穆迪 (MCO) 2006 Q3 法說會逐字稿

Good morning, and welcome, ladies and gentlemen, to the Moody's Corporation third quarter 2006 conference call. [ OPERATOR INSTRUCTIONS ] I will now turn the conference over to Michael Courtian, Vice President Investor Relations and Corporate Finance.

Please, go ahead, sir.

Thanks, very much.

Good morning, everyone.

This is Michael Courtian, Vice President of Investor Relations at Moody's, and we're on this conference call this morning to discuss Moody's results for the third quarter of 2006.

Moody's released it's results for the third quarter this morning and the earnings release are available on the website at ir.moodys.com.

Ray McDaniel, Chairman and Chief Executive Officer of Moody's Corporation will be leading this morning's conference call.

Also on the call this morning is Linda Huber, Chief Financial Officer of Moody's Corporation.

Before we get started, I would like to call your attention to the cautionary language set out at the end of our earnings release.

Certain statements my colleagues and I make today may be forward-looking within the spirit of the Private Securities Litigation Reform Act of 1995.

This Act provides the safe harbor for such forward-looking statements.

I would like to direct your attention to the matters of discussion and analysis section and the risk factors discussed in our annual report on form 10-K for the year ending December 31, 2005 and in other filings made by the Company from time to time with the SEC.

I would also like to point out the Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995, contained in our press release issued this morning.

These set forth important factors that could cause actual results to differ materially from those contained in any such forward-looking statements.

I should point out that some members of the media might be on the call this morning in a listen-only mode.

At this point, I'm pleased to turn the call over to Ray McDaniel.

Thank you, Michael, and thank you for joining us on today's call.

I'll begin our prepared remarks this morning with a brief summary of Moody's third quarter results.

Linda Huber will take you through the quarter's operating highlights providing some commentary on revenues and expenses and update you on our share repurchase program.

I will then review developments in the legislative and regulatory area and finish with Moody's outlook for 2006.

After that, we'll be happy to respond to your questions.

Moody's third quarter revenue rose to $496 million, 18% higher than in the third quarter of 2005.

With our U.S. and European Structured Finance and Corporate Finance Ratings businesses, performing better than we had expected.

Operating income in the third quarter was $269 million and grew 16% year-over-year.

Foreign currency translation, mainly due to weakness of the U.S. dollar relative to the Euro, increased revenue growth by approximately 50 basis points and had a minimal impact on operating income.

Diluted earnings per share of $0.55 for the quarter were 15% higher than in the prior year period.

EPS results for the third quarter 2006 included $0.04 of expense related to stock-based compensation, compared with $0.02 of similar expense a year ago.

Based on Moody's strong results here today, year to date, we now believe the results for the full-year 2006 will exceed our prior forecast.

Our earnings release includes tables summarizing our third quarter and year-to-date non-GAAP financial performance after excluding adjustments for our legacy tax matters and stock compensation expense.

At this point I will turn the call over to Linda who will start with some detail on revenue and expenses.

Thanks, Ray.

I'll provide details for the quarter starting with our U.S. businesses.

Moody's U.S. revenue was 310 million for the quarter, up 16% year over year.

Within Moody's Investors service, U.S. ratings revenues rose 15% year-over-year.

On the dollar basis, U.S. structured finance was the largest single contributor to Moody's overall growth with revenue rising 23 million and an increase of 18%.

We saw very strong growth in revenue from rating credit derivatives and a year-over-year increase from residential mortgage-backed securities, despite signs of weakness in the market.

Together, this more than offset a year-over-year decline from [inaudible] Securities business.

Revenue in the U.S.

Corporate Finance business increased 10 million or 20% from the prior-year period, as [inaudible] growth from [inaudible] bank loans more than offset a year year-over-year decline in [inaudible] speculative grade bonds.

U.S. financial institution ratings rose 9% compared to the prior-year period driven in part by new ratings mandates in the financed real estate and insurance sectors.

As anticipated, U.S.

Public Finance was the one major line of business to experience a year-over-year decline.

Revenue declined 4% compared with the third quarter of 2005 as an increase in new money issuance was more than offset by a sharp decrease in refunding.

Finally, U.S.

Research revenues rose 26% from the prior-year period, reflecting higher revenue from selling Moody' credit research, licensing Moody's data to third parties, selling analytic tools and providing credit training and economic research.

Turning now to our International operations.

Moody's continued to generate good growth outside of the U.S.

Total International revenue was 185 million in the third quarter, 20% higher than in the prior-year period, including a foreign currency benefit of approximately 120 basis points.

International revenue accounted for 37% of Moody's total in the quarter, roughly unchanged from a year-ago period.

From Moody's Investor service, International revenue increased 23% year over year.

Corporate Finance Ratings revenue was 13% higher than in the prior year period due primarily to strong growth in European investment grade ratings.

International [section] Finance revenues grew 41% driven by broad-based growth across all major asset classes in Europe.

International Financial Institutions revenues grew 10%, based largely on growth and issue of ratings for European [becks].

On a global basis, Moody's KMV generated 36 million of revenue, up 3% from the strong prior-year period which had benefited from several large one-time software and services sales.

Moody's KMV produced 5.3 million in operating contributions to the quarter compared to 3.6 million a year ago, an increase of 47%.

Moving on to operating expenses, Moody's operating expenses for the quarter totaled 227 million, 20% higher than in prior-year period.

This increase was driven primarily by higher personnel costs, various technology investments and a phase-in of equity-based compensations begun in 2003.

The quarter's operating margin was 54% compared to 55% in the prior-year period.

I would like to turn to an update on capital allocation and stock buybacks.

Moody's remains committed to using it's strong cash flow to create value for shareholders by investing in growing areas of our business, making selected acquisitions in related businesses, in repurchasing our own stock and paying a modest dividend.

During the third quarter of 2006, Moody's repurchased 2.9 million shares at a total cost of $168 million.

Partially offsetting these buybacks, we issued approximately 1 million shares under employee stock compensation plans.

At quarter end, we had roughly 1.9 billion of share repurchase [inaudible] [remaining].

Later in the quarter, we were pleased to announce that Moody's established a joint venture in China.

We closed our acquisition of 49% share in China Cheng Xin International Credit Rating Agency, also known as CCXI, China's leading domestic credit rating agency, after receiving all necessary regulatory approvals and licenses.

As part of the transaction, Moody's has the right to increase its ownership in CCXI over time as permitted by Chinese authorities.

CCXI has appointed a Moody's representative director for China as a CEO of the venture.

We are not discussing further trends of this transaction or discussing the potential impact on Moody's results.

Because neither are material at present.

However, we view this investment as a significant strategic move, as it establishes Moody's as the only International Rating Agency with the presence in the domestic Chinese market.

As one of the world's largest and fastest-growing economies, we believe that China's capital markets will present significant opportunities for Moody's over time.

Before I turn the call back over to Ray, I would like to provide a brief update on the relocation of Moody's headquarters.

As I discussed on our last earnings call, Moody's has outgrown it's current headquarters building in downtown Manhattan, and we have been weighing options to address this issue for several months.

In mid-september, we signed a 20-year lease for 15 floors in the new rebuilt Seven World Trade Center building.

We plan to move next year and be in the new location by third quarter of 2007.

During the quarter we also started marketing our current headquarters building, 99 Church Street, which Moody's owns.

At this point, it's too early for us to speculate about the final price at which the building will be sold.

I know that many of you will have questions regarding the financial implications of the relocation; however, we can not provide more details at this time due to the significant amount of uncertainty that remains with respect to the impending sale of the headquarters building.

Based on our current assessments, we estimate that this relocation will have a modest impact on our 2007 margin but will not cause us to adjust our overall long-term margin outlook.

We expect to use the proceeds from selling our building for general work and capital purposes, including to fund moving expenses and the sit-out of our new space.

We will keep you updated as we reach significant milestones and will share more details with you in future conference calls.

And with that, I will turn it back over to Ray.

Thanks, Linda.

During the quarter, we saw a number of significant developments on the U.S. legislative front, culminating in the enactment of the Credit Rating Agency Reform Act of 2006.

The legislative process began in June 2005 when HR 2990 was introduced in the U.S.

House of Representatives.

The House passed an amended version of HR 2990 this past July.

In September, the U.S.

Senate passed Credit Rating Agency Reform Act which was then adopted by the House to replace HR 2990 and signed into law by President Bush on September 29.

The broad objectives of the reform acts are to foster competition, transparencies and accountability in the rating agency industry.

The legislation addresses these objectives by making changes to the U.S.

Securities and Exchange Commissions, the SEC's, processes for designating and overseeing nationally recognized statistical rating organizations or NRSROs, whose ratings are used in Federal Security Laws.

The reform act creates a more transparent designation process for rating agencies who wish to be designated as NRSROs and it formalizes the SECs oversight authority over nationally recognized rating agencies.

In our view, the reform act reflects a number of important improvements to the House bill, including provisions to maintain existing legal protections and privileges that rating agencies historically have enjoyed as financial publishers, and to ensure that the procedures and methodologies rating agency used to develop their independent opinions are not subject to regulations.

The next step in the process is for the SEC to implement the reform act through it's rule-making authority by late June 2007.

We look forward to working constructively with the SEC on the implementation of the new legislation.

In Europe, CESR, the Committee of European Securities Regulators, is affected by year end published its first annual report about rating agency compliance with the code of conduct published by the International Organization of Securities Commission.

Known as IOSCO.

Those of you who have been following Moody's for a while are aware that we published or own code of professional conduct pursuant to the IOSCO code in June 2005.

CESR's report will be based, among other things, on discussions with individual rating agencies about their codes of conduct and a survey of market participants regarding agency practices.

I would like to conclude this morning's prepared remarks by discussing Moody's assumptions and outlook for the remainder of 2006.

Moody's outlook for 2006 is based on assumptions about many macroeconomic and capital market factors, including interest rates, corporate profitability and business investment spending, merger and acquisition activity, consumer spending, residential mortgage borrowing and refinancing activity and securitization levels.

There is an important degree of uncertainty surrounding these assumptions and if actual conditions differ from these assumptions, Moody's results for the year may differ from our current outlook.

Based on Moody's stronger-than-expected results for the first nine months of 2006, we've made a number of revisions to our outlook for the full year.

For Moody's overall, we now project revenue growth in the low teens percent range for the full-year 2006.

This assumes foreign currency translation for the remainder of the year at current exchange rates, which would result in no material full-year impact from currency translation.

We now expect the operating margins for the impact of its expensing stock-based compensation to be flat to up 50 basis points compared with 2005.

Among other things, this reflects our increased outlook for revenue and excludes any potential gain on the sale of Moody's headquarters building.

The margin outlook continues to reflect investments we are making to expand internationally, improve our analytical processes, pursue ratings transparency and compliance initiatives, introduce new products and improve our technology infrastructure.

For 2006, we project year-over-year growth in non-GAAP diluted earnings for share in the high-teens to low 20s percent range.

This forecast excludes the impacts of adjustments related to legacy tax matters in 2005 and 2006, the expensing of stock-based compensation in 2005 and 2006, and any potential gain on the sale of Moody's headquarters building.

This year represents the final year of phasing in of expense-related stock-based compensations which we began in 2003.

The impact of expensing stock-based compensation is expected to be in the range of $0.15 to $0.17 per diluted share in 2006, compared with $0.10 per diluted share in 2005.

In the U.S., we forecast low to mid-teens percent revenue growth for the Moody's Investor Service Ratings and Research business for the full year.

In the U.S.

Structured Finance business, we expect revenue for the year to rise in the mid-teens percent range from the record level of 2005.

We now expect revenue from rating residential mortgage backed securities including home equity securitizations to be essentially flat compared with 2005.

In addition, we are expecting strong growth from rating credit derivatives and commercial mortgage-backed securities.

In the U.S.

Corporate Finance business, we expect revenue growth of approximately 20% for the year, including good growth from [rated] bonds and bank loans.

In the U.S.

Financial Institution sector, we expect revenue to grow in the low-teens percent range for the year, reflecting new entrance to the debt capitol markets and fee increases partly related to our enhanced analysis initiative.

For the U.S.

Public Finance sector, we expect revenue for 2006 to decline in the double-digit percent range as rising interest rates should continue to slow refinancing activity.

We continue to expect strong growth in the U.S.

Research business at better-than-20%.

Outside of the U.S., we still expect ratings revenue to grow in the low-teens percent range.

This forecast assumes that foreign currency translation will have no material impact on revenue growth for the full-year.

Our outlook assumes mid-teens to low 20s percent growth for all major business lines, except Financial Institutions where we expect International revenue to be essentially flat.

Our outlook for Moody's KMV globally anticipates growth in net sales and revenue from Credit Risk Assessment subscription products, Credit Decision Processing Software and Professional Services.

We continue to expect this will result in high single digit percent growth in revenue, with greater growth and profitability for the full year.

That concludes our prepared remarks today.

Operator, would you please open the call for any questions.

Thank you. [ OPERATOR INSTRUCTIONS ] We'll go to our first question from Steven Barlow of Prudential Equity Group.

Good morning.

Can you talk about international trends, I guess, in terms of international structured finance, I see up 41%.

What kind of asset classes are driving that?

Then a little bit on the outlook side.

Secondly, just mention a little bit on how you're progressing on your hedge fund rating industry?

And then lastly, just a number on FTEs for the quarter.

Thanks.

Okay.

I'll try and address the international trends for structured finance and our hedge funds initiative and ask Linda if she would make comments about our head count.

The story for structured finance internationally is, I think, the first part of the story is that we had strong double-digit growth in all of the major asset categories in the third quarter for international.

So, it was not being driven by any one sector and it was particularly being driven by growth in the European business.

The largest percent growth was coming from commercial mortgage-backed securities in Europe, but, again, this growth was broad based across all asset classes and most of that contribution is coming from the European side of the business.

With respect to our hedge fund activities, I think many people on the phone are aware that we have assigned publicly our first operational quality rating for the hedge fund sector.

We are looking at a number of other requests for ratings in this sector and are conducting analysis currently for these requests.

They include opportunities both in the U.S. and in Europe and we'll have to keep you posted with more details, but we're optimistic about the possibility for growth in this business.

Steve, picking up on your head count question, at the end of Q3, the total head count for Moody's stood at 3,080 employees, which is 16% head count growth third quarter as compared to last year.

If we exclude economy.com, which takes out 110 people, the head count growth third quarter-to-third quarter is 12%.

Gotcha.

We'll move next to Megan Talbott at Lehman Brothers.

Hi, good morning.

A couple of quick questions.

First, Linda, a quick one.

I just missed the operating profit number for KMV, if you could give that again?

Uh-huh.

Held on a second, Megan.

Sorry.

Megan, it's Ray, I I've got it.

The operating income for the third quarter KMV was 5.3 million.

5.3.

Thank you.

Then, moving on.

If you could comment a little bit on the ABS market, which was down in the quarter, exactly where you're seeing the weakness there, is it [inaudible] securitization or is there something else and kind of your expectations going forward for that particular segment?

Sure.

We did continue to see softness in the asset-backed -- backed securities market, that included asset sectors that, the large asset sectors of credit cards and vehicles.

Also, student loans were not as strong in the quarter as we have seen in some previous quarters.

Where we saw strength was in some of the more in the esoteric categories, such as containers and aircraft financing, that sort of thing.

The credit cards sector, I think, has been offset to a large extent by the home equity loan securitization sector, which we include in residential mortgage-backed securities.

So a lot of the borrowing that has been occurring at the consumer level has been in home equity rather than credit cards to the extent that the home equity sectors slows down, I would expect we would see some positive offset coming out of the credit cards sector.

For the vehicle sector, again, I don't think we're anticipating a strong rebound in the fourth quarter.

We would expect it to be essentially in line with what we have been seeing so far and we'll have to develop our 2007 outlook on that.

Okay.

Great and just one final one, and it might be a little bit early for this, but given your low-teens growth and head count excluding economy that comes so far this year, any thoughts on where you stand next year in terms of head count growth?

You think that you will keep up that pace of hiring?

Megan, it's Linda.

It's a bit difficult to forecast that.

Of course, we want to keep head count growth well below revenue growth, but given that we are still looking at the outlook for next year, we don't have any firm plans on where we'll go with head count growth for next year.

Okay.

Great.

Thanks a lot.

Next on to Lisa Monaco at Morgan Stanley.

Yes, Ray, on your guidance of low-teens revenue growth, that implies a fairly significant slowdown in the fourth quarter, granted you have a slightly tougher comp, particularly in structured finance.

What is it that is causing to you be, what appears to be, somewhat conservative on 4Q?

Thanks.

Well, I don't think we're being conservative but we'll have to see.

The-- and you really have already identified the major element driving, at least supporting why we don't have a more aggressive outlook, and that is that we are expecting a slow down in structured finance in Q4 growth rates.

We expect growth in the fourth quarter compared to 2005 but not the rates we've seen in the first three quarters, because we are dealing with a very tough comp in that area and we continue to expect an absolute decline in RMVS revenue for the quarter.

Now, as you know, we have been anticipating that for several quarters, and I may not prove to be any more accurate with fourth quarter outlook than I have been recently, but that is included in our outlook.

The other thing I would highlight is, we are not expecting a turnaround in the public finance sector either, so we're expecting to have negative growth in public finance for the fourth quarter as we saw in the third quarter.

Are you seeing any slowdown in your pipeline so far in the fourth quarter?

Well, with respect to the residential mortgage back sector, we're seeing slowdown in mortgages.

Our home equity site remains pretty strong.

The leading indicators in terms of housing starts and refinancing, again, are showing weakness compared to earlier quarters.

But how quickly that feeds through into our pipeline, and importantly, also, how much of the mortgage originations and mortgage refinancing get securitized is going to have an important influence on what we see in terms of growth or shrinkage for that sector in the fourth quarter.

Okay, just [inaudible] a little bit, the growth in international corporates, can you just talk to what some of the drivers are there?

Is it a primarily just a general trend of this [intermediation]?

Yes, there has been, particularly in Europe, there has been good issuance associated with merger and acquisition activity.

There has been, I think, some refinancing or financing-- new money financing in the investment grade part of the market ahead of anticipated increases in rates, and we have also seen good growth, although it's a much smaller segment in the business in Europe than in the U.S., in the bank loan sector or more of the high-yield sector in corporate finance.

So, it's been a good story and we would anticipate that we're going to finish up with a good year for European corporate finance.

Okay, great.

Thank you.

We'll go next to Fred Searby at J.P. Morgan.

A couple of questions.

One, if you could specifically comment commercial mortgage backing, we have seen exceptional strength in Europe and I just wondered if that continued into the fourth quarter, generally if you could just comment on the European asset-back?

And then secondly, can you give us surveillance fees versus new issuance revenues, some kind of breakdown of how much that is right now for you in terms of your revenue stream?

Thank you.

Okay.

Well, to answer your second question first, Fred, I don't have that at hand.

I'll see whether any of my colleagues do while I answer the first part of the question, but we may have to come back on that.

And as you heard from my comment earlier, we did see very strong growth in the European commercial mortgage-backed securities market in the third quarter.

We're expecting that to slow in the fourth quarter, some of it was timing, just whether the transactions closed and were rated in Q3 versus Q4 and a lot of them got into the third quarter.

So the very high growth that we saw in commercial mortgage-backed securities in the third quarter, I don't think can be replicated in the fourth quarter.

We would expect more modest growth there.

But, nonetheless, it will be a very good full-year for CMBS growth in Europe.

And as for the broader category of structured finance in Europe, again, in most of the asset categories, we're expecting to see double-digit growth in the fourth quarter, over last year.

So, again, we're expecting to see growth in the low to mid-teens for European structured finance, maybe a bit higher, for other International structured finance, although that's a smaller part of the market.

So, it should be a good quarter for the International structured business.

And, Fred, it's Linda.

Unfortunately, we don't have specific information on surveillance versus the new issuer fees right here at hand.

Sorry about that.

Okay.

Great.

We'll go next to Karl Choi at Merrill Lynch.

I wonder if you can break up the percentage of corporate finance revenues, [set off of] bank loans ratings?

And two, I wonder if you can also talk a little bit about why you expect International financial institutions revenues to be relatively flat?

Thanks.

Sure, Karl.

I can take a crack on corporate finance revenues.

What is happening there and I have got some percentage numbers here.

Let me see If I can take you through this.

For the third quarter of 2006, 13% was from high-yield, 15% from investments grade, 22% was from bank credit facilities and then 49% of the corporate finance revenue was from other accounts, which includes MTM, [inaudible] Commercial Paper and so on.

So the biggest single component there has become bank credit facilities as opposed to high-yields in the third quarter.

Okay.

And with respect to the International financial institutions sector, as you know, we have not had strong growth from that sector this year.

That has related to, it's been driven by a couple of things.

Including a decline in issuance activity.

And that is both in the dollar volume and in account.

Sometimes it's a mix issue for us, but in this case, we have seen declines in both rated accounts and volume.

And we are expecting that the performance in the banking sector in particular is not going to pick up significantly, and the banking sector is the largest part of our financial institutions ratings business.

So just a slower year overall for that business internationally.

We expect to see growth in the fourth quarter for that business.

And that growth, I think, will probably be double-digit growth both in the U.S. and Internationally, but it's -- the fourth quarter is picking up some weak early quarters for that business for us.

The fees from financial institution essentially up in Europe this year?

Whereas the revenues that are tied to new issuance are down is just sort of the picture we're seeing here?

Well, we, we have -- this is partly goes to a mixed question, in terms of whether issuance activity is coming from frequent issuer pricing or from per-issuance pricing and I don't have that breakout right in front of me.

I apologize for that.

But we have had some fee increases coming from our enhanced analysis initiative.

On the other hand, many of the new mandates or new rating relationships that we're signing are not coming from financial institutions interested in issuing bonds, but are bank deposit ratings or financial strength ratings used for counter party purposes and those fees are not as high as you would typically associate with a bond issue.

So we're seeing a new rating relationships but they're coming in on a prebond issuance phase for those institutions and so the fees are somewhat lower for those ratings.

Okay.

And just one quick one.

Can you remind us how much was U.S.

RMVS revenue up year-to-date?

U.S.

RMVS revenue year-to-date.

If you can give me a second I can give you an estimate at least.

It's up, it's up about $6 million.

Year-to-date over last year.

Okay.

Again, that includes home equity along with -- .

the mortgages.

Thank you.

We'll go next to Peter Appert with Goldman Sachs.

Hey, Ray, I'm wondering, recognizing your propensity to be cautious that if the results of '06 maybe cause you to rethink the secular growth prospects for Moody's business, specifically your ability to continue to post these impressive growth numbers in the context of a more difficult, macro backdrop interest rate backdrop, and does this suggest maybe you're being too cautious in terms of your secular revenue growth expectations?

Thank you for the question, Peter.

My answer is no.

I don't think I'm being too cautious, although I would admit I am often wrong on the outlook.

So as you have heard us discuss before, and important elements that are built into our outlook are market-based assumptions for interest rates, for economic activity and including consumer spending and borrowing, and I think they not just Moody's but the market consensus has proved to be somewhat inaccurate in recent quarters, in terms of the expectations for interest rates, the effect of rising short-term rates on long-term rates, which has not been as dramatic as what we saw in previous rates cycles.

So we have had flattening yield curve, and we have also maintained a relatively benign credit environment longer than I think was anticipated.

And that benign credit environment has helped keep spreads tight and has encouraged issuance, term issuance even as short rates have risen.

So, again, if we prove to be enduringly wrong about those assumptions, then I think it would have a positive affect on the business.

But I don't see a secular change in the outlook for our business so much as I see some inaccurate calls on the cyclical factors driving our business.

I was not meaning to imply that forecasting, rather that your efforts of diversification both product-wise and geographically have perhaps changed the revenue growth dynamic.

Well yes, I think, I think the interesting thing that we have seen in recent quarters is that the U.S. side of the business has continued to be stronger than we would have anticipated, while the International side of the business has performed about as we expected.

Okay.

And last thing, Ray, could you just highlight for us given the acquisition in China, are there markets left where you feel you still need to do more in terms of growing your presence?

As far as significant emerging markets, I think we're represented in most of the places that we want to be represented.

There's probably a few places we would like to expand into in Asia, potentially in central or eastern Europe where we don't currently have a presence.

But the big ones are at least covered in terms of Moody's having a flag in the ground.

As you know from previous calls, I would prefer to have a more substantial position in India.

We will see whether that happens in the coming quarters, but of the major markets, that's where I would like our presence to be more robust than it is currently.

Great.

Thanks very much.

We'll go next to Brandon Dobell at Credit Suisse.

Thanks, two very different questions, actually.

In the CDO & CMBS categories, I wonder if you could talk a little bit about year-over-year growth from different drivers, which would be dollar volume, number of customers, number of issues and maybe a pricing component?

Just trying to get a feel for how many new people you were seeing in the market and if that's helping pricing, given they're probably not frequent issuers.

On that from a different direction and your're regulatory environment, do you think the increased transparency into your rating methodologies might impact the software business, the analytics business, that if you have as people look?

Just trying to have a little more visibility on how you do things.

Okay, sure, Brandon.

With respect to the credit derivatives and commercial mortgage-backed securities business, first of all, I don't think that, that pricing is an important component of what has been driving the growth in those businesses this year.

It has come from volume increases in volume and issuance in the market.

And, in particular, I mean there is a couple of things happening that are related.

One is that a lot of the growth in CMBS , I think is fairly characterized as CDOs of CMBS , credit derivatives that are packaging exclusively commercial mortgage-backed assets into those CDOs, which are included in our CMBS revenue growth.

Then on the CDO side, a lot what have we have seen in the U.S. in particular where the growth has been especially surprising is the repackaging of residential mortgage-backed and asset-backed securities into credit derivatives.

As well as the growth in the CLO collateralized loan obligation market, with the very strong growth in bank loan ratings.

So the stock of assets coming from the bank loan market, as well as the residential mortgage and asset-backed securities markets are all being funneled into the credit derivatives market and is, is strongly supporting the U.S. growth in that market.

As for transparency initiatives, and transparency as a result of the different regulatory environment, I don't anticipate that that is going to have a material impact on the analytical models and tools that are available.

We, we've certainly -- we certainly will be, I mean we're making all of our methodologists available to the general public.

We have been doing that for quite sometime already and so I don't think the regulatory environment will change that at all.

I think that unrelated to the regulatory environment, however, we do seek good opportunity with data and analytic products, which are used, basically the commercialized versions of tools that used by our analysts, which market participants may feel provide additional insight and are useful from that standpoint.

So I would expect to have good growth in data and analytic products, but not directly as a result of the regulatory environment.

Okay.

And so then back to the CDO/CMBS question for a second, if you look at the pipeline thus far here in Q4 of '06 versus Q4 of '05, looks like some categories are flat, some categories up.

How useful is a pipeline viewpoint, kind of one month into the quarter or maybe looking at last year, if you look at the October pipeline, relative to what the fourth quarter revenues looked like, how much convergence was there in terms of growth rates?

I mean the pipelines are, I think, are useful.

We use them internally in addition to using them to communicate with you.

But, they're limited in that transactions may be submitted and analyzed which did not close or do not close in the anticipated quarter.

And also they -- it is not uncharacteristic for new securities to come in with a very short time horizon, such the monthly outlook does not capture all the potential business.

So, there are some offsets, both in terms of timing delays and in terms of surprise volume that was not built into the pipeline.

But generally speaking, I think, I think it's a useful tool and we do continue to see a strong pipeline for the CDO sector in particular.

Great, thanks a lot.

Next, we'll go to John Neff at William Blair.

Thank you.

Share buyback activity in the quarter declined sequentially from $574 million to $168 million.

Any significance to that?

Hi, John, it's Linda.

I had anticipated we that might get a share repurchase question next.

Just going quarter-by-quarter this year in the first quarter, we bought back, we spent about $200 million, in the second quarter, obviously, when the stock price was more attractive, we purchased, we spent $573 million and then back to 168 in the third quarter.

We're going to continue to combine elements of our systematic strategy with our opportunistic strategy when conditions warrant.

So, in other words, we are watching the price and we make the decision as to what we're going to do going forward.

So, obviously, we have lightened up a bit in the third quarter and we'll continue to assess what we're going do based on how conditions unfold.

Great.

Kind of a related question, but cash at 281 million.

Uh-huh.

Obviously it's been declining.

Does that in anyway herald an increase in the use of debt to fund future share repurchases or you plan to continue to fund that out of precash generation?

John, we have a capacity to do that should we see a very attractive opportunity.

We're happier with our cash levels where they are, though we're about to, as you know, change locations, so you may see a bit of an increase as we go into the fourth quarter, but nothing dramatic.

So, we're pretty happy with where we are.

We do have capacity to borrow if we see conditions to do so, but right now, we're pretty happy with our cash levels and how we're progressing.

Okay and quick question on the China joint venture, my understanding is you assumed you're ownership stake from another rating agency that for whatever reason was having a tough go of it in China.

Can you just give us a little more color on that situation and why, why you hope your experience might be different?

There was a rating agency that had an affiliation with CCXI, but that concluded some years ago and so we did not fire our stake directly from another rating agency.

And, I can't speak for others, but I think the outlook for the capital markets in China have changed very materially in the last, even just the last 12 to 18 months, and so it may not have looked like a good medium-term opportunity several years ago, and to us, at least, looks like a good opportunity now.

For example, the opening of the equivalent of the commercial paper market in China this year has fairly dramatically increased the revenues and operating income for our joint venture partner.

I expect that that is just going to be one piece of the opening of a more complete debt capital market in China.

I don't expect that that's all going to happen in a big bang, and so this is, as Linda said in our prepared comments, an important long-term strategic play for us, but not something that we expect is going to happen material near-term impact on the Company's financial performances.

Great.

And a quick question, again, on RMBS sorry to beat a dead horse.

But can you give us -- you mentioned earlier the revenue associated with that category in the U.S. up 6%-- $6 million, what is the total -- what was the revenue last year?

And what is that currently representing as a percent of total structured finance and total ratings revenue?

Thank you.

With respect to our total revenue last year, it was, it was about 170 million in the U.S.

And that, I don't have the, don't have the breakout as a percentage of Moody's total, but if you give me one second it was -- looks like it was about 15% of Moody's U.S. revenue in 2005.

We'll move next to Michael Meltz at Bear, Stearns.

Thank you.

Linda, a quick question for you.

Can you help me work through your margin assumptions for the year.

What are you anticipating expense growth to be in the fourth quarter?

And then, Ray, I have a market share-type question.

With rapid growth of CDOs it's a bit tougher for us to track, the market share performance, how do you think you're doing relative to competitors and do you have any stats you can share?

And I then have one follow-up.

Michael, it's Linda.

We don't go through with what we expect expense growth to be for the fourth quarter.

I would direct you to the fact that 70% of our expenses continue to be head count based, in other words, comp and benefits and bonus.

You may want to think about it that way, but we're not going to give specific guidance on what we think expense growths will look like for the fourth quarter.

With respect to market share in the credit derivatives area, I'll start by saying this is a particularly difficult area for us to measure market share.

For a couple of reasons.

One is, and by market share, I mean coverage of securities being issued by Moody's.

In other words, there are many transactions, in fact most transactions have multiple ratings and so our market share is often not exclusive but shared with the other rating agencies.

So from a market coverage standpoint, a public securities, we have very strong market share.

It's, comprehensive, both in the U.S. and in Europe.

Now, that doesn't mean we rate every traunch or every piece of every transaction.

It also does not accommodate an analysis of the non-public securities being offered in this area and that constitutes a reasonably large portion, and we, we don't know what our market coverage is there compared to the other rating agencies or in fact to the unrated market.

So, it's, I don't want to quote numbers at you that will prove to be inaccurate because of the number of assumptions that I can't make to inform that overall global market coverage number.

Okay.

Linda you mentioned the compensation point and actually, do you have those numbers for us?

What was comp in the quarter as a percent of expenses or what were you accruing incentives?

Sure, hang on just one second.

For the quarter, the comp percent of total expenses was 71%, in fact, and then incentive comp as a percentage of total of comp expenses was 17% for the third quarter.

Okay, and last question for me, do you ever feel at this point you're, I know this is the final phase-in of options this year, I know you can't comment on an EPS perspective, but do you expect the total dollar amount to be similar next year or do you expect it to be much higher?

I think we would rather not comment on that, Michael.

We've got a couple of different factors happening here, including, obviously, we have had a bit of a change in the volatility of the stock.

I think we would like to just think about that in terms of how to look next year.

We're going to have to do a bit more work.

So, don't have specific guidance on that.

Great.

Thank you.

[ OPERATOR INSTRUCTIONS ] We'll go next to Jim Baker at Neuberger Berman.

Yes, good morning, and congratulations on a great quarter.

I have a number of questions here.

One was on the cash you generated this quarter, I'm estimating that cash flow from operating activities year-to-date might be in the neighborhood of $540 million, which would be up very sharply from where you were at mid-year.

Is that about right?

Jim, I am being told it's $570 million for the third quarter of this year..

Okay, 570 million.

Uh-huh.

That is a remarkable number.

Considering you were at 322 at midyear and I'm wondering, I know there are some things I noticed, looks like the accounts receivable are down very sharply, I'm wondering if deferred revenue is up very sharply?

If you could just give us an insight as to how you generated that much?

Our accounts receivable, we have been watching very carefully and doing quite a bit of work on that to make sure that we can get those to cash in the door as soon as possible.

So we have been watching those very carefully.

Deferred revenue, more attracts with how the business is going, and don't have any immediate comments on that, but suffice it to say, we've watched that accounts receivable line and work it as best we can.

Okay, you wouldn't know whether deferred revenue was -- because I know year-to-date deferred revenue had been up quite a bit, 46.4, versus 33.7 in the first half versus '05.

Did that have another very large percentage gain, what you think, in the third quarter?

Jim, give us another question and let us come back.

Okay.

We're digging through a couple of different sources here.

Okay.

Fair enough.

The other thing I wanted to get at was, could you give us just a break down, interest income in foreign exchange and other within the other income and expense category?

Sure.

I can give you -- we'll discuss the answer on the deferred revenue.

Okay.

For total current liabilities, deferred revenue stands at 302.5 and at the end of last year was 299.1.

So not a whole lot of change there.

And on the non-current line at the end of the quarter, third quarter, 94.2 versus 75.7.

So, an increase there of 18.5 million.

So nothing particularly dramatic going on in that line, and give me a second to look through where we can find other income here.

And we'll get that one for you.

Okay.

Other income for the third quarter actually was an expense, that's a combination of a bit of a loss on foreign exchange, it was $1 million, 2.7 to the positive on interest income and 3.8 million to the negative on interest expense, some other components of other expense, $1 million to negative, again, totaling negative 3.1 on expense for the other line.

Okay.

That's very helpful.

I also wanted to get some sense, I think you guys had mentioned that in the first two quarters of this year, that the revenue that you reported would have been a little different than under the old accounting because you would have elected to maybe adopt a little more conservative methodology that involved deferring some revenue until later in the year when you can really see how the caps on certain contracts or arrangements are actually shaping up.

Could you give us some notion as to whether the third quarter of '06, actually benefited from that or alternatively whether the fourth quarter might?

Jim, I think what we were doing there is trying to match our experience with what we have seen historically now that we have been a public company for five years, so no big difference.

We were just tweaking a bit, and I think it's fair to say that that adjustment is not material, it's mildly positive, but it's not material and that should be the same sort of view for the fourth quarter.

But we're not talking about big numbers here.

Okay, I mean you're talking to me like $5 million type per quarter?

That range?

It's even considerably less than that.

Okay, great.

That's great.

Another thing I just wanted to get, you mentioned the profitability on KMV, I appreciate that.

Do you have any sense of how the stock options expense of 20 million breaks down between KMV and ratings and research?

Sure.

The majority of that is for ratings and research, I would roughly take a look at the revenue contributions of the business, and kind of think about it in line and that way would probably be the best way to think about that.

Okay.

The only -- okay, the only other thing-- I just wanted to-- just looking at the-- just circling back to that question on the cash on operating activities, the 570 year-to-date, which, to me is just an extraordinary number.

Is there anything that might have artificially influenced them, for example, I just note that, okay, that you have net income of 157 and you're talking about almost $250 million of cash flow from operating activities.

There is only 10 million, of course, attributable to DNA, so, it just seems that you got another 90 million out of there.

Can you give us some notion where all that cash-- where that derived from?

Sure, directionally, Jim, as you know, the business does have very attractive cash flow characteristics and generally the operating income sort of equals, equals our cash flow.

Let me -- the controller staff here is looking into this right now to see if we can shed anymore light on this for you.

Let's come back to here in a second.

Is there anything else we can answer for you in the meantime?

I think that will do it -- there was just another thing, the year-to-date breakdown on the U.S. and International structured, if you just have those numbers?

Okay.

I will see if I can flip that one back over to Ray here for a minute and -- .

I'm sorry, you're looking for the year-to-date breakout in -- .

In the percentage growth.

Yes.

In other words, you said for the third quarter, U.S. structured grew 18 and International structure grew 41%.

I'm just wondering if you have those numbers on a year-to-date basis?

Well, the short answer is no, I don't have it on a year-to-date basis in front of me, but what I can tell you is that first quarter U.S. grew at a faster rate than International and that held in the second quarter.

It was the third quarter where we flipped over and the International grew at a substantially faster rate than U.S.

For this, and this will help you think about the year-to-date, as I'm trying to piece together these numbers, but we do expect that the International business will grow at a faster rate than the U.S. business for the full year.

Probably a mid-teens growth number for the U.S. business versus a low 20s percent growth number for the International structured business.

That's very interesting.

That would sort of suggest that International structure stays pretty strong in the fourth quarter.

Yes, I think it will.

I don't think we're going to see the kind of growth rate we saw in the third quarter again because the comps are very tough.

Yes.

But I think we should see a good quarter out of them.

Okay.

Thank you very much.

That's all I really had.

I'll just wait to see if Linda can get back to me on the cash flow.

Thank you.

Yes, Jim, I think what we might want to note, because we have the quarter here and then we have the annual from last year.

We don't have the year-to-date.

Last year in '05, the cash flow number was 736 million, we're at 281.6 for the quarter.

I think what you might want to do is look at the filing of our Q on November 2 and maybe let's get back together then and we can talk a little bit more about it.

Okay, terrific.

Thank you, Linda.

Uh-huh.

Next, we'll go to Edward Atorino at Benchmark Company.

Hi, most of my questions were answered.

What were the shares at the end of the quarter?

The absolute share count is 279 million and, hang on just a second we'll get the diluted for you as well.

Okay.

The diluted weighed average shares outstanding is 287.9.

How about the absolute amount at the end of the quarter?

Is 279 as I recall.

The absolute count.

Thanks.

One another question, lots of press talk about the booming M&A market, LBO market, et cetera, et cetera.

Is that showing up in your corporate finance pipeline or does that show up in the structured finance pipeline or both?

Actually it shows up interestingly in both.

The bank loan number that I quoted earlier for somebody, I think it might have been Karl, has been a very strong business for us this quarter as you see the LBO funds, fund out their deals, and they move back and forth very quickly between the high-yield market and the loan market and recently have been choosing to go to the loan market.

You see that showing up in the corporate finance business.

Also, you see some of the LBOs now being funded through structured finance activities, for example, some of the businesses that have franchisees and real estate holdings go to the structured market directly, and you're seeing some discussion now of funding going to the structured market based on factories and other types of assets.

So, it's actually been very beneficial for both areas of our business, but probably particularly the corporate business.

And CDOs have also been exploding.

What percent is that now of the structured finance market, your structured finance business?

I think that's the number Ray may have.

Hang on.

Yas, I have got that for you, Ed.

In the third quarter, CDOs were 34% of our total structured business.

And interestingly, it was the same both in the U.S. and in the International business.

Thank you very much.

At this time, we is have no further questions, Mr. McDaniel, I'll turn the conference back over to you.

Okay, I just want to thank everyone for joining us today and we look forward to speaking with you again after year end.

Thank you.

And that does concludes today's conference.

Again, thank you for your participation.