| Accrued retirement benefits                                                                                                                             |       | 214,815            |       | 198,677           |       |
| Deferred rent and accrued lease losses                                                                                                                  |       | 29,307             |       | 32,686            |       |
| Contingency stock payable                                                                                                                               |       | 110,329            |       | —            |       |
| Other noncurrent liabilities                                                                                                                            |       | 103,628            |       | 95,419            |       |
|                                                                                                                                                    |       |               |       |              |       |
| **Total Liabilities**                                                                                                                                   |       | 902,577            |       | 742,190           |       |
|                                                                                                                                                    |       |               |       |              |       |
| Commitments and contingencies                                                                                                                           |       |               |       |              |       |
|                                                                                                                                                    |       |               |       |              |       |
| **Stockholders’ Equity**                                                                                                                           |       |               |       |              |       |
| Preferred Stock - No par value:  1,000,000 shares authorized;  none issued and outstanding                                                              |       | —             |       | —            |       |
| Class A Common Stock - $.01 par value:  99,000,000 shares authorized;  42,763,451 and 42,763,451 issued and  41,864,101 and 42,299,792 outstanding |       | 428                |       | 428               |       |
| Additional paid-in capital                                                                                                                              |       | 402,049            |       | 395,521           |       |
| Treasury stock, at cost - 899,350 and  463,659 shares                                                                                                   |       | (44,488            | )          | (22,251           | )          |
| Retained earnings                                                                                                                                       |       | 436,561            |       | 336,101           |       |
| Accumulated other comprehensive income                                                                                                                  |       | 108,497            |       | 77,720            |       |
| **Total Stockholders’ Equity**                                                                                                                     |       | 903,047            |       | 787,519           |       |
|                                                                                                                                                    |       |               |       |              |       |
| **Total Liabilities and Stockholders’ Equity**                                                                                                     |       | $                  | 1,805,624  |              | $          | 1,529,709 |   |

 

See accompanying notes to the

condensed consolidated financial statements

 

2

----

 

**WATSON WYATT WORLDWIDE, INC.**

**CondensedConsolidated Statements of Cash Flows**

(Thousands of U.S. Dollars)

(Unaudited)

 
| ** **                                                                            | ** ** | **Nine months ended March 31,** | ** ** |
|---------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                            | ** ** | **2008**                                            | ** ** | **2007** | ** ** |
|                                                                                  |       |                                                |       |   |   |
| Cash flows from (used in) operating  activities:                                      |       |                                                |       |   |   |
| Net income                                                                            |       | $                                                   | 113,771    |   | $ | 84,642 |   |
| Adjustments to reconcile net income to net  cash (used in)/from operating activities: |       |                                                |       |   |   |
| Provision for doubtful receivables from  clients                                      |       | 11,295                                              |       | 17,172 |   |
| Depreciation                                                                          |       | 40,943                                              |       | 34,512 |   |
| Amortization of intangible assets                                                     |       | 12,282                                              |       | 7,285 |   |
| Provision for deferred income taxes                                                   |       | 9,453                                               |       | 2,145 |   |
| Loss from affiliates                                                                  |       | 603                                                 |       | 5,357 |   |
| Other, net                                                                            |       | 6,730                                               |       | 454 |   |
| Changes in operating assets and  liabilities, net of business acquisitions            |       |                                                |       |   |   |
| Receivables from clients                                                              |       | (43,785                                             | )          | (68,865 | ) |
| Other current assets                                                                  |       | (19,818                                             | )          | (13,362 | ) |
| Other assets                                                                          |       | (3,689                                              | )          | 599 |   |
| Accounts payable and accrued liabilities                                              |       | 27,242                                              |       | (9,198 | ) |
| Income taxes payable and deferred                                                     |       | (478                                                | )          | (7,743 | ) |
| Accrued retirement benefits                                                           |       | (8,118                                              | )          | (3,889 | ) |
| Deferred rent and accrued lease losses                                                |       | (3,379                                              | )          | 667 |   |
| Other noncurrent liabilities                                                          |       | (5,244                                              | )          | 6,045 |   |
| Cash flows from (used in) operating  activities:                                      |       | 137,808                                             |       | 55,821 |   |
|                                                                                  |       |                                                |       |   |   |
| Cash flows from (used in) investing  activities:                                      |       |                                                |       |   |   |
| Business acquisitions                                                                 |       | (134,934                                            | )          | (46,534 | ) |
| Purchases of fixed assets                                                             |       | (24,698                                             | )          | (29,244 | ) |
| Capitalized software costs                                                            |       | (16,903                                             | )          | (16,010 | ) |
| Investments in affiliates                                                             |       | (3,316                                              | )          | — |   |
| Increase in restricted cash                                                           |       | (2,265                                              | )          | — |   |
| Contingent proceeds from divestitures                                                 |       | 454                                                 |       | 141 |   |
| Cash flows from (used in) investing  activities:                                      |       | (181,662                                            | )          | (91,647 | ) |
|                                                                                  |       |                                                |       |   |   |
| Cash flows from/(used in) financing  activities:                                      |       |                                                |       |   |   |
| Borrowings (repayments) under Credit  Facility                                        |       | 5,500                                               |       | (30,000 | ) |
| Dividends paid                                                                        |       | (9,499                                              | )          | (9,527 | ) |
| Repurchases of common stock                                                           |       | (53,980                                             | )          | (33,420 | ) |
| Issuances of common stock and excess tax  benefit                                     |       | 9,445                                               |       | 9,989 |   |
| Cash flows from (used in) financing  activities:                                      |       | (48,534                                             | )          | (62,958 | ) |
|                                                                                  |       |                                                |       |   |   |
| Effect of exchange rates on cash                                                      |       | 2,018                                               |       | 2,615 |   |
|                                                                                  |       |                                                |       |   |   |
| Decrease in cash and cash equivalents                                                 |       | (90,370                                             | )          | (96,169 | ) |
|                                                                                  |       |                                                |       |   |   |
| Cash and cash equivalents at beginning of  period                                     |       | 248,186                                             |       | 165,345 |   |
|                                                                                  |       |                                                |       |   |   |
| Cash and cash equivalents at end of period                                            |       | $                                                   | 157,816    |   | $ | 69,176 |   |
|                                                                                  |       |                                                |       |   |   |
| Supplemental disclosures:                                                             |       |                                                |       |   |   |
| Cash paid for interest                                                                |       | $                                                   | 5,498      |   | $ | 1,612 |   |
| Cash paid for income taxes, net of refunds                                            |       | $                                                   | 55,191     |   | $ | 45,928 |   |

 

See accompanying notes to the

condensed consolidated financial statements

 

3

----

 

**WATSON WYATT WORLDWIDE, INC.**

**CondensedConsolidated Statement of Changes in Stockholders’ Equity**

 (Thousands of U.S. Dollars)

(Unaudited)

 
| ** **                                           | ** ** | **Class A**                 | ** ** | ** **       | ** ** | ** **     | ** ** | ** **   | ** ** | ** **   | ** ** | ** **        | ** ** | ** ** | ** ** |
|------------------------------------------------------|------------|----------------------------------|------------|------------------|------------|----------------|------------|--------------|------------|--------------|------------|-------------------|------------|------------|------------|
| ** **                                           | ** ** | **Common**                       | ** ** | ** **       | ** ** | ** **     | ** ** | ** **   | ** ** | ** **   | ** ** | ** **        | ** ** | ** ** | ** ** |
| ** **                                           | ** ** | **Stock**                        | ** ** | ** **       | ** ** | ** **     | ** ** | ** **   | ** ** | ** **   | ** ** | **Accumulated**   | ** ** | ** ** | ** ** |
| ** **                                           | ** ** | **Outstanding**                  | ** ** | **Class A** | ** ** | **Additional** | ** ** | **Treasury** | ** ** | ** **   | ** ** | **Other**         | ** ** | ** ** | ** ** |
| ** **                                           | ** ** | **(number of shares,** | ** ** | **Common**       | ** ** | **Paid-in**    | ** ** | **Stock,**   | ** ** | **Retained** | ** ** | **Comprehensive** | ** ** | ** ** | ** ** |
| ** **                                           | ** ** | **in  thousands)**               | ** ** | **Stock**        | ** ** | **Capital**    | ** ** | **at Cost**  | ** ** | **Earnings** | ** ** | **Income**        | ** ** | **Total**  | ** ** |
|                                                 |       |                             |       |             |       |           |       |         |       |         |       |              |       |       |       |
| Balance at  June 30, 2007                       |       | 42,299                           |       | $                | 428        |           | $          | 395,521      |       | $            | (22,251    | )                 | $          | 336,101    |       | $ | 77,720 |   | $ | 787,519 |   |
| Adoption of FIN  48 - tax liability adjustment       |       | —                           |       | —           |       | —         |       | —       |       | (3,813       | )          | —            |       | (3,813     | )          |
| FAS 158  adjustment - pension liability adjustment   |       | —                           |       | —           |       | —         |       | —       |       | —       |       | 1,564             |       | 1,564      |       |
| Comprehensive  income:                               |       |                             |       |             |       |           |       |         |       |         |       |              |       |       |       |
| Net income                                           |       | —                           |       | —           |       | —         |       | —       |       | 113,771      |       | —            |       | 113,771    |       |
| Foreign currency  translation adjustment, net of tax |       | —                           |       | —           |       | —         |       | —       |       | —       |       | 29,213            |       | 29,213     |       |
| Total  comprehensive income                          |       |                             |       |             |       |           |       |         |       |         |       |              |       | 142,984    |       |
| Cash dividends  declared                             |       | —                           |       | —           |       | —         |       | —       |       | (9,498       | )          | —            |       | (9,498     | )          |
| Repurchases of  common stock                         |       | (1,101                           | )          | —           |       | —         |       | (53,980      | )          | —       |       | —            |       | (53,980    | )          |
| Issuance of  common stock - WisdomNet acquisition    |       | 7                                |       | —           |       | 17             |       | 360          |       | —       |       | —            |       | 377        |       |
| Issuances of  common stock and excess tax benefit    |       | 659                              |       | —           |       | 6,511          |       | 31,383       |       | —       |       | —            |       | 37,894     |       |
|                                                 |       |                             |       |             |       |           |       |         |       |         |       |              |       |       |       |
| Balance at  March 31, 2008                      |       | 41,864                           |       | $                | 428        |           | $          | 402,049      |       | $            | (44,488    | )                 | $          | 436,561    |       | $ | 108,497 |   | $ | 903,047 |   |

 

See accompanying notes to the

condensed consolidated financial statements

 

4

----

 

**WATSON WYATT WORLDWIDE, INC.**

 

**Notes tothe Condensed Consolidated Financial Statements**(Tabular amounts are in thousands, except per sharedata)

(Unaudited)

 

**Note 1 – Basis of Presentation.**

 

The accompanying unaudited quarterly consolidated financial statementsof Watson Wyatt Worldwide, Inc. and our subsidiaries (collectivelyreferred to as “we,” “Watson Wyatt,” “Watson Wyatt Worldwide” or the “company”)are presented in accordance with the rules and regulations of theSecurities and Exchange Commission (“SEC”) for quarterly reports on Form 10-Qand therefore do not include all of the information and footnotes required byU.S. generally accepted accounting principles. In the opinion of management,these condensed consolidated financial statements reflect all adjustments,consisting only of normal recurring adjustments, which are necessary for a fairpresentation of the condensed consolidated financial statements and results forthe interim periods.  All intercompany accountsand transactions have been eliminated in consolidation. The condensedconsolidated financial statements should be read together with the auditedconsolidated financial statements and notes thereto contained in the company’sAnnual Report on Form 10-K for the fiscal year ended June 30, 2007,which is filed with the SEC and may be accessed via EDGAR on the SEC’s web siteat www.sec.gov.  The year-end balancesheet data was derived from audited financial statements.

 

Our fiscal year 2008 began July 1, 2007 and ends June 30,2008.

 

The results of operations for the nine months ended March 31, 2008are not necessarily indicative of the results that can be expected for theentire fiscal year ending June 30, 2008. The results reflect certain estimates and assumptions made by managementincluding estimated bonuses and anticipated tax liabilities that affect theamounts reported in the condensed consolidated financial statements and relatednotes.  Certain prior year amounts havebeen reclassified to conform to the current year’s presentation.

 

**Note 2 – Business Acquisitions.**

 

The company’sacquisition strategy identifies potential acquisitions that strengthen ourgeographic delivery of services to clients or enhance practices in variousparts of the world. Acquisition candidates are evaluated on their culturalconsistency with Watson Wyatt values within the company’s strategy. When thoseconditions are met, the company values potential acquisitions with the intentof being accretive to earnings.

 

Assetsacquired and liabilities assumed as a result of our acquisitions are recordedat their respective fair values as of the business combination date.  The determination of estimated fair valuerequires management to make significant estimates and assumptions.

 

Acquisitionsthat we have completed recently include the following:

 

*Dr. Dr. HeissmannGmbH*

 

On July 20, 2007, the company acquired the outstanding stock of Dr. Dr. HeissmannGmbH (“Heissmann”) for approximately $136 million (€99 million in cash plusapproximately $2.0 million in transaction costs).  Heissmann was a leading actuarial, benefits,and human resources consulting firm based in Germany with subsidiaries inIreland, Netherlands, Austria, and France. As of July 20, 2007, Heissmann employed approximately 360associates.  Annual revenue, includingsubsidiaries, was approximately $70 million (€52 million) for their fiscal yearended March 31, 2007.  The financialresults of Heissmann have been consolidated into the company’s financialstatements effective July 1, 2007.

 

5

----

 

The companyhas determined the following preliminary fair values for the assets purchasedand liabilities assumed in the Heissmann acquisition:

 
| ** **                              | ** ** | **July 1, 2007** | ** ** |
|-----------------------------------------|------------|----------------------------|------------|
| ** **                              | ** ** | **(in thousands)**    | ** ** |
| Total purchase price                    |       |                       |       | $ | 135,821 |   |
| Less net assets acquired:               |       |                       |       |   |   |
| Customer related intangibles            |       | $                          | 27,070     |   |   |   |
| Non-compete agreements                  |       | 541                        |       |   |   |
| Trade-name intangible                   |       | 271                        |       |   |   |
| Core/developed technology intangibles   |       | 1,218                      |       |   |   |
| Cash                                    |       | 12,824                     |       |   |   |
| Client receivables and unbilled revenue |       | 18,966                     |       |   |   |
| Fixed assets                            |       | 4,607                      |       |   |   |
| Other assets                            |       | 5,747                      |       |   |   |
| Liabilities                             |       | (43,278                    | )          |   |   |
|                                    |       |                       |       |   |   |
| Net assets acquired                     |       |                       |       | 27,966 |   |
| Goodwill                                |       |                       |       | $ | 107,855 |   |
|                                         |            |                            |            |  |  |  |  |

 

The allocationof the purchase price resulted in the allocation of $107.9 million to goodwill,which has been assigned to our segments as follows:

 
| ** **                                  | ** ** | **Goodwill** | ** ** |
|---------------------------------------------|------------|--------------|------------|
| Benefits Group                              |       | $            | 103,541    |   |
| Human Capital Group                         |       | 2,157        |       |
| Investment Consulting Group                 |       | 2,157        |       |
| Allocation of goodwill to business segments |       | $            | 107,855    |   |

 

Goodwillassociated with this transaction is not deductible for tax purposes.

 

*WisdomNet*

 

OnJuly 2, 2007, the company acquired the net assets of WisdomNet for $6.9million in cash and stock, including the payoff of $0.5 million of debt.  WisdomNet is a Denver-based talent managementsoftware and consulting firm that was founded in 2001.  WisdomNet offered a proprietary line ofbusiness software products, including an end-to-end solution for managingorganizations’ talent management processes. The acquisition of WisdomNet strengthens our existing talent managementbusiness and provides strategic software that will be used to service ourclients on an ongoing basis. As of the date of the acquisition, WisdomNetemployed 15 associates.

 

*WatsonWyatt Netherlands*

 

On February 1,2007, Watson Wyatt B.V., an indirect wholly-owned subsidiary of the company,acquired the net assets of Watson Wyatt Netherlands (WWN), its long-timealliance partner in the Netherlands.  Thefinancial results of WWN have been consolidated into the company’s financialstatements since February 1, 2007.

 

6

----

 

In connectionwith this acquisition, payment of up to an additional €8.0 million worth of Class Ashares (approximately 242,000 shares) after January 31, 2008 wascontingent upon achievement by the acquired business of certain financialperformance goals during the twelve month period ended January 31,2008.  The financial performance goalswere met during the third quarter of fiscal year 2008 and the company’s balancesheet reflects the accrued liability along with a corresponding increase ingoodwill. These shares have been included in fully diluted earnings per sharesince July 1, 2007.

 

*Watson Wyatt LLP*

 

On July 31,2005, the company acquired substantially all of the assets and assumed mostliabilities of Watson Wyatt LLP (“WWLLP”) (the “WWLLP business combination”), aleading United Kingdom-based actuarial, benefits and human resources consultingpartnership. The financial results of WWLLP have been consolidated into thecompany’s financial statements since August 1, 2005.

 

In addition tothe initial purchase price, the terms of the purchase agreement called for anadditional 1,950,000 shares to be paid to the former partners of WWLLP,contingent upon the achievement by the acquired business of certain agreed-uponfinancial performance goals.  Theagreed-upon financial performance goals were met at the end of fiscal year 2007and the company’s balance sheet reflects the accrued liability along with acorresponding increase in goodwill.  Thecontingent shares were issued to the former partners of WWLLP subsequent to theend of the third quarter, on April 15, 2008.

 

**Note 3 –Segment Information.**

 

We have five reportable operating segments or practice areas asfollows:

 
|   | (1) | Benefits Group                                |
|--------|-----|-----------------------------------------------|
|   | (2) | Human Capital Group                           |
|   | (3) | Technology and Administration Solutions Group |
|   | (4) | Investment Consulting Group                   |
|   | (5) | Insurance and Financial Services Group        |

 

Management evaluates the performance of its segments and allocatesresources to them based on net operating income.

 

The table below presents specified information about reported segmentsas of and for the three months ended March 31, 2008:

 
| ** **                             | ** ** | **Benefits  Group** | ** ** | **Human  Capital   Group** | ** ** | **Technology  and  Administration  Solutions  Group** | ** ** | **Investment  Consulting  Group** | ** ** | **Insurance  and  Financial  Services  Group** | ** ** | **Total** | ** ** |
|----------------------------------------|------------|---------------------|------------|---------------------------------|------------|-------------------------------------------------------|------------|-----------------------------------|------------|------------------------------------------------|------------|-----------|------------|
| Revenue (net of reimbursable expenses) |       | $                   | 267,940    |                            | $          | 49,058                                                |       | $                                 | 45,008     |                                           | $          | 43,457    |       | $ | 30,799 |   | $ | 436,262 |   |
| Net operating income                   |       | 89,135              |       | 9,460                           |       | 10,180                                                |       | 15,947                            |       | 1,411                                          |       | 126,133   |       |
| Receivables                            |       | 281,316             |       | 48,395                          |       | 17,072                                                |       | 29,829                            |       | 26,581                                         |       | 403,193   |       |
|                                        |            |                     |            |                                 |            |                                                       |            |                                   |            |                                                |            |           |            |  |  |  |  |  |  |

 

7

----

 

The table below presents specified information about reported segmentsas of and for the three months ended March 31, 2007:

 
| ** **                             | ** ** | **Benefits  Group** | ** ** | **Human  Capital  Group** | ** ** | **Technology  and  Administration  Solutions  Group** | ** ** | **Investment  Consulting  Group** | ** ** | **Insurance  and  Financial  Services  Group** | ** ** | **Total** | ** ** |
|----------------------------------------|------------|---------------------|------------|---------------------------|------------|-------------------------------------------------------|------------|-----------------------------------|------------|------------------------------------------------|------------|-----------|------------|
| Revenue (net of reimbursable expenses) |       | $                   | 220,708    |                      | $          | 41,153                                                |       | $                                 | 39,329     |                                           | $          | 34,294    |       | $ | 30,288 |   | $ | 365,772 |   |
| Net operating income                   |       | 66,696              |       | 5,929                     |       | 8,229                                                 |       | 11,680                            |       | 6,400                                          |       | 98,934    |       |
| Receivables                            |       | 235,167             |       | 46,030                    |       | 18,986                                                |       | 28,275                            |       | 33,530                                         |       | 361,988   |       |
|                                        |            |                     |            |                           |            |                                                       |            |                                   |            |                                                |            |           |            |  |  |  |  |  |  |

 

The table below presents specified information about reported segmentsas of and for the nine months ended March 31, 2008:

 
| ** **                             | ** ** | **Benefits  Group** | ** ** | **Human   Capital  Group** | ** ** | **Technology  and  Administration  Solutions  Group** | ** ** | **Investment  Consulting  Group** | ** ** | **Insurance  and  Financial  Services  Group** | ** ** | **Total** | ** ** |
|----------------------------------------|------------|---------------------|------------|---------------------------------|------------|-------------------------------------------------------|------------|-----------------------------------|------------|------------------------------------------------|------------|-----------|------------|
| Revenue (net of reimbursable expenses) |       | $                   | 738,605    |                            | $          | 145,222                                               |       | $                                 | 135,055    |                                           | $          | 125,763   |       | $ | 89,131 |   | $ | 1,233,776 |   |
| Net operating income                   |       | 210,068             |       | 27,585                          |       | 34,990                                                |       | 44,681                            |       | 2,565                                          |       | 319,889   |       |
| Receivables                            |       | 281,316             |       | 48,395                          |       | 17,072                                                |       | 29,829                            |       | 26,581                                         |       | 403,193   |       |
|                                        |            |                     |            |                                 |            |                                                       |            |                                   |            |                                                |            |           |            |  |  |  |  |  |  |

 

The table below presents specified information about reported segmentsas of and for the nine months ended March 31, 2007:

 
| ** **                             | ** ** | **Benefits  Group** | ** ** | **Human  Capital  Group** | ** ** | **Technology  and  Administration  Solutions  Group** | ** ** | **Investment  Consulting  Group** | ** ** | **Insurance  and  Financial  Services  Group** | ** ** | **Total** | ** ** |
|----------------------------------------|------------|---------------------|------------|---------------------------|------------|-------------------------------------------------------|------------|-----------------------------------|------------|------------------------------------------------|------------|-----------|------------|
| Revenue (net of reimbursable expenses) |       | $                   | 602,772    |                      | $          | 126,269                                               |       | $                                 | 118,034    |                                           | $          | 94,219    |       | $ | 83,656 |   | $ | 1,024,950 |   |
| Net operating income                   |       | 159,541             |       | 19,305                    |       | 27,314                                                |       | 28,364                            |       | 14,730                                         |       | 249,254   |       |
| Receivables                            |       | 235,167             |       | 46,030                    |       | 18,986                                                |       | 28,275                            |       | 33,530                                         |       | 361,988   |       |
|                                        |            |                     |            |                           |            |                                                       |            |                                   |            |                                                |            |           |            |  |  |  |  |  |  |

 

Information about interest income and tax expense is not presented as asegment expense because such items are not considered a responsibility of thesegments’ operating management.

 

8

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Reconciliations of the information reported by segment to thehistorical consolidated amounts follow for the three and nine month periodsended March 31, 2008 and 2007:

 
| ** **                                                             | ** ** | **Three Months Ended March 31,** | ** ** | **Nine Months Ended March 31,** | ** ** |
|------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
|                                                                   |       | **2008**                                             | ** ** | **2007**                                            | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                                                   |       | ** **                                           | ** ** | ** **                                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenue:                                                               |       |                                                 |       |                                                |       |   |   |   |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Total segment revenue                                                  |       | $                                                    | 436,262    |                                                | $          | 365,772 |   | $ | 1,233,776 |   | $ | 1,024,950 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Reimbursable expenses and other not  included in total segment revenue |       | 11,039                                               |       | 19,418                                              |       | 39,286 |   | 42,382 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| All other segments                                                     |       | 10,224                                               |       | 10,408                                              |       | 33,182 |   | 30,695 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Consolidated fees                                                      |       | $                                                    | 457,525    |                                                | $          | 395,598 |   | $ | 1,306,244 |   | $ | 1,098,027 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Net Operating Income:                                                  |       |                                                 |       |                                                |       |   |   |   |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Total segment net operating income                                     |       | $                                                    | 126,133    |                                                | $          | 98,934 |   | $ | 319,889 |   | $ | 249,254 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Income from affiliates                                                 |       | (29                                                  | )          | (4,490                                              | )          | (603 | ) | (5,357 | ) |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Differences in allocation methods(1)                                   |       | (3,930                                               | )          | (875                                                | )          | (8,964 | ) | (8,137 | ) |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Discretionary compensation                                             |       | (50,483                                              | )          | (39,604                                             | )          | (144,363 | ) | (105,984 | ) |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| All other segments                                                     |       | (490                                                 | )          | (1,340                                              | )          | 6,121 |   | (5,096 | ) |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Other, net                                                             |       | (6,385                                               | )          | (4,139                                              | )          | 2,156 |   | 2,980 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Consolidated pretax income                                             |       | $                                                    | 64,816     |                                                | $          | 48,486 |   | $ | 174,236 |   | $ | 127,660 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Receivables:                                                           |       |                                                 |       |                                                |       |   |   |   |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Total segment receivables - billed and  unbilled(2)                    |       | $                                                    | 403,193    |                                                | $          | 361,988 |   | $ | 403,193 |   | $ | 361,988 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| All other segments                                                     |       | 6,434                                                |       | 6,557                                               |       | 6,434 |   | 6,557 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Net valuation differences                                              |       | (21,345                                              | )          | (5,755                                              | )          | (21,345 | ) | (5,755 | ) |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Total billed and unbilled receivables                                  |       | 388,282                                              |       | 362,790                                             |       | 388,282 |   | 362,790 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Assets not reported by segment (3)                                     |       | 1,417,342                                            |       | 953,616                                             |       | 1,417,342 |   | 953,616 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Consolidated assets                                                    |       | $                                                    | 1,805,624  |                                                | $          | 1,316,406 |   | $ | 1,805,624 |   | $ | 1,316,406 |   |

 

----

(1) Generaland administrative, pension, and medical costs are allocated to our segmentsbased on budgeted expenses determined at the beginning of the fiscal year asmanagement believes that these costs are largely uncontrollable to the segment.  To the extent that the actual expense baseupon which allocations are made differs from the forecast/budget amount, areconciling item will be created between internally allocated expenses and theactual expense that we report for U.S. GAAP purposes.

 

(2) Totalsegment receivables, which reflects the receivable balances used by managementto make business decisions, are included for management reporting purposes netof deferred revenues - cash collections and invoices generated in excess ofrevenue recognized in the segment revenues.

 

(3) Assetsnot reported by segment for management reporting purposes include goodwill andintangible assets of $868.0 million.

 

9

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**Note 4 – Share-based Compensation.**

 

Thecompany has four share-based compensation plans, which are describedbelow.  These compensation plans includethe 2001 Deferred Stock Unit Plan for Selected Employees, the AmendedCompensation Plan for Outside Directors, the 2001 Employee Stock Purchase Planand the 2000 Long-Term Incentive Plan. All four plans have been approved by stockholders.

 

##### *2001 Deferred Stock UnitPlan for Selected Employees*

##### * *

DeferredStock Units - The2001 Deferred Stock Unit Plan for Selected Employees is intended to provideselected associates of the company with additional incentives by permitting thecompany to grant them an equity interest in the company in the form ofrestricted stock units, in lieu of a portion of their annual fiscal year endbonus.  Shares under this plan are awardedduring the first quarter of each fiscal year. During the first quarter of fiscal year 2008, 349,118 shares of commonstock were awarded at an average market price of $47.63 for a total fair valueof $16.6 million.  During the firstquarter of fiscal year 2007, 300,552 shares of common stock were awarded at amarket price of $40.48 for a total fair value of $12.2 million.

 

SBI Program  - The Performance Share BonusIncentive Program (the “SBI Program”), as approved by the company’s Board ofDirectors pursuant to the company’s 2001 Deferred Stock Unit Plan for SelectedEmployees, is a long-term stock bonus arrangement for senior executives of thecompany and its affiliates. The SBI program is designed to strengthenincentives and align behaviors to grow the business in a way that is consistentwith the strategic goals of the company.

 

Incentives under the SBI Program are providedthrough grants of deferred stock units pursuant to the company’s 2001 DeferredStock Unit Plan for Selected Employees.  Grants of deferred stock unitsare based on the value of the cash portion of the eligible participant’s fiscalyear end bonus target and a multiplier, which is then converted into a targetnumber of deferred stock units based upon the company’s stock price as of thefiscal year end prior to grant.  Participants may vest between zero and170% of the target number of deferred stock units based on the extent to whichfinancial performance metrics are achieved over a three fiscal yearperiod.  The financial and strategic performance metrics are establishedat the beginning of each performance period.  For the performance periodscovering fiscal year 2006 through 2008, 2007 through 2009 and 2008 through2010, the vesting criteria are based upon growth in earnings per share andrevenue.  During the first quarter offiscal year 2008, 129,636 shares were awarded to certain senior executiveofficers under the SBI 2005 plan, which represented vesting at 170% of thetarget number of deferred stock units. The receipt of 80,452 of these shares was deferred in conjunction withthe company’s Senior Officer Deferred Compensation Program.

 

##### *Amended Compensation Planfor Outside Directors*

##### * *

TheAmended Compensation Plan for Outside Directors (the “Outside Director’s Plan”)provides for the cash and stock compensation of outside Directors.  Under the Outside Director’s Plan, outsideDirectors are initially paid in shares of the company’s common stock, or in acombination of cash and shares, quarterly for services provided during thepreceding quarter.  In addition, outsideDirectors receive shares with a grant date market value of $90,000 at the endof each fiscal year for services performed during the preceding fiscal year.Approximately $0.3 million of compensation expense was recorded relative tothis plan during the nine months of both fiscal year 2008 and fiscal year 2007.

 

10

----

 

*2001Employee Stock Purchase Plan*

 

TheEmployee Stock Purchase Plan enables employees to purchase shares of the company’sstock.  No compensation expense wasrecognized as a result of this plan during the first nine months of fiscalyears 2008 or 2007.

 

##### *2000 Long-Term IncentivePlan*

##### * *

The company issued non-qualified stock options under the 2000 Long-TermIncentive Plan (the “Stock Option Plan”) in conjunction with its initial publicoffering in fiscal year 2001.  No optionshave been granted under the Stock Option Plan since March 2002 and thecompany does not currently intend to issue further stock options under the StockOption Plan**.**

 

**Note 5 – Retirement Benefits.**

 

*Defined Benefit Plans*

 

We sponsor both qualified and non-qualified, non-contributory definedbenefit pension plans covering substantially all of our associates.  Under our plans in North America, benefits arebased on the number of years of service and the associate’s compensation duringthe five highest paid consecutive years of service.  Beginning January 2008, we have madechanges to our plan in the U.K. related to years of service used in calculatingbenefits for associates.  Benefits earnedprior to January 2008 are based on the number of years of service and theassociate’s compensation during the three years before leaving the plan andbenefits earned after January 2008 are based on the number of years ofservice and the associates’ average compensation during the associate’s term ofservice since that date. The non-qualified plan, included only in NorthAmerica, provides for pension benefits that would be covered under thequalified plan but are limited by the Internal Revenue Code.  The non-qualified plan has no assets andtherefore is an unfunded arrangement. The benefit liability is reflected on the balance sheet.  The measurement date for each of the plans isJune 30.

 

11

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*Components of Net Periodic Benefit Cost forDefined Benefit Pension Plans*

 

The following table sets forth the componentsof net periodic benefit cost for the company’s defined benefit pension plansfor North America and the U.K. for the three and nine month periods ended March 31,2008 and 2007:

 

| ** **                            | ** ** | **Three Months Ended March 31,** | ** ** |
|---------------------------------------|------------|------------------------------------------------------|------------|
| ** **                            | ** ** | **2008**                                             | ** ** | **2007** | ** ** |
| ** **                            | ** ** | **North  America**                                   | ** ** | **U.K.** | ** ** | **North  America** | ** ** | **U.K.** | ** ** |
| Service Cost                          |       | $                                                    | 7,451      |   | $ | 2,686 |   | $ | 6,350 |   | $ | 3,257 |   |
| Interest Cost                         |       | 11,208                                               |       | 5,184 |   | 10,013 |   | 4,148 |   |
| Expected Return on Plan Assets        |       | (13,827                                              | )          | (5,821 | ) | (11,755 | ) | (4,018 | ) |
| Amortization of Transition Obligation |       | (17                                                  | )          | — |   | (10 | ) | — |   |
| Amortization of Net Loss/(Gain)       |       | 1,507                                                |       | (709 | ) | 2,161 |   | (218 | ) |
| Amortization of Prior Service Cost    |       | (649                                                 | )          | 4 |   | (735 | ) | — |   |
| Net Periodic Benefit Cost             |       | $                                                    | 5,673      |   | $ | 1,344 |   | $ | 6,024 |   | $ | 3,169 |   |

 

| ** **                            | ** ** | **Nine Months Ended March 31,** | ** ** |
|---------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                            | ** ** | **2008**                                            | ** ** | **2007** | ** ** |
| ** **                            | ** ** | **North  America**                                  | ** ** | **U.K.** | ** ** | **North  America** | ** ** | **U.K.** | ** ** |
| Service Cost                          |       | $                                                   | 22,333     |   | $ | 8,170 |   | $ | 19,064 |   | $ | 9,708 |   |
| Interest Cost                         |       | 33,600                                              |       | 15,765 |   | 30,058 |   | 12,365 |   |
| Expected Return on Plan Assets        |       | (41,456                                             | )          | (17,703 | ) | (35,289 | ) | (11,978 | ) |
| Amortization of Transition Obligation |       | (49                                                 | )          | — |   | (29 | ) | — |   |
| Amortization of Net Loss/(Gain)       |       | 4,571                                               |       | (2,156 | ) | 6,489 |   | (649 | ) |
| Amortization of Prior Service Cost    |       | (1,946                                              | )          | 12 |   | (2,204 | ) | — |   |
| Net Periodic Benefit Cost             |       | $                                                   | 17,053     |   | $ | 4,088 |   | $ | 18,089 |   | $ | 9,446 |   |

 

The fiscal year 2008 net periodic benefit cost is based, in part, onthe following rate assumptions as of June 30, 2007 for the North Americaand U.K. plans:

 
| ** **                                  | ** ** | **North America** | ** ** | **U.K.** | ** ** |
|---------------------------------------------|------------|------------------------|------------|----------|------------|
| Discount rate                               |       | 6.25                   | %          | 5.80     | %          |
|                                        |       |                   |       |     |       |
| Expected long-term rate of return on assets |       | 8.75                   | %          | 5.69     | %          |
|                                        |       |                   |       |     |       |
| Rate of increase in compensation levels     |       | 3.84                   | %          | 4.95     | %          |

 

*Employer Contributions*

 

The company made $16.2 million in contributions to North American plansduring the nine months of fiscal year 2008. We anticipate that $0.3 million will be contributed by the company tothe North American pension plans over the remainder of the fiscal year.

 

12

----

 

The company made $14.6 million in contributions to the U.K. plansduring the nine months of fiscal year 2008 and anticipates making $6.9 millionin contributions over the remainder of the fiscal year.

 

*Defined Contribution Plans*

 

In the U.S.,we sponsor a savings plan that provides benefits to substantially all U.S.associates with a match to employee contributions at a rate of 50 percent ofthe first 6 percent up to $60,000 of associates’ eligible compensation.  The company may also make an annual profit sharingcontribution to the plan in an amount that is dependant upon the company’sfinancial performance during the fiscal year.

 

In the U.K.,we sponsor a savings plan that provides benefits to substantially all U.K.associates.  The company provides a basiccontribution and a match to employee contributions, both of which depend on ageand base salary.  The maximum employercontribution is up to 12% of an associate’s base salary up to $180,000.

 

*Health Care Benefits*

 

In the U.S., we sponsor a contributory healthcare plan that provides hospitalization, medical and dental benefits tosubstantially all U.S. associates.  Weaccrue a liability for estimated incurred but unreported claims based onprojected use of the plan as well as prior plan history.

 

In the U.K., we sponsor a non-contributorymedical insurance plan that provides hospitalization and medical benefits and acontributory dental plan that provides dental benefits to substantially allU.K. associates.

 

*Postretirement Benefits*

 

We provide certain health care and lifeinsurance benefits for retired associates. The principal plans cover associates in the U.S. and Canada who have metcertain eligibility requirements. Our principal post-retirement benefit plans areunfunded.  We accrue a liability for thesebenefits.

 

*Components of Net Periodic Benefit Cost forOther Postretirement Plans*

 

The following table sets forth the componentsof net periodic benefit cost for the company’s healthcare and post-retirementplans for the three and nine months ended March 31, 2008 and 2007:

 
| ** **                            | ** ** | **Three Months Ended March 31,** | ** ** | **Nine Months Ended March31,** | ** ** |
|---------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                            | ** ** | **2008**                                             | ** ** | **2007**                                      | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                  |       |                                                 |       |                                          |       |   |   |   |   |
| Service cost                          |       | $                                                    | 386        |                                          | $          | 404 |   | $ | 1,156 |   | $ | 1,215 |   |
| Interest cost                         |       | 683                                                  |       | 647                                           |       | 2,046 |   | 1,944 |   |
| Expected return on plan assets        |       | —                                               |       | —                                        |       | — |   | — |   |
| Amortization of transition obligation |       | —                                               |       | —                                        |       | — |   | — |   |
| Amortization of net gain              |       | (112                                                 | )          | (39                                           | )          | (338 | ) | (117 | ) |
| Amortization of prior service cost    |       | (166                                                 | )          | (165                                          | )          | (498 | ) | (495 | ) |
| Net periodic benefit cost             |       | $                                                    | 791        |                                          | $          | 847 |   | $ | 2,366 |   | $ | 2,547 |   |

 

13

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*Employer Contributions*

 

The company made contributions in the form of premiums and medicalclaim payments to its healthcare and post-retirement plans of $1.0 million and$0.8 million in each of the three months ended March 31, 2008 and 2007,respectively and contributions of $2.6 million and $2.5 million in the ninemonths ended March 31, 2008 and 2007, respectively.  We plan to make additional payments ofapproximately $0.9 million through the remainder of the fiscal year.

 

**Note 6 – Goodwill & IntangibleAssets.**

 

The components of goodwill and intangible assets are outlined below forthe nine months ended March 31, 2008:

 
| ** **                        | ** ** | **Benefits  Group** | ** ** | **Human  Capital  Group** | ** ** | **Technology  and  Administration  Solutions  Group** | ** ** | **Investment  Consulting  Group** | ** ** | **Insurance  and  Financial  Services  Group** | ** ** | **All Other  Segments** | ** ** | **Total** | ** ** |
|-----------------------------------|------------|---------------------|------------|---------------------------|------------|-------------------------------------------------------|------------|-----------------------------------|------------|------------------------------------------------|------------|------------------------------|------------|-----------|------------|
| Balance as of June 30, 2007  |       | $                   | 208,453    |                      | $          | 22,805                                                |       | $                                 | 46,662     |                                           | $          | 44,897                       |       | $         | 58,905     |   | $ | 1,214 |   | $ | 382,936 |   |
|                              |       |                |       |                      |       |                                                  |       |                              |       |                                           |       |                         |       |      |       |   |   |   |   |   |   |   |
| Goodwill acquired                 |       | 166,278             |       | 9,562                     |       | 15,429                                                |       | 16,221                            |       | 18,211                                         |       | —                       |       | 225,701   |       |
|                              |       |                |       |                      |       |                                                  |       |                              |       |                                           |       |                         |       |      |       |
| Translation adjustment and other  |       | 27,575              |       | 608                       |       | (595                                                  | )          | 708                               |       | (776                                           | )          | —                       |       | 27,520    |       |
| Balance as of March 31, 2008 |       | $                   | 402,306    |                      | $          | 32,975                                                |       | $                                 | 61,496     |                                           | $          | 61,826                       |       | $         | 76,340     |   | $ | 1,214 |   | $ | 636,157 |   |

 

The following table reflects changes in the net carrying amount of thecomponents of intangible assets for the nine months ended March 31, 2008:

 
| ** **                                    | ** ** | **Trademark  & trade  name** | ** ** | **Customer  related  intangible** | ** ** | **Core/developed  technology** | ** ** | **Non-compete  agreements** | ** ** | **Total** | ** ** |
|-----------------------------------------------|------------|---------------------------------------|------------|-----------------------------------|------------|--------------------------------|------------|-----------------------------|------------|-----------|------------|
| Balance as of June 30, 2007              |       | $                                     | 122,666    |                              | $          | 76,270                         |       | $                           | 12,256     |      | $          | 523 |   | $ | 211,715 |   |
|                                          |       |                                  |       |                              |       |                           |       |                        |       |      |       |   |   |   |   |   |
| Intangible assets acquired during the  period |       | 391                                   |       | 28,521                            |       | 5,548                          |       | 611                         |       | 35,071    |       |
|                                          |       |                                  |       |                              |       |                           |       |                        |       |      |       |
| Amortization expense                          |       | (153                                  | )          | (7,829                            | )          | (3,891                         | )          | (409                        | )          | (12,282   | )          |
|                                          |       |                                  |       |                              |       |                           |       |                        |       |      |       |
| Translation adjustment                        |       | (1,437                                | )          | (1,081                            | )          | (103                           | )          | (6                          | )          | (2,627    | )          |
| Balance as of March 31, 2008             |       | $                                     | 121,467    |                              | $          | 95,881                         |       | $                           | 13,810     |      | $          | 719 |   | $ | 231,877 |   |

 

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The following table reflects the carrying value of intangible assets atMarch 31, 2008 and June 30, 2007:

 
| ** **                       | ** ** | **March 31, 2008** | ** ** | **June 30, 2007** | ** ** |
|----------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                       | ** ** | **Gross**                    | ** ** | ** **                  | ** ** | **Gross** | ** ** | ** ** | ** ** |
| ** **                       | ** ** | **Carrying**                 | ** ** | **Accumulated**             | ** ** | **Carrying** | ** ** | **Accumulated** | ** ** |
| ** **                       | ** ** | **Amount**                   | ** ** | **Amortization**            | ** ** | **Amount** | ** ** | **Amortization** | ** ** |
| Intangible  assets:              |       |                         |       |                        |       |   |   |   |   |
| Trademark &  trade name |       | $                            | 121,621    |                        | $          | 153 |   | $ | 122,666 |   | $ | — |   |
| Customer  related intangibles    |       | 114,565                      |       | 18,684                      |       | 85,064 |   | 8,794 |   |
| Core/developed  technology       |       | 24,773                       |       | 10,963                      |       | 17,935 |   | 5,679 |   |
| Non-compete                      |       | 1,213                        |       | 495                         |       | 1,028 |   | 505 |   |
| Total  intangible assets         |       | $                            | 262,172    |                        | $          | 30,295 |   | $ | 226,693 |   | $ | 14,978 |   |

 

Acomponent of the change in the gross carrying amount of trademark &trade name, customer related intangibles and core/developedtechnology reflectstranslation adjustments between June 30, 2007 and March 31,2008.  These intangible assets aredenominated in the currencies of our subsidiaries outside the United States,and are translated into our reporting currency, the U.S. dollar, based onexchange rates at the balance sheet date.

 

The weighted average remaining life of amortizable intangible assets atMarch 31, 2008, was 9.1 years. Future estimated amortization expense is as follows:

 
| **Fiscal year ending June 30:** | ** ** | **Amount** | ** ** |
|-----------------------------------------------------|------------|------------|------------|
| 2008                                                |       | $          | 3,841      |   |
| 2009                                                |       | 15,364     |       |
| 2010                                                |       | 14,703     |       |
| 2011                                                |       | 10,988     |       |
| 2012                                                |       | 10,661     |       |
| Thereafter                                          |       | 55,086     |       |
| Total                                               |       | $          | 110,643    |   |

 

15

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**Note 7 – Earnings Per Share.**

 

Basic earnings per share are calculated on the basis of the weightedaverage number of common shares outstanding during the three and nine monthperiods ended March 31, 2008 and 2007. Diluted earnings per share is calculated by dividing net income by theweighted average number of common shares outstanding, plus the dilutive effectof outstanding stock options, stock-based compensation plans, and employeestock purchase plan shares using the “treasury stock” method over the samemeasurement period.  The components ofbasic and diluted earnings per share are as follows:

 
| ** **                                                                         | ** ** | **Three Months Ended March 31,** | ** ** | **Nine Months Ended March 31,** | ** ** |
|------------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                         | ** ** | **2008**                                             | ** ** | **2007**                                            | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                                                               |       |                                                 |       |                                                |       |   |   |   |   |
| Net income                                                                         |       | $                                                    | 42,546     |                                                | $          | 33,834 |   | $ | 113,771 |   | $ | 84,642 |   |
|                                                                               |       |                                                 |       |                                                |       |   |   |   |   |
| Weighted average outstanding shares of common  stock                               |       | 42,064                                               |       | 42,488                                              |       | 42,230 |   | 42,430 |   |
| Dilutive effect of employee stock options and  employee stock purchase plan shares |       | 2,270                                                |       | 2,098                                               |       | 2,285 |   | 2,132 |   |
|                                                                               |       |                                                 |       |                                                |       |   |   |   |   |
| Common stock and stock equivalents                                                 |       | 44,333                                               |       | 44,586                                              |       | 44,515 |   | 44,562 |   |
|                                                                               |       |                                                 |       |                                                |       |   |   |   |   |
| Basic earnings per share:                                                          |       |                                                 |       |                                                |       |   |   |   |   |
|                                                                               |       |                                                 |       |                                                |       |   |   |   |   |
| Net income                                                                         |       | $                                                    | 1.01       |                                                | $          | 0.80 |   | $ | 2.69 |   | $ | 1.99 |   |
|                                                                               |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Diluted earnings per share:                                                        |       |                                                 |       |                                                |       |   |   |   |   |
|                                                                               |       |                                                 |       |                                                |       |   |   |   |   |
| Net income                                                                         |       | $                                                    | 0.96       |                                                | $          | 0.76 |   | $ | 2.56 |   | $ | 1.90 |   |

 

The diluted earnings per share calculationfor the three and nine month periods ended March 31, 2008 assumes that the242,000 contingent shares related to the WWN business acquisition and 1,950,000contingent shares related to the WWLLP business combinations had been issuedand outstanding for the entire three and nine month periods ended March 31,2008.  See Note 10 of this report forfurther information regarding the WWN contingent shares.

 

**Note 8 – Variable Interest Entities**

 

The Company has an equity investment in Professional ConsultantsInsurance Company, Inc. (PCIC).  Asdefined by FASB Interpretation No. 46R, Consolidation of Variable InterestEntities, PCIC is a variable interest entity. Based on the legal, financial and operating structure of PCIC, thecompany has concluded that it is not the primary beneficiary of PCIC.  Accordingly, the company does not consolidatethe results of PCIC into its consolidated financial statements.  The company applies the equity method ofaccounting for its investment in PCIC.

 

PCICwas organized in 1987 as a captive insurance company under the laws of theState of Vermont.  PCIC providesprofessional liability insurance on a claims-made basis to three actuarial andmanagement consulting firms, all of which participate in the program as bothpolicyholders and stockholders.

 

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Capitalcontributions to PCIC are required when approved by a majority of itsstockholders.  In July 2007, theShareholders of PCIC approved a requirement for an additional capitalcontribution.  As a result, the companycontributed an additional $1.9 million of capital to PCIC and increased theamount of the letter of credit provided on behalf of PCIC by $2.6 million inlieu of a higher cash capital contribution. From the time PCIC was organized through March 31, 2008, we haveprovided capital contributions to PCIC through cash contributions totaling $7.3million and through the issuance of letters of credit totaling $10.6million.  Our ownership interest in PCICas of March 31, 2008 and 2007 was 36.43 percent and 34.15 percent,respectively.

 

Managementbelieves that the company’s maximum financial statement exposure regarding itsinvestment in PCIC as of March 31, 2008 is limited to the carrying valueof the company’s investment in PCIC of $5.8 million, combined with letters ofcredit totaling $10.6 million, for a total maximum exposure of $16.4 million.

 

**Note 9 – Comprehensive Income.**

 

Comprehensive income includes net income and changes in the cumulativetranslation adjustment gain or loss.  Forthe three months ended March 31, 2008, comprehensive income totaled $63.8million compared with $38.1 million for the three months ended March 31,2007.  For the nine months ended March 31,2008, comprehensive income totaled $143.0 million, compared with $120.1 millionfor the nine months ended March 31, 2007.

 

**Note 10 – Restricted Shares.**

 

In conjunctionwith our business acquisition of Watson Wyatt LLP (WWLLP) on July 31,2005, we issued 9,090,571 Class A shares, 4,749,797 of which were subjectto sale restrictions.  On July 31,  2006, and July 31,  2007, sale restrictions expired on 2,339,761shares and 2,410,036 shares, respectively.  As of September 30, 2007, thecontingencies associated with the payment of an additional 1,950,000 Class Ashares were met. The contingent shares were issued to the former partners ofWWLLP subsequent to the end of the third quarter, on April 15, 2008.

 

In conjunction with its acquisition of WWN on February 1, 2007,the company issued 252,285 Class A common shares which were subject tocontractual transfer restrictions.  Transfer restrictions on 50% of these sharesexpired on February 1, 2008. Transfer restrictions on the remaining shares will expire on February 1,2009. The payment of up to an additional €8.0 million of Class A shares(approximately 242,000 shares) after January 31, 2008 was contingent uponachievement by the acquired business of certain financial performance goalsduring the twelve month period ended January 31, 2008.  As of March 31, 2008, the contingencywas met and the company’s balance sheet reflects the accrued liability alongwith a corresponding increase in goodwill. Sale of these shares will be subjectto contractual transfer restrictions that will expire on 50% of these shares oneach of the first and second anniversaries of issuance of the shares. Thediluted earnings per share calculation assumes these contingent shares had beenissued at the beginning of fiscal year 2008. See Note 2 of this report for further information regarding the WWNbusiness combination.

 

17

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**Note 11 – Guarantees.**

 

The company has historically provided guarantees on an infrequent basisto third parties in the ordinary course of business.  The guarantees described below are currentlyin effect and could require the company to make payments to third parties undercertain circumstances.

 

*Letters of Credit*.  The company has an outstanding letter ofcredit to a third party totaling $10.6 million which represents capitalcommitted to our captive insurance company, PCIC.  This letter of credit will remain outstandingas long as we retain an ownership share of PCIC. The company has also provideda $5.0 million Australian dollar-denominated letter of credit (US $4.6 million)to an Australian governmental agency as required by local regulations. Theestimated fair market value of these letters of credit is immaterial becausethey have never been used, and the company believes that the likelihood offuture usage is remote.

 

*Indemnification Agreements*.  The company has various agreements thatprovide that it may be obligated to indemnify the other party with respect tocertain matters.  Generally, theseindemnification clauses are included in contracts arising in the normal courseof business and in connection with the purchase and sale of certainbusinesses.  Although it is not possibleto predict the maximum potential amount of future payments under theseindemnification agreements due to the conditional nature of the company’sobligations and the unique facts of each particular agreement, the company doesnot believe that any potential liability that might arise from such indemnityprovisions is probable or material. There are no provisions for recourse to third parties, nor are anyassets held by any third parties that any guarantor can liquidate to recoveramounts paid under such indemnities.

 

**Note 12 – Contingent Liabilities.**

 

***Legal Proceedings*****: **From time to time, weare a party to various lawsuits, arbitrations or mediations that arise in theordinary course of business. The matter reported below is the most significantpending claim against us.

 

Wecarry substantial professional liability insurance with a self-insuredretention of $1 million per occurrence, which provides coverage forprofessional liability claims including the cost of defending such claims. Wereserve for contingent liabilities based on Statement of Financial AccountingStandards No. 5, “Accounting for Contingencies” (FAS 5) when it isdetermined that a liability, inclusive of defense costs, is probable andreasonably estimable. Management believes, based on currently availableinformation including the existence of professional liability insurance, thatthe results of all pending claims against the company will not have a materialadverse effect on the results of operations, but litigation is subject to manyfactors which are difficult to predict so there can be no assurance that in theevent of a material unfavorable result in one or more of such matters, we willnot incur material costs.

 

*Watson Wyatt v. SBC Holdings, Inc. (Stroh BreweryCompany): *  On July 23, 2004, we received a demandletter from Stroh’s counsel alleging that errors in valuations for 2001 andsubsequent years understated the liabilities of its pension plan and overstatedthe company’s net worth.  As a result, Stroh claimed it did not annuitizeits defined benefit plan and redeemed its stock at an inflated price.  On April 15,2005, Watson Wyatt filed a petition in federal court to compel arbitration ofthe matter. Subsequently, Stroh filed an answer and counterclaim, allegingdamages in excess of $46 million.  In January, 2008, the Sixth CircuitCourt of Appeals held that the entire claim is subject to arbitration.  Stroh has filed a demand for arbitration on April 16,2008.  No hearing is anticipated untilsometime in fiscal year 2009.

 

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***Government Subpoenas andInvestigations:*** We also have received subpoenas and requests for informationin connection with the following government investigations *Department of LaborInvestigation:*  On November 17, 2006, Watson WyattInvestment Consulting Inc. (“WWIC”) received a subpoena from the United StatesDepartment of Labor (“DOL”) in connection with its investigation into thecompensation of consultants and other investment advisers.  WWIC hasresponded to the subpoena and continues to cooperate with the DOL.

 

**Note 13 -Income Taxes.**

 

Thecompany adopted the provisions of FIN 48 on July 1, 2007.  The cumulative effect of adopting FIN 48 wasa $13.0 million increase in the liability for uncertain tax positions, a $9.1million increase to deferred tax assets, a $0.1 million decrease to othercomprehensive income and a $3.8 million decrease to retained earnings at July 1,2007.

 

Uponadoption, the gross liability for income taxes associated with uncertain taxpositions at July 1, 2007 was $16.3 million.  This liability can be reduced by $8.4 millionof offsetting deferred tax benefits associated with timing differences, foreigntax credits and the federal tax benefit of state income taxes.  The net difference of $7.9 million, ifrecognized, would have a $7.5 million favorable impact on the company’seffective tax rate and would increase other comprehensive income by $0.4million.   At March 31, 2008, thegross liability for income taxes associated with uncertain tax positions was$10.3 million.  This liability can bereduced by $2.1 million of offsetting deferred tax benefits associated withforeign tax credits and the federal tax benefit of state income taxes.  The net difference of $8.2 million, ifrecognized, would have a $7.9 million favorable impact on the company’seffective tax rate and would increase other comprehensive income by $0.3million.

 

Interestand penalties related to income tax liabilities are included in income taxexpense.  The company had accruedinterest of $1.8 million and penalties of $1.4 million, totaling $3.2 millionat July 1, 2007.  At March 31,2008 the company had accrued interest of $1.7 million and penalties of $0.7million, totaling $2.4 million.

 

Duringthe nine months ended March 31, 2008, the gross tax liability foruncertain tax positions decreased by $6.0 million.  This decrease was primarily related to a $5.9million decrease due to a change in accounting method which the company filedwith the Internal Revenue Service (“IRS”) in October 2007 to change themethod of accounting for accrued expenses owed to foreign affiliates. Since theaccounting method change was filed voluntarily, the IRS will not assess tax,interest or penalties related to the position claimed in prior taxreturns.  The $5.9 million decrease inthe gross tax liability relates to a deferred tax item and did not impact thecompany’s effective tax rate.  Grossaccrued interest and penalties related to this tax position decreased $1.3million which, net of federal tax benefits, resulted in a $1.2 million impacton the effective tax rate in the period ended March 31, 2008.

 

Thecompany believes it is reasonably possible that there will be a $2.0 milliondecrease in the gross tax liability for uncertain tax positions within the next12 months based upon potential settlements and the expiration of statutes oflimitations in various tax jurisdictions.

 

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Thecompany and its subsidiaries conduct business globally and are subject toincome tax in the U.S. and in many states and foreign jurisdictions.  The company is currently under examination inseveral tax jurisdictions.  The last taxyear examined and settled with the IRS was fiscal year ending June 30,2003.  A summary of the tax years thatremain subject to examination in the company’s major tax jurisdictions are:

 
| ** **                          | ** ** | **Open Tax Years  (fiscal year ending)** |
|-------------------------------------|------------|------------------------------------------|
| ** **                          | ** ** | ** **                               |
| United States - Federal             |       | 2005 and forward                         |
|                                |       |                                     |
| United States – Various States |       | 2003 and forward                         |
|                                |       |                                     |
| Canada - Federal                    |       | 2004 and forward                         |
|                                |       |                                     |
| Germany                             |       | 2002  and forward                        |
|                                |       |                                     |
| United Kingdom                      |       | 2005 and forward                         |

 

**Note 14 – Recent Accounting Pronouncements**.

 

InSeptember 2006, the Financial Accounting Standards Board (“FASB”)published Statement of Financial Accounting Standards No.157, “Fair ValueMeasurements” (“FAS 157”) which is effective for fiscal years beginning after November 15,2007 and for interim periods within those years.  FAS 157 defines fair value, establishes aframework for measuring fair value in generally accepted accounting principlesand expands disclosures about fair value measurements. FAS 157 applies underother accounting pronouncements that require or permit fair value measurementsand accordingly, does not require any new fair value measurements. In February 2008,the FASB issued FASB Staff Position (“FSP”) No. 157-1, “Application ofFASB Statement No.157 to FASB Statement No. 13 and Other AccountingPronouncements That Address Fair Value Measurements for Purposes of LeaseClassification or Measurement under Statement 13” and FSP No. 157-2, “EffectiveDate of FASB Statement No. 157.” FSP No. 157-1 amends FAS 157 to exclude FAS 13, “Accounting forLeases,” and its related interpretive accounting pronouncements that addressleasing transactions, while FSP No. 157-2 delays the effective date of FAS157 for all nonfinancial assets and nonfinancial liabilities, except those thatare recognized or disclosed at fair value in the financial statements on arecurring basis (at least annually) until the beginning of the first quarter offiscal year 2009.  The Company hasevaluated the new statement and has determined that the adoption of FAS 157 willnot have a material impact on its consolidated financial statements.

 

InJune 2006, the FASB issued FASB Interpretation No. 48 (“FIN 48”), “Accountingfor Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109”(“FAS 109”), which clarifies the accounting for uncertainty in income taxesrecognized in an enterprise’s financial statements in accordance with FAS No. 109,“Accounting for Income Taxes.”  FIN 48 prescribes a recognition thresholdand measurement attribute for the financial statement recognition andmeasurement of a tax position taken or expected to be taken in a tax return. This Interpretation also provides guidance on derecognition,classification, interest and penalties, accounting in interim periods,disclosure, and transition.  The company adopted this standard on July 1,2007.  See Note 13 of this report for further information regarding thecompany’s adoption of FIN 48.

 

20

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InFebruary 2007, the FASB published Statement of Financial AccountingStandards No.159, “The Fair Value Option for Financial Assets and FinancialLiabilities—including an amendment of FASB Statement No. 115” (“FAS 159”).  FAS 159 allows entities to choose to measureeligible financial assets and liabilities at fair value that are not otherwiserequired to be measured at fair value. If a company elects the fair valueoption for an eligible item, changes in that item’s fair value in subsequentreporting periods must be recognized in current earnings. FAS 159 is effectivefor fiscal years beginning after November 15, 2007,provided theentity also elects to apply the provisions of FAS 157, “Fair Value Measurements”.The company does not believe the adoption of FAS 159 will have a materialimpact on its consolidated financial statements.

 

InDecember 2007, the FASB issued Statement of Financial Accounting StandardsNo. 141 (revised 2007), “Business Combinations” (FAS 141R) which is arevision of FAS 141, “Business Combinations”. FAS 141R changes the application of the acquisition method in a numberof significant aspects.  Acquisitioncosts will generally be expensed as incurred; noncontrolling interests will bevalued at fair value at the acquisition date; restructuring costs associatedwith a business combination will generally be expensed subsequent to theacquisition date; Contingent consideration will be recognized at its fair valueon the acquisition date and, for certain arrangements, changes in fair valuewill be recognized in earnings until settled, and changes in deferred tax assetvaluation allowances and income tax uncertainties after the acquisition dategenerally will affect income tax expense. We will be required to comply withthe provisions of FAS 141(R) for acquisitions that occur on or after July 1,2009. The Statement would apply prospectively to any future businesscombinations and therefore the impact would be determined when a businesscombination occurs.

 

InDecember 2007, the FASB issued Statement of Financial Accounting StandardsNo.160, “Noncontrolling Interests in Consolidated Financial Statements — anamendment of ARB No.51” (“FAS 160”). This statement is effective for fiscal years, and interim periods withinthose fiscal years, beginning on or after December 15, 2008, with earlieradoption prohibited.  This statementrequires the recognition of a noncontrolling interest (minority interest) asequity in the consolidated financial statements and separate from the parent’sequity.  The amount of net incomeattributable to the noncontrolling interest will be included in consolidatednet income.  It also amends certain ofARB No. 51’s consolidation procedures for consistency with therequirements of FAS 141(R).  Thisstatement also includes expanded disclosure requirements regarding theinterests of the parent and its noncontrolling interest.  The Company is currently evaluating theeffects, if any, that FAS 160 may have on its financial statements.

 

**Note 15– Exit From Taft Hartley Consulting Business.**

 

***Exit from Taft-Hartley Consulting Business*** - On February 1, 2008,the company exited its U.S. “Taft-Hartley” retirement consulting business andits Canadian private sector, negotiated costs, trusteed plan business.  The transition affected approximately 70retirement clients, accounting for approximately $15 million in annualrevenue.  Two newly created companies,which are owned and operated by individuals who were formerly Watson Wyattassociates, service these clients in the U.S. and Canada respectively. Theseassociates, who focus on multi-employer retirement plans, moved to the newcompanies on February 1, 2008. Watson Wyatt has no ownership in these new companies, but is compensatedfor release of certain non-compete obligations through receipt of a percentageof the new companies’ revenues from clients that transfer from the company forthe next five years.  The transition wascompleted on January 31, 2008.

** **

**21**

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**ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION ANDRESULTS OF OPERATIONS.**

 

**ExecutiveOverview**

 

**General**

 

WatsonWyatt is a global consulting firm focusing on providing human capital andfinancial consulting services. We provide services in five principal practiceareas: Benefits, Human Capital Consulting, Technology and AdministrationSolutions, Investment Consulting, and Insurance and Financial Servicesoperating from 104 offices in 32 countries throughout North America, Europe,Asia-Pacific and Latin America. The company employed approximately 7,190 and6,670 associates as of March 31, 2008 and June 30, 2007 respectively,in the following practice areas:

 
| ** **                                    | ** ** | **March 31,** | ** ** | **June 30,** | ** ** |
|-----------------------------------------------|------------|--------------------|------------|-------------------|------------|
| ** **                                    | ** ** | **2008**           | ** ** | **2007**          | ** ** |
| Benefits Group                                |       | 3,240              |       | 2,900             |       |
| Human Capital Group                           |       | 840                |       | 885               |       |
| Technology and Administration Solutions Group |       | 830                |       | 735               |       |
| Investment Consulting Group                   |       | 440                |       | 395               |       |
| Insurance & Financial Services Group |       | 425                |       | 390               |       |
| Other (including Communication)               |       | 810                |       | 785               |       |
| Corporate                                     |       | 605                |       | 580               |       |
| Total                                         |       | 7,190              |       | 6,670             |       |

 

Wehelp our clients enhance business performance by improving their ability toattract, retain, and motivate qualified employees. We focus on deliveringconsulting services that help our clients anticipate, identify and capitalizeon emerging opportunities in human capital management.  We also provide independent financial adviceregarding all aspects of life assurance and general insurance, as well asinvestment advice to assist our clients in developing disciplined and efficientinvestment strategies to meet their investment goals.  Our target market clients include thosecompanies in the Fortune 1000, Pension & Investments (P&I) 1000,the FTSE 100, and equivalent organizations in markets around the world.

 

Asleading economies worldwide become more services-oriented, human capital andfinancial management has become increasingly important to companies and otherorganizations. The heightened competition for skilled employees, unprecedentedchanges in workforce demographics, regulatory changes related to compensationand retiree benefits and rising employee-related costs have increased theimportance of effective human capital management.  Insurance and investment decisions havebecome increasingly complex and important in the face of changing economies anddynamic financial markets.  We help ourclients address these issues by combining our expertise in human capital andfinancial management with consulting and technology, to improve the design andimplementation of various human resources and financial programs, includingcompensation, retirement, health care, insurance and investment plans.

 

Thehuman resources consulting industry, although highly fragmented, is highlycompetitive and is comprised of major human capital consulting firms,specialist firms, consulting arms of accounting firms and informationtechnology consulting firms.

 

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Inthe short term, our revenues are driven by many factors including the impact ofnew regulations in the legal and accounting fields that most recently increaseddemand for our executive compensation and benefits practices, the general stateof the global economy and the resulting level of discretionary spending by ourclients and the ability of our consultants to attract new clients or cross-sellto existing clients.  In the long term,we expect that the company’s financial results will depend in large part uponhow well we succeed in deepening our existing client relationships throughthought leadership and focus on cross-practice solutions, actively pursuing newclients in our target markets, cross selling and strategic acquisitions.  We believe that the highly fragmentedindustry in which we operate represents tremendous growth opportunities for us,because we offer a unique combination of benefits and human capital consultingas well as strategic technology solutions.

 

**PrincipalServices**

 

Wedesign, develop and implement human resource and risk management strategies andprograms through the following closely-interrelated practice areas:

 

**BenefitsGroup****-**The Benefits Group, accounting for 59 percent of ourtotal third quarter fiscal year 2008 revenues, is the foundation of ourbusiness.  Retirement, the core of ourBenefits Group business, lags reduction in discretionary spending compared toour other segments, mainly due to the recurring nature of clientrelationships.  Our corporate clientretention rate within our target market has remained very high. Revenue for ourretirement practice is seasonal, with the second and third quarters of eachfiscal year being the busier periods. Major revenue growth drivers in this practice include changes inregulations, leverage from other practices, increased global demand andincreased market share.   Servicesprovided through the Benefits Group include the following:

 

·                  Design and management of benefit programs

·                  Actuarial services includingdevelopment of funding and risk management strategies

·                  Expatriate and internationalhuman resource strategies

·                  Mergers and acquisitions

·                  Strategic workforce planning

·                  Compliance and governance

 

**Human Capital Group** - Our**HumanCapital Group (HCG), accounting for 11 percent of our total third quarterfiscal year 2008 revenues, generally encompasses short-term projects, althoughthe percentage of recurring projects has grown in the U.S. as a result of newregulations in the legal and accounting field. As a result, sensitivity of this segment to cyclical economicfluctuations may diminish.  Servicesprovided through HCG include the following:

 

·                  Advice concerning compensation plans,including broad-based and executive compensation, stock and other long-termincentive programs

·                  Strategies to align workforce performancewith business objectives

·                  Organization effectiveness consulting,including talent management

·                  Strategies for attracting, retaining andmotivating employees

·                  Data services

 

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**Technologyand Administration Solutions Group****-**Our Technology andAdministration Solutions Group (TAS), accounting for 10 percent of our totalthird quarter fiscal year 2008 revenues, provides information technologyservices to our clients.  Revenue for TASis relatively stable, compared to what it had historically experienced in aneconomic downturn, because of its long term contracts associated with theadministration business.  Income in thissegment is slightly greater in the first half of the fiscal year because of thetiming of the typical enrollment season for benefits.  Services provided through the TAS Groupinclude the following:

 

·                  Web-based applications for health andwelfare, pension and compensation administration

·                  Administration outsourcing solutions forhealth and welfare and pension benefits

·                  Call center strategy, design and tools

·                  Strategic human resource technology andservice delivery consulting

·                  Targeted online compensation and benefitsstatements, content management and call center case management solutions

 

**InvestmentConsulting Group****-**Our Investment ConsultingGroup accounts for 9 percent of our total third quarter fiscal year 2008revenues.  This business, althoughrelationship based, can be affected by an increasingly complex investmentlandscape as well as by volatility in investment returns, particularly asclients look to us for assistance in managing that volatility.  Services provided through our InvestmentConsulting Group include the following:

 

·                  Investment consulting services to pensionplans and other institutional funds

·                  Input on governance and regulatory issues

·                  Analysis of asset allocation and investmentstrategies

·                  Investment structure analysis, selection andevaluation of managers, and performance monitoring

 

**Insurance &Financial Services Group** - Our Insurance &Financial Services Group (I&FS) accounts for 7 percent of our total thirdquarter fiscal year 2008 revenues. This business is largely a project-basedbusiness and therefore could be cyclical. Services provided through I&FS include the following:

 

·                  Independent actuarial and strategic advice

·                  Assessment and advice regarding financialcondition and risk management

·                  Financial modeling software tools for productdesign and pricing, planning and projections, reporting, valuations and riskmanagement

 

Whilewe focus our consulting services in the areas described above, managementbelieves that one of our primary strengths is our ability to draw uponconsultants from our different practices to deliver integrated services to meetthe needs of our clients.  Thiscapability includes communication and change management implementation supportservices.

 

**FinancialStatement Overview**

 

WatsonWyatt’s fiscal year ends June 30. The financial statements contained inthis quarterly report reflect Condensed Consolidated Balance Sheets as of theend of the third quarter of fiscal year 2008 (March 31, 2008) and as ofthe end of fiscal year 2007 (June 30, 2007), Condensed ConsolidatedStatements of Operations for the three and nine month periods ended March 31,2008 and 2007, Condensed Consolidated Statements of Cash Flows for the ninemonth periods ended March 31, 2008 and 2007 and a Condensed ConsolidatedStatement of Changes in Stockholders’ Equity for the nine month period ended March 31,2008.

 

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Wederive substantially all of our revenue from fees for consulting services,which generally are billed based on time and materials or on a fixed-feebasis.  Clients are typically invoiced ona monthly basis with revenue generally recognized as services areperformed.  No single client accountedfor more than 2 percent of our consolidated revenue for any of the most recentthree fiscal years.

 

Forthe nine months ended March 31, 2008 and fiscal years ended June 30,2007 and 2006, the company’s top six markets based on percentage ofconsolidated revenue were as follows:

 
| ** **                 | ** ** | **Nine Months** | ** ** | **Fiscal Year** | ** ** |
|----------------------------|------------|----------------------|------------|----------------------|------------|
| **Geographic Region** | ** ** | **2008**             | ** ** | **2007**             | ** ** | **2006** | ** ** |
| United States              |       | 41                   | %          | 44                   | %          | 44 | % |
| United Kingdom             |       | 32                   |       | 31                   |       | 32 |   |
| Germany(1)                 |       | 6                    |       | 1                    |       | 1 |   |
| Canada                     |       | 4                    |       | 4                    |       | 5 |   |
| Netherlands                |       | 3                    |       | 1                    |       | 1 |   |
| Greater China              |       | 2                    |       | 2                    |       | 1 |   |

 

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  (1) Germany includes the revenue fromHeissmann which was acquired by the company in July, 2007.

 

Indelivering consulting services, our principal direct expenses relate tocompensation of personnel. Salaries and employee benefits are comprised ofwages paid to associates, related taxes, benefit expenses such as pension,medical and insurance costs, and fiscal year-end incentive bonuses.

 

Professionaland subcontracted services represent fees paid to external service providersfor employment, marketing and other services. For the most recent three fiscal years, approximately 50 to 60 percentof these professional and subcontracted services were directly incurred onbehalf of our clients and were reimbursed by them, with such reimbursementsbeing included in revenue.  For the thirdquarter of fiscal year 2008, approximately 55 percent of professional andsubcontracted services represent these reimbursable services.

 

Occupancy,communications and other expenses represent expenses for rent, utilities,supplies and telephone to operate office locations as well asnon-client-reimbursed travel by associates, publications and professionaldevelopment. This line item also includes miscellaneous expenses, includinggains and losses on foreign currency transactions.

 

Generaland administrative expenses include the operational costs, professional feesand insurance paid by corporate management, general counsel, marketing, humanresources, finance, research and technology support.

 

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**Critical AccountingPolicies and Estimates**

 

Thepreparation of condensed consolidated financial statements in conformity withaccounting principles generally accepted in the United States of Americarequires management to make estimates and assumptions that affect the reportedamounts of assets and liabilities, disclosures of contingent assets andliabilities at the date of the financial statements and the reported amounts ofrevenue and expenses during the reporting period. Our estimates, judgments andassumptions are continually evaluated based on available information andexperience. Because of the use of estimates inherent in the financial reportingprocess, actual results could differ from those estimates. The areas that webelieve are critical accounting policies include revenue recognition, valuationof billed and unbilled receivables from clients, discretionary compensation,income taxes, pension assumptions, incurred but not reported claims, andgoodwill and intangible assets. The critical accounting policies discussedbelow involve making difficult, subjective or complex accounting estimates thatcould have a material effect on our financial condition and results ofoperations. These critical accounting policies require us to make assumptionsabout matters that are highly uncertain at the time of the estimate orassumption and different estimates that we could have used or changes in theestimate that are reasonably likely to occur may have a material impact on ourfinancial statements and results of operations.

 

*   **Revenue Recognition***

 

Revenueincludes fees primarily generated from consulting services provided.  We recognize revenue from these consultingengagements when hours are worked, either on a time-and-materials basis or on afixed-fee basis, depending on the terms and conditions defined at the inceptionof an engagement with a client.  We haveterms and conditions with our clients that support our engagements.  These terms and conditions can only bechanged upon agreement by both parties. Individual consultants’ billing ratesare principally based on a multiple of salary and compensation costs.

 

Revenuefor fixed-fee arrangements, which span multiple months, is based upon thepercentage of completion method.* *The company typically has threetypes of fixed-fee arrangements:  annualrecurring projects, projects of a short duration, and non-recurring systemprojects.  Annual recurring projects andthe projects of short duration are typically straightforward and highlypredictable in nature.  As a result, theproject manager and financial staff are able to identify, as the project statusis reviewed and bills are prepared monthly, the occasions when cost overrunscould lead to the recording of a loss accrual.

 

Oursystem projects are typically found in our Technology and AdministrationSolutions Group.  They tend to be morecomplex projects that are longer in duration and subject to more changes inscope as the project progresses than projects undertaken in other segments. Weevaluate at least quarterly, and more often as needed, project managers’estimates-to-complete to assure that the projects’ current status is accountedfor properly.  Our Technology andAdministration Solutions Group contracts generally providethat if the client terminates a contract, the company is entitled to paymentfor services performed through termination.

 

Revenuerecognition for fixed-fee engagements is affected by a number of factors thatchange the estimated amount of work required to complete the project such aschanges in scope, the staffing on the engagement and/or the level of clientparticipation.  The periodic engagementevaluations require us to make judgments and estimates regarding the overallprofitability and stage of project completion that, in turn, affect how werecognize revenue.  The companyrecognizes a loss on an engagement when estimated revenue to be received forthat engagement is less than the total estimated direct and indirect costsassociated with the engagement.  Lossesare recognized in the period in which the loss becomes probable and the amountof the loss is reasonably estimable.  Thecompany has experienced certain costs in excess of estimatesfrom time to time.  Management believesthat it is rare, however, for these excess costs to result in overall projectlosses.

 

26

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The company has developedvarious software programs and technologies that we provide to clients inconnection with consulting services.  Inmost instances, such software is hosted and maintained by the company andownership of the technology and rights to the related code remain with thecompany.  Software developed to beutilized in providing services to a client, but for which the client does nothave the contractual right to take possession, is capitalized in accordancewith the AICPA’s Statement of Position 98-1 “Accounting for the Costs ofComputer Software Developed or Obtained for Internal Use.”  Revenue associated with the related contract,together with amortization of the related capitalized software, is recognizedover the service period.  As a result wedo not recognize revenue during the implementation phase of an engagement.

 

Revenue recognized in excessof billings is recorded as unbilled accounts receivable.  Cash collections and invoices generated inexcess of revenue recognized are recorded as deferred revenue until the revenuerecognition criteria are met.  Clientreimbursable expenses, including those relating to travel, other out-of-pocketexpenses and any third-party costs, are included in revenue, and an equivalentamount of reimbursable expenses are included in professional and subcontractedservices as a cost of revenue.

 

*** Valuation of Billed and Unbilled Receivablesfrom Clients***

 

Wemaintain allowances for doubtful accounts to reflect estimated losses resultingfrom our clients’ failure to pay for our services after the services have beenrendered, including allowances when customer disputes may exist.  The related provision is recorded as areduction to revenue.  Our allowancepolicy is based on the aging of our billed and unbilled client receivables andhas been developed based on our write-off history.  Facts and circumstances such as the averagelength of time the receivables are past due, general market conditions, currenteconomic trends and our clients’ ability to pay may cause fluctuations in ourvaluation of billed and unbilled receivables.

 

* **Discretionary Compensation***

 

Thecompany’s compensation program includes a discretionary annual bonus that isdetermined by management and paid once per fiscal year in the form of cashand/or deferred stock units after the company’s annual operating results arefinalized.

 

Anestimated annual bonus amount is initially developed at the beginning of eachfiscal year in conjunction with our budgeting process.  Quarterly, estimated annual operatingperformance is reviewed by the company and the discretionary annual bonusamount is then adjusted, if necessary, by management to reflect changes in theforecast of net income for the year. In those quarters where the estimatedannual bonus level changes, the remaining estimated annual bonus is accruedover the remaining quarters as a constant percentage of estimated future netincome.  Annual bonus levels may varyfrom current expectations as a result of changes in the company’s forecast ofnet income and competitive employment market conditions.

 

27

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***Income Taxes***

 

Determiningthe consolidated provision for income tax expense, deferred tax assets andliabilities and the related valuation allowance involves judgment.  As a global company, we are required tocalculate and provide for estimated income tax liabilities for each of the taxjurisdictions in which we operate.  Thisprocess involves estimating current tax obligations and exposures in eachjurisdiction as well as making significant judgments regarding the futurerecoverability of deferred tax assets. The company does not provide deferred taxes on cumulative earnings offoreign subsidiaries that have been reinvested indefinitely as asserted underAccounting Principles Board (APB) 23, “Accounting for Income Taxes – SpecialAreas”.  Due to the availability offoreign tax credits, it is not practicable to estimate the company’s income taxliability that might be payable if such earnings were not reinvestedindefinitely, however, deferred taxes are provided for earnings of foreignsubsidiaries which the company plans to remit. Tax costs can involve complex issues and may require an extended periodto resolve.  Changes in the geographicmix or estimated level of annual pre-tax income, limitations on the use of thecompany’s foreign subsidiary losses, changes in tax laws and changes resultingfrom tax audits can all affect the overall effective income tax rate which, inturn, impacts the overall level of income tax expense and net income.

 

***Pension Assumptions***

 

Wesponsor both qualified and non-qualified, non-contributory defined benefitpension plans in North America and the U.K. that cover approximately 85% of ourassociates.  Under our plans in NorthAmerica, benefits are based on the number of years of service and theassociates’ compensation during the five highest paid consecutive years ofservice.  Beginning January 2008,we have made changes to our plan in the U.K. related to years of service usedin calculating benefits for associates. Benefits earned prior to January 2008 are based on the number ofyears of service and the associate’s compensation during the three years beforeleaving the plan and benefits earned after January 2008 are based on thenumber of years of service and the associates’ average compensation during theassociate’s term of service since that date.  The non-qualified plan, included only in NorthAmerica, provides for pension benefits that would be covered under thequalified plan but are limited by the Internal Revenue Code.  The non-qualified plan has no assets andtherefore is an unfunded arrangement. The benefit liability is reflected on the balance sheet.  The measurement date for each of the plans isJune 30.

 

Determinationof our obligations and annual expense under the plans is based on a number ofassumptions that, given the longevity of the plans, are long-term infocus.  A change in one or a combinationof these assumptions could have a material impact on our pension benefitobligation and related expense.  For thisreason, management employs a long-term view so that assumptions do not changefrequently in response to short-term volatility in the economy.  Any difference between actual and assumedresults is amortized into our pension expense over the average remainingservice period of participating employees. We consider several factors prior to the start of each fiscal year whendetermining the appropriate annual assumptions, including economic forecasts,relevant benchmarks, historical trends, portfolio composition and peercomparisons.

 

*North America*

 

The following assumptions were used at the end of the past three fiscalyears in the valuation of our North American plans:

 
| ** **                                  | ** ** | **Year Ended June 30** | ** ** |
|---------------------------------------------|------------|---------------------------------------|------------|
| ** **                                  | ** ** | **2007**                              | ** ** | **2006** | ** ** | **2005** | ** ** |
| Discount rate                               |       | 6.25                                  | %          | 6.25 | % | 5.25 | % |
| Expected long-term rate of return on assets |       | 8.75                                  | %          | 8.75 | % | 9.00 | % |
| Rate of increase in compensation levels     |       | 3.84                                  | %          | 3.84 | % | 3.34 | % |

 

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The 6.25 percent discount rate assumption used at the end of fiscalyear 2007 is unchanged from fiscal year 2006 and represents a 100 basis pointincrease from the 5.25 percent discount rate used at the end of fiscal year2005.  The company’s discount rateassumptions were determined by matching future pension benefit payments withexpected future U.S. AA corporate bond yields for the same periods.

 

The expected long-term rate of return on assets assumption remained at8.75 percent per annum, unchanged from fiscal year 2006 and 25 basis pointslower than the 9.00 percent rate used in fiscal year 2005. Selection of thereturn assumption at 8.75 percent per annum was supported by an analysisperformed by the company of the weighted average yield expected to be achievedwith the anticipated makeup of investments. The investment makeup is heavily weighted towards equities.  The return on assets through the first ninemonths of fiscal year 2008 was a loss of 7 percent, compared to a gain of 10.1percent in the first nine months of fiscal year 2007.

 

The following information illustrates thesensitivity to a change in certain assumptions for the U.S. pension plans:

 
| **Change in Assumption**                   | ** ** | **Effect on FY2008  Pre-Tax Pension Expense** | ** **    |
|------------------------------------------------------|------------|-------------------------------------------------------------------|---------------|
|                                                 |       |                                                              |          |
| 25 basis point decrease in discount rate             |       | $                                                                 | +3.3  million |   |
|                                                 |       |                                                              |          |
| 25 basis point increase in discount rate             |       | $                                                                 | -3.1  million |   |
|                                                 |       |                                                              |          |
| 25 basis point decrease in expected return on assets |       | $                                                                 | +1.4  million |   |
|                                                 |       |                                                              |          |
| 25 basis point increase in expected return on assets |       | $                                                                 | -1.4  million |   |

 

Theabove sensitivities reflect the impact of changing one assumption at a time. Itshould be noted that economic factors and conditions often affect multipleassumptions simultaneously and the effects of changes in key assumptions arenot necessarily linear. The company’s U.S. Other Postretirement EmployeeBenefits Plan is relatively insensitive to discount rate changes due to theplan provisions that have been established to control costs and as such nosensitivity results are shown in the table above.

 

*United Kingdom*

 

The following assumptions were used in the valuation of our U.K. planat June 30, 2007 and 2006 and July 31, 2005, the date of the businesscombination with WWLLP:

 
| ** **                                  | ** ** | **Period Ended** | ** ** |
|---------------------------------------------|------------|-----------------------|------------|
| ** **                                  | ** ** | **June 30,**     | ** ** | **June 30,** | ** ** | **July 31,** | ** ** |
| ** **                                  | ** ** | **2007**              | ** ** | **2006** | ** ** | **2005** | ** ** |
| Discount rate                               |       | 5.80                  | %          | 5.10 | % | 5.00 | % |
| Expected long-term rate of return on assets |       | 5.69                  | %          | 5.63 | % | 5.63 | % |
| Rate of increase in compensation levels     |       | 4.95                  | %          | 4.75 | % | 4.75 | % |

 

The 5.80 percent discount rate assumption used at the end of June 30,2007 represents a 70 basis point increase over the rate used at fiscal year2006 and an 80 basis point increase over the discount rate at July 31,2005. The discount rate is set having regard to yields on European AA corporatebonds at the measurement date and this increase reflects the change in yieldsbetween these two dates.

 

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The expected long-term rate of return on assets assumption increased to5.69 percent per annum for fiscal year 2007 from 5.63 percent per annum forfiscal year 2006.  The rate of return wassupported by an analysis performed by the company of the weighted averagereturn expected to be achieved with the anticipated makeup of investments whichis heavily weighted towards bonds.   Thereturn on assets through the first nine months of fiscal year 2008 has been 1.2percent, compared to a return of 11.4 percent in the first nine months offiscal year 2007.

 

The following information illustrates the sensitivity to a change incertain assumptions for the U.K. pension plans:

 
| **Change in Assumption**                   | ** ** | **Effect on FY2008  Pre-Tax Pension Expense** | ** **    |
|------------------------------------------------------|------------|-------------------------------------------------------------------|---------------|
| ** **                                           | ** ** | ** **                                                        | ** **    |
| 25 basis point decrease in discount rate             |       | $                                                                 | +1.3  million |   |
|                                                 |       |                                                              |          |
| 25 basis point increase in discount rate             |       | $                                                                 | -1.2  million |   |
|                                                 |       |                                                              |          |
| 25 basis point decrease in expected return on assets |       | $                                                                 | +0.5  million |   |
|                                                 |       |                                                              |          |
| 25 basis point increase in expected return on assets |       | $                                                                 | -0.5  million |   |

 

The differences in the discount rate andcompensation level assumption used for the North American and U.K. plans abovecan be attributed to the differing interest rate environments associated withthe currencies and economies to which the plans are subject.  The differences in the expected return onassets are primarily driven by the respective asset allocation in each plan,coupled with the return expectations for assets in the respectivecurrencies.  The North American plans areapproximately 65 percent invested in equities, which on average provide ahigher return than bonds, which is the predominant investment for the U.K.plans.

 

*** Incurred But Not Reported Claims***

 

The company uses actuarialassumptions to estimate and record a liability for incurred but not reported(IBNR) professional liability claims. Our estimated IBNR liability is based on long-term trends and averages,and considers a number of factors, including changes in claim reportingpatterns, claim settlement patterns, judicial decisions, and legislation andeconomic decisions, but excludes the effect of claims data for large cases dueto the insufficiency of actual experience with such cases.  Management does not currently expectsignificant fluctuations in the IBNR liability, based on the company’shistorical claims experience.  However,our estimated IBNR liability will fluctuate if claims experience changes overtime.

 

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***Goodwill and Intangible Assets***

 

In applying the purchasemethod of accounting for our business combinations, amounts assigned toidentifiable assets and liabilities acquired have been based on estimated fairvalues as of the date of the acquisitions, with the remainder recorded asgoodwill. Intangible assets are initially valued at fair market value using generallyaccepted valuation methods appropriate for the type of intangible asset. Weevaluate our goodwill for impairment annually and whenever indicators ofimpairment exist. The evaluation is based upon a comparison of the estimatedfair value of the reporting unit to which the goodwill has been assigned to thesum of the carrying value of the net assets for that reporting unit. The fairvalues used in this evaluation are estimated based upon a multiple of revenuefor the reporting unit. This revenue multiple is based on our experience andknowledge of our own and other transactions in the marketplace. Intangibleassets with definite lives are amortized over their estimated useful lives andare reviewed for impairment if indicators of impairment arise. The evaluationof impairment would be based upon a comparison of the carrying amount of theintangible asset to the estimated future undiscounted net cash flows expectedto be generated by the asset. If estimated future undiscounted net cash flowsare less than the carrying amount of the asset, the asset would be consideredimpaired. The impairment expense would be determined by comparing the estimatedfair value of the intangible asset to its carrying value, with any shortfallfrom fair value recognized as an expense in the current period.

 

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**Resultsof Operations**

 

Thetable below sets forth our historical Condensed Consolidated Statements ofOperations data as a percentage of change between periods indicated:

 

**Condensed Consolidated Statements of Operations**

(in thousands)

 
| ** **                              | ** ** | **Three Months Ended March 31,** | ** ** | **Nine Months Ended March 31,** | ** ** |
|-----------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                              | ** ** | ** **                                           | ** ** | ** **                                          | ** ** | **%** | ** ** | ** ** | ** ** | ** ** | ** ** | **%** | ** ** |
| ** **                              | ** ** | **2008**                                             | ** ** | **2007**                                            | ** ** | **Change** | ** ** | **2008** | ** ** | **2007** | ** ** | **Change** | ** ** |
| ** **                              | ** ** | **(Unaudited)**                                      | ** ** | ** **                                          | ** ** | **(Unaudited)** | ** ** | ** ** | ** ** |
|                                    |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Revenue                                 |       | $                                                    | 457,525    |                                                | $          | 395,598 |   | 15.7 | % | $ | 1,306,244 |   | $ | 1,098,027 |   | 19.0 | % |
|                                    |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Costs of providing services:            |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Salaries and employee benefits          |       | 254,147                                              |       | 211,807                                             |       | 20.0 |   | 722,583 |   | 598,447 |   | 20.7 |   |
| Professional and subcontracted services |       | 20,334                                               |       | 26,494                                              |       | (23.3 | ) | 75,154 |   | 72,659 |   | 3.4 |   |
| Occupancy, communications and other     |       | 54,955                                               |       | 49,375                                              |       | 11.3 |   | 148,187 |   | 136,008 |   | 9.0 |   |
| General and administrative expenses     |       | 45,390                                               |       | 40,445                                              |       | 12.2 |   | 131,486 |   | 118,005 |   | 11.4 |   |
| Depreciation and amortization           |       | 18,265                                               |       | 15,123                                              |       | 20.8 |   | 53,225 |   | 41,797 |   | 27.3 |   |
|                                    |       | 393,091                                              |       | 343,244                                             |       | 14.5 |   | 1,130,635 |   | 966,916 |   | 16.9 |   |
|                                    |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Income from operations                  |       | 64,434                                               |       | 52,354                                              |       | 23.1 |   | 175,609 |   | 131,111 |   | 33.9 |   |
|                                    |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Loss from affiliates                    |       | (29                                                  | )          | (4,490                                              | )          | (99.4 | ) | (603 | ) | (5,357 | ) | (88.7 | ) |
| Interest expense                        |       | (1,353                                               | )          | (304                                                | )          | 345.1 |   | (5,580 | ) | (1,336 | ) | 317.7 |   |
| Interest income                         |       | 1,585                                                |       | 889                                                 |       | 78.3 |   | 4,356 |   | 3,101 |   | 40.5 |   |
| Other non-operating income              |       | 179                                                  |       | 37                                                  |       | 383.8 |   | 454 |   | 141 |   | 222.0 |   |
|                                    |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Income before income taxes              |       | 64,816                                               |       | 48,486                                              |       | 33.7 |   | 174,236 |   | 127,660 |   | 36.5 |   |
|                                    |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Provision for income taxes              |       | 22,270                                               |       | 14,652                                              |       | 52.0 |   | 60,465 |   | 43,018 |   | 40.6 |   |
|                                    |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Net Income                              |       | $                                                    | 42,546     |                                                | $          | 33,834 |   | 25.7 | % | $ | 113,771 |   | $ | 84,642 |   | 34.4 | % |

 

**Threeand Nine Months Ended March 31, 2008 Compared to the Three and Nine MonthsEnded March 31, 2007**

 

  ***Revenue.***

 

Revenuesfor the third quarter of fiscal year 2008 were $457.5 million, an increase of$61.9 million, or 15.7 percent from $395.6 million in the third quarter offiscal year 2007.   We acquired WWN inFebruary 2007 and Heissmann in July 2007. The increase in revenues from these acquisitions was $31 million duringthe third quarter of fiscal year 2008.

 

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Theaverage exchange rate used to translate our revenues earned in British poundssterling increased to 1.9868 for the third quarter of fiscal year 2008 from1.9631 for the third quarter of fiscal year 2007, and the average exchange rateused to translate our revenues earned in Euros increased to 1.5108 for thethird quarter of fiscal year 2008 from 1.3190 for the third quarter of fiscalyear 2007.  The appreciation of theBritish pound and the Euro resulted in $2 million of the increase in revenuesin the third quarter of fiscal year 2008. The average exchange rate used to translate our revenues earned inCanadian dollars also appreciated 17% compared to the third quarter of fiscalyear 2007 and resulted in $3 million of the increase in revenues during thequarter.  Changes in the value of otherforeign currencies relative to the U.S. dollar resulted in $3 million of theincrease in the third quarter of fiscal year 2008 revenues.

 

Excludingthe impact of acquisitions and changes in foreign currency exchange rates,total company revenues increased 6% in the third quarter of fiscal year 2008.

 

Theincreases in our segment revenue for the third quarter of fiscal year 2008 ascompared to the third quarter of fiscal year 2007 are as follows:

 

·                  TheBenefits Group increased revenues $47.2 million, or 21 percent, over the thirdquarter of fiscal year 2007 due to increased demand for our services,particularly in North America and Europe, as well as the acquisitions of WWNand Heissmann.  The strengthening of theEuropean and Canadian currencies accounted for 2 percentage points of theincrease.  Excluding the impact ofacquisitions and changes in foreign currency exchange rates, Benefits revenuesincreased 6% over the third quarter of fiscal year 2007.

 

·                  TheTechnology and Administration Solutions Group increased revenues $5.7 million,or 14 percent, over the third quarter of fiscal year 2007, largely due to anincrease in administration services in North America and Europe.  In accordance with EITF 00-03, “Applicationof AICPA Statement of Position 97-2 to Arrangements that Include the Right toUse Software Stored on Another Entity’s Hardware” (EITF 00-03), the Companybegins recognizing revenue after projects go into service.  No revenues are recognized during projectimplementation.  At March 31, 2008,the Company had 121 projects in on-going service delivery and 56 projects inimplementation.  At March 31, 2007,the Company had 76 projects in on-going service delivery and 66 projects inimplementation.  The strengthening of theEuropean and Canadian currencies accounted for less than 1 percentage point ofthe revenue increase.

 

·                  TheHuman Capital Group increased revenues $7.9 million, or 19 percent, over thethird quarter of fiscal year 2007 primarily due to increased demand for ourcompensation consulting and our data services. The strengthening of the European and Canadian currencies accounted for1 percentage point of the revenue increase.

 

·                  TheInvestment Consulting Group increased revenues $9.2 million, or 27 percent,over the third quarter of fiscal year 2007 due to an increase in demand for ourservices, especially investment strategy advice.  The strengthening of the European andCanadian currencies accounted for 2 percentage points of the revenue increase.

 

·                  TheInsurance and Financial Services Group increased revenues $0.5 million, or 2percent, over the third quarter of fiscal year 2007.  The increase in revenues was due to thecontinued growth in demand for our services in Asia-Pacific, offset in part by adecline in revenues in Europe resulting from fewer large projects in Europeduring this fiscal quarter.  Thestrengthening of the European currencies accounted for 1 percentage point ofthe revenue increase.

 

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Revenuesfor the nine months ended March 31, 2008 were $1.306 billion, an increaseof $208.2 million, or 19 percent, from $1.098 billion for the nine months endedMarch 31, 2007.  We acquired WWN in February 2007and Heissmann in July 2007.  Theincrease in revenues from these acquisitions was $88 million during the ninemonths ended March 31, 2008.

 

Theaverage exchange rate used to translate our revenues earned in British poundssterling increased to 2.0188 for the nine months ended March 31, 2008 from1.9220 for the nine months ended March 31, 2007, and the average exchangerate used to translate our revenues earned in Euros increased to 1.4465 for thenine months ended March 31, 2008 from 1.2983 for the nine months ended March 31,2007.  The appreciation of the Britishpound and the Euro resulted in $24 million of the increase in revenues for thenine months ended March 31, 2008. The average exchange rate used to translate our revenues earned inCanadian dollars also appreciated 13% compared to the nine months ended March 31,2007 and resulted in $6 million of the increase in revenues during the ninemonths ended March 31, 2008. Changes in the value of other foreign currencies relative to the U.S.dollar resulted in $6 million of the increase in revenues for the nine monthsended March 31, 2008.

 

Excludingthe impact of acquisitions and changes in foreign currency exchange rates,total company revenues increased 8% during the nine months ended March 31,2008.

 

Theincreases in our segment revenue for the nine months ended March 31, 2008as compared to the nine months ended March 31, 2007 are as follows:

 

·                  TheBenefits Group increased revenues $135.9 million, or 23 percent, over the ninemonths ended March 31, 2007 due to increased demand for our services,particularly in North America and Europe as well as the acquisitions of WWN andHeissmann.  The strengthening of theEuropean and Canadian currencies accounted for 3 percentage points of therevenue increase.  Excluding the impactof acquisitions and changes in foreign currency exchange rates, the BenefitsGroup revenues increased 6% during the nine months ended March 31, 2008.

 

·                  TheTechnology and Administration Solutions Group increased revenues $17.0 million,or 14 percent, over the nine months ended March 31, 2007, largely due tosystem modifications made to pension administration systems as clientsimplemented provisions of the Pension Protection Act in the U.S. as well as anincrease in administration services in the U.S. and Europe.  In accordance with EITF 00-03, “Applicationof AICPA Statement of Position 97-2 to Arrangements that Include the Right toUse Software Stored on Another Entity’s Hardware” (EITF 00-03), the Companybegins recognizing revenue after projects go into service.  No revenues are recognized during projectimplementation.  At March 31, 2008,the Company had 121 projects in on-going service delivery and 56 projects inimplementation.  At March 31, 2007,the Company had 76 projects in on-going service delivery and 66 projects inimplementation.  The strengthening of theEuropean and Canadian currencies accounted for 2 percentage points of therevenue increase.

 

·                  TheHuman Capital Group increased revenues $19.0 million, or 15 percent, over thenine months ended March 31, 2007, primarily due to increased demand forour compensation consulting and our data services.  The strengthening of the European andCanadian currencies accounted for 2 percentage points of the revenue increase.

 

·                  TheInvestment Consulting Group increased revenues $31.5 million, or 33 percent,over the nine months ended March 31, 2007, due to an increase in demandfor our services, especially investment strategy advice.  The strengthening of the European andCanadian currencies accounted for 5 percentage points of the revenue increase.

 

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·                  TheInsurance and Financial Services Group increased revenues $5.5 million, or 7percent, over the nine months ended March 31, 2007.  The increase in revenues was due to thecontinued growth in demand for our services in continental Europe andAsia-Pacific.  The strengthening of theEuropean currencies accounted for 4 percentage points of the revenue increase.

 

***Salaries and Employee Benefits*.**

 

Salaries and employee benefit expenses for the third quarter of fiscalyear 2008 were $254.1 million compared to $211.8 million for the third quarterof fiscal year 2007, an increase of $42.3 million or 20.0 percent.  Of this increase $16.3 million, or 7.7percentage points, was attributed to the inclusion of recently acquiredentities in our consolidated financials. An additional 2.5 percentage points was attributed to the strengtheningforeign currencies.  The remainingincrease, inclusive of the impact of foreign currencies, was principally due to$9.2 million of salary and wage tax increases, a higher accrual for discretionarycompensation expense of $9.1 million, as well as an increase in other benefits,including pension. As a percentage of revenue, salaries and employee benefitsincreased to 55.5 percent from 53.5 percent.

 

Salaries and employee benefit expenses for the first nine months offiscal year 2008 were $722.6 million compared to $598.4 million for the firstnine months of fiscal year 2007, an increase of $124.1 million or 20.7percent.  Of this increase $54.2 million,or 9.1 percentage points, was attributed to the inclusion of recently acquiredentities in our consolidated financials. An additional 3.8 percentage points was attributed to the strengtheningforeign currencies.  The remainingincrease, inclusive of the impact of foreign currencies, was principally due to$36.7 million of salary and wage tax increases, a higher accrual of $28.0million of discretionary compensation, as well as an increase in otherbenefits, including pension.  As apercentage of revenue, salaries and employee benefits increased to 55.3 percentfrom 54.5 percent.

 

***Professional and Subcontracted Services*.**

 

Professional andsubcontracted services expenses for the third quarter of fiscal year 2008 were$20.3 million compared to $26.5 million for the third quarter of fiscal year2007, a decrease of $6.2 million or 23.3 percent. The decrease was primarilydue to lower reimbursable expenses incurred on behalf of clients and lowerexpense associated with legal settlements, partially offset by a 3.4 percentagepoints increase due to the strengthening of foreign currencies.  As a percentage of revenue, professional andsubcontracted services decreased to 4.4 percent from 6.7 percent.

 

Professional andsubcontracted services used in consulting operations for the first nine monthsof fiscal year 2008 were $75.2 million, compared to $72.7 million for the firstnine months of fiscal year 2007, an increase of $2.5 million or 3.4percent.  Of this increase, 4.9percentage points was attributed to the strengthening foreign currencies.  As a percentage of revenue, professional andsubcontracted services decreased to 5.8 percent from 6.6 percent.

 

***Occupancy, Communications and Other.***

 

Occupancy, communications and other expenses for the third quarter offiscal year 2008 were $55.0 million compared to $49.4 million for the thirdquarter of fiscal year 2007, an increase of $5.6 million or 11.3 percent.  Of this increase $3.2 million, or 6.5percentage points, was attributed to the inclusion of recently acquiredentities in our consolidated financials. An additional 2.3 percentage points was attributed to the strengtheningforeign currencies.  The remainingincrease, exclusive of the impact of foreign currencies, was principally due toincreases in travel, rent, promotion, repairs and maintenance and business taxexpense, partially offset by a decrease in telephone and insuranceexpenses.  As a percentage of revenue,occupancy, communications and other decreased to 12.0 percent from 12.5percent.

 

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Occupancy, communications and other expenses for the first nine monthsof fiscal year 2008 were $148.2 million compared to $136.0 million for thefirst nine months of fiscal year 2007, an increase of $12.2 million or 9.0percent.  Of this increase $12.7 million,or 9.3 percentage points, was attributed to the inclusion of recently acquiredentities in our consolidated financials. An additional 3.4 percentage points was attributed to the strengtheningforeign currencies.  The remaining increase,exclusive of the impact of foreign currencies, was principally due to increasesin travel, rent, promotion, telephone, professional development and businesstax expenses, partially offset by a decrease in insurance expense.  As a percentage of revenue, occupancy,communications and other decreased to 11.3 percent from 12.4 percent.

 

***General and Administrative Expenses.***

 

General and administrative expenses for the third quarter of fiscalyear 2008 were $45.4 million, compared to $40.4 million for the third quarterof fiscal year 2007, an increase of $5.0 million or 12.2 percent, 0.9percentage points of which was attributed to the strengthening of the Europeancurrencies. The increase, including the impact of foreign currencies, wasprimarily due to higher salaries and employee benefits, telephone expenses andprofessional services expense, partially offset by a decrease in rent inEurope, promotion, and equipment rental expenses.  As a percentage of revenue, general andadministrative expense decreased to 9.9 percent from 10.2 percent.

 

General and administrative expenses for the first nine months of fiscalyear 2008 were $131.5 million, compared to $118.0 million for the first ninemonths of fiscal year 2007, an increase of $13.5 million or 11.4 percent, 2.8percentage points of which was attributed to the strengthening of the Europeancurrencies.  The increase, including theimpact of foreign currencies, was primarily due to additional salary andemployee benefits, repairs and maintenance, professional services, andinsurance expenses, partially offset by a decrease in rent expense.  As a percentage of revenue, general andadministrative expense decreased to 10.1 percent from 10.7 percent.

 

***Depreciation and Amortization.***

 

Depreciation and amortization for the third quarter of fiscal year 2008was $18.3 million, compared to $15.1 million for the third quarter of fiscalyear 2007, an increase of $3.2 million or 20.8 percent.  Of this increase $0.9 million, or 6.0percentage points, was attributed to the inclusion of recently acquiredentities in our consolidated financials. An additional 1.8 percentage points was attributed to the strengtheningforeign currencies.  The remainingincrease, inclusive of the impact of foreign currencies, was principally due toa $1.9 million increase in depreciation of fixed assets and amortization of intangibleassets related to acquisitions and a $0.4 million increase in depreciation ofinternally developed software used to support our Benefits and Technology andAdministration Solutions Groups.  As apercentage of revenue, depreciation and amortization increased to 4.0 percentfrom 3.8 percent.

 

Depreciation and amortization for the first nine months of fiscal year2008 was $53.2 million, compared to $41.8 million for the first nine months offiscal year 2007, an increase of $11.4 million or 27.3 percent.  Of this increase $3.3 million, or 7.9percentage points, was attributed to the inclusion of recently acquiredentities in our consolidated financials. An additional 2.9 percentage points was attributed to the strengtheningforeign currencies.  The remainingincrease, inclusive of the impact of foreign currencies, was principally due to$4.6 million increase in depreciation of fixed assets and amortization ofintangible assets related to acquisitions and a $3.6 million increase indepreciation of internally developed software used to support our Benefits andTechnology and Administration Solutions Groups. As a percentage of revenue, depreciation and amortization increased to4.1 percent from 3.8 percent.

 

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***Loss From Affiliates.***

 

Asof July 1, 2007, PCIC, the company’s captive insurance company carriesreinsurance for losses it insures above $25 million.  Because losses incurred by PCIC below thislevel are not covered by reinsurance, but are direct expenses of PCIC, reserveadjustments and actual outcomes of specific claims of any PCIC member firmcarry through into Watson Wyatt’s financial results.  Our shares of PCIC’s financial results arereflected as income or loss from affiliates through our 36.43% ownership ofPCIC.  Thus, from time to time, theimpacts of PCIC’s reserve development may result in fluctuations in WatsonWyatt’s earnings.

 

Loss from affiliates for the third quarter of fiscal year 2008 was $29thousand, compared to $4.5 million for the third quarter of fiscal year 2007, adecrease of $4.5 million.

 

Loss from affiliates for the first nine months of fiscal year 2008 was$0.6 million compared to $5.4 million for the first nine months of fiscal year2007.  Affiliate loss during the three andnine months ended March 31, 2007 includes our share of PCIC’s lossesresulting from a substantial increase in PCIC’s reserves.

 

***Interest Expense.***

 

Interest expense for the third quarter of fiscal year 2008 was $1.4million, compared to $0.3 million for the third quarter of fiscal year2007.  Interest expense for the firstnine months of fiscal year 2008 was $5.6 million, compared to $1.3 million forthe first nine months of fiscal year 2007. The increase in both periods was due to a higher average debt balancestemming from recent acquisition-related payments.

 

***Interest Income.***

 

Interest income for the third quarter of fiscal year 2008 was $1.6million, compared to $0.9 million for the third quarter of fiscal year 2007.Interest income for the first nine months of fiscal year 2008 was $4.4 million,compared to $3.1 million for the first nine months of fiscal year 2007.  The increase was mainly due to a higheraverage cash balance in the current period compared to the prior period,combined with higher short-term interest rates in Europe.

 

***Provision for Income Taxes.***

 

Provision for income taxes for the first nine months of fiscal year2008 was $60.5 million, compared to $43.0 million for the first nine months offiscal year 2007. Our effective tax rate was 34.7 percent for the first ninemonths of fiscal year 2008 and 33.7 percent for the first nine months of fiscalyear 2007. The tax rate increase was primarily due to the geographic mix ofincome and the release of tax reserves**. **The company has not provided U.S.deferred taxes on cumulative earnings of foreign subsidiaries that have beenreinvested indefinitely, which also includes foreign subsidiaries affiliatedwith our recent acquisitions.  We recorda tax benefit on foreign net operating loss carryovers and foreign deferredexpenses only if it is more likely than not that a benefit will be realized.

 

***Net Income.***

 

Net income for the third quarter of fiscal year 2008 was $42.5 million,compared to $33.8 million for the third quarter of fiscal year 2007.  As a percentage of revenue, net incomeincreased to 9.3 percent from 8.6 percent. Net income for the first nine monthsof fiscal year 2008 was $113.8 million, compared to $84.6 million for the firstnine months of fiscal year 2007.  As apercentage of revenue, net income increased to 8.7 percent from 7.7 percent.

 

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***Earnings Per Share.***

 

Diluted earnings per share for the third quarter of fiscal year 2008was $0.96, compared to $0.76 for the third quarter of fiscal year 2007.  Diluted earnings per share for the first ninemonths of fiscal year 2008 was $2.56, compared to $1.90 for the first ninemonths of fiscal year 2007. The diluted earnings per share calculations for thethree and nine months ended March 31, 2008 assume that the 242,000contingent shares related to the WWN business acquisition and 1,950,000contingent shares related to the WWLLP business acquisitions had been issuedand outstanding for the entire three and nine month periods ended March 31,2008.

 

**Liquidity and Capital Resources**

 

Our cash and cash equivalents at March 31, 2008 totaled $157.8million, compared to $248.2 million at June 30, 2007.  The decrease in cash from June 30, 2007to March 31, 2008 was principally attributable to the payment during thefirst quarter of fiscal year 2008 of $139 million of previously accrueddiscretionary compensation as well as payment for the Heissmann and WisdomNetacquisitions of approximately $135 million. We also paid $55.2 million in corporate taxes, $24.7 million in capitalexpenditures and $9.5 million in dividends during the first nine months offiscal year 2008.  These payments werefunded by cash flow from current consulting operations, from existing cash balancesand from borrowings under our revolving credit facility.  Consistent with the company’s liquidityposition, management considers various alternative strategic uses of cashreserves including acquisitions, dividends and stock buybacks, or anycombination of these options. The company believes that it will generatesufficient resources to fund operations and pay down debt through the nexttwelve months.

 

Our non U.S. operations are substantially self-sufficient for theirworking capital needs.  At March 31,2008, $153.0 million of the total cash balance of $157.8 million was heldoutside of North America, which we have the ability to utilize, if necessary.There are no significant repatriation restrictions other than local or U.S.taxes associated with repatriation.

 

Underthe terms of the WWLLP Business Combination, we are required under certaincircumstances to place funds into an insurance trust designed to satisfypotential litigation settlement related to the former partners of WWLLP.  If the assets of the trust are not used by2017, it will be returned to the company. As of March 31, 2008, wemaintained $6.5 million of restricted cash related to this obligation. Thisrestricted cash balance was included in Other Assets on our consolidatedbalance sheet.

 

***Cash From Operating Activities.***

 

Cash from operating activities for the first nine months of fiscal year2008 was $137.8 million, compared to cash from operating activities of $55.8million for the first nine months of fiscal year 2007.  The difference was primarily attributable to$29.1 million of incremental net income, a higher increase in the discretionarycompensation accrual, and a lower decrease of receivables net of a largerdecrease in other current assets.

 

The allowance for doubtful accounts increased $4.5 million from June 30,2007 to March 31, 2008. The number of days of accounts receivable and workin process outstanding was 80 at March 31, 2008, compared to 83 at June 30,2007.

 

***Cash Used in Investing Activities.***

 

Cash used in investing activities for the first nine months of fiscalyear 2008 was $181.7 million, compared to $91.6 million used in investingactivities for the first nine months of fiscal year 2007.  The difference was attributed to acquisitionand contingent consideration payments, primarily for Heissmann, of $134.9million during the first nine months of fiscal year 2008 compared to $46.5million, primarily for WWN, in the first nine months of fiscal year 2007.

 

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Expenditures of capital funds were $24.7 million for the first ninemonths of fiscal year 2008.  Anticipatedcommitments of capital funds are estimated at $18 million for the remainder offiscal year 2008. We expect cash from operations to adequately provide for thesecash needs.

 

***Cash Used in Financing Activities.***

 

Cash used in financing activities for the first nine months of fiscalyear 2008 was $48.5 million, compared to cash used in financing activities of$63.0 million for the first nine months of fiscal year 2007.  This change was primarily attributable toactivity under our credit facility which included net borrowings of $5.5million in the first nine months of fiscal year 2008 compared to a netrepayment of $30 million in the first nine months of fiscal year 2007.  Additionally, during the first nine months offiscal year 2008, the company repurchased $54.0 million of common stock,compared to $33.4 million of common stock during the same period in fiscal year2007.

 

**Off-Balance Sheet Arrangements andContractual Obligations**

 
| ** **                                                      | ** ** | **Remaining payments due by fiscal year as of March 31, 2008** | ** ** |
|-----------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------|------------|
| **Contractual Cash  Obligations (in thousands)** | ** ** | **Total**                                                                                                        | ** ** | **Remaining  2008** | ** ** | **2009  through  2010** | ** ** | **2011  through  2012** | ** ** | **Thereafter****(1)** | ** ** |
| Lease commitments                                               |       | $                                                                                                                | 354,367    |   | $ | 16,554 |   | $ | 118,427 |   | $ | 89,316 |   | $ | 130,070 |   |
|                                                            |       |                                                                                                             |       |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Revolving Credit Facility                                       |       | 112,762                                                                                                          |       | 91,920 |   | 20,842 |   | — |   | — |   |
|                                                            |       |                                                                                                             |       |   |   |   |   |   |   |   |   |
| Pension Contributions                                           |       | 176,773                                                                                                          |       | 7,216 |   | 81,786 |   | 87,771 |   | — |   |
|                                                            |       |                                                                                                             |       |   |   |   |   |   |   |   |   |
| Total                                                           |       | $                                                                                                                | 643,902    |   | $ | 115,690 |   | $ | 221,055 |   | $ | 177,087 |   | $ | 130,070 |   |

 

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**(1) ** Pension contributions for this category cannot be estimated.

 

***Operating Leases.***  We lease office space, furniture and selectedcomputer equipment under operating lease agreements with terms ranging from oneto ten years. Management has determined that there is not a large concentrationof leases that will expire in any one fiscal year.  Consequently, management anticipates that anyincrease in future rent expense will be mainly market driven.

 

***Credit Agreement. ***The company has a credit facility provided bya syndicate of banks in an aggregate principal amount of $300 million.  Interest rates associated with this facilityvary with LIBOR and/or the Prime Rate and are based on our leverage ratio, asdefined by the credit agreement.  We arecharged a quarterly commitment fee, currently 0.125 percent of the facility,which varies with our financial leverage and is paid on the unused portion ofthe credit facility.  Borrowings underthis facility at March 31, 2008 were $110.5 million compared to noborrowings as of March 31, 2007, primarily due to acquisitions and therepurchase of common stock.  Credit underthe facility is available upon demand, although the credit facility requires usto observe certain covenants (including requirements relating to our leverageratio and fixed coverage charge ratio) and is collateralized with a pledge ofstock of material subsidiaries.  We werein compliance with all covenants under the credit facility as of March 31,2008. This facility is scheduled to mature on June 30, 2010.  Borrowings of $91 million were repaid inApril, 2008.

 

Aportion of the revolving facility is used to support a required letter ofcredit.  As a result, $10.6 million ofthe facility was unavailable for operating needs as of March 31,2008.  We are also charged a fee for thisoutstanding letter of credit that also fluctuates based on our leverage ratio.

 

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**Risk Management**

 

Asa part of our overall risk management program, we carry customary commercialinsurance policies, including commercial general liability and claims-madeprofessional liability insurance with a self-insured retention of $1 millionper claim, which provides coverage for professional liability claims of thecompany and its subsidiaries, including the cost of defending such claims.  Our professional liability insurance coveragebeyond our self-insured retention amount is written by an affiliated captiveinsurance company (PCIC) owned by us and two other professional services firms,and by various commercial insurance carriers.

 

Informulating its premium structure, PCIC estimates the amount it expects to payfor losses (and loss expenses) for all the members as a whole and thenallocates that amount to the member firms based on the individual member’sexpected losses.  PCIC bases premiumcalculations, which are determined annually based on experience through March ofeach year, on relative risk of the various lines of business performed by eachof the owner companies, past claim experience of each owner company, growth ofeach of those companies, industry risk profiles in general and the overallinsurance markets.

 

Asof July 1, 2007, the captive insurance company carries reinsurance forlosses it insures above $25 million. Since losses incurred by PCIC below this level are not covered byreinsurance, but are direct expenses of PCIC, reserve adjustments and actualoutcomes of specific claims of any PCIC member firm carry through into WatsonWyatt’s financial results as income or loss from affiliates through our 36.43%ownership of PCIC.  Thus from time totime the impacts of PCIC’s reserve development may result in fluctuations inWatson Wyatt’s earnings.

 

Ouragreements with PCIC could require additional payments to PCIC in the eventthat the company decided to exit PCIC and adverse claims significantly exceedprior expectations.  If thesecircumstances were to occur, the company would record a liability at the timeit becomes probable and reasonably estimable.

 

Thecompany will continue to provide for the self-insured retention where specificestimated losses and loss expenses for known claims in excess of $1 million areconsidered probable and reasonably estimable. Although the company maintains professional liability insurancecoverage, this insurance does not cover claims made after expiration of ourcurrent insurance contracts.  Generallyaccepted accounting principles require that we record a liability for incurredbut not reported (IBNR) professional liability claims if they are probable andreasonably estimable, and for which we have not yet contracted for insurancecoverage.  The company uses actuarialassumptions to estimate and record its IBNR liability and has a $38.5 millionIBNR liability recorded as of March 31, 2008.

 

Insurance market conditionsfor our industry and the company include increases in overall premiumcost.  In addition, beginning in 2005PCIC raised the reinsurance attachment point from $15 million to $25 million.Trends toward higher self-insured retentions and constraints on aggregate excesscoverage for this class of insurance coverage are anticipated to continue or torecur periodically, and to be reflected in our future annual insurancerenewals.  As a result, we will continueto assess our ability to secure future insurance coverage and we cannot assurethat such coverage will continue to be available indefinitely in the event ofspecific adverse claims experience, adverse loss trends, market capacityconstraints or other factors.  Inanticipation of the possibility of future reductions in risk transfer from PCICto re-insurers, as well as the hardening insurance market conditions in recentyears, the firms that own PCIC, including the company, have increased PCIC’scapital in the past and we will continue to re-assess capital requirements on aregular basis.

 

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Inlight of increasing worldwide litigation, including litigation againstprofessionals, the company has a policy that all client relationships bedocumented by engagement letters containing specific risk mitigation clausesthat were not included in all historical client agreements.  Certain contractual provisions designed to mitigate risk may not be legallypractical or enforceable in litigation involving breaches of fiduciary duty orcertain other alleged errors or omissions, or in certain jurisdictions. Wemay incur significant legal expenses in defending against litigation. Nearly100 percent of the company’s U.S.****and U.K.****corporateclients have signed engagement letters including some if not all of ourpreferred mitigation clauses, and initiatives to maintain that process in theUnited States and the United Kingdom and complete it elsewhere are underway.

 

**Disclaimer Regarding Forward-looking Statements**

 

This filing contains a number of  “forward-looking statements” within themeaning of the Private Securities Litigation Reform Act of 1995, including, butnot limited to the following: Note 5 - Retirement Benefits; Note 6 – Goodwill and Intangible Assets; Note 10 –Restricted Shares; Note 11 – Guarantees; Note 12 – Contingent Liabilities; Note13 – Income Taxes; Note 14 – Recent Accounting Pronouncements; Note 15 – ExitFrom Taft Hartley Consulting Business; the Executive Overview; CriticalAccounting Policies and Estimates; the discussion of our capital expenditures;Off-Balance Sheet Arrangements and Contractual Obligations; Risk Management;and Part II, Item 1 “Legal Proceedings”. You can identify these statements and other forward-looking statementsin this filing by words such as “may”, “will”, “expect”, “anticipate”, “believe”,“estimate”, “plan”, “intend”, “continue”, or similar words, expressions or thenegative of such terms or other comparable terminology. You should read thesestatements carefully because they contain projections of our future results ofoperations or financial condition, or state other “forward-looking”information. A number of risks and uncertainties exist which could cause actualresults to differ materially from the results reflected in these forward-lookingstatements.  Such factors include but arenot limited to:

 

·      ourability to integrate acquired businesses into our own business, processes andsystems, and achieve the anticipated results;

·      our continued ability to recruit and retainqualified associates;

·      the success of our marketing, client developmentand sales programs after our acquisitions;

·      our ability to maintain client relationships andto attract new clients after our acquisitions;

·      declinesin demand for our services;

·      outcomes of pending or future litigation and theavailability and capacity of professional liability insurance to fund theoutcome of pending cases or future judgments or settlements;

·      our ability to obtain professional liabilityinsurance;

·      a significant decrease in the demand for theconsulting, actuarial and other services we offer as a result of changingeconomic conditions or other factors;

·      actions by competitors offering human resourcesconsulting services, including public accounting and consulting firms,technology consulting firms and Internet/intranet development firms;

·      our ability to achieve cost reductions after ourrecent acquisitions;

·      foreign currency exchange and interest ratefluctuations;

·      exposure to liabilities that have not beenexpressly assumed in our acquisition transactions;

·      general economic and business conditions thatadversely affect us or our clients;

·      the level of capital resources required forfuture acquisitions and business opportunities;

·      regulatory developments abroad and domesticallythat impact our business practice;

·      legislative and technological developments thatmay affect the demand for or costs of our services;

 

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and other factors discussed under “RiskFactors” in the company’s 2007 Annual Report on Form 10-K filed with theSEC on August 24, 2007.  Thesestatements are based on assumptions that may not come true.  All forward-looking disclosure is speculativeby its nature.  The company undertakes noobligation to update any of the forward-looking information included in thisreport, whether as a result of new information, future events, changedexpectations or otherwise.

 

**ITEM 3. QUANTITATIVE AND QUALITATIVEDISCLOSURES ABOUT MARKET RISK**

 

Weare exposed to market risks in the ordinary course of business.  These risks include interest rate risk,foreign currency exchange and translation risk.

 

**Interest Rate Risk**

 

Theprimary objective of our investment activities is to preserve principal whileat the same time maximizing yields without significantly increasing risk. Toachieve this objective, we maintain our portfolio in mainly short termsecurities that are recorded on the balance sheet at fair value.

 

**ForeignCurrency Risk**

 

Internationalnet revenues result from transactions by our foreign operations and aretypically denominated in the local currency of each country. These operationsalso incur most of their expenses in the local currency. Accordingly, ourforeign operations use the local currency as their functional currency and ourprimary international operations use the British Pound, the Euro and theCanadian dollar. Our international operations are subject to risks typical ofinternational operations, including, but not limited to, differing economicconditions, changes in political climate, differing tax structures, otherregulations and restrictions, and foreign exchange rate volatility.  Accordingly, our future results could beadversely impacted by changes in these or other factors.

 

**TranslationExposure**

 

Foreignexchange rate fluctuations may adversely impact our consolidated financialposition as well as our consolidated results of operations and may adverselyimpact our financial position as the assets and liabilities of our foreignoperations are translated into U.S. dollars in preparing our condensedconsolidated balance sheet. Additionally, foreign exchange rate fluctuationsmay adversely impact our condensed consolidated results of operations asexchange rate fluctuations on transactions denominated in currencies other thanour functional currencies result in gains and losses that are reflected in ourcondensed consolidated statement of income.

 

We consolidate our international subsidiariesby converting them into U.S. dollars in accordance with Statement of FinancialAccounting Standards No. 52, “Foreign Currency Translation” (“FAS 52”).The results of operations and our financial position will fluctuate when thereis a change in foreign currency exchange rates.

 

**ITEM 4. CONTROLS AND PROCEDURES.**

 

**Evaluationof Disclosure Controls and Procedures**

 

Anevaluation was performed under the supervision and with the participation ofour management, including the chief executive officer, or CEO, and chieffinancial officer, or CFO, of the effectiveness of the design and operation ofour disclosure controls and procedures. Based on that evaluation, ourmanagement, including the CEO and CFO, concluded that our disclosure controlsand procedures were effective as of March 31, 2008.

 

**Changes in Internal Control Over Financial Reporting**

 

There were no significant changes in our internal control overfinancial reporting in the quarter ended March 31, 2008 that materiallyaffected, or are reasonably likely to materially affect, our internal controlover financial reporting.

 

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**Limitations on the Effectiveness of Controls**

 

Our management, including the CEO and CFO, does not expect that our disclosure controls and procedures will necessarily prevent all error and all fraud.  However, our management does expect that the control system provides reasonable assurance that its objectives will be met.  A control system, no matter how well designed and operated, cannot provide absolute assurance that the control system’s objectives will be met.   In addition, the design of such internal controls must take into account the costs of designing and maintaining such a control system.  Certain inherent limitations exist in control systems to make absolute assurances difficult, including the realities that judgments in decision-making can be faulty, that breakdowns can occur because of a simple error or mistake, and that individuals can circumvent controls.  The design of any control system is based in part upon existing business conditions and risk assessments. There can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.  Over time, controls may become inadequate because of changes in business conditions or deterioration in the degree of compliance with policies or procedures.  As a result, they may require change or revision.  Because of the inherent limitations in a control system, misstatements due to error or fraud may occur and may not be detected.  Nevertheless, the disclosure controls and procedures are designed to provide reasonable assurance of achieving their stated objectives, and the CEO and CFO have concluded that the disclosure controls and procedures are effective at a reasonable assurance level.

 

**PART II. OTHER INFORMATION**

 

**ITEM 1. LEGAL PROCEEDINGS.**

 

From time to time, we are a party to various lawsuits, arbitrations ormediations that arise in the ordinary course of business. The disclosure calledfor by Part II, Item 1, regarding our legal proceedings is incorporated byreference herein from Note 12 “Contingent Liabilities,” of the Notes to theCondensed Consolidated Financial Statements in this Form 10-Q for thequarter ended March 31, 2008.

 

**ITEM 1A. RISK FACTORS.**

 

There are no material changes from the risk factors previouslydisclosed in our 2007 Annual Report on Form 10-K (File No. 001-16159)filed on August 24, 2007.

 

**ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.**

 

None.

 

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**Issuer Purchases of Equity Securities**

 

The table below presentsspecified information about the company’s stock repurchases and repurchaseplans:

 
| **Period**                                            | ** ** | **Total Number of   Shares  Purchased** | ** ** | **Average Price  Paid per Share** | ** ** | **Total Number of   Shares Purchased   as Part of Publicly   Announced Plans   or Programs** | ** ** | **Maximum Number of   Shares that May Yet   Be Purchased Under   the Plans or Programs** | ** ** |
|-------------------------------------------------------|------------|--------------------------------------------------------|------------|--------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
|                                                  |       |                                                   |       |                                             |       |                                                                                                                                                     |       |                                                                                                                                                      |       |   |
| January 1, 2008 through January 31,  2008   |       | 100,300                                                |       | $                                                | 45.34      |                                                                                                                                                     | 100,300    |                                                                                                                                                      | 1,012,034  |   |
| February 1, 2008 through  February 29, 2008 |       | 149,700                                                |       | 51.63                                            |       | 149,700                                                                                                                                                  |       | 2,871,173                                                                                                                                                 |       |
| March 1, 2008 through March 31,  2008       |       | 250,700                                                |       | 53.54                                            |       | 250,700                                                                                                                                                  |       | 2,620,473                                                                                                                                                 |       |
|                                                  |       |                                                   |       |                                             |       |                                                                                                                                                     |       |                                                                                                                                                      |       |
| Total                                                 |       | 500,700                                                |       |                                             |       | 500,700                                                                                                                                                  |       |                                                                                                                                                      |       |

 

During the first quarter of fiscal year 2007, thecompany’s Board of Directors approved the repurchase of up to 1,500,000 sharesof our Class A Common Stock.  Sharesthat the company repurchases are primarily issued in connection with the company’semployee benefit plans.

 

On February 11, 2008, the company’s Board ofDirectors approved the repurchase of up to $100 million of the company’s Class ACommon Stock in addition to the ongoing stock repurchase program approvedduring the first quarter of fiscal year 2007. The maximum number of shares thatmay be purchased under this plan is approximately 2,008,839 shares, estimatedby using the market closing price on February 11, 2008 at $49.78 pershare.

 

**ITEM 3. DEFAULTS UPON SENIOR SECURITIES.**

 

**None.**

** **

**ITEM4.  SUBMISSION OF MATTERS TO A VOTE OFSECURITY HOLDERS.**

** **

**None.**

** **

**ITEM 5.OTHER INFORMATION.**

 

None.

 

44

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**ITEM 6. EXHIBITS.**

 
| 10.1   |   | Watson Wyatt  Worldwide, Inc. Performance Share Bonus Incentive Program FY08(1)                                                                                                              |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                              |
| 21     |   | Subsidiaries of Watson  Wyatt Worldwide, Inc.(1)                                                                                                                                             |
|   |   |                                                                                                                                                                                              |
| 31.1   |   | Certification of Chief  Executive Officer Pursuant to Securities Exchange Act Rules 13a-14 and  15d-14, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of  2002(1)        |
|   |   |                                                                                                                                                                                              |
| 31.2   |   | Certification of Chief  Financial Officer Pursuant to Securities Exchange Act Rules 13a-14 and  15d-14, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of  2002(1)        |
|   |   |                                                                                                                                                                                              |
| 32     |   | Certification of Chief  Executive Officer and Chief Financial Officer Pursuant to Title 18, U.S.C.  Section 1350, adopted pursuant to Section 906 of the Sarbanes-Oxley  Act of 2002(1) |

 

----

(1)   Filedwith this Form 10-Q

 

45

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**Signatures**

 

Pursuant to the requirements of the Securities and Exchange Act of1934, the registrant has duly caused this report to be signed on its behalf bythe undersigned thereunto duly authorized.

 

Watson Wyatt Worldwide, Inc.(Registrant)

 
| /s/ John J. Haley   |                    | May 8, 2008 |
|---------------------|-------------------------|------------------|
|                |                    |             |
| Name:               | John J. Haley           | Date             |
|                |                    |             |
| Title:              | President and           |             |
|                | Chief Executive Officer |             |
|                |                    |             |
| /s/ Carl D. Mautz   |                    | May 8, 2008 |
|                |                    |             |
| Name:               | Carl D. Mautz           | Date             |
|                |                    |             |
| Title:              | Vice President and      |             |
|                | Chief Financial Officer |             |
|                |                    |             |
| /s/ Peter L. Childs |                    | May 8, 2008 |
|                |                    |             |
| Name:               | Peter L. Childs         | Date             |
|                |                    |             |
| Title:              | Controller              |             |
|                     |                         |                  |  |

 

46

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