Good day, and welcome, ladies and gentlemen, to the Moody's Corporation Third Quarter 2014 Earnings Conference Call. At this time, I would like to inform you that this conference is being recorded that all participants are in a listen only mode. At the request of the company, we will open the conference up for questions and answers following the presentation. I will now turn the conference over to Sallie Schwartz, Global Head of Investor Relations. Please go ahead, ma'am.
Thank you. Good morning, everyone, and thanks for joining us on this teleconference to discuss Moody's Q3 results for 2014 as well as our outlook for full year 2014. I am Sally Schwartz, Global Head of Investor Relations. Moody's released its results for the Q3 of and recorded. The earnings press release and a presentation to accompany this teleconference are both available on our website at ir.moody.com.
Ray McDaniel, President and Chief Executive Officer of Moody's Corporation, will lead this morning's conference call. Also making prepared remarks on the call this morning is Linda Huber, Chief Financial Officer of Moody's Corporation. Before we begin, I call your attention to the Safe Harbor language, which can be found toward the end of our earnings release. Today's remarks may contain forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. In accordance with the act, I also direct your attention to the management's Discussion and Analysis section and the risk factors discussed in our annual report on Form 10 ks for the year ended December 31, 2013, and in other SEC filings made by the company, which are available on our website and on the Securities and Exchange Commission's website.
These together with the Safe Harbor statements set forth important factors that could cause actual results to differ materially and those contained in any such forward looking statements. I would also like to point out that members of the media may be on the call this morning in a listen only mode. I'll now turn the call over to Ray McDaniel.
Thanks, Sally. Good morning and thank you everyone for joining today's call. I'll begin by summarizing Moody's Q3 2014 results. Linda will follow with additional financial detail and operating highlights. I will then conclude with a few general updates and comments on our outlook for 2014.
After our prepared remarks, we'll be happy to respond to your questions. Moody's achieved strong growth in the 3rd quarter with total revenue of $816,000,000 an increase 16% over the Q3 of 2013. Record revenue growth in Moody's Analytics and double digit revenue growth in nearly every line of business and contributed to our overall performance. Operating expenses for the Q3 were $466,000,000 a 13% increase from the Q3 of 2013. Operating income for the Q3 was $350,000,000 a 20% increase from the prior year period.
Adjusted operating income defined as operating income less depreciation and amortization was $373,000,000 up 18% from the same period last year. Operating margin for the Q3 of 42.9% was up from 41.3% in the Q3 of 2013. Adjusted operating margin of 45.7% for the quarter was up from 44.6 for the same period last year. Diluted earnings per share of $1 for the quarter increased 20% from $0.83 in the Q3 of 2013. Non GAAP EPS of $0.97 which Excluded a $0.03 benefit from the resolution of a legacy tax matter, increased 17% from the Q3 of 2013.
Turning to year to date performance. Revenue for the 1st 9 months of 2014 was $2,500,000,000 a 12% increase from the 1st 9 months of 2013. Revenue at Moody's Investor Service was $1,700,000,000 an increase of 10% from a year ago. Moody's Analytics revenue for the 1st 9 months of 2014 of $766,000,000 was 17% higher than the prior year period. Operating expenses for the 1st 9 months of 2014 were $1,400,000,000 up 7% from the 1st 9 months of 2013, which included a 1st quarter litigation settlement charge.
Operating income of $1,100,000,000 increased 19% from $923,000,000 in 20.13. Adjusted operating income was $1,200,000,000 a 17% increase from the prior year period. Operating margin for the 1st 9 months of 2014 of 44.5 percent was up from 42.1% from the same period last year. Adjusted operating margin of 47.3 percent was up from 45.3%. Diluted earnings per share of 3.48 for the 1st 9 months of 2014 increased 31% from $2.66 for the same period in 2013.
Non GAAP EPS of $3.09 for the 1st 9 months of 2014 grew 10% from $2.80 for the same period in 2013. Year to date 2014 non GAAP EPS excludes a $0.36 gain resulting from Moody's acquisition of a controlling interest in ICRA Limited in the 2nd quarter and the $0.03 legacy tax benefit in the 3rd quarter. Year to date 2013 non GAAP EPS and includes the Q1 litigation settlement charge of $0.14 I will now turn the call over to Linda to provide further commentary on our financial results and other updates.
Thanks, Ray. I'll begin with revenue at the company level. As Ray mentioned, Moody's total revenue for the quarter increased 16% to $816,000,000 The impact of foreign currency translation on revenue was negligible for the quarter. 3rd quarter U. S.
Revenue increased 15 percent to $449,000,000 while revenue outside the U. S. Grew 17% to at $367,000,000 and represented 45 percent of Moody's total revenue for the quarter. Global recurring revenue grew 10% to $415,000,000 and represented 51% of total revenue, down from 53% in the prior year period. Looking now at each of our businesses, starting with Moody's Investor Service.
Total MIS revenue for the quarter was $543,000,000 up 14% from the prior year period. U. S. MIS revenue of $329,000,000 increased 13% from the Q3 of 2013. MIS revenue generated outside the U.
S. Of $214,000,000 Increased 14% and represented 39% of total Ratings revenue. The impact of foreign currency translation on MIS revenue was negligible. Moving to the lines of business for MIS. 1st, global corporate finance revenue in the 3rd quarter increased 12% from the year ago period to 2 $51,000,000 Despite a year over year decline in global non finance corporate bond issuance volume and flat rated bank loan issuance volume, Moody's benefited from a greater number of smaller deals.
This favorable mix of fund and bank loan issuance as well as additional monitoring revenue associated with new ratings customers were the primary drivers of year on year revenue growth in the corporate finance line of business. U. S. And non U. S.
Corporate finance revenue were up 8% 19%, respectively. 2nd, global structured finance revenue for 3rd quarter was $102,000,000 an increase of 22% from the prior year, primarily reflecting increased rating For U. S. Collateralized loan obligations or CLOs. U.
S. And non U. S. Revenue increased 31% 7%, respectively, against the prior year period. 3rd, Global Financial Institutions revenue of $92,000,000 increased 16% from the same quarter of 2013.
U. S. Revenue increased 9%, primarily due to increased issuance by insurance companies. Non U. S.
Revenue increased 22% due to higher levels of bank issuance from China and Europe. 4th, global public project and infrastructure Finance revenue increased 7% year over year to $89,000,000 U. S. Revenue increased 15%, primarily due to increased rating activity in public finance and project finance. Non U.
S. Revenue decreased 5% from the prior year period, primarily due to lower infrastructure issuance in Europe. And turning now to Moody's Analytics. Global revenue from Moody's Analytics of $273,000,000 was up 20% from the Q3 of 2013. Foreign currency translation favorably impacted MA revenue by 2%.
U. S. Revenue grew by 19% year over year to $120,000,000 Non U. S. Revenue of $153,000,000 increased 21% from the prior year period and represented 56% of total Moody's Analytics revenue.
More than 2 thirds of MA's revenue growth in the quarter was organic with the remainder coming from acquisitions. Moving to the lines of business for MA. First, Global Research Data and Analytics, or RD and A, revenue of $147,000,000 increased 10% from the prior year period, driven by strong sales of credit research and content licensing. RD and A's customer retention rate remains strong in the mid-90s percentage range. RDNA U.
S. And non U. S. Revenue were up 6% and 14%, respectively, as compared to the Q3 of 2013. Our DNA represented 54 percent of total MA revenue.
2nd, Global Enterprise Risk Solutions or ERS Revenue of $81,000,000 grew 26% against the prior year period due to growth in revenue from subscriptions and services. Including WebEquity, which we acquired in mid July, ERS revenue increased 21% from the prior year period. Trailing 12 month revenue and sales for ERS increased 14% 15%, respectively. As we've noted in the past due to the variable nature of project timing and completion, ERS revenue remains subject to quarterly volatility. Finally, Global Professional Services revenue grew 54% to $45,000,000 primarily reflecting the December 2013 acquisition of Amba Investment Services.
U. S. And non U. S. Revenue increased 130% and 28%, respectively, year over year.
Turning now to expenses. Moody's 3rd quarter expenses increased 13% to $466,000,000 compared to the Q3 of 2013. The increase was primarily due to higher compensation and real estate costs attributable to additional headcount as well as increased incentive compensation accrual. The impact of foreign currency translation on operating expenses was negligible. Moody's reported operating margin for the quarter was 42.9%, up 160 basis points from 41.3% in the Q3 of 2013.
Adjusted operating margin was 45.7 percent for the quarter, up 110 basis points from 44.6 for the same period last year. Moody's effective tax rate for the quarter was
33.5%, an increase from 29.1% for the prior year.
Moody's effective tax rate for the quarter was 33.5%, an increase from 29.1 percent for the prior year period, primarily due to higher U. S. And non U. S. Taxes on foreign income as well as certain discrete items that reduced the effective tax rate in 2013.
Now I'll provide an update on capital allocation. During the Q3 of 2014, Moody's repurchased 3,500,000 shares at a total cost of $320,500,000 for an average of $91.89 per share and issued 900,000 shares under our employee stock based compensation plans. Outstanding shares as of September 30, 2014 were 208,600,000, reflecting a 3% decline from a year earlier. As of September 30, 2014, Moody's had $1,000,000,000 of share repurchase authority remaining under its current programs. At quarter end, Moody's had $2,500,000,000 of outstanding debt and $1,000,000,000 of additional debt capacity available under its revolving credit facility.
Total cash, cash equivalents and short term investments at quarter end were $2,100,000,000 an increase of $61,000,000 from a year earlier. As of September 30, 2014, approximately 66% of our cash holdings were maintained outside the U. S. Free cash flow for the 1st 9 months of 2014 $653,000,000 increased $30,500,000 or 5 percent from the same period a year ago. And with that, I'll turn the call back over to Ray.
Thanks, Linda. First, I'd like to provide a brief recap of the regulatory update that we provided at Investor Day. In the U. S, in August, the SEC voted to adopt its final rules for NRSROs as required by the Financial Reform Act. The final rules closely track the proposed rules, which had been published in 2011.
In anticipation of the final rules, Moody's has made substantial Turning to Europe, certain of the provisions of CRA 3 are subject to further rulemaking. The next round is expected to conclude by the first quarter of 2015 and will include certain reporting requirements and disclosure obligations.
On a separate note,
for the 1st income investors conducted by the well known publisher Institutional Investor. MIS was also again named Asia's Most Influential by the publisher Finance Asia. Moody's Analytics was named the Best Regulatory Capital Calculation Management Provider and the best asset and liability management provider by Asia Risk Technology Rankings. I appreciate the market's recognition of our efforts and I applaud the accomplishments of both the MIS and MA Businesses. Finally, I'd like to discuss the changes to our full year guidance for 2014.
The full list of Moody's guidance is included in our Q3 2014 earnings press release, which can be found on the Moody's Investor Relations website at ir.moodys .com. Moody's outlook for 2014 is based on assumptions about many macroeconomic and capital market factors, including interest rates, Corporate profitability, business investment spending, merger and acquisition activity, consumer borrowing and securitization and the amount of debt issued. There's an important degree of uncertainty surrounding these assumptions and if actual conditions differ, Moody's results for the year may differ materially from the current outlook. Our guidance assumes foreign currency translation at end of quarter exchange rates. Based on our strong year to date We are reaffirming our non GAAP EPS guidance in the range of $3.95 to $4.05 This range excludes the $0.36 gain resulting from Moody's acquisition of a controlling interest in ICRA Limited in the 2nd quarter and the $0.03 legacy tax benefit in the 3rd quarter.
Additionally, while global MIS revenue for the full year and expected to increase in the high single digit percent range. Non U. S. MIS revenue is now expected to increase approximately 10%. Within MIS, corporate finance is now expected to increase approximately 10%.
Structured finance is now expected to increase in the high single digit percent range. And lastly, Public Project and Infrastructure Finance is now expected to grow in the mid single digit percent range. This concludes our prepared remarks. And joining us for the question and answer session are Michelle Madeline, President and Chief Operating Officer of Moody's Investor Service And Mark Almeida, President of Moody's Analytics. We'll be pleased to take any questions you may have.
And we'll take our first question from Alex Kramm with UBS.
Hey, good morning or hello everyone actually. Wanted to just talk about the current business and what Seeing out there, I mean clearly with all the volatility in markets issuance has slowed down a little bit in October. So maybe you can talk a little bit more about what you're seeing out there when you talk And obviously, how that has impacted your guidance. You obviously lowered a couple of items. So are you feeling still very confident in making that guidance here or does the current outlook concern you a little bit more here?
Thanks.
Alex, it's Linda. Let me talk a little bit about what we're hearing from various guests And then I'll let Ray comment on his thoughts about that. For investment grade, we've had a very good Settling of the market since last week. Last week did see in the U. S.
Reduced investment grade issuance. It's only $6,000,000,000 This week and I just checked I came upstairs, it's probably going to be a $20,000,000,000 week, a little bit better. Next week looks to be the same or a little bit better. What we're seeing now is that pipelines are robust. The pipelines are quite strong.
We're expecting a heavy Q4 in investment grade because We have $100,000,000,000 of M and A pipeline that needs to be financed before the end of the Q1 in 2015. So investment grade looks like it's stabilized and looks quite strong. High yield did take a step back last week and had only one deal priced last week. This week has been quite a good bit healthier though. So I think we characterized the state of the high yield market as improving and we have seen some transactions that are looking ready to come next week, So that's good.
The pipeline would be viewed as average, however. And on leveraged loans, we also see an average pipeline and we do see Perhaps $20,000,000,000 in leverage loans for October. So again, that pipeline is looking a little bit on the average side as well. So Very good strength in investment grade, a lot of backlog there and high yield and leveraged loans looking more on the average So with that, I'll let Ray translate that for you.
First of all, I think we do feel Pretty confident with our outlook for full year. Certainly, we are cognizant of the volatility that We've seen in the market recently, not surprising. We've been dealing with this for quite a while. And so there are periods where the market the pipeline slows. So it's really not a question of the Pipeline as much as it is whether that pipeline is pushing forward.
And as Linda described, We see particular strength in investment grade and more average pipelines in the Spec grade, bond and loan areas. So really just underscoring Linda's comments.
Okay, great. And then maybe just That's my follow-up here. Maybe a little bit more detail, but on the recurring revenue in MIS, That's obviously been a nice stable driver. And I think Linda you mentioned it in your prepared remarks this quarter I think 10% year over year growth. More interesting though, what I noted is that quarter over quarter, so down from the 2nd Quarter recurring revenues actually declined a few million I think in corporate and structured.
So I think this was the first time we saw that in several years. So I usually think about recurring revenues as kind of building on top of each other. So maybe was there anything particular that was going on this quarter? Or why would that be coming down? Thank you.
Sequentially, Alex, you're batting $500,000 if I can say that. On CFG, In the Q2, we had $82,400,000 of relationship revenue and it was down to $80,700,000 in the 3rd quarter in structured. However, we had 40.6 and we're up to 41.5. I wouldn't take too much away from that quarter over quarter. And I'd ask Michel to comment if he thinks there's anything of particular note in that.
But we do have new rating mandates coming online. And as we said, as those come into our stock of monitored Ratings, they do add to that recurring revenue total. But I don't think there's anything particularly unusual going on quarter over quarter. Michel, anything you'd like to add?
No. I mean, I would say, I was going to say the same thing really nothing to point to any sort of Structural change and positive momentum from additions to the portfolio continue and so No. Nothing to add. There may be a ForEx element here. You may want to comment on that Linda, but
The foreign exchange element was not material, so that really wasn't a driver. But the trend we believe is going to continue to see increases in the recurring revenue And it really follows on from the new rating mandates that we're getting and that that turns into monitoring fees in the forward years. So we do Expect the upward trend to continue.
Okay. Fair enough. Just stuck out a little bit to me, but I appreciate it. Thank you.
And we'll move to our next question from Manav Patnaik from Barclays.
Hey, good morning, afternoon, I guess. The first question I had was, I guess, the two things that I guess supposed changed from the Investor Day was just the, I guess, the slightly more negative European outlook. And Recently, I guess, we had those risk retention rules signed on the structured side. I was just wondering if you guys had a view on those risk retention rules and how that might impact the structured business especially in the U. S?
Yes. We obviously have been watching the risk retention Rules and the fact that the various regulatory authorities approved those rules earlier in the week has You have caused quite a bit of commentary in the market and anticipation of what this may mean. Certainly, in the near term, we don't see any significant impact. There are Come effective after they are published. In the longer run, we would anticipate That there will be at least some modest impacts.
The way the risk retention rules have been developed are going to affect different asset classes differently. So for example, we might anticipate some of Smaller CLO arrangers and issuers to be less active, while the larger ones that have more capacity to deal with the risk retention and would probably remain active. The only other comment I'd make on this Because really I think there is a lot of uncertainty about exactly how the market is going to deal with these risk retention rules and how as the market's reaction will evolve. But to the extent that it decreases activity in certain parts Structured finance, I would anticipate that's going to increase activity in other parts of the market. And so there is going to be an offset.
For example, if there is some reduction in CLO activity, we may see an increase in high yield bond activity. So we'll have to watch and see, but we've got a fair amount of time before these rules become effective. As far as the European outlook, let me ask Michel if he would comment on that.
Thank you, Ray. Well, in Europe, I think we did we do see effectively a macroeconomic situation, which is Obviously, not very favorable and that has an impact on some of the activities we see. As you may have seen from our guidance and our numbers, some of the adjustments were made in Europe, in CFG and Structured Finance. So there is clearly at a slower pace and that's something we've seen last quarter and we anticipate to see in the next quarter.
Okay. Thanks. And just one more on ERS. I guess how much of the improvement on the top and bottom line, I suppose, was due to timing versus an actual acceleration in the underlying trends.
Yes. Mark, you want to? Sure. Well, the top line was very much a function of timing. We a lot of The revenue we've recorded in the quarter was the result of our completing projects and recognizing the associated revenue.
So that was certainly an element of what was going on, but it was a very strong quarter across the board, across all of our product lines And our various delivery mechanisms in ERS. We haven't disclosed anything on the ERS bottom line. So I'm not sure that I have much I can
All right. Thanks guys.
And we'll move to our next question from Bill Byrd with FBR. Yes.
Good morning. Also on MA, I'm sorry if I missed it, but what was the segment's organic growth? And was there anything unusual driving the higher profit pull through on revenue growth in MA in the quarter? Thank you.
We well, the organic growth was about 2 thirds of total growth. So we reported we were up 20 About 2 thirds of that is organic. So the organic number was very strong. And The improvement in the margin, I think is largely attributable to the contribution from the Copelampa business. But and I don't think that reflects all that much frankly about the longer term efforts that we're making in Moody's Analytics and in ERS specifically to drive margin.
That's going to be a longer term effort that will play out over a period of years. And I would just add in terms of the organic growth that we had double digit Organic growth in each line of business within Moody's Analytics. So it was very strong performance across the board.
And then separately, just a follow on, on Europe, would just be curious of your perspective on the new ABS and covered bond purchasing program and how you see that impact in the European Structured Business.
Yes. I'll offer a comment and if Michel wishes to add anything, I'll I invite him to do so. Really, we don't see it having a large impact on the market. I think it would have a more significant impact if the issue were around if the issues were around liquidity and the availability of liquidity, but that has not really been the principal issue. I think it's more of Supply demand issue.
And so while this it's probably going to be helpful at the margin, I don't think It really gets to the heart of what's causing the European structured market covered bond market to be soft. And Michel, if you have anything to amplify my comments, please do.
No, not really.
Okay. Thank you very much.
Thank you.
And we'll take our next question from Joseph Foresi with Janney Montgomery Scott.
Hi. First sort of a big picture question. We've seen I guess interest rates move down a little bit over the last couple of months. How should we think about the relationship? I know what part of this answer is going to be, but how should we think about the relationship between Interest rates and sort of what you're thinking about for growth rate for next year?
In other words, if they tick down, should we be more encouraged for a growth rate or less and how should
we think about that? Yes. We've talked about this Some before and my views at least have not fundamentally changed. Certainly, interest rates being as low as they are Encourages more opportunistic financing, pre financing and it's also encouraging. I think the speculative grade market because of the reach for yield, So lower quality credits that are offering higher yields are attractive.
But we really I think we'd actually benefit from seeing some more economic Growth globally in terms of Europe, but also some concerns about Asia. I think Going to is going to be have an impact on whether we're going to get these other elements of issuance to be more active.
Joe, it's Linda. Just a couple of quick follow ons. As we started the call this morning, the tenure in the U. S. Is about 2.25.
The blue chip forecast for next year, the median scenario is about 3.25, but there's also a strong view that perhaps The lower end of that forecast that has the tenure at about 2.8 might actually prevail. But this sort of range is a bit of We thought for us and as we said we see very strong investment grade pipelines and we just need a little bit of calm in order to have Better conditions in the high yield and leveraged loan markets. So U. S. Treasuries still are a much higher yielding And we think that demand for U.
S. Treasuries is going to in the Immediate term keep interest rates relatively close to where they are. So we think that presents quite a reasonable outlook for us. But you're right, it does appear that rates may be lower for longer than had been feared earlier this year.
Got it. I mean just to summarize, so I'm clear. So Ultimately, the drop in rates is an incremental positive. If the macro remains steady, then we should think about that as incrementally positive Outlook for next year. Is that fair?
Well, I mean, this is somewhat speculative. But I would say Probably the best condition for us would be modest increase in rates, if that is the result of more confidence in the business environment. So the rates where they are now to the extent they are reacting to geopolitical conditions and weakness In Europe, certainly provide attractive financing rates, but absolute rates, It's difficult to envision a scenario where absolute rates are not pretty attractive in 2015 anyway. So I wouldn't mind seeing the rates move up a little bit with more business Conference.
Got it. Okay. And then just last one for me. Obviously, we talked about the organic growth rate in the analytics business. When we look at that aggregate rate going out past the next couple of quarters, is there a step up in the organic once you include those acquisitions going forward?
And how should we think about the long term rate in that business growth rate in that business?
Well, I think that We would expect yes, we would expect our organic growth rates, all things being equal, to Remain around where they are today. Now of course, there's a lot that can happen that will influence that, particularly when it Comes to the movements in currencies and things like that. But as I said, all things equal, we would expect to be able to sustain our current level of organic growth.
Thank you.
And we'll move to our next question from Craig Huber with Huber Research Partners.
Yes. Hi. Thank you. My first question Linda just General housekeeping question. Can you help us break out your 4 ratings areas, the revenues finer within corporate finance, high yield, bank loans, investment grade, etcetera in the quarter?
Sure, Craig. Starting first with Corporate Finance. Investment grade for the quarter is $39,000,000 which is 15% of the total line of $260,700,000 for corporate. Spec grade is at 54.5 For 21 percent bank loans $62,000,000 24 percent of the total line and other accounts at $105,000,000 The big news there would be the strong growth in the investment grade line and also strong growth in the spec Great line. And it may be puzzling.
We've heard a lot of questions from analysts this morning As to how can it be that those two lines have been down in terms of what they're looking at in terms of issuance activity and yet revenue is up. So we would comment our usual caveat that it's very hard to track our revenues from issuance and trying to do it is obviously a challenge. On the investment grade side, the difference would be that last year we had the Verizon deal, which was $49,000,000,000 in the 3rd quarter numbers. If you take that out, U. S.
Investment grade issuance is actually up 17% in the U. S. And mix is important to us. More Smaller deals are better for us. And in high yield, the situation is about the same.
We saw fewer jumbo deals than last year. And particularly in EMEA, we saw better revenue yield because of smaller deals, which are helpful to us. So again, just looking at the headline issuance numbers are not going to help you. You have to look The deal size and what was going on in the previous year. With those comments, I'll move on to structured finance.
Total was $102,000,000 For the quarter, asset backs, we saw $23,000,000 and that's about 23% of the total. RMBS, $18,300,000 18 percent of the total commercial real estate 26.9% or 26% of the total and structured credit 33.8% or 33% of the total. And here are the big drivers in structured credit, which has moved up To $33,800,000 from $20,100,000 last year, that's all about the growth in CLOs and that sector has been very strong for us in structured. But seeing global structured up 22% is a nice change and we're very pleased about that. Moving on to financial institutions.
Total for that line is $91,800,000 Banking is $60,700,000 of that or 66 percent Insurance $27,100,000 or 30 percent And Managed Investments $4,000,000 about 4%. And there we saw good growth both in the banking and the insurance line as we had And Public Projects and Infrastructure, a total of $88,500,000 $40,000,000 from Public Finance and Sovereigns, 45 percent of the total Munis, about $4,000,000 or 4% of the total and Project and Infrastructure, about $44,800,000 51 percent of the total. And there in PFG and sovereigns, We saw good growth year over year. So that's the story on the rating agency, Craig.
Appreciate that. And then also can you just give us a few more please the incentive comp number in the quarter?
Sure. Hang on just a second. Incentive compensation for this quarter was $46,800,000 and we did increase that a bit from last quarter's 44 $2,000,000 that came with the change in guidance and you saw that we had pretty good performance. For the Q4, I would suggest that you model somewhere between $40,000,000 $45,000,000 It depends how we do and that number is going to move around depending on how we do for the end of the year.
Okay. And then also if I could ask Ray or yourself, What do you think needs to change in the marketplace right now to kind of see RMBS pick up significantly from here
in the U.
S. Yes. I mean, right now, it looks as though it's policy driven as much as Anything having to do with market conditions or market forces, the role of private label Mortgage backed securities remains very small. And probably the most expedient way to grow that market would be if there were Lower limits on qualifying mortgages that would go into Fannie and Freddie, but I'm not aware of Any moves to make that happen. So it looks like that the U.
S. RMBS market at least is going to remain relatively soft. In Europe, again, the securitization market in Europe has been broadly soft for some time now. Policymakers would like to see more activity. They are certainly talking up a resumption of that market.
But to the extent that Their tools are dealing more with liquidity than they are with supply Demand, they're probably only going to have limited impact. So we're waiting for change in market sentiment in Europe as opposed to the U. S.
One last housekeeping question, Linda. The tax rate as you think out to next year, are you thinking it should be similar to the 33% you're talking For this year or more like the mid-thirty ones, 3.5 or so that you had the last couple of years.
Craig, it's a little bit too soon to start talking about the tax rate for next year. We would note though that the tax rate For this quarter, moved up quite a bit. We had been at about 29.5% for last year and we were up to 33% for this quarter, which Had to do with some discrete items and so on. So, we are expecting A little bit of this continuing in the Q4, but for next year, we're going to have to wait and see what everything looks like next We've got to kind of reset on where we're generating our income and what that means. So not going to venture as far as next year.
Yes. And to the extent that we're seeing Stronger economic conditions in the U. S. Than we are in our international business. It's going to be tougher to get on a low tax rate.
So we're just a small cautionary note there.
Okay. Thank you.
And we'll move to our next question from Tim McHugh with William Blair and Company.
Yes, thanks. Just want to ask on the Financial Institutions Group, the strength you saw there. I understood, I guess, where it was coming from. But is there a Anecdotal explanation, I guess, for why you saw that strength? I guess, something particular happening amongst that client group?
It was largely European and Asian Financial Institutions that are not Frequent issuers, accessing the markets there, taking advantage of market conditions. And they are since they are not frequent issuers, more of those institutions would fit into our per issuer Pricing program than the frequent issuers. So we see more of an uptick when those per issue Tutions are active and that's what we saw in part in the Q3. I'd also just Point out we saw strength in the U. S.
Insurance sector and that related in part to M and A activity and funding for that.
Okay. And then also somewhere related, I guess, you mentioned in the U. S. More small customers More small deals better than big deals. I guess in a rough sense, I guess what's the range as you think about the fees you might get from a typical, I guess dollar of issuance between larger transactions versus more small transactions making up that mix?
Tim, we don't like to go too much into pricing. I think we would say the 5 ish basis Once we get on investment grade deals that serves us very well and we think provides good value for the issuers as well. On larger deals, particularly deals as large as Verizon, you wouldn't apply that same basis point level to a deal of that So I wouldn't make an overall judgment there on what the price yield would be on those, but 5 ish basis points on per issue pricing would be about right.
Okay. And I guess lastly, it seems like you expect a decent sized expense ramp in the Q4. I know it's always seasonally higher, but Is there anything in particular going on in terms of investment spending in Q4?
Right. And I was hoping someone would ask that so we could clarify this. We do still expect expenses to ramp $80,000,000 to $90,000,000 from the Q1 to the 4th quarter. And in the Q1, we were mentioning we had $434,000,000 I also was looking last year in 20 13 expenses also ramped up 13% 4th quarter versus the 3rd quarter. So The primary issue here, which I don't think everybody has thought about is going into Q4, we're picking up the operating expenses for ICRA, which is majority ownership of the Indian rating entity and WebEquity, which we acquired in July.
So the 2 of those together, and again, this is the 1st full quarter when we'll have those, That's $20,000,000 that we're adding to expenses just right there. Consulting and IT will probably add a little bit shy of $20,000,000 And if we come in according to where we think we will with our guidance incentive compensation will be about 10. And typically the T and E bill is a little Higher as we get into the 4th quarter as everybody is trying to get the final implementations particularly in the MA business completed. So I think that explains the majority of it, but the analysts may not be thinking about the fact that we're picking up the ICRA expenses and the web equity expenses. And you're right, we do have a seasonal ramp in the Q4.
We may do a bit better than that, but we don't want to promise that because we're not really sure and you've got to think about the incentive compensation piece of that as well.
And just relative to the added expense from ICRA And WebEquity is $12,000,000 what's the right idea I guess for the revenue being added in from ICRA? And I mean you gave the WebEquity for a partial quarter this quarter, I guess, but
Yes. In terms of ICRA, We're I don't think we want to get to a specific number, because ICRA is a public company in India, and we don't want to be front running any communications that ICRA has to be making. And so we're going to out of an abundance Caution. We're not going to disclose a 4th quarter expectation.
Is the right way still you were accounting for that With a lag of a quarter, though, correct?
Yes. We still have that quarterly lag, yes.
Okay. Thank you.
And we'll take our next question from Peter Appert with Piper Jaffray.
Thanks. Ray, do you sense You guys are gaining perhaps a little bit of market share this year. And are there any asset classes you would call out where you think you might be gaining some share?
We've had pretty comprehensive coverage in the market. As you know Peter, structured finance is always a source of variability in coverage. And it so happens that areas where we are particularly strong have been active In structured finance, yes, I would say that our coverage our relative coverage has probably improved compared to competitors. And we have been active in rating CLOs and CMBS and we'll do our best to make sure that we maintain both high coverage and high quality in the ratings.
Okay. And Linda, FX presumably is going to be much more of a headwind in the Q4. How should we think about that?
Hard to think about FX going forward, Peter. We were concerned about it and then the dollar euro Sort of return to where it had been. We're it's a little tough to tell how that's all going to pan out, but I don't think it's going to be A huge piece of input for us. One note, Peter, on the expense line that we heard some questions on earlier this morning. The interest expense, which you can see in the tables accompanying the earnings release was $39,000,000 in the 3rd quarter.
And the reason for that was $11,000,000 of costs as we repaid our 2015 private placement early a year early. So we had some costs associated with that. So I just wanted to call that out so that the analysts and the investors
Just one other comment on FX, Peter. A substantial part of our international Billings are in euros and a substantial part of our international expense is in pounds, where we have our largest operation outside the U. S. So to the extent that euros and pounds are Moving in the same direction, we have a bit of a natural hedge there. So if they do not move in the same direction, that's where FX Could become more material to our results.
Got it. Thank you.
And we'll move to our next question from Phil Warmington with Wells Fargo.
Good afternoon,
everyone. So Linda, just to continue on the interest expense question. Is that If you back out the $11,000,000 it's about $28,000,000 in interest expense. Is that a good rate to use going forward
For Q4?
Yes. I think that's probably pretty good, Bill. We did do the financing in July. So you have to consider that we've increased the run rate on that to include That financing, even though that was done at very attractive rates, it does add a bit of interest expense for us.
Yes. 30 year money, very attractive.
The Another quarter.
Now, I'm seeing the headline here 25 Eurozone Banks Said TO Fail Stress Test. And so my question is, with that, are you seeing an acceleration in demand for stress testing in the U. S. And Europe?
Well, I think the short answer is yes, absolutely. But I think we would also be cautious in saying that the stress tests that are being conducted are A principal driver of demand for our risk management services And our stress testing capabilities in particular, they play a role, but there's a broader increase And the attention to risk measurement and risk management that's going on beyond just these point in time stress tests. And Mark, I don't know if there's anything you want to add to that. No, I think that's right. I think the results the specific results of the stress test aren't All that meaningful for us.
It's really the existence of the stress test and the way that stress testing is being Integrated into regulatory supervision of banks in the U. S. And now we're seeing it in Europe It's a good driver of demand for the kinds of things that we offer to banks.
Got it. Okay. Thank you very much. Thanks.
And we'll move to our next question from Vincent Han with Autonomous Research.
Hi. Good afternoon. Maybe I missed this, but could you provide any color on the ERS project pipeline?
It remains good. It's we have we're at hard at work on a lot of projects with a lot of customers around the world. I think it's very consistent with what we've been talking about and what we talked about at Investor Day. We continue to think that ERS will be The fastest growing business in Moody's Analytics.
Okay. And is there any commentary on how the regulatory and compliance Costs have trended this quarter.
No. As we've communicated previously, we think the incremental cost This year will be less than $5,000,000 maybe up to $5,000,000 But that as you can tell then the incremental component for the quarter would not be substantial.
Okay. Great. And lastly, it's just more of a longer term question around HyHoD issuance. But clearly, if I look at your revenues, they've grown in tandem with the mix shift in total debt issuance, so more high yield issuance. And it It's getting harder to argue that mix will continue to increase towards greater high yield issuance because We're currently running at about 8% high yield issuance, the total debt issuance for the year to date and pre crisis it was 3%.
And clearly some of that is going to be supported by the positive backdrop of low rates and disintermediation. But how should we think about How that trends going forward?
Yes. There are both cyclical and structural features to the high yield the growth in the high yield market. And when we talk about high yield broadly, I would include both Leveraged loans and high yield bonds. But the and so cyclically, yes, low rates Have caused a lot of opportunistic financing that's already been largely accomplished. The good news is that once institutions are in the market with The financings that increases the volume that will be refinanced in the future.
And so that's a very good news story. But structurally, the conditions and changes that are going on in the financial institution sector globally In terms of capital adequacy and stress testing and risk management and curtailment of certain business activities that are Creating profit pressures, all of that is encouraging disintermediation and a lot of that is for non investment grade parts of the market. Those are the institutions that historically would have been either largely or exclusively in banking relationships rather than in the bond markets And they're going to the bond markets now. Certainly in the U. S, but also a big opportunity in Europe.
And Vincent, We would also note and call your attention to what we had said earlier, this $100,000,000,000 backlog in M and A takeout financing, much of that is high yield. M and A activity generally tends towards being high yield activity and that's quite good for us. And we have Again, very nice conditions here with the equity markets at highs and financing costs relatively low. And we were just looking at M and A activity. It's very much at a high point right now, which is very helpful to us.
The other thing I would add is that this forecast, this guidance does incorporate the view though that activity in Europe is still weakish, not very strong. And that would be the place that Michelle had commented on earlier, where we do see a little bit more about what's happening there, but we do see good activity here in the U. S. We're trying to put those two things together in considering our guidance. The one other thing I'd remind everyone regarding our guidance, the acquisitions we've done this year, ICRA and WebEquity together On a GAAP basis, our $0.05 dilutive to the GAAP earnings outlook for this year.
So just something for everyone to keep in the back of their minds. I think there's some question as to why we didn't do something more with guidance today. We would note it's only been 24 business days since we had our Investor Day. So just trying to keep everything in balance here.
Okay. Thank you.
And we'll take our next question from Patrick O'Shaughnessy with Raymond James.
Hey, guys. We continue to hear complaints In the corporate bond market about the lack of secondary market liquidity. And so far, it does not seem like that has impacted the ability of companies to go to the market and issue debt. Could you foresee a scenario in the future though where that lack of secondary market liquidity does become an issue? And to the extent that it does, What sort of role can Moody's play in maybe helping that liquidity better develop?
Patrick, I don't think that it causes any hesitation in companies What is interesting for companies that have well aged bond deals and then bring new debt to the market, Sometimes those new deals can trade tighter than the old deals because there's more of these newer securities than in inventory. So that's A curious fact, but one that is happening quite a bit. The other thing we would notice is last Wednesday when the tenure traded down to 1.87, There was a view that a lot of that unusual decline was because capital markets theft at various firms are not Holding the same sorts of bond inventories that they did before to act as a shock absorber as rates move around. So that would be another factor that we would call attention to. We don't think though that that has any impact on issuance at this point.
Issuance even as recently as yesterday Verizon bought a $6,000,000,000 deal yesterday and it went very nicely. So I don't think we see any impact on issuance, but I'd invite Ray and perhaps Michelle to comment.
No. That's Nothing to add to that Linda. That was very complete. I don't know. Michel, if you have anything you'd like to add please do.
No. Nothing that I'm going to say, no.
All right. Great. That's all
for me. Thank you.
Thanks, Patrick.
And there are no further questions in the queue at this time.
Okay. Just want to thank everyone for joining us on the call today and we look forward to speaking with you again in the New Year. Thank you.
This concludes Moody's Q3 2014 earnings call. As a reminder, a replay of this call will be available after 4 pm Eastern Time on Moody's Web on-site. Thank