MORNINGSTAR, INC., 10-Q filed on 11/1/2011
Quarterly Report
Document and Entity Information
9 Months Ended
Sep. 30, 2011
Oct. 28, 2011
Document and Entity Information Abstract
 
 
Entity Registrant Name
MORNINGSTAR, INC. 
 
Entity Central Index Key
0001289419 
 
Current Fiscal Year End Date
--12-31 
 
Entity Filer Category
Large Accelerated Filer 
 
Document Type
10-Q 
 
Document Period End Date
Sep. 30, 2011 
 
Document Fiscal Year Focus
2011 
 
Document Fiscal Period Focus
Q3 
 
Amendment Flag
FALSE 
 
Entity Common Stock, Shares Outstanding
 
50,010,222 
Condensed Consolidated Statements of Income (USD $)
In Thousands, except Per Share data
3 Months Ended
Sep. 30,
9 Months Ended
Sep. 30,
2011
2010
2011
2010
Revenue
$ 160,051 
$ 139,817 
$ 472,829 
$ 404,198 
Operating expense (1):
 
 
 
 
Cost of goods sold
48,074 
40,713 
133,929 
114,767 
Development
13,482 
12,703 
39,151 
35,491 
Sales and marketing
27,253 
22,881 
80,502 
69,877 
General and administrative
26,431 
23,462 
83,255 
67,211 
Depreciation and amortization
10,947 
9,897 
31,712 
28,082 
Total operating expense
126,187 
109,656 
368,549 
315,428 
Operating income
33,864 
30,161 
104,280 
88,770 
Non-operating income (expense):
 
 
 
 
Interest income (expense), net
797 
512 
1,142 
1,692 
Gain (loss) on sale of investments reclassified from other comprehensive income
(127)
270 
14 
Other income (expense), net
(1,249)
5,689 
(1,208)
4,342 
Non-operating income (expense), net
(579)
6,206 
204 
6,048 
Income before income taxes and equity in net income of unconsolidated entities
33,285 
36,367 
104,484 
94,818 
Income tax expense
12,343 
11,917 
35,585 
33,137 
Equity in net income of unconsolidated entities
428 
333 
1,397 
1,176 
Consolidated net income
21,370 
24,783 
70,296 
62,857 
Net (income) loss attributable to the noncontrolling interest
10 
(106)
106 
10 
Net income attributable to Morningstar, Inc.
21,380 
24,677 
70,402 
62,867 
Net income per share attributable to:
 
 
 
 
Basic (in dollars per share)
$ 0.42 
$ 0.50 
$ 1.40 
$ 1.27 
Diluted (in dollars per share)
$ 0.42 
$ 0.49 
$ 1.37 
$ 1.24 
Dividends declared per common share
$ 0.05 
$ 0 
$ 0.15 
$ 0 
Weighted average shares outstanding:
 
 
 
 
Basic (in shares)
50,278 
49,401 
50,082 
49,157 
Diluted (in shares)
51,123 
50,544 
51,071 
50,453 
(1) Includes stock-based compensation expense of:
 
 
 
 
Allocated Share-based Compensation Expense
3,951 
3,745 
11,443 
10,337 
Cost of Sales [Member]
 
 
 
 
(1) Includes stock-based compensation expense of:
 
 
 
 
Allocated Share-based Compensation Expense
1,117 
960 
3,068 
2,582 
Research and Development Expense [Member]
 
 
 
 
(1) Includes stock-based compensation expense of:
 
 
 
 
Allocated Share-based Compensation Expense
545 
517 
1,588 
1,359 
Selling and Marketing Expense [Member]
 
 
 
 
(1) Includes stock-based compensation expense of:
 
 
 
 
Allocated Share-based Compensation Expense
489 
469 
1,392 
1,358 
General and Administrative Expense [Member]
 
 
 
 
(1) Includes stock-based compensation expense of:
 
 
 
 
Allocated Share-based Compensation Expense
$ 1,800 
$ 1,799 
$ 5,395 
$ 5,038 
Consolidated Statements of Comprehensive Income Consolidated Statements of Comprehensive Income (USD $)
In Thousands
3 Months Ended
Sep. 30,
9 Months Ended
Sep. 30,
2011
2010
2011
2010
Consolidated net income
$ 21,370 
$ 24,783 
$ 70,296 
$ 62,857 
Other comprehensive income (loss), net of tax:
 
 
 
 
Foreign currency translation adjustment
(12,570)
18,375 
(6)
5,634 
Unrealized gains (losses) on securities:
 
 
 
 
Unrealized holding gains (losses) arising during period
(1,871)
634 
(1,472)
52 
Less: Reclassification of adjustments for (gains) losses included in net income
81 
(3)
(171)
(9)
Other Comprehensive income
(14,360)
19,006 
(1,649)
5,677 
Other comprehensive income (loss), net
7,010 
43,789 
68,647 
68,534 
Comprehensive (income) loss attributable to noncontrolling interest
(47)
(250)
52 
(47)
Comprehensive income attributable to Morningstar, Inc.
$ 6,963 
$ 43,539 
$ 68,699 
$ 68,487 
Condensed Consolidated Balance Sheets (Parenthetical) (USD $)
Sep. 30, 2011
Dec. 31, 2010
Statement of Financial Position [Abstract]
 
 
Accounts receivable, allowance (in dollars)
$ 843,000 
$ 1,056,000 
Common stock, no par value (in dollars per share)
$ 0 
$ 0 
Common stock, shares authorized
200,000,000 
200,000,000 
Common stock, shares outstanding
50,096,106 
49,874,392 
Treasury stock, shares
832,820 
279,456 
Condensed Consolidated Balance Sheets (USD $)
In Thousands
Sep. 30, 2011
Dec. 31, 2010
Current assets:
 
 
Cash and cash equivalents
$ 174,270 
$ 180,176 
Investments
258,749 
185,240 
Accounts receivable, less allowance of $843 and $1,056, respectively
110,444 
110,891 
Deferred tax asset, net
3,814 
2,860 
Income tax receivable, net
10,045 
10,459 
Other
16,076 
17,654 
Total current assets
573,398 
507,280 
Property, equipment, and capitalized software, net
63,703 
62,105 
Investments in unconsolidated entities
24,761 
24,262 
Goodwill
319,367 
317,661 
Intangible assets, net
147,311 
169,023 
Other assets
5,726 
5,971 
Total assets
1,134,266 
1,086,302 
Current liabilities:
 
 
Accounts payable and accrued liabilities
42,184 
42,680 
Accrued compensation
59,908 
62,404 
Deferred revenue
146,877 
146,267 
Other
322 
1,373 
Total current liabilities
249,291 
252,724 
Accrued compensation
5,427 
4,965 
Deferred tax liability, net
17,490 
19,975 
Other long-term liabilities
25,930 
27,213 
Total liabilities
298,138 
304,877 
Morningstar, Inc. shareholders' equity:
 
 
Common stock, no par value, 200,000,000 shares authorized, of which 50,096,106 and 49,874,392 shares were outstanding as of September 30, 2011 and December 31, 2010, respectively
Treasury stock at cost, 832,820 shares as of September 30, 2011 and 279,456 shares as of December 31, 2010
(38,319)
(6,641)
Additional paid-in capital
483,822 
458,426 
Retained earnings
386,148 
323,408 
Accumulated other comprehensive income:
 
 
Currency translation adjustment
4,431 
4,503 
Unrealized gain on available-for-sale securities
(1,016)
615 
Total accumulated other comprehensive income
3,415 
5,118 
Total Morningstar, Inc. shareholders' equity
835,071 
780,316 
Noncontrolling interest
1,057 
1,109 
Total equity
836,128 
781,425 
Total liabilities and equity
$ 1,134,266 
$ 1,086,302 
Condensed Consolidated Statement of Equity and Comprehensive Income (Loss) Parentheticals (USD $)
In Thousands
9 Months Ended
Sep. 30, 2011
Statement of Stockholders' Equity [Abstract]
 
Other Comprehensive Income (Loss), Unrealized Holding Gain (Loss) on Securities Arising During Period, Tax
$ 584 
Other Comprehensive Income (Loss), Reclassification Adjustment for Sale of Securities Included in Net Income, Tax
$ 98 
Condensed Consolidated Statement of Equity and Comprehensive Income (Loss) (USD $)
In Thousands, except Share data
Total
Common Stock [Member]
Treasury Stock
Additional Paid-In Capital
Retained Earnings
Accumulated Other Comprehensive Income (Loss)
Non Controlling Interests
Morningstar, Inc. Shareholders' Equity
Balance at Dec. 31, 2010
$ 781,425 
$ 5 
$ (6,641)
$ 458,426 
$ 323,408 
$ 5,118 
$ 1,109 
$ 781,425 
Balance (in shares) at Dec. 31, 2010
 
49,874,392 
 
 
 
 
 
 
Increase (Decrease) in Stockholders' Equity
 
 
 
 
 
 
 
 
Net Income (Loss)
70,296 
70,402 
(106)
70,296 
Other Comprehensive Income (loss)
 
 
 
 
 
 
 
 
Unrealized gain on available-for-sale investments, net of income tax of $584
(1,472)
(1,472)
(1,472)
Reclassification of adjustments for gains included in net income, net of income tax of $98
(171)
(171)
(171)
Foreign currency translation adjustment, net
 
(60)
54 
(6)
Other comprehensive income (loss), net
68,647 
(1,703)
54 
(1,649)
Issuance of common stock related to stock-option exercises and vesting of restricted stock units, net
 
410 
6,220 
6,630 
Issuance of common stock related to stock-option exercises and vesting of restricted stock units, net (in shares)
 
792,178 
 
 
 
 
 
 
Stock-based compensation - restricted stock units
 
9,489 
9,489 
Stock-based compensation - restricted stock
 
1,752 
1,752 
Stock Issued During Period, Value, Share-based Compensation, Net of Forfeitures
 
202 
202 
Excess tax benefit derived from stock-option exercises and vesting of restricted stock units
 
7,621 
7,621 
Dividends declared - common shares outstanding
 
(7,546)
(7,546)
Dividends declared - restricted stock units
 
112 
(116)
(4)
Common share repurchased
 
(32,088)
(32,088)
Common share repurchased (in shares)
 
(570,464)
 
 
 
 
 
 
Balance at Sep. 30, 2011
$ 836,128 
$ 5 
$ (38,319)
$ 483,822 
$ 386,148 
$ 3,415 
$ 1,057 
$ 836,128 
Balance (in shares) at Sep. 30, 2011
 
50,096,106 
 
 
 
 
 
 
Condensed Consolidated Statements of Cash Flows (USD $)
In Thousands
9 Months Ended
Sep. 30,
2011
2010
Operating activities
 
 
Consolidated net income
$ 70,296 
$ 62,857 
Adjustments to reconcile consolidated net income to net cash flows from operating activities:
 
 
Depreciation and amortization
31,712 
28,082 
Deferred income tax expense (benefit)
(1,559)
1,769 
Stock-based compensation expense
11,443 
10,337 
Provision for bad debt
1,076 
253 
Equity in net income of unconsolidated entities
(1,397)
(1,176)
Excess tax benefits from stock-option exercises and vesting of restricted stock units
(7,621)
(4,885)
Holding gain upon acquisition of additional ownership of equity method investments
(5,073)
Other, net
1,607 
724 
Changes in operating assets and liabilities, net of effects of acquisitions:
 
 
Accounts receivable
(403)
(7,254)
Other assets
1,996 
(2,508)
Accounts payable and accrued liabilities
(5,275)
2,025 
Accrued compensation
(3,242)
(2,270)
Income taxes payable
9,442 
309 
Deferred revenue
618 
(1,938)
Deferred rent
(984)
442 
Other liabilities
(1,393)
(1,384)
Cash provided by operating activities
106,316 
80,310 
Investing activities
 
 
Purchases of investments
(281,698)
(128,043)
Proceeds from maturities and sales of investments
205,421 
177,197 
Capital expenditures
(14,689)
(7,701)
Acquisitions, net of cash acquired
300 
(88,697)
Other, net
875 
830 
Cash used for investing activities
(89,791)
(46,414)
Financing activities
 
 
Proceeds from stock-option exercises, net
6,630 
5,207 
Excess tax benefits from stock-option exercises and vesting of restricted stock units
7,621 
4,885 
Common shares repurchased
(28,526)
Dividends paid
(7,539)
Other, net
(363)
(529)
Cash provided by financing activities
(22,177)
9,563 
Effect of exchange rate changes on cash and cash equivalents
(254)
1,917 
Net increase in cash and cash equivalents
(5,906)
45,376 
Cash and cash equivalents-beginning of period
180,176 
130,496 
Cash and cash equivalents-end of period
174,270 
175,872 
Supplemental disclosure of cash flow information:
 
 
Cash paid for income taxes
28,437 
29,594 
Supplemental information of non-cash investing and financing activities:
 
 
Unrealized Gain (Loss) on Available For Sale Investments
$ (2,598)
$ 71 
Basis of Presentation of Interim Financial Information
Basis of Presentation of Interim Financial Information
Basis of Presentation of Interim Financial Information
 
The accompanying condensed consolidated financial statements of Morningstar, Inc. and subsidiaries (Morningstar, we, our, the Company) have been prepared to conform to the rules and regulations of the Securities and Exchange Commission (SEC). The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amount of assets, liabilities, revenue, and expenses. Actual results could differ from those estimates. In the opinion of management, the statements reflect all adjustments, which are of a normal recurring nature, necessary to present fairly our financial position, results of operations, equity, and cash flows. These financial statements and notes should be read in conjunction with our Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2010, filed with the SEC on February 28, 2011.
 
The acronyms that appear in the Notes to our Unaudited Condensed Consolidated Financial Statements refer to the following:
 
ASC: Accounting Standards Codification
ASU: Accounting Standards Update
EITF: Emerging Issues Task Force
FASB: Financial Accounting Standards Board
SAB: Staff Accounting Bulletin
SEC: Securities and Exchange Commission
 
Summary of Significant Accounting Policies
Summary of Significant Accounting Policies
Summary of Significant Accounting Policies

We discuss our significant accounting policies in Note 3 of our Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2010, filed with the SEC on February 28, 2011.

In June 2011, the FASB issued ASU No. 2011-05, Presentation of Comprehensive Income. In accordance with ASU No. 2011-05, we present the total of comprehensive income, the components of net income, and the components of other comprehensive income (OCI) in two separate but consecutive statements, our Consolidated Statement of Income and separately, a Consolidated Statement of Comprehensive Income. We no longer present total comprehensive income in our Consolidated Statement of Equity. In addition, we now show the effects of items reclassified from OCI to net income on the face of our Consolidated Statement of Income.

Also, effective January 1, 2011, we adopted FASB ASU No. 2009-13, Revenue Recognition (Topic 605): Multiple-Deliverable Revenue Arrangements. ASU 2009-13 supersedes EITF Issue 00-21, Revenue Arrangements with Multiple Deliverables and establishes the accounting and reporting guidance for arrangements when a vendor performs multiple revenue-generating activities, addresses how to separate deliverables, and specifies how to measure and allocate arrangement consideration. We are applying this guidance for revenue arrangements entered into or materially modified from January 1, 2011. The adoption of ASU 2009-13 does not significantly affect either the timing or amount of our revenue recognition.

In conjunction with the adoption of ASU 2009-13, we have updated our disclosures concerning revenue recognition, as follows:

Revenue recognition:  We recognize revenue in accordance with SEC SAB Topic 13, Revenue Recognition, ASC 605-25, Revenue Recognition:  Multiple Element Arrangements, and ASC 985-605, Software: Revenue Recognition.

We recognize revenue when all of the following conditions are met:

There is persuasive evidence of an arrangement, as evidenced by a signed contract;
Delivery of our products and services is a prerequisite for recognition of revenue. If arrangements include an acceptance provision, we generally begin recognizing revenue upon the receipt of customer acceptance;
The amount of fees to be paid by the customer is fixed or determinable; and
The collectibility of the fees is reasonably assured.

We generate revenue through sales of Licensed Data, Morningstar Advisor Workstation (including Morningstar Office), Morningstar Direct, Morningstar Equity Research, Premium Membership fees for Morningstar.com, and a variety of other investment-related products and services. We generally structure the revenue agreements for these offerings as licenses or subscriptions. We recognize revenue from licenses and subscription sales ratably as we deliver the product or service and over the service obligation period defined by the terms of the customer contract.

We also generate revenue from Internet advertising, primarily from “impression-based” contracts. For advertisers who use our cost-per-impression pricing, we charge fees each time we display their ads on our site.

Investment Consulting includes a broad range of services. Pricing for the consulting services is based on the scope of work and the level of service required, and includes asset-based fees for work we perform that involves investment management or acting as a subadvisor to investment portfolios. In arrangements that involve asset-based fees, we generally invoice clients quarterly in arrears based on average assets for the quarter. We recognize asset-based fees once the fees are fixed and determinable assuming all other revenue recognition criteria are met.

Our Retirement Solutions offerings help retirement plan participants plan and invest for retirement. We offer these services both through retirement plan providers (typically third-party asset management companies that offer proprietary mutual funds) and directly to plan sponsors (employers that offer retirement plans to their employees). For our Retirement Solutions offerings, we provide both a hosted solution as well as proprietary installed software advice solution. Clients can integrate the installed customized software into their existing systems to help investors accumulate wealth, transition into retirement, and manage income during retirement. The revenue arrangements for Retirement Solutions generally extend over multiple years. Our contracts may include one-time setup fees, implementation fees, technology licensing and maintenance fees, asset-based fees for managed retirement accounts, fixed and variable fees for advice and guidance, or a combination of these fee structures. Upon customer acceptance, we recognize revenue ratably over the term of the agreement. We recognize asset-based fees and variable fees in excess of any minimum once the value is fixed and determinable.

Some of our revenue arrangements with our customers combine multiple products and services. These products and services may be provided at different points in time or over different time periods within the same arrangement. We allocate fees to the separate deliverables based on the deliverables’ relative selling price, which is generally based on the price we charge when the same deliverable is sold separately.

We record taxes imposed on revenue-producing transactions (such as sales, use, value-added, and some excise taxes) on a net basis; therefore, we exclude such taxes from revenue in our Consolidated Statements of Income.

Deferred revenue represents the portion of subscriptions billed or collected in advance of the service being provided, which we expect to recognize as revenue in future periods. Certain arrangements may have cancellation or refund provisions. If we make a refund, it typically reflects the amount collected from a customer for which we have not yet provided services. The refund therefore results in a reduction of deferred revenue.


Acquisitions, Goodwill, and Other Intangible Assets
Acquisitions, Goodwill, and Other Intangible Assets
Acquisitions, Goodwill, and Other Intangible Assets
 
2011 Acquisitions
 
We did not complete any acquisitions in the first nine months of 2011.
 
2010 Acquisitions
 
The table below summarizes the acquisitions completed during 2010. As of September 30, 2011, we did not make any significant changes to the purchase price allocations for the acquisitions that occurred in 2010. Additional information concerning these acquisitions can be found in the Notes to our Consolidated Financial Statements included in our Annual Report on Form 10-K filed with the SEC on February 28, 2011.
Acquisition
 
Description
 
Date of Acquisition
 
Purchase Price*
Footnoted business of Financial Fineprint Inc.
 
Footnoted is a highly regarded blog for professional money managers, analysts, and sophisticated individual investors. Footnoted Pro, a service for institutional investors, provides insight on actionable items and trends in SEC filings.
 
February 1, 2010
 
Not separately disclosed
Aegis Equities Research
 
A leading provider of independent equity research in Sydney, Australia.
 
April 1, 2010
 
$10.3 million
Old Broad Street Research Ltd.
 
A premier provider of fund research, ratings, and investment consulting services in the United Kingdom.
 
April 12, 2010
 
$16.8 million
Realpoint, LLC
 
A Nationally Recognized Statistical Rating Organization (NRSRO) that specializes in structured finance.
 
May 3, 2010
 
$38.4 million in cash and 199,174 shares of restricted stock (valued at approximately $10 million as of the date the acquisition was announced in March 2010)
Morningstar Danmark A/S (Morningstar Denmark)
 
Acquisition of the 75% ownership interest not previously owned by Morningstar, bringing our ownership to 100%.
 
July 1, 2010
 
$14.6 million
Seeds Group
 
A leading provider of investment consulting services and fund research in France.
 
July 1, 2010
 
Not separately disclosed
Annuity Intelligence business of Advanced Sales and Marketing Corporation
 
The Annuity Intelligence business provides a web-based service that leverages a proprietary database of more than 1,000 variable annuities that includes "plain-English" translations of complex but important information found in prospectuses and other public filings.
 
November 1, 2010
 
$14.1 million
____________________________________________
* Total purchase price, less cash acquired, subject to post-closing adjustments.
 
Goodwill
 
The following table shows the changes in our goodwill balances from December 31, 2010 to September 30, 2011:
 
 
($000)

Balance as of December 31, 2010
$
317,661

Adjustments to 2010 acquisitions
1,387

Other, primarily currency translation
319

Balance as of September 30, 2011
$
319,367



We did not record any impairment losses in the third quarter of 2011 and 2010, respectively. We perform our annual impairment reviews in the fourth quarter.

The following table summarizes our intangible assets: 
 
 
As of September 30, 2011
 
As of December 31, 2010
($000)
 
Gross

 
Accumulated
Amortization

 
Net

 
Weighted
Average
Useful  Life
(years)

 
Gross

 
Accumulated
Amortization

 
Net

 
Weighted
Average
Useful  Life
(years)

Intellectual property
 
$
31,979

 
$
(18,529
)
 
$
13,450

 
9

 
$
33,990

 
$
(15,970
)
 
$
18,020

 
10

Customer-related assets
 
135,025

 
(49,548
)
 
85,477

 
12

 
130,675

 
(39,951
)
 
90,724

 
11

Supplier relationships
 
240

 
(81
)
 
159

 
20

 
240

 
(72
)
 
168

 
20

Technology-based assets
 
80,597

 
(32,916
)
 
47,681

 
9

 
78,651

 
(25,682
)
 
52,969

 
9

Non-competition agreement
 
1,724

 
(1,180
)
 
544

 
4

 
1,751

 
(909
)
 
842

 
4

Intangible assets related to acquisitions with preliminary purchase price allocations
 

 

 

 

 
6,407

 
(107
)
 
6,300

 
10

Total intangible assets
 
$
249,565

 
$
(102,254
)
 
$
147,311

 
10

 
$
251,714

 
$
(82,691
)
 
$
169,023

 
10


 
The following table summarizes our amortization expense related to intangible assets:
 
 
Three months ended September 30
 
Nine months ended September 30
($000)
 
2011

 
2010

 
2011

 
2010

Amortization expense
 
$
6,894

 
$
6,219

 
$
20,039

 
$
17,535


 
We amortize intangible assets using the straight-line method over their expected economic useful lives.

We expect intangible amortization expense for 2011 and subsequent years as follows:
 
($000)

2011
$
26,287

2012
23,874

2013
21,217

2014
19,989

2015
19,118

2016
14,527


 

Our estimates of future amortization expense for intangible assets may be affected by additional acquisitions, changes in the estimated average useful life, and currency translations.
Income Per Share
Income Per Share
Income Per Share
 
We compute income per share based on the two-class method, in accordance with FASB ASC 260-10-45-59A, Participating Securities and the Two Class Method. We issued restricted shares in conjunction with the Realpoint acquisition. Because the restricted shares contain nonforfeitable rights to dividends, they meet the criteria of a participating security. Under the two-class method, earnings are allocated between common stock and participating securities. The two-class method includes an earnings allocation formula that determines earnings per share for each class of common stock according to dividends declared and undistributed earnings for the period. We reduce our reported net earnings by the amount allocated to participating securities to arrive at the earnings allocated to common stock shareholders for purposes of calculating earnings per share.
ASC 260-10-45-59A requires the dilutive effect of participating securities to be calculated using the more dilutive of the treasury stock or the two-class method. We have determined the two-class method to be the more dilutive of the two methods. As such, we adjusted the earnings allocated to common stock shareholders in the basic earnings per share calculation for the reallocation of undistributed earnings to participating securities to calculate diluted earnings per share.
The following table shows how we reconcile our net income and the number of shares used in computing basic and diluted income per share:
 
 
 
Three months ended September 30
 
Nine months ended September 30
(in thousands, except per share amounts)
 
2011

 
2010

 
2011

 
2010

 
 
 
 
 
 
 
 
 
Basic net income per share attributable to Morningstar, Inc.:
 
 

 
 

 
 
 
 
Net income attributable to Morningstar, Inc.:
 
$
21,380

 
$
24,677

 
$
70,402

 
$
62,867

Less: Distributed earnings available to participating securities
 
(8
)
 
(10
)
 
(25
)
 
(10
)
Less: Undistributed earnings available to participating securities
 
(57
)
 
(89
)
 
(189
)
 
(242
)
Numerator for basic net income per share — undistributed and distributed earnings available to common shareholders
 
$
21,315

 
$
24,578

 
$
70,188

 
$
62,615

 
 
 
 
 
 
 
 
 
Weighted average common shares outstanding
 
50,278

 
49,401

 
50,082

 
49,157

 
 
 
 
 
 
 
 
 
Basic net income per share attributable to Morningstar, Inc.
 
$
0.42

 
$
0.50

 
$
1.40

 
$
1.27

 
 
 
 
 
 
 
 
 
Diluted net income per share attributable to Morningstar, Inc.:
 
 
 
 
 
 
 
 
Numerator for basic net income per share — undistributed and distributed earnings available to common shareholders
 
$
21,315

 
$
24,578

 
$
70,188

 
$
62,615

Add: Undistributed earnings allocated to participating securities
 
57

 
89

 
189

 
242

Less: Undistributed earnings reallocated to participating securities
 
(56
)
 
(87
)
 
(186
)
 
(236
)
Numerator for diluted net income per share — undistributed and distributed earnings available to common shareholders
 
$
21,316

 
$
24,580

 
$
70,191

 
$
62,621

 
 


 


 


 


Weighted average common shares outstanding
 
50,278

 
49,401

 
50,082

 
49,157

Net effect of dilutive stock options and restricted stock units
 
845

 
1,143

 
989

 
1,296

Weighted average common shares outstanding for computing diluted income per share
 
51,123

 
50,544

 
51,071

 
50,453

 
 


 


 


 


Diluted net income per share attributable to Morningstar, Inc.
 
$
0.42

 
$
0.49

 
$
1.37

 
$
1.24


Segment and Geographical Area Information
Segment and Geographical Area Information
Segment and Geographical Area Information
 
Morningstar has two operating segments:
 
Investment Information. The Investment Information segment includes all of our data, software, and research products and services. These products are typically sold through subscriptions or license agreements.
 
The largest products in this segment based on revenue are Licensed Data, Morningstar Advisor Workstation (including Morningstar Office), Morningstar.com, Morningstar Direct, Morningstar Integrated Web Tools (formerly Morningstar Site Builder), and Morningstar Principia. Licensed Data is a set of investment data spanning all of our investment databases, including real-time pricing data, and is available through electronic data feeds. Advisor Workstation is a web-based investment planning system for advisors. Advisor Workstation is available in two editions: Morningstar Office for independent financial advisors and an enterprise edition for financial advisors affiliated with larger firms. Morningstar.com includes both Premium Memberships and Internet advertising sales. Morningstar Direct is a web-based institutional research platform. Morningstar Integrated Web Tools is a set of services that helps institutional clients build customized websites or enhance their existing sites with Morningstar’s online tools and components. Principia is our CD-ROM-based investment research and planning software for advisors.
 
The Investment Information segment also includes Morningstar Equity Research, which we sell to other companies that purchase our research for their own use or provide our research to their affiliated advisors or individual investor clients.

Investment Management. The Investment Management segment includes all of our asset management operations, which earn the majority of their revenue from asset-based fees.
 
The key products and services in this segment based on revenue are Investment Consulting, which focuses on investment monitoring and asset allocation for funds of funds, including mutual funds and variable annuities; Retirement Solutions, including the Morningstar Retirement Manager and Advice by Ibbotson platforms; and Morningstar Managed Portfolios, a fee-based discretionary asset management service that includes a series of mutual fund, ETF, and stock portfolios tailored to meet a range of investment time horizons, risk levels, and investment strategies that financial advisors can use for their clients’ taxable and tax-deferred accounts.
 
Our segment accounting policies are the same as those described in Note 2, except for the capitalization and amortization of internal product development costs, amortization of intangible assets, and costs related to corporate functions. We exclude these items from our operating segment results to provide our chief operating decision maker with a better indication of each segment’s ability to generate cash flow. This information is one of the criteria used by our chief operating decision maker in determining how to allocate resources to each segment. We include capitalization and amortization of internal product development costs, amortization of intangible assets, and costs related to corporate functions in the Corporate Items category. Our segment disclosures are consistent with the business segment information provided to our chief operating decision maker on a recurring basis; for that reason, we don’t present balance sheet information by segment. We disclose goodwill by segment in accordance with the requirements of FASB ASC 350-20-50, Intangibles - Goodwill - Disclosure.
 
The following tables show selected segment data for the three and nine months ended September 30, 2011 and 2010:
 
 
 
Three months ended September 30, 2011
($000)
 
Investment
Information

 
Investment
Management

 
Corporate Items

 
Total

External revenue
 
$
125,804

 
$
34,247

 
$

 
$
160,051

Operating expense, excluding stock-based compensation expense, depreciation, and amortization
 
89,652

 
15,587

 
6,050

 
111,289

Stock-based compensation expense
 
2,609

 
556

 
786

 
3,951

Depreciation and amortization
 
2,117

 
42

 
8,788

 
10,947

Operating income (loss)
 
$
31,426

 
$
18,062

 
$
(15,624
)
 
$
33,864

 
 
 
 
 
 
 
 
 
U.S. capital expenditures
 
 

 
 

 
 

 
$
4,560

Non-U.S. capital expenditures
 
 

 
 

 
 

 
$
1,711

 
 
 
 
 
 
 
 
 
U.S. revenue
 
 

 
 

 
 

 
$
112,790

Non-U.S. revenue
 
 

 
 

 
 

 
$
47,261

 
 
 
Three months ended September 30, 2010
($000)
 
Investment
Information

 
Investment
Management

 
Corporate Items

 
Total

External revenue
 
$
112,055

 
$
27,762

 
$

 
$
139,817

Operating expense, excluding stock-based compensation expense, depreciation, and amortization
 
75,129

 
13,670

 
7,215

 
96,014

Stock-based compensation expense
 
2,326

 
525

 
894

 
3,745

Depreciation and amortization
 
1,789

 
44

 
8,064

 
9,897

Operating income (loss)
 
$
32,811

 
$
13,523

 
$
(16,173
)
 
$
30,161

 
 
 
 
 
 
 
 
 
U.S. capital expenditures
 
 

 
 

 
 

 
$
1,975

Non-U.S. capital expenditures
 
 

 
 

 
 

 
$
1,887

 
 
 
 
 
 
 
 
 
U.S. revenue
 
 

 
 

 
 

 
$
99,933

Non-U.S. revenue
 
 

 
 

 
 

 
$
39,884


 
 
Nine months ended September 30, 2011
($000)
 
Investment
Information

 
Investment
Management

 
Corporate Items

 
Total

External revenue
 
$
374,319

 
$
98,510

 
$

 
$
472,829

Operating expense, excluding stock-based compensation expense, depreciation, and amortization
 
259,899

 
43,258

 
22,237

 
325,394

Stock-based compensation expense
 
7,567

 
1,529

 
2,347

 
11,443

Depreciation and amortization
 
6,023

 
124

 
25,565

 
31,712

Operating income (loss)
 
$
100,830

 
$
53,599

 
$
(50,149
)
 
$
104,280

 
 
 
 
 
 
 
 
 
U.S. capital expenditures
 
 

 
 

 
 

 
$
8,084

Non-U.S. capital expenditures
 
 

 
 

 
 

 
$
6,605

 
 
 
 
 
 
 
 
 
U.S. revenue
 
 

 
 

 
 

 
$
334,395

Non-U.S. revenue
 
 

 
 

 
 

 
$
138,434

 
 
 
Nine months ended September 30, 2010
($000)
 
Investment
Information

 
Investment
Management

 
Corporate Items

 
Total

External revenue
 
$
324,600

 
$
79,598

 
$

 
$
404,198

Operating expense, excluding stock-based compensation expense, depreciation, and amortization
 
217,559

 
36,768

 
22,682

 
277,009

Stock-based compensation expense
 
5,926

 
1,557

 
2,854

 
10,337

Depreciation and amortization
 
5,016

 
136

 
22,930

 
28,082

Operating income (loss)
 
$
96,099

 
$
41,137

 
$
(48,466
)
 
$
88,770

 
 
 
 
 
 
 
 
 
U.S. capital expenditures
 
 

 
 

 
 

 
$
3,607

Non-U.S. capital expenditures
 
 

 
 

 
 

 
$
4,094

 
 
 
 
 
 
 
 
 
U.S. revenue
 
 

 
 

 
 

 
$
291,529

Non-U.S. revenue
 
 

 
 

 
 

 
$
112,669


 
 
As of September 30, 2011
($000)
 
Investment
Information

 
Investment
Management

 
Corporate Items

 
Total

Goodwill
 
$
277,246

 
$
42,121

 
$

 
$
319,367

 
 
 
 
 
 
 
 
 
U.S. long-lived assets
 
 

 
 

 
 

 
$
41,066

Non-U.S. long-lived assets
 
 

 
 

 
 

 
$
22,637

 
 
 
As of December 31, 2010
($000)
 
Investment
Information

 
Investment
Management

 
Corporate Items

 
Total

Goodwill
 
$
275,611

 
$
42,050

 
$

 
$
317,661

 
 
 
 
 
 
 
 
 
U.S. long-lived assets
 
 

 
 

 
 

 
$
39,496

Non-U.S. long-lived assets
 
 

 
 

 
 

 
$
22,609


 
Investments and Fair Value Measurements
Investments and Fair Value Measurements
Investments and Fair Value Measurements
 
We account for our investments in accordance with FASB ASC 320, Investments—Debt and Equity Securities. We classify our investments in three categories: available-for-sale, held-to-maturity, and trading. We monitor the concentration, diversification, maturity, and liquidity of our investment portfolio, which is primarily invested in fixed-income securities, and classify our investment portfolio as shown below:
 
 
 
As of September 30
 
As of December 31
($000)
 
2011

 
2010

Available-for-sale
 
$
238,990

 
$
173,072

Held-to-maturity
 
14,813

 
7,476

Trading securities
 
4,946

 
4,692

Total
 
$
258,749

 
$
185,240


 
The following table shows the cost, unrealized gains (losses), and fair values related to investments classified as available-for-sale and held-to-maturity:
 
 
 
As of September 30, 2011
 
As of December 31, 2010
($000)
 
Cost

 
Unrealized
Gain

 
Unrealized
Loss

 
Fair
Value

 
Cost

 
Unrealized
Gain

 
Unrealized
Loss

 
Fair
Value

Available-for-sale:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Government obligations
 
$
122,991

 
$
54

 
$
(186
)
 
$
122,859

 
$
113,597

 
$
36

 
$
(56
)
 
$
113,577

Corporate bonds
 
65,079

 
27

 
(293
)
 
64,813

 
42,839

 
63

 
(24
)
 
42,878

Commercial paper
 
34,941

 
2

 
(18
)
 
34,925

 
2,994

 

 
(3
)
 
2,991

Equity securities and exchange-traded funds
 
8,411

 
203

 
(1,197
)
 
7,417

 
4,510

 
418

 
(6
)
 
4,922

Mutual funds
 
9,180

 
45

 
(249
)
 
8,976

 
8,146

 
558

 

 
8,704

Total
 
$
240,602

 
$
331

 
$
(1,943
)
 
238,990

 
$
172,086

 
$
1,075

 
$
(89
)
 
$
173,072

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Held-to-maturity:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Certificates of deposit
 
$
14,813

 
$

 
$

 
$
14,813

 
$
7,476

 
$

 
$

 
$
7,476


 
As of September 30, 2011 and December 31, 2010, investments with unrealized losses for greater than a 12-month period were not material to the Condensed Consolidated Balance Sheets and were not deemed to have other than temporary declines in value.

The table below shows the cost and fair value of investments classified as available-for-sale and held-to-maturity based on their contractual maturities as of September 30, 2011 and December 31, 2010. The expected maturities of certain fixed-income securities may differ from their contractual maturities because some of these holdings have call features that allow the issuers the right to prepay obligations without penalties.
 
 
 
As of September 30, 2011
 
As of December 31, 2010
($000)
 
Cost

 
Fair Value

 
Cost

 
Fair Value

Available-for-sale:
 
 

 
 

 
 

 
 

Due in one year or less
 
$
177,348

 
$
177,124

 
$
85,990

 
$
85,964

Due in one to three years
 
45,663

 
45,473

 
73,440

 
73,482

Equity securities, exchange-traded funds, and mutual funds
 
17,591

 
16,393

 
12,656

 
13,626

Total
 
$
240,602

 
$
238,990

 
$
172,086

 
$
173,072

 
 
 
 
 
 
 
 
 
Held-to-maturity:
 
 

 
 

 
 

 
 

Due in one year or less
 
$
14,808

 
$
14,808

 
$
7,223

 
$
7,223

Due in one to three years
 
5

 
5

 
253

 
253

Total
 
$
14,813

 
$
14,813

 
$
7,476

 
$
7,476


 
Held-to-maturity investments include a $1,600,000 certificate of deposit held as collateral against two bank guarantees for our office lease in Australia.

The following table shows the realized gains and losses arising from sales of our investments classified as available-for-sale recorded in our Condensed Consolidated Statements of Income: 
 
 
Nine months ended September 30
($000)
 
2011

 
2010

Realized gains
 
$
270

 
$
17

Realized losses
 

 
(3
)
Realized gains, net
 
$
270

 
$
14


 

The following table shows the net unrealized loss on trading securities as recorded in our Condensed Consolidated Statements of Income:
 
 
 
Nine months ended September 30
($000)
 
2011

 
2010

Unrealized loss, net
 
$
810

 
$
75



The fair value of our assets subject to fair value measurements and the necessary disclosures are as follows:
 
 
 
Fair Value
 
Fair Value Measurements as of September 30, 2011
 
 
as of
 
Using Fair Value Hierarchy
($000)
 
September 30, 2011
 
Level 1

 
Level 2

 
Level 3

Available-for-sale investments
 
 

 
 

 
 

 
 

Government obligations
 
$
122,859

 
$

 
$
122,859

 
$

Corporate bonds
 
64,813

 

 
64,813

 

Commercial paper
 
34,925

 

 
34,925

 

Equity securities and exchange-traded funds
 
7,417

 
7,417

 

 

Mutual funds
 
8,976

 
8,976

 

 

Trading securities
 
4,946

 
4,946

 

 

Total
 
$
243,936

 
$
21,339

 
$
222,597

 
$

 
 
 
Fair Value
 
Fair Value Measurements as of December 31, 2010
 
 
as of
 
Using Fair Value Hierarchy
($000)
 
December 31, 2010
 
Level 1

 
Level 2

 
Level 3

Available-for-sale investments
 
 

 
 

 
 

 
 

Government obligations
 
$
113,577

 
$

 
$
113,577

 
$

Corporate bonds
 
42,878

 

 
42,878

 

Commercial paper
 
2,991

 

 
2,991

 

Equity securities and exchange-traded funds
 
4,922

 
4,922

 

 

Mutual funds
 
8,704

 
8,704

 

 

Trading securities
 
4,692

 
4,692

 

 

Total
 
$
177,764

 
$
18,318

 
$
159,446

 
$


 
Level 1:
Valuations based on quoted prices in active markets for identical assets or liabilities that we have the ability to access.
Level 2:
Valuations based on quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly.
Level 3:
Valuations based on inputs that are unobservable and significant to the overall fair value measurement.

Based on our analysis of the nature and risks of our investments in equity securities and mutual funds, we have determined that presenting these investment categories each in the aggregate is appropriate.
Investments in Unconsolidated Entities
Investments in Unconsolidated Entities
Investments in Unconsolidated Entities
 
Our investments in unconsolidated entities consist primarily of the following:
 
 
 
As of September 30


As of December 31

($000)
 
2011


2010

Investment in MJKK
 
$
19,311

 
$
19,036

Other equity method investments
 
269

 
109

Investments accounted for using the cost method
 
5,181

 
5,117

Total investments in unconsolidated entities
 
$
24,761

 
$
24,262


 
Morningstar Japan K.K. Morningstar Japan K.K. (MJKK) develops and markets products and services customized for the Japanese market. MJKK’s shares are traded on the Osaka Stock Exchange, “Hercules Market,” using the ticker 4765. We account for our investment in MJKK using the equity method. The following table summarizes our ownership percentage in MJKK and the market value of this investment based on MJKK’s publicly quoted share price: 
 
 
As of September 30

 
As of December 31

 
 
2011

 
2010

Morningstar’s approximate ownership of MJKK
 
33
%
 
34
%
 
 
 
 
 
Approximate market value of Morningstar’s ownership in MJKK:
 
 

 
 

Japanese yen (¥000)
 
¥
2,507,844

 
¥
3,197,000

Equivalent U.S. dollars ($000)
 
$
32,727

 
$
38,361



Other Equity Method Investments. As of September 30, 2011 and December 31, 2010, other equity method investments consists of our investment in Morningstar Sweden AB (Morningstar Sweden). Morningstar Sweden develops and markets products and services customized for its respective market. Our ownership interest in Morningstar Sweden was approximately 24% as of September 30, 2011 and December 31, 2010.
 
Cost Method Investments. As of September 30, 2011 and December 31, 2010, our cost method investments consist mainly of minority investments in Pitchbook Data, Inc. (Pitchbook) and Bundle Corporation (Bundle). Pitchbook offers detailed data and information about private equity transactions, investors, companies, limited partners, and service providers. Bundle is a social media company dedicated to helping people make smarter spending and saving choices. Its website, Bundle.com, features a money comparison tool that shows spending trends across the United States, along with a range of information on saving, investing, and budgeting. We did not record any impairment losses on our cost method investments in the first nine months of 2011 and 2010, respectively.
 
Liability for Vacant Office Space
Liability for Vacant Office Space
Liability for Vacant Office Space
 
We include our liability for vacant office space in "Accounts payable and accrued liabilities" and "Other long-term liabilities", as appropriate, on our Consolidated Balance Sheets. The following table shows the change in our liability for vacant office space from December 31, 2010 to September 30, 2011:

Liability for vacant office space
 
($000)

Balance as of December 31, 2010
 
$
2,429

Reduction of liability for lease and other related payments
 
(1,182
)
Balance as of September 30, 2011
 
$
1,247



Stock-Based Compensation
Stock-Based Compensation
Stock-Based Compensation
 
Stock-Based Compensation Plans
 
In November 2004, we adopted the 2004 Stock Incentive Plan. The 2004 Stock Incentive Plan provides for grants of options, stock appreciation rights, restricted stock units, and performance shares. All of our employees and our non-employee directors are eligible for awards under the 2004 Stock Incentive Plan. Since the adoption of the 2004 Stock Incentive Plan, we have granted stock options, restricted stock units, and restricted stock.

Prior to November 2004, we granted stock options under various plans, including the 1993 Stock Option Plan, the 2000 Morningstar Stock Option Plan, and the 2001 Morningstar Stock Option Plan (collectively, the Prior Plans). The 2004 Stock Incentive Plan amends and restates the Prior Plans. Under the 2004 Stock Incentive Plan, we will not grant any additional options under any of the Prior Plans, and any shares subject to an award under any of the Prior Plans that are forfeited, canceled, settled, or otherwise terminated without a distribution of shares, or withheld by us in connection with the exercise of options or in payment of any required income tax withholding, were not available for awards under the 2004 Stock Incentive Plan.
  
In May 2011, we adopted the 2011 Stock Incentive Plan (the 2011 Plan). With the adoption of the 2011 Plan, we will not grant any additional awards under the 2004 Stock Incentive Plan. The 2011 Plan provides for grants of options, stock appreciation rights, restricted stock units, and performance shares. All of our employees and our non-employee directors are eligible for awards under the 2011 Plan. Grants awarded under the 2011 Plan or the 2004 Stock Incentive Plan that are forfeited, canceled, settled, or otherwise terminated without a distribution of shares, or shares withheld by us in connection with the exercise of options will be available for awards under the 2011 Plan. Any shares subject to awards under the 2011 Plan, but not under the 2004 Stock Incentive Plan, that are withheld by us in connection with the payment of any required income tax withholding will be available for awards under the 2011 Plan.

The following table summarizes the number of shares available for future grants under our 2011 Plan:
 
 
 
As of September 30

(000)
 
2011

Shares available for future grants
 
5,004


 

Accounting for Stock-Based Compensation Awards
 
The following table summarizes our stock-based compensation expense and the related income tax benefit we recorded in the three and nine months ended September 30, 2011 and September 30, 2010:
 
 
 
Three months ended September 30
 
Nine months ended September 30
($000)
 
2011

 
2010

 
2011

 
2010

Restricted stock units
 
$
3,372

 
$
3,277

 
$
9,489

 
$
9,557

Restricted stock
 
444

 
468

 
1,752

 
780

Stock options
 
135

 

 
202

 

Total stock-based compensation expense
 
$
3,951

 
$
3,745

 
$
11,443

 
$
10,337

 
 
 
 
 
 
 
 
 
Income tax benefit related to the stock-based compensation expense
 
$
967

 
$
973

 
$
2,636

 
$
2,874


 
The following table summarizes the amount of unrecognized stock-based compensation expense as of September 30, 2011 and the expected number of months over which the expense will be recognized:
 
 
Unrecognized stock-based compensation expense ($000)

 
Expected amortization period (months)

Restricted stock units
 
$
30,520

 
34

Restricted stock
 
6,363

 
43

Stock options
 
1,843

 
42

Total unrecognized stock-based compensation expense
 
$
38,726

 
36



In accordance with FASB ASC 718, Compensation—Stock Compensation, we estimate forfeitures of employee stock-based awards and recognize compensation cost only for those awards expected to vest. Because our largest annual equity grants typically have vesting dates in the second quarter, we adjust the stock-based compensation expense at that time to reflect those awards that ultimately vested and update our estimate of the forfeiture rate that will be applied to awards not yet vested.
 
Restricted Stock Units
 
Restricted stock units represent the right to receive a share of Morningstar common stock when that unit vests. Restricted stock units granted under the 2004 Stock Incentive Plan to employees vest ratably over a four-year period. Restricted stock units granted to non-employee directors vest ratably over a three-year period. For restricted stock units granted through December 31, 2008, employees could elect to defer receipt of the Morningstar common stock issued upon vesting of the restricted stock unit.

We measure the fair value of our restricted stock units on the date of grant based on the closing market price of the underlying common stock on the day prior to grant. We amortize that value to stock-based compensation expense, net of estimated forfeitures, ratably over the vesting period.

The following table summarizes restricted stock unit activity during the first nine months of 2011:
Restricted Stock Units (RSUs)
 
Unvested

 
Vested but
Deferred

 
Total

 
Weighted
Average
Grant Date Value
per RSU

RSUs outstanding—December 31, 2010
 
777,666

 
45,189

 
822,855

 
$
47.14

Granted
 
271,821

 

 
271,821

 
57.14

Dividend equivalents
 
1,988

 
52

 
2,040

 
48.06

Vested
 
(236,328
)
 

 
(236,328
)
 
48.64

Vested but deferred
 
(1,691
)
 
1,691

 

 

Issued
 

 
(26,866
)
 
(26,866
)
 
46.69

Forfeited
 
(68,180
)
 

 
(68,180
)
 
47.61

RSUs outstanding—September 30, 2011
 
745,276

 
20,066

 
765,342

 
50.23


 

Restricted Stock
 
In conjunction with the Realpoint acquisition in May 2010, we issued 199,174 shares of restricted stock to the selling employee-shareholders under the 2004 Stock Incentive Plan. The restricted stock vests ratably over a five-year period from the acquisition date and may be subject to forfeiture if the holder terminates his or her employment during the vesting period.

Because of the terms of the restricted share agreements prepared in conjunction with the Realpoint acquisition, we account for the grant of restricted shares as stock-based compensation expense and not as part of the acquisition consideration. See Note 3, in the Notes to our Condensed Consolidated Financial Statements, for additional information concerning the Realpoint acquisition.
 
We measured the fair value of the restricted stock on the date of grant based on the closing market price of our common stock on the day prior to the grant. We amortize the fair value of $9,363,000 to stock-based compensation expense over the vesting period. The stock-based compensation expense recorded in the first nine months of 2011 includes approximately $396,000 of expense recognized upon the accelerated vesting of a restricted stock grant. We have assumed that all of the remaining restricted stock will ultimately vest, and therefore we have not incorporated a forfeiture rate for purposes of determining the stock-based compensation expense.
 
Stock Options

Stock options granted under the 2004 Stock Incentive Plan to employees vest ratably over a four-year period. Grants to our non-employee directors vest ratably over a three-year period. All grants expire 10 years after the date of grant. Almost all of the options granted under this plan have a premium feature in which the exercise price increases over the term of the option at a rate equal to the 10-year Treasury bond yield as of the date of grant.

In May 2011, we granted 86,106 stock options under the 2004 Stock Incentive Plan. We estimated the fair value of the options on the date of grant using a Black-Scholes option-pricing model. The fair value of these options using this model was $23.75 per share, based on the following assumptions:

Assumptions for Black-Scholes Option Pricing Model
 
 
Expected life (years):
 
7.4

Volatility factor:
 
35.1
%
Dividend yield:
 
0.35
%
Interest rate:
 
2.87
%
Expected exercise price:
 
$57.28


The following tables summarize stock option activity in the first nine months of 2011 for our various stock option grants. The first table includes activity for options granted at an exercise price below the fair value per share of our common stock on the grant date; the second table includes activity for all other option grants.