We own and lease a number of properties for use as offices throughout the world and believe that our properties are generally suitable and adequate for the purposes for which they are used. The principal properties are located in the United Kingdom and the United States. Our principal office at Ten Trinity Square in London is a landmark building which we own.
The selected historical financial data presented below as of and for each of the five years ended December 31, 2003 have been derived from the audited consolidated financial statements of the Company, which have been prepared in accordance with US GAAP.
•restructuring charges relating to implementation of changes to our North American business processes, which were $11 million for the year ended December 31, 2000, representing excess operating lease obligations, and $7 million for the year ended December 31, 1999, representing employee termination benefits;
•restructuring charges relating to the exit from certain US business lines for the year ended December 31, 2000 of $7 million. These consisted of $4 million of employee termination benefits, $1 million relating to excess operating lease obligations and $2 million relating to other costs; and
- Management's Discussion and Analysis of Financial Condition and Results of Operations
Revenues increased by 20% in 2003, with approximately 12% coming from net new business growth, approximately 3% coming from higher insurance premium rates and approximately 5% from the effects of foreign exchange and acquisitions and disposals.
As a result of higher revenues and our continuing tight control over expense growth, our operating margin increased to 30% in 2003, up from 24% in 2002 on a reported basis (or 28% if adjusted as described below).
Cash generated from operations in 2003 of $493 million permitted us to invest further in our global network by acquiring 100% ownership of subsidiaries in Germany, Italy, Spain and Portugal. We also made substantial repayments of debt and we commenced paying a quarterly dividend in April 2003, increased the dividend in October 2003 and announced a further increase beginning April 2004.
We entered into a new $600 million credit facility in December 2003 and retired the existing facility. In February 2004, we redeemed all the outstanding $370 million of 9% senior subordinated notes and bought back 4 million shares at a cost of $148 million.
We provide a broad range of insurance brokerage and risk management consulting services to our worldwide clients. In our capacity as an advisor and insurance broker, we act as an intermediary between our clients and insurance carriers by advising our clients on their risk management requirements, helping clients determine the best means of managing risk, and negotiating and placing insurance risk with insurance carriers through our global distribution network.
The majority of our revenue is commission based and varies based upon the premiums on the policies we place on behalf of our clients. As such, when premium rates in the insurance market rise we tend to benefit and, when premium rates decline, we tend to experience pressure on our revenues, although in both cases there are many conflicting factors, including changes in buying and selling behavior. We manage expenses to moderate the impact on earnings.
However, during 2003, the rate at which insurance premium rates were rising began to moderate. Rates for casualty insurance in 2003 increased modestly over rates prevailing in 2002, with certain specialized risks, notably directors' and officers' liability and errors and omissions showing double-digit growth. Rates for property insurance overall were flat or slightly down compared with 2002, with the rate reductions being most pronounced in the large accounts and energy sectors. In the middle market, property rates were relatively stable.
At the end of 2003, premium rates, on average, were still rising as insurers maintained a disciplined approach to pricing in most areas. The fundamental need for insurance carriers to strengthen balance sheets and improve credit ratings, together with uncertainties over reinsurance recoveries and reserving levels, would suggest that market rates should not be forced down in the short-term by significant inflows of capital, although it is possible that this may happen. On the other hand, an increasing incidence of large insurance losses could lead to a rise in market rates.
At December 31, 2003, the selected discount rates were 5.5% (2002: 5.6%) for the UK plan liabilities and 6.0% (2002: 6.5%) for the US plan liabilities. A 0.25% change in the discount rates, in the absence of any other factors, would impact 2004 net pension expense by approximately $6 million. The selected long-term rates of return, based on the asset mix of the respective funds, were 7.25% (2002: 7.25%) for the UK plan assets and 8.5% (2002: 8.5%) for US plan assets. A 0.25% change in the long-term rate of return would impact 2004 net pension expense by approximately $4 million.
increase by approximately $10 million as a result of lower interest rates and expected long-term rates of return.
The Company has established provisions against various actual and potential claims, lawsuits and proceedings relating principally to alleged errors and omissions in connection with the placement of insurance and reinsurance in the ordinary course of business. Such provisions cover claims that have been reported but not paid and also claims that have been incurred but not reported. These provisions are established based on advice received from qualified professionals, including external legal advice, and are developed using actuarial principles and assumptions, including historical claims experience. A significant increase in the frequency or severity of claims for errors and omissions could have a material effect on the Company's results of operations.
As a consequence of the increasing cost of purchasing professional indemnity insurance for errors and omissions claims, we raised our self-insured retentions in 2003 and reduced the amount of coverage purchased from our insurers. Accordingly, our provisions for claims, including provisions for claims incurred but not reported, were also adjusted in 2003 to reflect the higher level of risk being retained.
Total revenues increased by 20% to $2,076 million in 2003. Excluding the effects of foreign currency exchange rate movements of 6% and the effects of acquisitions and disposals of (1)%, total revenues on an underlying basis were 15% higher in 2003 than in 2002. We estimate that the increase in revenues arose from net new business growth of approximately 12% and approximately 3% from the impact of higher premium rates.
North America: Revenues generated by our North America business increased by 9% to $726 million in 2003. The disposal of the third-party administration units in 2002 impacted the increase in revenues by approximately (5)%. Adjusting for this item, North America's revenues on an underlying basis increased by 14%, attributable to solid contributions from our middle market, large account and specialty practices (notably executive risk, employee benefits and construction) through new business development and recruitment.
International: Revenues generated by our International business increased by 29% to $332 million in 2003. Foreign currency exchange rate movements accounted for approximately 12% of the reported increase in revenues, largely due to the strengthening of the euro. The effect of acquisitions and disposals accounted for a further 2% of the reported increase in revenues. Adjusting for these items, International's revenues on an underlying basis increased by 15%, led by good performance in Continental Europe, notably Italy and Iberia, Latin America, Australia and South Africa. Many new business wins were the result of teamwork with Global Markets and Global Specialties.
Total revenues increased by 22% to $1,735 million in 2002. Excluding the effects of foreign currency exchange rate movements 2% and the effects of acquisitions and disposals 2%, total revenues on an underlying basis were 18% higher in 2002 than in 2001. Approximately 10% of this increase was due to net new business growth and 8% due to the impact of higher premium rates prevailing in the market.
Global: Revenues generated by our Global business increased by 20% to $892 million in 2002. Approximately 5% of the increase in revenues arose from the effects of foreign currency exchange rate movements. The disposal of Willis National in July 2001 had a (3)% impact on revenues. Adjusting for these items, Global's revenues increased by 18% on an underlying basis. Global's reinsurance and specialty businesses, particularly aerospace and marine, continued to benefit from the rising premium rates prevailing in these markets.
General and administrative expenses (excluding non-cash compensation for performance-based stock options) were $1,214 million for 2002, up 15% from 2001. The net effect of acquisitions and disposals accounted for approximately 4% of the increase in expenses, but there was no significant impact from foreign currency exchange rate movements. On an underlying basis, excluding acquisitions and disposals, general and administrative expenses were 11% higher than in 2001. Much of the increase related to revenue generating expenses. We continued to invest in recruitment and training as well as systems and information technology to enhance our client service and management information capabilities. Increased revenues and profitability led to higher performance-based compensation. However, the growth rate in revenues more than outpaced expense growth leading to increased operating margins.
Operating income increased by 48% to $620 million in 2003, having increased by 160% to $419 million in 2002 from $161 million in 2001. Excluding the non-cash compensation charge for performance-based stock options ($20 million in 2003, $80 million in 2002 and $158 million in 2001), the net gain on disposal of operations ($11 million in 2003, $13 million in 2002 and $17 million in 2001) and goodwill amortization in 2001, operating income increased by 29% to $629 million in 2003 having increased by 44% to $486 million in 2002 from $337 million in 2001. We use operating income excluding non-cash compensation and gains on disposals as a measure of cash generated by the businesses.
We earn revenue in an uneven fashion during the year, primarily due to the timing of insurance policy renewals. As many policies incept and renew as of December 31 or January 1, we generate the majority of our revenues in the first and fourth calendar quarters. General and administrative expenses (excluding non-cash compensation), however, are incurred on a relatively even basis throughout the year. As a result, we have historically earned the majority of our operating income in the first and fourth quarters. Operating income in 2003, impacted by the effect of performance options and net gain on disposals, was $186 million, $136 million, $106 million and $192 million for the first, second, third and fourth quarters, respectively.
Income tax expense for 2002 amounted to $141 million, an effective rate of 40%. Adjusting for the non-cash compensation charge for performance options, for which approximately 60% of the total charge was non-deductible, and acquisitions and disposals, the underlying tax rate for 2002 was 35%.
all three years was impacted by the non-cash charge for performance options and the net gain on disposal of operations. Additionally, net income in 2003 was impacted by certain changes in UK tax legislation regarding the taxation of employee stock options and 2001 was impacted by a non-recurring tax credit arising from an internal restructuring. The change in the basis of amortizing goodwill and other intangible assets also affected the comparison between 2002 and 2001.
Excluding a non-cash charge for performance options, net of tax, of $14 million in 2003, $67 million in 2002 and $132 million in 2001, a net gain on disposal of operations of $7 million in 2003, $7 million in 2002 and $11 million in 2001, a one-time UK tax benefit regarding employee stock options of $35 million in 2003, a non-recurring tax credit of $11 million and goodwill amortization of $35 million in 2001, net income increased by 43% in 2003 to $386 million ($2.28 per diluted share) and by 84% to $270 million in 2002 ($1.62 per diluted share) from $147 million in 2001 ($0.99 per diluted share). We estimate that the impact of foreign currency exchange rate movements during 2003 was a benefit of approximately $0.07 per diluted share. Our exposure to foreign currency exchange rates is discussed below under "Financial Risk Management".
We intend to phase in the new regulations during 2004 so that we will be in full compliance by January 2005. As a consequence, we expect that the cash flow from operating activities in 2004 will be approximately $150 million lower than it would otherwise have been as a result of the one-time effect of phasing in the new regulations. Thereafter, we do not expect any significant impact on the cash flow from operating activities on a full-year basis.
Net cash used in investing activities increased to $135 million in 2003 from $50 million in 2002 and $10 million in 2001. Capital expenditures for 2003, 2002 and 2001, less the proceeds from disposals of fixed assets, were $53 million, $44 million and $35 million, respectively. The increased capital expenditures in 2003 related primarily to information technology systems. This is being managed in a disciplined manner with future information technology expenditures not being committed ahead of cash generation. We expect capital expenditures for 2004 to rise modestly over 2003 levels. We have funded our requirements for capital expenditures by cash generated internally from operations and expect to continue to do so in the future.
Cash used for acquisitions in 2003 amounted to $91 million (net of cash acquired), primarily incurred in acquiring further interests in Willis GmbH, Willis Iberia and Willis Italia. Cash used for acquisitions in 2002 amounted to $13 million (net of cash acquired), primarily incurred in acquiring Goldman and further interests in Willis GmbH. No cash was used for acquisitions in 2001.
Net proceeds from the sale of operations in 2003 amounted to $15 million, primarily relating to the disposal of our 49% holding in Buck & Willis Healthcare and two US operations. Net proceeds from the sale of operations in 2002 amounted to $15 million, mainly related to the disposal of the third-party administration units, and in 2001 amounted to $22 million from the sale of Willis National.
Cash used in financing activities amounted to $222 million in 2003 compared with $218 million in 2002 and $167 million in 2001. During 2003, debt repayments amounted to $198 million following repayments of $221 million in 2002 and $172 million in 2001. In 2001, the net proceeds of $282 million from our initial public offering were used to redeem the outstanding $273 million of preference shares in a subsidiary company. Subsequent to the 2003 year-end, we used our new credit facilities and existing own cash to retire the outstanding senior subordinated notes.
funded dividends from cash generated internally by operations and expect to continue to do so in the future.
As mentioned above, all of the 9% senior subordinated notes were redeemed in full in February 2004. The new credit facilities negotiated in December 2003 remained undrawn at the year end. $300 million of the new $450 million term loan facility was drawn down in February 2004 in connection with the redemption of the notes and the balance of $150 million is available for draw down until June 2004. Under the terms of the senior new credit agreement, $150 million of the term loans mature in each of December 2006, December 2007 and December 2008.
In connection with many of our investments in less than wholly-owned subsidiaries and associates, we retain rights to increase our ownership percentage over time, typically to a majority or 100% ownership position. In addition, in certain instances, the other owners have a right, typically at a price calculated pursuant to a formula based on revenues or earnings, to put some or all of their shares to us.
While neither we nor the management of Gras Savoye expect significant exercises of the puts, on a separate or aggregate basis, in the near to medium term, we nevertheless believe that, should the aggregate amount of shares be put to us, sufficient funds would be available to satisfy this obligation.
Apart from commitments, guarantees and contingencies, as disclosed in Note 15 of Notes to the Consolidated Financial Statements, the Company has no off-balance sheet arrangements that have, or are reasonably likely to have, a material effect on the Company's financial condition, results of operations or liquidity.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Willis Group Holdings Limited and subsidiaries as of December 31, 2003 and 2002, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States of America.
Organization-Willis Group Holdings was incorporated on February 8, 2001 as an exempted company under the Companies Act 1981 of Bermuda, for the sole purpose of redomiciling the ultimate parent company of the Willis Group (comprised of TA I Limited and subsidiaries) from the United Kingdom ("UK") to Bermuda. On incorporation, Willis Group Holdings was wholly-owned by Profit Sharing (Overseas), Limited Partnership, an affiliate of Kohlberg Kravis Roberts & Co., L.P. and one of the existing stockholders of TA I Limited ("TA I").
Willis Group Holdings, effective from May 8, 2001, exchanged its common shares for all the issued and outstanding ordinary shares of TA I ("the Exchange Offer"). As a result of the Exchange Offer, the former stockholders of TA I acquired a majority voting interest in Willis Group Holdings. Under accounting principles generally accepted in the United States of America ("US GAAP"), the company whose stockholders retain the majority interest in a combined business must be treated as the acquirer for accounting purposes. Accordingly, the transaction has been accounted for as a "reverse acquisition" for financial reporting purposes and TA I is deemed to have acquired 100% of the equity interest in Willis Group Holdings. The relevant acquisition process utilizes the capital structure of Willis Group Holdings and the assets and liabilities of TA I and subsidiaries (collectively, the "Predecessor") are recorded at historical cost. The Predecessor is the operating entity for financial reporting purposes and the financial statements prior to May 8, 2001 represent the Predecessor's financial position and results of operations. The assets and liabilities and results of operations of the Predecessor are included as of May 8, 2001. Although TA I was deemed to be the acquiring corporation for financial accounting and reporting purposes, the legal status of Willis Group Holdings as the surviving corporation did not change. For the period prior to June 11, 2001, the date of Willis Group Holdings' initial public offering, the computation of net income per share has been retroactively restated to reflect the number of shares received in the Exchange Offer.
The consolidated financial statements of the Company have been prepared on the accrual basis of accounting. A summary of the major accounting policies followed in the preparation of the accompanying consolidated financial statements, which conform to US GAAP, is presented below.
Cash and cash equivalents-Cash and cash equivalents primarily consist of time deposits and certificates of deposit with original maturities of three months or less.
Included in fiduciary funds-restricted are cash and cash equivalents, time deposits, certificates of deposit and debt securities. These securities are carried at fair market value, with unrealized gains and losses reported in other comprehensive income. Realized gains and losses on investments sold are included in net income and are derived using the specific identification method for determining the cost of securities.
Accounts receivable are stated at estimated net realizable values. Allowances are recorded, when necessary, in an amount considered by management to be sufficient to meet probable future losses related to uncollectible accounts. The write-off of accounts receivable was $2 million, $2 million and $2 million in the years ended December 31, 2003, 2002 and 2001, respectively.
Put and Call Options Relating to Subsidiaries and Associates-For certain subsidiaries and associates, the Company has the right to purchase shares (a call option) from co-shareholders at various dates in the future. In addition, the co-shareholders of certain subsidiaries and associates have the right to sell their shares (a put option) to the Company at various dates in the future. Generally, the exercise price of such puts and calls is formula-based (using revenues and earnings) and is designed to reflect fair value. On inception of an option agreement, the Company records the puts and calls at fair value. The put and call options are subsequently marked to market at each reporting period with changes in value being recognized in the statements of operations.
Stock-Based Compensation-The Company accounts for its stock option and stock-based compensation plans using the intrinsic-value method prescribed in Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees ("APB 25"). Accordingly, the Company computes compensation costs for each employee stock option granted as the amount by which the quoted market price (or estimated fair value for options granted before the initial public offering) of the Company's shares on the date of the grant exceeds the amount the employee must pay to acquire the shares.
Had compensation expense for such plans been determined consistent with the fair value method prescribed by SFAS 123, Accounting for Stock-Based Compensation ("SFAS 123") using the Black-Scholes option-pricing model, the Company's pro forma net income and net income per share would have been:
The Company takes credit for commissions (or fees negotiated in lieu of commission) in respect of insurance placements at the date when the insured is billed or at the inception date of the policy, whichever is later. Commissions on additional premiums and adjustments are recognized as and when advised. Fees for risk management and other services are recognized as the services are provided.
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities. SFAS 149 amends and clarifies financial accounting and reporting for derivative instruments and hedging activities under SFAS 133. SFAS 149 is effective for contracts entered into or modified after June 30, 2003, with certain exceptions, and for hedging relationships designated after June 30, 2003. The Company has assessed the potential impact of SFAS 149 and concluded that there is no material impact to its financial position or results of operations.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. The Company has assessed the potential impact of SFAS 150 and concluded that there is no impact to its financial position or results of operations. In December 2003, the FASB issued SFAS No. 132 (Revised 2003), Employers' Disclosures about Pensions and Other Postretirement Benefits ("SFAS 132R"). SFAS 132R amends FASB Statements No. 87, 88 and 106 and replaces FASB Statement No. 132 to provide revised disclosures over pension plans and other postretirement benefits. SFAS 132R was effective for fiscal years ending after December 15, 2003. The disclosures required by SFAS 132R are presented in note 10 to the financial statements.
Additional consideration of up to $11 million is payable in future periods contingent upon future results of the acquired businesses reaching specified thresholds.
Non-cash compensation amounting to $116 million in respect of UK performance options was expensed in periods prior to January 1, 2003 without any income tax benefit being recognized. Accordingly, following the change in UK tax legislation, an income tax benefit of $35 million, and a corresponding deferred asset, has been recognized in 2003.
At December 31, 2003, the Company had a valuation allowance of $114 million (2002: $100 million) to reduce its deferred tax assets to estimated realizable value. The valuation allowance relates to the deferred tax assets arising from UK tax operating loss carryforwards and UK capital loss carryforwards, both of which have no expiration date. UK tax operating loss carryforwards can only be used against income arising in certain UK subsidiaries. In addition, the capital loss carryforwards can only be offset against future UK capital gains.
At December 31, 2003, the Company had deferred tax assets of $194 million, net of the valuation allowance. Management believes, based upon the level of historical taxable income and projections for future taxable income over the periods in which the temporary differences are anticipated to reverse, and prudent and feasible tax-planning strategies, it is more likely than not that the Company will realize the benefits of these deductible differences, net of the valuation allowance. However, the amount of the deferred tax asset considered realizable could be adjusted in the future if estimates of taxable income are revised. In the event that the valuation allowance of $114 million at December 31, 2003 (2002: $100 million) is reduced in future years to recognize deferred tax assets, $81 million (2002: $71 million) will be allocated to reduce goodwill.
On July 23, 1997, the Company entered into an agreement with Gras Savoye whereby, among other things, the co-shareholders of Gras Savoye (other than management) have the right to sell (put option) their shares to the Company possibly increasing the Company's ownership interest from 33% to 90%. The option expires in 2011 and Gras Savoye's eligible co-shareholders may exercise their rights from January 1, 2001. In addition, the Company has the right to purchase (call option) at least 50.1% of Gras Savoye's shares from the co-shareholders. The call option is exercisable from December 1, 2009. The exact amount payable by the Company under the put and call is based on the greater of a price per Gras Savoye share defined contractually or a formula-based price contingent on Gras Savoye's future results.
For the year ended December 31, 2003, time-based and performance-based options to purchase 15.1 million and 7.3 million (2002: 19.5 million and 11.1 million; 2001: 19.3 million and 11.3 million) shares, respectively, and 0.3 million restricted shares (2002: 0.2 million and 2001: nil), respectively, were outstanding. Basic and diluted net income per share are as follows:
The debt securities are recorded at fair market value. Fair market value is based upon the market price of the security plus accrued interest, if any. Unrealized holding gains and losses are reported, net of tax, as a component of other comprehensive income. As of December 31, 2003 and 2002, the amortized cost of securities approximated fair value.
Realized gains and losses, net of tax, on debt securities are included in net income. During 2003, 2002 and 2001, sales of debt securities totaled $59 million, $36 million and $21 million, respectively, on which realized gains and losses were not material to the consolidated results of the Company.
(2)Other primarily consists of time deposits and certificates of deposit with original maturities in excess of three months.
For the years ended December 31, 2003 and 2002, the weighted-average interest rate relating to all loans under the former Senior Credit Facility ranged from 2.16% to 3.10% and 2.75% to 4.31%, respectively; net of an interest rate swap, the ranges were 5.95% to 6.90% and 6.02% to 7.58%, respectively.
Under the new credit agreement, the Company is due to make loan repayments of $150 million on the third, fourth and fifth anniversary of the effective date. Loans under this credit agreement bear interest at a rate per annum equal to either adjusted LIBOR or adjusted EURIBOR depending on their underlying currency plus a margin of 0.75% to 1.50% determined by reference to future changes in the Company's interest coverage, leverage and credit ratings. The minimum applicable margin is 0.95% until December 4, 2004.
9% Senior Subordinated Notes-In February 1999, Willis North America refinanced a short-term loan by issuing 9% senior subordinated notes due 2009 (the "Notes") in the aggregate principal amount of $550 million. The interest on the Notes was payable semi-annually on February 1 and August 1.
The indenture for the Notes contained covenants that, among other things, limited the ability of Willis North America, Willis Group Limited, Willis Partners and some of their subsidiaries to incur additional indebtedness and issue preferred stock; pay dividends or make other distributions; repurchase capital stock or subordinated indebtedness; create liens; enter into some transactions with associates; sell assets and assets of subsidiaries; issue or sell capital stock of some subsidiaries; and enter into some mergers and acquisitions. At December 31, 2003, the Company was in compliance with all covenants.
The components of the net periodic benefit (income) cost of the UK and US defined benefit plans are as follows:
The Company's investment policy includes a mandate to diversify assets and invest in a variety of asset classes to achieve that goal. The UK Plan's assets are divided into 7 separate portfolios according to asset class and managed by 6 investment managers. The broad target allocations are UK and foreign equities (75%), debt securities (20%) and real estate (5%). The US Plan's assets are currently invested in 16 funds representing most standard equity and debt security classes. The broad target allocations are US and foreign equities (64%) and debt securities (36%).
The Company expects to contribute $30 million and $14 million in 2004 to the UK and US defined benefit pension plans, respectively.
Willis North America has a 401(k) plan covering all eligible employees of Willis North America and its subsidiaries. The plan allows participants to make pre-tax contributions and the Company provides a matching contribution of 3% of employees' annual eligible compensation. All investment assets of the plan are held in a trust account administered by independent trustees. The Company's 401(k) mandatory matching contributions for 2003, 2002 and 2001 were approximately $5 million, $5 million and $5 million, respectively.
Amended and Restated 1998 Share Purchase and Option Plan-This plan, which was established on December 18, 1998, provides for the granting of time-based and performance-based options to employees of the Company. There are 30,000,000 shares available for grant under this plan provided, however, that in no event the total number of shares subject to options and other equity for current and future participants exceed 25% of the equity of Willis Group Holdings on a fully diluted basis. All options granted under this plan are exercisable at £2 per share ($3.58 using the year-end exchange rate of £1 = $1.79) except for 111,111 time-based options which are exercisable at $13.50. No further grants are to be made under this plan.
Compensation Expense-Willis Group Holdings applies the intrinsic value method allowed by APB 25 in accounting for its stock option plans. Under APB 25, compensation expense resulting from awards under fixed plans (time-based options, options granted pursuant to the Willis Award Plan and various other share-based grants to employees) are measured as the difference between the quoted (or best estimate of) market price, and the exercise price on the measurement date. All fixed plan options have been granted by Willis Group Holdings at an exercise price equal to management's best estimate of the market price at the measurement date, prior to the initial public offering, and equal to the
(1)Certain options are exercisable at £2 per share. Year-end exchange rates of £1 = $1.79, £1 = $1.61 and £1 = $1.45 have been used as of December 31, 2003, 2002 and 2001, respectively. A summary of time-based options outstanding and exercisable at December 31, 2003 is as follows:
Willis North America entered into an interest rate swap agreement under which its LIBOR-based variable rate interest payment obligations on the full amount of the term loans were swapped for fixed rate interest payment obligations until the final maturity of those term loans. The swap agreement provided for a reduction of the notional amount of the swap obligation on a semi-annual basis, and to the extent the actual amount outstanding under the term loans exceeded the notional amount at any time, Willis North America would have been exposed to the risk of increased interest rates on that excess.
The Company designated this interest rate swap agreement as a cash flow hedge as defined by SFAS 133 with the fair value recorded in other liabilities on the balance sheet. Changes in fair value were recorded as a component of other comprehensive income. A gain of $4 million was recorded for the year ended December 31, 2003 (2002: gain $1 million; 2001: loss $9 million). Amounts were reclassified from other comprehensive income into earnings when the hedged exposure affected earnings.
The differential paid or received was recognized as an adjustment to interest expense as incurred. The swap agreement was canceled as of November 19, 2003 at a cost of $2 million.
The fair value of these contracts is recorded in other assets and other liabilities, with changes in fair value of effective cash flow hedges recorded in other comprehensive income and changes in fair
value of ineffective hedges recorded in general and administrative expenses. Amounts are reclassified from other comprehensive income into earnings when the hedged exposure affects earnings. For the year ended December 31, 2003, the Company has recorded losses of $15 million in other comprehensive income relating to changes in fair value on contracts which are effective cashflow hedges as defined in SFAS 133 (2002: gain $20 million; 2001: gain $8 million). For contracts which were not designed for hedge accounting as defined in SFAS 133, the Company has recorded a loss of $1 million in general and administrative expenses representing the change in fair value for the year ended December 31, 2003 (2002: loss $1 million; 2001: gain $8 million).
A summary of the Company's interest rate swaps by major currency is as follows:
(1)Notional amounts represent US dollar equivalents translated at the spot rate as of December 31. Liquidity Risk-The Company's objective is to ensure that it has the ability to generate sufficient cash either from internal or external sources, in a timely and cost-effective manner, to meet its commitments as they fall due. The Company's management of liquidity risk is embedded within its overall risk management framework. Scenario analysis is continually undertaken to ensure that its resources can meet liquidity requirements. These resources are supplemented by a $150 million revolving credit facility which expires on December 4, 2008, of which no amount is currently drawn.
The Company's policy within the UK is to convert into sterling all revenues arising in currencies other than US dollars together with sufficient US dollar revenues to fund the remaining sterling expenses. Outside the UK, only those cash flows necessary to fund mismatches between revenues and expenses are converted into local currency; amounts remitted to the UK are generally converted into sterling. These transactional currency exposures are principally managed by entering into forward foreign exchange contracts.
The fair value of these contracts is recorded in other assets and other liabilities, with changes in the fair value of effective cashflow hedges recorded in other comprehensive income and changes in fair value of ineffective hedges recorded in general and administrative expenses. Amounts are reclassified from other comprehensive income into earnings when the hedged exposure affects earnings. For the year ended December 31, 2003, the Company has recorded a gain of $5 million in other comprehensive income relating to changes in the fair value on contracts which are effective cashflow hedges as defined in SFAS 133 (2002: gain $7 million; 2001: gain $6 million). For contracts which were not designated for hedge accounting as defined in SFAS 133, the Company has recorded a loss of $2 million in general and administrative expenses representing the change in the fair value for the year ended December 31, 2003 (2002: gain $2 million; 2001: loss $6 million).
(1)Forward exchange contracts range in maturity from 2004 to 2006. Credit Risk and Concentrations of Credit Risk-Credit risk represents the accounting loss that would be recognized at the reporting date if counterparties failed to perform as contracted and from movements in interest rates and foreign exchange rates. The Company does not anticipate non-performance by counterparties. The Company generally does not require collateral or other security to support financial instruments with credit risk; however, it is the Company's policy to enter into master netting arrangements with counterparties as practical.
Fiduciary Funds-Restricted and Short-Term Investments-Fair values are based on quoted market values.
Long-Term Debt-The estimated fair values of the Company's long-term debt are based on current interest rates available to the Company for debt instruments with similar terms and remaining maturities.
Rent expense amounted to $70 million, $71 million and $63 million for the years ended December 31, 2003, 2002 and 2001, respectively. The Company's rental income from subleases was $8 million, $9 million and $6 million for the years ended December 31, 2003, 2002 and 2001, respectively.
Guarantees-Guarantees issued by certain of Willis Group Holdings' subsidiaries with respect to the new Senior Credit Facility and the Notes are discussed elsewhere in these consolidated financial statements.
Certain of Willis Group Holdings' subsidiaries have given the landlords of some leasehold properties occupied by the Company in the UK and the US guarantees in respect of the performance of the lease obligations of the subsidiary holding the lease. The operating lease obligations subject to such guarantees amounted to $158 million and $140 million at December 31, 2003 and 2002, respectively.
The Company has not reported revenues from external customers for each product and service or each group of similar products and services as the Company's internal systems do not allow for the generation of such information.
The Company has an Employee Stock Ownership Plan (the "ESOP") which invests in Willis Group Holdings' shares. The trustee of the ESOP transferred 85,467 and 47,093 shares during the years ended December 31, 2003 and 2002, respectively. At December 31, 2003 and 2002, the ESOP shares outstanding were 696,127 and 781,594, respectively. No dividends have been distributed on the shares held by the ESOP.
Kohlberg Kravis Roberts & Co. L.P. ("KKR") and Fisher Capital Corp. L.L.C. ("Fisher"), a company for which Mr. J.R. Fisher, a director of Willis Group Holdings, is the managing member and majority owner, render management, consulting and certain other services to the Company for annual
fees payable quarterly in arrears. In 2003 and 2002, the Company paid amounts of $1,000,000, in the case of KKR and $350,000, in the case of Fisher for those services. Included in accrued expenses is $55,149 and $56,582 payable to Fisher as of December 31, 2003 and 2002, respectively.
Presented below is condensed consolidating financial information for: i) Willis Group Holdings, which will be a guarantor, on a parent company only basis; ii) the other Guarantors which are all wholly owned subsidiaries of the parent; iii) the Issuer, Willis North America; iv) Other, which are the non-guarantor subsidiaries, on a combined basis; v) Eliminations; and vi) Consolidated Company and subsidiaries. The equity method has been used for all investments in subsidiaries.
The entities included in the other Guarantors column are Willis Group Limited, Willis Partners, Trinity Acquisition Limited, TA I Limited, TA II Limited, TA III Limited and TA IV Limited.
19. FINANCIAL INFORMATION FOR PARENT GUARANTOR, OTHER GUARANTOR SUBSIDIARIES AND NON-GUARANTOR SUBSIDIARIES
Presented below is condensed consolidating financial information for: i) Willis Group Holdings, which will be a guarantor, on a parent company only basis; ii) the other Guarantors, which are all wholly owned subsidiaries of the parent; iii) the Issuer, Trinity Acquisition Limited; iv) Other, which are the non-guarantor subsidiaries, on a combined basis; v) Eliminations; and vi) Consolidated Company and subsidiaries. The equity method has been used for all investments in subsidiaries.
The entities included in the other Guarantors column are TA I Limited, TA II Limited and TA III Limited.
The following table summarizes the estimated fair value of the assets and liabilities acquired on a 100% basis as they will be consolidated from January 1, 2004: