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We retain our Neutral recommendation on Willis Group Holdings plc (WSH - Analyst Report) following the second quarter earnings performance, which included a 3.5% positive earnings surprise. The insurance broker carries a Zacks Rank #3 (Hold).

Why the Reiteration?

Willis Group’s second-quarter 2013 adjusted net income of 59 cents per share surpassed the Zacks Consensus Estimate by 3.5%, but remained flat with the year-ago level.

Counting on the positives, organic growth in commissions and fees, which forms the major component of Willis Group’s revenue, continues to post positive numbers. With solid retention levels and new business growth, we expect the momentum to continue. Its inorganic growth story also looks impressive.

Willis Group, to enhance its profitability, is undertaking a cost savings initiative. Management eliminated 207 positions and undertook rationalization of property and systems. As a result, this insurance broker expects to realize cost savings of approximately $20 million in 2013. The company is also expected to realize an annual cost savings of $25–$30 million.

These efforts are helping Willis Group to strengthen its balance sheet. Going forward, a strong balance sheet and steady cash flow is expected to help the company engage in capital deployment for buybacks, dividend payouts, debt repayments, acquisitions, and investments that drive and support growth.

The insurance broker also remains focused on enhancing value for its shareholders. Its annualized dividend of $1.12 currently yields 2.63%. It is ahead of the industry yield of 2.39%. as well as of some other insurance brokers like Aon plc (AON - Analyst Report), with a dividend yield of 1.02%, Marsh & McLennan Companies Inc. (MMC - Analyst Report) with an yield of 2.37%, and Brown & Brown Inc. (BRO - Snapshot Report) with an yield of 1.11%.

On the tepid side, lower net yields on cash and cash equivalents continue to weigh on investment income. We expect investment income to remain under pressure in the near term as interest rates have continued to experience declines.

Moreover, Willis Group’s operating expenses have been on a rising trend, taking a toll on operating margin expansion. If expenses continue to accelerate, operating margin will be hugely affected, going forward.

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