Stagwell Inc annual report, FY2019

Business Context and Reporting Period

This filing is MDC Partners Inc.’s Form 10-K for the fiscal year ended December 31, 2019, including fourth-quarter results. The supplied filing does not identify the registrant as Stagwell Inc.; it identifies MDC Partners Inc., which entered into a 2019 investment transaction with an affiliate of The Stagwell Group. MDC operated a global marketing, advertising, communications and strategic consulting network through five disclosed business categories: Global Integrated Agencies, Domestic Creative Agencies, Specialist Communications, Media Services and All Other.

The company reported 5,647 employees worldwide and generated its highest quarterly revenue in the fourth quarter, consistent with historical seasonality.

Financial Performance and Position

Metric	2019	2018	Change
Revenue	$1.416 billion	$1.476 billion	Down 4.1%
Operating income	$80.2 million	$9.7 million	Up $70.5 million
Operating margin	5.7%	0.7%	Improved
Net income (loss)	$11.5 million	$(111.9) million	Improved
Net loss attributable to common shareholders	$(17.0) million	$(132.1) million	Improved
Diluted loss per share	$(0.25)	$(2.31)	Improved
Cash flow from operations	$86.5 million	$17.3 million	Improved
Capital expenditures	$18.6 million	$20.3 million	Down $1.7 million

Revenue declined primarily because of client losses, reduced client spending and unfavorable foreign exchange. Non-GAAP organic revenue declined 3.1%, including a 3.7% decline from comparable existing Partner Firms, partially offset by 0.6% growth from acquired businesses.

Segment revenue: Global Integrated Agencies $598.2 million; Domestic Creative Agencies $230.7 million; Specialist Communications $180.6 million; Media Services $97.8 million; All Other $308.5 million.
Segment operating income: Global Integrated Agencies $58.9 million; Domestic Creative Agencies $28.3 million; Specialist Communications $23.8 million; Media Services $(5.4) million; All Other $20.4 million; Corporate $(45.8) million.
Cash and liquidity: Cash and cash equivalents were $106.9 million, compared with $30.9 million in 2018. Working capital remained negative at $(196.6) million.
Debt: Total debt, net of issuance costs, was $887.6 million, consisting primarily of $900 million of 6.50% senior notes due 2024. The revolving credit facility had no borrowings outstanding and $245.2 million of availability at year-end.
Other obligations: Deferred acquisition consideration was $75.2 million and redeemable noncontrolling interests were $37.0 million. Contractual obligations totaled $1.581 billion, including debt, leases, interest and deferred acquisition consideration.
Balance sheet: Total assets were $1.839 billion and total shareholders’ deficit was $(179.4) million. Goodwill was $740.7 million and other intangible assets were $54.9 million.

Material Changes Versus the Prior Comparable Period

Operating income increased substantially because 2019 impairment charges were $7.8 million versus $80.1 million in 2018. The 2019 charge included goodwill and right-of-use asset impairments; 2018 included significant goodwill and trademark write-downs.
Operating profitability improved despite lower revenue, as staff costs, administrative expenses and depreciation and amortization declined through staffing reductions and cost-saving initiatives.
Media Services revenue fell 19.7% and remained loss-making, although its operating loss improved to $5.4 million from $51.2 million, mainly because of the lower prior-year impairment charge and reduced expenses.
Specialist Communications revenue increased 10.5% and operating income increased 37.6%. Domestic Creative Agencies returned to meaningful profitability, with operating income of $28.3 million versus $0.1 million in 2018.
Cash flow from operations increased by $69.3 million, while debt declined by $66.5 million after repayments under the revolving credit facility.
The company adopted ASC 842 lease accounting on January 1, 2019, recognizing a $299.2 million lease liability and a $254.2 million right-of-use asset at adoption. Prior periods were not restated.
The company issued 14.3 million Class A shares and 50,000 Series 6 convertible preference shares in March 2019, generating approximately $98.6 million of net proceeds. The preference shares have an initial $50 million liquidation preference and an initial $5.00 conversion price, subject to adjustments.

Guidance, Outlook, Commentary and Risks

The filing does not provide formal revenue, earnings or margin guidance. Management stated that existing cash, operating cash flow and available revolver capacity were expected to fund operations and anticipated cash needs for the following twelve months. Management also expected continued compliance with debt covenants based on current projections.

Management’s strategy emphasized combining data and creativity, increasing collaboration among Partner Firms, pursuing acquisitions and reducing costs. Beginning in the first quarter of 2020, MDC reorganized agencies into integrated “Networks” and began evaluating changes to its reportable segments.

COVID-19: The filing identifies the coronavirus outbreak as a risk to 2020 results, citing uncertainty around client spending, economic activity and operational disruption.
Client concentration and demand: The ten largest clients represented approximately 23% of revenue over the three-year period ended December 31, 2019. Client contracts generally permit termination on 30 to 90 days’ notice.
Leverage and refinancing: The company must service $900 million of notes due in 2024 and comply with financial covenants. Covenant metrics at year-end included a total leverage ratio of 4.52 versus a maximum of 6.25 and covenant EBITDA of $184.2 million versus a minimum of $105.0 million.
Contingent obligations: Deferred acquisition payments and put rights held by noncontrolling shareholders can increase depending on acquired businesses’ performance and employment-related events.
Internal controls: Management identified a material weakness in controls over income-tax accounting, particularly deferred tax accounts. The auditor issued an adverse opinion on internal control over financial reporting, although it issued an unqualified opinion on the consolidated financial statements.
Related-party and strategic items: On February 14, 2020, MDC sold substantially all assets and certain liabilities of Sloane to a Stagwell affiliate for approximately $26 million, with an estimated gain of $16 million. On February 27, 2020, MDC entered into an approximately 11-year One World Trade Center lease with total rent of approximately $115 million, partially offset by planned subleasing of existing space.
Other risks: Risks include client defaults, loss of key employees, foreign exchange exposure, goodwill and lease-asset impairment, data privacy and cybersecurity requirements, regulatory and litigation exposure, and competition from holding companies, consultancies, technology platforms and media companies.

Important Facts for Investors to Verify

Confirm that the intended issuer is MDC Partners Inc., not Stagwell Inc., and review the related-party terms of the Stagwell investment and Sloane disposition.
Assess whether the revenue decline and 3.1% organic decline continued into 2020, particularly after the coronavirus outbreak.
Review the company’s ability to refinance or repay the $900 million of notes due in 2024 and maintain compliance with its credit-facility covenants.
Monitor remediation of the material weakness in income-tax controls and any subsequent restatements or control deficiencies.
Evaluate the sustainability of the 2019 operating improvement after excluding impairment charges and other unusual items.
Review potential dilution from the 145,000 convertible preference shares, which were convertible into approximately 26.7 million Class A shares at year-end 2019.
Reconcile reported cash generation with negative working capital, deferred acquisition obligations, lease commitments and potential noncontrolling-interest put obligations.