MMC and certain of its subsidiaries, including Marsh USA Inc., Mercer Human Resource Consulting, Inc. and Mercer Management Consulting, Inc., own, directly and indirectly through special-purpose subsidiaries, a 69% condominium interest covering approximately 1,120,000 square feet in a 44-story building in midtown Manhattan in New York City, which serves as MMC’s worldwide headquarters. In September 2005, MMC refinanced the existing $200 million mortgage relating to this condominium interest with a new, $475 million loan bearing interest at 5.7% and maturing in 2035. The new loan is non-recourse to MMC (except in the event of certain prohibited actions) and secured by a first mortgage lien on the condominium interests in 22 floors of the property and a first priority assignment of leases and rents. In the event of a default in the payment of the loan and certain credit rating downgrade events, MMC would be obligated to pay rent for the entire occupancy of the mortgaged property. MMC leases an additional 315,000 square feet of space in its headquarters building. MMC and its subsidiaries lease an additional 735,000 square feet in various locations around New York City in support of its operations, including a lease covering approximately 420,000 rentable square feet in a building in Hoboken, New Jersey.
subsidiaries lease an additional 136,000 square feet of office space in and around London in support of their operations. The Mercer subsidiaries in and around London lease an additional 162,000 square feet of space. Mercer also leases 147,000 square feet in a new building in the City of London, of which it has subleased 95,000 square feet to third parties.
The remaining business activities of MMC and its subsidiaries are conducted principally in leased office space in cities throughout the world. In general, no difficulty is anticipated in negotiating renewals as leases expire or in finding other satisfactory space if the premises become unavailable. From time to time, MMC and its subsidiaries may have unused space and may seek to sublet such space to third parties, depending upon the demands for office space in the locations involved.
Includes charges related to September 11 and restructuring costs of $396 million.
Certain balances have been reclassified to conform with current presentation. See Note 1 to the consolidated financial statements.
Marsh & McLennan Companies, Inc. and Subsidiaries (“MMC”) is a global professional services firm. MMC’s subsidiaries include Marsh Inc. (“Marsh”), the world’s leading risk and insurance services firm; Kroll Inc. (“Kroll”), the world’s leading risk consulting company; Mercer Inc. (“Mercer”), a major global provider of human resource and specialty consulting services; and Putnam Investments (“Putnam”), one of the largest investment management companies in the United States. MMC’s approximately 55,000 employees worldwide provide analysis, advice and transactional capabilities to clients in over 100 countries.
Since 2004, MMC has made significant changes to its business model. Our new business model has three main aspects: a commitment to make all fees and other remuneration earned by MMC for the placement of insurance coverage fully transparent to our clients in the U.S. and in major markets around the world; the elimination of contingent compensation or market services agreements with insurers; and an initiative to offset, to the extent possible, lost market services revenue by increasing brokerage commissions and fees.
As discussed above, our new business model includes an initiative whereby Marsh seeks to increase revenue through higher commissions and fees that are disclosed to its clients. Management expects that this incremental revenue will affect MMC’s results in 2006. Given the relatively recent launch of Marsh’s compensation initiative and the competitive challenges we currently face in the insurance brokerage market, it is difficult to predict the specific timing and amount of this revenue impact.
At December 31, 2005, the balance of accounts receivable related to accrued market services revenue earned prior to October 1, 2004 was approximately $130 million. MMC intends to collect outstanding MSA revenue earned prior to October 1, 2004, and is enforcing its contractual rights to collect amounts due. In December 2005, MMC initiated arbitration proceedings against certain insurance carriers for this purpose. However, there is no assurance that MMC will collect all amounts due. To the extent MMC does not collect accrued amounts, a charge to earnings would result.
As discussed in Note 16 to the consolidated financial statements, in connection with the January 2005 settlement agreement with the NYAG and NYSID, MMC established an $850 million policyholder fund. Policyholders representing 88% of the value of the fund, or approximately $750 million, opted to participate and have signed a release related to all matters alleged in the NYAG lawsuit and NYSID amended citation, except for claims which are based on, arise out of, or relate to the purchase or sale of MMC securities.
Annual savings of $375 million are expected when the 2005 plan is fully implemented. Results in 2005 reflect approximately $160 million of savings realized from the 2005 plan, with the remaining savings of approximately $215 million expected in 2006. All of the savings from the 2005 restructuring plan relate to the risk and insurance services segment. Results in 2005 also reflect savings of approximately $400 million resulting from the 2004 restructuring plan.
In May 2005, MMC sold the assets of MMC Capital, which had been MMC’s private equity management subsidiary, to Stone Point Capital LLC (“Stone Point”), an entity controlled by the former managers of MMC Capital for approximately $3 million. At the time of the asset sale, Stone Point assumed responsibility for management of the Trident Funds and other private equity funds previously managed by MMC Capital. MMC does not participate in the investment decisions or management of Stone Point or the private equity funds managed by Stone Point. MMC, through its subsidiary Risk Capital Holdings, continues to own investments in firms such as Ace Ltd., XL Capital Ltd. and Axis Capital Holdings, Ltd., as well as its investments in the Trident Funds and other funds managed by Stone Point, which have a total recorded value at December 31, 2005 of approximately $397 million. MMC no longer receives management fees or origination fees related to Stone Point’s asset management business, but may receive performance fees from Trident Funds II and III based on each fund’s aggregate rate of return. MMC continues to receive dividends and to recognize capital
appreciation or depreciation on the investments held by Risk Capital Holdings and has approximately $190 million of remaining capital commitments to funds managed by Stone Point.
Also in September 2005, MMC refinanced its headquarters building in New York by entering into a 30-year, $475 million mortgage loan agreement at a fixed annual rate of 5.7%. This replaced the existing $200 million, 9.8% mortgage due in 2009. The incremental proceeds, net of a $34 million prepayment charge, were used to pay down outstanding short-term debt.
Consolidated revenue for the year ended December 31, 2005 of $11.7 billion was 1% lower than in 2004. Reduced revenue in the risk and insurance services and investment management segments was offset by increases in the risk consulting & technology, and consulting segments. Revenue
decreased 6% on an underlying basis, which measures the change in revenue before the impact of acquisitions and dispositions and using constant currency rates. Excluding the impact of the elimination of MSAs, underlying revenue decreased 3%.
The impact of foreign currency translation, acquisitions and dispositions on MMC’s operating revenue by segments is as follows:
Underlying revenue measures the change in revenue before the impact of acquisitions and dispositions, using constant currency exchange rates. Underlying revenue for Insurance Services in 2005 decreased 13% in the twelve months, including a 7% decline related to market services agreements, and for the Risk and Insurance Services segment underlying revenue decreased 11% in the twelve months, including a 6% decline related to market services agreements.
Consolidated operating expenses decreased 3% from 2004 to 2005. This was primarily due to savings from restructuring initiatives and lower regulatory and other settlement expenses, partly offset by employee retention costs, the impact of acquisitions, higher benefits costs, and incremental costs, primarily related to stock options, resulting from the implementation of SFAS 123 (R). In addition, Putnam’s expenses in 2005 include a charge of $37 million for the estimated cost necessary to address issues relating to the calculation of certain amounts previously paid to Putnam by the Putnam mutual funds in the form of cost reimbursements to Putnam for transfer agency services relating to defined contribution operations. Expenses in 2004 include an $850 million charge related to the NYAG/NYSID settlement, costs of $224 million related to Putnam’s settlement and agreements with the SEC and Office of the Secretary of the Commonwealth of Massachusetts and restructuring costs of $337 million, partly offset by a $105 million credit from the final insurance settlement related to World Trade Center losses.
Consolidated revenue in 2004 increased 5% from 2003. The increase in revenue was primarily due to the impact of acquisitions and foreign exchange. Revenue decreased 3% on an underlying basis, primarily driven by a decrease in investment management revenue due to a decline in average assets under management and a decrease in risk and insurance services revenue resulting from a decision to no longer accept MSA revenue for placements made after September 30, 2004. These revenue declines were partially offset by an increase in underlying revenues in consulting due to higher demand for strategic advice.
Consolidated operating expenses increased 27% in 2004 over 2003, of which 10% was due to the effects of acquisitions and foreign exchange. Expenses in 2004 also include an $850 million charge related to the settlement agreement with the NYAG and the NYSID, charges of $224 million related to Putnam’s settlement agreements, costs of $337 million related to restructuring MMC’s businesses, severance of $108 million incurred prior to implementation of the restructuring plan in the fourth quarter and increased pension costs of $93 million. These costs were partially offset by a decrease in amortization expense for prepaid dealer commissions, a credit to compensation expense related to the settlement with Putnam’s former chief executive officer and a credit of $105 million from the final settlement with insurers for claims related to the September 11, 2001 attacks on the World Trade Center.
Marsh and Guy Carpenter are compensated for brokerage and consulting services primarily through fees paid by clients and commissions paid out of premiums charged by insurance and reinsurance companies. Commission rates vary in amount depending upon the type of insurance or reinsurance coverage provided, the particular insurer or reinsurer, the capacity in which the broker acts and negotiations with clients. Revenues are affected by premium rate levels in the insurance markets, since compensation is frequently related to the premiums paid by insureds. In many cases, compensation may be negotiated in advance on the basis of the estimated value of the services to be performed. Revenue is also affected by fluctuations in the amount of risk retained by insurance and reinsurance clients themselves and by increases or decreases in the value of the risks that have been insured, new and lost business, and the volume of business from new and existing clients.
In insurance services, underlying revenue decreased 13%. Excluding the impact of decreased market services revenue, underlying revenue decreased 6%, reflecting lower new business volume and lower commercial premium rates. The decrease in underlying revenue was most significant in the United States; however, the percentage decline improved in the fourth quarter compared with earlier quarters in 2005 despite continued premium rate declines in the commercial insurance marketplace.
Market services revenue declined from $521 million in 2004 to $119 million in 2005. Effective October 1, 2004, Marsh agreed to eliminate contingent compensation agreements with insurers. The
market services revenue recognized in 2005 relates to placements made prior to October 1, 2004. Marsh did not accrue a portion of market services revenue earned on those placements because it could not complete its normal process to determine that collection of these amounts was reasonably assured for certain contracts. Any such revenue earned prior to but not accrued at September 30, 2004 is recognized when collected or when confirmation of the amount of payment is received from the carriers. This resulted in the recognition of market services revenue of $119 million in 2005. It is expected that market services revenue in 2006 will be significantly lower than in 2005.
Expenses in 2005 include restructuring costs of $255 million related to the restructuring activities we initiated in 2005 (the “2005 Plan”), discussed below, as well as $78 million of costs related to employee retention programs, $88 million related to incremental regulatory and compliance costs, and higher benefit costs due to higher pension expense. Expenses in 2005 also include costs of approximately $2 million related to restructuring activities that began in the fourth quarter of 2004. The expense increases described above more than offset expense savings resulting from the restructuring activities undertaken in 2004 and 2005.
In 2005 charges of $255 million related to the 2005 Plan were incurred, primarily for severance and benefits related to staff reductions affecting approximately 2,600 employees and for future rent under non-cancelable leases. Annualized savings of approximately $375 million are expected in the risk and insurance services segment when the 2005 Plan is fully implemented in the first half of 2006. Of this amount, $160 million was realized in 2005 and the remaining $215 million of expected savings should be realized in 2006. Additional restructuring charges related to the 2005 plan of $50 million are expected to be incurred in 2006, largely in the first half of the year.
also included $8 million for employee retention programs. In connection with accounting guidance issued by the Institute of Chartered Accountants in the U.K., MMC reassessed its obligation to provide future claims handling and certain administrative services for brokerage clients in the European marketplace. MMC determined that under certain circumstances it is obligated to provide such services based on its current business practices and recorded a pre-tax charge of approximately $65 million to reflect the change in estimated cost to provide these services. The effects of acquisitions and foreign exchange increased expenses by 6%. On an underlying basis, and excluding the items previously discussed, expenses increased 4%.
The results of operations for the risk consulting and technology segment are presented below:
The year-to-year comparisons of the segment’s revenue, expense and operating income are significantly impacted by the fact that we acquired Kroll in July 2004. As a result, 2004 results include only six months of Kroll’s operations. Underlying revenue growth in 2005 was 21% due to growth in the technology services, corporate advisory and restructuring and background screening practices. Expenses include amortization of identified intangible assets of $58 million and $24 million in 2005 and 2004, respectively.
MMC conducts business in its Consulting segment through Mercer Inc. and its subsidiaries and affiliates. Mercer operates through two main business groups. Mercer Human Resource Consulting includes practice groups specializing in retirement and investment consulting, human resource services and investments, health and benefits and human capital. The Mercer Specialty Consulting Businesses focus on management consulting, organizational design and change management, and economic consulting.
Consulting revenue in 2005 increased 4% compared with 2004. On an underlying basis, revenue increased 3%, due to a 16% increase in Mercer’s specialty consulting businesses, partly offset by a 1% decline in human resources consulting. The increase in underlying revenue in specialty consulting reflects increases of 24% in management consulting, reflecting a 25% increase in Mercer Oliver Wyman, and 6% in economic consulting. Within the human resources consulting businesses, underlying revenue decreased 1%, reflecting a decline in the revenue associated with defined contribution plan assets previously administered by Putnam and transferred to Mercer effective January 1, 2005, increased pricing competition on traditional actuarial valuation services, and a decline in the employee benefits business transferred from Marsh to Mercer. These declines were partly offset by strong growth in human capital consulting.
rent under non-cancelable leases and lease termination costs as well as incremental expense of $7 million related to accelerated amortization or abandonment of leasehold improvements and other assets. Expenses in 2004 also included $4 million for employee retention programs. In addition, the impact of acquisitions and foreign exchange increased expense by 9%. On an underlying basis, and excluding the items discussed above, expenses increased 2%, primarily due to higher employee compensation and benefit costs.
MMC conducts business in its Investment Management segment through Putnam. Putnam provides investment management and related services through a broad range of investment products, including the Putnam Funds, its own family of mutual funds which are offered to individual and institutional investors. In support of the primary investment management business, Putnam subsidiaries provide other related services including transfer agency, underwriting, distribution, shareholder services, custodial, trustee and other fiduciary services. PFTC serves as transfer agent, dividend disbursing agent, registrar and custodian for the Putnam Funds and provides custody services to several external clients.
time) to firms that distribute shares of the Putnam Funds. These 12b-1 plans, and Rule 12b-1 fees paid by the Putnam Funds thereunder, are subject to annual renewal by the fund trustees and to termination by vote of the fund shareholders or by vote of a majority of the trustees who are not affiliated with Putnam.
The change in the service fee calculation mentioned above resulted in an increase in both service fee revenue and expenses of approximately $41 million during the second half of 2004.
Expenses for 2005 decreased 23% from 2004. Expenses in 2005 include a $37 million charge for the estimated costs necessary to address issues relating to the calculation of certain amounts previously paid to Putnam by the Putnam mutual funds in the form of cost reimbursements to Putnam for transfer agency services relating to defined contribution operations. Expenses in 2004 include a charge of $224 million related to Putnam’s regulatory settlements with the SEC and the Secretary of the Commonwealth of Massachusetts on market-timing issues. Other expense reductions in 2005 include lower compensation and severance costs, reduced costs related to regulatory issues, a decrease in amortization expense for prepaid dealer commissions and a decrease in restructuring charges. These reductions were partially offset by an increase in expenses previously borne by the funds under the prior transfer agent service agreement. Putnam’s expenses in 2004 include a $25 million credit to compensation expense associated with the settlement with Putnam’s former chief executive officer. Equity awards granted in September 2005 are expected to increase Putnam’s expenses by approximately $26 million in 2006.
$26 million, including $10 million related to a start-up hedge fund management business at MMC that was subsequently discontinued. Other significant items recorded in 2004 were severance of $57 million incurred prior to the fourth quarter restructuring, as well as incremental costs related to regulatory issues and repositioning Putnam, including legal and audit costs of $45 million and communications costs of $16 million. In 2004, Putnam discontinued the practice of directing brokerage commissions and virtually eliminated the use of soft dollars, causing expenses to increase by approximately $40 million. These increases were partially offset by a decrease in amortization expense for prepaid dealer commissions and a $25 million credit to compensation expense associated with the settlement with Putnam’s former chief executive officer.
Corporate expenses were $287 million in 2005 compared to $39 million in 2004. Expenses in 2005 include $64 million of incremental expenses, primarily related to stock options, resulting from the adoption of SFAS 123 (R) effective July 1, 2005. The incremental cost related to the implementation of SFAS 123 (R) is being charged to corporate and not to the operating segments in 2005 because this expense is excluded from the operating company results reviewed by MMC’s chief operating decision maker for performance measurement. In addition, $6 million was recorded for severance and other termination benefits related to the 2005 Plan, and a charge of $49 million was recorded in the first quarter related to the consolidation of office space in London. Because the office consolidation was initiated by MMC to benefit its London operations as a whole, the related charge was recorded in corporate. Corporate expenses also reflect $30 million of charges in connection with the resolution of certain litigation and related matters which are discussed in Note 16 to the consolidated financial statements.
expected under the 2005 plan with the remaining $215 million of savings expected to be realized in 2006. Savings under the 2004 plan were $400 million, substantially all of which was realized in 2005.
Restructuring costs in 2005 also include a $4 million increase to the estimated liability for future rent under non-cancellable leases related to the Johnson and Higgins and Sedgwick acquisitions.
Interest income was $47 million for 2005, an increase of $26 million from 2004. The increase in interest income reflected the combination of higher average corporate cash balances and generally higher average interest rates in 2005 compared with 2004. Interest expense was $332 million in 2005 compared to $219 million in 2004. The increase in interest expense is due to an increase in the amount of average outstanding debt resulting from the acquisition of Kroll and a $34 million charge in 2005 for the prepayment of the $200 million mortgage on MMC’s corporate headquarters in New York. In addition, interest expense in 2005 includes a write-off of $7 million of unamortized deferred financing costs related to MMC’s prior revolving credit agreements which were refinanced in December 2005.
Interest income earned on corporate funds was $21 million in 2004 compared with $24 million in 2003. Interest expense increased from $185 million in 2003 to $219 million in 2004. The increase in interest expense was due primarily to an increase in the amount of average outstanding debt, primarily due to the acquisition of Kroll.
MMC’s consolidated effective tax rate was 33.6% in 2005, a decrease from 59.4% in 2004. The decrease in the rate was primarily due to the impact in 2004 of the non-deductibility of Putnam’s $224 million in regulatory settlements and of a lower benefit related to Marsh’s $850 million settlement of the NYAG lawsuit; partially offset in 2005 by an increase in valuation allowances
MMC has funding requirements for the U.S. non-qualified and U.K. plans in 2005 of approximately $19 million and $94 million, respectively. MMC’s policy for funding its tax qualified defined benefit retirement plans is to contribute amounts at least sufficient to meet the funding requirements set forth in U.S. and applicable foreign law. There currently is no ERISA funding requirement for the U.S. qualified plan in 2005 or in 2006. Funding requirements for non-U.S. plans vary country by country.
In December 2005, MMC and certain of its foreign subsidiaries entered into a new $1.2 billion multi-currency revolving credit facility. Subsidiary borrowings under the facility are unconditionally guaranteed by MMC. The facility, which will expire in December 2010, replaces MMC’s $1.0 billion and $700 million revolving credit facilities which were scheduled to expire in 2007 and 2009, respectively. Certain of MMC’s foreign subsidiaries borrowed approximately $510 million under the new facility, primarily to fund the repatriation of accumulated earnings pursuant to the American Jobs Creation Act of 2004.
In September 2005, MMC returned to the public capital markets, issuing $550 million of 5.15% Senior Notes due 2010 and $750 million of 5.75% Senior Notes due 2015 (the “2005 Notes”). The net proceeds from the 2005 Notes were used to pay down the $1.3 billion term loan facility, discussed below.
Also in September 2005, MMC refinanced its headquarters building in New York city by entering into a 30-year, $475 million mortgage loan agreement at a fixed annual rate of 5.7%. This replaced the existing $200 million, 9.8% mortgage due in 2009. The incremental proceeds, net of a $34 million prepayment charge, were used to pay down outstanding short-term debt.
In July 2004, MMC issued $650 million of 5.375% Senior Notes due 2014 and $500 million of Floating Rate Notes due 2007. The proceeds from these notes were used to repay the commercial paper borrowings that were used to purchase Kroll.
MMC’s additions to fixed assets and capitalized software, which amounted to $345 million in 2005 and $376 million in 2004, primarily relate to computer equipment purchases, the refurbishing and modernizing of office facilities and software development costs.
MMC has committed to potential future investments of approximately $295 million in connection with various private equity funds and other MMC investments. Commitments of $112 million relate to Trident III, a private equity fund managed by Stone Point. MMC’s funding commitment to Trident III decreased by approximately $98 million upon the sale of the business of MMC Capital to the management team of Stone Point on May 31, 2005. MMC’s remaining commitments relate to other funds managed by Stone Point (approximately $82 million) and by Putnam through THL and THLPC (approximately $101 million). Trident III closed in December 2003, and has an investment period of six years. MMC does not control or know the timing of capital calls that Stone Point will make on Trident III’s investors. Typically, the investment period for funds of this type has been about four
Approximately $77 million was invested in 2005 related to all of the commitments discussed above.
MMC’s contractual obligations were comprised of the following as of December 31, 2005 (dollars in millions):
Certain of MMC’s revenues, expenses, assets and liabilities are exposed to the impact of interest rate changes and fluctuations in foreign currency exchange rates and equity markets.
The translated values of revenue and expense from MMC’s international risk and insurance services and consulting operations are subject to fluctuations due to changes in currency exchange rates. We periodically use forward contracts and options to limit foreign currency exchange rate exposure on net income and cash flows for specific, clearly defined transactions arising in the ordinary course of business.
MMC holds investments in public and private companies, as well as in certain private equity funds managed by Stone Point, including Trident II and Trident III. Publicly traded investments of $143 million are classified as available for sale under SFAS No. 115. Non-publicly traded investments of $54 million and $365 million are accounted for under APB Opinion No. 18, “The Equity Method of Accounting for Investments in Common Stock”, using the cost method and the equity method, respectively. Changes in value of trading securities are recognized in income when they occur. The investments that are classified as available for sale or that are not publicly traded are subject to risk of changes in market value, which if determined to be other than temporary, could result in realized impairment losses. MMC periodically reviews the carrying value of such investments to determine if any valuation adjustments are appropriate under the applicable accounting pronouncements.
MMC maintains qualified and non-qualified defined benefit pension plans for its U.S. and a variety of defined benefit and defined contribution plans for eligible non-U.S. employees. MMC’s policy for funding its tax qualified defined benefit retirement plans is to contribute amounts at least sufficient to meet the funding requirements set forth in U.S. and applicable foreign laws.
During 2005 MMC made changes to the U.S. pension plan that were designed to reduce MMC’s benefits costs going forward. The changes, which are effective January 1, 2006, include changing the benefit formula from a final average salary to a career average salary as well as a change in the calculation for early retirement benefits. These changes do not affect pension benefits earned as of December 31, 2005.
MMC’s tax rate reflects its income, statutory tax rates and tax planning in the various jurisdictions in which it operates. Significant judgment is required in determining the annual tax rate and in evaluating tax positions. Tax allowances are established when, despite the belief that the tax return positions are fully supportable, there is the potential that they may be successfully challenged. These allowances, as well as the related interest, are adjusted to reflect changing facts and circumstances.
SFAS 123(R) requires that cost resulting from all share-based transactions be recognized in the financial statements. Although the required effective date of adoption for SFAS 123(R) is the first annual reporting period that begins after June 15, 2005, MMC elected to adopt early. MMC adopted SFAS 123(R) using a modified prospective method of adoption, as permitted. Accordingly, prior period amounts have not been restated. Under this method, MMC is required to record compensation expense for all awards granted after the date of adoption and for the unvested portion of previously granted awards that remain outstanding at the date of adoption. The compensation cost recognized for awards granted prior to July 1, 2005 is based on the estimated grant date fair value and expense attribution methodology originally determined under SFAS 123.
Prior to the adoption of SFAS 123(R), MMC applied Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), to account for its stock-based awards. Under APB 25, MMC generally only recorded stock-based compensation expense related to restricted stock, restricted stock units, and deferred stock units. Under the provisions of APB 25, MMC was not required to recognize compensation expense for the cost of stock options or shares issued under the Company’s Employee Stock Purchase Plan (“ESPP”). With the adoption of SFAS 123(R), MMC will record stock-based compensation expense for the cost of stock options and, as described below, shares issued under the ESPP pertaining to the third quarter 2005. In 2005 MMC incurred incremental compensation costs of $64 million, primarily related to stock options as a result of the early adoption of SFAS 123(R) effective July 1, 2005. This incremental cost was recorded as part of corporate expenses.
As of December 31, 2005, there was $152 million of unrecognized compensation cost related to MMC’s option awards and $19 million of unrecognized compensation cost related to Putnam’s option awards. The weighted-average periods over which the costs are expected to be recognized are 1.5 years for MMC and 3.5 years for Putnam. Also as of December 31, 2005, there was $219 million of unrecognized compensation cost related to MMC’s restricted stock, restricted stock unit and deferred stock unit awards and $110 million of unrecognized compensation cost related to Putnam’s restricted stock awards.
Effective October 1, 2005, certain features in the MMC ESPP were changed so that shares of MMC common stock will be purchased at a price that is 95% of the average market price of the stock on each quarterly purchase date. In accordance with SFAS 123 (R), the ESPP is no longer compensatory beginning October 1, 2005.
See Note 9 to the consolidated financial statements for additional information regarding the adoption of SFAS 123(R).
New accounting pronouncements are discussed in Note 1 to MMC’s consolidated financial statements.
Nature of Operations: Marsh & McLennan Companies, Inc. (“MMC”), a global professional services firm, is organized based on the different services that it offers. Under this organizational structure, MMC operates in four principal business segments: risk and insurance services, risk consulting and technology, consulting and investment management. Marsh’s U.S. and U.K. employee benefits business has been combined with Mercer’s health and benefits business and is now managed by Mercer. The segment data and related disclosures throughout the Notes to MMC’s consolidated financial statements have been amended to reflect these organizational changes.
As discussed in Note 5, MMC sold its U.S.-based wholesale insurance broker, Crump Group, Inc., during the fourth quarter of 2005 and its interest in Sedgwick CMS Holdings, a provider of claims management and associated productivity services, on January 31, 2006. In connection with these dispositions, the account balances and activities of these entities were segregated and reported as discontinued operations in the accompanying consolidated financial statements of MMC at December 31, 2005 and 2004 and for each of the three years ended December 31, 2003 through 2005.
The risk consulting and technology segment provides various risk consulting and related risk mitigation services to corporate, government, institutional and individual clients. These risk consulting services fall into four main business groups: corporate advisory and restructuring services; consulting services; security; and technology services.
The investment management segment primarily provides securities investment advisory, distribution, and administrative services for institutional accounts and a group of publicly held investment companies.
Net uncollected premiums and claims and the related payables were $10.4 billion and $11.1 billion at December 31, 2005 and 2004, respectively. MMC is not a principal to the contracts under which the right to receive premiums or the right to receive reimbursement of insured losses arises. Net uncollected premiums and claims and the related payables are, therefore, not assets and liabilities of MMC and are not included in the accompanying consolidated balance sheets.
Risk Consulting and Technology compensation consists of fees paid by clients. Such fees are typically charged on an hourly, project, or fixed fee basis, and sometimes on a per service or per unit basis. Revenue is recognized as the services are performed pursuant to the applicable contractual arrangements. Revenue related to time and materials arrangements is recognized in the period in which the services are performed. Revenue from hourly or daily rate engagements is recognized as hours are expended at the agreed-upon billing amounts. Revenue related to fixed price arrangements is recognized based upon a proportional performance model. Revenue provided from credit services is recognized when the information is delivered to the customer, either electronically or by other means. The impact of any revisions in estimated total revenue and direct contract costs is recognized in the period in which they become known. Expenses incurred by professional staff in the generation of revenue are billed to the client and included in revenue. Kroll records either billed or unbilled accounts receivable based on case-by-case invoicing determinations. Software revenue is recognized when shipped, with the exception of royalty-based products, for which revenue is recognized as applicable royalty reports are received. Software revenue is stated net of estimated customer returns and allowances. Contingent fees are recognized as earned and upon satisfaction of all conditions to their payment.
Investment Management revenue is derived primarily from investment management fees and 12b-1 fees. Investment management fees are recognized as services are provided. Such fees are based on the net assets of the funds and are collected directly from the applicable funds. Mutual fund distribution fees are recognized over the period in which the fees can be charged to the related funds, or when a contingent deferred sales charge is triggered by a redemption. Sales of mutual fund shares are recorded on a settlement date basis and commissions thereon are recorded on a trade date basis. Fees resulting from achievement of specified performance thresholds are recorded when such levels are attained and such fees are not subject to forfeiture.
Depreciation of buildings, building improvements, furniture, and equipment is provided on a straight-line basis over the estimated useful lives of these assets. Leasehold improvements are amortized on a straight-line basis over the periods covered by the applicable leases or the estimated useful life of the improvement, whichever is less. MMC periodically reviews long-lived assets for impairment whenever events or changes indicate that the carrying value of assets may not be recoverable.
Investment Securities: MMC holds investments in both public and private companies, as well as certain private equity funds (managed by Stone Point and T.H. Lee) and seed shares for mutual funds. Publicly traded investments are classified as available for sale or trading securities in accordance with SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities” (“SFAS 115”), and carried at market value. Non-publicly traded investments are carried at cost in
Goodwill and Other Intangible Assets: Goodwill represents acquisition costs in excess of the fair value of net assets acquired. Goodwill is reviewed at least annually for impairment. MMC performs an annual impairment test for each of its reporting units during the third quarter of each year. Fair values of the reporting units are estimated using a market approach or a discounted cash flow model. Carrying values for the reporting units are based on balances from the prior quarter end and include directly identified assets and liabilities as well as an allocation of those assets and liabilities not recorded at the reporting unit level. Other intangible assets that are not deemed to have an indefinite life are amortized over their estimated lives and reviewed for impairment upon the occurrence of certain triggering events in accordance with applicable accounting literature.
Capitalized Software Costs: MMC capitalizes certain costs to develop, purchase, or modify software for the internal use of MMC. These costs are amortized on a straight-line basis over periods ranging from three to ten years. Costs incurred during the preliminary project stage and post implementation stage are expensed as incurred. Costs incurred during the application development stage are capitalized. Costs related to updates and enhancements are only capitalized if they will result in additional functionality. Computer software costs of $284 million and $281 million, net of accumulated amortization of $524 million and $413 million at December 31, 2005 and 2004, respectively, are included in Other assets in the consolidated balance sheets.
Derivative Instruments: All derivatives, whether designated in hedging relationships or not, are recorded on the balance sheet at fair value. If the derivative is designated as a fair value hedge, the changes in the fair value of the derivative and of the hedged item attributable to the hedged risk are recognized in earnings. If the derivative is designated as a cash flow hedge, the effective portions of changes in the fair value of the derivative are recorded in other comprehensive income and are recognized in the income statement when the hedged item affects earnings. Ineffective portions of changes in the fair value of cash flow hedges are recognized in earnings.
Variable Interest Entities: MMC through Putnam, manages $3.4 billion in the form of Collateralized Debt Obligations (“CDO”) and Collateralized Bond Obligations (“CBO”). Separate limited liability companies were established to issue the notes and to hold the underlying collateral, which consists of high-yield bonds and other securities. Putnam serves as the collateral manager for the CDOs and CBOs. The maximum loss exposure related to the CDOs and CBOs is limited to Putnam’s investment totaling $7.3 million, reflected in Long-term investments in the consolidated balance sheets at December 31, 2005. MMC has concluded it is not the primary beneficiary of these structures under FIN 46 “Consolidation of Variable Interest Entities.”
Concentrations of Credit Risk: Financial instruments which potentially subject MMC to concentrations of credit risk consist primarily of cash and cash equivalents, commissions and fees receivable and insurance recoverables. MMC maintains a policy providing for the diversification of cash and cash equivalent investments and places its investments in an extensive number of high quality financial institutions to limit the amount of credit risk exposure. Concentrations of credit risk with respect to receivables are generally limited due to the large number of clients and markets in which MMC does business, as well as the dispersion across many geographic areas.
In June 2005, the FASB ratified its consensus EITF Issue 04-05, “Determining Whether a General Partner, or the General Partners as a Group, Controls a Limited Partnership or Similar Entity When
the Limited Partners Have Certain Rights” (Issue 04-05). The effective date for Issue 04-05 is June 29, 2005 for all new or modified partnerships and January 1, 2006 for all remaining partnerships for the applicable provisions. MMC is currently evaluating the impact of the adoption of the provisions of EITF 04-05 on its financial position and results of operations; however, the adoption of EITF 04-05 is not expected to have a material impact on MMC’s financial statements.
In September 2005, the Company contributed 8 million unregistered shares of MMC stock valued at $205 million, to the U.S. qualified retirement plan.
During 2005, MMC made nine acquisitions, for total purchase consideration of $68 million. The allocation of purchase consideration resulted in acquired goodwill of $45 million as of December 31, 2005. Estimated fair values of assets acquired and liabilities assumed are subject to adjustment when purchase accounting is finalized.
In May 2005, MMC sold the assets of MMC Capital, its private equity manager, to Stone Point Capital LLC, a company controlled by the former managers of MMC Capital for approximately $3 million. Stone Point has assumed responsibility for management of the Trident Funds and other private equity funds previously managed by MMC Capital. MMC does not participate in the investment decisions or management of Stone Point or the private equity funds managed by Stone Point. MMC continues to own direct investments in insurance and financial services companies, including Ace Ltd., XL Capital Ltd and Axis Capital Holdings Ltd., as well as its investments in the Trident Funds and other funds managed by Stone Point.
In July 2004, MMC acquired Kroll, the world’s leading risk mitigation services firm in an all-cash $1.9 billion transaction in which Kroll shareholders received $37 for each outstanding share of Kroll common stock owned. The estimated fair values of assets and liabilities recorded in the financial statements are as follows: net tangible assets of $46 million, identified intangible assets of $336 million, and goodwill of $1.6 billion.
MMC is required to assess goodwill and any indefinite-lived intangible assets for impairment annually or more frequently if circumstances indicate impairment may have occurred. In connection with MMC’s annual impairment tests in the third quarter of 2005, it was determined that such assets were not impaired.
Goodwill allocable to each of MMC’s reportable segments is as follows: Risk and Insurance Services $3.7 billion; Risk Consulting and Technology $1.7 billion; Consulting $1.7 billion; and Investment Management $125 million.
The goodwill balance at December 31, 2005 and 2004 includes approximately $121 million and $119 million, respectively, of equity method goodwill.
Net of valuation allowance of $9 million and $10 million, respectively.
Net of valuation allowance of $68 million and $41 million, respectively.
The American Jobs Creation Act (the ”Act“), adopted on October 22, 2004, provided for a special one-time tax deduction, or dividend received deduction, of 85% of qualifying foreign earnings that are repatriated in either a company’s last tax year that began before the enactment date or the first tax year that begins during the one-year period beginning on the enactment date. In the fourth quarter of 2005, MMC recorded an income tax benefit of $8 million, attributable to the repatriation of approximately $585 million of qualifying earnings under the provisions of the Act. The $8 million tax benefit resulted from the reversal of deferred tax liabilities previously provided under SFAS No. 109, which were in excess of the tax liabilities from repatriation of these qualifying earnings.
The target asset allocation for the U.S. plans is 70% equities and 30% fixed income, and for the U.K. plans, which comprise approximately 85% of non-U.S. plan assets, is 58% equities and 42% fixed income. As of the measurement date, the actual allocation of assets for the U.S. plan was 74% to equities and 26% to fixed income, and for the U.K. plans was 57% to equities and 43% to fixed income. The assets of the company’s defined benefit plans are well-diversified and are managed in accordance with applicable laws and with the goal of maximizing the plans’ real return within acceptable risk parameters. MMC uses threshold based portfolio rebalancing to ensure the actual portfolio remains consistent with target allocations.
The following schedules provide information concerning MMC’s U.S. defined benefit pension plans and postretirement benefit plans:
The assumed health care cost trend rate for Medicare eligibles was approximately 11.5% in 2005 gradually declining to 5% in the year 2019, and the rate for non-Medicare eligibles was 10.5% in 2005 gradually declining to 5.0% in 2017. Assumed health care cost trend rates have a significant effect on the amounts reported for the U.S. health care plans. A one percentage point change in assumed health care cost trend rates would have the following effects:
MMC’s estimated future benefit payments for its pension and postretirement benefits at December 31, 2005 are as follows:
As described below, MMC maintains multiple share-based payment arrangements under which employees are awarded grants of restricted stock, stock options and other forms of stock-based payment arrangements. Prior to July 1, 2005, MMC accounted for these awards under the recognition and measurement provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”) as permitted under SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”). Accordingly, compensation cost for stock options was not recognized as long as the stock options granted had an exercise price equal to the market price of MMC’s common stock on the date of grant. In addition, MMC’s stock purchase plan was not considered compensatory under APB 25 and, therefore, no expense was required to be recognized. The effect of forfeitures on restricted stock, restricted stock units and deferred stock units was recognized when such forfeitures occurred and dividend equivalents on restricted stock units and deferred stock units were expensed in the period incurred. Effective July 1, 2005, MMC adopted the fair value recognition provisions of SFAS No. 123 (revised 2004), “Share-Based Payment,” (“SFAS 123 (R)”) using the modified-prospective transition method. Under this transition method, compensation cost recognized beginning July 1, 2005 includes compensation cost for all share-based payment arrangements granted prior to, but not yet vested as of July 1, 2005, based on the grant date fair value and expense attribution methodology determined in accordance with the original provisions of SFAS 123, and compensation cost for all share-based payment arrangements granted subsequent to June 30, 2005, based on the grant-date fair value and expense attribution methodology determined in accordance with the provisions of SFAS 123 (R). In addition, MMC’s stock purchase plan was considered compensatory during the third quarter of 2005, the effect of forfeitures on restricted stock, restricted stock units and deferred stock units was required to be estimated when recognizing compensation cost and dividend equivalents on restricted stock units and deferred stock units expected to vest were required to be classified as dividends. Results for periods prior to July 1, 2005 have not been restated.
If compensation cost for all MMC’s share-based payment arrangements had been recognized based on the fair value method prescribed by SFAS 123 for the periods prior to the adoption of SFAS 123 (R), MMC’s net income and net income per share in 2005, 2004 and 2003 would have been reduced to the pro forma amounts indicated in the table below.
conditions thereof. The right of an employee to receive an award may be subject to performance conditions as specified by the Compensation Committee. The 2000 Plans contain provisions which, in the event of a change in control of MMC, may accelerate the vesting of the awards. Awards relating to not more than 80,000,000 shares of common stock may be made over the life of the 2000 Employee Plan plus shares remaining unused under pre-existing employee stock plans. Awards relating to not more than 8,000,000 shares of common stock may be made over the life of the 2000 Executive Plan plus shares remaining unused under pre-existing executive stock plans.
The estimated fair value of options granted with a performance-based triggering event was calculated using a binomial valuation model. The factors and assumptions used in this model are similar to those utilized in the Black-Scholes option pricing valuation model except that the risk-free interest rate is based on the U.S. Treasury zero-coupon yield curve over the contractual term of the option, and the expected life is calculated by the model.
The assumptions used in the binomial option pricing valuation model for options granted during 2005 are as follows:
A summary of the status of MMC’s stock option awards as of December 31, 2005 and changes during the year then ended is presented below:
Restricted Stock: Restricted shares of MMC’s common stock may be awarded under MMC’s incentive and stock award plans and are subject to restrictions on transferability and other restrictions, if any, as the Compensation Committee may impose. The Compensation Committee may also determine when and under what circumstances the restrictions may lapse and whether the participant receives the rights of a stockholder, including, without limitation, the right to vote and receive dividends. Unless the Compensation Committee determines otherwise, restricted stock that is still subject to restrictions is forfeited upon termination of employment. Shares that have been granted generally become unrestricted at the earlier of: (1) January 1 of the eleventh year following the grant or (2) the later of the recipient’s normal or actual retirement date. Some restricted shares granted in 2004 cliff vest in seven years. Restricted shares granted in 2005 generally vest over 3 to 5 years.
A summary of the status of MMC’s restricted stock awards as of December 31, 2005 and changes during the period then ended is presented below:
The weighted-average grant-date fair value of MMC’s restricted stock units granted during the years ended December 31, 2004 and 2003 was $42.96 and $43.22, respectively. The total fair value of MMC’s restricted stock units distributed during the years ended December 31, 2005, 2004 and 2003 was $18.0 million, $27.5 million and $21.6 million, respectively.
Deferred stock units may be awarded under MMC’s incentive and stock award plans. The Compensation Committee determines the restrictions on such units, when the restrictions lapse, when the units vest and are paid, and upon what terms the units are forfeited. The cost of these awards is amortized over the vesting period, which is generally three years.
In May 1999, MMC’s stockholders approved an employee stock purchase plan (the “1999 Plan”) to replace the 1994 Employee Stock Purchase Plan (the “1994 Plan”) which terminated on September 30, 1999 following its fifth annual offering. Effective October 1, 2004, certain features in these plans were changed. Under these new features, shares are purchased four times during the plan year (instead of one annual purchase on the last business day of the plan year as was done previously). Also, for the Plan year from October 1, 2004 through September 30, 2005, shares of MMC common stock were purchased at a price that is 85% of the average market price on each quarterly purchase date. Beginning October 1, 2005, shares are purchased at a price that is 95% of the average market price on each quarterly purchase date. Prior to October 1, 2004, shares were purchased at a price based on 85% of the lower of the market price at the beginning or end of the plan year. Under the 1999 Plan, no more than 40,000,000 shares of MMC’s common stock plus the remaining unissued shares in the 1994 Plan may be sold. Employees purchased 4,004,716 shares during the year ended December 31, 2005. At December 31, 2005, 24,180,209 shares were available for issuance under the 1999 Plan. In July 2002, the MMC Board of Directors approved an additional 5,000,000 shares of common stock for issuance under the 1995 MMC Stock Purchase Plan for International Employees (the “International Plan”). With the additional shares under the International Plan, no more than 8,000,000 shares of MMC’s common stock may be sold. Employees purchased 1,212,110 shares during the year ended December 31, 2005. At December 31, 2005, 750,777 shares
were available for issuance under the International Plan. Based on the terms in effect as of October 1, 2005, the plan is considered non-compensatory under SFAS 123(R).
Under the Putnam Investments Equity Partnership Plan, as amended, (the “Equity Plan”) Putnam is authorized to grant or sell shares to certain employees of Putnam or its subsidiaries restricted common shares of Putnam Investments Trust, the parent of Putnam Investments, LLC (“Class B Common Shares”) and grant options to acquire the Class B Common Shares. Such awards or options generally vest over a period of two to four years. Holders of Putnam Class B Common Shares are not entitled to vote and have no rights to convert their shares into any other securities of Putnam. Awards of restricted stock and/or options may be made under the Equity Plan with respect to a maximum of 16,500,000 shares of Class B Common Shares, which would represent approximately 16% of the outstanding shares on a fully diluted basis, as increased for certain issuances of Putnam Class A Common Stock to MMC.
On September 29, 2005, certain eligible participants in the Putnam Investments Trust Equity Partnership Plan participated in a voluntary option exchange pursuant to the terms of the Offer to Exchange Certain Outstanding Options (the “Offer to Exchange”), dated August 30, 2005. Under the Offer to Exchange, holders of options on Class B shares meeting certain eligibility requirements could elect to exchange those options for restricted shares with the equivalent value of the exchanged options, as determined using the Black-Scholes valuation model. As a result of the Offer to Exchange, a total of 2,201,850 options were retired and 139,388 restricted shares were issued at a grant price of $28.26 per share, which vest on September 1, 2007.
A summary of the status of Putnam’s stock option awards as of December 31, 2005 and changes during the period then ended is presented below:
The weighted-average grant-date fair value of Putnam’s option awards granted for the years ended December 31, 2005, 2004 and 2003 was $4.88, $4.87 and $6.55, respectively. No options were exercised in 2005 and 2004. During 2003, 54,850 options were exercised.
Restricted Stock: Restricted shares of Putnam’s common stock which may be awarded or sold under Putnam’s Equity Partnership Plan are subject to restrictions on transferability and other restrictions, if any, as the Compensation Committee may impose. Unless the Compensation Committee determines otherwise, restricted stock that is still subject to restrictions is forfeited upon termination of employment. All restricted stock granted or sold to a participant vests in accordance with the vesting schedule set forth in the applicable award agreement, provided that the Compensation Committee has the right to accelerate the vesting of any restricted stock.
A summary of the status of Putnam’s restricted stock awards as of December 31, 2005 and changes during the period then ended is presented below:
The consolidated statements of income include net rental costs of $470 million, $485 million and $450 million for 2005, 2004 and 2003, respectively, after deducting rentals from subleases ($22 million in 2005, $20 million in 2004 and $21 million in 2003).
At December 31, 2005, the aggregate future minimum rental commitments under all noncancelable operating lease agreements are as follows:
The weighted average interest rates on MMC’s outstanding short-term debt at December 31, 2005 and 2004 are 6% and 3%, respectively.
In December 2005, MMC and certain of its foreign subsidiaries entered into a new $1.2 billion multi-currency revolving credit facility. Subsidiary borrowings under the facility are unconditionally guaranteed by MMC. The facility expires in December 2010. It replaces MMC’s $1.0 billion and $700 million revolving credit facilities, which were scheduled to expire in 2007 and 2009, respectively. The interest rate on this facility varies based upon the level of usage of the facility and MMC’s credit ratings. The facility requires MMC to maintain certain coverage and leverage ratios tested quarterly. Prior to year-end, certain of MMC’s foreign subsidiaries borrowed approximately $510 million under the facility. Proceeds from the borrowings were used primarily to fund the repatriation of accumulated earnings pursuant to the American Jobs Creation Act of 2004.
In July 2004, MMC purchased Kroll, Inc. in an all-cash transaction totaling approximately $1.9 billion. The purchase was initially funded with commercial paper borrowings. To support these borrowings, MMC negotiated a new $1.5 billion, one-year revolving credit facility. Following the acquisition, MMC issued $650 million of 5.375% Senior Notes due 2014 and $500 million of Floating Rate Notes due 2007. The proceeds from these notes were used to repay a portion of MMC’s commercial paper borrowings. Under the terms of the agreement of the above-mentioned credit facility, the amount of the facility was reduced by the proceeds from the issuance of the Senior Notes and Floating Rate Notes of approximately $1.15 billion. The available revolving credit facility totaled $355 million after the issuance of these notes and in December 2004 was replaced by the Term Loan Facility.
Long-term Investments: Long-term investments primarily consist of available for sale securities recorded at quoted market prices. MMC also has certain additional long-term investments, for which there are no readily available market prices, amounting to $54 million and $75 million at December 31, 2005 and 2004, respectively, which are carried on a cost basis. MMC monitors these investments for impairment and makes appropriate reductions in carrying values when necessary.
MMC also holds investments in certain private equity fund partnerships which are accounted for using the equity method. MMC’s share of gains from such investments, and from trading securities and investments held at cost, of $29 million, $98 million and $66 million in 2005, 2004 and 2003, respectively, is included in Investment income (loss) in the consolidated statements of income.
Short-term and Long-term Debt: The fair value of MMC’s short-term debt, which consists primarily of commercial paper borrowings and bank loans, approximates its carrying value. The estimated fair value of MMC’s long-term debt is based on discounted future cash flows using current interest rates available for debt with similar terms and remaining maturities.
Additional costs of approximately $50 million related to the 2005 restructuring are expected to be incurred after December 31, 2005. The expenses associated with these initiatives are included in Compensation and Benefits or in Other operating expenses in the consolidated statements of income based on the nature of the item. Liabilities associated with these initiatives are classified in the consolidated balance sheets as Accounts payable, Other liabilities, or Accrued salaries, depending on the nature of the items.
On September 18, 1997, MMC’s Board of Directors approved the extension of the benefits afforded by MMC’s previously existing rights plan by adopting a new stockholder rights plan, which was amended and restated as of January 20, 2000 and further amended on June 7, 2002. Under the current plan, Rights to purchase stock, at a rate of one Right for each common share held, were distributed to shareholders of record on September 29, 1997 and automatically attach to shares issued thereafter. Under the plan, the Rights generally become exercisable after a person or group (i) acquires 15% or more of MMC’s outstanding common stock or (ii) commences a tender offer that would result in such a person or group owning 15% or more of MMC’s common stock. When the Rights first become exercisable, a holder will be entitled to buy from MMC a unit consisting of one six-hundredth of a share of Series A Junior Participating Preferred Stock of MMC at a purchase price of $200. If any person acquires 15% or more of MMC’s common stock or if a 15% holder acquires MMC by means of a reverse merger in which MMC and its stock survive, each Right not owned by a 15% or more shareholder would become exercisable for common stock of MMC (or in certain circumstances, other consideration) having a market value equal to twice the exercise price of the Right. The Rights expire on September 29, 2007, except as otherwise provided in the plan.
subsidiaries and affiliates that hold New York insurance licenses to appear at a hearing and show cause why regulatory action should not be taken against them. The Amended Citation charged the respondents with the use of fraudulent, coercive and dishonest practices; violations of Section 340 of the New York General Business Law relating to contracts or agreements for monopoly or in restraint of trade; and violations of the New York Insurance Law that resulted from unfair methods of competition and unfair or deceptive acts or practices. The Amended Citation contemplated a number of potential actions the NYSID could take, including the revocation of licenses held by the respondents.
On January 30, 2005, MMC and Marsh entered into an agreement (the “Settlement Agreement”) with NYAG and the NYSID to settle the NYAG Lawsuit and the Amended Citation.
Pursuant to the Settlement Agreement, Marsh agreed to establish a fund of $850 million (the “Fund”), payable over four years, for Marsh policyholder clients. A copy of the Settlement Agreement was previously disclosed as an exhibit to MMC’s Current Report on Form 8-K dated January 31, 2005. As a general matter, U.S. policyholder clients who retained Marsh to place insurance between 2001 and 2004 that resulted in Marsh receiving market service revenue were eligible to receive a pro rata distribution from the Fund, provided that they notified Marsh of their decision to participate in the Fund by September 20, 2005. Approximately 70,000 eligible policyholders across the United States have elected to receive a distribution, and will receive approximately $750 million of the $850 million made available under the Fund. Clients who have voluntarily elected to participate in the Fund have tendered a release relating to the matters alleged in the NYAG Lawsuit and the Amended Citation, except for claims which are based upon, arise out of or relate to the purchase or sale of MMC securities. No portion of the Fund represents a fine or penalty against Marsh and no portion of the Fund will revert to Marsh.
Marsh also agreed to undertake, among other things, the following business reforms within 60 days of the date of the Settlement Agreement:
Marsh will accept compensation for its services in placing, renewing, consulting on or servicing any insurance policy only by a specific fee paid by the client; or by a specific percentage commission on premium to be paid by the insurer; or a combination of both. The amount of such compensation must be fully disclosed to, and consented to in writing, by the client prior to the binding of any policy;
Marsh must give clients prior notification before retaining interest earned on premiums collected on behalf of insurers;
In placing, renewing, consulting on or servicing any insurance policy, Marsh will not accept from or request of any insurer any form of contingent compensation;
Marsh will implement company-wide written standards of conduct relating to compensation and will train relevant employees in a number of subject matters, including business ethics, professional obligations, conflicts of interest, anti-trust and trade practices compliance, and record keeping.
The Settlement Agreement further provides that Marsh reserves the right to request that NYAG and the NYSID modify the Settlement Agreement if compliance with any portion thereof proves impracticable. On April 28, 2005, the parties entered into Amendment No. 1 to the Settlement Agreement, which modifies the scope of the application of the business reforms provisions with respect to MMC operations outside the United States. This amendment was included as an exhibit to MMC’s Quarterly Report on Form 10-Q dated March 31, 2005. In addition, in connection with MMC’s October 2005 sale of Crump Group, Inc., its U.S.-based wholesale broking business, the parties entered into Amendment No. 2 to the Settlement Agreement, dated September 27, 2005, for the purpose of clarifying that the Settlement Agreement shall not apply to Crump Group, Inc. following such sale.
As of February 24, 2006, numerous lawsuits have been commenced against MMC, one or more of its subsidiaries, and their current and former directors and officers, relating to matters alleged in the NYAG Lawsuit, including the following:
On January 21, 2005, the State of Connecticut brought an action against Marsh in the Connecticut Superior Court. The State alleged that Marsh violated Connecticut’s Unfair Trade Practices Act by accepting $50,000 from an insurer in connection with a placement Marsh made for Connecticut’s Department of Administrative Services (the “DAS”). On September 21, 2005, the State amended its complaint. In addition to its allegations about the DAS transaction, the amended complaint asserts that Marsh violated Connecticut’s antitrust and unfair trade practices acts by engaging in bid rigging and other improper conduct that purportedly damaged particular customers and inflated insurance premiums. The State also claims that Marsh improperly accepted contingent commissions and concealed these commissions from its clients. Marsh has moved to stay this action pending the outcome of the MDL Cases.
Four purported class actions on behalf of individuals and entities who purchased or acquired MMC’s publicly-traded securities during the purported class periods are pending in the United States District Court for the Southern District of New York. On January 26, 2005, the Court issued an order consolidating these complaints into a single proceeding and appointing co-lead plaintiffs and co-lead counsel to represent the purported class. On April 19, 2005, the co-lead plaintiffs filed a lengthy consolidated complaint. The consolidated complaint names MMC, Marsh, Inc., MMC’s independent registered public accounting firm and twenty present and former directors and officers of MMC and certain affiliates as defendants. The purported class period in the consolidated complaint extends from October 14, 1999 to October 13, 2004.
The consolidated complaint includes factual allegations similar to those asserted in the NYAG Lawsuit, as well as factual allegations concerning alleged misconduct at Mercer and Putnam and alleged conflicts of interest associated with MMC Capital. The consolidated complaint includes claims for violations of Sections 10(b), 18 and 20(a) of the Securities Exchange Act of 1934 and Sections 11 and 15 of the Securities Act of 1933, based on MMC’s allegedly false or incomplete disclosures. In addition, the consolidated complaint includes claims for common law fraud and deceit, negligent misrepresentation, and violations of state securities laws, which are being asserted on behalf of a subclass of municipal and state pension funds. The consolidated complaint seeks unspecified compensatory damages and attorneys’ fees. All defendants have filed motions to dismiss the consolidated complaint.
this derivative action have agreed that it will also remain stayed pending resolution of the motions to dismiss the Southern District of New York securities class action.
MMC has also received six demand letters from stockholders asking the MMC Board of Directors to take appropriate legal action against those directors and officers who are alleged to have caused damages to MMC based on the facts alleged in the NYAG Lawsuit. MMC has advised the stockholders making demands that their demands are under consideration by the MMC Board of Directors. M.F. Henry, one of the stockholders who had made such a demand, subsequently filed a shareholder derivative complaint, which has been consolidated in the Federal Derivative Action. Henry has since amended her complaint to assert individual claims against certain current and former directors and officers of MMC, alleging violations of the federal securities laws, including Sections 10(b), 14(a) and 20 of the Securities Exchange Act of 1934. Lead counsel to plaintiffs and counsel to defendants in the Federal Derivative Action have submitted a stipulation seeking to stay the Federal Derivative Action in favor of the Delaware Derivative Action. Henry has objected to the proposed stay; the court is reviewing the matter.
Twenty purported class actions alleging violations of the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), have been filed in the United States District Court for the Southern District of New York on behalf of participants and beneficiaries of the Marsh & McLennan Companies Stock Investment Plan (the “Plan”). On February 9, 2005, the Court issued an order consolidating these complaints into a single proceeding and appointing co-lead plaintiffs and lead counsel to represent the purported class. Plaintiffs filed a consolidated class action complaint (the “Consolidated Complaint”) on June 15, 2005, naming MMC and various current and former employees, officers and directors as defendants. The Consolidated Complaint alleges, among other things, that in view of the purportedly fraudulent bids and the receipt of contingent commissions pursuant to the market service agreements referred to above, the defendants knew or should have known that the investment of the Plan’s assets in MMC stock was imprudent. The Consolidated Complaint also asserts that certain defendants failed to provide the Plan’s participants with complete and accurate information about MMC stock, that certain defendants responsible for selecting, removing and monitoring other fiduciaries did not comply with ERISA, and that MMC knowingly participated in other defendants’ breaches of fiduciary duties. The Consolidated Complaint seeks, among other things, unspecified compensatory damages, injunctive relief and attorneys’ fees and costs. The amount of Plan assets invested in MMC stock at October 13, 2004 (immediately prior to the announcement of the NYAG Lawsuit) was approximately $1.2 billion. The Consolidated Complaint alleges that during the purported class period, which extends from July 1, 2000 until January 31, 2005, MMC stock fell from $52.22 to $32.50. MMC and the other defendants have filed a motion to dismiss the Consolidated Complaint.
Both the Delaware Chancery Court derivative action and the AIG Federal Suit are stayed by orders of the respective courts. In addition, plaintiffs’ counsel in a federal securities fraud purported class action against AIG and others (to which MMC is not a party) relating to price declines in AIG’s stock has indicated that plaintiffs may assert claims against MMC in that action.
proceedings or other regulatory actions, fines or penalties, including, without limitation, actions to revoke or suspend their insurance broking licenses.
In 2003 and 2004, Putnam entered into settlements with the Securities and Exchange Commission (the “SEC”) and the Commonwealth of Massachusetts (the “Massachusetts Securities Division”) with respect to excessive short-term trading by certain former Putnam employees in shares of the Putnam mutual funds (the “Putnam Funds”). Under the settlements, Putnam paid in 2004 a total of $110 million ($10 million in restitution and $100 million in civil fines and penalties). Putnam also agreed to undertake a number of remedial compliance actions and to engage an independent assessment consultant (the “IAC”) to determine the amount of restitution that Putnam would be required to pay to make investors in the Putnam Funds whole for losses attributable to the short-term trading.
In late 2003 and continuing through the Spring of 2005, Putnam received document subpoenas and/or requests for information from various other federal and state regulatory and enforcement authorities inquiring into, among other things, the matters that were the subject of the proceedings by the SEC and the Massachusetts Securities Division as described above.
On December 30, 2005, based upon the results of its investigation, the SEC filed an action in the United States District Court for the District of Massachusetts against six former PFTC personnel. In a press release relating to the filing, the SEC said it would not bring any enforcement action against PFTC because of its cooperation with the SEC’s investigation.
During the course of the SEC’s investigation of these matters, issues arose relating to the calculation of certain cost reimbursements paid by the Putnam Funds in previous years to Putnam for transfer agent services relating to defined contribution operations. These issues are being reviewed by Putnam and the Trustees of the Putnam Funds and, pending the completion of this review, Putnam has recorded charges totaling $37 million for the estimated cost (including interest) that it believes will be necessary to address these issues. Putnam also has briefed the SEC, the Federal Deposit Insurance Corporation (the “FDIC”) and other governmental authorities on this matter.
In October 2004 the Department of Labor indicated its preliminary belief that Putnam may have violated certain provisions of ERISA related to investments by the Putnam Profit Sharing Retirement Plan and certain discretionary ERISA accounts in Putnam Funds that pay 12b-1 fees. Putnam has made a written submission to the Department of Labor addressing these issues.
The Fort Worth office of the SEC has stated that it does not believe that the previous structure of the Putnam Research Fund’s investment management fee, which included a performance component in addition to a base fee, fully complied with SEC regulations concerning performance fees. In order to resolve this matter, Putnam submitted an offer of settlement to the SEC’s Fort Worth office on December 30, 2005. The offer of settlement, pursuant to which Putnam would neither admit nor deny wrongdoing, remains subject to acceptance by the SEC. On November 18, 2005, in connection with the proposed
Starting in January 2004, the NASD has made several requests for information relating to reimbursement of expenses to participants at certain sales meetings (during the period from 2001 to 2004). Putnam has fully responded to these requests and is cooperating with the NASD’s investigation.
MMC, Putnam, and various of their current and former officers, directors and employees have been named as defendants in two consolidated amended complaints that purportedly assert class action claims under ERISA (the “ERISA Actions”). The ERISA Actions, which have been brought by participants in MMC’s Stock Investment Plan and Putnam’s Profit Sharing Retirement Plan, allege, among other things, that, in view of the market-timing trading activity that was allegedly allowed to occur at Putnam, the defendants knew or should have known that the investment of the plans’ funds in MMC stock and Putnam’s mutual fund shares was imprudent and that the defendants breached their fiduciary duties to the plan participants in making these investments. The ERISA Actions seek unspecified damages and equitable relief, including the restoration to the plans of all profits the defendants allegedly made through the use of the plans’ assets, an order compelling the defendants to make good to the plans all losses to the plans allegedly resulting from defendants’ alleged breaches of their fiduciary duties, and the imposition of a constructive trust on any amounts by which any defendant allegedly was unjustly enriched at the expense of the plans.
Commencing on July 9, 2004, PFTC, as well as Cardinal Health and a number of other Cardinal-related fiduciaries, were named as defendants in a litigation pending in the United States District Court for the Southern District of Ohio relating to the allegedly imprudent investment of retirement plan assets in Cardinal stock in the Cardinal Health Profit Sharing,
Retirement and Savings Plan and its predecessor plans. PFTC was a directed trustee of this plan. At a hearing on February 10, 2006, the judge stated that he expected to dismiss the complaint with respect to PFTC and to issue a written opinion within two to three weeks.
The SEC is examining the practices, compensation arrangements and disclosures of consultants that provide services to sponsors of pension plans or other market participants, including among other things, practices with respect to advice regarding the selection of investment advisors to manage plan assets. On March 22, 2005, Mercer Investment Consulting, Inc. (“Mercer IC”) received a letter from the SEC outlining its findings and requesting that Mercer IC improve certain disclosures and procedures. On April 22, 2005, Mercer IC responded to that letter, indicating that it had made or will make the improvements requested by the SEC. Since that time, Mercer IC received separate letters from the Boston office of the Enforcement Division of the SEC requesting additional information. Mercer IC has responded to these requests and continues to cooperate with the SEC.
On December 21, 2004, MMC received a request for information pursuant to a formal investigation commenced by the SEC. The request for information seeks documents
MMC and its subsidiaries are subject to a significant number of other claims, lawsuits and proceedings in the ordinary course of business. Such claims and lawsuits consist principally of alleged errors and omissions (known as E&O’s) in connection with the performance of professional services. Some of these claims seek damages, including punitive damages, in amounts that could, if awarded, be significant. MMC provides for these exposures by a combination of third-party insurance and self-insurance. For policy years 2000-2001 and prior, substantial third-party insurance is in place above the annual aggregate limits of MMC’s self-insured retention, which was $50 million annually for policy years 1998-1999, 1999-2000 and 2000-2001. To the extent that expected losses exceed MMC’s self-insured retention in any policy year, MMC records an asset for the amount that MMC expects to recover under its third-party insurance programs. The policy limits and coverage terms of the third-party insurance vary to some extent by policy year, but MMC is not aware of coverage defenses or other obstacles to coverage that would limit recoveries in those years in a material amount. In policy years subsequent to 2000-2001, the availability of third-party insurance has declined substantially which has caused MMC to assume increasing levels of self-insurance. MMC utilizes internal actuarial and other estimates, and case level reviews by inside and outside counsel, to establish loss reserves which it believes are adequate to provide for this self-insured retention. These reserves are reviewed quarterly and adjusted as developments warrant.
meet its obligations under those policies, a claimant may seek to recover from MMC under the ILU Guarantee.
From 1980 to 1983, MMC owned indirectly the English & American Insurance Company (“E&A”), which was a member of the ILU. The ILU required MMC to guarantee a portion of E&A’s obligations. After E&A became insolvent in 1993, the ILU agreed to discharge the guarantee in exchange for MMC’s agreement to post an evergreen letter of credit that is available to pay claims on E&A policies issued through the ILU and incepting between July 3, 1980 and October 6, 1983. Representatives of the ILU and of E&A have indicated that potentially significant claims could be made in the near future against the letter of credit. MMC has recorded a liability to provide for this potential exposure.
The proceedings described in this Note 16 on Claims, Lawsuits and Other Contingencies seek significant monetary damages and other forms of relief. Where a loss is both probable and reasonably estimable, MMC has established reserves in accordance with SFAS No. 5, “Accounting for Contingencies”. Except as specifically set forth above, MMC’s management is unable, at the present time, to provide a reasonable estimate of the range of possible loss attributable to the foregoing proceedings or the impact they may have on MMC’s consolidated results of operations or financial position (over and above MMC’s existing loss reserves) or MMC’s cash flows (to the extent not covered by insurance). The principal reasons for this are that many of these cases, particularly the matters related to “market service agreements” and “market-timing”, are in their early stages. For example, the sufficiency of the complaints has not yet been tested in most of the cases, and, in many of the cases, only limited discovery, if any, has taken place. Thus, at this time, it is not possible to reasonably estimate the possible loss or range of loss on these matters. Adverse determinations in one or more of the matters discussed above could have a material impact on MMC’s financial condition or the results of MMC’s operations in a future period.
MMC has reclassified prior year amounts to reflect organizational changes that affected MMC’s reportable segments.
The accounting policies of the segments are the same as those used for the consolidated financial statements described in Note 1. The information in the following tables has been amended to reflect MMC’s revised segment reporting structure and also reflects the classification of Crump and SCMS as discontinued operations. Revenues are attributed to geographic areas on the basis of where the services are performed. Segment performance is evaluated based on segment operating income, which includes
investment income and losses attributable to each segment, directly related expenses, and charges or credits related to integration and restructuring but not MMC corporate-level expenses.
Includes inter-segment revenue ($27 million in 2005 and $2 million in 2004).
Includes inter-segment revenue ($154 million in 2005, $173 million in 2004, and $184 million in 2003).
Corporate expenses in 2005 include $64 million of incremental expense, primarily related to stock options, resulting from the implementation of SFAS 123(R) effective July 1, 2005.
Corporate assets primarily include unallocated goodwill, insurance recoverables, prepaid pension and a portion of MMC’s headquarters building.
The transfer of several consulting businesses, which included business continuity management, mass tort and complex liability mitigation, and data services for the management of insurance, claims and legal data, from Risk Consulting & Technology to Insurance Services.
We have audited the accompanying consolidated balance sheets of Marsh & McLennan Companies, Inc. and subsidiaries (the “Company”) as of December 31, 2005 and 2004, and the related consolidated statements of income, stockholders’ equity and comprehensive income, and of cash flows for each of the three years in the period ended December 31, 2005. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the financial statements based on our audits.
(a) Results in the third quarter of 2005 include a $6 million pre-tax adjustment to reflect the reclassification of certain Putnam option awards from liability awards to equity awards upon implementation of FSP 123(R)-4.