Omnicom Group Inc. (OMC) Q4 2012 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen, and welcome to the Omnicom Fourth Quarter 2012 Earnings Release Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. At this time, I'd like to now introduce you to today's conference call host, Executive Vice President, Chief Financial Officer of Omnicom Group, Mr. Randall Weisenburger. Please go ahead.

Good morning. Thank you for taking the time to listen to our fourth quarter earnings call. We hope everyone had a chance to review our earnings release. We've posted to our website both the press release and our presentation covering the information that we'd be presenting this morning. This call is also being simulcast and will be archived on our website. But before we start, I've been asked to remind everyone to read the forward-looking statements and other information that's included on the last page of our investor presentation. I've also been asked to point out that certain of the statements made today may constitute forward-looking statements, and that those statements are our present expectations, and actual events or results may differ. We also want to remind you that during the course of the call, we will discuss some non-GAAP measures in talking about Omnicom's performance. You can find the reconciliation of those measures to the nearest comparable GAAP measures in the presentation materials. Now we're going to begin the call with remarks from John Wren. Following John's remarks, we'll review our financial performance for the quarter, and then we'll open the call up for questions.

Good morning. I'm pleased to speak to you this morning about our fourth quarter business results and the progress we are making against our key strategic initiatives and my thoughts about the rest of the year. Hopefully, all of you had a chance to review our financial results and have seen our press release this morning, increasing our quarterly dividend 33% to $0.40 per share. Thanks to an exceptional list of clients and the commitment, talent and creativity of our people, we finished the fourth quarter and the full year 2012 in a very strong position. We enter into 2013 well prepared to respond to the continued changes in the marketplace. While the macroeconomic environment appears to be stabilizing and even improving in some areas, issues in several markets still remain unresolved. As a result, we plan for another year of modest global growth, but remain nimble enough to take advantage of opportunities as they arise. At this point in our planning, we remain focused on controlling our costs and increasing productivity. But we are cautiously optimistic as we look into the latter part of 2013 and into 2014. Let me discuss our key markets in more detail. In the U.S., the election has settled one set of questions, but the long-term fiscal imbalances and the mounting government debt still need to be addressed. The impending decisions to be made by Congress and the administration will impact overall economic growth this year. As we have proven in the past, our operations have consistently outperformed GDP in the U.S., and we are hopeful that the slow but steady economic improvements we have seen will continue. In Europe, we sense greater stability, but many markets remain weak and growth is likely to be slow for some time, as governments pursue structural changes…

Thank you, John. It was a good quarter and a good year. There certainly was a lot going on this past year, with the Olympics, the U.S. elections, a sustained economic recession across much of Europe and at best, a lackluster recovery in the U.S., to mention a few. But through it all, I think our agencies performed exceptionally well. And as John pointed out, they again led the industry in each of the major markets around the world from a creative and innovation perspective. They led the industry in organic growth by delivering innovative solutions to their clients using both new and established technologies. And through relentless focus on cost control, they were able to return our aggregate operating margins to their prerecession levels. Now for the quarter. Due to stronger-than-expected organic growth, revenue for the quarter came in a little better than we had expected, up 2.4% to $3.9 billion. And that resulted in full year revenue of $14.2 billion, which was an increase of 2.5%. Organic growth for the quarter was 2.7% and was just over 4% for the full year. Due to the outstanding efforts of our agency management teams in controlling cost, EBITDA was very strong, increasing 12.3% to $574 million for the quarter. Margins were 14.5%, up about 120 basis points from last year. And as expected, due to the combination of solid organic growth and our agencies' focus on containing cost, we were able to return our full year EBITDA margin to our 2007 level of 13.4%. Similarly, operating income or EBIT for the quarter increased 12.4% to $548 million, and our resulting operating margin was 13.9%, also a year-over-year improvement of about 120 basis points. On Slide 2, we'll address the items below operating income. First, net interest expense for the quarter…

[Operator Instructions] And first, we'll go to James Dix with Wedbush Securities.

Just 2 things. I guess one, what was driving the particularly strong growth organically that you saw in the U.S. in the fourth quarter? I know you've, in the past, cautioned people not to focus too much on particular quarters in particular regions, but it is an important region for you. And then, just looking into 2013. I mean, is your outlook for the U.S. at the moment kind of in line with your outlook for kind of modest global growth? Or is your outlook for the U.S. a little bit faster or slower than that?

First, with respect to the fourth quarter. I think we've been saying this consistently for a very long period of time. There's a certain element of budget which is very difficult to predict as to whether clients are going to spend it or if it's actionable, if they're going to delay spending. What we saw throughout the quarter, especially after the election in the U.S., was a commitment by clients to continue to spend those budgets to try to increase their market share. And that's the attitude today across the board, I think, on most of our major clients, especially in the U.S. At this point, in terms of what we expect, there's still a bit of uncertainty out there, and from a consumer point of view, we haven't had enough time nor data to measure the impact of the -- not the upper-bracket tax rates, but the payroll tax -- $1,000 that Congress took away. And there's still uncertainty on the part of many clients as to how the U.S. government is going to deal with sequester. So it's a little bit too early for us to give you an accurate prediction, but we're planning our business for modest growth. And being a service business, we think that's prudent because that helps us contain costs while staying nimble enough, as I said earlier, to take advantage of spending as it comes through.

This growth -- I mean, do you mean like growth slightly lower than what you saw in 2012? I know at some conferences, you've made some allusions to what you mean by that. But if you had any more granularity given this opportunity, that would be great, and then I'm done.

This is Randy. My personal view is 2013 feels a lot like 2012 from, I'll say, an economic backdrop standpoint. But we don't have the Olympics this year. So I certainly think there's a little bit of spending, a little bit of revenue on our numbers, yes, associated with the Olympics that's likely not to be there next year. That's probably about as accurate as we can get at this point.

Next question is from Alexia Quadrani with; JP Morgan. Alexia S. Quadrani - JP Morgan Chase & Co, Research Division: My question is just on the euro markets and the softening we saw on the quarter. I guess, any comment on how that progressed. I mean, did it get worse as the quarter went on? Should we assume it will continue to weaken a bit in the first quarter? Or should it be -- are you looking at a bit more stability in 2013? I know it's difficult to predict, but any color you can give us would be great.

Some of the decline were -- can be tracked to specific client reductions, as opposed to economic situations. The marketplace there -- I mean, Europe is in an uncertain position. We don't expect any vast improvements any time soon. And we're planning accordingly, Alexia, so -- and hopeful that were -- that it's brighter than that, but I...

Yes, I think that's right. I mean I can't tell you how they tracked over the course of the quarter. I haven't looked at that. I do think the positive performance that we had in Europe was literally driven by strong specific agency performance, new business wins, innovative ideas for clients that drove the growth rather than economic growth. Alexia S. Quadrani - JP Morgan Chase & Co, Research Division: I guess in terms of how you're budgeting, you're not necessarily assuming a step-down, or are you just being very careful on cost because you don't really know what the environment will come out in?

Sure, we're not planning a step-down at this point, but we're not planning any outbreak of growth either, so it's a steady-state. Plus, costs there, if you make the mistake of adding them, they get to be very expensive when you try to take them out. So we've been prudent, but we haven't -- there hasn't been a dramatic change. Alexia S. Quadrani - JP Morgan Chase & Co, Research Division: And then, jumping back to the U.S. The decrease in the pharma client base seem to have lessened a bit. Do you think we're sort of over the worst in that sector in terms of the dropoff? Or do you think it'd still be a challenge in '13?

I think we're -- a lot of what affected our pharma business is probably behind us as -- so that's a great area for us, I think, in 2013 as we move forward.

Our next question is from Peter Stabler with Wells Fargo Securities.

Wondering if you could offer a little bit more color on emerging markets. For the last 8 quarters or so -- or I guess I should say rest of world segment instead. For the last 8 quarters or so, we've seen a significant outperformance versus the U.S. This quarter is only 1 quarter, we realize, but just wondering if you could give us some color on your expectations for 2013, whether we could see an outperformance in rest of world or whether you think this 1 quarter portends a bit of a trend here. And then secondly, if you could give us any CapEx guidance for the year.

We expect Asia to continue at or around the same pace that we saw in the fourth quarter. It's been strong. There's a lot of client activity going on. Clients have diverted money that was spent in other places to Asia because that's where the consumer seems the healthiest. And Japan showed signs of vitality in the fourth quarter, and we expect that to continue also, at least for the first half.

Where there any particular areas of weakness in rest of world? Or is this indicative of maybe agency performance, the deceleration, or a macro?

For rest of world? I think our rest of world numbers were -- I felt they were pretty good. We had strong performance in Brazil, Russia, Singapore, India. This quarter, Japan, which is a large market for us -- it's obviously a large market and hasn't been a fairly robust economic backdrop, so our agencies in that market this quarter performed very well in that backdrop. The Middle East has been, I'll say, mixed at times. That probably covers most of it.

And then, Randy, any CapEx guidance for the year given the level of investments this year?

I think it will be probably down a little bit from this year. As I mentioned, in 2012, we had a couple large real estate projects going on. We bought a building for one of our agencies, so that was $15 million, $16 million. Obviously, not a huge building. We still have some IT consolidation initiatives going on that will increase CapEx relative to a normal base. But I don't know of any major moves or rebuilds at this point. So I would suspect it will come down a little bit.

Next, we'll go to Tim Nollen with Macquarie.

Hearing your comments on the top line, could you please give a little color on the cost side for 2013? Understanding that you are paying your staff and just wondering what sort of internal cost you may yet be able to squeeze out. And in that context, if there is any sort of comment you could give on guidance on margins for '13, please.

We -- at this point, we have to manage our agencies' margins agency by agency. We certainly have some agencies that are not performing at, I'll say, the appropriate margin level for them or their type of business, and we need to try to get them -- their costs more aligned with where their revenues and where their business is at. Overall, it's a difficult cost environment. We're 4 or 5 years into a relatively difficult economic environment in 65% or 70% of our revenue markets, so basically U.S. and Europe. So trying to hold costs flat or low growth is very difficult for that length of time. I feel comfortable being able to match our 2012 margins and continue to -- and have us continue to be able to invest in the growth and the development of the business that we've been doing and that we want to do. After that, we'll see how the margins ultimately work out, but our focus is on getting all of our agencies' margins right agency by agency and continue to invest in our people and our business.

Okay. And your acquisition number was slightly lower in 2012 than previous -- many previous years, I guess. Is there any comment on acquisition pipeline for 2013, please?

The pipeline is always good. What generally makes the difference in CapEx is if you -- if we're able to complete 1 or 2 large or midsized deals. In 2011, that would have been Mudra and I think Communispace and Clemenger, I guess. We didn't have deals -- we didn't have any deals of that size in 2012. I'm hopeful in 2013 that we will, but that's -- those deals are much more difficult to predict, I'll say, statistically. As far as another 10 to 15 similar acquisitions that we did in 2012, I think there's a pretty high probability that that will occur.

Our next question is from Michael Nathanson with Nomura.

I have 2, probably for Randy but maybe questions for John, too. Looking at your Slide 13, you look at the long-term return of capital to shareholders, and it's pretty impressive, but the mix of the returns, about 75% buybacks and 1/4 dividends. And I wonder, looking at the next couple of years, do you see those 2 areas converging a bit, maybe raising the dividend at the expense of the buybacks? How do you think about the blend of capital returns?

Well, as John just pointed out, since 2010, we've doubled the dividend. We had a 33% increase in the dividend this year. So I think that's pretty much a sign that our expectation is that the dividend as a percentage of our payout is likely to go up.

And do you have a range of where you can get it to, you think, in terms of how you think about the payout ratio?

No.

Okay. Okay, so let me ask you this, on -- can you help us a bit on Q4 revenue, the expense line for O&G and salary? Rather than waiting for the K to come out, I wonder if you can give it to us.

If you just give us 1 second -- or maybe more than 1 second.

Yes, why don't we go on and take another question, and when we get to the answer, we'll say it in the middle of the next question.

And we'll go to Doug Arthur with Evercore.

My question is somewhat related. Do you have any sense of what your year-end headcount was?

Yes. It was around 72,000, plus or minus a little bit. Maybe -- I don't have it exact off the top of my head, 71,000-and-something the way we count it.

Okay. And then...

71,099.

71,099?

Yes.

Okay. And then, excluding acquisition impact, is it fair to say that, given the revenue outlook, which is constructive but still a little iffy, that that should be a relatively flat number in '13?

Our objective is not to -- we're expecting to grow there in 2013. But our expectations is that we're hiring behind our revenue, not in advance of our revenue, in most instances. Unless we're making an investment from a -- in a startup. There's 1 or 2 considered, but it won't drastically change that number.

And also, keep in mind that we have a mix of businesses that, headcount to revenue -- and we have a mix of countries that, headcount to revenue, are quite different. So I mean, if you're trying to use headcount as a proxy for something, you're probably not really doing yourself a good analysis.

A lot of noise in the number, basically. Okay.

We're in a lot of countries, in a lot of different businesses. They're service businesses, and we're largely getting paid our cost of labor plus overhead in a margin, and that labor varies by skill level quite dramatically and by country quite dramatically.

Our next question is from Ben Swinburne with Morgan Stanley.

I got a couple. I wanted to ask you about a couple...

Let me interrupt for 1 -- just 1 second and answer -- I think it was Peter's question. So salary and service costs in -- for the year was $10,380,700 and office and general was $2,034,500,000.

Great. Hopefully, that doesn't count as my question. All right, okay. So moving forward, so a couple of numbers you've spoken to in the past, either at conferences or on earnings calls, I think you had talked about '13 feeling like a 2% to 3% top line year versus the 4% in '12. You called out the Olympics and some -- obviously, it was a political year, but just wanted to see if that was still how you were feeling about things or maybe if there were some -- more upside potential than you thought a couple of months ago. And then the second number would be percent of free cash flow on dividends, buybacks and acquisitions. I think you did about 20% above your free cash in '12. You're carrying $2.7 billion of cash. I didn't know if that was because of the converts that are puttable coming up or anything else you'd speak to, but any help on the free cash flow spending appetite this year would also be helpful.

Okay. Let's see, a few questions here. So I'll give you the free cash flow. That's probably the easiest. We issued the bonds last year, and we said that we would outspend our free cash flow in the $300 million to $500 million per year range for the next couple of years. We outspent our free cash flow in 2012 by about $313 million. I suspect we'll outspend our free cash flow in '13 by again $300 million to $500 million with that combination of dividends, buybacks and acquisitions. I made a statement earlier in the year trying to think about '13 versus '12. At the time, I felt '13 felt a little bit more difficult than '12. That was a few months ago. That was kind of right around the end of the elections and wrestling with what people were going to -- what the administration was going to do. So I think, today, I think -- and again, it's relatively unscientific. I think '13 probably feels pretty much like it felt going into '12, except for the Olympics. I think the Olympics probably added maybe 0.5 point to our revenue growth -- or to our revenue in 2012. So if that -- if we said we thought '12 was going to be 3.5% to 4% organic growth, I guess that would make it sort of 3% to 3.5% organic growth is the way it feels at that -- but again, it's pretty early in the year.

Got it. And can I just take a stab at the rest of world question again? For the first 9 months, that business was organically up 11% and then 4.4% in Q4. And doesn't sound like your -- from your comments earlier, there's anything to that that we should read going forward. But I just wanted to revisit that one more time.

Could you repeat that question for us, please?

Yes. The rest of world category was up 11%, I think, for the first 9 months ending in the third quarter. And then, for Q4, just the organic growth, it was up 4.4%. And obviously, that's got Asian and Latin American in there. So I just didn't know if there's anything -- I think there was a question earlier. It didn't sound like there was anything to it, but I wanted to ask just since it's such an important region.

I don't think there's anything in the numbers. Again, I wouldn't look at any individual quarter. I'd really look at full year numbers. I think our agencies in those markets are doing quite well. We do -- as they grow, they become bigger numbers to grow on, which, by definition, over time, will slow the growth rates down a little bit. But the region will become more impactful, which is obviously positive.

Our next question is from Craig Huber with Huber Research Partners.

This is Greg Stein for Craig Huber. I was just wondering what the project-related revenue was in 4Q '12 and then also what it was year ago as well.

I don't know. That's not something that we break out or collect.

Okay. How about, I guess, just your outlook for next year on auto? This year, you had a strong year, up 15%. What are you seeing for 2013?

I think the auto sector overall looks relatively positive. And during the market commentary, people think the U.S. auto unit sales as an industry will be up in 2013, so that's obviously a positive. The auto sector is one that our revenues have tracked, I think, fairly well to global auto sales. So it should be -- if auto sales do take the positive trend people are talking about, it should be positive for our revenues in the sector.

Okay. And finally, sorry to be this specific, but I was wondering if you'd potentially break out your interest expense and interest income lines?

We'll get that number for you in 1 second. Also, I want to go back and I'll say, finish answering Peter's question. I gave you the breakout of salary and service and office and general for the full year. For Q4, the numbers were $2,889,100,000 for salary and service and $507.5 million for office and general. And for interest expense and interest income, let's see. I guess full year numbers, interest expense was $179.7 million and interest income was $35.1 million. Given that we're getting pretty close here to 9:30, so we'll take one more question.

That will be from the line of David Bank with RBC Capital Markets.

So 2 things. First, John spent a lot of time at the beginning of the call talking about technology and digital. And you tend to capture more wallet share for yourselves rather than passing it onto media operators with digital, I would think. Can you talk about the time frame at which you think this -- could it lead to sort of a breakout beyond typical historical growth rates when you start skewing more digital after investing in it? And second question is, can you give us a little update about how things are going at Commonwealth and review for us where the accounting for Commonwealth is? Is it consolidated? And where is -- is it a consolidator account for a JV?

Look, complexity is our friend. There's no doubt about it, because the more fragmented the market is and the more complex it is in terms of reaching the target audiences, it takes more very, very smart insightful people to accomplish that. That's a long-term trend, and it continues. I don't see it as a major breakout impacting our numbers within the near term more -- in any great variance to the steady state of growth that we've had. There's a lot on the horizon, and we think that trend is going to continue into the future. And it's, again, good for us.

So even if you went out like 3 to 5 years, do you think it would have the ability to kind of move the needle beyond average growth?

I think it's moving the needle now. It will continue to move the needle. You have to keep in mind it's a very large industry. We're in a lot of different marketing areas, and it's a fairly concentrated industry. New technologies are allowing marketing to evolve. But I don't think there's a revolution in the change of what's going on. And is it possible the revolution will happen sometime in the future? I think it's possible. It's certainly not something that we predict at this point.

And technological ability to do things and permission to do things are really at the core of some of this. If you look at privacy policy in the United States versus privacy policy in Europe, which -- and who will -- they are different, and both regions are taking different approaches. And we don't know how the rest of the world is -- which policy the rest of the world is going to lean into. So the more targeting that we can do, the better it is because it's a greater ROI for the client and everything becomes more and more measurable. So that's the move. But there's a number of open questions, but it's positive at the back of our business.

And on Commonwealth, we account for the revenues going to our agencies, or the work being performed by our agencies, and IPG accounts for the revenue and the profits of the work that their agencies are doing.

So it's just consolidated in -- within the agencies, right? And so...

Yes. Each of us consolidate our piece. Neither one of us consolidates the aggregate of Commonwealth. So they -- IPG gets and it consolidates the revenue of the work their agencies do, and we would consolidate the revenue of the work our agencies do.

Does the development with Silverado and some of the account shifts, like did they move the needle at all this year? Does it affect the venture? Can you talk a little bit about that?

No, it -- I mean, to a company our size, one account doesn't really move the needle one way or the other.

Thank you, all, very much, and thank you for taking the time to listen to our call.

Ladies and gentlemen, that does conclude your conference. Thank you for your participation. You may now disconnect.