Stock Watch
WPP Group: Advertising Bellwether
As the marketing landscape changes from traditional to non-traditional methods, the world's second-largest ad conglomerate is handling the shift well.
August 29, 2005
Advertisers have been down on their luck lately. With the economic drop-off after September 11, 2001, companies cut back on marketing services. Worldwide ad spending fell nearly 2% in 2001 -- the first global decline since World War II. But after subsequent years of stagnant results, the industry is finally showing signs of health. Global ad spending increased nearly 8% in 2004, according to ZenithOptimedia, and is expected to rise another 5% to 6% annually over the next few years.
Another sign the ad market is improving: On Friday, WPP Group (WPPGY), the second-largest advertising conglomerate in the world, reported impressive results for the first half of the year. WPP announced that net profits soared 43% and revenues climbed 22% in the first half of 2005.
The London-based company attributes part of that success to its March acquisition of Grey Global, which seems to be going smoothly so far, says Value Line analyst Daniel Cooney. Altogether, WPP owns about 120 operating companies -- including Ogilvy & Mather, Young & Rubicam and Tempus -- in 106 countries.
As ad companies have experienced slower growth in traditional media such as newspapers and television, WPP has been forced to change its business strategy to maintain relevancy. The company is seeing rapid growth in its services such as market research, and in areas of new media including the Internet, satellite radio, and direct advertising. Cooney says the firm excels at non-traditional marketing, with such market services accounting for about 54% of revenues. That gives WPP an edge over rival Interpublic (IPG), says Cooney, and puts it on par with the number-one ad group, Omnicom (OMC).
WPP's wide international presence also gives it an element of diversity. More than 60% of revenues come from outside the United States, and WPP holds a larger market share in China, India and South Korea than any other company. The ad group is looking to expand its global business even further into emerging economies within Africa, Asia, Eastern Europe and Latin America. "Although such an expansion would increase WPP's growth potential, venturing into developing markets carries a certain degree of economic risk," warns Cooney.
WPP also faces the challenge of securing business in an industry where clients switch representation after an average of three to seven years to seek new creative insight. "WPP Group's companies have ample creative talent," says Morningstar analyst Thomas Forte, and a good reputation. Two of Advertising Age's top 20 ad campaigns from the 20th century came from WPP companies -- Maxwell House's "Good to the Last Drop" and American Express's "Do You Know Me?" campaigns. "Creative talent enables ad agencies to charge premiums for their services and build an economic moat," says Forte.
In fact, WPP's business doesn't require much capital aside from its human talent. That helps the company keep costs rock bottom, says Forte. Free cash flow between 2000 and 2004 has averaged a healthy 12% of sales.
At $52, the shares trade at 16 times 2005 consensus earnings estimates of $3.17 per share. That's a significant discount to its average annual P/E ratio of 22.5. WPP has increased earnings nine out of the past ten years, and analysts expect double-digit earnings growth for the next few years. Analysts covering the stock have set an average price target of $62.
--Erin Burt