Ad revenue is rising as U.S. automobile and retail sales rebound, a sign Americans are feeling more confident in the months leading up to the Olympic Games, a $4 billion opportunity for advertisers.
Omnicom Group Inc. and Interpublic Group of Companies Inc. offer bullish investors a “GDP play,” because their U.S. revenue historically has grown about 2 percent to 3 percent more than gross domestic product, said Richard Tullo, an analyst with Albert Fried & Co. in New York, where the two agencies are based. When the economy expanded 1.7 percent in 2011, Omincom’s domestic revenue grew 5.5 percent and Interpublic’s was up 4.8 percent, Commerce Department and company data show.
“As the economy continues to improve, these stocks will have more wind at their backs,” Tullo said. Car sales, housing starts and the financial markets have picked up in recent months -- “good news” for Omnicom and Interpublic, which generate about 17 percent of revenue from automobiles, followed by about 11 percent from finance, he said.
Americans bought cars and light trucks at a 14.4 million seasonally adjusted annual pace in March, up 10 percent from a year earlier, according to data released yesterday by Autodata Corp. Builders broke ground in February on 698,000 homes at an annual rate, near a three-year high, Census data show.
As global GDP recovers, this year’s Olympic Games and U.S. presidential election bode “incredibly well” for more advertising revenue, said Mark Lamkin, founder and chief executive officer at Lamkin Wealth Management in Louisville, Kentucky.
His investment company bought shares in January of an exchange-traded fund that includes Omnicom and Interpublic because Lamkin said he was encouraged by an estimate from Paris-based agency Publicis Group SA, that global ad spending could grow 4.7 percent to a record $486 billion this year.
“I don’t think this increase is fully reflected yet,” Lamkin said. Now is “a good opportunity” to buy media stocks, including ad agencies.
Omnicom and Interpublic accounted for 18 percent and 9 percent of worldwide revenue for the top ad agencies in 2010, according to data compiled by Bloomberg Industries.
Concerns about another U.S. recession have diminished since late fall, when there was heightened uncertainty about the potential fallout from Europe’s sovereign-debt crisis, said David Hensley, director of global economic coordination at JPMorgan Chase & Co. in New York. Amid some clarity that euro-area leaders have contained the problems, investors are revisiting cyclical industries, such as advertising, as they’ve “become more comfortable with moderate growth assumptions.”
No Raised Forecasts
“Not a lot of people are raising forecasts, though they’re intrigued by the idea that may be necessary,” he said.
The Standard & Poor’s 500 Advertising Index, comprised of Omnicom and Interpublic, has increased 42 percent since Sept. 22, 2011, while the S&P 500 gained 25 percent. That followed two months of underperformance, when ad stocks lagged behind the market by 16 percent.
The advertising index experienced an “accelerated push higher” between September and November, said Jim Stellakis, founder and director of research at New York-based research company Technical Alpha. Momentum has slowed since February as these stocks have consolidated some of their gains and “investors are in somewhat of a holding pattern.”
Investors haven’t given “full credit” to the potential impact of the London-based Olympics, which increases the probability these companies may exceed earnings estimates, Tullo said. Omnicom and Interpublic have accounts, including Nike Inc., that will advertise during the games, so now is a “good opportunity” to buy these stocks, he said.
The event, scheduled for July 27 through Aug. 12, could generate as much as $4 billion in global advertising revenue, up from $3.5 billion for the 2008 Olympics in Beijing, Tullo said, citing industry estimates. The “tricky” part of estimating total spending is that many advertisers “add on to existing budgets,” he said.
Low valuations also make these stocks attractive, Tullo said, because they are trading “close to the bottom” of their historic range: Omnicom at a multiple of about eight times enterprise value to earnings before interest, taxes, depreciation and amortization, and Interpublic at about nine times. That compares with a range of six to 14 times, he said.
Advertising companies are “better positioned” to beat earnings estimates because analysts cut forecasts late last year “pretty aggressively” when Europe’s debt crisis “started to get bumpy again,” said David Bank, an analyst in New York at RBC Capital Markets. Analyst projections for Omnicom’s 2012 earnings are $3.68 a share on a GAAP-adjusted basis, down about 2.6 percent from an Aug. 1, 2011, consensus of $3.78.
Revenue growth will benefit from the industry’s multinational focus, Bank said. He maintains “outperform” recommendations on Omnicom and Interpublic, partly because of their penetration in high-growth markets such as Latin America and Asia, where customers are increasing advertising budgets.
In 2011, 49 percent of Omnicom’s revenue and 45 percent of Interpublic’s came from outside the U.S., company data show.
As investors regain confidence in the economic outlook, their perception of risk has changed “a lot,” said Hensley, who forecasts “above average” expansion in the U.S., Brazil and emerging markets, excluding China, during the balance of this year. The U.S. may “pick up speed” in 2012, with close to 3 percent annual growth in the second and third quarters, he said; that compares with a forecast of 2.2 percent for the full year, according to the median estimate of 70 economists surveyed by Bloomberg News.
‘Mixed’ European Results
So far, results have been “mixed” for Omnicom in Europe, where euro-denominated business accounted for 18.6 percent of its 2011 revenue, Chief Financial Officer Randall Weisenburger said on a Feb. 14 conference call. Similarly, continental Europe remains a “question mark” for Interpublic, which generated about 13 percent of revenue last year from the region, Chairman and Chief Executive Officer Michael Roth said at a Feb. 29 conference hosted by Deutsche Bank AG.
If European leaders “don’t settle their problems, and it spills over to the rest of the world,” it may spell “bad news” for Interpublic, Roth said.
Both companies’ stocks could underperform again as they did between July and September amid worries of another recession spreading beyond the region, said Tullo, adding that their global exposure might mitigate the impact. Media deregulation in the Middle East, Africa and southern Europe puts the industry “on the verge of another expansion” that’s “global and gigantic” in scope, he said.
Interpublic’s fourth-quarter growth came from most regions of the world, and there’s “no question” multinational companies are looking to add business, particularly in emerging markets, Roth said on a Feb. 24 conference call. Similarly, Omnicom “continued to have good results in Latin America, most notably in Brazil and Chile,” Weisenburger said.
The “immense” correlation between GDP growth and spending on advertising as the world’s major economies continue to rebound will benefit an industry that’s “somewhat underappreciated,” Bank said.
The data “certainly aren’t getting worse, and against a backdrop of financial markets getting better, sentiment with respect to marketing and ad spend is improving,” he said.