OMC - Omnicom: Stable Prospects Fairly Valued

2023-10-26 01:26:39 ET

Summary

• 9M 2023 performance is on track to reach management targets.
• Macro challenges may impact ad spend near term, but major events including the 2024 Olympics and the U.S. election could drive ad spend recovery.
• Medium term, Omnicom is well-placed to benefit from overall ad industry growth, growing demand for data analytics. Bolt-on acquisitions may help drive growth, albeit to a limited extent.
• Risks arising from loss of business due to AI.

Prospects for Omnicom ( OMC ), the world’s second-largest advertising agency by revenues are positive, helped by continuing client account wins, an anticipated recovery in ad spend, and possible market share gains through acquisitions and strategic growth efforts. Valuation appears fair.

Company Overview

Omnicom is a holding company who together with its subsidiaries provide advertising, marketing, and corporate communication services. Omnicom’s portfolio of companies includes BBDO, DDB, TWBA, Omnicom Media Group and DAS Group of Companies.

The company operates in all major geographic markets including the Americas (North America and Latin America), Europe, the Middle East and Africa (EMEA), and Asia Pacific. North America is Omnicom’s biggest market followed by Europe and Asia-Pacific.

Advertising and media is Omnicom’s biggest business accounting for over half of revenues while other businesses such as data-driven precision marketing, public relations, and brand consulting to name a few account for the remainder.

9M 2023 performance

9M 2023 revenues saw 4% YoY organic growth (2% YoY on a reported basis) driven by higher client spending across most disciplines and all geographies. Acquisitions, net of disposals reduced revenues by 1.2%. Operating margin remained unchanged at 13.7%.

Prospects

Near term, the company appears to be on track to achieve their 3.5% - 5% organic revenue growth and 15% operating margin targets for FY2023. Lingering macro headwinds may impact ad spend but conditions could improve next year helped by major events like the upcoming U.S. presidential election and the Olympics. Economic headwinds may ease as well with rate cuts expected in 2024. Global advertising is projected to grow 4.4% in 2023 and 8.2% in 2024, pushing global ad spend to over $1 trillion for the first time according to WARC’s Global Ad Spend Outlook 2023/24. Omnicom’s recent client account wins ( Uber , BMW , Telstra ) could further boost revenues over the coming year for the company’s core business segments including advertising and public relations, which collectively account for over 60% of revenues.

Looking further ahead, a few growth drivers could support Omnicom’s medium term prospects. Advertising spend is on the rise globally ( mid single digit growth worldwide and low single digit growth in Omnicom's biggest market the U.S over the coming years according to some projections) and Omnicom with its worldwide presence should benefit. Omnichannel retail and an increasingly fragmented and complex media landscape from traditional offline media to numerous social media and retail channels should support demand for dedicated advertising and marketing services providers like Omnicom.

Additionally, a growing focus on data analytics along with an increasing reliance on first-party data (due to the phasing out third-party cookies) is a potential opportunity for Omnicom, whose Omni operating system enriches clients' first party data with second and third party data from a variety of sources (whose databases are integrated into Omni thanks to Omni’s open architecture) to offer highly unique insights while ensuring client ownership of their data through cleanrooms. Omnicom has tied up with a number of data partners including Uber , Instacart , Walmart and Tesco . Management claims Omni’s open architecture is a significant competitive advantage as it allows for easy integration of databases from a variety of sources as well as deploy generative AI models from various partners. Omnicom has partnered with Google and Microsoft to integrate their respective generative AI tools into Omnicom’s Omni operating system. A Forrester Research principal analyst noted that what sets Omni apart from rivals is that all of Omnicom’s technology is integrated in the platform, while competitors have similar tools but they have them separately. For clients this could mean better insights to customer behavior which could help increase marketing ROI, and for Omnicom this could translate into a differentiated positioning, customer loyalty and therefore potential market share gains.

Organic market share gains may be supported to a limited extent by acquisitions as well. Omnicom has been actively making bolt-on acquisitions to increase market share in new and existing geographic markets (such as their acquisitions of Grabarz & Partner which expanded their presence in Germany , and their acquisitions of Outpromo and Global Shopper which boosted their market position in Brazil ) and verticals (such as their acquisition of Ptarmigan Media which boosted their specialist expertise to serve finance industry clients). Over the past decade, Omnicom’s annual acquisition spend has typically amounted to $300 million and under, mostly paid through strong cash flows. Going forward, acquisition activity is likely to remain focused on smaller bolt-on acquisitions, as the company is quite highly leveraged and cash flows have been falling lately along with shrinking ad budgets (TTM free cash flow of $721 million is the lowest over the past decade).

The company also has a fairly large debt payment coming up in 2026.

Risks

Possible loss of business due to AI

Omnicom’s AI investments are expected to improve efficiency and cut costs . WPP’s CEO says savings from generative AI can be 10 to 20 times . However, if more work shifts to platforms offering lower-cost generative AI tools, ad agencies may be negatively impacted.

Online advertising platforms like Amazon, Alphabet, and Meta are launching or planning AI-powered tools for advertisers to easily create marketing messages, and clients like Oreo, Cadbury, Nestle and Unilever, have already begun using AI generated ads in their campaigns.

Conclusion

Omnicom has a moderate buy analyst consensus rating.

The company's forward P/E of 10 is lower than the sector median of 15 , and slightly lower than Omnicom's 5-year average of 12.

A DCF analysis using the following assumptions suggests Omnicom is roughly worth a little over $15.5 billion today, slightly higher than their current market value of $14.6 billion.

Revenue growth conservatively assumed at 3% over the next three years is based on projected mid single digit growth for the overall advertising industry, low single digit growth in Omnicom's biggest market the U.S., along with smaller contributions from potential market share gains and acquisitions. For context, Omnicom’s revenues have barely grown over the past decade.

Although investments made on acquisitions are typically omitted in a DCF analysis, it may make sense to include it in Omnicom’s case because acquisitions are an important growth strategy for the company and Omnicom has made acquisitions every single year over the past decade with investments ranging between $10 million - $350 million (average = $140 million or roughly 1% of FY2022 revenues).

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