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| OMC > SEC Filings for OMC > Form 10-Q on 24-Oct-2008 | All Recent SEC Filings |
24-Oct-2008
Quarterly Report
Executive Summary
We are a strategic holding company. We provide professional services to clients through multiple agencies around the world. On a global, pan-regional and local basis, our agencies provide these services in the following disciplines: traditional media advertising, customer relationship management ("CRM"), public relations and specialty communications. Our business model was built and evolves around our clients. While our companies operate under different names and frame their ideas in different disciplines, we organize our services around our clients. The fundamental premise of our business is that our clients' specific requirements should be the central focus in how we structure our business offerings and allocate our resources. This client-centric business model results in multiple agencies collaborating in formal and informal virtual networks that cut across internal organizational structures to deliver consistent brand messages for a specific client and execute against each of our clients' specific marketing requirements. We continually seek to grow our business with our existing clients by maintaining our client-centric approach, as well as expanding our existing business relationships into new markets and with new clients. In addition, we pursue selective acquisitions of complementary companies with strong, entrepreneurial management teams that typically either currently serve or have the ability to serve our existing client base.
In recent years, certain business trends have affected our business and our industry. These trends include our clients increasingly expanding the focus of their brand strategies from national markets to pan-regional and global markets and migrating from traditional marketing channels to non-traditional channels, as well as the emergence of new media outlets utilizing interactive technologies. Additionally, in an effort to gain greater efficiency and effectiveness from their total marketing dollars, clients are increasingly requiring greater coordination of marketing activities and concentrating these activities with a smaller number of service providers. We believe these trends have benefitted our business in the past and will continue to provide a competitive advantage to us over the long-term.
Contractions in the availability of business and consumer credit, increases in borrowing rates, a slowdown in the U.S. housing market, currency fluctuation and other factors have all led to increasingly volatile capital markets over the course of the year. During recent months, the financial services sector and other sectors of the global economy came under increasing pressures, resulting in, among other consequences, extraordinarily difficult conditions in the capital markets and the increasing likelihood of a recession that could negatively impact our clients' spending on the services that our agencies provide.
As one of the world's leading advertising, marketing and corporate communications companies, we operate in all major markets of the global economy. We have a large and diverse client base. Our largest client represented 3.0% of our consolidated revenue for the nine months ended September 30, 2008 and no other client accounted for more than 2.1% of our consolidated revenue for the nine months ended September 30, 2008. Our top 100 clients accounted for
47.0% of our consolidated revenue for the nine months ended September 30, 2008. Our business is spread across a significant number of industry sectors with no one industry comprising more than 16% of revenue from our 1,000 largest clients for the nine months ended September 30, 2008. Although our revenues are balanced between the U.S. and international markets and we have a large and diverse client base, we are not immune to general economic downturns.
During the quarter, we experienced a decline in the rate of growth of our revenue compared to the third quarter of last year and due to the rapidly changing economic conditions we have less visibility than we histroically have had regarding client spending plans in the near term. During previous periods of economic downturn our industry experienced slower growth rates and industry-wide margin contraction. Continued economic uncertainty and reductions in consumer spending may result in reductions in client spending levels, which could adversely affect our results of operations and our financial condition. Accordingly, we intend to continue to closely monitor economic conditions, client spending and other factors and seek to take actions available to us to respond to changing conditions. In the current market environment, there can be no assurance as to the effects of future economic circumstances, client spending patterns and other developments on us and whether and to what extent our efforts to respond to them will be effective.
Given our size and breadth, we manage our business by monitoring several financial indicators. The key indicators that we review focus on revenue and operating expenses.
We analyze revenue growth by reviewing the components and mix of the growth, including growth by major geographic location, growth by major marketing discipline, growth from currency fluctuations, growth from acquisitions and growth from our largest clients.
In recent years, our revenue has been divided almost evenly between domestic and international operations. For the three months ended September 30, 2008, our overall revenue growth was 6.9%, of which 2.1% was related to changes in foreign exchange rates and 0.7% was related to the acquisition of entities, net of entities disposed. The remaining 4.1% was organic growth. For the nine months ended September 30, 2008, our overall revenue growth was 10.1%, of which 4.1% was related to changes in foreign exchange rates and 1.0% was related to the acquisition of entities, net of entities disposed. The remaining 5.0% was organic growth.
We measure operating expenses in two distinct cost categories: salary and service costs, and office and general expenses. Salary and service costs are primarily comprised of employee compensation related costs and office and general expenses are primarily comprised of rent and occupancy costs, technology related costs and depreciation and amortization. Each of our agencies requires service professionals with a skill set that is common across our disciplines. At the core of this skill set is the ability to understand a client's brand and its selling proposition, and the ability to develop a unique message to communicate the value of the brand to the client's target audience. The facility requirements of our agencies are also similar across geographic regions and disciplines, and their technology requirements are generally limited to personal computers, servers and off-the-shelf software.
Because we are a service business, we monitor salary and service costs and office and general costs as a percentage of revenue. Salary and service costs tend to fluctuate in conjunction with changes in revenue. Office and general expenses, which are not directly related to servicing clients, are less directly linked to changes in our revenues than salary and service costs. These costs tend to increase as revenue increases, however, the rate of increase in these expenses could be more or less than the rate of increase in our revenues. During the third quarter of 2008 and 2007, salary and service costs were 72.5% of revenue and in the first nine months of 2008, salary and service costs increased slightly to 71.6% from 71.4% of revenue during the first nine months of 2007. This level of expense corresponds with increased revenue levels and the necessary increases in direct salaries, salary-related costs and freelance labor necessary to deliver our services and pursue new business initiatives. Office and general expenses were unchanged at 16.2% of revenue in the third quarter of 2008 and 2007. In the first nine months of 2008, office and general expenses declined slightly to 16.0% of revenue in the first nine months of 2008 from 16.2% in the first nine months of 2007. This is consistent with our efforts to increase the variability of our cost structure and continue to align our costs with business levels on a location-by-location basis. As a result, our operating margins remained constant.
Our net income in the third quarter of 2008 increased $11.4 million, or 5.6%, to $213.6 million from $202.2 million in the third quarter of 2007. Our net income in the first nine months of 2008 increased $67.4 million, or 10.2%, to $729.3 million from $661.9 million in the first nine months of 2007. Diluted earnings per share increased 11.3% to $0.69 in the third quarter of 2008, as compared to $0.62 in the prior year period. Diluted earnings per share increased 15.0% to $2.30 in the first nine months of 2008, as compared to $2.00 in the prior year period. This period-over-period increase resulted from the increase in net income for the reasons described above, as well as the impact of the reduction in our weighted average common shares outstanding. This reduction was the result of our purchases throughout 2007 and 2008 of treasury shares, net of stock option exercises and shares issued under our employee stock purchase plan.
Results of Operations: Third Quarter 2008 Compared to Third Quarter 2007
Revenue: When comparing performance between quarters and years, we discuss non-GAAP financial measures such as the impact that foreign currency rate changes, acquisitions / dispositions and organic growth have on reported revenue. We derive significant revenue from international operations and changes in foreign currency rates between the years impact our reported results. Our reported results are also impacted by our acquisitions and disposition activity and organic growth. Accordingly, we provide this information to supplement the discussion of changes in revenue period-to-period.
Our third quarter of 2008 consolidated worldwide revenue increased 6.9% to $3,316.2 million from $3,101.4 million in the comparable period last year. The effect of foreign exchange impacts increased worldwide revenue by $66.0 million. Acquisitions, net of dispositions, increased worldwide revenue by $22.9 million in the third quarter of 2008 and organic growth increased worldwide revenue by $125.9 million. The components of the third quarter 2008 revenue growth in the U.S. ("domestic") and the remainder of the world ("international") are summarized below (dollars in millions):
Total Domestic International
----------------- ----------------- --------------------
$ % $ % $ %
--------- ----- --------- ----- ----------- ------
Quarter ended September 30, 2007 $ 3,101.4 - $ 1,654.9 - $ 1,446.5 -
Components of revenue changes:
Foreign exchange impact 66.0 2.1 % - - 66.0 4.6 %
Acquisitions, net of dispositions 22.9 0.7 % 16.2 1.0 % 6.7 0.4 %
Organic growth 125.9 4.1 % 46.9 2.8 % 79.0 5.5 %
--------- --- --------- --- ----------- ----
Quarter ended September 30, 2008 $ 3,316.2 6.9 % $ 1,718.0 3.8 % $ 1,598.2 10.5 %
--------- --- --------- --- ----------- ----
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The components and percentages are calculated as follows:
º The foreign exchange impact component shown in the table is calculated by first converting the current period's local currency revenue using the average exchange rates from the equivalent prior period to arrive at a constant currency revenue (in this case $3,250.2 million for the Total column in the table). The foreign exchange impact equals the difference between the current period revenue in U.S. dollars and the current period revenue in constant currency (in this case $3,316.2 million less $3,250.2 million for the Total column in the table).
º The acquisitions component shown in the table is calculated by aggregating the applicable prior period revenue of the acquired businesses. Netted against this number is the revenue of any business included in the prior period reported revenue that was disposed of subsequent to the prior period.
º The organic component shown in the table is calculated by subtracting both the foreign exchange and acquisition revenue components from total revenue growth.
º The percentage change shown in the table of each component is calculated by dividing the individual component amount by the prior period revenue base of that component (in this case $3,101.4 million for the Total column in the table).
The components of revenue for the third quarter of 2008 and revenue growth compared to the third quarter of 2007 in our primary geographic markets are summarized below (dollars in millions):
Revenue % Growth
----------- ---------
United States $ 1,718.0 3.8 %
Euro Markets 718.3 13.0 %
United Kingdom 337.5 (4.3 )%
Other 542.4 18.3 %
---------
Total $ 3,316.2 6.9 %
---------
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As indicated, foreign exchange impacts increased our international revenue by 2.1%, or $66.0 million, during the quarter ended September 30, 2008. During the third quarter of 2008 and especially during the month of September, the U.S. Dollar strengthened against all other major currencies. However, the foreign exchange impact for the quarter was still positive primarily because during the third quarter of 2008 compared to the third quarter of 2007, the U.S. Dollar weakened against the Euro and Brazilian Real. If the exchange rates of the foreign currencies used by our operating businesses remain constant at the spot rates in effect at October 15, 2008 through the end of the fourth quarter, we expect a reduction in the range of 3.75% to 4.25% on our revenue for the fourth quarter of 2008 compared to our revenue for the fourth quarter of 2007.
Driven by our clients' continuous demand for more effective and efficient branding activities, we strive to provide an extensive range of advertising, marketing and corporate communications services through various client-centric networks that are organized to meet specific client objectives. These services include advertising, brand consultancy, crisis communications, corporate social responsibility consulting, custom publishing, database management, digital and interactive marketing, direct marketing, directory advertising, entertainment marketing, environmental design, experiential marketing, field marketing, financial/corporate business-to-business advertising, graphic arts, healthcare communications, instore design, investor relations, marketing research, media planning and buying, mobile marketing services, multi-cultural marketing, non-profit marketing, organizational communications, package design, product placement, promotional marketing, public affairs, public relations, recruitment communications, reputation consulting, retail marketing, search engine marketing and sports and event marketing. In an effort to monitor the changing needs of our clients and to further expand the scope of our services to key clients, we monitor revenue across a broad range of disciplines and group them into the following four categories as summarized below: traditional media advertising, CRM, public relations and specialty communications (dollars in millions).
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
3rd Quarter % of 3rd Quarter % of $ %
2008 Revenue 2007 Revenue Growth Growth
------------- ----------- ------------- ----------- ----------- ---------
Traditional media advertising $ 1,382.0 41.7 % $ 1,292.8 41.7 % $ 89.2 6.9 %
CRM 1,305.5 39.3 % 1,165.8 37.6 % 139.7 12.0 %
Public relations 314.1 9.5 % 317.8 10.2 % (3.7 ) (1.2 )%
Specialty communications 314.6 9.5 % 325.0 10.5 % (10.4 ) (3.2 )%
------------- ------------- ---------
$ 3,316.2 $ 3,101.4 $ 214.8 6.9 %
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Operating Expenses: Our third quarter 2008 worldwide operating expenses increased $191.6 million, or 7.0%, to $2,942.8 million from $2,751.2 million in the third quarter of 2007, as shown below (dollars in millions):
Three Months Ended September 30,
--------------------------------------------------------------------------------------
2008 2007 2008 vs 2007
---------------------------------- ------------------------------ --------------------
% of % of
% Total % Total
of Operating of Operating $ %
$ Revenue Expenses $ Revenue Expenses Growth Growth
----------- --------- ------------ --------- --------- ---------- ----------- --------
Revenue $ 3,316.2 $ 3,101.4 $ 214.8 6.9 %
Operating Expenses:
Salary and service
costs 2,405.6 72.5 % 81.7 % 2,248.5 72.5 % 81.7 % 157.1 7.0 %
Office and general
expenses 537.2 16.2 % 18.3 % 502.7 16.2 % 18.3 % 34.5 6.9 %
----------- ------ --------- ------ ----------- -----
Total Operating Expenses 2,942.8 88.7 % 2,751.2 88.7 % 191.6 7.0 %
Operating Profit $ 373.4 11.3 % $ 350.2 11.3 % $ 23.2 6.6 %
----------- ------ --------- ------ ----------- -----
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Because we provide professional services, salary and service costs represent the largest part of our operating expenses. During the third quarter of 2008, we continued to invest in our businesses and their professional personnel. As a percentage of total operating expenses, salary and service costs were 81.7% in the third quarter of each of 2008 and 2007. These costs are comprised of salary and related costs and direct service costs. Most, or $157.1 million and 82.0%, of the $191.6 million increase in total operating expenses in the third quarter of 2008 resulted from increases in salary and service costs. This increase was attributable to the increase in our revenue in the third quarter of 2008 and the necessary increases in the direct costs required to deliver our services and pursue new business initiatives, including direct salaries, salary related costs and direct service costs, including freelance labor costs and direct administrative costs, such as travel, as well as increased severance costs, partially offset by a reduction in incentive compensation. As a result, salary and service costs as a percentage of revenue were 72.5% in the third quarter of each of 2008 and 2007.
Office and general expenses represented 18.3% of our operating expenses in the third quarter of each of 2008 and 2007. These costs are comprised of office and equipment rents, technology costs and depreciation, amortization of identifiable intangible assets, professional fees and other overhead expenses. As a percentage of revenue, office and general expenses were unchanged at 16.2% in the third quarter of each of 2008 and 2007. These costs are less directly linked to changes in our revenues than our salary and service costs. Although they tend to increase as our revenues increase, the rate of increase could be more, or less than the rate of increase in our revenues.
Net Interest Expense: Our net interest expense increased slightly in the third quarter of 2008 to $20.7 million, as compared to $19.3 million in the third quarter of 2007. This increase was related primarily to increases in amortization of supplemental interest payments, in accordance with Emerging Issues Task Force ("EITF") No. 96-19, Debtor's Accounting for a Modification or Exchange of Debt Instruments ("EITF 96-19"), which related to our Zero Coupon Zero Yield Convertible Notes due 2031 and 2032 ("2031 Notes" and "2032 Notes") in the quarter and higher interest expense on our Euro and Yen denominated swaps. These increases were partially offset by increased interest income earned on our foreign cash balances.
Income Taxes: Our consolidated effective income tax rate was 33.5% in the third quarter of 2008, which is slightly lower than the third quarter 2007 rate of 33.9%.
Earnings Per Share (EPS): For the foregoing reasons, our net income in the third quarter of 2008 increased $11.4 million, or 5.6%, to $213.6 million from $202.2 million in the third quarter of 2007. Diluted earnings per share increased 11.3% to $0.69 in the third quarter of 2008, as compared to $0.62 in the prior year period. This period-over-period increase resulted from the 5.6% increase in net income for the reasons described above, as well as the impact of the reduction in our weighted average common shares outstanding. This reduction was the result of our purchases throughout 2007 and 2008 of our common stock, net of stock option exercises and shares issued under our employee stock purchase plan.
Results of Operations: First Nine Months of 2008 Compared to Nine Months of 2007
Revenue: Our first nine months of 2008 consolidated worldwide revenue increased 10.1% to $9,988.5 million from $9,068.1 million in the comparable period last year. The effect of foreign exchange impacts increased worldwide revenue by $374.5 million. Acquisitions, net of dispositions, increased worldwide revenue by $88.9 million in the first nine months of 2008 and organic growth increased worldwide revenue by $457.0 million. The components of the first nine months of 2008 revenue growth in the U.S. ("domestic") and the remainder of the world ("international") are summarized below (dollars in millions):
Total Domestic International
------------------ ----------------- ------------------
$ % $ % $ %
--------- ------ --------- ----- --------- ------
Nine months ended September 30, 2007 $ 9,068.1 - $ 4,858.4 - $ 4,209.7 -
Components of revenue changes:
Foreign exchange impact 374.5 4.1 % - - 374.5 8.9 %
Acquisitions, net of dispositions 88.9 1.0 % 50.2 1.0 % 38.7 0.9 %
Organic growth 457.0 5.0 % 221.9 4.6 % 235.1 5.6 %
--------- ---- --------- --- --------- ----
Nine months ended September 30, 2008 $ 9,988.5 10.1 % $ 5,130.5 5.6 % $ 4,858.0 15.4 %
--------- ---- --------- --- --------- ----
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The components and percentages are calculated as follows:
º The foreign exchange impact component shown in the table is calculated by first converting the current period's local currency revenue using the average exchange rates from the equivalent prior period to arrive at a constant currency revenue (in this case $9,614.0 million for the Total column in the table). The foreign exchange impact equals the difference between the current period revenue in U.S. dollars and the current period revenue in constant currency (in this case $9,988.5 million less $9,614.0 million for the Total column in the table).
º The acquisitions component shown in the table is calculated by aggregating the applicable prior period revenue of the acquired businesses. Netted against this number is the revenue of any business included in the prior period reported revenue that was disposed of subsequent to the prior period.
º The organic component shown in the table is calculated by subtracting both the foreign exchange and acquisition revenue components from total revenue growth.
º The percentage change shown in the table of each component is calculated by dividing the individual component amount by the prior period revenue base of that component (in this case $9,068.1 million for the Total column in the table).
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
The components of revenue for the first nine months of 2008 and revenue
growth compared to the first nine months of 2007 in our primary geographic
markets are summarized below (dollars in millions):
Revenue % Growth
----------- ---------
United States $ 5,130.5 5.6 %
Euro Markets 2,217.9 18.1 %
United Kingdom 1,026.4 0.0 %
Other 1,613.7 23.6 %
---------
Total $ 9,988.5 10.1 %
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As indicated, foreign exchange impacts increased our international revenue by . . .
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