OMC - Omnicom

[marcowelby]

I have talked about Goldman Sachs recently which is buying back a large amount of their shares. I also noticed that Omnicom has been buying back their shares since 2003. Their diluted shares numbers has decreased by about 30% from 2003 to 2013. As you can see their earning increased modestly from 2003 so a large part of the earnings per share  increase is due to the decrease in the number of shares!

 

Year shares (millions) Earning per share Earning (millions) Revenu (millions)

2003 375.1                 1.68                         631.0                 8621

2004 373.2                 1.94                         723.5                 9747

2005 363.6                 2.18                         790.7                 10481

2006 346.1                 2.50                         864.0                 11377

2007 330.4                 2.95                         975.7                 12694

2008 314.8                 3.14                       1000.3                 13359

2009 310.4                 2.53                         793.0                 11720

2010 303.5                 2.70                         827.7                 12542

2011 283.3                 3.33                         952.6                 13872

2012 270.0                 3.61                         998.3                 14219

2013 260.4                 3.71                         991.1                 14584

OMC_Shares_and_earnings.pdf

[bennycx]

While advertising is not what it was once before in the 70s, today's price still makes Omnicom a compelling investing in the current environment. Omnicom trades roughly 13.7x PE with net income margins of 10+%, very high ROE of 40+% and revenue growth roughly mirroring GDP growth.

 

Ad agencies are extremely asset light and have a flexible cost structure. Typically partners pitch and bid to acquire accounts and advise on and plan a budget around the client's advertising strategy. The other part of the business is to acquire air time on TV or web space to advertise. The crux of the business is on the intangibles i.e. the idea and the execution strategy of a company's marketing efforts. As such most of its expenses fall into salaries and wages. However when there is less business around, employees get removed or bonuses cut thus enabling a very flexible variable cost structure.

 

Recent issues surrounding ad agencies are:

1. Big consumer brands like P&G believe they are overcharged and can cut advertising spend without affecting sales. This has happened couple of times in the past before and in my view reflects the weakening competitive position of the consumer brands than the ad agencies. While declining industries may cut cost, new emerging industries e.g. Amazon will hire ad agencies for marketing needs. Companies typically do not have the expertise and scale to have an integrated marketing strategy and thus will outsource to the big 4 ad companies.

 

2. Technology and digital marketing disruption - Amazon, Google, FB etc enable more transparency to each company's goods and services and thus traditional marketing is in decline. My view is that the most important part of the marketing process is the marketing strategy and not the delivery. Ad agencies are still in a strong position to direct marketing strategy, however they will need to and are adapting to the new digital age i.e. more reliance on technology, online voting etc.

 

3. Small independent agencies - Global companies typically want a one stop shop that can define a consistent marketing pitch throughout the organisation across all platforms. Although small independent agencies may have specialised expertise in one area, the business will eventually consolidate to the big 4 players.

 

With such an asset light business, ad agencies typically generate huge cash flow, thus capital allocation decisions are important. Among the big players, Omnicom seem to employ a prudent strategy of buying back shares and making small and smart bolt on acquisitions while some others seem to be acquiring indiscriminately to fight off revenue growth.

 

What are your thoughts?

[FiveSigma]

It's worth adding that OMC has almost $8 of cash on balance sheet and books ~$115M in amortization of (mostly) purchased intangibles, which can be added back to the EPS (to get owner's cash earnings).

 

With that current multiple drops to 10x (using average 2018 EPS estimate of $5.44).

 

Management is shareholder-friendly: effectively all of cash flow for the past decade was either (majority) returned to shareholders via dividends and buybacks or invested into small, tuck-in agency acquisitions. Management states that it will stick to this plan going forward.

 

At OMCs size, it's revenue growth will not exceed that of ad market growth, which tracks GDP (at around 3-4% in good times).

 

So, if headwinds don't materialize, this could be 13-14% per year compounder.

 

[Edited 3rd paragraph to make more sense]

[LC]

Same could be said for WPP plc and Publicis. The entire industry is trading at below-market valuations.

 

I haven't taken a real look so it's possible on trades at a modest discount to the others, but it seems the real idea here is an industry-wide reversion to the mean (i.e the market is wrong about future prospects being crappy).

 

I'm not sure I disagree with the market here. Digital advertising means a lot of big tech companies are coming into the space, on both the data and platform side. I think what we're seeing is the market realizing that traditional ad firms can still perform the market strategy as you mention, but it will require other parties (i.e. the tech firms) to deliver these ads.

[bennycx]

You are right that the entire industry is trading at below market valuations. On the second point, I don't see much moat in providing ad space (delivery). Also this will be charged back to the client as a cost+ budgeting. On data, it is possible that some companies can step in to consult on big data and I suspect the ad agencies will start to develop or acquire some of these companies.

[LC]

I think the opposite has actually happened. When digital advertising was in its earlier stages (i.e. 5-8 yrs ago), the ad agencies all had digital agencies. But increasingly, the tech firms (adobe, oracle, etc.) are getting more involved in the data gathering, analysis, and delivery aspects. These are not low-budget aspects. They are very technical, specifically the model-building components.

 

If I am the company providing first party and third party data, performing the relevant analysis, building the models, and delivering the ad, what exactly is the agency providing that I also cannot provide?

[rb]

Omnicom, WPP, and Publicis are all very fine companies and will do well over time.

 

Among these however Omnicom is on my do not invest list. They tend to be pretty generous with options. I don't remember the exact year but it was around the GFC when the issued an INSANE amount of options at low prices. They supplied some story about key man retention or whatever. Operationally it's a really good company but I stay away from companies that pull this kind of crap on the capital allocation side. Be forewarned.

 

From my perspective WPP is just as good operationally so I'd just buy that instead.

[bennycx]

I think the opposite has actually happened. When digital advertising was in its earlier stages (i.e. 5-8 yrs ago), the ad agencies all had digital agencies. But increasingly, the tech firms (adobe, oracle, etc.) are getting more involved in the data gathering, analysis, and delivery aspects. These are not low-budget aspects. They are very technical, specifically the model-building components.

 

If I am the company providing first party and third party data, performing the relevant analysis, building the models, and delivering the ad, what exactly is the agency providing that I also cannot provide?

 

What you say does not seem to reflect yet in any major earnings or revenue decline, nor is it mentioned as a major threat from CEOs. I'm willing to make this bet at 13x PE that they have a role to play, rather than buying data companies at 30X+ PE which Tech companies or anything Data seem to command now. You pay high for a "rosy" outlook

[DooDiligence]

Courtesy of @Wexboy_Value on Twitter (I know, not a proper citation but F it, this ain't English Comp 1) oh, and (Accessed 1 March 2018.)

 

https://www.bloomberg.com/news/articles/2018-03-01/wpp-speeds-strategy-revamp-with-continued-ad-spending-weakness

[gjangal]

Looks interesting, it’s a decent business with good ROIC. returned most of the fcf to shareholders in the last 10 years. Revenue concentration among top clients is low. No client accounts for more than 3%.

 

Expect revenue growth of 2 to 3%. They can do 1.2B in FCF. When it dipped to mid 60’s , it was a good price, Low 70s is not a bad price if you are not looking to hit it out of the park. Has potential for low double digit returns