Willis Towers Watson PLC

NASDAQ:WTW

Earnings Call Transcript 2018-Q4

[Operator]

Good afternoon, ladies and gentlemen, and welcome to the Willis Towers Watson Fourth Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded.

I would now like to turn the conference over to your host, Mr. Rich Keefe, Director of Investor Relations at Willis Towers Watson. Sir, you may begin.

[Rich Keefe, Head, IR]

Good morning. Welcome to the Willis Towers Watson earnings call. On the call with me today are John Haley, Willis Towers Watson's Chief Executive Officer; and Mike Burwell, our Chief Financial Officer. Please refer to our website for the press release and supplemental information that we issued earlier today. Today's call is being recorded. Some in the comments in today's call, we constitute forward-looking statements within the meaning of the Private Securities Reform Act of 1995.

These forward-looking statements are subject to risk and uncertainties. Actual results may differ materially from those discussed today and the Company undertakes no obligation to update these statements. For a more detailed discussion of these and other risk factors, investor should review the forward-looking statements section of the earnings press release issued this morning. As well as other disclosures in our most recent Form 10-K and other Willis Towers Watson SEC filings.

During the call, we may discuss certain non-GAAP financial measures. For reconciliation of the non-GAAP measures as well as other information regarding these measures, please refer to the most recent earnings release and other materials in the Investor Relations section of the Company's website. After our prepared remarks, we'll open the conference call for your questions.

Now, I'll turn the call over to John Haley.

[John Haley, CEO]

Thanks, Rich, and good morning everyone. Today, we'll review our results for the fourth quarter of 2018 and for the full year, and then we'll provide a brief commentary on the outlook for 2019. Before discussing the 2018 financial results, I'd like to reflect on our journey since the merger. The fourth quarter of 2018 marked the end of Willis Towers Watson integration activities. Over the course for the last 3 years, we faced many challenges and I'm extremely proud of the progress we've made.

Our success is evident in the financial results. We executed on our synergy goals for margin expansion for revenue growth and for lowering tax rate, and we nearly doubled our free cash flow in 2018. In short, we made a commitment to create long-term shareholders value and we delivered. I believe with our continuing focus on servicing clients and strategic investments in innovation, we're well positioned to deliver sustainable growth into the future.

I'm also honored that Willis Towers Watson was recently included on Bloomberg's 2019 Gender Equality Index as it demonstrates our commitment to equality and advancing women into workplace. Gender equality essential at Willis Towers Watson wired commitment to inclusion diversity as we stride to attract retain and develop the very best talent to best serve our clients. This year at the World Economic Forum at Davos, Willis Towers Watson was a co-sponsor of Bloomberg-wide the year ahead Davos even where Julie Gebauer, Head of Human Capital and Benefits spoke about the value of broadening perspective as part of the gender equality conversation.

Participating in the World Economic Forum was an exciting opportunity for us to share our perspective on critical topics like the future of work, inclusion and diversity, climate finance and cyber risk. It's clear that we're entering in area that will revolutionize the way we work and the way we think about inclusiveness. As trusted advisors and thought leaders in our increasingly socially conscious world, we're well positioned to help our clients and colleagues keep pace with the transition.

Now let's turn to our results. Just as a reminder, as of January 1, 2018, we adopted the new accounting standard ASC 606. A detailed prescription of the impact of ASC 606 will be provided in our Form 10-K filings and detailed explanations of how the new standard impacted our performance and the presentation of our financial statements has been provided in our earnings release this morning. I will first report the results using the prior accounting standard excluding the impact of the new accounting standard.

Based on the prior accounting standard without the impact of ASC 606, reported revenue for the fourth quarter was $2.1 billion, up 3% as compared to the prior year fourth quarter and up 5% on a constant currency basis and up 6% on an organic basis. Reported revenue included $49 million of negative currency movement. We experienced growth on an organic basis across all of our segments for the quarter.

Net income was $174 million, down 31% for the fourth quarter as compared to $253 million on net income in the prior year fourth quarter, which included a one-time tax benefit from tax reform. Adjusted EBITDA was $525 million or 24.5% of revenue as compared to the prior year adjusted EBITDA for the fourth quarter was $184 million or 23.3% of revenue, representing an 8% increase on an adjusted EBITDA dollar basis and 120 basis points of margin improvement.

For the quarter, diluted earnings per share were $1.29 and adjusted diluted earnings per share were $2.40. Overall, it was a good quarter. We grew revenue and earnings per share and had adjusted EBITDA margin performance.

Now turning to the results based on ASC 606 or the new accounting standard. Reported revenues for the fourth quarter were $2.4 billion. Net income for the fourth quarter was $383 million. Adjusted EBITDA for the fourth quarter was $774 million or 32.6% of revenue. For the quarter, diluted earnings per share were $2.89 and adjusted diluted earnings per share were $4.

Now let's look at each of the segments in more detail. To provide clear comparability with prior periods, all commentary regarding the results of our segments will be based on the prior accounting standard and reflect revenues on a constant currency basis unless specifically stated otherwise. Segment margins are calculated using segment revenues and exclude unallocated corporate costs such as the amortization of intangibles, restructuring costs, and certain transaction and integration expenses resulting for mergers and acquisitions as well as other items which we consider non-core to our operating results.

The segment results include discretionary compensation. For the fourth quarter, total segment revenues grew 5% on both the constant currency basis and on an organic basis. Human Capital and Benefits or HCB had a solid quarter with 4% constant currency in organic growth as compared to the prior year fourth quarter. The solid performance extended across all our businesses in this segment. We had the strongest growth in our health and benefits business with revenue increasing by 7% as compared to the prior year fourth quarter. The growth is primarily a result of solid growth in North America driven by increased advisory work and growth in our specialty products.

In addition, we experienced continued momentum outside North America related to global benefit management appointments as well as increases in local and regional market share. Talent and rewards fourth quarter revenue increased by 7%, as compared to the prior year fourth quarter. The net growth was primarily due to strong market demand for compensation surveys globally and for advisory work in North America, Western Europe and International. As expected, the retirement business experience nominal growth, compared to the prior year fourth quarter. A lower level of de-risking projects like bulk lump sums in North America was more than offset by growth in Great Britain related to more favorable pricing on consulting projects and growth in international from strong project activity in Asia.

Our Technology and Administration Solutions, or TAS revenue grew moderately compared to the prior year fourth quarter with increased revenues in Germany from new client implementations. The operating margin for the HCB segment was 24%, an increase of 3% from the prior year fourth quarter. Revenue growth and discipline expense management contributed to the margin growth. Now turn to the HCB results including the impact of the new revenue standard. The HCB segment had revenues of $843 million and then operating margin of 30%.

Now let's look at Corporate Risk & Broking, or CRB, which had a revenue increase of 5% on both a constant currency in organic basis as compared to the prior year fourth quarter. North America's revenue grew by 7% in the fourth quarter with strong results across all lines of business. International Western Europe and Great Britain and each contributed 4% revenue growth. International continued its momentum, driven primarily by new business wins in Asia and Latin America. Great Britain in Western Europe generated several new business wins in construction, energy and claims management.

CRB revenues were $812 million with an operating margin of 30% as compared to a 27% operating margin in the prior year fourth quarter. The margin expanded due to the top line performance coupled with continued cost management efforts. Now turning to the CRB results including the impacted of new revenue standard. For the quarter CRB had revenues of $816 million and an operating margin of 29%. We continue to be optimistic about the momentum in our CRB business going forward.

Turning to Investment Risk and Reinsurance or IRR, revenue for the fourth quarter increased 5% to $297 million on a constant currency basis and increased 8% on an organic basis as compared to the prior year fourth quarter. Operating margins were negative 1% a slight improvement versus the same period last year. This was driven by revenue growth in the reinsurance, insurance consulting and technology, investment in wholesale businesses which also delivered mid-single digit growth or better.

Reinsurance had strong growth primarily driven by net new business performance in North America, while the insurance consulting and technology growth was driven by technology sales and EMEA and consulting project activity in the Americas. Investment grew due to new client wins and continued growth in delegated investment services. Wholesale growth was driven mainly through the specialty business unit. Over the fourth quarter 2018 margin expanded due to the robust revenue growth for the quarter.

Now turning to the IRR results including the impact of the new revenue standard, IRR had revenues of $280 million and an operating margin of 2%. We continue to feel very positive about the momentum of the IRR business in 2019. Revenues for the BDA segment increased by 8% from the prior year fourth quarter driven by increased enrollments, our individual marketplace revenues increased by 5%, while the remaining businesses in this segment generated 11% growth led by benefits outsourcing. Increased membership and new clients drove the revenue increase and benefits outsourcing while the group marketplace business continue to grow primarily due to new clients and customized active exchange projects.

So let me turn to the 2019 enrollments. As we mentioned in our previous earnings call, enrollment continued to look stronger in the mid-market and large market space. We added about 300,000 lives during the 2019 enrollment period. The individual marketplace exchange enrollment seasonality has been shifting as the business matures. We're seeing enrollment spreads more evenly throughout the year due to off-cycle enrollments in agents and a more modest increase in enrollments during the fall enrollment season. To that end, we expect to enroll another 55,000 to 65,000 retirees during 2019 via off-cycle enrollments and agents.

The BDA Segment had revenues of $209 million with the 28% operating margin up 5% as compared to the prior year fourth quarter. The expansion in margin was a result of the strong revenue growth as well as our ability to continue to scale these businesses. The BDA segment reflecting the new revenue standard had revenue of $390 million and an operating margin of 61%. The primary driver of this difference is due to the effect of the revenue accounting standard and individual marketplace.

These revenues must now be recognized at the date of placement rather than pro rating than starting at their effective date. So under the new standard, the majority of the revenue generated by annual enrollment activity in the fall is now recognized immediately, whereas under the old standard this revenue would have started to be recognized in January 2018 on a pro rata basis throughout the year. So, this change results in higher revenue recognition in the fourth quarter of the calendar year under the new standard.

In summary, I'm very pleased with our progress. We produced strong earnings growth in the fourth quarter, and for the full year, we have strong revenue growth by a meaningful margin expansion and significant adjusted EPS growth all while continuing to invest in our future and return capital to shareholders through dividends and share repurchases. I'd like to thank all of our colleagues for their unwavering commitment to delivering outstanding service and also our clients for their continued support at Willis Towers Watson.

Now, I'll turn the call over to Mike.

[Mike Burwell, CFO]

Thanks, John, and good morning to everyone. Thanks to all of you for joining us. I'd like to add my thanks and congratulations to all our colleagues for their efforts and contributions to our strong finish and our overall financial performance in 2018, and thank our clients as well for their continued support. My comments around our 2018 results will discuss our results without the impact of ASC 606 unless otherwise stated in order to assist with comparability over the prior year periods. Now, let's turn to the financial overview.

Let me first discuss income from operations. Income from operations for the fourth quarter was 210 million or 9.8% of revenue, up 163% from the prior year fourth quarter income from operations of 80 million or 3.8% of revenue. Adjusted operating income for the fourth quarter was 390 million or 18.2% of revenue up 5% from a prior year fourth quarter adjusted operating income of 370 million or 17.8% of revenue.

Income from operations for the full year 2018 was 907 million or 10.5% of revenue, up 76% from the same period in the prior year of 516 million or 6.3% of revenue. Adjusted operating income for the full year of 2018 was 1.6 billion or 19.1% of revenue and up 9% as compared to the same period in the prior year in which adjusted operating income was 1.5 billion or 18.4% of revenue.

Now let me turn to EPS or earnings per share. For the fourth quarter of 2018 and '17, our diluted EPS was $1.29 and $1.84 respectively. The year-over-year decline and diluted EPS was due to the inclusion of aforementioned one-time tax benefit in the comparable period, which was incurred in connection with the U.S. tax reform. For the fourth quarter of 2018, our adjusted EPS was up 9% to $2.40 per share, as compared to 2.21 per share in the prior year fourth quarter.

For the full year 2018 and '17, diluted EPS was $5.87 and $4.18, respectively. For a full year 2018, adjusted EPS was about 21% to $10.33 per share versus $8.51 per share and the same period in the prior year. Under the new revenue recognition standard, our diluted EPS was $2.89 for the quarter and $5.27 for the full year 2018. Our adjusted EPS was $4 per share for the quarter and $9.73 for the full year.

Moving to taxes. I'd like to provide you with some additional insight into our U.S. GAAP and adjusted tax rates. Without the impact of ASC 606, the U.S. GAAP tax rate for the fourth quarter was 19.9%, as compared to negative 221.4% for the prior year fourth quarter. As a reminder, with respect to our fourth quarter prior year rate, we had booked at one-time discrete net tax benefit from U.S. tax reform in the prior year, which results in a significantly lower U.S. GAAP tax rate for both Q4 '17 and for the full year 2017.

Our adjusted tax rate for the fourth quarter was 20.9%, a slight increase from the 20.6% rate in the prior year fourth quarter. For the full year, the U.S. GAAP tax rate was 16.2% for 2018 and the adjusted tax rate was 19.4%, which was slightly lower than our guided adjusted tax rate of 20% 21%.

Moving to the balance sheet, we continue to have a strong financial position. For the full year 2018 without the impact of the new revenue standard, our full year free cash flow was 1.1 billion, an increase of 508 million or 90% compared to the prior year. Including the impact of the revenue standard, our free cash flow was $1 billion, an increase of 81% compared to the same period in the prior year.

Balance sheet position continues to strengthen. During the year, we successfully issued $1 billion in senior notes to help with the efficiency of our capital structure, provide additional financial flexibility. Moreover as a result of our increased profitability our debt to adjusted EBITDA leverage ratio decreased to 2.1 times at fiscal year-end 2018 from 2.4 times at the end of the prior year, beginning of the prior year.

In terms of the capital allocation, we repurchased approximately 201 million shares during the fourth quarter and 602 million for the full year since the merger we have repurchased or retired approximately 12.3 million shares and paid approximately $784 million in dividends.

Now that we summarize last year's performance, let's take a look ahead to our guidance for 2019. Having moved pass initial adoption year for the new revenue standard, we will no longer report our financial results based on both the old accounting standard and the ASC 606 accounting standard. Starting in 2019, all our financial results we reported based solely on the ASC 606 standard. Importantly, the 2019 guidance we will provide to you today is based on the ASC 606 rules.

For the Company we expect organic revenue growth of around 4%. Our non-cash pension income which is classified with other income in that line is expected to decline due primarily to decline in returns on planned assets. We provided some further guidance on how to think about other income in that line in our supplemental materials. We're changing our margin guidance to focus on adjusted operating margins so investors can get a better sense of our core margin performance going forward. We expect our full year 2019 adjusted operating income margin to be around 20%.

Pertaining to tax, we expect our adjusted effective tax rate to be around 22% for fiscal year 2019. Excluding any potential discrete items compared to 19.4 in 2018. This increased stance from change in related effects the tax reform legislation. We continue to evaluate the impact of tax reform on our effective tax rate including the effect of new taxes associated with computations for changes resulting from update interpretations and assumptions issued by the taxing authorities. As a result, the effective tax rate is subject to volatility and will continue to be updated as more analysis and information becomes available. We will continue to look at tax finding strategies which may lower the rate beyond this year's guided rate.

We expect another year of strong free cash flow. We're changing the way we categorize our long term free cash flow growth expectations to indicate a longer term view. In general we expect free cash flow to grow 15% or greater in each year over the next three year period measured from our 605 amounts. And our guidance assumes average currency rates of $1.29 to the pound and $1.14 to the euro. Assuming exchange rates remain at the current level, we will expect FX to be a headwind to adjusted EPS for 2019 by approximately $0.10 per share and we expect the majority of this impact in the first quarter.

Adjusted diluted earnings per share is projected to be in line with the range of $10.60 to $10.85. this guidance includes the impact from expected headwind item to adjusted diluted earnings per share such as currency with the $0.10 reduction, lower non-cash pension income around $0.36 reduction and the higher adjusted tax rate in 2019 of around $0.35 reduction. Excluding these items, our expected adjusted EPS growth for 2019 will be at the double digit adjusted EPS growth rate which we have provided as a long term growth objective.

In summary, we were pleased with our 2018 results and continued momentum in to 2019. There is a lot of opportunity ahead and we remain focused on driving execution.

So before I turn the call back to John, I want to remind you this year, we'll be hosting an Analyst Day in Washington DC on March 22nd, 2019, and we look forward to seeing you there.

[John Haley, CEO]

Okay. Thanks, Mike, and now we'll take your questions.

[Operator]

[Operator Instructions] Our first question comes from the line of Kai Pan with Morgan Stanley. Your line is open.

[Kai Pan, Morgan Stanley]

My first question. Just want to make sure the $60 reduction in other income line for 2019, would that be just one-off as you guys going forward, the level of other income will be lower?

[Mike Burwell, CFO]

Yes, based on '19 that's we think, it's reasonable amount that we would think that would be a similar line item, but that kind of range Kai in terms of thinking about the number going forward.

[Kai Pan, Morgan Stanley]

And then, John for the organic growth guidance 4%, this year did 5%. Just wonder, if anything sort of in your mind that could be headwind into 2019?

[John Haley, CEO]

Well, I think if you look, I think generally the industry as a whole is projecting growth around 4% and we're saying, we think, we'll grow as fast as our competitors if not faster. That's how we have look 4%. We did very well in 2019 and we expect to -- I mean in 2018, we expect to continue to build on that in 2019, nothing special that we built into that.

[Kai Pan, Morgan Stanley]

One more, it's just last one a larger picture question. Looking back last three years, you had $10.33 achieved over deliver your 10.10 target. So John looking next 2 years, you've extended your contracts for another 2 years through 2020. There are two part question. Number one is that, what will you be focusing on in the next 2 years? Number two, you have a new stock unit awards, are they tied to specific performance like 10th and targets for the past 2 years?

[John Haley, CEO]

So, let me answer that first -- the second part of the question first. The new stock awards will -- the way we did one-time mega grant of the 3 years was special. And the particular set of metrics we used there was that -- we're focused more on just total shareholder return for the new awards. So over the next 2 years, I think the story of the last 3 years was really bringing the two firms together. We had some synergy goals we wanted to get in terms of revenue. We had some efficiency goals we wanted to get in terms of lowering our overall costs.

We had some tax savings we wanted to get. I think we want to continue to press in all three of those areas. But I think even more what we want to focus on is bringing Willis Towers Watson together and getting the synergies across all of our operations. So as I said, in 2018, we grew as fast as our competitors are a little bit faster when we look on an organic basis against that. And we want to build off of that in 2019 and 2020. I just one of the things that from a financial perspective, one of the main focuses we're going to have is growing our free cash flow. And as Mike referenced in his remarks, we expect that for the short to medium term, we should be able to grow free cash flow by 15% a year. And that's one of the key new metrics we're focusing on.

[Operator]

Our next question comes from the line of Greg Peters with Raymond James. Your line is open.

[Greg Peters, Raymond James]

I guess, John, just to build on your last answer when you're talking about free cash flow. I was hoping maybe you could spend a minute and sort of give us some of the components that you would expect near term and longer term to drive free cash flow growth because it's clearly growing at a faster cliff than your earnings per share guidance by suggest. And embedded in that, I'm curious if you could give us an update on some of the pieces of the puzzle like DSOs?

[John Haley, CEO]

Well, yes. I think so. First of all, profit is something that we expect to be growing significantly over the years. And one of the things to notice is that, Mike referenced some of the headwind we have from lower pension income though what that means is, we actually are getting more free cash flow as a larger percentage of our profit that we're getting there. So, that's going to be helping us. We have no integration cost going forward. We're going to be focusing on our working capital. And we are -- we successfully lowered our DSOs this year, and we're going to continue to press on that in coming years, Greg.

[Greg Peters, Raymond James]

And just to build on that answer. Can you talk about the balance between investing in your operations and extracting margin improvement? It seems like many of your peers are talking about investing in things like InsurTech and other initiatives to help drive improved efficiency, and of course that's an upfront expense?

[John Haley, CEO]

Yes. I mean, we've actually referenced this on some of the calls over the last couple of years, but the single largest investments we have as a company are in InsurTech. We're continuing to push on this -- in this area and then others, we have a lot of work we do on that already. We consider ourselves one of the leaders in this area and it's going to continue to be an important part of what we do.

[Greg Peters, Raymond James]

And my second question and the last question I have is just around the organic revenue guidance. And I was wondering if you could, and I know you don't want to get nail down to specific guidance by segment, but I'm wondering if you could give us a sense or the some sort of feel for how the different segments might perform in this upcoming year?

[John Haley, CEO]

Well, I think one of the things that we feel much more confident in giving some overall guidance for the Company the further you break it down, the more likely it is to be. We just don't have as much visibility into less little. I think we feel pretty good about the guidance at the Company level. And that's why we're trying to stick to that. I would note though that all of our segments grew this year and we expect all of our segments to grow again next year.

[Operator]

Next question is from Shlomo Rosenbaum of Stifel. Your line is open.

[Shlomo Rosenbaum, Stifel]

I just want a couple of things, I just wanted to jump into, and Mike maybe you can just, give us just a little bit more detail on the pension stuff. I had to jump back and forth on the call, so I might have missed that. But the reason why you have this hit is because lower expected return on assets and that's something that we should expect and just to go forward basis. Is that correct?

[Mike Burwell, CFO]

Well, some of -- no if you look at -- we have obviously -- we have an extra actuary. And in actuarial services that we provide to many times, we obviously provide that to ourselves in terms of going through that determination is no secret in terms of some of the assets performance that happened last year in 2018. And that had a direct impact in terms of what the returns would be for us going forward and in calculating that actual evaluation. So really that's the direct piece of it.

[John Haley, CEO]

Maybe I just make it, maybe just make a couple comments quickly on that, Shlomo. So first of all, markets tanked in December, so we just have a lot less pension assets at the end of December when we do the measurement. Interestingly enough during the same time, you might have thought that the interest rates would be going up, but in fact, they went the longer term rates just a little bit. So, our liabilities increased at the same time that our assets were going down. We are a mark-to-market company. So we don't smooth the assets. So if you look at companies that smooth the asset performance over the years, they can hit a little bit by some of the drop that we experienced in the fourth quarter, but they're offsetting that by maybe some increases from prior year. So, it's not as big a difference, the companies that mark-to-market see bigger differences year-to-year.

[Mike Burwell, CFO]

And the cash implications, this is nominal, it's very small.

[Shlomo Rosenbaum, Stifel]

So, it's really a fourth quarter of event that impacted that and we could see that turning around next year this year as well. The same way it went down this year could go up next year.

[Mike Burwell, CFO]

Let me just say, if we have measured the assets at the end of January, we would add a different results.

[Shlomo Rosenbaum, Stifel]

Okay, okay. And then on the free cash flow side, did you make the litigation settlement in 2018 or is that still coming in 2019?

[Mike Burwell, CFO]

That's still coming we hope in 2019.

[Shlomo Rosenbaum, Stifel]

And just one of the things that I'm looking at just by step back with a lot less integration impact and really, if you go ahead and peel out the fact that the pension stuff is non-cash. Seems to be having a little bit faster free cash flow growth and because the margin is underlying margin is continuing to expand, you're continuing to work on the working capital and went to business know? Without the cash cost from the integration, shouldn't you be getting faster growth in that, certainly in the near-term?

[Mike Burwell, CFO]

Well, I mean, one thing to keep in mind is that we do have, we are expecting to pay the 120 million, as you said in 2019. And so, we're not trying to -- we're not saying adjust for the 120 million. We're saying we'll get 15% minimum.

[John Haley, CEO]

Minimum or plus. Minimum will be the 15% Shlomo.

[Shlomo Rosenbaum, Stifel]

So, 15% including the hit of 120 million.

[Mike Burwell, CFO]

Including the hit of 120 million. Yes.

[Shlomo Rosenbaum, Stifel]

Got it. Got it. And then is there if you could just talk a little holistically, the organic growth in the businesses as you said been basically in line to ahead of peers recently. Is there some any reason to expect any difference going forward? Do you feel comfortable with some of the changes that you need over the last several years in leadership and the trajectory of the brokerage business that you should be able to achieve then on a go forward basis?

[John Haley, CEO]

Yes. I feel great about the -- I feel great about the leadership we have in place from the operating committee on down. I think we have terrific leaders across -- really across all of our segments and geographies. I'm very optimistic about what we can achieve and I think there's -- every year has its own issues that you have to deal with, but frankly in some way some of the hardest things are behind us.

[Shlomo Rosenbaum, Stifel]

Okay, great. If I could just squeeze a last one in, just on capital allocation, historically, the legacy Watson Wyatt and then Towers Watson business has always been very -- hit a conservative posture on debt, you wanted a lot of powder dry for acquisitions. Is it the way we should think about it going forward or should we expect the Company might step up some of their share repurchase activity?

[John Haley, CEO]

Well, I think what we would be looking at is share repurchase. We looking at about $800 million or so that we should have available that we could use for acquisitions, if we found some really great acquisitions, we wanted to do. If we didn't do that, we'll repurchase shares.

[Operator]

Thank you. And our next question comes from the line of Mark Marcon with Baird. Your line is open.

[Mark Marcon, Baird]

I was wondering, if you can just talk about a couple of things. John, you had mentioned, one of the organizational goals on a go-forward basis is this to continue to improve the way that the organization works together. I'm wondering if you can just talk about some of the -- how you're viewing like the internal alignment, the incentives, the culture, what are some of the major goals that you have over the next two years that you would -- that could actually be observable from the outside or that people on the inside should certainly see in terms of a change in terms of the way of operating?

[John Haley, CEO]

So, I think certainly from the inside, we'll see -- we -- as we go to market and this is particularly in the US in talking to some of our -- some of the large companies going to market with our integrated proposition has led to us penetrating, in particular the CRB market in companies that we traditionally have not worked for. I mean, just in the fourth quarter -- in the December November-December timeframe. We had a couple of the large organizations that we won the CRB work for. I think that, that integrated approach-and it couldn't have occurred without both the CRB and some of the other parts of the organization working together.

So, I think we'll start to see that pay off. That will be more visible to people inside, but I think outside, you'll probably see it in continued growth in our large market in CRB, in North America in particular. I think we're increasingly seeing chances to work together between our insurance, consulting, and technology operation and reinsurance and those took off right away. Working together, increasingly we are seeing the tools and analytics that we have available from ICT, we're introducing them into CRB and bringing them together. And in response to an earlier question, I talked about in InsurTech -- a lot of what we do in ICT is really on the InsurTech forefront there and so we expect to see some of that coming in.

[Mark Marcon, Baird]

And then two more questions if I may. Just with regards to the segment growth, you mentioned the overall 4% organic revenue growth, maybe without being very specific about the specific expectations. Could you just talk about rank ordering from strongest to perhaps most modest in terms of what your revenue growth expectations are among the four major segments? And then also where are you investing the most and then the last question is from Mike. Just can you give a little bit more specific in terms of the DSOs and what the goal is there and how we should think about the EBITDA, the free cash flow conversion? Thank you.

[John Haley, CEO]

Okay. Thanks Mark. So, let me start off and say, from the segments I think the earnings growth rate is actually reasonably consistent across -- all of the segments, I think BDA is a segment that we talked about -- we're having the great growth in the new enrollments. But, of course that's also a segment with when you're selling to retirees there there's a mortality element that you have to take into account too, so you lose some of your customers every year. And some of the premiums that we got when we first enrolled people only last for a certain number of years, so they fade off too.

So, my point is I think BDA has been by far the fastest growing of our segments over the last couple of years; we'll see that more in the same pack I think with the rest of them. And at a broad brush, 30,000 foot level, they all look more like -- all look about the same as the Company overall. I think IRRs is the one that probably has the most volatility, within segments, we'll see things like health and benefits, which I think will be very fast growing, but then that could be offset by other parts. So, the 4% is probably not a bad thing to think about for all the segments. In terms of what did we -- excuse me?

[Mark Marcon, Baird]

Which one would you invest in the most?

[John Haley, CEO]

So, yes. So, the ones we're investing in, I think -- we're investing in Health & Benefits that's an area that, as I said is incredibly fast growing. We are investing in IRR and in CRB also. And in lot of ways we're investing in IRR and CRB are through the -- some of the InsurTech or some of the ICT materials that we're doing. The two largest investments that we have in the Company are InsurTech around that Invesco that we announced last year and then also the AMX for the asset management exchange is an area we're investing in.

So, those are some of the areas that we're investing in for big growth. I should also mention though there are areas that are -- that may not have large growth that it still pays for us to invest in to make sure that we can maintain our market share or to make sure that we can improve our efficiency and grow, and so retirement for example, would be a case like that where we continue to invest in that because it's a great business to be in.

[Mike Burwell, CFO]

Great. And then on the DSO question, I mean obviously you saw the improvement in working free cash flow that we commented on in our prepared remarks and we targeted five-day reduction last year and we're looking at similar number to continue to drive that kind of improvement going into this next year. So, as we said, really kind of focused on 15% or better in terms of free cash flow growth and that's what we're really targeting and obviously DSO is a big part of that in terms of really looking at working capital -- overall in working capital management.

[Operator]

And our next question comes from the line of Mark Hughes with SunTrust. Your line is open.

[Mark Hughes, SunTrust]

Yes. Thank you. Good morning. The CRB growth of 7% in North America seems like a very strong number. You had alluded to some new business wins that came through kind of an integrated approach. How much of that 7% would you -- was there any timing benefit there or could you quantify how much might have come through revenue synergies this quarter?

[John Haley, CEO]

No, because we don't actually record them or break them down, so we don't even have that data that we can ascribe we've got this win because of synergies. We've got this win for a different reason. So, some of these -- these just happened to be big name companies, so there is some anecdotal evidence about that. But I would say there wasn't anything special about timing. We had -- I mean, one of the things I'd mention is we had a really good fourth quarter in 2017 and so our growth in this fourth quarter in 2018 was I think all the more impressive because it was off a strong quarter there. But, we had areas like construction, which is a traditional strength of ours that was very strong in the fourth quarter this year, but really, particularly in North America this wasn't across the board -- good result.

[Mark Hughes, SunTrust]

And then, the share repurchase activity, how should we think about the total share count in 2019? Are you just going to be repurchasing issued shares and so hold steady or you're going to make progress on reducing the share count?

[John Haley, CEO]

I think as I said in response to, I think it was Shlomo's question or Mark's question about the $800 million, we expect to spend about $800 million. If we did no acquisitions, we would use the whole $800 million to repurchase shares that would probably -- that would lower the share count. If we do some acquisitions that could eat into that, so we expect that we would do at least half, if not more of that in a share repurchase though.

[Operator]

Our next question comes from Michael Zaremski with Credit Suisse. Your line is open.

[Michael Zaremski]

I know there's been a lot of talk on free cash flow, but I apologize I'm going to come back to it again, given the -- I think expectations were for free cash flow to grow by closer to 25%. So, maybe you can kind of talk to the long-term goal of maybe CapEx as a percent of revenues, is that what's keeping free cash flow from growing further because you're looking at making more investments or is it maybe the -- I think you alluded to the interest rates declining at the end of the year and so, it's the pension contribution maybe both? If you can kind of talk to why the gap between free cash flow on operating income levels, this isn't closing as fast as people expected.

[John Haley, CEO]

I don't think we had any guidance of 25% increase in free cash flow.

[Michael Zaremski]

I just want to get your consensus sorry, on Bloomberg.

[John Haley, CEO]

I don't know. We think 15% per year is a pretty good result. So...

[Mike Burwell, CFO]

In some years it will be much higher, in some years lower and we're excluding the view that there will be that settlement happening in 2019 is most likely -- I mean that, that will happen in 2019 on Stanford litigation that we have outstanding, obviously you see the integration costs go away and on top of that basic so five number and we see free cash flow growing at a minimum of 15%, if not greater, but some years will be higher, some years will be lower and so I think 15% is a pretty good target to have.

[Michael Zaremski]

Okay, that's fair. My follow-up and last question is when you think about organic growth and margins for 2019, in past quarters, your results have sometimes been a little bit more volatile than peers, I know the new accounting was sometimes tough to digest, so I'm just curious are there any tough comps or nuanced seasonality you think we should be aware of as we tweak our models for 2019?

[Mike Burwell, CFO]

I don't think so. No.

[Operator]

Our next question is from Joseph Kinar with Goldman Sachs. Your line is open.

[Joseph Kinar, Goldman Sachs]

So question I guess on going back to free cash flow. Looking at the 15% or more guidance for 2019 in growth, I think you said that you still expect five -- extracting by five days of DSO in 2019, so I think that gets about $100 million, so would the remainder just be to the EBITDA growth, am I thinking about it correctly?

[Mike Burwell, CFO]

I mean, that's -- look at some combination of what -- we did not get into that specific.

[John Haley, CEO]

We haven't broken it down that specifically.

[Joseph Kinar, Goldman Sachs]

Okay. But it is correct to think of the $100 million roughly of the 15% improvement coming from DSO improvement?

[Mike Burwell, CFO]

Yes. I mean, I think we had a similar kind of target last year and that's where we're putting a similar type of improvement. Last year, I mean, so that's a similar year-on-year kind of improvement and we had five days targeted out.

[John Haley, CEO]

But again, we didn't break it down that specifically.

[Joseph Kinar, Goldman Sachs]

Okay. And do you think that improving of DSO by five days a year as -- should we expect that to start slowing down in the out years or is that a reasonable number to think about for the foreseeable future?

[Mike Burwell, CFO]

Yes. I still would just come back to that 15%, in terms of target and some combination of, of all those things profits, working capital management, managing -- how we manage overall cash flow. So, I mean, we're targeting 15% and a combination of all those.

[Joseph Kinar, Goldman Sachs]

Okay.

[John Haley, CEO]

I mean, look, I think we do think we can continue to get DSO improvements in each of the coming years. They may not be as much in one-year as the other. But we are -- we do think eventually it will slow down as we get closer to what our goal is, but we think there is at least several more years of improvement we can get.

[Joseph Kinar, Goldman Sachs]

Okay. And then on EBITDA, I think in the past you had said that 25.5% was kind before for 2019, but then clearly you've had a little bit of a change in the other income now on the one hand, on the other hand I'm assuming you have a little more clarity on potential other drivers for EBITDA improvement. How should we think of EBITDA, guidance outlook thoughts for 2019?

[Mike Burwell, CFO]

Yes, we're really not giving guidance on EBITDA that's why we thought it was more appropriate to really focus on operating income, which really focuses on the operations overall and then improvement. So you really take out that pension volatility that we had touched on earlier in our comments.

[John Haley, CEO]

But, if you think about that the adjusted operating margin was I think, it was 18.4% in 2017 and 19.1% for this year and we're saying we're going to be close to 20% for next year. So, we're expecting to continue to improve our margins significantly.

[Joseph Kinar, Goldman Sachs]

Okay. And one last quick one, the $60 million decrease in other income in 2019, that's compared to 2018's $250 million right, not the adjusted $283 million?

[Mike Burwell, CFO]

So just -- can you repeat the question back just to make sure I got it.

[Joseph Kinar, Goldman Sachs]

Sure. You're talking about a $60 million decrease in other income net in 2019. I just wanted to confirm that, that $60 million decrease is off of other income net of $250 million for full year 2018 not off of the adjusted other income of $283 income?

[Mike Burwell, CFO]

That's correct. You're correct.

[Operator]

Our next question is from Meyer Shields with KBW. Your line is open.

[Meyer Shields]

Great, thanks. So one quick modeling question, with regard to unallocated expenses, should the full year 2018 run rate of about $75 million a quarter, is that a good base next year?

[Mike Burwell, CFO]

Yes. I mean, we're really not giving any further guidance on that number. I mean really focused on operating income, in terms of the target number and really focused on those margin improvements that John mentioned earlier there is really the way we're thinking about it.

[Meyer Shields]

Okay, sure enough. I was hoping you could give us just some update on certainly reinsurance demand, whether we're talking about 1:1 renewals overall whether you're seeing a -- I'm sorry a notable change in demand for reinsurance among seasons?

[Mike Burwell, CFO]

Yes, I mean we have -- we are definitely seeing strong demand for reinsurance. Overall consistent with what we've seen in the marketplace, and so that business has been very strong for us and performed well.

[John Haley, CEO]

Yes. And I think if you look at it, you'll see -- as our competitors are reporting too, I think everybody said reinsurance is stronger than it was -- last year there's some growth in that and we participated in that.

[Operator]

Thank you. Our next question comes from Elyse Greenspan with Wells Fargo. Your line is open.

[Elyse Greenspan, Wells Fargo]

I just have some follow-up questions, I guess mostly related to some of the topics you've addressed on but, are you guys going away from that free cash flow target that was 75% to 80% of adjusted EBITDA. And just looking at it on an annual growth level now or it's still the longer-term target if you continue to grow 15% a year, that you will get to that 75% to 80% level?

[John Haley, CEO]

Yes, I think Elyse the reason we are focusing on the growth so much is a, we think that's probably more helpful to people. The problem with the 75% to 80% is that, it depends on what portion, say things like pension income are of your total income. And so, rather than adjust the target each year as the pension income fluctuates up or down, we just thought we'd focus on the growth, we thought that'd be more meaningful for market participants also.

[Elyse Greenspan, Wells Fargo]

Okay. And then, in terms of going back, we kind of really adjust the pension income impact, but you guys had pointed to really that 25.5% level, so is the right way to think about it for those of us that were thinking you would get to that EBITDA margin, which I know we're not talking about operating margin in 2019. Is it all that for -- if not for December, and the impact of the markets that the pension income would have gone the other direction and then we would still -- we will be talking about 25.5%. I think some folks are just trying to reconcile comments about the margin improvement that you guys gave last quarter on an EBITDA basis with the guidance laid out today?

[John Haley, CEO]

Yes, I think that's a fair comment. I mean that's a fair conclusion.

[Elyse Greenspan, Wells Fargo]

Okay. And then on the unallocated expense line, that's pretty variable as well, ticked up in the fourth quarter, if you can just comment on what drove that? And then, in your guidance for 2019, are you assuming unallocated net as kind of flat on a year-over-year basis for every quarter?

[Mike Burwell, CFO]

Yes, I mean what you see in that unallocated line item is corporate costs that aren't allocated back to the business such as Brexit, just would be an example that we saw happen -- and activities happening in the fourth quarter GPD, all kinds of activities that were happening in terms of that improvement. And we're really not giving any guidance Elyse, as it relates to that line item going forward as we're really focused as I say, going forward on operating income and operating income improvement.

[Elyse Greenspan, Wells Fargo]

Okay, and then my last question on buybacks, so tying together some of the numbers you gave, it seems like there is $800 million in a bucket call for acquisitions/repurchases. Can you just talk about with your -- where your stock is trading, I would think that you would still want to put more dollars toward repurchase and how you kind of counterbalance that against what return deals might have to hit for you to take that bucket and use it toward M&A as opposed to buybacks?

[John Haley, CEO]

Sure. I mean, look, every time, every time we look at the deal, one of the things we consider is, this is money that we could be using to buyback our own stock and we think our stock is attractively priced for those people buying it.

And so, we think it's a good deal, right now. It's something we know more about. So, when we consider an acquisition, we probably have to have a somewhat higher expected return there, just given that we could go and purchase our own shares. We take that into account every time we look at it, a potential acquisition.

[Elyse Greenspan, Wells Fargo]

Okay, thank you for the colour.

[Operator]

And our next question is from Adam Klauber with William Blair. Your line is open.

[Adam Klauber, William Blair]

On acquisitions, do you expect to be more aggressive that you have more cash and will there be more bolt-on or would you look at actually new areas to go into?

[John Haley, CEO]

So I think, we would be -- let me answer it this way, historically both Willis and Towers Watson were active in looking at acquisitions and growing that way. And during the last three years, as we've been bringing together three companies Willis and Towers Watson and Gras Savoye, we've rightly had to focus our energies on that integration and not much at all on potential acquisitions. We feel that we're in a really good operating place right now and we can go back to our historical look at acquisitions.

So, the reason I wanted to put it in is I want to be careful when I say we're aggressive. I don't think we're going to be out there and being super aggressive acquirers necessarily. But, we'll certainly be a lot more aggressive than we have been in the last three years and I think it will look like the, the pre-2016. So, that's how we feel about that. We think that there is a number of -- there are areas where there are capabilities that would be hard for us to build on our own and we should be looking for acquisitions there's always things like that we're looking at, but we'd be open to lots of different sized deals.

[Adam Klauber, William Blair]

And just one more follow-up, as far as restructuring charges, how much cash went out the door in 2018 and what's your expectation in 2019?

[Mike Burwell, CFO]

Yes, so the cash that went out the door in 2018 was roughly $160 million and 2019 we're expecting zero.

[Adam Klauber, William Blair]

Okay. So, that should be a plus free cash rate?

[Mike Burwell, CFO]

Yes. I think, just coming back though as we kind of touched on free cash flow. You got -- we're going to grow it at minimum 15% over the next year. You got -- most likely the settlement of Stanford will happen next year, you'll have that coming back into it. So, you know -- and we're looking at a baseline off the 605 free cash flow number, so that's in terms of thinking about it going forward, so...

[Operator]

Thank you.

[John Haley, CEO]

Okay. Thanks everyone for joining us this morning and I look forward to seeing all of you in March.

[Operator]

Ladies and gentlemen, this does conclude the program. You may now disconnect. Everyone have a great day.