Stockholders of McGraw-Hill (MHP) and its crown-jewel subsidiary S&P scored a big victory today when a federal appeals court in Cincinnati rejected a lawsuit by Ohio state pension funds that S&P and other rating agencies Moody's (NYSE:MCO) and Fitch (owned by French firm FIMALAC) had been negligent and/or violated various state investment laws in its rating of toxic mortgage-backed securities. This lifts a big uncertainty from investors' minds and allows both management and stockholders to focus on the ambitious strategic plan that management unveiled in the fall of 2011.
In affirming a lower court's decision, the appellate court basically agreed with S&P's long-standing position that its ratings are "opinions" and thus protected by the First Amendment. The fact that an opinion turns out in hindsight to be wrong, or that it could have been "better," does not create liability as long as the rating agency believed its ratings to be accurate at the time. Similarly, the fact that certain employees of the rating firms may have had their own personal doubts about the accuracy of the ratings or the statistical models used to assign them (as was testified at some Congressional hearings) did not demonstrate that the leadership of the rating firms believed their ratings or methodology were false (nor was that even alleged by the plaintiffs.) (Here's the link to the Reuters story: , and to the case itself, for those who wish to read the underlying decision that was affirmed.
This is a timely and welcome decision for McGraw-Hill, which is in the process of selling off its educational business so it can focus all of its attention on its higher margin financial services businesses, like S&P Ratings, S&P Dow Jones Indices, S&P Capital IQ, Platts and J.D. Power and Associates. Stockholders saw McGraw-Hill stock crack the $70 mark in 2007, only to plunge to below $20 at the depths of the financial crash in 2009. It has now climbed back into the $50s (up 40 cents as of mid-afternoon on today's news) and shareholders are hoping that management, without the lower margin education business as a distraction and with the benefit of lessons learned from mis-steps prior to the crash, can keep the business on track and growing. Retail investors are sometimes challenged to obtain analyst opinions about McGraw-Hill because the most widely available retail stock analysis is from Standard & Poor's, who as part of McGraw-Hill, are basically "recused" from following it. However Fidelity gives McGraw-Hill a rating of 9.4 ("very bullish") on its 10-point Equity Summary scale, and First Call lists its consensus rating as a "buy."