the mcgraw hill companies quarterly...

The McGraw-Hill CompaniesQuarterly Presentation Including Questions and Answers

McGraw-Hill Education—Tribune Education integration plans, p.6

Financial Services—Investing to migrate to the Web, p.15

Information and Media Services—More progress on the Web at Business Week

Online and deep verticals, p.21

Financial Review—Impact of Tribune Education acquisition, p.28—Outlook for free cash flow, p.32

New York City, July 25, 2000

Solid first half performance underscores strengthand balance of the McGraw-Hill portfolio

The McGraw-Hill CompaniesQuarterly Presentation

New York City, July 25, 2000

IntroductionHarold McGraw III

Chairman, President and CEO

Welcome to our regular quarterly review. Today, we’re going toreview second quarter results and the outlook for The McGraw-Hill Companies.

Since our third quarter performance is such an important factoreach year because of our stake in the education market, we’veasked Bob Evanson, president-McGraw-Hill Education and BuzzEllis, president-School Education Group, to share with you theirperspectives on how the business is shaping up and some oftheir plans for the future.

Those plans include the acquisition and integration of the supplementary education business from the Tribune Company.On June 26th, we announced plans to acquire TribuneEducation for $635 million.

We hope to close the deal by the end of the month after obtain-ing the necessary government approvals required under theHart-Scott-Rodino Act. The waiting period expires July 29.

Once we do acquire this supplementary education businessfrom the Tribune, it will be Bob Evanson’s responsibility to integrate it with our own operations. A successful integrationis the product of careful planning, sound judgment and greatexecution.

Bob brings enormous experience to this task. When we broughtthe other half of the Joint Venture School Publishing Companyinto the fold in 1993, it was Bob Evanson who led those integra-tion efforts. In 1996, he headed the team that successfully inte-grated the Times Mirror Higher Education Group with our ownhigher education business.

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On June 26th, we announced plans to acquire Tribune Educationfor $635 million. Integrating this supplementary education business will be Bob Evanson’sresponsibility.

Those were major undertakings and both were well done.

Bob is already well along in his planning for the TribuneEducation integration and will share what he can with you at thistime considering that we still do not own the operations.

Buzz Ellis since last year has been in charge of our elementary-high school operations and is responsible for about 50% of the revenue produced by the Education segment.

His operation is off to a great start this year and he is looking for asolid third quarter.

He’ll be reviewing the supplemental education business, howTribune fits in and how we are increasingly using technology inour el-hi business.

After hearing from Bob and Buzz, I will review the outlook forour other segments and Bob Bahash will discuss financials.

So, let’s get started with Bob Evanson.

The McGraw-Hill Companies Quarterly Presentation

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Buzz Ellis has been in charge ofour el-hi operations. He’ll bereviewing how Tribune fits in andhow we are increasingly using technology in our el-hi business.

GUEST SPEAKER

Robert E. EvansonPresident, McGraw-Hill Education

Thank you Terry. I will cover results for the year so far, what’s tocome, and where we stand on Tribune Education integration. Mycolleague Buzz Ellis will then pick up with how the supplementalpublishing business aligns with our own growth plans and strategy and will review the use of technology generally in the K-12 area.

Let’s start with an overview of the year. The first half, as you know,was a good start to the year. Revenue was up 19% to $690 million. We have a profit of $17 million versus a loss last year. Avery strong start in el-hi’s results, which we will go through in a minute, and growth in higher education/professional/interna-tional in the mid-single digit range contributed to this result.

However, we should remember that only one-third of the year’srevenue comes in the first half of the calendar year. We are veryoptimistic about the rest of the year.

El-hi results are very favorable. We lead in California social studies with 40% of the market, including adoptions in San Diegoand Long Beach. SRA continues to get supplemental AB-2519 sales, including major wins in Los Angeles and Oakland.We do expect California to spend $500 million and we expect toget at least our fair share, or maybe a little bit more of that fund,in the 25 to 30% range.

In Texas we’re leading in reading with 38% share. That’s made upof two programs, the school division program, which won inDallas, and the SRA reading program which won in Ft. Worth. We were also one of the leaders in a very close race in the Texasliterature market. It’s our first time in that market, so we’re very,very pleased with the results in literature. It’s also doing wellnationally.

In Florida science, we will be a close second in K-12, due to thevery successful Glencoe science Voyager program, which captured about 70% of the market. In North Carolina K-12 science, we’ll be first, led by Glencoe with about 80% of the secondary middle school market.


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In McGraw-Hill Education, the firsthalf was a good start to the year.Revenue was up 19% to $690 million. We have a profit of $17million versus a loss last year.

We should remember that only one-third of the year’s revenue comes in the first half of the calendar year.We are very optimistic about therest of the year.

El-hi results are very favorable. We lead in California social studieswith 40 percent of the market.

The higher ed and professional markets continue to grow in themid single-digit range. In higher ed, we are running at about an8% growth rate in the first half, which reflects the 1999 copyrightor back-list titles that were sold during the fall of last year and theearly spring of 2000. We are very optimistic about the secondhalf, reflecting the 2000 copyrights. We expect to start pushingtowards double-digit and again gaining share.

A lot of that is attributed to technology. In chemistry we havesome new technology approaches. In math we have a programcalled ALEKS™, which is based on an artificial intelligence. Itsteers a student through developmental math.

In computers and information technology we are introducing aproduct called ATLAS. ATLAS embeds the technology it is teach-ing within the instructional program. All of these programs willhelp us gain share.

I mentioned earlier this year that we will have 20 e-Books readyfor this fall. By the end of the year, we expect 50. We also haveformed a separate distance learning and technology consultingsales force to work on the larger, higher profile technology adop-tions. We are also seeing an up-tick there.

Our professional business slowed a little in the second quarterdue to some temporary changes in the wholesale channel in themedical field and higher returns in the trade channel, both ofwhich we believe are temporary.

We launched AccessScience. This new Web-based program is atransformational product. It takes a print product, the 20-volumeEncyclopedia of Science & Technology, and creates a database service that’s sold on a subscription basis. This is an example ofthe direction we are taking in professional publishing—movingfrom products to services.

Going forward, each of the three units in professional publish-ing—Scientific, Technical, Medical; Computers; and Business—all have major titles coming out. The computer unit’s programincludes new Windows 2000 certification programs and newproducts in Sun and Cisco certifications, which is still a hot market. We’re expecting the second half to be much better thanthe second quarter and the first half.


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Gains in market share are attrib-uted to new technology approach-es, such as ALEKS™ for mathinstruction and ATLAS for computerinstruction.

We have 20 e-Books ready for thisfall and expect 50 by the end of the year.

We launched AccessScience, a new Web-based product that transforms the 20-volumeEncyclopedia of Science &Technology into database servicethat’s sold on a subscription basis.

Overall, the year 2000 should be a good year for us. We expectthe el-hi market to grow 10% plus and we expect to gain share. In2001, we again expect the el-hi market to grow about 10%, withreading and language arts adoptions in seven states, includingTexas. We are the leading reading publisher.

Literature will be adopted in six states and we now have one ofthe leading literature programs. Math will be adopted in threestates including California. We will have a new math program forthat adoption. Again, in 2001 we expect to gain share. In 2002, Ithink the el-hi market will slow somewhat to mid to high single-digit growth.

We have reading in four states, including Florida and California,and science in eight states. Science will be big in 2002 and wewill have a new copyright for that adoption schedule, whichincludes Georgia and Texas. Overall, I would say our future looksvery bright in the K-12 market.

I would like to review quickly some of the processes we are goingthrough in Tribune Education integration and then Buzz Ellis willcover how that fits within McGraw-Hill Education.

Tribune was built through 19 acquisitions over a six-year periodat a cost of about $700 million. Since 65% of the revenue camefrom schools, that is an area we can obviously leverage with amuch larger sales force and marketing operation. About 35% ofTribune’s revenues come through trade channels where we arenot very big.

That’s a new opportunity for us. Also, since 90% of Tribune’s salesare domestic, it gives us some potential internationally. There are1,600 employees and they had pro forma sales of $384 millionthis past year.

The Tribune brings very strong brands and very high customerloyalty. It adds size and scale across the board to our operationsin the K-12 area.

We have developed a certain process for integration and I wouldsay, at this point, it’s almost a science. We have done it two timeswith acquisitions that were comparable in size in terms of thenumber of people. Our process is pretty straightforward. We orga-nize into a group of teams. At the moment, we have 20 teamsheaded by a project director, Brad Onken from Glencoe. For the previous two acquisitions, as Terry mentioned, I was the project director.


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Overall, the year 2000 should be a good year for us. We expect theel-hi market to grow 10% plus andwe expect to gain share.

The Tribune brings very strongbrands and very high customer loyalty. It adds size and scaleacross the board to our operationsin the K-12 area.

In 2001, we again expect the el-hi market to grow about 10%,with reading and language arts adoptions in seven states, including Texas.

Five of the teams reflect the five organizational units of Tribune.The teams’ job is to find out everything there is to know aboutthe five units—people, processes, products and facilities. Thenwe have 15 teams each headed by a project leader who isresponsible for the functional areas, the back office. We haveteams in accounting and finance, in business systems, in infra-structure and e-mail, facilities, HR, purchasing, manufacturing,warehousing, et cetera.

As I said, it’s their job to learn everything about those operationsand how we will put them together. They go through a fact-find-ing phase, which we are in right now. We have been engaged inthis since we signed the contract.

It’s our target to have a recommendation within 30 days of theclose, so we will be able to tell every single Tribune employeewhat their new role will be, the disposition of all facilities, andsystems worldwide.

We have a 60-day window with these 20 teams, which in total,might represent between 100 to 125 McGraw-Hill people. Someteams only have a couple of people, while systems teams usuallytake longer and have more staff.

One reason for a speedy integration are the first two letters inmergers and acquisitions—ME. Since the time that Tribune wentup for sale and we purchased it, more and more folks are worried about what’s happening to me, my job, my company, myproducts, my territory, et cetera.

In order for the Tribune folks not to lose focus, we have certainkeys to successful integration. First is a speedy determination ofhow we’re going to integrate. Speed is of the essence. The fasterwe can decide and tell people, the more they will be focused onthe business. So speed is first.

Second is getting input from the company, the Tribune and theiremployees. This is not a one-way street. Every one of those teamshas a counterpart with the Tribune, so it’s not us telling them what’s going to happen. We jointly work out what’s going to happen.

Third is frequent and direct communications. Most people antici-pate the worst. If they don’t hear anything, they tend to believethe worst. So we have had many meetings with Tribune employ-ees. I have visited all the major locations as has Buzz and the


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The integration process includes 20teams—five of which reflect thefive organizational units ofTribune.

In order for the Tribune folks not tolose focus, we have certain keys tosuccessful integration. First is aspeedy determination of how we’regoing to integrate. Speed is of theessence.

management of our teams. We have talked to the senior man-agement and employees. Our HR folks have been out explain-ing benefits. The 20 teams each visit their equivalents in theunits.

The fourth key is just to be fair and direct in our decision makingand our policies. There are good Tribune people and we want topick the best talent we can from around the organization. Forexample, the editor-in-chief of the Times Mirror HigherEducation became the head of the combined McGraw-HillCollege-Times Mirror Higher Education Group.

We want to be empathetic with the Tribune staff we are dealingwith so they know that we understand their circumstance. I tellthem that I’ve been on their side of the table three times in thelast 11 years, so I understand their concerns.

It’s not yet time to quantify what I think the integration benefitswill be because we don’t own them yet. But if you look at whatwe did with School Publishing Company and with Times Mirrorin terms of significant improvements in operating results, than Iwould expect a comparable type of increase here.

With that I would like to ask Buzz Ellis, president of SchoolEducation, to go into more detail as to why supplemental pub-lishing and Tribune fits within McGraw-Hill.


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We will be fair and direct in ourdecision making and our policies.There are good Tribune people andwe want to pick the best talent wecan from around the organization.


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GUEST SPEAKER

E. Addison “Buzz” EllisPresident, School Education Group

Thank you, Bob. The Tribune offers McGraw-Hill products thatare not tied to the state adoption cycle. For instance, the Wrightgroup has whole-language reading materials that serve a segment of the market in which we currently do not participate.They also market professional development services, offering usa launching platform for a teacher training initiative and a newmarket opportunity.

Every Day Learning and Creative offer us complementaryNational Science Foundation mathematics programs for theactivity-based segment of the market. Every Day Learning alsooffers a strong health product line. Landoll and Instructional Fairbring critical mass and scale to our consumer products group.They accelerate our growth initiative in this market segment.

The Tribune offers McGraw-Hillproducts that are not tied to thestate adoption cycle.

Every Day Learning and Creativeoffer us complementary NationalScience Foundation mathematicsprograms for the activity-based segment of the market.

Screen fromMcGraw-Hill’sLearning Networkvideo presentation.


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NTC Contemporary offers a wide variety of materials for schooleducation, higher education, and professional consumer products. They have some excellent materials in the secondarylanguage arts and reading markets, two emerging markets.

They are a leader in the adult basic education market and also inelementary foreign language. Combined, these product linesoffer McGraw-Hill significant growth potential.

McGraw-Hill’s School education offers a wide variety of teachersupport and interactive student materials for McGraw-HillEducation’s Web sites. Our number of page views have beenincreasing at a phenomenal rate.

I would like to present a short demonstration from The McGraw-Hill Learning Network. The strategy behind this LearningNetwork is to enhance our existing product sales as well as generate new revenues through the sale of online products forparents, teachers, and students.

Tribune’s School education offers awide variety of teacher support andinteractive student materials for ourWeb sites.

The strategy behind this LearningNetwork is to enhance our existingproduct sales as well as generatenew revenues through the sale ofonline products for parents, teach-ers, and students.


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MR. EVANSON: In the medical market, Harcourt, in effect,stopped selling through wholesalers. They decided to go direct,so there was a little turmoil in the wholesale channel. That’s overnow. The higher returns in the trade channels appear temporarybecause June was better and July, so far, is looking better.

MR. ELLIS: Two of Tribune’s groups are doing very well. TheWright group is doing very well with the supplemental whole-language materials, reading and the phonics program andCreative is doing very well. Two of the groups, Landoll andInstructional Fair, don’t participate in that part of the market andNTC Contemporary Products are primarily high school whichdon’t participate as much either.

A.Could Bob Evanson talkabout the professionalsector, the higher tradereturns and the distribu-tion channel adjust-ments and why youthink that’s temporary?

Also, do you have agood estimate onTribune’s potentialshare of AB-2519 fundsin California?

Q.

MR. EVANSON: For Tribune?

A.You don’t happen tohave a number, do you?Q.

MR. McGRAW: We will see what we can get for you.

A.Yes.

Q.

MR. EVANSON: Since we signed the deal, we are fact gathering.Landoll was not included in the original transaction. It was put in at the 11th hour. We decided we had to bid for the whole company, including Landoll, which we did. So during this 30-dayperiod we are evaluating Landoll to see where it would fit and whether we want to get that much into the direct mass market consumer business. Landoll has an educational piecethat’s about a third of the business, which we do want.

A.The consumer side ofTribune Education wasalways a weak point for them. How does consumer fit into theMcGraw-Hill strategy?

Q.

Question & Answers with Robert Evanson and E. Addison “Buzz” Ellis


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MR. ELLIS: We have been in the consumer products business for three years and our charter has been to adapt educationalmaterials. For instance, we have taken the SRA Spectrum mathseries and, through a joint venture with Warner Brothers, adapted it to incorporate the Looney Tunes characters for askills-based market. That’s been our focus. In the last three yearswe have grown that business very rapidly and it is profitable.

The Instructional Fair Group fits very well with our consumerproducts group and triples our size.

MR. ELLIS: Both. If they buy a textbook for school, we intend tooffer it for sale at a discount on a subscription basis for that year.If they don’t buy a textbook, we expect to sell it at the full valueand also expect to sell it primarily to parents. We tested this concept with the school superintendents and they said it hadtremendous educational value.

Besides that, any of you who have kids know that books are getting bigger and bigger as the academic requirements growincreasingly stringent. If a child carries home four of our text-books at the high school level or middle school level they arecarrying quite a load. So the superintendent said this has somepractical advantages. It will reduce back strain and it solves asecurity problem for them since they don’t like school lockers.

A.Is The LearningNetwork bundled withthe textbooks or distrib-uted separately?

Q.

MR. ELLIS: It’s one of the reasons we acquired the company. Let’stalk about the market for a moment. It was very project, veryactivity-based in the last adoption. The market now wants directinstruction, they want back-to-the-basics. There was sort of arebellion by parents and by a lot of the higher ed institutions,including professors at Stanford.

Our new basal program comes from Stanford. The authors are Gunner Carlsson and Ralph Cohen, leaders in math education at Stanford, so we feel very confident about that. Wealso like Every Day Learning mathematics a lot. It has theNational Science Foundation’s stamp of approval. It is one of thehighly recommended programs and we think we will do verywell with it as well.

A.With the math programcoming up in California,what do you see as faras the development of your own math program? How doesEvery Day Learning fit in? Would it be a supplemental, or a sec-ond core curriculum?

Every Day Learning hasa good reputation,exactly what Californiais looking for.

Q.


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MR. ELLIS: We have been a leader in technology all through the‘90s. We were the first to produce a full curriculum CD-ROM inscience. We have added to that strategy with teaching materials.What The Learning Network allows us to do is to put it all togeth-er for teachers, students and parents in a Web-based format that’salso easier for us to produce. When you’re dealing with CD-ROMdevelopment you’re dealing with both the Mac and PC whichcreates a lot of technical issues. As the Internet’s bandwidthexpands it will allow us to do more things via the Web.

We intend to launch The Learning Network this fall with sciencematerials, quickly followed by math. Our major products intro-ductions will follow the adoption cycle. We intend to enhancethe sales of our products as well as selling materials on TheLearning Network. That’s primarily the difference.

If you look at the other two major efforts that I know about,Scholastic is very strong with supplemental reading materialsand trade materials that they sell to parents. The strategy is toenhance that and I think that’s a good strategy for Scholastic.Then there is Pearson’s strategy. They say they want to be one ofthe four or five major portals but they aren’t trying to enhance thesale of Pearson’s materials. I think that’s where we differ fromPearson. Ours is an educational strategy, theirs tends to be moreof a consumer strategy.

A.How important is TheLearning Network foryour education strate-gy? Where are you in itsdevelopment in termsof distribution and howwould you differentiatesome of the thingsyou’re doing from competitors?

Q.

MR. ELLIS: Yes and no. Right now, Bob Evanson is vice-chair ofthe overall Association of American Publishers which is leadingthe charge to set standards on the e-Book. I believe as that tech-nology emerges, that within a couple of years, a lot of our highschool texts will be on an interactive e-Book.

MR. EVANSON: I would add that it’s starting now with the college products. The 50 products I mentioned before are e-Books which you can download through the Web or get in CDformat and then transfer to your Palm Pilot. It has most of the features that you saw in that Learning Network video. I think theonline environment is certainly going to be very much enhancedby these materials.

A.Comment about savingthe students’ backs. Doyou anticipate there will be a course-packdelivery mechanismthat will be tied in withThe Learning Network?

Q.


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MR. EVANSON: That will be covered by Bob Bahash.

MR. McGRAW: That’s a tease to keep you around. The summermonths are bigger months and we will go through that with you.It also depends on when we actually close on those opportuni-ties as well. We will come back to any other questions that youhave on McGraw-Hill Education and Bob and Buzz will stay.

I can’t emphasize enough the importance of the integrationeffort and getting after it right away with all the teams who aremaking sure that we get these systems integrated. The acquisitiongives us a lot more size and scale.

A.Tribune has mentionedthat the purchase priceadjustment may be asmuch as $100 million.Could you describe howthat would work andthen, how would youdeal with certain revenue splits for thisquarter? I assume fromJuly 29 on is when youwill get them. Is July thebigger month, or areAugust/September the bigger months as we look at the thirdquarter?

Q.

Harold McGraw IIIChairman, President and CEO

Clearly, we are off to a strong start this year with two very goodquarters in a row.

You know the numbers, so I will just briefly recap results. In the second quarter:

• Revenue from ongoing operations grew by 15.1%,• Net income was up 19.85%,• Diluted earnings per share grew by 22.2% to 55 cents

per share.

Therefore, for the first half of this year:• Revenue from ongoing operations increased 14.8%,• Net income is up 35.7%,• Diluted earnings per share before one-time items rose

38.6% to 79 cents.

A strong start in education has been one of the reasons for thefine results we’ve produced in the first half. Of course, the thirdquarter remains the most important one each year because ofthe seasonality of the education market. By that measure, thebest is yet to come.

But the performance of our education business is not the onlyreason for the first half success. We are engineering a turnaroundat Information and Media Services and it is starting to contributeat a better level, too.

I believe our first half performance makes a strong statementabout the strength and balance of the lineup we have created in recent years so The McGraw-Hill Companies can continue toproduce consistent, sustainable results.

We’ve also had to confront again the apparently never-endingconcern about the impact of a declining new issue market onStandard & Poor’s Ratings. And I think it is fair to point out thatonce again Standard & Poor’s demonstrated its resilience with asolid performance despite unfavorable market conditions in thefirst and second quarters. As S&P’s record of accomplishmentcontinues to build, I can only hope that the undue level of concern we sometimes hear about in the marketplace will beginto diminish.


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Clearly, we are off to a strong start this year with two very goodquarters in a row.

In the second quarter, revenue fromongoing operations grew by 15.1%,net income was up 19.85%, anddiluted earnings per share grew by22.2% to 55 cents.


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Financial Services

With that background, let’s look at Financial Services in a littlemore depth.

• Revenue for the first half is up 7.14%,• Operating profits are up 8.1%,• Operating margins at 31.5% are slightly ahead of last

year.

So we have maintained margins while continuing to invest andkept growing despite declining new issue volume in the bondmarket.

New issue dollar volume in the U.S. market declined 6% in thefirst quarter and 8.9% in the second quarter versus the same period last year, according to Securities Data Reports. We saw thesame pattern in European bond issuance in the first and secondquarters. Dollar volume was down 12.5% in the first quarter and20.6% in the second quarter, according to Bondware statistics.

For the first half, then, here’s the picture:• Total U.S. new issue volume is down 7.45%

In Financial Services, revenue for the first half is up 7.14% and operating profits are up 8.1%.


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If you get inside the numbers, it looks like this:• Corporates are up 2.7%,• Municipals are down 22.3%,• Asset-backed issues are up 4.2%,• Mortgage-backed issues are down 58.1%.

The same pattern is reflected in the number of new issues• Corporates are up 6.2%,• Municipals are off 27.4%,• Asset-backed are up 2.8%,• Mortgage-backed are off 57.7%.

Total unit volume is down 16.6%.

In Europe, dollar issuance is off 14.5%, but unit volume is actually up 6.3% for the first half.

As you evaluate these statistics, consider the strength of the asset-backed new issue market. It finished each quarter this year witha surge in the final month of the quarter. That’s a pattern worthkeeping an eye on. In 16 of the last 18 quarters stretching back to1996, the asset-backed marked tends to surge in the final monthof each quarter. This year, 50% of the first quarter dollar volumein asset-backed issuance was done in March. In the second quar-ter, 48% of the new issue dollar volume in this category was donein June.

There’s a basic reason for this pattern. Financial institutions frequently want to improve the balance sheet at the end of thequarter, so they reduce assets by securitizing some of them. Thatstrategy is responsible for the pickup in activity in the final monthof each quarter in this marketplace. These institutions tend toissue more debt when they consider the interest rate environ-ment favorable, but the increase in new issue volume has been arecurring phenomenon in all but two quarters since 1996. Thetwo quarters that did not match the pattern were the second andfourth in 1999, which were influenced by Y2K issues.

In this environment, our global and non-traditional ratings arecontinuing to grow at very solid double-digit rates. S&P Ratings’revenue from overseas now accounts for more than 30% of thetotal. Among the non-traditional services showing solid growthare Bank Loan Ratings, Rating Evaluation Services, and financialstrength ratings for insurance companies.

The asset-backed new issue market finished each quarter thisyear with a surge in the finalmonth of the quarter. That’s a pattern worth keeping an eye on.

Our global and non-traditional ratings are continuing to grow atvery solid double-digit rates.

S&P Ratings’ revenue from overseas now accounts for morethan 30% of the total.

The results reaffirm our strategic decision to expand overseasand create services that are not dependent on new bondissuance. And that is why Standard & Poor’s today is the biggest,fastest growing, most diverse ratings service in the world.

In looking ahead, we’re cautiously optimistic about market conditions for the second half. A more benign interest rate environment seems possible after six hikes by the FederalReserve Board in the last 13 months. Although some believe thedoor has been left open to another rate hike, ChairmanGreenspan devoted nearly 20% of his Congressional testimonylast week to pointing out why a slow down could be sustained.

There is also some pent up demand among issuers who sat outthe first half because of the volatility. And some will undoubtedlydecide to finance in the second half given the scenario of asteadier, less volatile environment.

So, all in all, a better picture in the second half with some upsidepotential even though the comparisons are tougher for FinancialServices, which had double-digit top line gains in the third andfourth quarters last year.


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Standard & Poor’s today is thebiggest, fastest growing, mostdiverse ratings service in the world.

All in all, a better picture in the second half with some upsidepotential even though the comparisons are tougher forFinancial Services.

In Web Solutions, S&Psupplies data, analysis,and analytics thatbecome part of theclient’s Web site.

At S&P Information Services, we continue to invest to facilitatemigration to the Web and meet customer needs for our informa-tion. We’re working on three levels:

1. Integrated feeds. Here customers already have lots of techni-cal resources and want bulk feeds from S&P to supply their internal requirements and possible Internet applications.Compustat and CUSIP are doing well in this market.

2. We call the next level Web Solutions. Here, S&P supplies data,analysis, analytics that become part of the client’s Web site. It’sa customized solution that may include stock quotes, compa-ny profiles, mutual fund data, charts, stock reports and other information.

Legg Mason was S&P’s first customer for Web Solutions and the client list is growing. It now includes Merrill Lynch Direct, T. Rowe Price and E-Trade.

3. With Web Stations, S&P becomes a content solutions provider.Products for our Web Station currently include Advisor Insight,Retirement Advisor and Ratings Direct. Web Station is aimedat smaller firms that will use S&P Information to create a com-petitive Web site.

Even as we develop these capabilities, Comstock has emerged asthe No. 1 provider of quotes to Web-based redistributors.Comstock recently expanded service to AOL, delivering real-timequotes to AOL’s properties, including Netscape and ICG and picking up some new ones, including CompuServe. Needless tosay, AOL pays us for these services.

In Canada, Comstock signed an agreement with ElectronicMarket Systems, a major redistributor there, to supply quotes,news, charts and fundamental data. In Brazil, we’ve also recentlyreached an agreement with a major new client. The company isAgentia Estado. You can expect some more international expan-sion from Comstock in the months ahead.

In the Index and Portfolio Services area, assets under manage-ment and branded exchange based products continue to grow.

• Barclay’s Global Investors has begun introducing the new exchange traded funds called i-Shares.

• The S&P Global 100 will also serve as the basis of anexchanged trade fund later this year at the New York Stock Exchange.


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At S&P Information Services, wecontinue to invest to facilitatemigration to the Web and meet customer needs for our information.

With Web Stations, S&P becomes acontent solutions provider. Productsfor Web Stations currently includeAdvisor Insight, RetirementAdvisor, and Ratings Direct.

Comstock has emerged as the No. 1provider of quotes to Web-basedredistributors.

• You can also expect to see the trading of more derivatives based on S&P indexes in the fourth quarter.

–At the Tokyo Stock Exchange, using the S&P/Topix 150,

–In Madrid, using S&P sectors,–In Montreal, using sectors tailored to Canadian

markets. About 5000 Futures contracts based on the S&P/TSE 60 are currently trading each day on the Montreal exchange.

S&P Depositary Receipts—more familiar as SPDRs—also continue to grow.

• The SPDR trust based on the S&P 500 was up 59% at the end of the first half versus a year ago: $21.8 billion vs. $13.6 billion. Average daily volume in the fist half was 8.2 million vs. 7.9 million a year ago.

• The MidCap SPDR trust was up 23% to $2.7 billion with daily volume averaging 753,800 shares.

• The Sector SPDR Trust more than doubled to $2.7 billion in the same period. Daily volume average 1.8 million shares.


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S&P Depositary Receipts—morefamiliar as SPDRs—also continue to grow.

The S&P Global 100 will also serveas the basis of an exchanged tradefund later this year at the New YorkStock Exchange.

We like our progress in the Index and Portfolio markets. But softness in the secondary municipal bond market and in theinformation business for foreign exchange markets, continues tooffset our progress. Let me assure you that those are issues weare working on.

To sum up, we like the outlook for Financial Services:• a more stable environment for the U.S. bond

market in the second half,• continued growth overseas and with new

rating services,• more progress on the Web,• expansion of Index services,• maintain our margins.

Now, let’s look at Information and Media Services

Information and Media Services

This segment is off to a terrific start. We’ve created better focus bydivesting some slow-growing businesses and that’s reflected inour performance.

In the second quarter, revenues from ongoing operations was up16% and operating profits from ongoing operations grew by 41%.For the first half, revenues from ongoing operations is up 20% andoperating income is up 62%.

Business Week is clearly an outstanding performer. After a 32.3%gain in advertising pages in the first quarter, BW produced a 44%gain in the second quarter. For the first half, BW’s ad pages forNorth America increased 39%, according to PublishersInformation Bureau statistics.

Some of the gains came from our e.biz edition. We had four inthe first half this year versus one in the first half of 1999. But theincrease also reflects strength in our key advertising categories.Here’s how PIB reported revenue increases in the first half insome of BW’s important categories:

• High tech: up 73.6%,• Financial/insurance: up 24.4%,• Professional Services: up 250.8%,• Industrial: up 14.1%,• e-commerce: up 838.6% off a small base.

The third quarter is off to an excellent start.


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Business Week is clearly an out-standing performer. After a 32.3%gain in advertising pages in the firstquarter, BW produced a 44% gain inthe second quarter.

In Information and Media Services,second quarter revenues from ongoing operations was up 16% and operating profits from ongoingoperations grew by 41%.


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Pages for the first four issues of July are up 124.8%. That repre-sents a gain of 72 pages. But it is also a reason why we believeBusiness Week’s momentum continues to be very good and whywe see no real evidence of a slow down.

Business Week is up against some tough comparisons in thesecond half:

• a 44.2% gain last year in the third quarter,• a 36.7% fourth quarter gain which resulted in a 35.75%

gain for the second half.

We will benefit from one more edition of e.biz in the second halfand we’re laying the groundwork for next year.

• Frontier, our small business/entrepreneur edition andWeb site, is in the process of completing an agreement with a new partner that will substantially increase the circulation and make it a significant franchise in this marketplace.

• In the Careers field, we have reached agreement withHeidrick & Struggles to enrich our online channel andcreate a custom-published magazine called Leaders

. Online. We will publish two editions of Leaders Onlinein the fourth quarter and plan six next year. It will havecontrolled circulation of 250,000.

Our goal is to create the best Career vertical for middle andupper income management. Business Week will sell advertising inthe publication and program the channel. Heidrick & Struggleswill take care of the searches.

In the second quarter, we introduced a fresh new look at BusinessWeek Online. It’s marked by:

• Cleaner lines,• Less clutter,• Bolder graphics, and• New navigational capabilities across each channel

on the site.

We also wanted to give readers more links on each main page sothey can more easily tap the wealth of material within each site. I urge you to check it out for yourselves. The address is www.businessweek.com.

The new look is stimulating an increase in traffic and the numberof registered users continues to grow. We started the year with625,000 registered users, grew to 726,200 at the end of the firstquarter and had 825,534 at the end of June.

Business Week’s third quarter is offto an excellent start. Pages for thefirst four issues of July are up124.8%, a gain of 72 pages.

In the Careers field, we havereached agreement with Heidrick& Struggles to enrich our onlinechannel and create a custom-published magazine calledLeaders Online.

The new look of Business WeekOnline is stimulating an increasein traffic and the number of registered users...from 625,000 inJanuary to 825,534 in June.


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We’re also making progress at our deep vertical hubs.

At Construction.com, traffic continues to exceed 1.0 millionmark each month and is up more than 10% versus the first quar-ter. It is now by far the largest hub for construction professionalsand we continue to strengthen it by adding new functionality.

• We’ve invested in E-builder to create a project management system for owners, architects and contractors.

• We are in the process of finalizing a deal with BuildPoint to create bidding and product procurementservices on Construction.com.

• And we’re beta testing E-Leads in six markets and willshortly roll out the product nationally. E-Leads isdesigned to increase our market penetration among contractors who don’t want an annual subscription service. With E-Leads, small contractors can access the Dodge database for up to 10 leads per month for $19.95.

At Construction.com, traffic continues to exceed 1.0 millionmark each month and is up morethan 10% versus the first quarter.

A fresh new look atBusiness Week Online.


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Two new services fromConstruction.com:Dodge eProject andDodge eLeads.

AviationNow.comuser sessions grewby 32% in the second quarter.

We’re also making progress at AviationNow.com. User sessionsgrew by about 32% in the second quarter, topping the 392,000mark. We continue to add major advertisers to the site. Aerospanand Lockheed Martin have recently signed on. We’re going toupgrade the look of the site very shortly.

The soft spot in the Aviation Week Group in the second quarter isattributable to the absence of the Paris Air Show, which was heldin June last year. This year, the big air show is in England atFarnborough. It is a third quarter event.

We launched the hub in Energy. Platts.com is the brand name inthis field and the name of the new site. We now have a single,comprehensive offering for news, prices, archives and directorieson oil, natural gas, electricity, petrochemicals, nuclear energyand coal. As the next step, we will add more functionality to thesite and create an advertising stream.


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We launched the hub in energy.Platts.com is a single, comprehen-sive offering for news, prices, anddirectories on oil, natural gas,electricity, petrochemicals, nuclearenergy and coal.

We’re also making progress atAviationNow.com. User sessionsgrew by about 32% in the secondquarter, topping the 392,000 mark.

Platts, the world’s premierenergy market information service.

Our Broadcasting operations continue to produce solid results—double digit top- and bottom-line growth in the first and secondquarters. Third quarter pacings are in the mid-teens.

I also want to point out that Web expansion and digital opportunities are not limited to our print-based operations.There are opportunities in broadcasting and we took somesteps in the second quarter to create some new revenuestreams for this group.

We signed an agreement with Internet Broadcasting Systems tojointly develop Web channels for our four ABC affiliates. IBS is the leader in developing Web channels for local television stations. We believe there is an opportunity to expand our audience and increase advertising by delivering real-time newsaround the clock on these Web channels. And, the creation of a national network allows us to tap into national advertising dollars.


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We signed an agreement withInternet Broadcasting Systems tojointly develop Web channels forour four ABC affiliates.

Our Broadcasting operations continue to produce solid results—double digit top- and bottom-linegrowth in the first and second quarters.

We also signed an agreement with iBlast. Our stations are nowpart of a consortium pooling digital assets to create a nationaldelivery network for those who want to reach the home with abroadband over the air network. We will keep you posted ondevelopments there.

To sum up for Information and Media Services:• A very strong first half,• No sign of a slow down at Business Week in the thirdquarter despite tougher comparisons,

• More progress at Broadcasting with political advertising still ahead of us,

• More progress on the Web at Business Week Online and the deep verticals.

In looking ahead, we expect:• A solid third quarter in education,• A better environment for Standard & Poor’s in the second half,

• More progress at Information and Media Services.

In short, we are on our way to the eighth consecutive year ofmeet our goal—consistent, sustainable earnings results.


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Robert J. BahashExecutive Vice President and Chief Financial Officer

I’d like to start by making some comments on the pending acquisition of Tribune Education. In announcing the purchase ofTribune Education last month for $634.7 million, we said theprice was subject to post-closing adjustments.

I’ll take this opportunity to amplify that point for you. Under theterms of the agreement, we will use the March 31 balance sheetto make adjustments in the expected buildup of net assets inTribune Education through June 30.

From July 1 forward, we will be capturing the benefits of profitsand cash flow during the peak selling season. In doing so, we aresharing the profits with Tribune on a 50/50 basis and we keep theworking capital and cash flow generated from the business, eventhough the business is still owned by Tribune.

The acquisition of Tribune Education will also have an impact onour debt. We ended the second quarter with debt at $696 million. That is an increase of $108 million since the first quarterand reflects our usual seasonal buildup. Our debt level doesn’tbegin to decline until the fourth quarter when the cash startsflowing in from sales in the education market.

Before the acquisition of Tribune Education, we had anticipatedthat our year-end debt would be in the $400 million range. Withthe acquisition, we now expect to end the year around $1 billion.

Even though we haven’t had this much debt on the books insome time, the rating agencies both reaffirmed strong ratings forour long and short-term debt:

• Moody’s still rates our long-term debt A-1 and commercial paper Prime 1.

• Fitch affirmed its A plus for long-term debt and F-1 for commercial paper.

Of course, the acquisition will also have an impact on our interest expense. Interest expense increased 9.1% in the secondquarter and is up 4.3% for the first half.


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Before the acquisition of TribuneEducation, we had anticipated thatour year-end debt would be in the$400 million range. We now expectto end the year around $1 billion.

The rating agencies both reaffirmedstrong ratings: Moody’s still rates ourlong-term debt A-1 and commercialpaper Prime 1, and Fitch affirmed itsA plus for long-term debt and F-1 forcommercial paper.

Earlier in the year, we used proceeds from the sale of Tower to help reduce debt and offset the impact of higher share repurchases. But we were also experiencing higher average commercial paper interest rates: 6.1% vs. 5.0% a year ago. Withthe rise in interest rates and the increased debt from the Tribuneacquisition, we now expect interest expense for the year in therange of $60 million.

Corporate expenses increased about $2.9 million in the secondquarter and are up 15.2% for the first half. One-time technologyexpenses for shared services operations overseas, upgrading andbranding on the Corporate Internet, and executive compensa-tion accounted for the increase in the second quarter.

Our biggest single investment continues to be pre-publicationcosts because of the significant opportunities in the educationmarket. In the second quarter, our pre-pub investment was $68.6million, bringing the first half total to $104.5 million, up about10% from last year. At the start of the year, we anticipated spend-ing in the $230-$240 million range and that’s still our expectation.

Capital expenditures, as expected, are declining versus a yearago as we wind down our real estate projects. We spent $18.3 mil-lion in the second quarter and $34.6 million for the first half.That is a decline of about 64%. We now expect a little more than$100 million for the year, down from $154 million last year.

Our non-cash charges are on track.• Amortization of pre-publication costs was $48.6

million in the second quarter and $72.7 million for the first half, or about 29% ahead of last year. We expect pre-pub amortization to continue increasing since it matches the sales curve and we’ve been ramping up our investment in new products.

• Depreciation was $22.6 million in the second quarter and $43.7 million for the first half, an increase of roughly 11%. We expected this figure to increase this year, since it reflects the impact of previous investments in equipment and the real estate build out in Manhattan.


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With the rise in interest rates andthe increased debt from the Tribuneacquisition, we now expect interestexpense for the year in the range of $60 million.

Our biggest single investment continues to be pre-publication costsbecause of the significant opportuni-ties in the education market.

Capital expenditures are declining. We spent $18.3 million inthe second quarter and $34.6 millionfor the first half. That is a decline ofabout 64%.


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• Amortization of goodwill and intangibles was $14.9 million for the second quarter and $28.9 million for the first half, an increase of 9.2%. The increase reflects the acquisitions of Appleton & Lange and the emergingmarket database from the International FinanceCorporation.

Since we are acquiring the stock of Tribune Education, there willbe additional non-deductible goodwill expense in the future.But we will have to close the deal before giving you some notionof the impact here.

We bought back 100,000 shares in the second quarter, so we’verepurchased 1,659,000 shares at the cost of $83.9 million in thefirst half.

Last year, the Board of Directors authorized the purchase of up to15.0 million shares and we’ve now acquired a total of 4.8 millionshares. We plan to be in the market in the second half becauseour goal for this year remains the repurchase of 3.0 to 3.5 millionshares this year.

Since we are acquiring the stock ofTribune Education, there will beadditional non-deductible goodwillexpense in the future.

Last year, the Board of Directorsauthorized the purchase of up to15.0 million shares and we’ve now acquired a total of 4.8 million shares.


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MR. McGRAW: The whole municipal market, both the primarymarket and the secondary market, is in the doldrums, to say theleast. J. J. Kenny has two components—the brokerage facilitiessupporting the secondary market trading, and pricing and evalu-ation services.

The pricing and information evaluation side is a very strong com-ponent. The weakness is obviously on the brokerage sidebecause of a weak secondary market. We are looking at a lot ofopportunities there to see how we could package things differ-ently and strengthen our position with alliances or third parties.We will continue to work on that.

The primary market for the credit ratings side will improve intime. When you’re running the state and local surpluses that weare at this point, you don’t see an awful lot of money going intothose markets. If conditions change a little bit, we will see anincrease in financing in the primary market. I am worried aboutthe secondary market trading and we will work on that.

A.What’s the end gamewith J.J. Kenny? Itseems like this keepsgetting worse and theoverall market is nothelping you.

Q.

MR. McGRAW: If you did back out a lot of those investments youwould be seeing a little bit more strength. Sweet’s is doing well.ENR and Architectural Record are doing very well. At Dodge, certain zones are doing quite nicely.

The investment though is critical. We have to continue to be ableto grow Construction.com. That is the future—going from infor-mation all the way through to the transaction. You have to bemaking that investment if you plan to stay in that business, andwe do.

A.Are profits growing forthe entire Constructiongroup, if you were toback out the Internetinvestment?

Q.

MR. McGRAW: The Corporation has spent about $260 million fortechnology-related projects out of its capital expenditure budget over the last five years. About 20% of our pre-pub costs,which will be about $230 to $240 million this year, is going fortechnology-related projects. That gives you a rough idea of someof the investment being made.

A.Is there a way to break-out your overall Internetspending in Informationand Media? Is there away to break out whatis expensed on a regu-lar basis and what iscapitalized?

Q.

Questions and Answers with Senior Management


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MR. McGRAW: Our cash generating capability is very high andso we will start bringing debt down fairly quickly. We have a lot ofcapacity so the billion-dollar mark doesn’t concern me from thatstandpoint. The share repurchase program that we have laid outwill continue. The only thing I would say is that it is dependentupon market conditions. I see a much healthier environment inthe second half. Bob, do you want to add to that?

MR. BAHASH: The free cash flow of the company, as we defineit, absent any cash flow from the Tribune acquisition this year, isroughly in the $260 to $280 million range. Next year, with growthand with Tribune, you should see a number well north of $300million. If we purchase roughly 3 to 3-1/2 million shares annually,you can figure out where that will be in terms of using free cashflow. We have more than sufficient capacity to maintain debt atthe billion-dollar level or to ratchet it down or speed it up,depending upon the priority.

If you think back to when we acquired the other half of schoolpublishing in 1993, we had debt levels at $1.1 billion. We havereduced that dramatically, while buying back shares and makingsome acquisitions. We will not fund it out at this time. We willstay in commercial paper for now.

A.With about $1 billion indebt on the balancesheet at the end of theyear, do you still expectto repurchase stock andmake other invest-ments?

Q.

MR. McGRAW: You are talking about McGraw-Hill Education,correct?A.In education, based on

your pre-pub costs overthe next couple ofyears, can you help uson the growth rate forMcGraw-Hill?

Q.

MR. EVANSON: I would target 10 to 15%. I think 15 to 20% wouldbe a little aggressive.

MR. McGRAW: We have had increases in market share straightacross the board—financial services, education and BusinessWeek. The market share gains are very, very important becauseyou can offset increased costs with productivity gains and main-tain or grow your margins.

A.Yes, just education. Canyou ballpark anticipat-ed growth rates? Is it 10to 15% or 15 to 20%?

Q.


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MR. McGRAW: It would depend on the acquisition. We are look-ing at a lot of different things. In this kind of environment, morethings are going to be available and could be very attractive.They have to be a very good fit and they have to have very goodfinancial support.

A.On the acquisition side,is it reasonable toassume that there may not be any moreacquisitions this year?Or is that not necessari-ly the case, and wouldany future acquisitiongenerally be done on apurchase basis?

Q.

MR. McGRAW: At this point, given the new investments andgiven where we are with them, it is modest. I would be lookingfor moderate single digit.

Thank you very much for coming.

A.Could you give us anidea of the third quarterrevenue run rate is for your three B-to-B verticals?

Q.

Contact:Donald S. Rubin

Senior Vice PresidentInvestor Relations

The McGraw-Hill Companies1221 Avenue of the Americas

New York, New York 10020Tel: 212-512-4321Fax: 212-512-3840

E-mail: [email protected]/investor_relations


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1221 Avenue of the Americas, New York, NY 10020www.mcgraw-hill.com/investor_relations

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