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Get to grips with world’s largest advertising agency
Advertising giant WPP (WPP) is one of a handful of genuine global market leaders on the London Stock Exchange.
The £21.5bn cap is the world’s largest advertising agency. Investment bank Credit Suisse reckons it has a 30% market share among the top six in its industry and a 14% share in the industry as a whole. Although that is very impressive, investors have experienced a fairly rocky ride of late.
Shares in WPP are down more than 10% since announcing lukewarm full year results on 3 March. A relatively downbeat first quarter update did little to help sentiment and reflected the loss of major accounts with telecoms group AT&T and car manufacturer Volkswagen.
At £16.84 the shares offer a prospective yield of 3.8% and trade on a 2017 price-to-earnings (PE) ratio of 13.2 times based on consensus forecasts. The yield and stock rating both look attractive, so should investors look past short-term issues and buy as a long-term holding?
What does WPP do?
Starting in the mid-1980s, chief executive and founder Martin Sorrell used a defunct wire shopping basket manufacturer Wire and Plastic Products (hence WPP) as a vehicle for acquisitions.
The first big move was the $566m hostile takeover of New York based agency J. Walter Thompson in 1987. Sorrell now runs a portfolio of more than 160 communications companies.
The parent group, effectively a holding company, fulfils three key roles:
• It relieves media agencies from administrative work, accounting, investor relations, budgeting, etc…
• It enables separate companies (owned by WPP) to work together for individual clients.
• For certain clients it can offer an effective advertising, marketing, public relations (and more) one-stop shop, providing a single point of contact and accountability.
The company has healthy exposure to emerging markets which should prove beneficial in the long term. It has invested heavily in data and technology and is a leading the way in programmatic buying (the automated purchase of unsold space on websites) and digital marketing.
Historically WPP has derived a significant chunk of its profit by purchasing advertising space for its clients online, in print and on the airwaves. More recently there have been fears advertisers would look to cut out the middle man and deal directly with the likes of Facebook and Google.
The recent YouTube scandal, when advertisers saw their valuable brands displayed alongside extremist content, shows the risk of this approach.
Global, national and specialist advertising services from a range of international and specialist agencies, among them Bates CHI & Partners, Grey, JWT, Ogilvy & Mather and Y&R.
Media investment management
Media planning and buying, specialist sponsorship and branded entertainment services from GroupM companies MediaCom, MEC, Mindshare, Maxus, plus Tenthavenue and others.
Data investment management
WPP’s Kantar companies include TNS, Millward Brown, Kantar Futures. They undertake brand, consumer, media and marketplace insight.
Public relations and public affairs
Corporate, consumer, financial and brand-building services from PR and lobbying firms Burson-Marsteller, Cohn & Wolfe, H+K Strategies, Ogilvy Public Relations, Finsbury and others.
Branding and identity
Consumer, corporate and employee branding and design services from Addison Group, Brand Union, FITCH, Lambie-Nairn, Landor Associates, The Partners and others.
Direct, digital, promotion and relationship marketing
The full range of general and specialist customer, channel, direct, field, retail, promotional and point-of-sale services from AKQA, Geometry Global, OgilvyOne Worldwide, RTC, VML, Wunderman and others.
Ogilvy CommonHealth Worldwide, GCI Health, Ghg, Sudler & Hennessey and others provide integrated healthcare marketing solutions.
Offers specialist services, from custom media and multicultural marketing to event, sports, youth and entertainment marketing; corporate and business-to-business; media, technology and production services.
This is made up of digital experts including Blue State Digital and Possible.
How does it make money?
There are several elements to WPP’s financial model. Depending on economic conditions the business will look to deliver organic growth of between zero and 5% per year. In 2017, the company is guiding for sales growth of 2%.
The company also aims for margin improvement of 0.3% per year out to a long-term target of 19.7%. In 2016, its margin stood at 17.4%.
Organic growth and efficiencies are supplemented by £300m to £400m worth of acquisitions per year, funded from healthy free cash flow. Most of these are bite-sized bolt-on acquisitions rather than the big strategic deals (which often end up going wrong).
The company aims each year to buy back between 2% to 3% of its shares and pay out 50% of its earnings in dividends.
In stable economic conditions investment bank Credit Suisse believes this model can deliver a total return of 13% to 14%
Data from Sharepad shows WPP has delivered an 11% annualised total return to shareholders over the last 20 years, not including special dividends and share buybacks. Notably this is a period which encompasses the global financial crisis.
In the wake of that economic meltdown, WPP slipped to a PE of 7 and in 2009 saw its business contract by 8%. History suggests the shares would be vulnerable if we saw a major economic shock, although given the long-term record any share price weakness could represent a chance to add to a position at a discounted rate.
A more pertinent risk is the age of CEO and key man Martin Sorrell. At 72 he is unlikely to remain in the top post beyond the medium term and the company will need to secure a smooth succession.
We think WPP would represent a good long-term holding for any portfolio. Buy at £16.84