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Omnicom: Investors Are Missing The Story


On both Madison Avenue and Wall Street, everybody's wondering about the possible sale of Grey Global Group (GREY), last of the big independent ad agencies. All summer its bankers have been rounding up potential bidders, such as marketing titan WPP Group (WPPGY), that have eyes for Grey's prized Procter & Gamble (P&G) account.

Yet despite all the interest in Grey, I'm keeping my focus on Omnicom Group (OMC). Shares of the world's largest advertising, public-relations, and marketing services company are badly lagging the broad market. Near $70, they're off 20% this year -- even though the company keeps growing nicely (chart). Company execs aren't talking. But if Omnicom, which already owns BBDO Worldwide, DDB Worldwide, and TBWA\Worldwide, were to bid for Grey, its stock might fall further -- creating an even richer opportunity for investors.

To see why I think Omnicom isn't properly appreciated, it may help to recall how ad agencies have been depicted on popular television shows. On TV, such admen as Darrin Stephens (Bewitched) live a boom-bust life of late-night brainstorms and 4 p.m. hangovers. Sudden account wins or losses have them either breaking out the bubbly or plop-plopping Alka-Seltzer. Omnicom's results belie that image. Over the past five years, its net income rose steadily. Unusual? Of 1,441 companies in Morningstar's Principia database with $1 billion or more in sales, fewer than 9% saw a net income rise in each of those years.

The New York company stands out this way not just because of its scale ($9.2 billion in revenue over the past 12 months and 5,000 clients). Also helping to damp volatility are its diversity (44% of sales from ad work, the rest from PR and such specialty services as arranging promotional sports events) and its balance (55% of revenue from the U.S., 45% from abroad). Nor has it hurt that in the late-'90s boom, Omnicom kept its head when making acquisitions. Omnicom "is the only major company to escape unscathed through the dot-com bubble," notes Tim Fidler, research director at Ariel Capital Management, which owns a big Omnicom stake.

SO WHAT'S WEIGHING ON THE STOCK? Worry over the strength of economic growth, certainly. But two accounting issues also may be sowing confusion. First, Omnicom voluntarily began this year to charge the cost of employee stock options against its earnings, a discipline most companies haven't adopted yet. Second, Omnicom in 2001-03 sold $2.3 billion in convertible notes. Now a pending change in their accounting treatment will cut Omnicom's diluted earnings per share. How much is uncertain, but Omnicom estimated this year's second-quarter diluted earnings per share would have been about 7% lower.

None of this affects Omnicom's underlying strength. S&P sees net income this year growing nearly 9%, to $734 million. In the past 12 months, Omnicom generated $599 million in free cash flow (that is, cash from operations less spending on capital projects and acquisitions) and spent $313 million to buy back shares. It's also paying out $169 million at current annual rates via a 90 cents-a-share dividend. Ariel, which paid an average of $67 a share for its stake, figures Omnicom is worth perhaps $99 a share to a private buyer. Whether Omnicom captures Grey Global or not, it's set to thrive.

By Robert Barker


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