Aon PLC

Good morning and thank you for holding. Welcome to Aon PLC's third quarter 2020 conference call. At this time, all parties will be in a listen-only mode until the question and answer portion of today's call. I would also like to remind all parties that this call is being recorded. If anyone has an objection, you may disconnect your line at this time. It is important to note that some of the comments in today's call may constitute certain statements that are forward-looking in nature. as defined by the Private Securities Reform Act of 1995. Such statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results or those anticipated. Information concerning risk factors that could cause such differences are described in the press release covering our third quarter 2020 results, as well as having been posted on our website. Now it is my pleasure to turn the call over to Greg Case, CEO of Aon PLC.

Thanks very much, and good morning, everyone. Welcome to our third quarter conference call. I'm joined virtually by Krista Davies, our CFO, and Eric Anderson, our president. As in previous quarters, we posted a detailed financial presentation on our website. We'd like to begin by thanking our Aon colleagues for their extraordinary focus and dedication in supporting clients and each other. What they do every day is exceptional. whether it's building strong, lasting relationships with clients as we help them navigate these complex times, or the way our Aon colleagues come together to collaborate and innovate in ways that are helping us build an even stronger firm. Really tremendous work by the Aon team around the world. Turning to our performance in the third quarter, we delivered strong results that once again demonstrate the resilience of our business and strength of our Aon business services platform. Organic revenue growth was flat overall, reflecting strength in the core areas of our portfolio and ongoing expected pressure in the more discretionary areas. We saw continued strength in reinsurance solutions with 13% organic revenue growth, driven by strong net new business generation and double-digit growth in tree, facultative, and capital markets. Commercial risk delivered modest growth of 2%, with strength in the core and continued pressure in more discretionary areas. Health solutions growth was 1%, Modest growth internationally, partially offset by pressure in the U.S., which reflects ongoing headwinds in the global economy and lower employment levels. Retirement solutions and data analytic services both experienced organic revenue declines, as we saw expected pressure in more discretionary businesses like human capital, travel, and events. As we assess our revenue outlook for Q4, the primary theme is continued uncertainty in the global economy, as many governments consider new restrictions in response to increases in COVID-19 cases, while government stimulus remains uncertain. In evaluating Q4 revenue expectations, two points are important. First, given the seasonality of our business, we have a larger portion of more discretionary revenue occurring in Q4, so the pressure on organic will be more significant than in prior quarters. For example, areas like construction and transactional liability within commercial risk recognize revenue when shovels hit the ground and deals are closed. As expected, we're seeing pressure in these larger investments in the current environment. In addition, organic revenue growth in Q4 last year was exceptional, at 7% overall. As we highlighted last year, this includes double-digit growth in transactional liability, as well as double-digit growth in voluntary health benefits, two areas of the more discretionary portion of our business that are seizing the larger in Q4. Second, and importantly, we believe these headwinds are temporary and reflect pressure from current economic conditions. We're confident in the strong underlying fundamentals of our business. Overall, revenue base is a diverse chart across industry, geography, and solution lines. Roughly 80% is non-discretionary and has a significant portion that renews every year with 95% retention rates on average. From an operating standpoint, we delivered strong results, including 40 basis points of operating margin expansion in the quarter, contributing to 170 basis points of margin expansion year-to-date, 6% EPS growth in the quarter, and exceptionally strong free cash flow of $1.9 billion through September, up 91% over the same period last year. These results demonstrate the continued resilience of our AN United strategy, focused on working across our solution lines and geographies to bring the best of the firm to clients, Further, this strategy continuously evolves in response to client feedback. Over and over, our best outcomes come when we listen intently and deeply understand client challenges. One recent example of this is a partnership with a global market leader in the Internet of Things. Using our clients' telematics, colleagues in commercial risk, human capital, and data analytics developed a mobility-as-a-service solution. that includes attributes like on-demand car sharing, that forms part of a total rewards program for employees. Our client provided the technology, and we provided the insurance solution that's digitally distributed through our total rewards platform. This enabled the company to offer a distinctive, flexible benefit to their workforce that meets their needs at a time when attracting and retaining talent in new and creative ways is paramount for their growth. Not only have we co-created a cutting-edge solution, we've also elevated our partnership with this client to a more strategic level, working together to innovate for mutual growth. This example of AmUnited in action also highlights a larger area where client demand continues to outpace industry innovation. It's one of the areas we described in our recent innovation white paper, co-written with Lilla Starrs Watson. Many industry sectors face highly specific challenges that lack adequate solutions. As a result, we recognize that there is a need in our industry to create more affordable, scalable solutions to broaden access to a wider range of recipients. For example, we're investing in digital distribution capabilities to efficiently reach areas that aren't well served today, highlighted by our CoverWallet capability for the small commercial space. As we've seen across the economy, COVID-19 has accelerated digital adoption. Through September, premium volume flowing through the CoverWallet platform is up more than three times over last year. assuming that this new platform is addressing previously unmet client demand for more efficient digital client solutions to their risk management needs. As part of our innovation white paper, we identified and prioritized four areas we can more quickly and effectively address because of our combination with Willows Towers Watson. Further proof that the combination will make us better, faster. As outlined in this piece, we think about delivering innovation on at least two levels. The first level is about how our business gets better today. as we bring more comprehensive solutions to clients. A big part of this is reinforcing our colleagues' subject matter expertise by industry and geography, with analytic tools that help them provide better solutions and enable clients to make better decisions. We learn that type of innovation in our core business every day and see the opportunity to do even more with the complementary capabilities of Willis Towers Watson. Building on that first level, there's a second level in which we bring those comprehensive solutions to net new addressable markets. like U.S. mortgage reinsurance, and deliver specific insight and analytic-driven solutions like Aon Client Treaty. These newer challenges can't be assessed with historic insight alone. We have some of the capabilities today, but we'll be stronger in combination with Little Stars Watson and more capable of delivering these solutions at scale. A fantastic example of this second level is a solution we recently developed for a private agricultural technology client. Rather than issuing equities, they were able to use our intellectual property capital market solution to raise funds through non-diluted debt. Our proprietary industry-defining method evaluation enabled us to value their IP so it was insurable and could be used as collateral for a loan of over $100 million. While this is another example of how we're driving innovation today, we observe the client need continues to outpace innovation in our industry. We believe that our combination with Little Stars Watson will be fundamental in helping reverse this negative trend. As we've consistently emphasized, our priority is continuing listening to and understanding our clients. We take pride in the strength of our client relationships, and we're listening to them more than ever before. We also want to make sure we hear from them regarding the pending combination, and we are. Clients from across industries, solution lines, and geographies have expressed tremendous support for the pending combination, and especially for the opportunities it presents to drive enhanced innovation. Similarly, we're listening to our colleagues, we're hearing that they're incredibly excited about the pending combination and what it means in terms of opportunities for them both in what they can bring to their clients and their own growth and professional development we continue to see higher colleague retention year over year in total across the firm and across geographies and solution lines in q2 and q3 we saw a 39 decline in voluntary turnover year over year maybe most remarkable our latest survey of how colleagues are feeling about aeon and our mission yield the strongest sentiment in over 10 years. This is a meaningful credit to our people leaders and all of our global colleagues. In summary, our focus on Inunited and on providing innovative solutions for our clients is delivering results today as we manage through challenging times. Equally important, our progress and development establishes in a position of strength for long-term growth, which is accelerated substantially in the combination with WorldStars Watson. With that overview, I'd like to turn the call over to Krista for the financial review. Krista?

Thanks so much, Greg, and good morning, everyone. As Greg mentioned, we delivered a solid operational performance in both the quarter and year-to-date, despite continuing macroeconomic challenges, demonstrating the resiliency of our business and the strength of our Aon United strategy in any economic environment. we remain committed to deliver shareholder value over the long term, which we believe will be accelerated by our pending combination with Willis-Tiles Watson. Similar to last year, my commentary today is more focused on the quarter, given differences in the external environment today versus the beginning of the year. I would also note that Q3 is our seasonally smallest quarter. Having said that, we manage our business on a four-year basis and target continued progress against our long-term financial metrics. Our third quarter results reflect continued strong performance in challenging economic conditions. Organic revenue was flat, highlighted by 13% organic revenue growth in reinsurance solutions and 2% organic revenue growth in commercial risk solutions. As I described in Q1, our business has strong fundamentals with roughly 80% being core and 20% relatively more discretionary. As expected, we continue to see large impacts in the more discretionary portions of our business. such as human capital consulting, travel and events, transaction liability, and project work across the portfolio, which contributed to organic revenue declines in retirement solutions and data analytics services. I would also note the reported revenue continues to be pressured by lower fiduciary investment income as a result of lower interest rates globally, representing a decrease of $18 million in the third quarter. Moving to operating performance. We've delivered another quarter of improvement, demonstrating strong operational discipline as we return to more normalized levels of expense compared to the second quarter. We had strong year-to-date performance of 6% operating income growth, operating margin expansion of 170 basis points, and EPS growth of 8%. As I look towards the fourth quarter, there's continued macroeconomic uncertainty, and as Greg mentioned, we've seen increased revenue pressure in the fourth quarter compared to prior quarters. Similar to what I communicated last quarter, we expect expenses for the remainder of 2020 to be more consistent with underlying expenses in 2019, excluding adjusted items. This is due in part to an increase in certain discretionary expenses, as well as continued target investments in priority areas for long-term growth, while maintaining strong operational discipline. While certain areas such as reduced travel and entertainment expenses continue to be a modest tailwind, we're investing in priority areas such as intellectual property and cover wallets and making necessary operational investments, for instance, investing in tools for colleagues and strong cybersecurity as we continue working remotely. Finally, as noted in our earnings materials, FX had an unfavorable impact of approximately one cent in the third quarter and six cents year to date. At today's rates, we'd expect a $0.02 per share unfavorable impact in Q4. Penning to cash and capital allocation. Free cash flow increased $908 million, or 91%, to $1.9 billion, driven by working capital improvements, of which a portion is related to short-term actions taken proactively to manage liquidity, a decrease in restructuring cash outlays, and strong operational improvements. Much of the strength we see in free cash flow comes from our Aon Business Services platform. I would also note that we're seeing ways in which Aon Business Services allows us to better support colleagues today and make us more resilient in the future. For instance, over time, we've increased the amount of standardization across geographies and solution lines in sharing best practices and driving efficiencies. This has enabled us to better manage employee wellbeing, as colleagues can more easily cover for one another, allowing our colleagues greater flexibility to take time off or care for their families. We remain very confident in the strength of our balance sheet and manage liquidity risk through a well-laddered debt maturity profile. We ended Q3 with approximately $300 million lower total debt compared to the end of Q2, due in part to paying down substantial amounts of commercial paper in the third quarter. Historically, we've looked to increase debt as EBITDA grows while maintaining leverage ratios. However, due to the uncertain macroeconomic conditions, we expect to continue to manage our leverage ratios conservatively in the near future. We are diligent about maximizing return on invested capital and make capital allocation decisions through this framework. Shareware purchase remains the highest return on capital investment today given our free cash flow valuation and outlook, highlighted by the $500 million of shareware purchase in the quarter and nearly $1 billion year-to-date. We will continue to repurchase shares while maintaining higher than normal levels of cash for the near future given macroeconomic uncertainty. Stepping back, I wanted to take a moment to reflect on our pending combination with Willis Towers Watson and reiterate how excited we are about the significant shareholder value creation potential. First, as Greg described, we see ongoing opportunity for revenue growth as we bring together these highly complementary businesses. Historically, AM has driven growth in three key areas, driving continued improvement in our core businesses, portfolio makes shifts to higher growth areas, and unlocking net new opportunities that expand our total addressable market. As Greg mentioned, COVID-19 has highlighted the reality that our clients have growing and unmet needs across risk, retirement, and health, with the combination with Willis Charles Watson positions us to address well. As we've said, we remain committed to the $800 million of expected cost synergies, I would note that we expect these synergies on top of core margin expansion for both firms. And while we see significant near-term macroeconomic uncertainty, we're very confident in our long-term strategy to drive margin expansion. We've said before that our margin expansion is driven by accelerating revenue growth, portfolio and mix shift to high-growth, high-margin businesses, and leverage from our AOM Business Services operational platform. In particular, we're confident the investments we've made in our AM Business Services platform will enable us to capture our expected synergies and continue to drive long-term operating margin expansion for the combined firm. I'd note that over the last decade, we've driven 70 to 80 basis points of margin expansion on average each year, though with some years higher and some lower. Third, we run the firm on a cash basis. we've demonstrated a strong track record of driving efficiencies and growth in areas such as working capital and CapEx. We're confident the investments we've made in Aon Business Services will create even more opportunities to grow free cash flow as we look forward to the pending combination with Willis Towers Watson. Looking back to our deal announcement on March 9th, we said the deal will be accretive to Aon EPS in year one, break even to free cash flow in year two, and significantly accretive to free cash flow in year three. Given macroeconomic uncertainty due to COVID-19, we've since withdrawn our financial guidance of mid-single-digit or greater organic revenue growth and double-digit free cash flow growth, which were key assumptions in the projections upon which we calculated accretion. We are not reissuing financial projections at this time given the ongoing macroeconomic uncertainty. However, the primary drivers of the accretion that we provided were the $800 million of synergies and our capital allocation strategy. we remain committed to the $800 million of synergies. And while we took actions to proactively manage liquidity earlier this year, we resumed share repurchase in the third quarter and continue to buy back shares. I would note that mathematically, the same amount of synergies on a smaller baseline of EPS would be more accretive. we are confident that the $800 million of synergies, our focus on driving free cash flow, and our disciplined capital allocation strategy will lead to meaningful shareholder value creation. Finally, as we continue to make progress against our key milestones, receiving shareholder approval from both sets of shareholders on August 26, with 99% approval from Aon shareholders and 96% from Willis Charles Watson shareholders, we remain on track to close the deal in the first half of 2021. In summary, our business has shown resiliency despite continued macroeconomic challenges. Our Aon United strategy, underpinned by our Aon Business Services operational platform, have enabled expense discipline and strong free cash flow growth while positioning us for long-term growth. Our disciplined approach to return on invested capital provides financial flexibility to unlock significant shareholder value creation over the long term. We're incredibly excited about the pending combination with Willow South Watson. With that, I'll turn the call back over to the operator, and we'd be delighted to take your questions.