OMNICOM GROUP INC. quarterly report, Q2 FY2014

Omnicom Group Inc. 2014 Second-Quarter Form 10-Q Summary

Business context and reporting period

Omnicom is a global provider of advertising, marketing, public relations, customer relationship management and specialty communications services. The filing covers the quarter and six months ended June 30, 2014, with comparative periods ended June 30, 2013. The company reports one operating segment, with geographic revenue across the Americas, EMEA and Asia Pacific.

Financial performance and key metrics

Metric	Three months ended June 30, 2014	Three months ended June 30, 2013	Six months ended June 30, 2014	Six months ended June 30, 2013
Revenue	$3,870.9 million	$3,637.0 million	$7,373.0 million	$7,035.9 million
Operating income	$548.4 million	$523.0 million	$931.1 million	$894.8 million
Operating margin	14.2%	14.4%	12.6%	12.7%
Net income attributable to Omnicom	$325.2 million	$289.5 million	$530.7 million	$494.7 million
Diluted earnings per share	$1.23	$1.09	$2.00	$1.85
Dividends declared per share	$0.50	$0.40	$0.90	$0.80

Second-quarter revenue increased 6.4%, including 5.8% organic growth, a 0.7% favorable foreign-exchange effect and a 0.1% reduction from acquisitions net of dispositions. Six-month revenue increased 4.8%, including 5.1% organic growth, a 0.1% foreign-exchange benefit and a 0.4% reduction from acquisitions net of dispositions.

Second-quarter EBITA was $574.2 million, with a 14.8% EBITA margin versus 15.1% in the prior-year quarter. Six-month EBITA was $981.3 million, with a 13.3% margin versus 13.4% in 2013. Net interest expense declined to $33.7 million for the quarter and $72.7 million for the six months, primarily due to interest-rate swaps on the 2022 senior notes.

The effective tax rate was 31.1% for the quarter and 32.2% for the six months, compared with 33.9% and 33.5%, respectively, in the prior-year periods. The 2014 rates benefited from approximately $11.2 million in the quarter and $11.4 million in the six months of tax benefits related to previously incurred Publicis merger expenses. Excluding that benefit, the six-month effective tax rate was 33.2%.

Cash flow, liquidity and debt

Cash used in operating activities was $187.5 million in the first six months of 2014, compared with $66.5 million of cash provided in the prior-year period. The principal driver was a $946.9 million use of operating capital, reflecting seasonal working-capital requirements.
Cash used in investing activities was $132.2 million, including $91.5 million of capital expenditures and $50.2 million for acquisitions and interests in affiliates.
Cash used in financing activities was $892.4 million, including $211.8 million of dividends, $577.8 million of common-stock repurchases and $43.7 million of contingent acquisition payments.
Cash and cash equivalents declined to $1,534.7 million at June 30, 2014, from $2,710.5 million at December 31, 2013. Approximately $918 million was held by foreign subsidiaries.
Debt carrying value was approximately $4.06 billion, including $3.75 billion of senior notes, $252.7 million of convertible notes classified as current, and $24.7 million of short-term borrowings.
The $252.7 million convertible notes were called for redemption on July 31, 2014 at 100% of principal. Holders could convert before redemption, with principal payable in cash and any conversion premium payable in common stock.
Omnicom had no commercial paper outstanding and no borrowings under its $2.5 billion credit agreement at June 30, 2014. Total available and unused committed and uncommitted credit lines were $3.493 billion.
The company was in compliance with its debt covenants: leverage ratio of 1.9 times versus a maximum of 3.0 times, and interest coverage of 11.2 times versus a minimum of 5.0 times.

Material changes versus the prior comparable period

Revenue growth accelerated in the second quarter, led by 8.8% domestic organic growth and strong advertising growth. By discipline, second-quarter revenue increased 10.9% in advertising, 3.0% in CRM and 6.2% in public relations, while specialty communications declined 5.2%.
Operating income grew 4.9% in the quarter and 4.1% for the six months, but reported operating margins declined modestly because operating expenses grew slightly faster than revenue.
Excluding $8.8 million of Publicis merger expenses, six-month operating and EBITA margins would have remained approximately flat at 12.7% and 13.4%, respectively.
Net income attributable to Omnicom increased 12.3% in the quarter and 7.3% for the six months. Diluted EPS increased 12.8% and 8.1%, respectively, aided by lower weighted-average shares from repurchases.
Omnicom and Publicis mutually terminated their proposed merger on May 8, 2014, with no termination fee payable by either party. Related shareholder litigation was dismissed on May 23, 2014.
Following termination of the proposed merger, Omnicom resumed open-market common-stock repurchases and increased its quarterly dividend to $0.50 per share.
Goodwill increased to $9,092.4 million from $8,916.0 million at year-end, primarily reflecting acquisitions and foreign-currency translation. The annual impairment test identified no goodwill impairment.

Guidance, outlook, risks and unusual items

Management expected 2014 revenue, excluding foreign-exchange effects and unforeseen events, to increase modestly in excess of weighted-average nominal GDP growth in its major markets. Management also expected to pursue selective acquisitions focused on strategic capabilities, emerging markets and marketing technologies.

Management expected to fund 2014 non-discretionary requirements and discretionary spending without additional long-term debt, while retaining the ability to access capital markets. Cash needs are seasonal and typically peak in the first half of the year because of incentive compensation, taxes and contingent acquisition payments.

Key risks include reductions in client advertising and marketing spending, delayed client payments, client credit deterioration, economic and political conditions, foreign-currency fluctuations, credit-market disruption, competition, personnel retention, information-technology dependence and regulatory changes.
Agencies may enter media and production commitments on behalf of clients that substantially exceed Omnicom’s revenue. Where sequential liability does not apply, client payment defaults could expose the company to material losses.
The company uses foreign-currency and interest-rate derivatives for hedging and not for trading. Management reported no material change in market risks from the 2013 Form 10-K.
Goodwill valuations remain sensitive to revenue growth, operating margins, discount rates and long-term growth assumptions. Management reported substantial fair-value cushions and no impairment, but adverse changes in estimates could result in a future non-cash charge.
Adoption of new accounting standards during the period did not materially affect results. The company expects to adopt the new revenue-recognition standard on January 1, 2017, but had not determined the transition method or quantified the impact.

Important facts for investors to verify

Whether organic revenue growth and the stated expectation of modestly above-GDP growth continued after June 30, 2014.
The effect of the Publicis merger termination, including the absence of a termination fee, remaining merger-related costs and the related tax benefit.
The July 31, 2014 redemption or conversion of the $252.7 million convertible notes and its effect on cash, debt and share count.
Whether cash generation normalized as seasonal working-capital requirements reversed during the second half of the year.
The sustainability of margin performance, particularly salary and service costs, freelance labor usage and specialty communications weakness.
Foreign-exchange exposure, foreign cash repatriation taxes and the impact of interest-rate swaps that economically converted the 2022 notes to floating-rate debt.
Future acquisition spending, contingent purchase-price obligations and the company’s continued ability to meet debt covenants and fund dividends and repurchases.