Marsh & McLennan Companies - Earnings Call - Q1 2020

Transcript

Operator (participant)

Welcome to the Marsh & McLennan Companies conference call. Today's call is being recorded. First quarter 2020 financial results and supplemental information were issued earlier this morning. They're available on the company's website at www.mmc.com. Please note that remarks made today may include forward-looking statements, including certain expectations related to COVID-19 and other matters. Forward-looking statements are subject to risk and uncertainties, and a variety of factors may cause actual results to differ in maturity from those contemplated by. For a more detailed discussion of those factors, please refer to our earnings release for this quarter and to our most recent SEC filings, including our most recent Form 10-K, all of which are available on the MMC website. During the call today, we may also discuss certain non-GAAP financial measures or reconciliation of these measures to most closely comparable GAAP measures. Please refer to the schedule to today's earnings release.

I'll now turn this over to Dan Glaser, President and CFO of Marsh & McLennan Companies. Please go ahead.

Dan Glaser (President and CEO)

Thank you very much, and good morning. Thank you for joining us to discuss our first quarter results reported earlier today. I'm Dan Glaser, President and CEO of Marsh & McLennan Companies. Joining me on the call today is Mark McGivney, our CFO, and the CEOs of our businesses: John Doyle of Marsh, Peter Hearn of Guy Carpenter, Martine Ferland of Mercer, and Scott McDonald of Oliver Wyman. Also with us this morning is Sarah DeWitt, Head of Investor Relations. I am pleased to report that our first quarter results were excellent, despite seeing early signs of COVID-19-related headwinds. Before I get into our results, I want to start by addressing the current crisis. We are living through deeply troubling times that are unprecedented in our lifetimes.

This is, first and foremost, a human tragedy, where the health and livelihood of virtually everyone around the world is threatened, and the ultimate economic impact is still very much unknown. We do know that the next several months, and possibly longer, will be difficult. Uncertainty is at an all-time high. There is poor visibility, business outlooks have been severely damaged, and confidence is down. Even though it is hard to imagine at present, we will see the other side of this crisis. In the aftermath, there will be a prolonged adjustment. I don't think any of us expect a quick return to life as we knew it. However, recent data shows that our response to the crisis is helping to flatten the curve, and we can already see some parts of the world take early steps toward recovery.

MMC's businesses are working at multiple levels to get the global economy working again. Underpinning our work is our interaction with government and clients, including banks, insurance companies, and all facets of the global economic infrastructure. Navigating the current period is challenging for all enterprises, yet Marsh & McLennan has proven to be resilient, strong, and unique. We will learn and improve as an organization during this difficult period. Marsh & McLennan has never been flatter, faster, or more connected than we are today, and I expect some of how we are adapting through this period will benefit us over the longer term. I want to share some insight about how we are operating in the crisis. The safety and well-being of our colleagues is our first priority. We move quickly to suspend travel, implement work from home, and put in place flexible work policies.

We have a world-class executive team, which I am incredibly proud to lead. I also want to thank our colleagues who have rallied in their support of each other and our clients. Over the last decade, we have invested significantly in the infrastructure of our business across the world. We are a globally integrated firm in terms of systems and processes, and this has proven invaluable in our response to this crisis. Within days, we were able to pivot to close to 100% work from home, with over 70,000 concurrent remote connections across the world and virtually no disruption in our business and our ability to serve clients. In fact, we have a number of recent new business wins where nobody met in person.

We entered this crisis in a position of strength and are focused on delivering reasonable financial performance in the short term while supporting our colleagues and positioning the firm for the mid to long term. We have made several decisions reflecting this approach. In mid-March, we committed that while we are in the thick of this crisis, our colleagues' jobs are secure. We also set up a $5 million support fund for colleagues in need, as well as committed to matching charitable gift contributions. Our decision to put colleagues' interests first is guided by our values and aspirations as a company. This does not mean we are being complacent on cost reductions during this period. It is simply the right thing to do. It also speaks to our confidence in the strength of our business, which will rebound as the global economy improves.

We have moved fast to cut non-essential expenses and reduce capital expenditures, and we will obviously see meaningful decreases in T&E. We are taking prudent and necessary actions to manage expenses, but at the same time, we are still focused on positioning for the long term. As an example, in early April, we closed another terrific acquisition in MMA, Assurance Holdings, which will operate as the Midwest regional headquarters for MMA. So far, in 2020, we announced three MMA acquisitions, and in just 10 years, MMA has grown into a leading mid-sized business platform in the U.S., approaching $2 billion in revenue with 7,200 colleagues and 160 offices. I am inspired by the hard work, dedication, and focus of our colleagues in this unprecedented time. It is their efforts that demonstrate the true strength and character of Marsh & McLennan.

The environment will remain challenging, and the duration is unknown, but Marsh & McLennan enters this period in a position of strength, and we will emerge on our front foot. This month marks the one-year anniversary of our combination with JLT, and I am pleased to say the major elements of integration, including integration of colleagues, culture, and financial systems, are behind us, and we are well along the way on technology. Our strong first quarter results are evidence that the initial period of choppiness from the acquisition is over, and we emerge as a stronger, more diverse company with more capabilities and geographic depth. We are a unified firm globally. We are working as one enterprise, smarter, more connected, and more creative than we were a year ago.

During these challenging times, we continue to innovate for positive change for our clients, focusing on shaping the industries in which we operate. In health and benefits, Mercer Marsh Benefits created a COVID-19 product, which is now supporting over 500,000 employees in Italy. The team then developed similar products to support people in more than 30 countries, with all regions working together, exchanging findings, and truly operating as one team around the world. Our benefits technology, Darwin, has also proven very valuable to clients, helping them rapidly inventory their pandemic coverage, address gaps, and deploy creative solutions to their employees, such as access to virtual physical and mental well-being services and telemedicine. We have also been advocating for the development of public-private partnerships around the world to address pandemic risk.

Marsh and Guy Carpenter are bringing policyholders, insurers, and the government together to develop public-private partnerships to accelerate economic recovery and assure a more resilient global economy in the future. Mercer is helping clients assess updated pension costs and funding level projections and investment portfolio options. We have been advocating for short-term pension funding relief to help businesses address near-term cash challenges and protect jobs. In Oliver Wyman, we are helping clients with their crisis response, navigating the impact on demand and supply, as well as working through financial and liquidity challenges. We have developed a proprietary tool called the Pandemic Navigator that helps companies predict future COVID-19 developments informed by different suppression tactics and ultimately estimate overall and company-specific economic impact. The tool covers more than 40 countries and all U.S.

states and will help our clients plan for when and how to conduct business after the crisis has subsided. Many of our clients around the world are already actively using the tool and accessing our experts, including more than 100 healthcare organizations, several government and public sector entities, over a dozen major financial services companies and corporations across sectors. In summary, I am proud of how our company is responding to this crisis. Let me spend a moment on current P&C insurance market conditions. P&C insurance pricing continues to increase. The March Global Insurance Market Index increased 14% versus 11% in the fourth quarter and 8% in the third quarter. Global property insurance was up 15%, and global financial and professional lines were up 26%, while global casualty rates are up 5% on average. Keep in mind, however, our index skews to large account business, where we typically earn fees.

Small and middle market insurance pricing increased more modestly in the mid-single-digit range. Given the losses from the pandemic, pricing trends globally are likely to continue. The range of insured loss outcomes from the pandemic is wide and evolving. The loss is unique because it is ongoing. It will take a long time for it to be fully understood. It affects nearly every country, and it also led to a simultaneous asset shock. What we do know is there will be significant losses in lines such as event cancellation, s, D&O, workers' compensation, credit lines, and political risk. The potential for other losses, business interruption or otherwise, makes the overall loss difficult to estimate at this time. The determination of coverage for the virus will be policy by policy, but we think legislating retroactive coverage is a step too far and would challenge the very notion of insurance.

The decline in exposure units due to the economic fallout from COVID-19 will put downward pressure on premiums, although it will vary greatly by industry and by line of business. In some cases, carriers are offering or considering proactive premium adjustments, although to date this has been limited in commercial lines. In some markets, regulators are looking to mandate refunds. Turning to reinsurance, the April 1 renewals are largely focused on Japan. Following a couple of years that were the worst for Japanese typhoon activity experienced in recent times, Japanese insurers paid significant increases to secure renewal of their capacity excessive loss covers, but rates in other loss-free lines were stable. The upcoming June 1 renewals are largely focused on Southeast U.S. wind exposure. Many renewal placements are expected to face upward rate pressure from continued loss creep from 2017 and 2018 hurricane events.

In addition, reinsurers will be assessing the impact from COVID-19-related issues. Overall, the global P&C insurance market is complex. Pandemic issues continue to evolve, and this is before we enter the U.S. hurricane season. It is in times like these where our expertise and capabilities are even more critical. Now let me turn to our first quarter financial performance. We delivered excellent results in the quarter with underlying revenue growth across both risk and insurance services and consulting. Total revenue was $4.7 billion, up 14%, or 5% on an underlying basis. Underlying growth was strong in both segments, with RIS up 5% and consulting up 3%. Adjusted operating income increased 15% versus a year ago to $1.2 billion. The adjusted operating margin increased 80 basis points to 27%. Adjusted earnings per share increased 8% versus a year ago to $1.64, reflecting strong underlying growth and margin expansion.

Even though COVID-19 will impact our results for the remainder of the year, our strong first quarter performance is evidence that we enter this period in a position of strength and able to manage through a difficult environment. Moving on to an update of our expectations for 2020, the current situation is still evolving, and it is uncertain how deep and prolonged the downturn will be. Our outlook is based on a sharp global economic pullback starting in the second quarter, with the global lockdown lifting in the third quarter, but recessionary conditions persisting through the year. For the full year 2020, we currently expect a modest decline in underlying revenue. We are being vigilant and disciplined regarding discretionary expenses. We have strong control over our cost base and have levers at our disposal to manage in the near term.

For the full year, if underlying revenue declines modestly, we could see adjusted EPS in a similar range or slightly better. With that, let me turn it over to Mark for a more detailed review of our results.

Thank you, Dan, and good morning. Our first quarter results were excellent, and although the current crisis will impact our performance this year, we face it well-positioned and strong. Dan covered the high-level results for the quarter, so I will provide some additional details on our results and then turn to updated views on our outlook and capital management. Looking at risk and insurance services, first quarter revenue was $2.9 billion, up 20% compared to the year ago, or 5% on an underlying basis. Adjusted operating income increased 20% to $932 million, and our adjusted operating margin expanded 90 basis points to 34.5%.

At Marsh, revenue in the quarter was $2.1 billion, with underlying growth of 5%. Growth in the quarter was broad-based and driven by strong new business and renewals. The U.S. and Canada division delivered another quarter of strong growth, with underlying revenue up 5%. U.S. and Canada has achieved 5% or higher underlying growth in seven of the last eight quarters. In international, underlying growth was solid at 4%. EMEA was up 4%, representing the highest underlying growth in that region in 12 quarters, led by strength in continental Europe and the Middle East. Asia-Pacific was up 6% on top of 8% in the first quarter of 2019. This result is impressive considering the virus impacted Asia in the first quarter. Latin America grew 3% on an underlying basis.

Guy Carpenter's revenue was $827 million, up 25%, or 7% on an underlying basis, driven by strong growth in EMEA, North America, and Asia-Pacific. Guy Carpenter has now achieved 5% or higher underlying growth in nine of the last ten quarters. In the consulting segment, revenue in the quarter was $1.8 billion, up 5% compared with a year ago, or 3% on an underlying basis. Adjusted operating income was $289 million, and the adjusted operating margin contracted by 80 basis points to 17.2%. As we mentioned on our last call, we expected the first quarter margin to decline in consulting due to some quarterly volatility and the inclusion of JLT's employee benefits business, whose margins have historically been relatively low in the first quarter.

At Mercer, revenue in quarter was $1.3 billion, with strong underlying growth of 5%, continuing the trend of sequential improvement in growth from the first quarter of 2019. Wealth increased 3% on an underlying basis, reflecting low single-digit growth in defined benefits and mid-single-digit growth in investment management. Our assets under delegated management were approximately $267 billion at the end of the first quarter, up 1% year over year, but down 12% sequentially due to the decline in equity markets. Health grew 8% on an underlying basis, the strongest growth since the fourth quarter of 2015, reflecting solid performance across the portfolio. Career grew 2% on an underlying basis. At Oliver Wyman, revenue in the quarter was $511 million, which was flat on an underlying basis. After a good start to the year, we saw the beginning of virus-related impact at Oliver Wyman in March.

Adjusted corporate expense was $54 million in the quarter. Our other net benefit credit was $64 million in the quarter, and for 2020, we anticipate this item will be modestly lower than in 2019. Based on current expectations, we would assume roughly $256 million in 2020 versus $271 million in 2019. Foreign exchange was a slight headwind to EPS in the quarter. Assuming exchange rates remain at current levels, we expect FX to be approximately a $0.06 per share headwind for the remainder of the year. Our effective adjusted tax rate in the first quarter was 23.2% compared with 22.6% in the first quarter last year. Our tax rate benefited from favorable discrete items, the largest of which was the accounting for share-based compensation similar to a year ago. Excluding discrete items, our effective adjusted tax rate was approximately 25.5%.

Based on the current environment, it is reasonable to assume a tax rate between 25% and 26% for 2020. April 1 marked the one-year anniversary of our acquisition of JLT, and we are on plan or ahead of schedule on all of our key milestones, including cost savings and restructuring actions. We incurred $80 million of JLT integration and restructuring costs in the first quarter, bringing the total to date to $415 million. We remain on track to achieve our guidance of at least $350 million of JLT savings by the end of 2021. We still expect to incur $625 million of cash costs and $75 million of non-cash costs to achieve these savings. While it remains our expectation that a significant amount of our actions will be taken in 2020, the current crisis could impact timing as we navigate through the near term.

As a result, we could see some shift in our expectations for integration costs and savings between 2020 and 2021, but our current view is this impact will be relatively modest. Our outlook for 2020 has obviously changed in light of the current crisis. We want to share how we think our performance could develop, but have to emphasize that we have less visibility into how our results could unfold over the next few quarters than at any time we can remember. Our view is based on our outlook today, and it goes without saying that conditions could turn out materially different than our assumptions, which would affect our projections. As Dan mentioned, our outlook is based on a sharp economic pullback starting in the second quarter, with the global lockdown lifting in the third quarter, but recessionary conditions persisting through the year.

Based on these forecasts and our internal analysis, our current view is that we could see a modest decline in underlying revenue for the full year, with the deepest declines in the second and third quarters. At Marsh, we still see the potential for modest underlying revenue growth for the year, although the second and third quarters will be challenging. We believe Guy Carpenter will see mid-single-digit underlying growth for the year, with a stronger first half and a weaker second half. We currently expect Mercer could see underlying revenue decline for the remainder of the year and be down modestly for the full year. Oliver Wyman will see a meaningful pullback in underlying revenue in the second and third quarters that could be greater than the peak decline we saw in the financial crisis.

We would note, however, that once the financial crisis subsided and the global economy stabilized, both Mercer and Oliver Wyman experienced a strong rebound in underlying growth. Contemplating this outlook on the top line, we moved quickly to manage our expense base and significantly cut back on every discretionary expense across the firm. Our earnings will benefit from these actions, as well as the continued contribution from JLT synergies. Based on this, if our revenue is in the range that we've discussed, we could see adjusted EPS for the year in the same range or slightly better. Turning to capital management and liquidity. In addition to our existing $1.8 billion credit facility, of which $800 million was unused at the end of the quarter, we recently secured additional borrowing capacity in the form of a new $1 billion line of credit.

This was a prudent step to increase our access to short-term funding, given the uncertainty of the current environment. On our fourth quarter call, we provided an outlook for capital management, and that outlook has clearly changed in light of the current environment. While we intend to maintain our dividend, it is unlikely we will grow the dividend double digits this year. On the fourth quarter call, we indicated that we did not expect any share repurchases in the first half of 2020. At this point, we do not expect to repurchase shares this year. We remain focused on deleveraging, although the pace of debt paydown will ultimately depend on our cash flow generation in the current environment. Total debt at the end of the first quarter was $13.6 billion, compared with $12 billion at the end of 2019.

This increase in debt is primarily due to short-term borrowings to fund seasonal cash needs, which are highest in the first quarter. We were also holding additional cash at quarter end to fund the purchase of Assurance Holdings and MMA acquisition that closed on April 1st. Our next scheduled debt maturities are in December 2020, when $700 million of senior notes will mature, and in January 2021, when a $500 million term loan comes due. During the first quarter, we repaid $500 million of debt that matured. Interest expense in the first quarter was $127 million. Based on our current forecast, we expect approximately $140 million of interest expense in the second quarter. Our cash position at the end of the first quarter was $1.5 billion. Uses of cash in the quarter totaled $476 million and included $232 million for dividends and $244 million for acquisitions.

Overall, we are pleased with our excellent first quarter results. We are a resilient company, and we enter this crisis from a position of strength. With that, I'm happy to turn it back to Dan.

Thank you, Mark. Operator, we're happy to take questions.

Operator (participant)

Thank you. In the interest of addressing questions from as many participants as possible, we would ask the participants to limit themselves to one question and one follow-up question. If you'd like to ask a question, please signal by pressing Star 1 on your telephone keypad. If you're using a speakerphone, please make sure your mute function is switched off to allow your signal to reach our equipment. Again, it is Star 1 to ask a question. We will now take the first question from Mike Zaremski from Credit Suisse. Please go ahead.

Mike Zaremski (Analyst)

Hey, good morningv, and thank you for the prepared remarks and the update on the guidance. My first question is regarding your outlook and other, I guess, if revenues potentially decline by single digits and earnings could very well then potentially also fall by single digits. I think that's a pretty good outlook relative to past recessions, or maybe I'm wrong. Maybe you can kind of talk through, are the dynamics different for Marsh & McLennan this time around versus the past recession? Is the business less cyclical? Are there more kind of levers in terms of cost reduction efforts that you can pull this time around versus the recession a decade or plus ago? Thanks.

Dan Glaser (President and CEO)

Thanks, Mike. Never thought I'd miss you guys, so it's good to have some people on the telephone. I'm getting tired of looking at the same pictures of my team every morning.

Every crisis is different, Mike. It all has its own unique attributes. While there are parallels to draw, you can't get really focused on, "It was like this last time, so it'll be like this this time." I think the important thing is MMC is really defensive and resilient. We're not immune to these kind of crises. For us, the impact is going to manifest itself as reduced demand for consulting services and lower premium growth due to exposure decline. The exposure declines may be more significant than they were in the global financial crisis, but on the other hand, at that point in time, rates were generally going down, and now rates are generally going up. If the recovery is faster than we outlined in our scripted remarks, then we'll do better than our guidance.

If the downturn is deeper and more prolonged, we'll do worse. The impact on us, we believe, is manageable. When I think about resilience, I have to think about things like clients are going to continue to buy insurance. They're going to continue to renew their health and benefits program. They're going to do their annual actuarial work. That kind of thing, the level of recurring revenue, recurring engagements that we have will continue. We mentioned that Oliver Wyman is expected to see the most significant negative revenue impact. Keep in mind the cost structure. I've mentioned many times before the cost structure in Oliver Wyman is more variable than in the rest of the company. It helps us mitigate the earnings impact because of the variable cost nature of OW.

Now, if you mentioned the financial crisis, and just to go back in time, RIS in 2008 was a zero. They were flat. And in 2009 was a minus one. And the consulting division actually grew in 2008 and was down 7% in 2009. And OW, back in the last crisis, contracted for six quarters consecutively and then had a pretty strong rebound after that. Clearly, when we look at OW now, it is a completely different firm and certainly has been our best grower over that elongated period. Mike, do you have a follow-up?

Mike Zaremski (Analyst)

Yes, that is helpful. My follow-up is, Dan, you talked about the extreme uncertainty regarding COVID-19-related losses and, I guess, revenue impacts for the entire industry. Curious, what are you guys seeing and your teammates seeing in April regarding commercial P&C pricing? Is it actually moving higher despite the economic pressures due to the uncertainty?

Maybe if there's any distinctions between MMA, kind of small, medium-sized businesses versus the largest clients, that'd be great too. Thank you.

Dan Glaser (President and CEO)

Sure. I'll hand off to John and also to Peter to give some deeper commentary. I'll just start by saying we're an intermediary. We're insurance brokers. On the Marsh side of the house, we do everything we can to negotiate broad coverage terms at high quality, best price available sort of thing. That's what we'll continue to do. That's our job. To us, we're not trying to strike a balance between insurance companies and our clients. We're an advocate for our clients, and these are tough times for a lot of our clients. We're working hard to obtain the best terms possible because nobody wants to be paying premium increases at a time when cash is king.

We are really focused on doing our best. We expect in this kind of environment, there is a bit of a flight to quality. There are also higher levels of client retention anticipated and probably softer new business as we go forward as we work through. John, you want to talk about the overall environment for COVID losses and how you are seeing the market today? We are going to be plugging John in in a second. Peter, can we go to you and talk a little bit about the reinsurance side?

Peter Hearn (CEO)

Yeah, Dan. The reinsurance market pricing was already increasing prior to COVID-19. It continues to increase. We are looking at this as a continuation of a market that was already in transition, principally in the United States more than in Europe.

I would imagine with the advent of COVID-19 that there'll be a reevaluation of risk throughout reinsurers' entire portfolio. At April 1, we saw increases in Japanese risk, principally based on several years of typhoon loss in Florida. No doubt there will be a reevaluation of risk based on the loss creep from events in 2017 and 2018, which Dan mentioned in his opening comments. I would say, in general, the reinsurance market has acted responsibly in their pricing to our clients based on exposure, based on loss experience, and based on their overall relationship with them. Okay.

Dan Glaser (President and CEO)

Thanks, Peter. One of the things that we mentioned in our script is that we're entering the U.S. hurricane season. This market is fragile.

The one thing that all companies want, but in particular insurance companies, is some level of certainty with regard to what losses happened and how it's going to impact them. Because in a lot of ways, premium levels, at least on the rating side, are determined by past losses. It's probably the primary determinant of what's going to happen to rates in the future is what happened to losses in the past. COVID is really unique because it is a slow-developing catastrophe. We all know it's going to be big, but it's in real time right now. I mean, the loss is ongoing, and it's global. From that standpoint, clearly, we're going to be battling with insurers on rate levels because in many areas, they're going to be seeking higher rate levels. Okay. Next question, please.

Operator (participant)

The next question comes from Jimmy Bhullar from JPMorgan. Please go ahead.

Jimmy Bhulla (Equituy Research Analyst)

Hi. Good morning. First, I just had a question on your exposure to potential sort of the debate that's going on on business interruption. How do you sort of think about your exposure to E&O claims where a client might think that they're covered for something and, in fact, they're not? I know you had like a $500,000,000 settlement on Alaska about 10 years ago, but can you give us any details on your own liability coverage and retention or limits?

Dan Glaser (President and CEO)

Thanks, Jimmy. Yeah. I mean, the Alaska situation is completely different from this one. It really, really doesn't apply.

Our role and principal focus as a broker is to advocate forcefully for policyholders and doing our best to obtain broad coverage and, in the event of a claim, assisting them with recovery. From that standpoint, that's what we do. We're on the client side of the table trying to develop outcomes. As we mentioned in the script, this is going to be a case-by-case sort of basis. There's different wording out there. Some language is much clearer than others, and therefore there will be different impacts as we go through advocating for clients. In terms of our own risk management practices, over the last few years, we've streamlined our professional standards. We've conducted E&O training for thousands of colleagues, and we've instituted widespread limits of liability. E&O is a large risk exposure to us. We are in the business of giving advice.

On that, I think we're entering this crisis with good systems and controls in terms of how we render that advice.

Jimmy Bhulla (Equituy Research Analyst)

Okay. Thanks. Just on a different topic, and you discussed this in your comments as well. Based on, and obviously, the virus is an evolving situation, but based on your views right now, 2Q is probably going to be weak. Third quarter should be weak as well. Do you expect your trough in your results to be in the third quarter, or is it more likely in 2Q and you think you're going to slowly be emerging out of it in the third quarter?

Dan Glaser (President and CEO)

No, I think that the impact, generally in insurance, you have delayed impact geared up with renewal dates and that sort of thing. It's not an immediate type of impact.

I think we're going to feel headwinds in parts of our business, significant headwinds, both in the second and in the third quarter. I can't really peg which one is likely to be more significant. When I look at the overall company, and as we described before, RIS could do reasonably okay in the circumstances this year. Mercer, we're thinking, is going to be negative, most likely for the balance of the year. Overall, we think it's probably a modest decline for the year, and there'll be sharper pullbacks in OW. In fact, at the end, we're very much focused not only in managing this crisis to the best we can, but also emerging from this crisis stronger than we otherwise would be. We're not fighting every inch for the second and third quarter.

We're fighting for the next three years, and we're making sure that we're doing the right things now to ensure that we're positioned well. Next question.

Jimmy Bhulla (Equituy Research Analyst)

Thank you.

Operator (participant)

The next question comes from Elyse Greenspan from Wells Fargo. Please go ahead.

Elyse Greenspan (Managing Director Of Equity Research)

Hi. Good morning. My first question, going back to the outlook as well. You guys pointed to modest decline in underlying revenue in your outlook and said that EPS could decline by a similar amount. That would imply that your margin would be fairly stable if it'll hold up pretty well for the year. I just want to confirm, A, that I'm thinking about that right, and then B, Dan, going back to some of your other comments, you guys imply a sharper decline within consulting.

Is it right to think that you would see more of a margin impact within consulting and maybe the RIS margins could hold up better during the downturn?

Dan Glaser (President and CEO)

Yeah. You're spot on, Elyse. I'll just say in general, we're not really focused on margin. We're focused more on issues around revenue and earnings. Margin will be an outcome of what happens on the top line to a large extent. You're right on in thinking that based upon what we've said about RIS, it's likely that RIS's margins hold up and may even improve a bit. On the other hand, it's likely that consultants' margins, based upon what we've said is going to occur with their revenue outlook, are going to reduce. Overall, company-wide, I can't make a call right now in terms of that.

I do know I love Greeks, and we've had 12 years in a row of margin expansion. We won't give that one up too easily.

Elyse Greenspan (Managing Director Of Equity Research)

Okay. Thanks. My second question, you pointed to weakness in the second and the third quarter. It sounds like you just, in response to the previous question, said that there is a bit of a lag on the brokerage side. It sounds like maybe third quarter weaker than the second. What about on consulting? Some of the weakness that you called out within Oliver Wyman and within Mercer, is that more immediate in nature? Should we think about consulting kind of slowing over the next couple of quarters, kind of in line issue or both might be weak to the same degree?

Dan Glaser (President and CEO)

Yeah.

I think the way to look at it is what's recurring revenue and what's more project-related. That has more of an impact as to whether something falls in consulting or something falls on the RIS side. On the RIS side, there's a significant amount of recurring revenue. Parts of Mercer have a lot of recurring revenue as well. Both of those recurring revenue pieces probably have a longer time horizon or a lag effect. You will see an impact over the second and the third quarter as those businesses adjust. Areas which have non-recurring revenue, it could be some project-related consulting in career within Mercer. It could be most of Oliver Wyman is project-related. Those will be faster declines, more immediate declines. You would see right in the second quarter, those parts of the business coming off. Next question, please, operator.

Operator (participant)

The next question comes from Greg Peters from Raymond James. Please go ahead.

Greg Peters (Managing Director Of Equity Research)

Good morning. My first question, we've seen a number of companies in the insurance industry announce no layoff pledges. One of your peers has announced salary cuts, and there seems to be a level of social responsibility that is becoming increasingly more important. I'm curious about how you think that might impact things around cost-saving initiatives and synergies, both currently and the future M&A.

Dan Glaser (President and CEO)

Thanks, Greg. I mean, it's a really important question, and it's multifaceted. Let me talk about it a little bit from our perspective. I mean, we did talk about both Mark and I that our visibility into our outlook is uncertain. Making decisions with so much uncertainty about outlook, it's not been easy. Those decisions are best done with clear eyes and the collective judgment of a seasoned team.

We have spent a lot of time surveying the horizon. In our view, as I was just mentioning, we are in a resilient business. RIS could hold up pretty well. Some parts of consulting are going to see a meaningful pullback, but we expect them to come back strong as the economy recovers. We have many different levers on the expense side at our disposal. We want to preserve flexibility and optionality for as long as we can. We want to make decisions based on data, scenario planning, stress testing. We have all kinds of capability within the firm in order to do that. We recognize that there are different levers for different challenges. When we think about expense cuts and our bonus pool, it is primarily giving us levers to protect earnings.

By the way, just as an aside, our bonus pool in 2019 was the largest in our history. From that standpoint, bonus pool, expense cuts are going to protect earnings as we go forward. To us, salary reductions and things like dividend cuts are levers to protect liquidity. It's kind of like survival mode stuff. We took some other actions. We secured additional access to liquidity early in the crisis. We believe that that's going to help us manage through most scenarios should a slowdown in collections impact our cash flow. As we saw in the financial crisis, there was a slowdown in the collection cycle, but it was temporary.

Solving that issue by reducing pay is an awfully blunt instrument, and it can have lasting implications, starting with the notion of shattering trust with your colleague base by challenging them when they're in this difficult period. The snapback that'll occur in cost once pay is lifted back again is just a couple of things that make it really problematic. Also, you can't just implement that kind of thing easily. There's consultation rules in most countries, and doing some sort of broad-based pay reduction programs are very difficult. The impact oftentimes will fall most heavily and unfairly on the U.S. population. Based upon our outlook today, levers like pay cuts or dividend cuts are not necessary. We track daily cash activity so we can get early warning signs, and we can react quickly if those levers become warranted.

I can't emphasize enough that we are managing this period very closely. We have never been more connected as an organization. The leadership team and I meet every day, and we are watching new business, expenses, exposures, pricing, cash flows obsessively as the leadership team. We are calm, and we are clear-eyed in this crisis. Our intention is that in terms of levers, it's to avoid being late in pulling a lever, but also avoid doing something now that is harmful and later proves to be unnecessary. Do you have any follow-up, Greg?

Greg Peters (Managing Director Of Equity Research)

Yes, I do. I want to pivot to the balance sheet. First, it's two parts. I'm just curious, in the light of all these give-back and delay programs and premiums, if you could address the net receivable balance on your balance sheet and if you have any concerns on that.

Then in the debt component, I know you spoke in the opening comments about how you took down the $2 billion to revolver, and then you paid off $500 million. The long-term debt piece increased from $10,741 million at the end of the year to $11,231 million. I do not understand why the long-term debt would have increased when you paid down $500 million. Thank you for your time.

Sure. Let me hand over to Mark, who will walk you through not only our approach on accounts receivable, but what we are looking like on the debt side. Mark?

Mark McGivney (CFO)

Sure. There is a lot in that question, so I will try to hit all those points. First, just to hit a little bit on liquidity and the collection side and how we feel positioned. Dan hit on a little bit of this.

I mean, you go into a period like this and you pull back and focus on the basics, and liquidity and flexibility are definitely on that list. Very early in the crisis, we jumped on this from both a financial perspective and an operational perspective. I mentioned earlier, in addition to our $1.8 billion credit facility, we went out and immediately secured an extra $1 billion short-term line of credit just as additional firepower going into this period of uncertainty. Remember, we had $1.5 billion of cash on our balance sheet. Some of that was to pay for the insurance acquisition. We have typically run about $1 billion on average at any given point in time. We have substantial liquidity available to us as we enter this period.

In terms of collections and visibility, we've operationalized around this, as I said, this heightened visibility on the potential for a slowdown of collections. In the financial crisis, there was one. It is something we could anticipate. Dan mentioned earlier, we've invested a lot in globally consistent systems and platforms, and the finance area is one of those. Having a common accounting platform and financial reporting platform gives us very good visibility into accounts receivable balances, aging, trends. All of our businesses are taking advantage of that. The other thing we're doing is we have pretty good visibility in our major countries in just daily cash deposit and cash flow activity. This is something that you can anticipate and prepare for.

Whether it's financially in terms of flexibility or operationally, to try to mitigate any impact as best we can, we feel well prepared. Just a couple of things on what you said. We still have $800 million of capacity in our existing short-term credit facility, not even the $1 billion one. Not all of what you see in short-term debt there is revolver borrowing. Typically, the increase we saw in short-term debt in the first quarter is what we typically see every first quarter. First quarter is when we pay out our bonus payments, and we fund that through short-term financing. As I also mentioned, we were holding on to a little bit of extra cash for the Assurance acquisition.

The increase in long-term debt, that was just a move we made early in the year just to term out a little bit of the short-term financing we had. There is a lot of flexibility we are building into and built into our term structure just relating to the debt and rates as part of financing JLT. Overall, we have pretty substantial access to short-term liquidity, and we feel like we are pretty well mobilized around any risk associated with delay in the collection cycle.

Dan Glaser (President and CEO)

Thanks, Mark. Next question, please.

Operator (participant)

The next question comes from Sunit Kimat from Citi. Please go ahead.

Sunit Kamat (Analyst)

Thanks. Good morning. My first question is around the environment. I mean, typically when we would see two large competitors merging, I would have thought that could have created some opportunities for the folks that are not distracted by a large deal.

Just to get your thoughts on that, or is that something we shouldn't expect given all the uncertainty related to the COVID-19 pandemic?

Dan Glaser (President and CEO)

I'm not going to comment on the potential merger between Aon and Willis. I'll leave it to them to comment on it. We like our strategic positioning. We would not change position with any of our competitors. We believe that we're set up very well. We're in the right countries. We've got the highest quality colleague base. We've got a client list that would be the envy of any company in the world. We think that we'll be able to grow substantially in the future based upon the fact that we're the leading provider of services around risk strategy and people. We like the way we're set up.

I do know we've learned an awful lot about integration activity over the course of the last decade. We have done a number of acquisitions. Of course, JLT was the largest acquisition in our history. We had a terrific year, a remarkable year in 2019, even though we were doing a lot of integration work. That is down to the quality of the executive team and the matching of cultures that existed. The cultures were not identical, that's to be sure. They are both high quality. They are both positive. They are both client-focused. On that basis, I really think that our first quarter demonstrates pick that box. JLT was a successful acquisition for Marsh & McLennan and was a successful integration.

We had 5% underlying revenue growth for the firm, but more specifically, the places that really overlapped the most with JLT, you've got Marsh at 5%, Guy Carpenter at 7%, and Mercer was 5%, but it was 8% underlying in health. The quality of what we've been able to deliver. I mean, our adjusted operating income at almost $1.2 billion is a first-quarter record for us. We're thrilled. We were set up for a wonderful year in 2020. Now, like the rest of the world, we're dealing with a crisis. It doesn't take away from the fact that we are a stronger, more capable, more creative, more connected firm than we've ever been before.

Sunit Kamat (Analyst)

Got it. Makes sense. A quick one from Mark.

I think you had mentioned both the debt maturity in early 2021 as well as some term debt. Just the thoughts on retiring those debt securities?

Dan Glaser (President and CEO)

Mark, please.

Mark McGivney (CFO)

Yeah, sure. The short answer is we would expect to pay those off through operating cash flows. Notwithstanding the crisis, that's changed our outlook, the second and third and fourth quarters for us are generally where we generate pretty substantial cash flow. We still anticipate that at this point, based on what we see, we're going to have good cash generation through operations for the balance of the year.

Dan Glaser (President and CEO)

Next question, please.

Operator (participant)

The next question comes from Phil Stefano from Deutsche Bank. Please go ahead. Yeah, thanks.

Phil Stefano (Analyst)

Dan, you talked about the expense levers that you have at your disposal to dial them back and trying to do so in a prudent fashion, just given the outlook for where you think things are going. Not too far, but make sure they're far enough to have a positive impact. I guess when we think about these expense levers, where are the expense levers you can pull more quickly than others? Have you thought about the extent to which maybe some expense levers don't come back? Because if they're so easy to dial down this quickly, do we really need them as we think about business moving forward?

Dan Glaser (President and CEO)

Yeah, I mean, it's a great question because I think there are certain things that are occurring which may actually last longer and maybe be permanent as we go forward.

I mean, things like flexible work arrangements may put downward pressure on our real estate costs over time. Not in the short term, but over time as an organization, we have proven to ourselves and to our client base that we can work from home. We can work remotely and do it effectively. There is an awful—I mean, I absolutely believe that more agile environments, more digital, are going to be a part of our future, and that would be a real positive. Now, in terms of expense levers, there are several that you can pull. I mean, I would start from the idea that we have a very significant bonus pool. As I mentioned before, last 2019, our bonus pool was the largest level in the aggregate in our history as a company. It is all geared to net operating income.

Our team, deep within the organization, is very aligned with shareholders and very aligned with the net operating income of the firm. It will be geared if NOI is dropping or the bonus pool will drop with it. That is a wonderful lever because it is variable. It is variable for a reason. The other thing I would say is we are a people business, and while you may have less attrition in a recessionary environment, you still have attrition. We saw it in other recessions. We do not have a higher increase. In fact, we are hiring people every day. We will control our hiring, and we will make sure that our executive team is very involved in making the decisions that we want to make. We will manage our attrition that way and have some more control over that.

Clearly, some significant pullbacks in the use of temps or contractors and things like T&E have fallen away. A lot of marketing expense, things like conferences, meetings, events, overtime, all things that we have as levers which have largely already been pulled to some extent, and you can always go deeper there. We are comfortable in how we are set up. I mean, at the end, we said that we think that our overall revenue might be down modestly as a company for the year. If so, then our overall EPS would be down modestly as well, but it might be slightly better than what our revenue would show.

Phil Stefano (Analyst)

The other thing to my follow-up on this is a quick one. When you talk about the EPS being down modestly, if not slightly, the correct base for that is the $4.66 of 2019 adjusted EPS. Is that correct?

Dan Glaser (President and CEO)

That's correct.

Phil Stefano (Analyst)

Okay. Thank you, sir.

Dan Glaser (President and CEO)

Thanks.

Operator (participant)

I'd now like to turn the call back over to Dan Glaser, President and COO of Marsh & McLennan Companies, for any closing remarks.

Dan Glaser (President and CEO)

Yes. Hi. Thank you, Operator. I would like to thank everyone for joining us on the call this morning. In closing, I want to applaud the tireless dedication of our 76,000 colleagues worldwide and the important role they have played supporting their colleagues, clients, and local communities. Times like these test the true character of an organization and the strength of individuals. What I have seen from MMC these past few months has been nothing short of amazing. Thank you all, and have a good day.

Operator (participant)

That will conclude today's call. Thank you for your participation. You may now disconnect.