AON PLC, 10-Q filed on 11/3/2009
Quarterly Report
Condensed Consolidated Statements of Income (USD $)
Share data in Millions, except Per Share data
3 Months Ended
Sep. 30, 2009
9 Months Ended
Sep. 30, 2009
3 Months Ended
Sep. 30, 2008
9 Months Ended
Sep. 30, 2008
Revenue
 
 
 
 
Commissions, fees and other
$ 1,780,000,000 
$ 5,466,000,000 
$ 1,756,000,000 
$ 5,493,000,000 
Investment income
28,000,000 
81,000,000 
90,000,000 
214,000,000 
Total revenue
1,808,000,000 
5,547,000,000 
1,846,000,000 
5,707,000,000 
Expenses
 
 
 
 
Compensation and benefits
1,119,000,000 
3,267,000,000 
1,131,000,000 
3,428,000,000 
Other general expenses
424,000,000 
1,287,000,000 
419,000,000 
1,333,000,000 
Depreciation and amortization
56,000,000 
174,000,000 
49,000,000 
157,000,000 
Total operating expenses
1,599,000,000 
4,728,000,000 
1,599,000,000 
4,918,000,000 
Operating income (loss)
209,000,000 
819,000,000 
247,000,000 
789,000,000 
Interest expense
NaN 
87,000,000 
32,000,000 
96,000,000 
Other (income) expense
(1,000,000)
1,000,000 
(3,000,000)
(9,000,000)
Income from continuing operations before income taxes
178,000,000 
731,000,000 
218,000,000 
702,000,000 
Income taxes
47,000,000 
212,000,000 
59,000,000 
192,000,000 
Income from continuing operations
131,000,000 
519,000,000 
159,000,000 
510,000,000 
Income (loss) from discontinued operations before income taxes
 
93,000,000 
(57,000,000)
1,440,000,000 
Income taxes
(3,000,000)
38,000,000 
(19,000,000)
470,000,000 
Income (loss) from discontinued operations
3,000,000 
55,000,000 
(38,000,000)
970,000,000 
Net income
134,000,000 
574,000,000 
121,000,000 
1,480,000,000 
Less: Net income attributable to noncontrolling interests
14,000,000 
25,000,000 
4,000,000 
12,000,000 
Net income attributable to Aon shareholders
120,000,000 
549,000,000 
117,000,000 
1,468,000,000 
Net income attributable to Aon stockholders
 
 
 
 
Income from continuing operations
117,000,000 
494,000,000 
155,000,000 
498,000,000 
Income (loss) from discontinued operations
3,000,000 
55,000,000 
(38,000,000)
970,000,000 
Net income
120,000,000 
549,000,000 
117,000,000 
1,468,000,000 
Basic net income (loss) per share attributable to Aon stockholders
 
 
 
 
Continuing operations (in dollars per share)
0.41 
1.74 
0.55 
1.68 
Discontinued operations (in dollars per share)
0.01 
0.19 
(0.13)
3.26 
Net income (in dollars per share)
0.42 
1.93 
0.42 
4.94 
Diluted net income (loss) per share attributable to Aon stockholders
 
 
 
 
Continuing operations (in dollars per share)
0.40 
1.69 
0.53 
1.61 
Discontinued operations (in dollars per share)
0.01 
0.19 
(0.13)
3.14 
Net income (in dollars per share)
0.41 
1.88 
0.40 
4.75 
Dividends paid per share (in dollars per share)
0.15 
0.45 
0.15 
0.45 
Weighted average common shares outstanding - basic (in shares)
283.8 
284.5 
281.7 
296.9 
Weighted average common shares outstanding - diluted (in shares)
292.1 
292.2 
293.9 
308.9 
Condensed Consolidated Statements of Financial Position (USD $)
In Millions
Sep. 30, 2009
Dec. 31, 2008
ASSETS:
 
 
CURRENT ASSETS:
 
 
Cash and cash equivalents
$ 580 
$ 582 
Short-term investments
602 
684 
Receivables
1,844 
1,990 
Fiduciary assets
9,551 
10,678 
Other current assets
349 
355 
Assets held for sale
 
237 
Total Current Assets
12,926 
14,526 
Goodwill
5,957 
5,637 
Other intangible assets, net
763 
779 
Fixed assets, net
453 
451 
Investments
297 
332 
Other non-current assets
1,245 
1,215 
TOTAL ASSETS
21,641 
22,940 
LIABILITIES:
 
 
CURRENT LIABILITIES:
 
 
Fiduciary liabilities
9,551 
10,678 
Short-term debt
12 
105 
Accounts payable and accrued liabilities
1,377 
1,560 
Other current liabilities
277 
314 
Liabilities held for sale
 
146 
Total Current Liabilities
11,217 
12,803 
Long-term debt
1,998 
1,872 
Pension and other post employment liabilities
1,245 
1,694 
Other non-current liabilities
1,051 
1,156 
TOTAL LIABILITIES
15,511 
17,525 
EQUITY
 
 
AON STOCKHOLDERS' EQUITY:
 
 
Common stock-$1 par value Authorized: 750 shares (issued: 9/30/09 - 362.7; 12/31/08 - 361.7)
363 
362 
Additional paid-in capital
3,166 
3,220 
Retained earnings
7,189 
6,816 
Treasury stock at cost (shares: 9/30/09 - 88.7; 12/31/08 - 89.9)
(3,556)
(3,626)
Accumulated other comprehensive loss
(1,172)
(1,462)
TOTAL AON STOCKHOLDERS' EQUITY
5,990 
5,310 
Noncontrolling interests
140 
105 
TOTAL EQUITY
6,130 
5,415 
TOTAL LIABILITIES AND EQUITY
$ 21,641 
$ 22,940 
Condensed Consolidated Statements of Financial Position (Parenthetical)
Share data in Millions, except Per Share data
Sep. 30, 2009
Dec. 31, 2008
Condensed Consolidated Statements of Financial Position
 
 
Common stock, par value (in dollars per share)
1.00 
1.00 
Common stock, Authorized shares
750 
750 
Common stock, issued
362.7 
361.7 
Treasury stock, shares
88.7 
89.9 
Condensed Consolidated Statement of Stockholders' Equity (USD $)
Share data in Millions, except Per Share data
Common Stock and Additional Paid-in Capital
Retained Earnings
Treasury Stock
Accumulated Other Comprehensive Loss, Net of Tax
Noncontrolling Interests
Total
1/1/2009 - 9/30/2009
 
 
 
 
 
 
Balance
$ 3,582,000,000 
$ 6,816,000,000 
$ (3,626,000,000)
$ (1,462,000,000)
$ 105,000,000 
$ 5,415,000,000 
Balance (in shares)
361.7 
 
 
 
 
 
Net income
 
549,000,000 
 
 
25,000,000 
574,000,000 
Shares issued - employee benefit plans
96,000,000 
 
 
 
 
96,000,000 
Shares issued - employee benefit plans (in shares)
1.0 
 
 
 
 
 
Shares purchased
 
 
(250,000,000)
 
 
(250,000,000)
Shares reissued - employee benefit plans
(320,000,000)
(52,000,000)
320,000,000 
 
 
(52,000,000)
Tax benefit - employee benefit plans
24,000,000 
 
 
 
 
24,000,000 
Stock compensation expense
152,000,000 
 
 
 
 
152,000,000 
Dividends to stockholders
 
(124,000,000)
 
 
 
(124,000,000)
Change in net derivative gains/losses
 
 
 
6,000,000 
 
6,000,000 
Change in net unrealized investment gains/losses
 
 
 
(10,000,000)
 
(10,000,000)
Net foreign currency translation adjustments
 
 
 
223,000,000 
4,000,000 
227,000,000 
Net post-retirement benefit obligation
 
 
 
71,000,000 
 
71,000,000 
Purchase of subsidiary shares from noncontrolling interests
(5,000,000)
 
 
 
(3,000,000)
(8,000,000)
Capital contribution by noncontrolling interests
 
 
 
 
35,000,000 
35,000,000 
Dividends paid to noncontrolling interests on subsidiary common stock
 
 
 
 
(26,000,000)
(26,000,000)
Balance
3,529,000,000 
7,189,000,000 
(3,556,000,000)
(1,172,000,000)
140,000,000 
6,130,000,000 
Balance (in shares)
362.7 
 
 
 
 
 
7/1/2009 - 9/30/2009
 
 
 
 
 
 
Balance
 
 
 
 
 
 
Balance (in shares)
 
 
 
 
 
 
Net income
 
 
 
 
 
134,000,000 
Shares issued - employee benefit plans
 
 
 
 
 
 
Shares issued - employee benefit plans (in shares)
 
 
 
 
 
 
Shares purchased
 
 
 
 
 
 
Shares reissued - employee benefit plans
 
 
 
 
 
 
Tax benefit - employee benefit plans
 
 
 
 
 
 
Stock compensation expense
 
 
 
 
 
 
Dividends to stockholders
 
 
 
 
 
 
Change in net derivative gains/losses
 
 
 
 
 
 
Change in net unrealized investment gains/losses
 
 
 
 
 
 
Net foreign currency translation adjustments
 
 
 
 
 
 
Net post-retirement benefit obligation
 
 
 
 
 
 
Purchase of subsidiary shares from noncontrolling interests
 
 
 
 
 
 
Capital contribution by noncontrolling interests
 
 
 
 
 
 
Dividends paid to noncontrolling interests on subsidiary common stock
 
 
 
 
 
 
Balance
 
 
 
 
 
6,130,000,000 
Balance (in shares)
 
 
 
 
 
 
Condensed Consolidated Statements of Cash Flows (USD $)
In Millions
9 Months Ended
Sep. 30,
2009
2008
Cash Flows from Operating Activities:
 
 
Net income
$ 574 
$ 1,480 
Adjustments to reconcile net income to cash provided by operating activities:
 
 
Gain from disposal of operations
(97)
(1,403)
Depreciation and amortization of fixed assets
105 
117 
Amortization of intangible assets
69 
40 
Stock compensation expense
152 
194 
Deferred income taxes
81 
(68)
Change in assets and liabilities:
 
 
Change in funds held on behalf of brokerage and consulting clients
46 
50 
Net receivables
218 
111 
Accounts payable and accrued liabilities
(399)
(357)
Restructuring reserves
16 
47 
Pension and other post employment liabilities
(284)
(86)
Other assets and liabilities
(300)
(88)
Cash Provided by Operating Activities
181 
37 
Cash Flows from Investing Activities:
 
 
Sales of long-term investments
21 
270 
Purchase of long-term investments
(17)
(281)
Sales (purchases) of short-term investments, net
61 
(761)
Acquisition of businesses, net of cash acquired
(55)
(85)
Proceeds from sale of businesses
139 
2,803 
Capital expenditures
(86)
(80)
Cash Provided by Investing Activities
63 
1,866 
Cash Flows from Financing Activities:
 
 
Issuance of common stock
50 
42 
Treasury stock transactions - net
(158)
(1,773)
Short-term repayments, net
(370)
(232)
Issuance of long-term debt
683 
364 
Repayments of long-term debt
(339)
(297)
Cash dividends to stockholders
(124)
(130)
Cash Used for Financing Activities
(258)
(2,026)
Effect of Exchange Rate Changes on Cash
12 
17 
Net Decrease in Cash and Cash Equivalents
(2)
(106)
Cash and Cash Equivalents at Beginning of Period
582 
584 
Cash and Cash Equivalents at End of Period
580 
478 
Supplemental disclosures:
 
 
Interest paid
84 
96 
Income taxes paid, net of refunds
$ 165 
$ 638 
Statement of Accounting Principles
Statement of Accounting Principles

1.             Statement of Accounting Principles

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) and include all normal recurring adjustments which Aon Corporation (“Aon” or the “Company”) considers necessary to present fairly the Company’s consolidated financial statements for all periods presented.

 

Certain information and footnote disclosures normally included in the financial statements prepared in accordance with U.S. GAAP have been condensed or omitted. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008. The results for the three and nine months ended September 30, 2009 are not necessarily indicative of operating results that may be expected for the full year ending December 31, 2009. Certain amounts in prior period financial statements and related notes have been reclassified to conform to the 2009 presentation. In addition, due to the adoption of new principles regarding noncontrolling interests and participating securities, certain amounts in prior period financial statements and related notes have been restated to conform with the requirements of these new principles.

 

The preparation of financial statements in conformity with U.S. GAAP requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities, disclosures of contingent assets and liabilities at the date of the financial statements, and the reported amounts of reserves and expenses during the reporting periods. Actual amounts could differ from those estimates.

 

Management has reviewed all material subsequent events through November 3, 2009, the date the financial statements were issued, to determine whether any event required either recognition or disclosure in the financial statements.

Accounting Principles and Practices
Accounting Principles and Practices

2.             Accounting Principles and Practices

 

Changes in Accounting Principles

On January 1, 2009, Aon adopted revised principles related to business combinations and noncontrolling interests.     The revised principle on business combinations applies to all transactions or other events in which an entity obtains control over one or more businesses. It requires an acquirer to recognize the assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree at the acquisition date, measured at their fair values as of that date. Business combinations achieved in stages require recognition of the identifiable assets and liabilities, as well as the noncontrolling interest in the acquiree, at the full amounts of their fair values when control is obtained. This revision also changes the requirements for recognizing assets acquired and liabilities assumed arising from contingencies, and requires direct acquisition costs to be expensed. In addition, it provides certain changes to income tax accounting for business combinations which apply to both new and previously existing business combinations. In April 2009, additional guidance was issued which revised certain business combination guidance related to accounting for contingent liabilities assumed in a business combination. The Company has adopted this guidance in conjunction with the adoption of the revised principles related to business combinations. The adoption of the revised principles related to business combinations has not had a material impact on the consolidated financial statements.

 

The revised principle related to noncontrolling interests establishes accounting and reporting standards for the noncontrolling interests in a subsidiary and for the deconsolidation of a subsidiary. The revised principle clarifies that a noncontrolling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as a separate component of equity in the consolidated statements of financial position. The revised principle requires retrospective adjustments, for all periods presented, of stockholders’ equity and net income for noncontrolling interests. In addition to these financial reporting changes, the revised principle provides for significant changes in accounting related to changes in ownership of noncontrolling interests. Changes in Aon’s controlling financial interests in consolidated subsidiaries that do not result in a loss of control are accounted for as equity transactions similar to treasury stock transactions. If a change in ownership of a consolidated subsidiary result in loss of control and deconsolidation, any retained ownership interests are remeasured at fair value with the gain or loss reported in net income. In previous periods, noncontrolling interests for operating subsidiaries were reported in other general expenses in the condensed consolidated statements of income. Prior period amounts have been restated to conform to the current year’s presentation.

 

The principal effect on the prior years’ balance sheets related to the adoption of the new guidance related to noncontrolling interests is summarized as follows (in millions):

 

 

 

December 31,

 

 

 

2008

 

2007

 

Equity, as previously reported

 

$

5,310

 

$

6,221

 

Increase for reclassification of non-controlling interests

 

105

 

40

 

Equity, as adjusted

 

$

5,415

 

$

6,261

 

 

The revised principle also requires that net income be adjusted to include the net income attributable to the noncontrolling interests and a new separate caption for net income attributable to Aon stockholders be presented in the consolidated statements of income. The adoption of this new guidance increased net income by $16 million, $13 million and $10 million for 2008, 2007 and 2006, respectively. Net income attributable to Aon stockholders equals net income as previously reported prior to the adoption of the new guidance.

 

On January 1, 2009, Aon adopted a new principle which supplements current disclosure requirements for derivative instruments and hedging activities, under which Aon is required to provide enhanced qualitative and quantitative information. See Note 12 for these disclosures.

 

Effective January 1, 2009, the Company adopted additional guidance which states that unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents, whether paid or unpaid, are participating securities, as defined, and therefore should be included in computing basic and diluted earnings per share using the two class method. Certain of Aon’s restricted stock awards allow the holder to receive a non-forfeitable dividend equivalent. See Note 9 for further discussion of the effect of adopting this new guidance on the Company’s financial statements.

 

Effective April 1, 2009, Aon adopted a new principle which establishes the period after the balance sheet date during which management is required to evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements. This principle also requires that Aon disclose the date through which subsequent events have been evaluated, as well as whether that date is the date the financial statements were issued or the date the financial statements were available to be issued. See Note 1 for this disclosure.

 

Aon adopted the following fair value guidance effective April 1, 2009:

 

·                  additional guidance for estimating fair value in accordance with current principles, when the volume and level of activity for the asset or liability has significantly decreased. This guidance also assists in identifying circumstances that indicate when a transaction is not orderly.

 

·                  guidance related to debt securities, which requires an entity to recognize the credit component of an other-than-temporary impairment of a debt security in earnings and the non-credit component in other comprehensive income when the entity does not intend to sell the security and it is more likely than not that the entity will not be required to sell the security prior to recovery. Entities are required to record a cumulative effect adjustment for the non-credit component of previously recognized other-than-temporary impairments that meet certain criteria.

 

·                  disclosure guidance related to the fair value of financial instruments for interim reporting periods as well as in annual financial statements.

 

The adoption of the preceding guidance did not have a material impact on the Company’s financial statements. See Note 15 for the disclosure regarding interim reporting of the carrying and fair value of Aon’s long-term debt.

 

Recent Accounting Pronouncements

In December 2008, the FASB issued an amendment to current principles regarding employers’ disclosures about pensions and other postretirement benefits. These changes provide guidance as to an employer’s disclosures about plan assets of a defined benefit pension or other postretirement plan. This amendment requires pension and other postretirement plan disclosures be expanded to include investment allocation decisions, the fair value of each major category of plan assets based on the nature and risks of assets in the plans, and inputs and valuation techniques used to develop fair value measurements of plan assets. The Company is currently evaluating this amendment to determine any additional disclosures required in the 2009 annual report.

 

In June 2009, the FASB issued guidance amending current principles related to the transfers of financial assets and variable interest entities (“VIEs”). This guidance eliminates the concept of a qualifying special-purpose entity (“QSPE”), creates more stringent conditions for reporting the transfer of a portion of a financial asset as a sale, clarifies other sale-accounting criteria, and changes the initial measurement of a transferor’s interest in transferred financial assets. Former QSPEs will be evaluated for consolidation based on the updated VIE guidance. There are also changes to the approach a company must take in determining a VIE’s primary beneficiary and requires companies to more frequently reassess whether they must consolidate VIEs. Additional year-end and interim period disclosures will also be required. These changes will be effective for Aon beginning in the first quarter of 2010. The adoption of this guidance is not expected to have a material impact on the Company’s financial statements.

 

In September 2009, the FASB issued guidance updating current principles related to revenue recognition when there are multiple-element arrangements. This revised guidance relates to the determination of when the individual deliverables included in a multiple-element arrangement may be treated as separate units of accounting and modifies the manner in which the transaction consideration is allocated across the separately identifiable deliverables. The guidance also expands the disclosures required for multiple-element revenue arrangements. These changes will be effective for Aon beginning in the first quarter of 2011, and may be applied retrospectively for all periods presented or prospectively to arrangements entered into or modified after the adoption date. Early adoption is permitted. The Company is currently evaluating this guidance to determine what impact, if any, it will have on its consolidated financial statements.

Cash and Cash Equivalents
Cash and Cash Equivalents

3.             Cash and Cash Equivalents

 

Cash and cash equivalents at September 30, 2009 and December 31, 2008 included restricted balances of $99 million and $194 million, respectively. Restricted balances are held in trust for the benefit of reinsurance contract holders.

Goodwill and Other Intangible Assets
Goodwill and Other Intangible Assets

4.             Goodwill and Other Intangible Assets

 

The changes in the net carrying amount of goodwill by operating segment for the nine months ended September 30, 2009 are as follows (in millions):

 

 

 

Risk and
Insurance
Brokerage
Services

 

Consulting

 

Total

 

Balance as of December 31, 2008

 

$

5,259

 

$

378

 

$

5,637

 

Goodwill acquired

 

40

 

 

40

 

Benfield adjustments

 

15

 

 

15

 

Goodwill related to disposals

 

(13

)

 

(13

)

Foreign currency revaluation

 

273

 

5

 

278

 

Balance as of September 30, 2009

 

$

5,574

 

$

383

 

$

5,957

 

 

The Company is in the process of finalizing the Benfield purchase price allocation.  Therefore, the final goodwill to be recorded is still subject to refinement.  This process will be finalized in the fourth quarter 2009.  During the third quarter, the Company updated its allocation to reflect the impact of changes in actual employee severance costs compared to original estimates and the resolution of certain tax matters.

 

Other intangible assets by asset category are as follows (in millions):

 

 

 

September 30, 2009

 

December 31, 2008

 

 

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Trademarks

 

$

134

 

$

 

$

128

 

$

 

Customer Related and Contract Based

 

703

 

222

 

697

 

180

 

Marketing, Technology and Other

 

386

 

238

 

331

 

197

 

 

 

$

 1,223

 

$

460

 

$

1,156

 

$

377

 

 

Amortization expense on intangible assets was $24 million and $69 million for the three and nine months ended September 30, 2009, respectively. Amortization expense was $15 million and $40 million for the three and nine months ended September 30, 2008, respectively. As of September 30, 2009, the estimated amortization for intangible assets is as follows (in millions):

 

Remainder of 2009

 

$

28

 

2010

 

99

 

2011

 

93

 

2012

 

82

 

2013

 

73

 

Thereafter

 

254

 

Total

 

$

629

 

Disposal of Operations
Disposal of Operations

5.             Disposal of Operations

 

Continuing Operations

In December 2008, Aon signed a definitive agreement to sell the U.S. operation of the premium finance business of Cananwill, Inc. (“Cananwill”). This disposition was completed in February 2009. Cananwill’s results are included in the Risk and Insurance Brokerage Services segment. A pretax loss totaling $7 million was recognized, of which $2 million was recorded in first quarter 2009 and $5 million in fourth quarter 2008. This disposal did not meet the criteria for discontinued operations reporting. Aon may receive up to $10 million from the buyer over the next two years based on the volume of insurance premiums and related obligations financed by the buyer over this period that are generated by certain of Cananwill’s producers.

 

Discontinued Operations

Property and Casualty Operations

In January 2009, the Company signed a definitive agreement to sell FFG Insurance Company (“FFG”), Atlanta International Insurance Company (“AIIC”) and Citadel Insurance Company (“Citadel”) (together the “P&C operations”). FFG and Citadel are property and casualty insurance operations that were in runoff. AIIC is a property and casualty insurance operation that was previously reported in discontinued operations. The sale was completed in August 2009. A pretax loss totaling $194 million was recognized, of which $3 million was recorded in third quarter 2009 and $191 million in fourth quarter 2008. As part of the sale, the purchaser also assumed an indemnification in respect of certain reinsured property and casualty balances. The fair value of this indemnification was $9 million at June 30, 2009.

 

AIS Management Corporation

In 2008, Aon reached a definitive agreement to sell AIS Management Corporation (“AIS”), which was previously included in the Risk and Insurance Brokerage Services segment, to Mercury General Corporation, for $120 million in cash at closing, plus a potential earn-out of up to $35 million payable over the two years following the completion of the agreement. The disposition was completed in January 2009 and resulted in a pretax gain of $86 million in first quarter 2009.

 

Accident, Life & Health Operations

On April 1, 2008, the Company sold its Combined Insurance Company of America (“CICA”) subsidiary to ACE Limited and its Sterling Life Insurance Company (“Sterling”) subsidiary to Munich Re Group. These two subsidiaries were previously included in the Company’s former Insurance Underwriting segment. After final adjustments, Aon received $2.525 billion in cash for CICA and $341 million in cash for Sterling. Additionally, CICA paid a $325 million dividend to Aon before the sale transaction was completed. A pretax gain of $1.4 billion was recognized in the second quarter 2008 on the sale of these businesses.

 

The operating results of all businesses classified as discontinued operations are as follows (in millions):

 

 

 

Three months ended

 

Nine months ended

 

 

 

September 30,

 

September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Revenue:

 

 

 

 

 

 

 

 

 

CICA and Sterling

 

$

 

$

 

$

 

$

677

 

AIS

 

 

23

 

 

71

 

P&C Operations

 

 

1

 

2

 

4

 

 

 

$

 —

 

$

24

 

$

2

 

$

752

 

 

 

 

 

 

 

 

 

 

 

Income (loss) before income taxes:

 

 

 

 

 

 

 

 

 

Operations:

 

 

 

 

 

 

 

 

 

CICA and Sterling

 

$

 

$

 

$

 

$

66

 

AIS

 

 

(22

)

 

(13

)

P&C Operations

 

(1

)

(2

)

4

 

(5

)

Other

 

 

 

 

(1

)

 

 

(1

)

(24

)

4

 

47

 

Gain (loss) on sale

 

1

 

(33

)

89

 

1,393

 

 

 

$

 —

 

$

(57

)

$

93

 

$

1,440

 

 

 

 

 

 

 

 

 

 

 

Net income (loss):

 

 

 

 

 

 

 

 

 

Operations

 

$

 

$

(16

)

$

3

 

$

23

 

Gain (loss) on sale

 

3

 

(22

)

52

 

947

 

 

 

$

 3

 

$

(38

)

$

55

 

$

970

 

 

The assets and liabilities reported as held-for-sale were as follows (in millions):

 

 

 

September 30, 2009

 

December 31, 2008

 

Assets:

 

 

 

 

 

Investments:

 

 

 

 

 

Fixed maturities

 

$

 

$

104

 

All other investments

 

 

68

 

Receivables

 

 

24

 

Property and equipment and other assets

 

 

41

 

Total assets

 

$

 

$

237

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

Policy liabilities:

 

 

 

 

 

Policy and contract claims

 

$

 

$

122

 

Unearned premium reserves and other

 

 

5

 

All other liabilities

 

 

19

 

Total liabilities

 

$

 

$

146

 

 

 

 

 

 

 

Equity:

 

 

 

 

 

Invested equity

 

$

 

$

87

 

Net unrealized investment gains

 

 

4

 

Total equity

 

$

 

$

91

 

Restructuring
Restructuring

6.             Restructuring

 

Aon Benfield Restructuring Plan

The Company announced a global restructuring plan (“Aon Benfield Plan”) in conjunction with its merger with Benfield in 2008. The restructuring plan is intended to integrate and streamline operations across the combined Aon Benfield organization. The Aon Benfield Plan includes an estimated 700 job eliminations. Additionally, duplicate space and assets will be abandoned. The Company originally estimated that this plan would result in cumulative costs totaling approximately $185 million over a three-year period, of which $104 million was recorded as part of the Benfield purchase price allocation and $81 million which was expected to result in future charges to earnings. The company currently estimates the Plan will result in cumulative costs totaling approximately $155 million.

 

As of September 30, 2009, approximately 450 jobs have been eliminated under this Plan. The Company has recorded $15 million and $45 million of restructuring and related charges in the third quarter and nine months of 2009, respectively. Total payments of $60 million have been made under this Plan to date. Additionally, in the third quarter 2009, the Company reduced an accrual recorded as part of the Benfield purchase price allocation by $27 million to reflect actual severance costs being lower than originally estimated.

 

All costs associated with the Aon Benfield Plan are included in the Risk and Insurance Brokerage Services segment. Charges related to the restructuring are included in compensation and benefits, other general expenses, and depreciation and amortization in the accompanying condensed consolidated statements of income. The Company expects these restructuring activities and related expenses to affect continuing operations into 2011.

 

The following summarizes the restructuring and related costs by type and estimated to be incurred through the end of the restructuring initiative related to the merger and integration of Benfield (in millions):

 

 

 

Actual

 

 

 

 

 

Purchase
Price
Allocation

 

Third
Quarter
2009

 

Nine
Months
2009

 

Total to
Date

 

Estimated
Total Cost for
Restructuring
Period (1)

 

Workforce reduction

 

$

51

 

$

6

 

$

31

 

$

82

 

$

97

 

Lease consolidation

 

24

 

7

 

11

 

35

 

47

 

Asset impairments

 

 

1

 

2

 

2

 

8

 

Other costs associated with restructuring (2)

 

2

 

1

 

1

 

3

 

3

 

Total restructuring and related expenses

 

$

77

 

$

15

 

$

45

 

$

122

 

$

155

 

 


(1)          Actual costs, when incurred, will vary due to changes in the assumptions built into this plan. Significant assumptions likely to change when plans are finalized and approved, but are not limited to, changes in severance calculations, changes in the assumptions underlying sublease loss calculations due to changing market conditions, and changes in the overall analysis that might cause the Company to add or cancel component initiatives.

 

(2)        Other costs associated with restructuring initiatives, including moving costs and consulting and legal fees, are recognized when incurred.

 

2007 Restructuring Plan

In 2007, the Company announced a global restructuring plan intended to create a more streamlined organization and reduce future expense growth to better serve clients (“2007 Plan”). The 2007 Plan includes an estimated 4,100 job eliminations. As of September 30, 2009, approximately 2,700 positions have been eliminated. The Company has closed or consolidated several offices resulting in sublease losses or lease buy-outs. The Company currently estimates that the 2007 Plan will result in cumulative pretax charges totaling approximately $700 million. Expenses include workforce reduction, lease consolidation costs, asset impairments, as well as other expenses necessary to implement the restructuring initiative. Costs related to the restructuring are included in compensation and benefits, other general expenses and depreciation and amortization in the accompanying condensed consolidated statements of income. The Company expects the restructuring and related expenses to affect continuing operations through the first half of 2010.

 

Below is a summary of the 2007 Plan restructuring and related expenses by type incurred and estimated to be incurred through the end of the restructuring initiative (in millions):

 

 

 

Actual

 

Estimated

 

 

 

2007

 

2008

 

Third
Quarter
2009

 

Nine
Months
2009

 

Total
Incurred
to Date

 

Total Cost for
Restructuring
Period (1)

 

Workforce reduction

 

$

17

 

$

166

 

$

48

 

$

118

 

$

301

 

$

470

 

Lease consolidation

 

22

 

38

 

29

 

56

 

116

 

145

 

Asset impairments

 

4

 

18

 

3

 

7

 

29

 

38

 

Other costs associated with restructuring (2)

 

3

 

29

 

4

 

11

 

43

 

47

 

Total restructuring and related expenses

 

$

46

 

$

251

 

$

84

 

$

192

 

$

489

 

$

700

 

 


(1)          Actual costs, when incurred, will vary due to changes in the assumptions built into this plan.  Significant assumptions likely to change when plans are approved include, but are not limited to, changes in severance calculations, changes in the assumptions underlying sublease loss calculations due to changing market conditions, and changes in the overall analysis that might cause the Company to add or cancel component initiatives.

 

(2)        Other costs associated with restructuring initiatives, including moving costs and consulting and legal fees, are recognized when incurred.

 

The following is a summary of actual restructuring and related expenses incurred and estimated to be incurred through the end of the restructuring initiative, by segment (in millions):

 

 

 

Actual

 

Estimated

 

 

 

2007

 

2008

 

Third
Quarter
2009

 

Nine
Months
2009

 

Total
Incurred
to Date

 

Total Cost for
Restructuring
Period

 

Risk and Insurance Brokerage Services

 

$

41

 

$

234

 

$

69

 

$

171

 

$

446

 

$

645

 

Consulting

 

5

 

17

 

15

 

21

 

43

 

55

 

Total restructuring and related expenses

 

$

46

 

$

251

 

$

84

 

$

192

 

$

489

 

$

700

 

 

Restructuring Liabilities

As of September 30, 2009, the Company’s liabilities for its restructuring plans are as follows (in millions):

 

 

 

Aon

 

2007

 

2005

 

 

 

 

 

Benfield

 

Plan

 

Plan

 

Total

 

Balance at January 1, 2008

 

$

 

$

25

 

$

63

 

$

88

 

Expensed in 2008

 

 

233

 

3

 

236

 

Cash payments in 2008

 

 

(148

)

(34

)

(182

)

Purchase price allocation

 

104

 

 

 

104

 

Foreign currency translation adjustment

 

 

(9

)

(4

)

(13

)

Balance at December 31, 2008

 

104

 

101

 

28

 

233

 

Expensed in 2009

 

42

 

185

 

(2

)

225

 

Cash payments in 2009

 

(60

)

(142

)

(9

)

(211

)

Purchase accounting adjustment

 

(27

)

 

 

(27

)

Foreign currency translation adjustment

 

6

 

5

 

1

 

12

 

Balance at September 30, 2009

 

$

65

 

$

149

 

$

18

 

$

232

 

 

Aon’s unpaid restructuring liabilities are included in accounts payable and accrued liabilities as well as other non-current liabilities in the condensed consolidated statements of financial position.

Investment Income and Investments
Investment Income and Investments

7.             Investment Income and Investments

 

The components of investment income are as follows (in millions):

 

 

 

Three months ended September 30,

 

Nine months ended September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Gross investment income

 

$

28

 

$

92

 

$

81

 

$

218

 

Less: investment expenses

 

 

2

 

 

4

 

Investment income

 

$

28

 

$

90

 

$

81

 

$

214

 

 

The Company earns investment income on cash balances and investments, as well as on premium trust balances that Aon maintains for premiums collected from insureds but not yet remitted to insurance companies.  Premium trust balances and a corresponding liability are included in fiduciary assets and fiduciary liabilities in the accompanying condensed consolidated statements of financial position.  The Company’s interest-bearing assets are included in the following categories in the accompanying condensed consolidated statements of financial position (in millions):

 

 

 

September 30, 2009

 

December 31, 2008

 

Cash and cash equivalents

 

$

580

 

$

582

 

Short-term investments

 

602

 

684

 

Premium trust balances (included within fiduciary assets)

 

3,440

 

3,178

 

Investments

 

297

 

332

 

 

 

$

 4,919

 

$

4,776

 

Debt
Debt

8.             Debt

 

On July 1, 2009, an indirect wholly-owned subsidiary of Aon issued €500 million ($734 million at September 30, 2009 exchange rates) of 6.25% senior unsecured debentures due on July 1, 2014.  The payment of the principal and interest on the debentures is unconditionally and irrevocably guaranteed by Aon.  Proceeds from the offering were used to repay the Company’s $677 million outstanding indebtedness under its Euro credit facility.

 

In 1997, Aon created Aon Capital A, a wholly-owned statutory business trust (“Trust”), for the purpose of issuing mandatorily redeemable preferred capital securities (“Capital Securities”).  Aon received cash and an investment in 100% of the common equity of Aon Capital A by issuing 8.205% Junior Subordinated Deferrable Interest Debentures (the “Debentures”) to Aon Capital A.  These transactions were structured such that the net cash flows from Aon to Aon Capital A matched the cash flows from Aon Capital A to the third party investors.  Aon determined that it was not the primary beneficiary of Aon Capital A, a VIE, and, thus reflected the Debentures as long-term debt. During the first half of 2009, Aon repurchased $15 million face value of the Capital Securities for approximately $10 million, resulting in a $5 million gain reflected in other (income) expense in the condensed consolidated statement of income.  To facilitate the legal release of the obligation created through the Debentures associated with this repurchase and future repurchases, Aon dissolved the Trust effective June 25, 2009.  This dissolution resulted in the exchange of the Capital Securities held by third parties for the Debentures.  Also in connection with the dissolution of the Trust, the $24 million of common equity of Aon Capital A held by Aon was exchanged for $24 million of Debentures, which were then cancelled.  Following these actions, $687 million of Debentures remain outstanding.  The Debentures are subject to mandatory redemption on January 1, 2027 or are redeemable in whole, but not in part, at the option of Aon upon the occurrence of certain events.

 

Also during the second quarter of 2009, $100 million of short-term debt owned by a VIE where Aon is the primary beneficiary, was repaid.

Equity
Equity

9.             Equity

 

Common Stock

During the first nine months of 2009, Aon issued 966,000 new shares of common stock for employee benefit plans.  In addition, Aon issued approximately 7.2 million shares of treasury stock for employee benefit programs and 411,000 shares in connection with employee stock purchase plans.

 

Aon’s Board of Directors has authorized the Company to repurchase up to $4.6 billion of its outstanding common stock.  Shares may be repurchased through the open market or in privately negotiated transactions from time to time, based on prevailing market conditions and will be funded from available capital.  Any repurchased shares will be available for employee stock plans and for other corporate purposes.  The Company repurchased approximately 3.0 million shares at a cost of $125 million in the third quarter 2009.  For the first nine months of 2009, the Company repurchased approximately 6.5 million shares at a cost of $250 million.  Since inception of its share repurchase program in 2005, the Company has repurchased a total of 97.3 million shares for an aggregate cost of $4.0 billion.    As of September 30, 2009, the Company remained authorized to purchase up to $605 million of additional shares under the current stock repurchase program.  The timing and amount of future purchases will be based on market and other conditions.

 

There are also 22.4 million shares of common stock held in treasury at September 30, 2009 which are restricted as to their reissuance.

 

Income per Share

As discussed in Note 2, the Company began following new guidance regarding participating securities, effective January 1, 2009.  Basic and diluted net income per share were changed, as follows:

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

September 30, 2008

 

September 30, 2008

 

 

 

As
Reported

 

As
Restated

 

As
Reported

 

As
Restated

 

Basic net income per share:

 

 

 

 

 

 

 

 

 

Continuing operations

 

$

0.57

 

$

0.55

 

$

1.72

 

$

1.68

 

Discontinued operations

 

(0.14

)

(0.13

)

3.35

 

3.26

 

Net Income

 

$

0.43

 

$

0.42

 

$

5.07

 

$

4.94

 

 

 

 

 

 

 

 

 

 

 

Diluted net income per share:

 

 

 

 

 

 

 

 

 

Continuing operations

 

$

0.53

 

$

0.53

 

$

1.63

 

$

1.61

 

Discontinued operations

 

(0.13

)

(0.13

)

3.18

 

3.14

 

Net Income

 

$

0.40

 

$

0.40

 

$

4.81

 

$

4.75

 

 

The amount of income from continuing operations attributable to participating securities was $3 million and $4 million for the three months ended September 30, 2009 and 2008, respectively, and was $12 million for both the nine months ended September 30, 2009 and 2008.  The amount of income (loss) from discontinued operations attributable to participating securities was $ nil million and $ (1) million for the three months ended September 30, 2009 and 2008, respectively, and was $1 million and $24 million for the nine months ended September 30, 2009 and 2008, respectively.  The amount of net income attributable to participating securities was $3 million for both the three months ended September 30, 2009 and 2008, and was $13 million and $36 million for the nine months ended September 30, 2009 and 2008, respectively.

 

The weighted average shares outstanding for basic and diluted earnings per share were as follows (in millions):

 

 

 

Three months ended
September 30,

 

Nine months ended
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Shares for basic EPS (1)

 

283.8

 

281.7

 

284.5

 

296.9

 

Common stock equivalents

 

8.3

 

12.2

 

7.7

 

12.0

 

Shares for diluted EPS

 

292.1

 

293.9

 

292.2

 

308.9

 

 


(1)          Includes 6.6 and 7.6 participating securities for the three months ended September 30, 2009 and 2008, respectively, and 7.0 and 7.6 for the nine months ended September 30, 2009 and 2008, respectively.

 

Certain common stock equivalents related to options were not included in the computation of diluted net income per share because those options’ exercise price was greater than the average market price of the common shares.  The number of options excluded from the quarterly calculation was 5 million and 2 million at September 30, 2009 and 2008, respectively.  For nine months ended September 30, 2009 and 2008, the number of options excluded was 5 million and 3 million, respectively.

 

Other Comprehensive Income (Loss)

The components of comprehensive income, net of tax, are as follows (in millions):

 

 

 

Three months ended
September 30,

 

Nine months ended
September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Net income

 

$

134

 

$

121

 

$

574

 

$

1,480

 

Net derivative (losses) gains

 

(12

)

(12

)

6

 

(31

)

Net unrealized investment losses

 

(1

)

(24

)

(10

)

(4

)

Net foreign currency translation adjustments

 

87

 

(221

)

227

 

25

 

Net postretirement benefit obligations

 

11

 

9

 

71

 

(2

)

Comprehensive income (loss)

 

219

 

(127

)

868

 

1,468

 

Less: Comprehensive income attributable to noncontrolling interest

 

17

 

4

 

29

 

12

 

Comprehensive income (loss) attributable to Aon stockholders

 

$

202

 

$

(131

)

$

839

 

$

1,456

 

 

The components of accumulated other comprehensive loss, net of tax, are as follows (in millions):

 

 

 

September 30, 2009

 

December 31, 2008

 

Net derivative losses

 

$

(7

)

$

(13

)

Net unrealized investment gains

 

46

 

56

 

Net foreign currency translation adjustments

 

325

 

102

 

Net postretirement benefit obligations

 

(1,536

)

(1,607

)

Accumulated other comprehensive loss, net of tax

 

$

(1,172

)

$

(1,462

)

Employee Benefits
Employee Benefits

10.           Employee Benefits

 

Pension Plans

The following table provides the components of the net periodic benefit cost for Aon’s U.S. pension plans, along with the material international plans, which are located in the U.K., The Netherlands, and Canada (in millions):

 

 

 

Three months ended September 30,

 

 

 

U.S.

 

International

 

 

 

2009

 

2008

 

2009

 

2008

 

Service cost

 

$

 

$

7

 

$

5

 

$

4

 

Interest cost

 

31

 

28

 

62

 

71

 

Expected return on plan assets

 

(25

)

(32

)

(61

)

(76

)

Amortization of prior service cost

 

 

(3

)

 

1

 

Amortization of net loss

 

6

 

7

 

10

 

10

 

Net periodic benefit cost

 

$

12

 

$

7

 

$

16

 

$

10

 

 

 

 

Nine months ended September 30,

 

 

 

U.S.

 

International

 

 

 

2009

 

2008

 

2009

 

2008

 

Service cost

 

$

 

$

29

 

$

13

 

$

18

 

Interest cost

 

93

 

81

 

174

 

219

 

Expected return on plan assets

 

(76

)

(96

)

(172

)

(234

)

Amortization of prior service cost

 

(1

)

(10

)

1

 

1

 

Amortization of net loss

 

23

 

18

 

29

 

30

 

Net periodic benefit cost

 

$

39

 

$

22

 

$

45

 

$

34

 

 

On January 30, 2009, the Aon Board of Directors adopted an amendment to the U.S. defined benefit pension plan whereby effective April 1, 2009 the Company ceased crediting future benefits relating to salary and service.  As a result of the U.S. plan amendment, the Company remeasured its pension expense for 2009 to reflect a new discount rate of 7.08%, the year-to-date decline in plan assets and change in amortization basis to the expected average remaining life of plan participants.  The remeasurement resulted in a $163 million improvement in the funded status of Aon’s U.S. plan. Additionally, the Company recognized a curtailment gain of $83 million in first quarter 2009, which was reported in compensation and benefits in the condensed consolidated statements of income.

 

Also during the first quarter 2009, an additional curtailment gain of $10 million was recognized in discontinued operations resulting from the sale of CICA.  The curtailment gain relates to the Company’s U.S. Retiree Health and Welfare Plan in which CICA employees were allowed to participate through the end of 2008, pursuant to the terms of the sale.  In the second quarter 2008, a pension curtailment gain of $12 million was recognized in discontinued operations resulting from the sale of CICA.

 

During the second quarter 2009, Aon recorded a $5 million curtailment charge attributable to a remeasurement resulting from the decision to cease service accruals in the Canadian plans beginning in 2010, which was reported in compensation and benefits in the condensed consolidated statements of income.

 

In 2009, Aon plans to contribute $23 million and $401 million to its U.S. and material international defined benefit pension plans, respectively.  As of September 30, 2009, contributions of $17 million have been made to the U.S. pension plans and $351 million to its material international pension plans.

Stock Compensation Plans
Stock Compensation Plans

11.           Stock Compensation Plans

 

Compensation expense

The following table summarizes stock-based compensation expense related to all stock-based payments recognized in continuing operations in the condensed consolidated statements of income in compensation and benefits (in millions):

 

 

 

Three months ended

 

Nine months ended

 

 

 

September 30,

 

September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Restricted Stock Units (“RSUs”)

 

$

32

 

$

27

 

$

96

 

$

102

 

Performance plans

 

21

 

17

 

37

 

47

 

Stock options

 

4

 

7

 

17

 

20

 

Employee stock purchase plan

 

1

 

1

 

3

 

3

 

Total

 

$

58

 

$

52

 

$

153

 

$

172

 

 

During the first half of 2009, the Company converted its stock administration system to a new service provider.  In connection with this conversion, a reconciliation of the methodologies utilized was performed, which resulted in a $12 million reduction of expense for the nine months ended September 30, 2009.

 

Stock Awards

During the first nine months of 2009, the Company granted approximately 2 million shares in connection with the completion of the 2006 Leadership Performance Plan (“LPP”) cycle and approximately 3.5 million restricted shares in connection with the Company’s incentive compensation plans.

 

A summary of the status of Aon’s non-vested stock awards is as follows (shares in thousands):

 

 

 

Nine months ended September 30,

 

 

 

2009

 

2008

 

 

 

Shares

 

Fair
Value (1)

 

Shares

 

Fair
Value (1)

 

Non-vested at beginning of period

 

14,060

 

$

35

 

14,150

 

$

31

 

Granted

 

5,508

 

38

 

3,196

 

42

 

Vested

 

(6,026

)

35

 

(3,586

)

28

 

Forfeited

 

(408

)

37

 

(429

)

33

 

Non-vested at end of period

 

13,134

 

36

 

13,331

 

34

 

 


(1)          Represents fair value of award at date of grant.

 

Information regarding Aon’s performance-based plans follows (shares in thousands, dollars in millions):

 

 

 

As of September 30,

 

 

 

2009

 

2008

 

Potential RSUs to be issued based on current performance levels

 

6,623

 

5,723

 

Unamortized expense, based on current performance levels

 

$

136

 

$

85

 

 

Stock Options

In 2008 and prior years, Aon used historical data to estimate option exercise and employee terminations within the lattice-binomial option-pricing model, stratified between executives and key employees.  Beginning in 2009, after reviewing additional historical data, the valuation model stratifies employees between those receiving LPP options, Special Stock Plan (“SSP”) options, and all other option grants.  The Company believes that this stratification better represents prospective stock option exercise patterns.

 

The weighted average assumptions, the weighted average expected life and estimated fair value of employee stock options are summarized as follows:

 

 

 

Three months ended
September 30, 2009

 

Nine months ended
September 30, 2009

 

 

 

SSP
Options

 

All Other
Options

 

LPP
Options

 

SSP
Options

 

All Other
Options

 

Weighted average volatility

 

29.9

%

29.9

%

35.5

%

35.0

%

32.0

%

Expected dividend yield

 

1.6

%

1.6

%

1.3

%

1.5

%

1.5

%

Risk-free rate

 

2.7

%

3.0

%

1.5

%

1.9

%

2.6

%

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average expected life, in years

 

5.6

 

6.5

 

4.4

 

5.6

 

6.5

 

Weighted average estimated fair value per share

 

$

10.24

 

$

10.95

 

$

12.19

 

$

12.01

 

$

12.34

 

 

 

 

Three months
ended
September 30,
2008

 

Nine months
ended
September 30,
2008

 

 

 

Key Employees

 

Executives

 

Key Employees

 

Weighted average volatility

 

30.1

%

29.4

%

29.9

%

Expected dividend yield

 

1.3

%

1.3

%

1.4

%

Risk-free rate

 

3.4

%

3.2

%

3.0

%

 

 

 

 

 

 

 

 

Weighted average expected life, in years

 

5.7

 

5.1

 

5.7

 

Weighted average estimated fair value per share

 

$

13.98

 

$

11.87

 

$

12.95

 

 

During the first nine months of 2009, the Company granted approximately 1 million stock options with an exercise price of $39 per share in connection with the 2009 LPP Plan and approximately 500,000 stock options with an exercise price of $37 per share in connection with the Company’s incentive compensation plans.

 

A summary of the status of Aon’s stock options and related information is as follows (shares in thousands):

 

 

 

Nine months ended September 30,

 

 

 

2009

 

2008

 

 

 

Shares

 

Weighted
Average
Exercise Price

 

Shares

 

Weighted
Average
Exercise Price

 

Beginning outstanding

 

19,666

 

$

31

 

26,479

 

$

31

 

Granted

 

1,468

 

38

 

1,537

 

44

 

Exercised

 

(3,855

)

27

 

(4,886

)

29

 

Forfeited and expired

 

(743

)

38

 

(1,517

)

41

 

Outstanding at end of period

 

16,536

 

33

 

21,613

 

31

 

Exercisable at end of period

 

10,365

 

31

 

12,214

 

30

 

 

The weighted average remaining contractual life, in years, of outstanding options was 4.3 years and 4.5 years at September 30, 2009 and 2008, respectively.

 

The aggregate intrinsic value represents the total pretax intrinsic value, based on options with an exercise price less than the Company’s closing stock price of $40.69 as of September 30, 2009, which would have been received by the option holders had those option holders exercised their options as of that date.  At September 30, 2009, the aggregate intrinsic value of options outstanding was $140 million, of which $102 million was exercisable.  The aggregate intrinsic value of options exercised during the third quarter and nine months ended September 30, 2009 was $17 million and $55 million, respectively, and for the third quarter and nine months ended September 30, 2008 was $17 million and $80 million, respectively.

 

Other information related to the Company’s stock options is as follows (in millions):

 

 

 

Nine months ended September 30,

 

 

 

2009

 

2008

 

Cash received from the exercise of stock options

 

$

104

 

$

146

 

Tax benefit realized from the exercise of stock options

 

15

 

21

 

 

Unamortized deferred compensation expense, which includes both options and awards, amounted to $311 million as of September 30, 2009, with a remaining weighted-average amortization period of approximately 2.1 years.

Financial Instruments
Financial Instruments

12.           Financial Instruments

 

Aon is exposed to market risk from changes in foreign currency exchange rates, interest rates and equity security prices.  To manage the risk related to these exposures, Aon enters into various derivative transactions.  The derivatives have the effect of reducing Aon’s market risks by creating offsetting market exposures.  Aon does not enter into derivative transactions for trading purposes.

 

Derivative transactions are governed by a uniform set of policies and procedures covering areas such as authorization, counterparty exposure and hedging practices.  Positions are monitored using techniques such as market value and sensitivity analyses.

 

Certain derivatives also give rise to credit risks from the possible non-performance by counterparties.  The credit risk is generally limited to the fair value of those contracts that are favorable to Aon.  Aon has limited its credit risk by using International Swaps and Derivatives Association (“ISDA”) master agreements, collateral and credit support arrangements, entering into non-exchange-traded derivatives with highly-rated major financial institutions and by using exchange-traded instruments.  Aon monitors the credit-worthiness of, and exposure to, its counterparties.  As of September 30, 2009, all net derivative liability positions were entered into pursuant to terms of ISDA master agreements, and were free of credit risk contingent features.  In addition, Aon has received collateral of $14 million from counterparties and pledged collateral of $21 million to counterparties for derivatives subject to collateral support arrangements as of September 30, 2009.

 

Accounting Policy for Derivative Instruments

All derivative instruments are recognized in the condensed consolidated statements of financial position at fair value. Unless otherwise noted, derivative instruments with a positive fair value are reported in other assets and derivative instruments with a negative fair value are reported in other liabilities in the condensed consolidated statements of financial position.  Where Aon has entered into master netting agreements with counterparties, the derivative positions are netted by counterparty and are reported accordingly in other assets or other liabilities.  Changes in the fair value of derivative instruments are recognized immediately in earnings, unless the derivative is designated as a hedge and qualifies for hedge accounting.

 

Accounting principles identify three hedging relationships where a derivative (hedging instrument) may qualify for hedge accounting: (i) a hedge of the change in fair value of a recognized asset or liability or firm commitment (“fair value hedge”), (ii) a hedge of the variability in cash flows from a recognized variable-rate asset or liability or forecasted transaction (“cash flow hedge”), and (iii) a hedge of the net investment in a foreign subsidiary (“net investment hedge”).  Under hedge accounting, recognition of derivative gains and losses can be matched in the same period with that of the hedged exposure and thereby minimize earnings volatility.

 

In order for a derivative to qualify for hedge accounting, the derivative must be formally designated as a fair value, cash flow, or a net investment hedge by documenting the relationship between the derivative and the hedged item.  The documentation will include a description of the hedging instrument, the hedge item, the risk being hedged, Aon’s risk management objective and strategy for undertaking the hedge, the method for assessing the effectiveness of the hedge, and the method for measuring hedge ineffectiveness.  Additionally, the hedge relationship must be expected to be highly effective at offsetting changes in either the fair value or cash flows of the hedged item at both inception of the hedge and on an ongoing basis.  Aon assesses the ongoing effectiveness of its hedges and measures and records hedge ineffectiveness, if any, at the end of each quarter.

 

For a fair value hedge, the change in fair value of the hedging instrument and the change in fair value of the hedged item attributable to the risk being hedged are both recognized currently in earnings.  For a cash flow hedge, the effective portion of the change in fair value of a hedging instrument is recognized in Other Comprehensive Income (“OCI’) and subsequently reclassified to income when the hedged item affects earnings.  The ineffective portion of the change in fair value of a cash flow hedge is recognized immediately in earnings.  For a net investment hedge, the effective portion of the change in fair value of the hedging instrument is reported in OCI as part of the cumulative translation adjustment, while the ineffective portion is recognized immediately in earnings.

 

Changes in the fair value of a derivative that is not designated as an accounting hedge (known as an “economic hedge”) are recorded in either investment income or other general expenses (depending on the hedged exposure and the Company’s policy) in the current period’s condensed consolidated statement of income.

 

Aon discontinues hedge accounting prospectively when (1) the derivative expires or is sold, terminated, or exercised, (2) it determines that the derivative is no longer effective in offsetting changes in the hedged item’s fair value or cash flows, (3) a hedged forecasted transaction is no longer probable of occurring in the time period described in the hedge documentation, (4) the hedged item matures or is sold, or (5) management elects to discontinue hedge accounting voluntarily.

 

When hedge accounting is discontinued because the derivative no longer qualifies as a fair value hedge, Aon will continue to carry the derivative in the condensed consolidated statements of financial position at its fair value, recognize subsequent changes in the fair value of the derivative in current-period earnings, cease to adjust the hedged asset or liability for changes in its fair value, and begin to amortize the hedged item’s cumulative basis adjustment into earnings over the remaining life of the hedged item using a method that approximates the level-yield method.

 

When hedge accounting is discontinued because the derivative no longer qualifies as a cash flow hedge, Aon will continue to carry the derivative in the condensed consolidated statements of financial position at its fair value, recognize subsequent changes in the fair value of the derivative in current-period earnings, and continue to defer the derivative gain or loss in accumulated OCI until the hedged forecasted transaction affects earnings.  If the hedged forecasted transaction is probable of not occurring in the time period described in the hedge documentation or within a two month period of time thereafter, the deferred derivative gain or loss would be reclassified immediately to earnings.

 

Foreign Exchange Risk Management

Certain of Aon’s foreign brokerage subsidiaries, primarily in the U.K., receive revenues in currencies (primarily in U.S. dollars and Euros) that differ from their functional currencies.  The foreign subsidiary’s functional currency revenue will fluctuate as the currency exchange rates change.  To reduce this variability, Aon uses foreign exchange forward contracts and over-the-counter options to hedge the foreign exchange risk of the forecasted revenue for up to a maximum of five years in the future.  Aon has designated these derivatives as cash flow hedges of its forecasted foreign currency denominated revenue.  As of September 30, 2009, a $12 million pretax loss has been deferred to OCI, of which a $12 million loss is expected to be reclassified to earnings as an adjustment to other general expenses in the next twelve months.  Deferred gains or losses will be reclassified from OCI to other general expenses when the hedged revenue is recognized.  The hedge had no material ineffectiveness in the first nine months of 2009.

 

As of September 30, 2009, the Company had the following outstanding foreign exchange forward and option contracts that were entered into to hedge forecasted revenues and which qualify as cash flow hedges (in millions):

 

 

 

Notional Amounts

 

Forecasted revenues

 

2009

 

2010

 

2011

 

2012

 

U.S. Dollar

 

$

47

 

$

238

 

$

214

 

$

69

 

Euro

 

17

 

39

 

32

 

35

 

 

Aon also uses foreign exchange option and forward contracts to hedge its net investments in foreign operations.  During the first nine months of 2009, these hedges had no ineffectiveness, and a $31 million cumulative pretax loss has been included in OCI at September 30, 2009.  As of September 30, 2009, the total notional amount of the Company’s foreign exchange option and forward contracts related to these hedges was $1.7 billion.

 

Aon subsidiaries have entered into cross-currency swaps and foreign exchange forward contracts to hedge the foreign currency risks associated with foreign denominated intercompany notes.  These derivatives have been designated as cash flow hedges.  As of September 30, 2009, an $8 million pretax loss has been deferred to OCI, and a $10 million loss is expected to be reclassified to earnings as an adjustment to interest expense and other general expense in the next twelve months.  These hedges had no material ineffectiveness in the first nine months of 2009.  As of September 30, 2009, the total notional amount of the Company’s cross-currency swaps and foreign currency forward contracts related to these hedges was $1.1 billion.

 

Several of Aon’s subsidiaries have negotiated outsourcing service agreements in currencies that differ from their functional currencies; primarily the Philippine Peso and the Indian Rupee.  The subsidiary’s functional currency equivalent of the expense will fluctuate as the currency exchange rates change.  To reduce this variability, Aon uses foreign exchange forward contracts to hedge the foreign exchange risk associated with the forecasted expense incurred for the life of the service agreements or up to six years.  Aon has designated these derivatives as cash flow hedges of its forecasted foreign currency denominated expense.  As of September 30, 2009, a $6 million pretax loss has been deferred to OCI, $2 million of which is expected to be reclassified to earnings as an adjustment to other general expenses in the next twelve months.  Deferred gains or losses will be reclassified from OCI to other general expenses when the hedged expense is recognized.  During the third quarter, the Company discontinued hedge accounting and recognized a pretax loss of less than $1 million related to $2 million of hedged forecasted expenses determined to be probable of not occurring. The hedge did not have any other ineffectiveness in the first nine months of 2009.

 

As of September 30, 2009, the Company had the following outstanding foreign exchange forward contracts that were entered into to hedge forecasted expenses and which qualify as cash flow hedges (in millions):

 

 

 

Notional Amounts

 

Forecasted expenses

 

2009

 

2010

 

2011

 

2012

 

Indian Rupee

 

$

6

 

$

10

 

$

9

 

$

4

 

Philippine Peso

 

1

 

2

 

2

 

1

 

 

In May 2009, Aon entered into a sponsorship agreement under which Aon is required to make payments in British pounds over the next four years pursuant to the terms of the contract.  As a result, the Company is exposed to foreign exchange transaction risk and has hedged its exposure using over-the-counter options.  Aon has designated these derivatives as cash flow hedges of its forecasted foreign currency denominated expense.  As of September 30, 2009, a $3 million pretax loss has been deferred to OCI.  Deferred gains or losses will be reclassified from OCI to other general expenses when the hedged expense is recognized.  This hedge did not have any ineffectiveness in the first nine months of 2009.  As of September 30, 2009, the total notional amount of the Company’s over-the-counter options related to this hedge was $83 million.

 

Aon also uses foreign exchange forward and over-the-counter option contracts to reduce the impact of foreign currency fluctuations on the translation of the financial statements of Aon’s foreign operations and to manage the currency exposure of Aon’s global liquidity profile.  These derivatives are not eligible for hedge accounting treatment and changes in the fair value of these derivatives are recorded in other general expenses in the condensed consolidated statements of income.  As of September 30, 2009, there was no notional amount outstanding.

 

Aon also uses foreign exchange forward contracts to offset foreign exchange risk associated with foreign denominated intercompany notes and brokerage receivables.  These derivatives were not designated as hedges because changes in their fair value were largely offset in earnings by remeasuring the notes and receivables for changes in spot exchange rates.  Changes in the fair value of these derivatives were recorded in other general expenses in the condensed consolidated statements of income. As of September 30, 2009, the total notional amount of these derivatives was $104 million.

 

Interest Rate Risk Management

Aon enters into receive-fixed-pay-floating interest rate swaps which are designated as cash flow hedges of the benchmark interest rate risk component of a portion of Aon’s U.S. dollar, Euro, Australian dollar, Canadian dollar and British pound denominated brokerage funds held on behalf of clients and other operating funds.  Forecasted interest receipts earned on deposit balances are hedged up to a maximum of three years into the future.  Changes in the fair value of the swaps are recorded in OCI and will be reclassified to earnings as an adjustment to investment income over the term of the swaps.  As of September 30, 2009, an $18 million pretax gain related to this hedge was recorded in OCI, all of which is expected to be reclassified to earnings as an adjustment to investment income in the next twelve months.  This hedge had no material ineffectiveness in the first nine months of 2009.

 

As of September 30, 2009, the Company had the following outstanding interest rate swaps that were entered into to hedge the interest rate exposure of the forecasted interest receipts earned on short-term fund balances (in millions):

 

 

 

Notional Amounts

 

Fund balances

 

2009

 

2010

 

2011

 

2012

 

U.S. Dollar

 

$

1,000

 

$

850

 

$

100

 

$

 

Euro

 

323

 

323

 

88

 

 

All other

 

226

 

226

 

47

 

23

 

 

In July 2009, an indirect wholly-owned subsidiary of Aon issued €500 million ($734 million) of fixed rate senior unsecured debentures due on July 1, 2014.  As a result of the debt issuance, the Company is exposed to changes in the fair value of the debt due to fluctuations in the benchmark Euribor rate.  In order to hedge a portion of this risk, the Company entered into €250 million notional received-fixed-pay-floating interest rate swaps. This hedge did not have any ineffectiveness in 2009. As of September 30, 2009, $1 million was recorded as a reduction to interest expense due to this swap.

 

The location and fair value of derivative instruments reported in the September 30, 2009 condensed consolidated statement of financial position, segregated between derivatives that are designated as hedging instruments and those that are not, are as follows (in millions):

 

 

 

Derivative Assets

 

Derivative Liabilities

 

 

 

Balance Sheet
Location

 

Fair Value

 

Balance Sheet Location

 

Fair Value

 

Derivatives accounted for as hedges:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate contracts

 

Other assets

 

$

32

 

Other liabilities

 

$

5

 

Foreign exchange contracts

 

Other assets

 

240

 

Other liabilities

 

195

 

Other contracts (1)

 

Other assets

 

15

 

Other liabilities

 

56

 

Total

 

 

 

287

 

 

 

256

 

 

 

 

 

 

 

 

 

 

 

Derivatives not accounted for as hedges:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

Other assets

 

24

 

Other liabilities

 

32

 

Total

 

 

 

$

311

 

 

 

$

288

 

 


(1) Other contracts include cross-currency swaps hedging the foreign currency risk associated with foreign denominated intercompany loans, as described above.

 

The location and amounts of the gains and losses reported in the condensed consolidated statement of financial position in OCI, segregated by type of hedge and further by type of derivative contract, are as follows (in millions):

 

Three months ended September 30, 2009

 

Amount of Gain
(Loss)
Recognized in
OCI on Derivative
(Effective Portion)

 

Location of Gain (Loss)
Reclassified from OCI
into Income (Effective
Portion)

 

Amount of Gain
(Loss)
Reclassified from
OCI into Income
(Effective Portion)

 

 

 

 

 

 

 

 

 

Cash flow hedges:

 

 

 

 

 

 

 

Interest rate contracts

 

$

6

 

Investment income

 

$

8

 

Foreign exchange contracts

 

4

 

Other general expenses

 

24

 

Other contracts (1)

 

(5

)

Interest expense

 

(8

)

Total

 

$

5

 

 

 

$

24

 

 

 

 

 

 

 

 

 

Foreign net investment hedges:

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

(52

)

N/A

 

$

 

 

Nine months ended September 30, 2009

 

Amount of Gain
(Loss)
Recognized in
OCI on Derivative
(Effective Portion)

 

Location of Gain (Loss)
Reclassified from OCI into
Income (Effective Portion)

 

Amount of Gain
(Loss) Reclassified
from OCI into
Income (Effective
Portion)

 

 

 

 

 

 

 

 

 

Cash flow hedges:

 

 

 

 

 

 

 

Interest rate contracts

 

$

14

 

Investment income

 

$

27

 

Foreign exchange contracts

 

39

 

Other general expenses

 

16

 

Other contracts (1)

 

(42

)

Other general expenses and interest expense

 

(42

)

Total

 

$

11

 

 

 

$

1

 

 

 

 

 

 

 

 

 

Foreign net investment hedges:

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

(86

)

N/A

 

$

 

 


(1)          Other contracts include cross-currency swaps hedging the foreign currency risk associated with foreign denominated intercompany loans, as described above.

 

 

 

Location of Gain (Loss)

 

Amount of Gain (Loss)
Recognized in Income
on Derivative

 

 

 

Recognized in Income on
Derivative

 

Three months ended
September 30, 2009

 

Nine months ended
September 30, 2009

 

Fair value hedges:

 

 

 

 

 

 

 

Foreign exchange contracts

 

Interest expense

 

$

7

 

$

7

 

 

 

 

Location of Gain (Loss)

 

Amount of Gain (Loss)
Recognized in Income
on Related Hedged Item

 

 

 

Recognized in Income on
Related Hedged Item

 

Three months ended
September 30, 2009

 

Nine months ended
September 30, 2009

 

Hedged items in fair value hedge relationships:

 

 

 

 

 

 

 

Fixed rate debt

 

Interest expense

 

$

(6

)

$

(6

)

 

The amount of gain (loss) recognized in income on the ineffective portion of derivatives for both the three and nine month periods was negligible.

 

The location and amounts of the gains and losses reported in the condensed consolidated statement of income for derivatives not designated as qualifying hedges are as follows (in millions):

 

 

 

Location of Gain (Loss)

 

Amount of Gain (Loss)
Recognized in Income
on Derivative

 

 

 

Recognized in Income on
Derivative

 

Three months ended
September 30, 2009

 

Nine months ended
September 30, 2009

 

Derivatives not designated as hedges:

 

 

 

 

 

 

 

Foreign exchange contracts

 

Other general expenses

 

$

(7

)

$

(13

)

Premium Finance Operations
Premium Finance Operations

13.                                 Premium Finance Operations

 

In December 2008, Aon signed a definitive agreement to sell the U.S. operations of the premium finance business (Cananwill).  This disposition was completed in February 2009.  In connection with Aon’s sale of its U.S. premium finance business, Aon has guaranteed the collection of the principal amount of the premium finance notes sold to the buyer, which, at September 30, 2009, was $42 million, if losses exceed the historical credit loss reserve for the business.  Historical losses in this business have been very low since the premium finance notes are generally fully collateralized by the lender’s right, in the event of non-payment, to cancel the underlying insurance contract and collect the unearned premium from the insurance carrier.  The Company does not expect to incur any significant losses related to this guarantee.

 

Some of Aon’s U.K., Canadian, and Australian subsidiaries originated short-term loans (generally with terms of 12 months or less) to businesses to finance their insurance premium obligations, and then sold these premium finance agreements to unaffiliated companies in whole loan sales.  Prior to August 2009, these loans were sold in securitization transactions that met the criteria for sale accounting under current accounting principles.  In June and July of 2009, the Company entered into agreements with third parties with respect to Aon’s international premium finance businesses (collectively, the “Cananwill International Agreements”).  As a result of the Cananwill International Agreements, the third parties began originating, financing and servicing premium finance loans generated by referrals from Aon’s brokerage operations.  The Company expects to cease financing and servicing premium finance loans by year-end 2009.  The third parties did not acquire the existing portfolio of Aon’s premium finance loans, and as such, the Company did not extend any guarantees under these agreements.

 

In the U.K., premium finance agreements were sold to a special purpose entity (“SPE”), which is considered a QSPE, as defined. This QSPE funded its purchases of premium finance agreements by selling undivided beneficial interests in the agreements to a multi-seller commercial paper conduit SPE sponsored by unaffiliated banks (“Bank SPEs”). In Canada and Australia, undivided interests in the premium finance agreements were sold directly to Bank SPEs.  The Bank SPEs are variable interest entities as defined under current accounting principles. The QSPE used in the U.K. is not consolidated in Aon’s financial statements because the criteria for sale accounting have been met. For the Canadian and Australian sales, the Company determined that non-consolidation of the Bank SPEs is appropriate because Aon is not their primary beneficiary.

 

Aon’s variable interest in the Bank SPEs in these jurisdictions is limited to the retained interests in premium finance agreements sold to the Bank SPEs.  The Company reviews all material off-balance sheet transactions annually or whenever a reconsideration event occurs for the continued propriety of its accounting.  Aon’s interest in the Bank SPEs will diminish as the loans sold through securitization arrangements prior to August 2009 are collected. 

 

Pursuant to the agreements, the total amount that can be advanced by the Bank SPEs on premium finance agreements sold to them at any one time is limited by formula to a percentage of the uncollected balance of the premium finance agreements. The outstanding balance of sold portfolios at September 30, 2009 was $207 million, and the Bank SPEs had advanced $158 million.  The outstanding balance of sold portfolios at December 31, 2008 was $1.1 billion, and the Bank SPEs had advanced $981 million.

 

Aon recorded gains on the sale of premium finance agreements.  When Aon calculated the gain, all costs expected to be incurred for the relevant Bank SPEs were included.  The gains, which were included in commissions, fees and other revenue in the condensed consolidated statements of income, were $3 million and $9 million for the three months ended September 30, 2009 and 2008, respectively, and $17 million and $41 million for the nine months ended September 30, 2009 and 2008, respectively.

 

Aon recorded its retained interest in the sold premium finance agreements at fair value, and reports it in receivables in the condensed consolidated statements of financial position.  Aon estimates fair value by discounting estimated future cash flows using discount rates that are commensurate with the underlying risk, expected future prepayment rates, and credit loss estimates.

 

Aon also retained servicing rights for sold agreements, and earns servicing fee income over the servicing period.  Because the servicing fees represent adequate compensation for the servicing of the receivables, the Company has not recorded any servicing assets or liabilities.

 

The third-party bank sponsors or other participants in the Bank SPEs provide the liquidity support and bear the credit risks on the receivables, subject to limited recourse, in the form of over-collateralization provided by Aon (and other sellers) as required by the sales agreements.  The over-collateralization of the sold receivables represents Aon’s maximum exposure to credit-related losses, and was approximately $30 million at September 30, 2009.  The Company continually reviews the retained interest in the sold portfolio, taking into consideration credit loss trends in the sold portfolio, conditions in the credit markets and other factors, and adjusts its carrying value accordingly.

Variable Interest Entities
Variable Interest Entities

14.                                 Variable Interest Entities

 

Aon has the following VIEs that have been consolidated at September 30, 2009:

 

·                  Juniperus Insurance Opportunity Fund Limited (“Juniperus”), which is an investment vehicle that invests in an actively managed and diversified portfolio of insurance risks, and

·                  Juniperus Capital Holdings Limited (“JCHL”), which provides investment management and related services to Juniperus.

 

Aon holds a 41% equity interest in the Juniperus Class A shares and bears a majority of the expected residual return and losses.  Aon has a 73% voting and economic interest in JCHL and absorbs a majority of JCHL’s expected residual returns and losses.  Aon is considered the primary beneficiary of both companies, and as such these entities have been consolidated.   Juniperus/JCHL had assets and liabilities of $194 million and $51 million, respectively, at September 30, 2009 and $121 million and $22 million, respectively, at December 31, 2008.  Aon recognized $7 million and $11 million of pretax income from Juniperus/JCHL for the third quarter and nine months 2009, respectively.  Aon’s potential loss at September 30, 2009 is limited to its investment in the VIEs, which is $59 million for Juniperus/JCHL.

 

Aon previously owned an 85% economic equity interest in Globe Re Limited (“Globe Re”), a VIE which provided reinsurance coverage for a defined portfolio of property catastrophe reinsurance contracts underwritten by a third party for a limited period which ended June 1, 2009.  Aon consolidated Globe Re as it was deemed to be the primary beneficiary.  In connection with the winding up of its operations, during June 2009, Globe Re repaid its $100 million of short-term debt from available cash.  In early July 2009, Aon’s equity investment in Globe Re was also repaid.  Aon recognized $8 million of pretax income from Globe Re in nine months 2009. Globe Re was fully liquidated in third quarter 2009.

Fair Value
Fair Value

15.                                 Fair Value

 

Accounting standards establish a three tier fair value hierarchy which prioritizes the inputs used in measuring fair values as follows:

 

·                  Level 1 — observable inputs such as quoted prices for identical assets in active markets;

·                  Level 2 — inputs other than quoted prices for identical assets in active markets, that are observable either directly or indirectly; and

·                  Level 3 — unobservable inputs in which there is little or no market data which requires the use of valuation techniques and the development of assumptions.

 

The following table presents, for each of the fair-value hierarchy levels, the Company’s assets and liabilities that are measured at fair value on a recurring basis at September 30, 2009 (in millions):

 

 

 

 

 

Fair Value Measurements Using

 

 

 

 

 

Quoted Prices in

 

Significant

 

Significant

 

 

 

 

 

Active Markets

 

Other

 

Unobservable

 

 

 

Balance at

 

for Identical

 

Observable

 

Inputs

 

 

 

September 30, 2009

 

Assets (Level 1)

 

Inputs (Level 2)

 

(Level 3)

 

Assets:

 

 

 

 

 

 

 

 

 

Money market funds and highly liquid debt securities (1)

 

$

2,093

 

$

 

$

2,093

 

$

 

Other investments

 

106

 

 

3

 

103

 

Derivatives

 

140

 

 

140

 

 

Retained interests

 

30

 

 

 

30

 

Liabilities:

 

 

 

 

 

 

 

 

 

Derivatives

 

117

 

 

117

 

 

Guarantees

 

4

 

 

 

4

 

 


(1) Includes $1,973 million of money market funds and $120 million of highly liquid debt securities that are classified as fiduciary assets, short-term investments or cash equivalents in the condensed consolidated statements of financial position, depending on their nature and initial maturity.  See Note 7 for additional information regarding the Company’s investments.

 

The following methods and assumptions are used to estimate the fair values of our financial instruments:

 

Money market funds and highly liquid debt securities are carried at cost and amortized cost, respectively, as an approximation of fair value.  Based on market convention, the Company considers cost a practical and expedient measure of fair value.

 

Other investments carried at fair value consists primarily of the Company’s investment in Private Equity Partnership Structures I, LLC (“PEPS I”).  Fair value is based on valuations received from the general partners of the limited partnership interests held by PEPS I.

 

Derivatives are carried at fair value, based upon industry standard valuation techniques that use, where possible, current market-based or independently sourced pricing inputs, such as interest rates, currency exchange rates, or implied volatilities.

 

Retained interests in the sold premium finance agreements of Aon’s premium financing operations are recorded at fair value by discounting estimated future cash flows using discount rates that are commensurate with the underlying risk, expected future prepayment rates, and credit loss estimates.

 

Guarantees are carried at fair value, which is based on discounted estimated future cash flows using published historical cumulative default rates and discount rates commensurate with the underlying exposure.

 

The following table presents the changes in the Level 3 fair-value category for the three months ended September 30, 2009 (in millions):

 

 

 

Fair Value Measurements Using Level 3 Inputs

 

 

 

Other

 

 

 

Retained

 

 

 

 

 

Investments

 

Derivatives

 

Interests

 

Guarantees

 

Balance at June 30, 2009

 

$

102

 

$

 

$

61

 

$

(9

)

Total gains (losses):

 

 

 

 

 

 

 

 

 

Included in income

 

 

 

4

 

(4

)

Included in other comprehensive income

 

1

 

 

 

 

Purchases and sales

 

 

 

(35

)

9

 

Balance at September 30, 2009

 

$

103

 

$

 

$

30

 

$

(4

)

 

 

 

 

 

 

 

 

 

 

The amount of total gains (losses) for the period included in income attributable to the change in unrealized losses relating to assets or liabilities held at September 30, 2009

 

$

 

$

 

$

4

 

$

(4

)

 

The following table presents the changes in the Level 3 fair-value category for the nine months ended September 30, 2009 (in millions):

 

 

 

Fair Value Measurements Using Level 3 Inputs

 

 

 

Other

 

 

 

Retained

 

 

 

 

 

Investments

 

Derivatives

 

Interests

 

Guarantees

 

Balance at December 31, 2008

 

$

113

 

$

1

 

$

99

 

$

(9

)

Total gains (losses):

 

 

 

 

 

 

 

 

 

Included in earnings

 

 

(1

)

14

 

(4

)

Included in other comprehensive income

 

(10

)

 

2

 

 

Purchases and sales

 

 

 

(85

)

9

 

Balance at September 30, 2009

 

$

103

 

$

 

$

30

 

$

(4

)

 

 

 

 

 

 

 

 

 

 

The amount of total gains (losses) for the period included in earnings attributable to the change in unrealized losses relating to assets or liabilities held at September 30, 2009

 

$

 

$

 

$

16

 

$

(4

)

 

Gains (losses), both realized and unrealized, included in income for the three and nine months ended September 30, 2009 are as follows (in millions):

 

 

 

Three months ended September 30, 2009

 

Nine months ended September 30, 2009

 

 

 

Other general

 

Commissions,

 

Other general

 

Commissions,

 

 

 

expenses

 

fees and other

 

expenses

 

fees and other

 

Total gains (losses) included in income

 

$

(4

)

$

4

 

$

(5

)

$

14

 

Change in unrealized gains (losses) relating to assets or liabilities held at September 30, 2009

 

$

(4

)

$

4

 

$

(4

)

$

16

 

 

The following table discloses the Company’s financial instruments where the carrying amounts and fair values differ (in millions):

 

 

 

September 30, 2009

 

December 31, 2008

 

 

 

Carrying

 

Fair

 

Carrying

 

Fair

 

 

 

Value

 

Value

 

Value

 

Value

 

Long-term debt

 

$

1,998

 

$

2,032

 

$

1,872

 

$

1,576

 

 

The fair value of debt is based on quoted market prices or estimates using discounted cash flow analyses based on current borrowing rates for similar types of borrowing arrangements.

Contingencies
Contingencies

16.                                 Contingencies

 

Aon and its subsidiaries are subject to numerous claims, tax assessments, lawsuits and proceedings that arise in the ordinary course of business.  The damages claimed in these matters are or may be substantial, including, in many instances, claims for punitive, treble or extraordinary damages.  Aon has purchased errors and omissions (“E&O”) insurance and other appropriate insurance to provide protection against certain losses that arise in such matters.  Accruals for these items, and related insurance receivables, when applicable, have been provided to the extent that losses are deemed probable and are reasonably estimable.  These accruals and receivables are adjusted from time to time as developments warrant.  Amounts related to settlement provisions are recorded in other general expenses in the condensed consolidated statements of income.

 

At the time of the 2004-05 investigation of the insurance industry by the Attorney General of New York (“NYAG”) and other regulators, purported classes of clients filed civil litigation against Aon and other companies under a variety of legal theories, including state tort, contract, fiduciary duty, antitrust and statutory theories and federal antitrust and Racketeer Influenced and Corrupt Organizations Act (“RICO”) theories.  The federal actions were consolidated in the U.S. District Court for the District of New Jersey, and a state court collective action was filed in California.  In the New Jersey actions, the Court dismissed plaintiffs’ federal antitrust and RICO claims in separate orders in August and October 2007, respectively.  Plaintiffs have appealed these dismissals.  Aon believes it has meritorious defenses in all of these cases and intends to vigorously defend itself against these claims.  The outcome of these lawsuits, and any losses or other payments that may occur as a result, cannot be predicted at this time.

 

Also at the time of the NYAG investigation, putative classes filed actions against Aon in the U.S. District Court for the Northern District of Illinois under the federal securities laws and ERISA.  Plaintiffs in the federal securities class action submitted purported expert reports estimating a range of alleged damages of $353 million to $490 million, and plaintiffs in the ERISA class actions submitted revised purported expert reports estimating a range of alleged damages of $74 million to $349 million.  In the ERISA case, Aon submitted expert reports in opposition concluding that plaintiffs’ theories of liability and causation are meritless and that, in any event, plaintiffs incurred no damages.  The parties are in the final stages of expert discovery and trial is likely to be scheduled within the first half of 2010.  In the securities case, Aon reached agreement on a proposed settlement under which Aon would pay $30 million to the class.  Notice has been provided to class members advising of the proposed settlement, which has received preliminary approval by the district court.  A final hearing and fairness determination has been scheduled for November 17, 2009.  The outcome of these lawsuits, and any losses or other payments that may occur as a result, cannot be predicted at this time.

 

Following inquiries from regulators, the Company commenced an internal review of its compliance with certain U.S. and non-U.S. anti-corruption laws, including the U.S. Foreign Corrupt Practices Act (“FCPA”).  The U.S. Securities and Exchange Commission (“SEC”), and the U.S. Department of Justice (“DOJ”), continue to investigate these matters.  Aon is fully cooperating with these investigations and has agreed with the U.S. agencies to toll any applicable statute of limitations pending completion of the investigations.  Based on current information, the Company is unable to predict at this time when the SEC and DOJ matters will be concluded, or what regulatory or other outcomes may result.

 

A putative class action, Buckner v. Resource Life, is pending in state court in Columbus, Georgia against a former subsidiary of Aon, Resource Life Insurance Company.  The complaint alleges that Resource Life, which wrote policies insuring repayment of auto loans, was obligated to identify and return unearned premium to policyholders whose loans terminated before the end of their scheduled terms.  In connection with the sale of Resource Life in 2006, Aon agreed to indemnify Resource Life’s buyer in certain respects relating to this action.  Aon believes that Resource Life has meritorious defenses and Resource Life is vigorously defending this action.  In October 2009, the court certified a nationwide class of policyholders whose loans terminated before the end of their scheduled terms and who Resource Life cannot prove received a refund of unearned premium. Resource Life will appeal. Also in October 2009, Aon filed a lawsuit in Illinois state court seeking a declaratory judgment with respect to the rights and obligations of Aon and Resource Life under the indemnity agreement. The outcome of the actions, and the amount of any losses or other payments that may result, cannot be predicted at this time.

 

Although the ultimate outcome of all matters referred to above cannot be ascertained, and liabilities in indeterminate amounts may be imposed on Aon or its subsidiaries, on the basis of present information, amounts already provided, availability of insurance coverages and legal advice received, it is the opinion of management that the disposition or ultimate determination of such claims will not have a material adverse effect on the consolidated financial position of Aon.  However, it is possible that future results of operations or cash flows for any particular quarterly or annual period could be materially affected by an unfavorable resolution of these matters.

Business Segments
Business Segments

17.                                 Business Segments

 

Aon classifies its businesses into two operating segments: Risk and Insurance Brokerage Services and Consulting.

 

·                  The Risk and Insurance Brokerage Services segment consists primarily of Aon’s retail and reinsurance brokerage operations, as well as related insurance services, including underwriting management, captive insurance company management services, investment banking products and services, and premium financing.  Aon sold its U.S. operations of the premium finance business of Cananwill in first quarter 2009.

·                  The Consulting segment provides a broad range of consulting services.  These services are delivered predominantly to corporate clientele that operate in the following practice areas: Consulting Services — health and employee benefits, retirement, compensation, and strategic human capital, and Outsourcing - human resource outsourcing.

 

Aon’s total revenue is as follows (in millions):

 

 

 

Three months ended September 30,

 

 

 

2009

 

2008

 

 

 

Commissions,
Fees and
Other

 

Investment
Income

 

Total

 

Commissions,
Fees and
Other

 

Investment
Income

 

Total

 

Risk and Insurance Brokerage Services

 

$

1,471

 

$

18

 

$

1,489

 

$

1,425

 

$

48

 

$

1,473

 

Consulting

 

308

 

 

308

 

335

 

2

 

337

 

Intersegment elimination

 

(8

)

 

(8

)

(4

)

 

(4

)

Total operating segments

 

1,771

 

18

 

1,789

 

1,756

 

50

 

1,806

 

Unallocated

 

9

 

10

 

19

 

 

40

 

40

 

Total revenue

 

$

1,780

 

$

28

 

$

1,808

 

$

1,756

 

$

90

 

$

1,846

 

 

 

 

Nine months ended September 30,

 

 

 

2009

 

2008

 

 

 

Commissions,
Fees and
Other

 

Investment Income

 

Total

 

Commissions, Fees and
Other

 

Investment Income

 

Total

 

Risk and Insurance Brokerage Services

 

$

4,550

 

$

67

 

$

4,617

 

$

4,501

 

$

148

 

$

4,649

 

Consulting

 

916

 

1

 

917

 

1,012

 

4

 

1,016

 

Intersegment elimination

 

(20

)

 

(20

)

(20

)

 

(20

)

Total operating segments

 

5,446

 

68

 

5,514

 

5,493

 

152

 

5,645

 

Unallocated

 

20

 

13

 

33

 

 

62

 

62

 

Total revenue

 

$

5,466

 

$

81

 

$

5,547

 

$

5,493

 

$

214

 

$

5,707

 

 

Commissions, fees and other revenue are as follows (in millions):

 

 

 

Three months ended

 

Nine months ended

 

 

 

September 30,

 

September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Risk management and insurance brokerage:

 

 

 

 

 

 

 

 

 

Americas

 

$

541

 

$

557

 

$

1,592

 

$

1,638

 

United Kingdom

 

167

 

182

 

464

 

546

 

Europe, Middle East & Africa

 

273

 

314

 

1,030

 

1,188

 

Asia Pacific

 

111

 

120

 

318

 

373

 

Reinsurance brokerage and related services

 

379

 

252

 

1,146

 

756

 

Total Risk and Insurance Brokerage Services

 

1,471

 

1,425

 

4,550

 

4,501

 

 

 

 

 

 

 

 

 

 

 

Consulting services

 

262

 

284

 

776

 

850

 

Outsourcing

 

46

 

51

 

140

 

162

 

Total Consulting

 

308

 

335

 

916

 

1,012

 

Intersegment elimination

 

(8

)

(4

)

(20

)

(20

)

Unallocated

 

9

 

 

20

 

 

Total commissions, fees and other revenue

 

$

1,780

 

$

1,756

 

$

5,466

 

$

5,493

 

 

Aon’s operating segments’ geographic revenue and income before income tax is as follows (in millions):

 

 

 

Risk and Insurance Brokerage
Services

 

Consulting

 

Three months ended September 30,

 

2009

 

2008

 

2009

 

2008

 

Revenue by geographic area:

 

 

 

 

 

 

 

 

 

United States

 

$

519

 

$

503

 

$

148

 

$

158

 

Americas, other than U.S.

 

175

 

184

 

28

 

30

 

United Kingdom

 

295

 

251

 

52

 

65

 

Europe, Middle East & Africa

 

360

 

389

 

57

 

63

 

Asia Pacific

 

140

 

146

 

23

 

21

 

Total revenue

 

$

1,489

 

$

1,473

 

$

308

 

$

337

 

 

 

 

 

 

 

 

 

 

 

Income before income tax

 

$

188

 

$

192

 

$

33

 

$

52

 

 

 

 

Risk and Insurance Brokerage
Services

 

Consulting

 

Nine months ended September 30,

 

2009

 

2008

 

2009

 

2008

 

Revenue

 

 

 

 

 

 

 

 

 

United States

 

$

1,594

 

$

1,465

 

$

437

 

$

459

 

Americas, other than U.S.

 

526

 

548

 

88

 

100

 

United Kingdom

 

828

 

743

 

145

 

199

 

Europe, Middle East & Africa

 

1,281

 

1,449

 

187

 

201

 

Asia Pacific

 

388

 

444

 

60

 

57

 

Total revenue

 

$

4,617

 

$

4,649

 

$

917

 

$

1,016

 

 

 

 

 

 

 

 

 

 

 

Income before income tax

 

$

726

 

$

669

 

$

144

 

$

158

 

 

A reconciliation of segment income before income taxes to income from continuing operations before income taxes is as follows (in millions):

 

 

 

Three months ended

 

Nine months ended

 

 

 

September 30,

 

September 30,

 

 

 

2009

 

2008

 

2009

 

2008

 

Risk and Insurance Brokerage Services

 

$

188

 

$

192

 

$

726

 

$

669

 

Consulting

 

33

 

52

 

144

 

158

 

Segment income from continuing operations before income taxes

 

221

 

244

 

870

 

827

 

Unallocated investment income and other revenue

 

19

 

40

 

33

 

62

 

Unallocated expenses

 

(30

)

(34

)

(85

)

(91

)

Interest expense

 

(32

)

(32

)

(87

)

(96

)

Income from continuing operations before income taxes

 

$

178

 

$

218

 

$

731

 

$

702

 

 

Unallocated investment income and other revenue consists primarily of revenue from our equity ownership in insurance investments and income associated with invested assets not directly required to support the risk and insurance brokerage services and consulting businesses.

 

Unallocated expenses include administrative or other costs not attributable to the operating segments, such as corporate governance costs and the costs associated with corporate investments.  Interest expense represents the cost of worldwide debt obligations.

Document and Entity Information (USD $)
9 Months Ended
Sep. 30, 2009
Jun. 30, 2008
Document and Entity Information
 
 
Entity Registrant Name
Aon Corp 
 
Entity Central Index Key
0000315293 
 
Document Type
10-Q 
 
Document Period End Date
09/30/2009 
 
Amendment Flag
FALSE 
 
Current Fiscal Year End Date
12/31 
 
Entity Well-known Seasoned Issuer
Yes 
 
Entity Voluntary Filers
No 
 
Entity Current Reporting Status
Yes 
 
Entity Filer Category
Large Accelerated Filer 
 
Entity Public Float
 
$ 11,883,580,723 
Entity Common Stock, Shares Outstanding
273,922,587