Stagwell Inc quarterly report, Q3 FY2023

Stagwell Inc. 2023 Q3 Form 10-Q Summary

Business Context and Reporting Period

Stagwell provides marketing, communications, media, data, digital transformation, consumer insights and strategy services through its global portfolio of brands. This unaudited Form 10-Q covers the three and nine months ended September 30, 2023, compared with the corresponding 2022 periods.

The company reports three operating networks: Integrated Agencies Network, Brand Performance Network and Communications Network, plus All Other and Corporate. Prior-period segment information was recast for reporting-structure changes.

Financial Performance and Key Metrics

Metric	Q3 2023	Q3 2022	9M 2023	9M 2022
Revenue	$617.6 million	$663.8 million	$1,872.3 million	$1,979.6 million
Operating income	$33.7 million	$70.1 million	$71.2 million	$173.0 million
Operating margin	5.5%	10.6%	3.8%	8.7%
Adjusted EBITDA	$101.8 million	$115.1 million	$265.2 million	$327.8 million
Adjusted EBITDA margin	16.5%	17.3%	14.2%	16.6%
Net income attributable to Stagwell shareholders	$0.7 million	$10.6 million	$(3.6) million	$33.7 million
Basic EPS	$0.01	$0.08	$(0.03)	$0.27

Q3 revenue declined 7.0%, while nine-month revenue declined 5.4%. Net revenue, excluding billable costs, declined 3.8% in Q3 and 2.6% for the nine-month period. Organic net revenue declined 6.8% in Q3 and 5.6% for the nine months.

Q3 operating income fell 51.8% and nine-month operating income fell 58.8%. Adjusted EBITDA declined 11.6% in Q3 and 19.1% for the nine months. The reported Q3 operating margin was pressured by lower revenue, higher office and general expenses, higher depreciation and amortization, and increased deferred acquisition consideration expense.

Interest expense increased to $25.9 million in Q3 and $67.8 million for the nine months, compared with $19.7 million and $56.6 million, respectively, primarily because of higher revolving-credit borrowings and interest rates. The nine-month effective tax rate was unusually high at 1,709.1% because pretax income was only $0.7 million and was affected by valuation allowances, impairment-related tax effects, lower share-based compensation tax benefits and out-of-period adjustments.

Segment and Revenue Trends

Integrated Agencies Network: Q3 revenue declined 4.8% to $348.8 million; adjusted EBITDA increased 1.3% to $77.2 million. Nine-month revenue declined 5.4% to $1.03 billion and adjusted EBITDA declined 1.9% to $211.4 million.
Brand Performance Network: Q3 revenue increased 1.1% to $173.4 million, while adjusted EBITDA declined 4.6% to $23.2 million. Nine-month revenue increased 2.0% to $574.7 million, but adjusted EBITDA declined 24.5% to $67.4 million.
Communications Network: Q3 revenue declined 32.6% to $82.5 million and adjusted EBITDA declined 32.2% to $17.3 million. Nine-month revenue declined 26.8% to $230.3 million and adjusted EBITDA declined 39.5% to $35.8 million, reflecting lower advocacy and public-relations spending following the 2022 election cycle and weaker technology-sector demand.
All Other: Q3 revenue increased to $12.9 million from $3.4 million, but adjusted EBITDA was negative $4.0 million. Nine-month revenue increased to $34.4 million, while adjusted EBITDA was negative $10.2 million.

Cash Flow, Liquidity and Debt

Operating cash flow was negative $127.5 million for the nine months ended September 30, 2023, compared with positive $73.1 million in the prior-year period. The decline primarily reflected unfavorable working-capital movements, including media supplier payment timing.
Investing cash outflow was $44.8 million, including $19.0 million of capitalized software, $12.2 million of capital expenditures and $6.7 million for acquisitions.
Financing cash inflow was $51.7 million, including $312.0 million of net revolver borrowings, partially offset by $204.0 million of share repurchases, $31.7 million of deferred consideration payments and $24.5 million of distributions to noncontrolling interests.
Cash and cash equivalents declined to $98.7 million at September 30, 2023 from $220.6 million at December 31, 2022. Accounts receivable were $670.1 million and expenditures billable to clients were $128.9 million.
Long-term debt, net of issuance costs, was $1.498 billion, up from $1.185 billion at year-end 2022. This consisted of $1.1 billion of 5.625% senior notes due 2029 and $412.0 million drawn under the senior secured revolving facility.
The revolving facility was increased to $640.0 million in May 2023 and matures August 3, 2026. After borrowings and $24.9 million of undrawn letters of credit, reported availability was $203.1 million.
The company reported compliance with all debt covenants. Its trailing-twelve-month total leverage ratio was 3.75 versus a maximum permitted ratio of 4.25.

Management expects available cash and borrowing capacity to fund operations and anticipated needs for the next twelve months and subsequent periods, but this depends on future operating performance, working-capital requirements, refinancing access and the availability of credit.

Material Changes, Unusual Items and Subsequent Events

Organic net revenue weakness reflected client losses, paused projects and reduced marketing budgets, particularly in technology, retail, healthcare, financial, communications and travel-related markets. Q3 comparisons were also affected by elevated 2022 election-related Communications Network spending and the writer and actor strikes.
Deferred acquisition consideration expense increased materially versus Q3 2022 because of a prior-year reduction in the fair value of a contingent acquisition liability. Deferred acquisition consideration totaled $133.7 million at September 30, 2023, including approximately $42.6 million expected to be settled in Class A shares.
The company recorded $10.6 million of nine-month impairment and other losses, including $1.4 million for an intangible asset and $9.2 million for right-of-use lease assets and related leasehold improvements. This compared with $28.0 million in the prior-year period, which primarily included $23.5 million of goodwill impairment.
The company repurchased $42.5 million of shares under its repurchase program and separately repurchased approximately $150.0 million of shares from affiliates of AlpInvest. The remaining repurchase authorization was $155.7 million at September 30, 2023.
After quarter-end, Stagwell acquired Left Field Labs for approximately $9.4 million in cash and 825,000 shares, with contingent consideration of up to $51.0 million; sold ConcentricLife for $245 million in cash; and acquired Movers and Shakers for approximately $15 million, with contingent consideration of up to $35.0 million.
The company recorded out-of-period adjustments in 2023 relating to accumulated other comprehensive loss and income-tax expense. Management concluded the errors were not material to current or previously issued financial statements.
As of September 30, 2023, disclosure controls and procedures were not effective because previously identified material weaknesses in internal control over financial reporting remained unremediated. Management continued remediation, including enhanced risk assessment, IT controls, reconciliations, management reviews, training and finance-system transformation.

Guidance, Outlook and Principal Risks

The filing does not provide specific quantitative revenue, earnings or cash-flow guidance. Management expects continued seasonal strength in the fourth quarter, but notes that results may be affected by client spending patterns, election-cycle volatility, macroeconomic uncertainty and acquisition or disposition activity.

Key risks include adverse economic conditions, inflation and interest rates, reductions in client marketing budgets, client concentration and losses, competition, employee retention, execution of cost-saving and strategic initiatives, acquisition integration, foreign-currency movements and cybersecurity incidents.
Variable-rate debt creates interest-rate exposure; management estimates that a 10% increase or decrease in interest rates would change annual interest expense by approximately $2.5 million.
The company remains exposed to liquidity pressure from weak operating cash flow, debt service, deferred acquisition consideration, redeemable noncontrolling interests, lease obligations, tax receivable agreement payments and client-related receivables or media commitments.
Contingent deferred acquisition consideration and redeemable noncontrolling interests depend on future business performance and employment or contractual conditions. The timing and ultimate amount of these obligations are uncertain.
Legal proceedings are ongoing in the ordinary course, but management does not expect them to have a material adverse effect based on information currently available.

Important Facts for Investors to Verify

Whether organic revenue trends and Communications Network demand improve following the 2022 election-related comparison and industry strikes.
Whether negative operating cash flow reverses and whether working-capital requirements normalize.
Debt leverage, revolver availability, interest costs and continued compliance with the 4.25 maximum leverage covenant.
The cash-flow impact and integration performance of the post-quarter acquisitions and the $245 million ConcentricLife divestiture.
The amount and timing of contingent acquisition, redeemable noncontrolling-interest and Tax Receivable Agreement obligations.
Progress toward remediating material weaknesses in internal control over financial reporting.
The sustainability of adjusted EBITDA, given the substantial adjustments for amortization, stock compensation, deferred acquisition consideration and other items.