Thank you for holding. Parties will be on a listen-only mode until the question and answer session of today's conference. At that time, you can press star one to ask a question. The conference is being recorded, and I'd like to introduce your speaker, Mr. Peter Poillon, Director of Investor Relations.
Thank you. Welcome to our first quarter 2014 earnings conference call, which is being hosted by Dominic Casserley, Chief Executive Officer of Willis Group Holdings. A webcast replay of the call, along with a slide presentation to which we'll be referring, can be accessed through our website. If you have any questions after the call, my direct line is +1-212-915-8084. Please note that we may make certain statements relating to future results, which are forward-looking statements as that term is defined by the Private Securities Litigation 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 estimated or anticipated. These statements reflect our opinions only as of today's date, and we undertake no obligation to revise or publicly update them in light of new information or future events.
Please refer to our SEC filings, including our annual report on Form 10-K for the year ended December 31, 2013, and subsequent filings, as well as our earnings press release for a more detailed discussion of the risk factors that may affect our results. Copies may be obtained from the SEC or by visiting the investor relations section of our website. Also, please note that certain financial measures we use on the call are expressed on a non-GAAP basis. Our GAAP results and GAAP to non-GAAP reconciliations can be found on our earnings press release and slides associated with this call. I'll now turn the call over to Dominic.
Welcome. Thank you for joining our quarterly conference call. With me today are Michael Neborak , CFO, Steve Hearn, our Deputy CEO and Head of Willis Global, Tim Wright, Head of Willis International, and Todd Jones, Head of Willis North America. By now, you've had a chance to read the news release that we put out last night announcing both our first quarter earnings and our multi-year operational improvement program. After we walk you through those areas in our prepared remarks, we will be happy to answer your questions. Let me start with an overview of our first quarter results. We delivered revenue of almost $1.1 billion, up 4.4% from the prior year. Our growth in commissions and fees, both reported and organic, was 4.2% for the group. Over the past six quarters, our organic growth has averaged 5.3%.
One of the reasons we have sustained this momentum is that we have a portfolio of growth businesses across Willis Global, Willis North America, and Willis International. Not all may be firing on all cylinders in every quarter, but we have enough diversity in the global portfolio to underpin good organic growth. This quarter, Willis International led the way, contributing 7.2% organic growth. Willis North America contributed 4.7%, and Willis Global came in at 2%. Turning to expenses. On an underlying basis, total expenses were up about 5.5% compared to the first quarter of last year. While Mike will provide more detailed commentary on expenses later in the call, this increase does reflect, to a large degree, our ongoing investments in growth that I just discussed. We are committed to continuing to invest in our growth businesses in the emerging markets, specialty areas, and in new opportunities.
With that context, we have also identified a set of opportunities to significantly step up our operational effectiveness and efficiency. The multi-year operational improvement program we announced yesterday captures our planning for even stronger client service and substantial cost savings. Starting in 2014 and building to 2018 and beyond. I'll give more detail on the program later in the call. Let me turn to our first quarter earnings. Our reported GAAP earnings per share and adjusted earnings per share for the quarter were $1.35 and $1.36 respectively. Once again, those results for this quarter include the negative FX impact equivalent to $0.03 per share in the quarter. This compares to reported EPS of $1.34 and adjusted EPS of $1.46 in the year-ago quarter. Let's spend a few minutes looking at each of the businesses in some detail, and I'll start with Willis North America.
The North American business achieved organic growth in commissions and fees of 4.7% in the first quarter. The majority of North America's growth was again largely driven by new business wins combined with solid retention levels. As we mentioned on our previous earnings call, overall, we are seeing a leveling out of rates in North America. We saw declines in some products such as property and some specialty lines such as aerospace, but we also saw rate increases in other lines, including workers' comp, construction, cyber, and D&O. However, in total, rates did not materially impact our growth in the first quarter of 2014. For a more in-depth view of rates and market dynamics in North America, please take a look at our spring update, Marketplace Realities, that we published earlier this month. It is available on our website.
Looking at North America by region, from the beginning of the year, we've realigned our businesses to seven geographic regions. Northeast, Atlantic, South, Midwest, West, California, and Canada. Growth was well distributed across most of these areas, led by strong results in the Midwest and the South. Looking at these results from an industry and practice perspective, we saw good growth across a number of lines. Importantly, our two largest North American practices, construction and human capital, both had a good start to the year. The construction practice grew in the low teens with good project revenue in the quarter, and our human capital practice was up mid-single digits. I'd like to provide an update on our healthcare exchange strategy, which includes our own exchange offering through Willis Advantage. We now have 16 current and committed exchange plans in total, and four of these are new to Willis.
We continue to attract strong interest from current plans and prospects alike. We are now engaged in discussions with over 750 prospects, of which about half are new to the human capital practice. You will remember when we last talked to you, that pipeline was about 600. For a company to decide to move to an exchange is a big decision and involves many months of work by their HR department and a period of communication with staff. Turning prospects into clients naturally takes time. We are really pleased with our progress and our pipeline in this important growth area. Let's now move to Willis International. Our international operations grew 7.2% in the first quarter, with most of the growth coming from emerging and developing markets. Let me provide a little detail on the regions that comprise our international business.
In Western Europe, we saw modest growth driven by new business and solid retention. We are pleased with our ability to continue to grow in Western Europe, given the generally weak economic conditions that persist in many of these countries. Our growth was spread across the region with strong results from Iberia, Italy, and Sweden. In Eastern Europe, we recorded low double-digit growth, primarily driven by strong performance in Russia. Latin America delivered low teens growth. Most of the countries in the region continue to do well with strong growth in Brazil and excellent performances coming from many of the other countries, including Venezuela, Argentina, Chile, and Mexico. Asia also had a very good quarter with strong results in China and Hong Kong. Australasia was down but by less than 1%, with growth in New Zealand offset by a decline in Australia.
Let's now turn to Willis Global, which comprises Willis Re, Global Insurance, Facultatives, Risk, and Willis Capital Markets & Advisory. This is the first quarter in which our U.K. retail operations are being reported within Willis Global, following the combination earlier this year of our Willis UK and global specialty businesses in a new unit called Global Insurance. Willis Global reported organic growth of 2% in the quarter, reflecting the blend of different results across its component businesses. The reinsurance business had another excellent quarter, growing high single digits in a seasonally larger quarter and on top of good growth in the first quarter of last year. Excellent results in our specialty reinsurance division led the way with mid-teens growth on the back of strong new business wins. North America reinsurance was up mid-single digits, also on the back of new business wins, while international reinsurance was down slightly.
We have noted a continuation of the trend towards softening reinsurance rates across almost all classes of business and geographies. We are feeling the impact of softening rates to a degree. As the analytical broker, we are helping to guide our clients through a maze of complex decisions in an evolving market. With our help, our clients are achieving substantial savings on the cost of their reinsurance protection. Some are taking advantage of market opportunities to buy more cover. For a further discussion on reinsurance rates globally, I reference our updated First View report that we published on April the 1st. You can find it on our website. Moving on to our Global Insurance business. It was down high single digits, reflecting a disappointing quarter for both the U.K. retail business and parts of our global specialty business.
Among the specialties businesses, marine and aerospace continued to be hampered by challenging market conditions and some negative timing of revenues that we expect will come in later in the year. Within our construction, property, and casualty business, we saw less project-related new business in the current quarter compared to last year. This is simply due to the nature of this business. Its results can be lumpy. In our U.K. retail business, weaker performance was driven by a variety of factors. These included revenue timing effects and lower levels of new business, for example, in our corporate business and reflecting the improving U.K. economy in our important business. At the beginning of the year, we started the process of combining our specialty and retail operations in the U.K. under one leadership team.
Overall, we achieved solid 4.2% organic growth, continuing the trend you've seen from us for the previous five quarters, despite some areas of softness that we are actively addressing. With that, I'll turn it over to Mike to discuss the rest of the financial results before coming back to you to talk to you about our operational improvement program and then moving to Q&A.
Thank you, Dominic, and good day, everyone. I will be referring frequently to the slide presentation posted to our website. I would like to begin on slide three, which summarizes the financial reporting changes we made at the beginning of 2014. The most significant change was combining our U.K. retail business, which previously formed part of our international segment, with our U.K. specialties businesses to form a new unit called Global Insurance within the Willis Global segment. I also want to highlight the movement of revaluation FX, along with gains and losses on disposal out of operating expenses to a new line item below operating income called Other Income and Expense. For 2013 and 2012, we moved $22 million-$16 million respectively from net gains into the new line item. For 2011, we moved $5 million of net losses.
Let me turn to the financial results for the quarter on slide four, which shows adjusted operating income at $326 million, potentially flat when compared to the year ago number and adjusted EPS of $1.36, down $0.10 from first quarter last year. Please note, however, that three items negatively impacted the EPS comparison to last year. First, FX reduced EPS this quarter by $0.03, while the higher share count and the higher tax rate each lowered EPS by $0.05. Slide five shows 4.2% organic C&F growth broken out by segment. Dominic provided color on each of the segments, but let me highlight a carryover impact from the fourth quarter of last year. Recall that last quarter our organic commission and fee growth was constrained by a revenue recognition adjustment in China.
Revenue that would have been reported in the fourth quarter last year under the previous revenue recognition policy was pushed to future periods. That situation has now started to reverse with a positive impact of approximately $6 million to our current quarter. Including the positive impact, International organic growth was still very good at 4.7%, and the group's organic growth would have been about 60 basis points lower at 3.6%. The surge of expenses starting on slide six. Dominic mentioned earlier that the underlying growth in total operating expenses, which excludes the impact of the expense reduction charge we incurred in the first quarter last year, and the negative impact of foreign exchange in the current quarter was 5.5%. This is broadly consistent with the underlying expense growth we have seen over the last six consecutive quarters.
We're going to talk about the drivers of that growth in the current quarter, Dominic will discuss the operational improvement program and how we expect that program will affect the cost base going forward. First, salaries and benefits, which accounts for around 75% of our total operating expenses. Slide seven shows that underlying S&B expenses increased by 5%. This was slightly better than the 5.6% growth we saw for the full year 2013. The main drivers of that growth are similar to what you've heard us talk about on recent calls. First, headcount, which is up about 3% since a year ago, and second, the impact of annual salary increases.
The headcount growth has been strategically directed to areas where we see growth opportunities, such as emerging and developing markets in reinsurance, specific businesses such as Global Wealth Solutions in Asia, and revenue initiatives such as our Connecting Willis program. Let's now look at other operating expenses. On slide eight, you'll see the quarter-on-quarter comparison. On an underlying basis, those expenses were up $13 million or 8.7%. This reflects business development costs relating to Connecting Willis and other growth opportunities. In addition, we had increased spend on systems-related projects. Depreciation expense for the quarter was $23 million, up from $21 million last year, driven by costs associated with a number of IT projects that came online late last year. All of this activity, of course, affects our operating margin. As you can see on slide nine, the adjusted operating margin declined 140 basis points to 29.7%.
Unfavorable FX accounted for 50 basis points, leaving the underlying decline 90 basis points. In looking at the segment margins, North America and International achieved margin expansion this quarter of 290 and 60 basis points respectively. Global's margin declined 310 basis points, driven by comparatively low revenue growth, continued investment in the segment, and approximately 80 basis points of unfavorable foreign exchange. On taxes. The adjusted tax rate for the first quarter was 22% compared to 19% in the year-ago quarter. It's worth stating again that the quarterly tax rate will vary meaningfully from the full-year rate. In 2013, the overall adjusted tax rate was 20%, but the quarterly rate ranged as low as 19% in Q1 and as high as 24% in Q3.
On the Associates line, the largest component of which is Gras Savoye, the first quarter of 2014 showed a profit of $19 million compared to a profit of $15 million last year. As we stated on our last call, we expect the Associates line to be profitable in 2014 in the range of $10 million to $15 million. The seasonality of income should be consistent with prior years with a strong first quarter, as that is when the majority of Gras Savoye income is recorded. We expect that to be followed by flat to net operating losses in the Associates line over the remainder of the year. Let me wrap up with some comments on the balance sheet and cash flow. As shown on slide 10, we ended the first quarter with $734 million of cash, down $62 million from year-end, but up over $200 million from March 2013.
Total debt outstanding at quarter-end was $2.3 billion, down slightly from the end of last year. Cash generated from operations this quarter was $5 million, down from $39 million last year due to changes in working capital, most notably the payment of certain bonuses in March of this year that were paid in April last year. I'd also like to point out that we began repurchasing our stock during the last week of February, and we repurchased 904,000 shares in the quarter at a total cost of $38 million. Employee stock option exercises added $43 million to cash in the quarter. Finally, unlike prior years, we did not draw down on our revolver in the first quarter as cash on hand was sufficient to cover the seasonally high operating cash outflows associated with the payment of annual incentives in March. With that, I'll turn the call back to Dominic.
Thank you, Mike. As we announced recently, John Greene will be succeeding Mike as Group CFO. As this will be Mike's last earnings call, I wanted to take this opportunity to acknowledge the very significant contributions Mike has made over the last four years to the tight financial management of the Willis Group, the ongoing improvement of our balance sheet, and the continued focus of the financial team on cash flow. Mike has also been a great source of advice and support to me as I have taken over the CEO role. Mike, thank you on behalf of all of us at Willis. Let me now turn to the multi-year operation improvement program we announced with our earnings release last night, which I touched on earlier. This program marks a significant step in our continuous pursuit of operational excellence.
It is designed to further strengthen our client service capabilities and to deliver substantial savings starting now, with annualized savings that are cost-based from 2018. Let me start with the financial details, then I will provide some contextual background to the program. On slide 12, you can see that we expect that the program, starting in 2014, will deliver cumulative savings of approximately $420 million through the end of 2017. From 2018 onwards, the program will result in an annualized reduction in our cost base of around $300 million. To access these efficiencies, we plan to take a cumulative charge of $410 million starting in the second quarter of 2014 through to the end of 2017. The savings associated with the program are expected to offset the charge to access them through the life of the program up to the end of 2017.
We will derive significant annual benefits in 2018 and thereafter. We have given indicative phasing on the $420 million of cumulative savings in 2014-2017. We expect modest savings over the remainder of 2014 of about $5 million. Approximately $45 million of savings in 2015, approximately $135 million in 2016, and approximately $235 million in 2017. We expect that about 70% of the savings will come from workforce relocation and reduction, and 30% from real estate, operations, IT, and other changes. These estimated savings are before any potential reinvestment. We expect the majority of savings to be reflected in earnings. Today's announcement follows months of detailed analysis and planning across all of our operations. As you can see on slide 13, workforce location, real estate, and technology will be the primary levers in delivering our targeted efficiency gains. In some areas, we are accelerating existing successful initiatives.
In others, we are bringing fresh thinking. As ever, maintaining and improving client service will continue to be at the heart of everything we do. On the subject of location, where we see possibly the greatest opportunity, we have a track record of successfully operating across time zones from lower-cost locations, including Mumbai, Ipswich in the U.K., and Nashville. Further possible sites in Europe and Latin America are under active review. We will accelerate these successful initiatives to rebalance the footprint of our support functions. Our current ratio of employees in higher-cost office locations to employees in lower-cost regions is about 80/20. We will rebalance that ratio to approximately 60/40 by 2018 by moving at least 3,500 support roles out of a current employee population of more than 18,000 into lower-cost locations.
This is a profound change that will take time to complete, but it will give us a more effective allocation of people to the right places with the right skills to deliver with maximum effectiveness and efficiency for clients. We also anticipate some reduction in support roles as we roll out best practices and redevelop our operating processes. Ensuring we are effective in our use of space is another key focus for us. This is fundamentally about bringing more modern ways of using real estate to Willis. Adopting the best practices of peer professional service firms, we can make our real estate more user-friendly and reduce its cost. The result of this work will be that we will reduce the ratio of feet per employee and average square footage per employee in line with benchmark norms.
Finally, we will make more effective use of technology by reducing complexity, removing duplication and obsolescence across businesses and geographies, and tailoring systems more closely to the client needs. We have managed to grow a powerful suite of IT applications, in the past, they were developed independently by our various businesses. The opportunity here is to reuse and rationalize this basic system. Going forward, we will develop our IT in a fully coordinated way. We are known for the power of our analytics. I want that to be just as much a feature of our operational DNA as it is in the solutions we deliver to clients. This program will be overseen by a special working group involving key leaders and chaired by our Group Director of Operations and Technology, David Shalders. We are starting this program with significant experience and track record in this space.
Most of the operating committee of the group has significant experience driving programs of this nature and of delivering cost savings at Willis. We have a track record of successfully moving roles from higher-cost to lower-cost locations and of managing those locations ourselves to benchmarks that are, in many cases, superior to those achieved by the major outsourcing companies. We will communicate openly with our employees throughout the process, working hard to support all those who are affected as much as possible. We will report regularly on the progress we are making on the program. We will provide information on realized savings and actual charges in the relevant periods and cumulative to date.
In addition, we will provide data on the underlying drivers of operational change, including the ratio of staff in higher-cost to lower-cost locations and on how we are changing the number of seats per employee and average square footage per employee. The savings and charge estimates for the program reflect what we believe is achievable based on current analysis and judgment. We will track these estimates closely and look to drive greater efficiencies where we see opportunities to be had. Let me now discuss the outcomes for the program, which are laid out on slide 14. We see three core benefits. First, stepping up on our operational efficiency for the benefit of clients. Second, reducing our operational cost base, helping us to continue to invest for growth. Third, contributing to positive operating leverage that will drive compelling returns for shareholders.
To summarize, it has been a good start to the year. The diversity of our portfolio and our ongoing targeted investments continue to underpin solid organic growth, 4.2% this quarter and averaging at 5.3% over the last six. Our stated strategy is sound, we remain confident about and committed to growing revenues faster than expenses over the medium term. The decisive program we announced yesterday fully supports that commitment. We will execute with absolute focus against the targets we have set and look forward to reporting progress to you. With that, operator, may we please begin the Q&A?
If you'd like to ask a question, press star one. Please unmute your phone and record your name. To withdraw your question, press star two. Once again, it's star one to ask a question, and you do need to record your name. Please stand by for the first question. The first question is from Joshua Shanker from Deutsche Bank.
Yeah, good morning, everyone.
Good morning, Joshua.
Questions about the strategic plan. The first question is, why don't you take an upfront charge so we can, over time, analyze whether you're successful on your savings? By taking incremental charges as you save, it makes it difficult for us to understand the degree to which you're making progress.
I think we actually want to try and match the actions we're taking to the charges we actually take along the way, and we want you to be able to monitor that very closely. We believe, I think it's much better to have much more transparency on, we've taken particular actions in this quarter, they have cost X, and then you can start to track how the savings go. I think we feel very strongly that the approach we're taking is actually more transparent and clearer for everyone.
Is this part of the 70 basis point per annum improvement plan, or is this in addition?
Obviously, as we laid out our plans for 70 basis points or more, a gap between revenues and costs over the medium term, we had a range of cost-saving actions that we would take over that time. Some of those may be partly involved in this program. I think we definitely believe that as we've added to our analysis, this is an opportunity for additional cost saves.
While the incremental spend to achieve these plans going on offset by the savings benefits, are we going to see over the 2014-2017 period, hopefully the 70 basis points of margin expansion you've laid out, or does that really kick in beginning in 2018?
No, no. It's a good question. We laid out a plan to achieve a 70 basis points or more improvement between revenues to expenses over the medium term. I would definitely regard 2014 to 2017 as the medium term. We will be targeting to produce that sort of performance during that long time period.
Just so I don't need to repeat myself, we should be seeing incremental margin expansion of hopefully about 70 basis points per annum simultaneously as you're taking charges and offsetting them for this operational efficiency.
John, I'm going to repeat what I said, which is that we set a target in July last year of improving our operating margin of an average over the medium term of about 70 basis points between revenues and costs. We remain committed to achieving that, and we believe that the operational improvement program both underpins our ability to do that and gives us the opportunity to exceed that target too.
The point I would make that if it's happening concurrently with the savings, and then we expect another $300 million in 2018. That would be about 210 basis points over the next three years, plus a much, much bigger lump sum in 2018. I guess, is that the right way to think about it?
As you know, we don't give medium-term guidance exactly on how revenues and costs are going to flow. What I think we can, and we've also said that some element of the savings we're achieving on the program, we may put towards reinvestment to further drive growth, but have made clear that we think the majority of the savings will fall to the bottom line. I think the way to think about this, as I said just earlier to you, is that we expect over the medium term to be meeting the commitment we made in the middle of 2013, and that this program then helps underpin that and drive further improvement over the medium and longer term.
Okay. Well, good luck with the program, and look forward to further updates.
Thank you very much.
The next question is from Bob Glasspiegel from Janney.
Dominic, let me echo your positive comments about Mike. I've enjoyed working with you over the last 20 years, and you're a real pro, and I really wish you well and hope we can work with you again in the future, Mike.
Thank you, Bob. Thank you.
Dominic, maybe looking at Josh's question a little bit differently, how does this financial, this operational plan affect the cash flow dynamics? I've been under the impression that cash flow was going to grow faster than operating earnings with capital spending and pension sort of flattish to declining. Does this change that dynamic?
I think, Bob, you've got the analysis right. As we said back in July, we do believe that we have the opportunity to grow cash flow faster than operating profits because some of our CapEx and pension contributions, we believe, will be flat while we continue to grow the company, and that we continue to believe. I think the impact of the program on cash flow is really through what it does to operating profits is that we expect, as we said, between now and the end of 2017, that the charges we take and the improvement to profits will basically be a wash. There may be some slight timing difference between those two things. We can't. We will give you a further update on that later in the year. Broadly, we see them being a wash. Quarter-to-quarter, there might be slight differentials.
How much was the change in incentive comp timing from Q2 to Q1? How much did that eat?
Mike?
In terms of the cash flow for the first quarter? No, that was basically the entirety of the change between the $5 million and the $39 million that I cited.
Cash flow is running neutral, even though the earnings were a little bit behind.
Yeah.
Okay. Thank you.
The next question is from Cliff Gallant from Nomura.
Morning. I wanted to ask about some of the changes that have been announced over the last couple of months in terms of staffing changes. Incidentally, I wanted to echo Bob's comments. Mike, it's been great working with you, and good luck going ahead. Dominic, I'd like to know more about the new CFO. What qualities were you looking for in the person you hired? Within the management ranks, we saw a number of changes announced during the quarter as well, and I was wondering if you could highlight some of those.
Let me talk about John Greene. John comes to us from experience in GE and most recently at HSBC. The qualities I was looking for were obviously many of those qualities that we have in our existing CFO. John also comes with significant global experience, having operated around the world. I was looking for ability to help us drive and monitor operational improvement. From his background, John brings that to us, too. Other changes the most notable might be the appointment of David Martin to be CEO of Willis Limited. I'll have Steve Hearn talk about that change.
Thanks, Dominic. Yes. David's been with us over a year now. Recruited in initially to run our U.K. retail operations. As you recall from previous comment, we brought together our U.K. retail business and our global specialty business in a new unit that Dominic has described called Global Insurance. We've got David running that operation, that combined P&L for us, which makes up by far the majority of our Willis Limited entity, the regulated entity in the U.K. Felt it appropriate to make some changes. David will be coming to replace me, subject to regulatory approval, as the CEO of Willis Limited, working with that board in terms of that responsibility. I guess that's the most significant changes.
Yeah. Were you thinking of any others you wanted to talk about?
No. Well, I think I saw there were some hires in the healthcare practices as well, and just more additions to the high-profile hires you've made.
Yeah. No, I think what we can say generically is that we are committed to adding talent to grow and drive our business. We do believe that Willis offers a very exciting platform for talent across both our property and casualty and our human capital and benefits activities. We are having interesting discussions with a number of people who see the growth opportunities with us. That is certainly true. The number of incoming calls we are getting from professionals in those areas who are noticing what we are doing and are interested in joining us is significant, and we are very excited about it. I will actually turn to Tim Wright, who just I'll take you on a couple of steps in the human capital space globally.
As you know, we asked Tim to oversee our practice in human capital and benefits globally as we start to coordinate that business globally. Tim, just want you to talk about the topic itself.
Thank you, Dominic. As you know, we have substantial human capital and benefits practice both in North America and around the world. That is a growing business. It's growing at a good rate. It has a good market, and it's an area of focus for us going forward. We are bringing that together as a practice, which we've matrixed into the geographies. We are making a number of important hires as part of that process, including in Europe and in our multinational human capital benefits business, which you may have read about.
Thank you.
The next question is from Michael Nannizzi from Goldman Sachs.
Thanks. Dominic, it seems like you kind of purposely didn't lay out the timing of the expenses or the incurrence of cost as opposed to the cost saves. Can you talk about the thought process around that, and when do you expect those expenses come through? Do you expect the timing to be up ahead of the saves or more concurrent? Thanks.
That's a good question. We do plan probably on our October call to give you an update on that, on our view on the timing of the charges we will take. I think broadly, as I said, we see the timing to be close to the savings, but we wanted to give you more detail on that October call. I think it will be You're right. There may be some slightly early you take a charge, and you see the savings a little later.
We will give you more information on that call.
Got it. In terms of the expenses, is that related to current costs or projected costs? What is the baseline for those saves? I mean, you have some growth initiatives internationally. I imagine that your projections would call for some growth and expenses in those areas as well. Is that 420, is that relative to the starting point of expenses today, the three-ish billion today, or is it in comparison to projected expenses in forward periods? Thanks.
Well, maybe the easier number to focus on is our annualized pace of 300 in 2018, right?
Talk about that number. That is a number against our view of what projected expenses would be in 2018. It is a reduction against that for the base.
Okay. We should be thinking about these expenses relative to projected expenses, not necessarily current expenses.
That is correct.
Okay, great. Thank you.
The next question is from Paul Newsome from Sandler O'Neill.
Sort of a related question. When you think about these payoffs timing, obviously this big restructuring charge looks like it has about a 4-year payout return. When you're looking at these other investments, are you thinking in the same manner that a 4-year kind of timeframe is, roughly speaking, the kind of payback for the investments that you're making, particularly the stuff you're talking about that could offset some of these current savings off this big restructuring?
No. First of all, let me just go through the cost-saving economics again for you. We see the immediate return for quite rapid, right? That's why we're saying that we will take a charge, and we start to see savings and those are awash during the course of 2014-2017. In terms of other investments we make, which are almost overwhelmingly in client-facing activities, new businesses, et cetera, the returns are obviously often much faster than that. In some businesses we take, we hire people who join us, and their impact can be positive in-year. In most cases, when we hire people, we would expect them to be definitely positive in year two. The return on building new businesses and hiring capabilities we tend to find is reasonably rapid. As I say, in some cases, very rapid indeed.
We definitely look to see as we build businesses to see returns in the year after we start we are investing.
Are any of these cost savings dependent upon the achievement of a certain level of organic growth in benefits of scale?
No. We're a reasonably scaled business today. I should go back and reiterate. We have spent months developing this plan in great detail. It is based upon specific actions we see in the location of our staff, in the evolution of our real estate base and in consolidating and rationalizing some of our IT. Those are actions which are based upon the base cost base and the natural way we see it growing. We're not relying upon further growth or further economies of scale to achieve the savings.
Well, thank you. Best of luck to Mike as well.
Thank you, Paul.
Are you ready for the next question?
Yep.
The next question is from Meyer Shields from KBW.
Thanks. This is probably more numeric than you may want to answer. Is there any way of quantifying how much of the $300 million of full-year run rate savings are already contemplated in the 70 basis points revenue expense spread?
It's a good question. It's obviously a reiteration of, I think, Josh's question right up front. The answer is, I think I'll try and reiterate again. We are committed over the medium term, and that includes the medium term out to 2017, to the 70 basis points or more gap between revenues and expenses. This program both underpins our confidence in that program and those targets, and our ability to deliver 70 basis points or more. That's how we see this program. The exact division between how much of this is helping us get to 70 and how much will push us beyond 70 is hard to say. Definitely by the time you get to 2018, because the world will have evolved. We absolutely are saying that this should both underpin the 70 basis points commitment and help us exceed it as we move forward.
Okay. I understand your point. A similar question, though. In terms of the majority of the savings falling to the bottom line rather than being reinvested, can we maybe refine what the majority means?
Yeah, we will give you guidance along that along the way of the program. Obviously, as you would expect and as you would want us to do, that will be based upon the attractiveness of investments along the way. We do believe that the majority of the savings will fall to the bottom line. If, obviously, you would want us to do, it would be wise if in 2016, 2017, we saw specific investment opportunities with spectacular returns. If we should be investing in those, we will do so. We absolutely believe that the majority of these savings will fall to earnings.
That's great. If I could encourage you to maybe quantify this as we go along, I think that would be very helpful.
We completely hear you. As I said, we are committed to both providing you on a regular basis how the program is evolving, and to provide you with underpinnings of the key drivers of those savings so that you can see that they are really happening on the ground. We report to you on how the 80/20 higher cost to lower cost ratio where our people sit evolves over time. We will report to you on how our real estate platform evolves over time.
Fantastic. Thanks very much.
The next question is from John Campbell from Stephens Inc..
Thanks, guys. First question here just follows in line with Josh's question earlier. Dominic, I know you guys don't give the medium-term guidance. We're not looking for that. Just looking beyond that 70 basis points medium-term goal, factoring in the cost reduction plan and if we're to assume steady growth from here, do you guys just give us a sense or maybe just a rough range of what you're targeting for longer-term operating margins?
I'm sorry. You know we don't give guidance of that nature. Obviously, you can do the math as well as we can. If we deliver a medium-term 70 basis points gap between revenues and expenses, you would see our margin improve. If we can do better than that in terms of the operational improvement program helping to drive increased cost savings, we'll do better again. That's all I can help you with, basically, because as you say, we don't give specific guidance of that nature.
Okay. That's fair. Just was looking for a range there. As you look at the cost reduction plan, I don't know how much detail you can give us on this, but is any of that plan focused on Gras Savoye efficiency?
No. Gras Savoye, as you know, went through its own program during 2013 and achieved a very good savings, a very successful program. You saw some of the benefits of that in the associates line in this first quarter. Assuming that we go ahead with the acquisition of Gras Savoye, which as you know, is a decision we have to take next year. We have not made that final decision yet. Assuming that we were to go ahead with them, they would be part of us during 2016. We would obviously start to look during that period the opportunities to involve Gras Savoye further in some of the activities we are taking. That may create additional opportunities. At this point, we are not including them in those numbers.
Okay, great. Thanks for taking our question.
The next question is from Al Copersino from Columbia Management.
Oh, hi. Thank you very much. It sounds like a large-scale cost savings program of this sort perhaps was not contemplated at the time of the July investor meeting. If that's correct, I hear what you're saying, that this program gives you more confidence in the 70 basis point spread, and it gives you the chance to perhaps exceed that. My question is, did you find that some elements, either the revenue growth or the expense management, had turned out to be more difficult than you had thought a year ago? Is that not the correct way to think about this?
I think that is not the correct way to think about this. When we stood up in July last year and talked about our revenue and cost opportunity, we already had some ideas about where we would find some cost savings. By the way, we have been taking those activities. The ratio of that we have been continuing to move people to our lower cost locations over the last period of time. I was aware, I've become aware and become more convinced that there were cost opportunities both leading up to July and after July. We were seeking a team that would enable us to drive a very detailed, carefully thought-through program. We were able to hire David Shalders to join us at the tail end of 2013 to help us accelerate our analysis of our cost-saving opportunities.
We have been in deep analysis of those opportunities over the last few months and developed a very detailed plan for which we are providing you the headlines on this announcement. I think what the best way of thinking about this is that we had some ideas of where we would get cost savings. We saw some opportunities in July. What we've now done is deepen and strengthen our bench to enable us to drive that into great detail, and in the process of doing so, have become even more enthusiastic and raised what we believe are the opportunities. That is the program we are announcing today, that it reflects both thinking leading up to July and then deeper and deeper analysis of the opportunity which leads to this announcement.
That's very helpful. Terrific. Mike, it's been a pleasure meeting with you and working with you over the last few years.
Thank you, Al. I look forward to seeing you again.
Thank you.
The next question is from Mark Hughes from SunTrust.
Yeah. Thank you. Good morning. The headcount growth of 3% in the quarter was fairly healthy in light of the market opportunity, I guess. Is there something you see, is there a land grab out there that you need to keep expanding the staff in order to take advantage of some opportunity or fill in some part of your strategic offering? Therefore, you can't just sort of start pinching pennies today, or you couldn't six months ago, that there's some sort of expense drive that is making you, I guess, want to increase the expense structure, at least in the near to medium term here, which you will then taper off in the longer term. Why not just start pinching pennies today?
First of all, to clarify that the 3% is the year-on-year increase, it's comparing the first quarter of 2014 versus the first quarter of 2013. It is also a net number. We have been basically trying to target our headcount at particular areas where we see growth and holding back on headcount in areas where we see less growth and less opportunity. For instance, in Asia, we've seen headcount grow 11% year-on-year. Reinsurance is up 6% year-on-year. In other areas, we have been reducing our headcount where we see lower growth. The net number absolutely reflects the fact that we see significant opportunities to grow the business, and we are going to put our resources behind those growth opportunities, and we will cut back in areas where we see less growth.
This operational improvement program enables us to do all that at an accelerated pace and deliver our financial metrics in the way that we would all like.
On a separate topic, the human capital business, if you're able to land a reasonable number of those exchange prospects, would you expect the human capital growth to accelerate a little bit because of this exchange opportunity?
Obviously the human capital exchange opportunity you're talking about is in North America. I would reemphasize to you that we are thinking about our human capital and benefits activities globally as well as what's within North America. Within North America, I guess we do, particularly as we are finding that the prospect list and actually the new client list includes a fair number of people who are either new to Willis full stop or new to Willis in human capital and benefits in North America. Absolutely, as we drive that exchange forward, we would expect it to add new clients to our base and therefore drive revenue. Yes, we are excited about this. Let me reemphasize what I said, the fact that it takes time to close these transactions because they're major decisions for a company. They're changing the healthcare plans of their employees.
You don't do that overnight. We really started in this in the middle of last year. We've closed 16 to date, and we have a pipeline of 750 discussions we're having. You can see why we are excited.
Thank you.
The next question is from Brian Meredith from UBS.
Yeah, good morning. Two questions here for you. The first one, do the cash outflows with respect to the expense plan here have any impact on share buyback?
No. It's a good question. We remain committed to our capital allocation plan we laid out in July where we said we'd be looking at organic growth opportunities, inorganic growth opportunities, dividend increases and share repurchases. We've delivered on all four of those to date. We've delivered organic growth. We've done some M&A, we've raised our dividend, and we started a share repurchase plan. We continue with what we said on our last call, that we have a share repurchase plan at the moment targeted at immunizing the impact on share count of share options, and we continue to be committed to that plan.
Okay, great. Dominic, the second question. The insurance brokerage industry right now, I guess it always is, it's pretty competitive when it comes from a talent and getting good talent. Anytime you go through an expense initiative like you're going through right now can cause some internal pain. I guess my question for you is that, is there a risk here of any kind of key talent or good kind of client-facing people leaving as a result of what's going on here? Is there something that you're doing to try to prevent that from happening?
Well, it's a very good question. Obviously we're acutely aware of this. We do not believe that it is a risk that we can't manage. We are very focused on communications around this plan, the consultation with our staff around the plan, and the fact that the plan is fundamentally focused on serving our clients better. One small example of what we are going to do and which is included in the provision charge laid out to you for $410 million. It is very important if we make any changes to the service of our clients, that we parallel run the old process with the new process, to make sure that everyone's comfortable, our clients are comfortable, that new approaches work even better than the approaches we have today.
We have built in substantial amounts of parallel running into our plan and therefore into the $410 million as a charge we have in place. We believe that we'll be able to work with our newly recruiting colleagues to be able to absolutely be clear to them that the thing that really drives their behaviors and excites them and gets them out of bed in the morning, which is client service and making sure their clients are happy, is absolutely going to be taken care of.
Great. Thank you.
The next question is from Kai Pan from Morgan Stanley.
This is Kai Pan. Good morning, Morgan Stanley. Thank you so much for taking the call. Just first, a quick math question. Just try to understand the $300 million cost saving. If there is 70% that coming from the relocation of roles, that is $210 million. You said probably impact about 3,500 supporting roles. That is average about $60,000 per employee per year. It sounds a bit sort like a pay cut, given the average salary of $120,000 for your average employee. Just wondering, is the math right?
Well, the math is basically, obviously, the savings come from the delta between the cost of having a role in a higher cost location and the fully loaded cost of that role versus the difference in a lower cost location. That varies obviously from where you are taking a role to where you are moving it to. Right? If you take a role from some of our highest cost locations, and you move it to Mumbai, that is the big delta. If you move it from a location in North America to Nashville, there is a delta, but it is a smaller delta. The average you roughly worked out would be the average of all those different moves. That is the basic economics are having roles, hopefully better designed roles in lower cost locations with lower overall costs than are present.
In that light, do you expect the sort of majority of these impacted 3,500 sort of roles, like about 20% of your total employee base, to be turned over the next three, four years?
Yes. It's a good question. We do believe that the actual impact on our staff to date will be less significant than it might appear for two reasons. One, because there is natural turnover in that base anyway. Therefore, managing this process should be easier because of natural turnover anyway. Secondly, because we are actually obviously going to deliberately take time over moving these roles. It's not all happening at once. It's happening over the course of three years. Therefore, we think the actual impact on our current staff in the higher cost locations is less significant than the raw numbers might suggest.
Okay. Lastly, on the timing of your margin expansion, looks like most of these savings were sort of back end loaded of these three to four years process. Is that fair to assume that the margin expansion would also be more sort of back end loaded?
Well, I've got to reiterate what I said in a number of questions about our medium-term commitment. Clearly, if we're going to do better than our medium-term commitment of 70 basis points and see more improvement, this program will kick in more aggressively in the later years. Yes, that is right.
Okay. Well, thank you so much and good luck to you, Mike.
Thank you, Kai.
The next question is from Ron Bodman from Capital Returns.
I barely know Mike, but I'm going to say goodbye and good luck anyway since everyone else has.
Thank you.
Moving off the topic du jour, if we could just focus on Willis Re, which has consistently done fabulous. I had a question. Obviously, we're all aware that the reinsurance business, particularly the underwriting side of it, is undergoing dramatic change. Looks like it's here to stay and it's sort of broadening. Obviously, there's a knock-on effect to the intermediary, to your reinsurance brokerage unit. For the most part, it's not really been talked about or a great area of concern from the management and the executive ranks. I wonder, Dominic, what's your view, and maybe any other unit heads there could comment on what's your intermediate or longer term view of the reinsurance brokerage business. It would seem to me that the sort of securitization is not a great trend for the intermediary, but I'd really welcome your input.
I'm happy to speak, and I'm going to hand over to Steve Hearn for a second. I'm very interested that a question about is securitization a good thing coming from an investment banking organization. We are in the broad investment field, but we do believe that actually there are some interesting analogies here where we're starting to see the evolution of capital in the industry start to move in the questions around intermediation and disintermediation. As an intermediary involved in that, we do see plenty of opportunities, but it does require us to be feet to foot and be the analytical provider and helper to our clients. Let me have Steve Hearn talk a bit more about how he sees the outlook for the reinsurance business, reinsurance brokers.
Sure. Thanks, Dominic. Yeah, we did have another great quarter in Willis Re, another great quarter, because that business has performed spectacularly over years. Unquestionably, as you say, an interesting environment in terms of rating in the reinsurance space and if you want to see it influenced by what's going on in the investment market. As I've said before on calls before, I don't think we should necessarily draw the conclusion that you'll see that impact directly in our reinsurance business's performance. We continue to grow through new business, acquisition business from competitors. We do have some fee-based earnings in some of the larger reinsurance buyers. Clients, Dominic said it in his remarks, do often take the opportunity to track the rate and in fact, buy more.
If I got out of the quarter and perhaps answered your question with a more longer term view, we think, I think, that the so-called new capacity that's coming into the reinsurance world will be sustained, in my opinion. I think those who have a prognosis that in the event of a major catastrophic event, that it would be difficult for capacity, I don't actually agree with that. I think it's a sustained impact, and that just becomes a matter of pricing. For us, we embrace that and see this as an opportunity as people start to embrace this new capacity. They often need advice, and that's exactly what a reinsurance intermediary does.
Using the full weaponry of Willis's global capability, including the obvious one of Willis Capital Markets that we see as an opportunity, and in fact, great connections between those businesses that are very important to us in the shift. Opportunity I feel good about where our reinsurance business is and the mid- and long-term momentum.
Okay. I'm aware that we have run somewhat over our time slot here, I think we probably better bring this call to a close. Let me reiterate what I said on my remarks. We are excited about the revenue momentum that we have, that we've had over a number of quarters, and we saw again in this quarter. We're excited about our growth opportunities, which we discussed on this call in a number of areas, and about our ability to invest behind those growth opportunities and cut back in other areas where we see less risk. To underpin all this, we announced a very important operational improvement program, which is the result of months of detailed work to lay out where we see opportunity to restructure our cost base.
It will be led by an experienced team who know how to deliver these programs, and we're committed to reporting back to you on progress in ensuing quarters. With that, thank you very much, and we look forward to talking to you further.
That concludes today's conference. Please disconnect