Sector Allocation a Strength During COVID at IPG
admin | October 2, 2020
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.
Interpublic Group of Companies (IPG, Baa2 (n)/BBB (n)/BBB+ (n)) most recent results outperformed its advertising agency peers due to the company’s sector allocations, most notably its exposure to the healthcare sector, which accounted for over 25% of revenues in the quarter. Other top-performing sectors that IPG has a large presence in were food & beverage, retail, technology and telecom. The company has been outperforming its peer group with respect to organic growth for the past five fiscal years, yet continues to be one of the widest trading credits in the media space, despite having better ratings and better leverage than some media companies.
Better Performance, Lower Leverage
While organic revenues were down 9.9% during the quarter, the decline was significantly better than Omnicom’s (OMC – Baa1/BBB+) 23.0% organic sales drop in the quarter. Additionally, IPG outperformed its overseas peers Publicis (PUBFP – Baa2 (n)/BBB) and WPPLN (Baa2 (n)/BBB (n)/BBB+ (n)) whom witnessed organic sales declines of 13.0% and 15.1%, respectively. As an example, IPG’s gross leverage at the end of the quarter stood at 3.0x, while Discovery Inc. (DISCA – Baa3/BBB-/BBB-) posted gross leverage of 3.4x. We note that IPG repaid its $500 million maturity on 10/1/20 with cash on hand, bringing total leverage down 4 ticks to 2.6x. With the aforementioned debt reduction, IPG’s leverage now stands a tick better than OMC’s leverage, which was 2.7x at 2Q20.
Exhibit 1. BBB Media 3Y-10Y Curve
Source: Bloomberg TRACE; Amherst Pierpont Securities
IPG has been outperforming its industry peers from an organic growth perspective since 2015. Over the past five fiscal years, IPG’s organic annual growth rate was on average +280 bp higher than its peers, with 2018 its largest outperformance of +480 bp. Management remarked on its last earnings call that not only are they outperforming from a revenue perspective but also in terms of net new business. That said, they expect to see a bit of a recovery in revenues in the back half of the year. While management would not speculate whether it would be witnessed in 3Q or 4Q or both, they were encouraged by the new business wins that they deemed “not at risk”.
Exhibit 2. IPG vs. Peer Organic Growth (2015-2019)
Source: Company 10K; Amherst Pierpont Securities
Cost Restructuring Remains a Focus
The company aggressively managed operating expenses during the quarter to the “reality of the rapidly developing recession” in an effort to preserve margins as effectively as possible. Net operating expenses during the quarter were reduced 9% from the year-ago period, with each of the company’s principal cost categories – payroll, temporary labor, performance-based incentives and office expenses – down. With furloughs and layoffs part of the expense reduction, IPG felt it would be prudent to reduce its office square footage by just under 5% during the quarter (~500ksf). Restructuring charges totaled $113 million during the quarter ($68 million were non-cash charges) and are expected to result in annualized savings of $80 million to $90 million, which should begin to materialize in 3Q20. The company’s adjusted EBITDA margin before restructuring charges was 9.4% in the quarter, down 400 bp year-over-year. For the back half of the year, management is anticipating further restructuring charges of $90 million to $110 million. The savings anticipated from the next round of restructuring charges are expected to be meaningful.
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