標普全球 (SPGI) 2002 Q4 法說會逐字稿

Good morning, and welcome to the McGraw-Hill Companies Fourth Quarter and Full Year 2002 Earnings Call. At this time, I'd like to inform you that the call is being recorded for broadcast and all participants are in listen-only mode. At the request of the company, we will open the conference to questions and answers after the presentation and instructions will follow at that time.

To enhance the call for today's telephone participants, McGraw-Hill has made the presenters slides available on the Internet. To do that, go to http://www.mymeetings.com/nc/join. I'll repeat the URL once more for those who would like to view the presenters slides online. It is http://www.mymeetings.com/nc/join. You will be prompted to enter your name. The net conference meeting number is P as in Paul G as in Good 4544653. The password is McGrawHill. All caps. No space in between McGraw and Hill. And the event type is conference.

This call is also being simultaneously webcast from McGraw-Hill's Investor Relations website and will be available for replay about two hours after this meeting ends both by phone and on the Web for seven days. And I'd like it turn the conference over to your host, Mr. Donald Rubin, Senior Vice President, Investor Relations of the McGraw-Hill Companies. Sir, may begin.

Thank you. And good morning to our global audience and thank everyone for joining us this morning here at McGraw-Hill International Headquarters in New York City as well as those on the phone and the Web for this morning's announcement of the McGraw-Hill Companies fourth quarter earnings. I'm Donald Rubin, Senior Vice President for Investor Relations and with me today are Harold McGraw III, Chairman, President and CEO and Bob Bahash, the Executive Vice President and Chief Financial Officer of the corporation.

This morning, we issued a news release with our fourth quarter and full year 2002 results. We trust you have all had a chance to review the release. If you need a copy of the release and the financial schedules they can be downloaded at www.mcgraw-hill.com/investors_relations. I'll do that again: www.mcgraw-hill.com/investors_relations.

Before we begin this morning I need to provide certain cautionary remarks about forward-looking statements. Except for historical information, the matters discussed in the teleconference may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 including projections, estimates and descriptions of future events. Any such statements are based on current expectations and current economic conditions and are subject to risks and uncertainties that may cause actual results to differ materially from results anticipated in these forward-looking statements. In this regard, we direct listeners to the cautionary statements contained in our Form 10-Ks, 10-Qs, and other periodic reports filed with the US Securities and Exchange Commission.

We are aware that we do have some media representatives with us on the call. However, this call is for investors and we would ask that questions from the media be directed to Mr. Steve Weiss in our New York City office at area code 212-512-2247 subsequent to the call.

Today's update will last approximately an hour. After our presentations, we will open the meeting to questions and answers. It's now my pleasure to introduce the Chairman and President and CEO of the McGraw companies, Terry McGraw.

Okay. Thank you very much, Don, and good morning to everyone. If you are here in New York City, it's about 5 degrees and I want to thank the people that are here with us. Your courage -- you know, we appreciate it. Elsewhere, we thank you for joining us and we're very pleased with the announcement that we were able to put out this morning.

We released the fourth quarter earnings earlier and we look forward to reviewing them with you after my discussions focusing on the operations. I've asked Bob Bahash, our Chief Financial Officer to review any key financials with you and with that, let's get started.

We produced another year of very solid growth in 2002 with reported earnings per share of 69 cents for the fourth quarter and $2.96 for the year and we're very pleased with that performance. Our guidance for 2002 never changed. All year, our goal was double-digit growth and we delivered on that guidance. And in the process, we also were able to beat the street consensus for the fourth quarter and for the full year.

And we achieved our results despite problems in the economy, some softness in the K-12 market and an advertising market that was off substantially, especially in the first half. Our growth once again demonstrated the resiliency and the ability of the portfolio that we have created to produce this consistent record and to do so even under difficult conditions.

In producing our 11th consecutive year of growth in operations, we had another very solid performance in Financial Services, a very good year in higher education, a pickup in advertising in the second half, and effective cost controls which really were initiated early on in year 2000 as we started seeing a lot of the interest rate hikes taking up and which we have been able to benefit from both in 2001 and in 2002 and again as we go into 2003. And those effective cost controls have also helped us to improve the operating margin in all three operating segments.

In providing guidance for 2003, we are repeating the forecasts that we first made -- I guess a little less than two months ago, these were at the year end media conferences here in New York and earlier this month at a conference in California. So even with our strong fourth quarter, which unfolded as we had anticipated, and the possible dilution of three cents from the sale of last week of Comstock, we are reiterating our earlier guidance for 2003 -- and incidentally the divestiture of Comstock was well along when we first made our forecasts, so we had factored that into our guidance.

We still expect to grow EPS 7 to 9 percent, and that also includes the 5 cents noncash nonoperating charge on the rate of the return assumption of our pension plan. And we're using $2.95 as the base for our 2003 guidance, backing out the one cent gain that we achieved this past year, 2002, from the sale of MMS International. So backing out that one cent gain, we are going to use 2.95 as our base for our guidance.

In light of all the new SEC regulations on reporting US GAAP figures, we have included in our earnings release a very detailed table of all the adjustments for 2001 EPS and the gain of 2002 that I just cited, so that you can have a very clear understanding of operating performance.

Now let's take a look at the highlights of our fourth quarter performance. There were numerous key drivers in the fourth quarter. A very good performance in the ratings market, despite very tough comparisons with the fourth quarter of 2001.

As you may recall, the market surged in the fourth quarter of 2001 given the aftermath of the September 11 terrorist attacks on the World Trade Center and the Pentagon, but we still produced a year-over-year improvement in the fourth quarter and again we were pleased with that capability. We also had a strong finish in the Education market driven by growing sales in reading, testing and higher education. And we experienced continued recovery in the Advertising market both with our publications and with our television station.

Now with that, let's go to our three operating segments and let's go through those performances and we'll start with Financial Services.

Financial Services, we reported revenue for the year that grew at 9.7 percent. Operating profits increased 31 percent and the operating margin was 35.1 percent. Our revenue for the fourth quarter was up 1.9% and again that performance reflects very good gains in ratings despite the tough fourth quarter comparisons with last year which was inflated. You can see the tougher comparisons reflected in the new issue statistics for the US market.

For 2002, new issue dollar volume in the United States decreased 7 percent, largely because of the 36 percent decline in corporates and, of course, that's according to Securities Data Corporation. But in the fourth quarter new issue volume in the US market dropped 13.9 percent as corporate issuance fell 49.3 percent. We also saw slower growth in mortgage-backed volume which was up only 4.9 percent for the fourth quarter versus 22.6 percent gain for the full year.

Our structured finance business overall continued to show real strength in the fourth quarter producing 16.8 million in revenue growth. Our public finance sovereign ratings and our nontraditional products also turned in very good increases. Our international ratings have never been stronger. Overseas revenue now represents approximately 32 percent of total ratings revenue.

We had a terrific year in structured finance, both here and abroad. Consider the figures just released by asset-backed finance, that's a news letter that tracks and reports structured finance statistics.

In 2002, Standard & Poor's was the market leader for the fifth consecutive year. We rated 91 percent of the US asset-backed and mortgage-backed issues in 2002 and that's up from 87 percent in 2001.

But we also had some offsets in the fourth quarter which included cutbacks in the financial community and some cost containment there that affected the performance of some of our investment products, some softness at corporate value consulting, largely due to the absence of a -- mergers and acquisitions in M&A activity. Also in the fourth quarter this years we did not have the benefit of the revenue of MMS International which was divested in September of 2002. These same factors had a bearing on operating profits in the fourth quarter.

Foreign currency fluctuations were also a factor in 2002 results. In addition, there was the impact of the pre-tax 43.1 million restructuring charge in 2001. In looking ahead, we remain confident that Financial Services will produce double-digit top and bottom-line increases in 2003, and we're off to a very good start.

We expect another solid year of growth in international markets; namely, Europe, Japan, Korea, the Pacific Rim, and Canada. Should all produce solid gains in 2002, global markets grew at a strong double-digit rate.

We expect continued strong growth in our non-traditional products and services. These products grew at a strong double-digit rate in 2002, as well. The demand for bank loan ratings, ratings evaluation services and the financial strength ratings continued to grow here and abroad.

In structured finance we expect another year of solid growth with international markets leading the way. The outlook for residential mortgage-backed securities is expected to remain strong at least through the first half, given the continued low interest rate environment, we'll watch that.

We expect commercial mortgage backed securities to be strong and we expect that to be strong here as well as outside the United States, and we're looking for strong growth in the collateralized debt obligation market overseas and asset-backed securities will also continue to grow driven by a flight to quality, credit cards, and auto securitization.

Corporate issuance will benefit from the improvement in economic fundamentals later in the year, which will lead to better business sentiment and some increases in capital spending, but the early signs here -- and this is one to watch, the corporate are the ones to watch, and the early signs in this corporate market are very encouraging.

The municipal market also shows promise as state and local governments turn to the public market largely to help meet those general infrastructure needs and for refinancing in this low interest rate environment. As you have undoubtedly noticed, we have been divesting businesses at Standard & Poor's as part of a strategic refocusing on fewer, better opportunities and improved operating results. The divestiture of Comstock was preceded by the sale of MMS International, DRI, the shutdown of Blue List, and the transfer of rational investors. Our objective is to continue building our more profitable and faster growing index and investment service businesses.

More investment managers are using our content as S&P continues to innovate with such concepts as the global industry classification standard for our indexes and S&P core earnings. Wall Street increasingly recognizes the S&P analysts that have created a terrific track record in the equity research area. The cumulative performance of the five star stock selection shows a gain of just under 900 percent, 884.7 percent to be exact -- between December of 1985 and December of 2002. For the same period the S&P 500 was up 263.3 percent.

We are actively exploring ways to market our independent research. We are in active dialogue with many of the major Wall Street firms on how our research may address needs created as part of the recent regulatory settlement.

Assets under management in exchange traded funds based on S&P indexes hit 63.2 billion, a 30 percent -- a 30 percent increase over the previous year in what could be obviously labeled a very challenging year for the markets.

We continue to find new ways to build our index businesses through the creation of new funds and derivative products. For example, we launched an S&P small cap futures in November on the Chicago Mercantile Exchange. In December, we signed an agreement with the International Securities Exchange and the Pacific Exchange to trade options based on the select sector spiders. We created a new broad benchmark for Japan called the S&P Japan 500, and that's gaining attention and we have developed a new custom index for French securities that Credit Lyonaisse will use to create a fund. I can assure you there are a lot more in the works and we'll keep those in front of you as the year proceeds.

Summing up for the financial services market double-digit growth in 2003, strong growth in international markets, and in nontraditional ratings, expansion of our indexes, and our goal is to achieve 2002 operating margins in 2003.

I should note very quickly before leaving Financial Services, make a brief comment on the SEC report on credit rating agencies that was issued yesterday. We're very pleased with the report; there were no surprises in it for us. I said many times before and will repeat we have a -- as part of the whole process here, we have a very good relationship, a very productive and cooperative relationship with the SEC, and we -- we enjoy that relationship and that will continue.

We were very pleased that the report also put such emphasis and recognized the vital importance that credit rating agencies play in the whole process of capital information and global capital markets and obviously we welcome any process that works towards getting higher levels of transparency. So we were pleased with the report. There was no surprises to it and we were appreciative of some of the language that talks about the role that credit rating agencies play.

All right. Let's go on to the Education segment.

The McGraw-Hill Education, revenue for the year increased 1.5 percent, operating profit improved by 26 percent, and the operating margin was 14.1. There are two major units in this segment. One is the whole school education group, the other is the higher education, professional and international group.

Let's start with the school education group and this serves now the Pre-K through 12 market.

The school education group finished the year with a 13.1 percent increase in revenue in the fourth quarter, although revenue declined 2.3 percent for the year we outperformed the K-12 market where we estimate 2002 sales will probably be off somewhere in the 4 to 5 percent range.

We captured 32 percent of the 670 million new adoption market. In 2001 we took 29 percent of this market. In 2003, the new adoption market will start growing again after a 25 percent year over year decline in 2002.

We produced our fine record in 2002 by leading the K-12 market in science and social studies and with a strong performance in language arts. In the California K-8 reading adoption Open Court, that's our research-based phonics program, it helped us capture more than 33 percent of that market. Open Court made major new sales to 117 schools in Los Angeles where we already are the dominant program in reading. Capping this fine performance was a fourth quarter sale worth $7 million to Long Beach and Long Beach is the third largest school district in California.

We also had the biggest quarter of the year in testing in the fourth quarter, again business in California was quite strong. We made our first sale as the test provider under the new California Star contract. We also supplied materials under the newly extended California English Language Development contract.

In looking ahead, it seems to us that some of these important trends might be being overlooked somewhat in the Pre-K to 12 market.

One, it's very clear education remains, with the exception of Homeland Security, it remains a top priority, a critical priority in the United States despite all that you've heard about funding issues in state budgets. Secondly, when No Child Left Behind, the federal act, was passed a little over a year ago, we said it was going to usher in a decade of reform in US education and we're seeing it. Today you can see that the legislation starting to have a real impact. And second -- and thirdly, it is still in the early days of Reading First and the Reading First program, but here, too there's some very encouraging signs of activity. Let's take a look at each of these trends in a little bit more detail.

Despite all the noise in the marketplace about state budget problems and new taxes, it is worth noting that a key state like Florida is planning for an increase in the purchase of educational materials. There is actually a 5.2 percent increase in Governor Bush's recommended budget for the fiscal year starting next July. Even in hard-pressed California, there is hope because the political leadership there is trying to protect education. We could still see some reduction in the budget for instructional materials but I don't think it is going to be anywhere near what some of the critics have been talking about. In fact, I think it's going to be very marginal.

Another factor in California is the adoption schedule. There is no new adoption there this year and this is the second year of its reading adoption, approximately 60 to 65 percent of that opportunity was realized in 2002, and in 2004 California is next scheduled to buy health.

We are at the start of the budgeting process in most states for a new fiscal year which is starts -- which starts for most of them on July 1. It will take a while for that picture to emerge. We are going to watch that one very closely but you can see some measure of the importance of education when many of the 24 newly elected governors taking office this year came into office, promising free Pre-K programs if they were elected and running focused on educational reform and the importance to job creation and economic growth in their particular states.

Secondly, the newly mandated emphasis on accountability and assessment means educators must produce results. When superintendents are measured by improvement in student achievement, which is what it's all about you begin to see changes in behavior.

Just in New York City last week, you saw what can happen when accountability and reform are linked. Mayor Bloomberg recently won what many of his predecessors obviously failed to obtain, and that is control of the New York City school system. The result for the first time in decades, the mayor's hand-picked chancellor decided that the vast majority of New York City schools will use the same materials to teach math.

This is a whole notion of standardized instruction and the whole emphasis that's being placed on urban education, the largest and the biggest area of need and the focus of what the No Child Left Behind act is on.

In the Mayor's Children's First reform initiative, New York City is eliminating the multitude of different math programs now in use. The to facilitate the change, 80,000 teachers now in the system will receive intensive training just in that particular discipline. The city will start implementing the multi-million dollar program when the new school year starts next September.

The decisions in the -- in New York City also mean new business for McGraw-Hill school education group. Our program, Everyday Mathematics, has been adopted for grades k-5. We attained this outstanding program by the way as part of our Tribune education acquisition. Another one of our programs Impact Mathematics, will be used in grades 6-8.

In selecting new programs for New York City schools, the chancellor said he is committed to delivering these excellent instructional materials as part of his effort to improve the quality of education in the city.

Accountability as mandated by the federal bill also means more testing and providing the results to the public. The public disclosure.

Our testing business is positioned to provide comprehensive testing at both the state and at the school district level as states build new accountability systems to test students in grades 3-8, we will provide full service support. We are the primary assessment provider in Indiana, Colorado, and New York, three of the first five states whose accountability systems have already received federal approval.

States will continue to require support in managing many aspects of their assessment and accountability systems, including research, alignment, development, production, scoring, reporting, and most importantly, tracking. We can also provide strong support for the annual yearly progress requirement and we can do that with our new Web-based tracking system and we have the software to help disaggregate the assessment data which is all so important making sure where some of the intervention and some of the remedial initiatives need to be focused.

We have already started providing online tests to school districts looking for solutions that will close achievement gaps as well as making annual yearly progress against state standards. We're a full-service test provider and I hope you can understand why we expect to fully participate in the growth of this testing market that we see doubling over the next five years in large part with a lot of the funding come out of the No Child Left Behind Act.

Thirdly, I said the Reading First program is showing signs of activity with the addition of Ohio last week, applications from 24 states and territories have now been approved by the United States Department of Education for Reading First funding and again, under the new federal act, that means we only have about half the pitchers so far and even that half is still emerging.

But here's some developments that you should know about. In the whole area of funding, the 24 states and territories have been granted 470 million for the 900 million authorized for the first year of the program. With respect to administration costs, Department of Education officials estimate that about 20 percent of each state grant will be absorbed by the state education agency for administration and technical assistance. The local education agencies receiving sub-grants will budget about 3.5 percent for administrative costs.

In terms of spending priorities, this is more difficult to assess but will certainly include reading programs, fee-based professional development -- teacher training -- reading assessment and supplementary materials. We have products obviously and services in each of these categories.

And with respect to approve list, there is no official list of approved or recommended programs at the federal level. Applications are screened to ensure that they are based on scientifically researched-based methods that are being employed. Some states have established lists of approved or recommended materials for the guidance of local education agencies while others have left the program decision-making up to local education agencies themselves.

Our Open Court program has been included in every approved or recommended list that we know about. That includes Alabama, Arizona, California, Colorado, Florida, Illinois, Michigan, Mississippi, and Washington. Reading Mastery has been approved or recommended for grades K-3 in Alabama, Washington, and Mississippi.

McGraw-Hill Reading is on the recommended list for grades K-3 in Arizona, Colorado, California, Illinois and Mississippi and the program is on the recommended list for grades 2 and 3 in Alabama and in Washington.

Breakthrough to Literacy which is a comprehensive computer-based program that includes instruction, professional development, as well as assessment, is on several state lists and proposals have been submitted by a number of major educational agencies.

Fox in a Box, it's a test for Reading First assessment. It's now been approved by Florida, Colorado, Montana, and Wyoming.

Terra Nova, another of our tests, has been approved for Reading First lists in New Jersey, North Dakota, and Pennsylvania, and obviously in all these cases we expect more.

Now, that's an awful lot about, you know, those issues and those funding capabilities and a lot about the No Child Left Behind Act and the early signs of the activity in the marketplace but we think it's important that you have some insight into the range of activity and how we are tracking these new opportunities that are developing for us this year and will continue and we'll keep those in front of us. The funds are there and we believe that more will be forthcoming for Reading First states have until next July 1 to apply for funding that Congress appropriated for the Department of Education's fiscal 2002 budget.

$1 billion for Reading First is part of the fiscal 2000 three appropriate operation. Now, that's been passed by the Senate. It is now headed for conference in the House. We expect a decision on those appropriations probably sometime next month.

By early February, we will also learn what President Bush is proposing for fiscal year 2004. We expect continuing strong support for a program that was launched with broad bipartisan support. And brought governor interaction.

Okay. Let's shift over to our higher education, professional and international group. This group's revenues grew by 7 percent in 2002 to just over $1 billion and capped a successful year with an 11 percent increase in revenue in the fourth quarter. We have three major imprints, three major organizational groupings in the higher education marketplace. We're organized around business and economics, science, engineering, and mathematics and humanities, social science and language.

All showed improvement in 2002. We've listed some of our best sellers in the earnings release. So I won't go through all of that but I would point out that we have a very big healthy and growing business in the least cyclical part of the education market.

Final industry figures for the year are not in for the market, and a strong December close now makes estimating a little bit more uncertain but we think we will finish at or above the industry's final growth figure for 2002 which is probably in the 10 percent range now and could be higher.

For 2003 we expect the industry to grow six to seven percent and will continue to look at that number, but we're thinking somewhere in the six to seven percent range. And we expect to improve our share.

The higher education market is growing globally so we've enjoyed a very good year in international markets.

Professional markets were a little bit different. They were impacted of course by the continuing decline in spending for information technology and personal computers and so forth. That curtailed the growth of a lot of our computer book areas both here and abroad.

So summing you want for the McGraw-Hill education, we outperformed the K-12 market in 2002. We're pleased. We had another very good year in higher education. We expect to outperform the industry in 2000 it through 2003 in the K-16 market which will grow to 2 to 4 percent at the K-12 level and 6 to percent in higher education.

Let's go to our third and final segment, the information and media services segment. Revenue here for the year declined 4.3 percent but operating profits increased 81.6 percent. Again you have to play with year-over-year comparisons having a very low year coming out of 2001. And the operating margin was 14.6. A tough year in the advertising market but coupled with rigorous management of expenses, were key to our results in this segment in 2002.

As part of a year-long drive to contain costs, and literally dating back to Year 2000 where we began this, but in 2002, about 400 positions or about 10 percent of the segment's total employee population were eliminated. That's obviously a very, very difficult task to go through. This segment's management team, I believe, deserves a lot of credit for the way they have met that challenge and will continue. As a result, we ended the year with an iron grip on costs and prepared to leverage the developing upturn in markets.

We started seeing signs of an upturn in advertising in the second half of 2002 led by broadcasting. The broadcasting group's revenue started improving in the third quarter. The fourth quarter grew by 18.2 percent and broadcasting finished the year with a 3.6 increase to 193.2 million. About $10 million of that 2002 revenue was political advertising.

Business Week also finished the year on a positive note with a 6 percent gain in ad pages in the fourth quarter. According to Publishers Information Bureau statistics, Business Week ad pages declined 12.1 percent for the full year, but even with one less issue last year, the publication maintained its market share. We're pleased with that.

Revenue for 2002 declined by 5.5 percent to 700.1 million in our business-to-business group. That includes Business Week as well as our vertical operations in construction, energy, aviation and healthcare.

In looking ahead, we expect a recovery in the advertising market and we're encouraged by Business Week's early showing in 2003. After three issues in January, Business Week advertising pages are up 11 percent. We're seeing the return of some major advertisers in technology and there's some strength in automotive advertising in both Business Week and broadcasting and you can see just a sense of general health as you read the publication as you see more new product introductions there.

Therefore, summing up for the information and Media Services segment, very tight cost controls will continue to be in force. We'll help produce margin improvement for 2003. We expect to see an upturn in the advertising pickup in 2003, and even though it's early on, we're seeing some encouraging signs.

Okay. Those are the three operating segments and therefore then for the corporation summing up, we expect to report another very good year in 2003.

Our guidance for EPS growth is 7 to 9 percent, again which includes the 5 percent noncash nonoperating charge to the pension plan, and let me very emphatically emphasize that we aspire to a double-digit increase.

We will maintain a tight grip on costs. Cost controls are very important and we are going to be very selective on holding those increases.

Funds from the No Child Left Behind Act will start to make a difference in the education market in 2003. We expect a double-digit growth in Financial Services. And we expect margin improvement again in our Information and Media Services area.

Okay. That's a completion of the fourth quarter and the full year 2002. And some of the things that we are looking at for 2003, let me turn it over now to Bob Bahash, who will walk through some of the financials here and give you some of the guidance in that area. Thanks.

Thank you, Terry. Good morning.

The corporation maintained a strong financial position in 2002 and we plan to continue that performance in 2003. Now let's look at the -- some of the measures of that performance.

We ended the year with debt at 578 million. That is 478 million lower than it was at the end of 2001 and 585 million lower than the 2002 peak level which occurred at the end of June and that peak level was a 1.163 billion. We continue to benefit from lower interest costs. Virtually all of our debt is in regular commercial paper at very favorable rates.

The average interest rate on our commercial paper borrowing for the year has declined from 4.4 percent in 2001 to 1.9 percent in 2002. We expect average interest rates on commercial paper to remain flat in 2003 with our 2002 average rates. Also at the end of December, our outstanding commercial paper had an average weighted maturity of 124 days.

Interest expense in the fourth quarter decreased 65 percent to 3 million from 8.6 million last year. For 2002, for the year, interest expense was down 59 percent to 22.5 million from 55.1 million in 2001.

Just a few weeks ago, we signed an agreement to sell our S&P Comstock business to Interactive Data Corporation for $115 million in cash. The divestiture is in line with our strategic focus on pruning noncore Financial Services assets. Under the agreement, S&P will ten to feature Comstock market data in a variety of products and services and Comstock will continue to distribute S&P information. The deal is expected to close in the first quarter of 2003. We estimate that divestiture will dilute earnings per share by -- in 2003 by three cents due to the removal of Comstock earnings from the corporation. Now, as Terry has stated, the dilution was anticipated when the corporation made its 2003 earnings forecast last month.

The provision for income taxes as a percent of income before tax was 36.3 percent in 2002, and 38.7 percent in 2001. The 2002 effective tax rate reflects the impact of the divestiture of MMS which lowered our rate by 1.2 percentage points. We expect to return to our blended tax rate of 37.5 percent for 2003.

Now, we continue to focus on ways to reduce costs. As part of our overall cost reduction efforts, we focused on manufacturing which includes paper, printing, postage and distribution. We reduced manufacturing costs by 3.6 percent, or 17.4 million in 2002. We expect a modest decrease in these expenses, modest increase, excuse me in these expenses for 2003. In general, manufacturing expenses constitute approximately 20 to 23 percent of our operating expenses.

Now let's look at some of our other costs.

Republication costs still represent our biggest single investment each year. We spent about 67 million in the fourth quarter and 249 million for the 2002. The full year spend is 15.4 percent below 2001 and the decrease is primarily attributable to a less investment intensive adoption schedule for us for 2003. Now, as we look out into 2004, the calendar is a little bit more robust, and we expect to spend $285 million in 2003.

Our capital expenditures for the fourth quarter came in at 34.7 million and finished the year at $70 million down 40 percent from the level of a year ago. For 2003, we are expecting about 175 million. Now, that's an increase of a little bit over $100 million. That figure includes almost $60 million for real estate primarily for the completion of our new 12-story building in London's Canary Wharf.

I also want to point out a relatively new line in the cash flow statement for technology projects. In 2002, we spent $55.5 million on these projects. The global transformation project for McGraw-Hill Education is a major undertaking and accounts for most of the dollars in this category.

To simplify our business processes for the entire McGraw-Hill Education group we are in the process of reengineering our systems for customer service, production, inventory and data management.

Our program in Canada is operational. While we continue to do some of the fine-tuning, we are fulfilling orders, billing and managing accounts receivable.

Our US design effort is progressing with teams focusing on key processes. However, this is a very complex implementation because of the many different business units in the US. We now anticipate US launch beginning in the spring of 2004 instead of the fall of 2003. There is a possibility we might have a couple of units for a US pilot in 2003 but that's -- that's uncertain at this time.

The total cost for the project is now anticipated to be $140 million versus the previous estimate that we shared with you the last time of $100 million. But I do want to emphasize that we still anticipate substantial savings when the project is completed.

Depreciation for the fourth quarter was 22.4 million, which is 3 percent less than the same period in 2001. It was $90 million for 2002, roughly a 1 percent increase over 2001. For 2003, we're estimating a little over 100 million.

Amortization of prepub costs was 47 million for the fourth quarter, and 280 million for the full year which is an increase of 16.7 percent. We anticipate about 280 million for 2003.

Amortization and goodwill and intangibles declined 60 percent to 9.7 million in the fourth quarter and, of course, declined 58 percent to almost 39 million for 2002 versus the same period of the previous year. And these reductions reflect the company discontinuing amortization and goodwill in accordance with Statement of Financial Accounting Standards number 142.

The full year 2002 impact was 56.6 million, pre-tax or approximately 8 cents that we have been communicating to you all year. Now, for 2002, we expect about 40 million for the amortization of intangibles which is about the same level as 2002 .

Through our share repurchase program, we bought back 2.2 million shares in the fourth quarter. For the full year, we repurchased over 3.2 million shares at an average price of $61 and the total cash outlay was just about 196 million.

Now let's spend a moment on free cash flow. Cash provided by operating activities for US GAAP for 2002 was $1.114 billion but, of course, we described free cash flow in a much broader fashion going beyond operating cash flow. We define free cash flow as what's left after the following items: Investment and prepublication costs, which was about 250 million in 2002; capital expenditures of 70 million; additions to technology projects of 55.5 million; dividends paid to our shareholders, 197 million; the exercise of stock options, 77 million; and other adjustments primarily impacted by foreign exchange, about 14 million. Now, that results in free cash flow of 661.8 million for 2002. An increase of almost 25 percent over 2001. Now, several factors really propelled the cash flow provided by operating activities to be reaching to this high level.

Now, these factors include lower working capital usage as we focused on reducing inventory and accounts receivable. We reduced days sales outstanding by almost 11 days in 2002. Lower interest expense due to lower average debt levels and interest rates. And lower prepublication and capital expenditures. Absent these factors, we anticipate free cash flow as we define it to come in around 375 million for 2003.

The 2003 free cash flow is influenced in part by the 105 million increase in capital expenditures of which the Canary Wharf real estate project is a major contributor. Free cash flow is available to repurchase stock, make acquisitions, and repay debt.

I'd like to conclude with an update on our change in the pension accounting assumptions. Terry had mentioned these, as well.

Effective January1, 2003, we adjusted our return on assets from 9.5 percent to 8.75 percent and our discount rate on our retirement plans from 7.25 percent to 6.75 percent. This change is nonoperating, noncash adjustment, and it reflects the impact of three down years in the broad market. It's important to note that our pension plan is currently in an overfunded position and no cash contribution was needed in 2002 and will not be needed in 2003 or the foreseeable future. The change will impact as reported earnings by five cents per share.

Thanks and now back to Terry.

All right. There you have it. Again, I think that, you know, even with a lot of the uncertainty in markets and funding budgets and all of those kind of things, that we're seeing a little bit clearer in some of the visibility for our markets. And we think 2003 is going to be another solid year of growth for us. And there is a few ins and outs and those are the earnings release that we can go through any aspect of those. I'm also, you know, obviously very pleased with the free cash flow picture -- in terms of our ability to continue to do the kinds of things that improve upon that.

And I also, you know, have been asked questions about the 5-cent noncash nonoperating charge on the pension accounting assumptions. I'm very pleased in the leadership position that we have taken early on to do the things that are right. We don't need a law to tell us to do the right thing. And I like very much that in terms of the entire house that we will represent those things and, you know, promote and enhance transparency and a clear understanding of what operations are doing. Okay.

With that and the picture for 2003, we're open to go in any direction you like.

Thank you, Terry. Just a couple of instructions for our guests here in the meeting. Please use the microphone when asking your questions so that our phone participants can also hear the question. Be sure to state your name and your affiliation. You may signal Sam who has the mike when you have a question so he can bring the microphone to you.

For our telephone participants, please press Star 1 to indicate you wish to enter the queue to ask a question. To cancel or withdraw your question, simply press Star 2.

If you have been listening through a speaker phone but would now like to ask a question, we ask that you lift your handset prior to pressing Star 1 and remain on the handset until your question has been answered. This will ensure good sound quality. I will now start with our questions and see if there's any in the room.

Doug Arthur, Morgan Stanley. Terry, three questions. The fourth quarter operating performance in Education, a quarter which you often, you know, take a loss in because of an investment for the next year, those results were unusually strong, you cited a number of reasons for that. Was there anything unusual in education from a timing point of view spillover from Q3? That's the first question.

Second question, some of your peers in the weekly magazine area have cited very tough pricing conditions right now. Is that impacting rates at Business Week?

And then finally, Platts, the news keeps kind of buckle up on the California energy price situation. Can you comment on that outlook? Is that going to be an issue in '03? Thanks.

Terrific. Thanks, Doug. Yeah, the fourth quarter, uhm, was a little bit a surprise to us. -- early on in terms of the strength. We started to see it across the board. And there was some late funding and I think some of that had to do with some of the confusion at the state level in terms of trying to think through the federal bill, what programs literally would be acceptable, you know, for federal dollars and the like.

So I think there was, you know, some hold-back in terms of trying to figure out, you know, some of the new requirements. But we also saw it across the board. We saw it in the, you know, in the science area. We had tremendous strength. We certainly saw it in terms of the reading area, in particular with SRA and Open Court, not only in California but also in terms of our contract that we achieved in Detroit. As well. And we'll see those programs continuing to do well.

We also did a lot better than originally expected in testing as the testing opportunity continues to, you know, show, you know, enormous opportunity and strength for us on that one, and so that was another area.

The other area that, you know, I was very pleased with, uhm, was in the supplementary area which is a little bit more susceptible to impact in economic conditions that are waning and we saw some improvement in the write group especially in areas of some of the early childhood learning like Breakthrough to Literacy, so we were very pleased with that.

Timing-wise, there's always a little bit, you know from one time to another, we watch all of that very carefully obviously, you know, you get a -- June and July, you've got a big period and so you are always trying to, you know, equate, you know, what the total opportunity is and work through the timing. But there wasn't that much more, you know, from a timing issue coming for third quarter. It was really more strength in terms of some of the core areas and again I think it had to do more with, you know, some of the holdback at the state level in terms of some -- trying to figure out what the education bill and what some of the things could go for.

Pricing of Business Week doesn't seem to be an issue at all. As you know, we have raised rates and we've also increased circulation. And I think that's a very healthy sign. We pulled through.

We're starting to see, you know, we're off to a, you know, we finished with the fourth quarter with a, you know, with, you know, a pretty good performance and we started to see some recovery there and it was again across the board with some exception in technology area. As we come into the new year, we have seen new issues in the technology side and we've also gotten as we were saying some strength on the auto, as well. So we are, you know, keeping our share and we look to increase it. And so we're off to a good start on that one, perhaps a little better than I thought.

Platts, and the situation, you know, with lieutenant governor of California, he, uhm, you know, his initial inquiry was, or his inquiry here is a personal one. It is not coming from the State of California.

I think that there is some confusion as to the pricing issue, you know, for Platts and how that gets done. We're very satisfied with, you know, our process and procedures, and you might see some news relating to that fairly soon.

But, you know, we're not concerned about that. We have watched that very carefully. This has to do with how prices are developed in the markets. Okay. Yes?

What are your margin assumptions for education for this year? Just to refresh my memory, the higher prepub costs don't flow through the income statement. So... that aside, what are the --

Right. You are going to see, as you saw coming -- from Bob's numbers, you are going to see a flat number coming into '03 here. Margin assumptions again would be at this point to the 15 percent mark. And, you know, as we get into the year and we see, you know, what strength and where, we'll be able to give you an indication of, you know, further guidance on that. But obviously we're shooting for [INAUDIBLE]

John [Cornrice] of Sandler Capital. Two questions. As you know, there's a lot of hurt out there in B-to-B land. Could this be a year of acquisitions for you in that area? And secondly, just a quick numbers question. I don't understand the numbers given for Cap Ex. I mean, is it -- in '02, was it 70 million or was it 70 plus 55 million, or 125 million? And what is the '03 number? Is it, uhm, 175 plus another 55 for technology projects?

The Cap Ex in 2002 was 70 million. In 2003 it would be 175 million. What I was saying was a large piece of the increase, the $105 million increase, a large piece of that related to 55 to $60 million for our Canary Wharf development. So it's 70 million one year, 175 the next.

Correct. Thank you.

John, the -- on the question of B-to-B and really, even more broader than that it is a difficult environment and I think that we're seeing and we'll continue to see a lot of organizations focusing on, you know, core directions and whittling back. We have capacity and we're obviously looking at things all the time and if there's something that, you know, that can tuck into a particular area where we can, you know, leverage the cost structures and be able to, you know, generate that kind of return, we're looking very hard at those.

There are a lot of broader opportunities that we are looking at on a global basis, as well. And on that point. But we don't comment on any speculative notion of acquisitions and the like, but we're always trying to build core properties. And I think that you will see increased activity in the market as people start to focus on more core property.

We have a question from the audio portion from Lauren Fine with Merrill Lynch.

Great. Thank you. Just a couple of quick questions. I'm wondering if you could tell us in the fourth quarter for the financial service segment or for the company as a whole what revenue would have looked like excluding or adjusting for divestitures and I'm wondering if you can geneva you a accepts, I know you don't like to break out within the Financial Services segment the ratings versus information but if you could give us a sense of their, you know, growth rates relative to each other and a sense maybe of the margins on the information side now that you have sold some of the businesses there.

Well, good morning, Lauren. Let me turn that over to Bob. But let me tell you on the fourth quarter Financial Services on the revenue component, you know for the fourth quarter that again it was skewed and we are really looking at the second half versus the second half to get a growth comparison there. And in terms of some of the breakout of the divestiture, we have given, you know, the approximate size of those but we haven't disclosed any particulars on what the before and the after would be on that. Bob, do you want to....

Yeah. Lauren, the revenue growth for Financial Services for the year was 9.7 percent. If you exclude the impact of MMS and DRI from that, the growth rate would have been 12.2 percent.

Okay. And is there a way maybe to look at 2002 margins for the segment adjusted for divestitures?

Well, let's see. Let's put it this way. The margins would have been higher if we had excluded both MMS and DRI, both those businesses were operating at relatively low margins. Without getting into what the specifics were, Lauren, I think it's very safe to say that we would have had improved margins.

Okay. And one last question if I could. Terry, the New York math textbook situation looks very positive for you but is that a 2003 event where they will order those books or is that a 2004 event?

Both. You know, in terms of the way it's going to be, you know, exercised, it will start this year. And it will continue into '04. And again, it's a very interesting, you know, concept that they have gone to from the 40 school districts to the 10 instructional centers and how they are going to standardize instruction. And certainly, they are starting with a whole math area.

The trick is going to clearly be the teacher training issue. And the funding for that. And we're working with the City in terms of developing concepts for that but we're very pleased with the direction that they are taking and we're very pleased that Everyday Math in particular is a part of the -- Impact Mathematics as well on that part.

Great. Well, thank you.

Thanks, Lauren.

Our next question comes from Steven Barlow with Prudential Securities.

Good morning.

Hi, Steve.

Wonder if you can talk a little bit about the revenue mix on K-12. In the past you have talked about supplemental and testing being about 40 percent. Can you give us an indication of what it was in 2002, your thoughts on 2003, and then if you could talk about the relative margins between supplemental testing as one piece, versus the basal textbooks on the other?

Okay. You know, again, what we have always said it was that the supplemental and testing, you know, as a rule of thumb, is about 40 percent of the total K-12 spend. What you at any given point in time depending on things that are influencing that, you know, and the robustness of the adoption schedule or whatever, you are going to see that number, you know, fall into a range.

You think -- I think it's safe to say that roughly that range would probably be in the 35 to 40 percent area on this one, and so whereas a year ago, we were closer to 40 percent, we were a little under that this year. But again, in terms of a rule of thumb would hold to the 40 percent. But with a -- it was a little below that for this year.

The testing emphasis as we go into '03 and the push for supplementary materials, especially in the early childhood learning, as well as some of the remedial and intervention kinds of needs, I think, you know, would be back up to more 2001 level on that part. It's going to be a very important component. But I would -- I would stick at this point with the 40/60 rule of thumb.

And then margins?

Right.

In terms of margins, is there any differential or what is the differential between those two --

Well, margin level on the supplemental and on the testing is obviously at a higher level. And they are a little bit higher growth and higher margin businesses to begin with and again, I would expect that relationship to continue especially as we see some of the new initiatives on the testing side.

Okay. And then just going back to Lauren's question, can you give us a total amount of the revenues of MMS, Comstock and DRI that were sold then in those three deals in 2002?

Okay, Bob?

okay, Steve. For 2002, the MMS revenue was about 25 million. For 2001, the revenue for MMS was just about 42 million, for DRI was about 12.5 million. Now, that -- I only gave those numbers when I quoted the margin improvements. I did not talk about Comstock because that business has not been divested.

But it's safe to say without getting into what the revenues are for Comstock, the revenues were lower in 2002 than they were in 2001. But I really just excluded those two items, MMS and DRI to come up with the 12.2 percent revenue growth rate. Obviously, the revenue growth rate rate would even be higher if you exclude Comstock.

Thanks very much.

Thank you, Steve.

Our next question comes from William Byrd with Salomon Smith Barney.

Terry, given S&P's rating backlog, how do you see the year starting out? And second, uhm, on education, how does your 2 to 4 percent LI growth estimate break down for '03 between adoption territories and open territories? And what proportion of HR-1 funding do you think will supplement rather than supplant some of the state spending? Thanks.

Okay, Bill. Let's see. On the S&P forecast, you know, again, you know, as we said, we're not giving, you know, quarter by quarter guidance you know, on this one, just full year. But clearly, the -- as we all know the relationship between the quarters, the first quarter's a very very small quarter, and the major play in that is on the financial side.

We are looking for some advertising continued recovery there, the education as you know runs at a loss and you make your money in the third quarter. So again, a very small component there, and I think the year will, you know, start a little slower and build to that point.

For Financial Services, we're off to a very good start. The structured finance market, both asset-backed and mortgage-backed, is doing well. We are also, you know, looking at a continuation of a strong municipal market and we're benefiting nicely from that. We're also benefiting early on from some activities in the corporate area, and the corporate area being an area that has been so hard hit, we expect that to benefit this year and it's pleasing to see that coming on quickly. So that's one that we want to watch very carefully.

Also, we've got continued emphasis and doing well with the bank loan ratings. That's carrying over from last year -- as well as rating evaluation services. Which is doing very nicely.

So all in all, we're off to a very good start with Financial Services, and I expect this to be, you know, a very good year for them overall.

With the growth rate in the market that we're projecting being 2 to 4 percent for K-12, that takes into account, you know, it's more of an educated guesstimate. It's taking into account the current adoption schedule. It's taking into account we do expect open territory sales to improve.

But also, in terms of the new federal monies that are going to increase the overall opportunities, and especially in areas of early childhood learning and testing. We think that we will do very well with. So the 2 to 4 is an all-in number thinking of what the market capability is going to be able to do.

Clearly, our intention, you know, is to outperform that. And we fully expect to do so. And, you know, we'll watch that guidance as we get under way here. And, you know, we'll see if we need to, you know, to alter that in any way. But right now, I think, you know, going through the year one certainties, and so forth, 2 to 4 is a pretty good number.

In terms of supplanting and supplementing and in terms of the federal monies coming in, you know, I think that regardless of what anybody says, I think there's clearly going to be some supplanting.

You know, the question becomes, you know, are you going to be able to achieve the results that the federal standards are going to call for in terms of those programs? And are you going to be able to demonstrate that you've got programs that are research-based that are working with that one?

So I think initially, you know, you could see some of that over a period of time it's not going to be -- it will be supplementary because you'll have to be able to prove those kind of results. But the notion that the pie is bigger in the current situation certain programs that have been adopted could qualify for some of those federal dollars.

Terry, do you have a sense of how much of the HR-1 funding was actually spent in '02?

No. The most -- what do we have, Don, at this point? What's the best guess we have on that?

Well, of the Reading First money, the only thing we can really see is the $20 million order we got in Detroit last year. That seems to be the single largest --

That's Open Court Bill.

Yes. Other than that, I think some money has been spent on administrative and training purposes, but very little for materials '02. The bulk is yet to come.

We, you know, Bill, as we talked throughout last year, you know, what we saw was tremendous confusion at the state level in the June-July period, and I think that was what really influenced the market numbers, the K-12 market numbers in June and July, which as now were off in both months about 11 percent -- because they didn't know what programs were going to qualify and what could be used and how the monies could be spent and how quickly they were coming. So I think we'll see if we can get a better number on that one, but, you know, I think it's safe to say that it is a relatively small number to the -- obviously to the opportunity. We fully expect it to be funded in '03.

Thank you.

Our next question comes from Peter Eperch with Goldman Sachs.

Hi, good morning, Terry. I'm wondering if you anticipate any meaningful costs in '03 and beyond coming out of this SEC investigation? I'm thinking specifically of just higher compliance expense or some costs associated with having to change the way you do business in response to the SEC's investigation. That was question1. And then number 2, on the CBC results which I guess were a little bit disappointing, I'm wondering if you could quantify for us what their revenues were this year and what programs are in place if any to try to enhance its performance.

Okay, thanks, Peter. No, on the SEC component, we were very pleased with the report that was put out. There were no surprises. Again, we have a wonderful relationship with the SEC. We work very carefully with them.

By the way, we work very carefully with their like agencies around the world, you know, for the credit rating side, you know, you're talking about obviously a very global business, and having those, you know, very good relations with those agencies is very important. So there was no -- these are issues that we have discussed, you know, on and on many times. And I think that in terms of the overall process, the push really is to where you can, you know, increase transparency and we're all for that. I don't see, you know, materially much changing, you know, from the original conduct that we have now -- on that one. And so I do not see, you know, higher costs or the like.

I think, you know, the, you know, a lot of this has put a lot of emphasis on the role that credit rating agencies plays and the critical role that they play in the capital markets, and I think, you know, in one sense that's been quite good because I think there's a better understanding and a clear notion of the role and the function that they play.

With CBC, Bill, again, most of the issue there is having to do with market-related activities or the lack of. And again, we've, you know, had a smaller market for M&A activity at this point which is a big portion of what their valuation work does. However, we have benefited from some of the fact that, you know, given the audit and the consulting, you know, outside splitup that there's abilities for us to be able to do additional business that we hadn't expected but it's slower largely enough because of the M&A activity. Now, have we broken out CBCs revenue point?

Yeah, we do. Actually in the press release we indicate that the CBC contributed on an incremental $58 million of revenue in 2002 because we did buy it at the end of 2001. On an incremental basis, $58 million of additional revenue.

And was that accretive dilutive neutral to earnings then on a full year basis?

The business was about neutral to earnings. We were expecting a little bit from it. But it was about neutral.

Great. Thank you.

We also, uhm, on that, Bill, took advantage of the opportunity during the year to -- and took on a little additional investment where we took on a number of Arthur Andersen people as we developed some of our international practice there as well, and, of course, that, you know, we have not seen the benefit of that yet, as well. So that's something to look forward in '03. Thanks.

Our next question comes from Kevin Grenich with Bear Stearns.

Great. Thank you. Just a few questions. Number one, I was wondering, Terry, if you could tell us if that nearly 20 million in revenue from Detroit, if that was all booked in Q4 and you mentioned that the California K-8 market that you were -- you did a little over 33 percent there. What was the dollar value of that? And is the expectation now that California will spend the rest, the other two-thirds in '03 and then if I could follow up with a question.

Okay, good morning, Kevin.

Hi.

Yeah, Detroit, you know, is a -- it was a wonderful situation, and I hope to see, you know, obviously that continue just like the examples we used like Long Beach and the rest of California -- as we really support the urban education initiative, and those kinds of scientific research-based product that are working so well.

In terms of the 20 million, that is not a Q4 total number. It is spread out over the development of that program so you will be seeing '03 money for that, as well. But we are going to build on those successes. But it's recognized more evenly as the program is developed in that marketplace.

With respect to the K-8 California, we said that, you know, about 60, 65 percent -- it's hard to get a hard number on that, 60, 65 percent of the reading adoption was in 2002, the rest coming in '03. The dollar value of that would roughly equate to probably about 135 to 150 million. That would be the 60, 65 percent.

Great. And can you just review the revenue change for S&P ratings for Q4 and full year and then, uhm, if you could on broadcast margins where you were full year either EBIT or EBITDA?

Okay.

Kevin, as now, we did not break out ratings revenue, but with regard to broadcast margins, we are clearly again now for the second year in a row above the 40 percent broadcast cash flow margins. We are right now hovering right about 42 percent for our broadcast business.

That's an EBIT margin?

Yes. That's the standard broadcast cash flow margins using that benchmark so right around 42 percent.

So that's -- okay, broadcast cash flow. Terrific. Thanks, Bob.

Thank you. And our final question comes from Brandon Goeble with Credit Suisse First Boston.

Thanks. Good morning. Couple quick questions. On Financial Services, if you could kind of review what the major assumptions are for your '03 growth target? You mentioned rates staying flat kind of the good start -- the corporate part of the market, some idea in the broader categories the ratings business and also for the information side what the major assumptions are there for it. And secondly, any plans or any kind of thoughts on the dividend if there might be an increased payout if the regulations do change going forward? Thanks.

Thank you, Brandon. Let me take the latter one first. The dividends are very important decision that we make every year. We have reviewed that. We've got a recommendation, we'll be making it tomorrow to the Board of Directors for approval and stay tuned -- on that one. We'll probably have an announcement tomorrow -- on that one.

Now, with respect to the Financial Services area and the new issue volume, if I got you correctly there, Brandon, you know, what we were saying is that we expect the structured finance market to remain strong, you know, both here and outside the United States. Expect municipal [fants] to grow very nicely, as well. We see a resumption of the corporate market in that one and we see good solid growth coming from our nontraditional areas, in particular bank loan ratings and ratings evaluation services, financial strength ratings, as well. But it's a little early. We've got all the, you know, the figures of where, you know, we are to date and what we currently are running at. I can just say that it's hard to tell, you know, what, you know, what that activity is looking like for, you know, the first quarter or first half. But we're off to a very good start and we fully expect those areas to participate nicely.

Great. Thanks a lot.

Okay. And again, thanks. You know, it's always sorry to see a good year go. And we're well into 2003. We have high expectations. And whereas we've given all the guidance that, you know, I think is appropriate at this point, we obviously aspire to a double-digit year. And market conditions we'll watch those together as we go. Thanks very much.

Thank you. This concludes today's teleconference. Thank you for your participation and have a great day. You may disconnect at this time.