Markets & Finance

Ratings Lowered on Ad Giant Interpublic


On July 30, Standard & Poor's today lowered its ratings on the Interpublic Group of Cos. Inc. The current outlook is stable.

The downgrade reflects a significant weakening in operating trends, which are hampering recovery in key ratios that are already under pressure. Lower-than-expected revenue growth across all of Interpublic's businesses is attributed to the current economic environment and its negative impact on client spending. In the 2001 second quarter, Interpublic reported total revenue and organic growth declines of 4% and 3%, respectively, in sharp contrast to the growth at other well-positioned ad agency holding companies. Cost control efforts have not been sufficiently aggressive amid the difficult revenue environment. Staff costs as a percentage of sales are increasing, driving the deterioration in operating margins. Managing the company's flexible cost structure during a period of some revenue uncertainty will be key to restoring stronger profitability.

In addition to declining revenue, Interpublic reported restructuring charges of approximately $500 million (the majority of which are cash costs) related to the integration of True North Communications and cost cutting initiatives, including severance and lease termination costs, that were more severe than anticipated due to a reassessment of revenue growth prospects. The company also recognized fairly significant noncash costs related to goodwill and other asset impairments, and additional noncash charges are likely. Financing cash costs with increased borrowings further constrains any improvement in credit statistics.

Ratings reflect Interpublic's position as one of the world's three largest advertising agency holding companies, historically good profitability and healthy account gains, and moderate financial profile. These factors are offset by operating challenges resulting from a cyclical slowdown in advertising, an increasing need to improve cost control and working capital management, and the company's active acquisition activity.

Keys to success, particularly important during an economic slowdown or cyclical downturn in advertising, include a leading global position, diverse and integrated products and services, a solid client base that lacks significant account concentration, the ability to retain and recruit clients, and very importantly, astute cost control. Interpublic's revenues are well-balanced geographically, and client diversification is good, as the largest client contributes less than 10% of total revenues. Revenues from specialized marketing services, which tend to have higher growth rates and margins than traditional advertising, represent about 40% of Interpublic's revenue.

For the twelve months ended March 31, 2001, EBITDA coverage of interest expense was about 9.5 times (x) compared with 10.4x in 2000 and 12x in 1999. Total debt to EBITDA was about 2.1x at March 31, 2001, compared with 1.8x and 1.3x at fiscal year ended 2000 and 1999, respectively. Credit ratios are expected to weaken for the 2001 second quarter, due to seasonally lower cash generation coupled with the cash outlays to cover the aforementioned charges, cyclically slower ad spending, margin erosion, and a higher level of borrowings at a higher interest rate. The company continues to be acquisitive, albeit at a slower pace. Management maintains moderate financial policies, and acquisition financing is expected to be appropriate for current ratings.

Interpublic historically has generated respectable discretionary cash flow, which could be used to fund acquisitions or share repurchases. However, use of working capital swelled in 2000, reversing the company's otherwise healthy discretionary cash flow. Financial flexibility is enhanced by borrowing availability under its credit agreement and adequate cash balances.

Ratings reflect the assumption of continued near-term pressure on operating performance and additional debt usage, and incorporate the expectation that revenue growth and previous levels of profitability will be restored. From Standard & Poor's Credit Wire


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