Ebiquity — Executing the Growth Acceleration Plan

Revenues increased by 9.1% to £83.6m. The acquisition of Fairbrother Marsh Company (FMC) in Ireland in March 2016 and the full year impact of 2015’s acquisition of Media Value (Spain) contributed 1.2% to growth, and with 68% of revenues denominated in non-sterling currencies, 5.8% was attributable to sterling’s depreciation. Underlying like-for-like constant currency (lfl) revenue growth was 2.1%, similar to the rate in H116.

Adjusted operating profit increased by 4.4% y-o-y to £13.0m with an operating margin of 15.6%, lower than we forecast (16.3%). Adjusted operating profit excludes £5.2m of highlighted items. Of this, £2.5m is non-cash (£1.9m amortisation of acquired intangibles and £0.7m share-based payments) and £2.8m non-recurring cash items. Of the non-recurring items, £2m are acquisition related and include a £0.8m increase in the earnout consideration for Stratigent (US) and a £0.6m impact of FX adjustments related to future earnout payments. The balance of acquisition-related costs concerns the acquisition of the remaining 50% interest in Irish media consultancy FMC. A further £0.7m relates to integration costs following recent acquisitions.

While operating profit was slightly short of our estimate, EPS of 11.3p was 3% ahead, reflecting a lower underlying effective tax charge (21.7%) than we had forecast, with a larger base of taxable profit shifting to the UK.

Operating cash flow at 87% of underlying earnings (110% in CY15) was affected by a £4m increase in the year-end receivable balanced to £28m. After payments for the cash exceptional items, capital expenditure and capitalised development costs totalling £2.4m, £4.4m of acquisition-related costs (earnouts for Stratigent, China Media and Media Value, as well as the initial payments for the March 2016 acquisition of the remaining 50% of FMC), dividends (£0.8m) and interest (£1.1m), year-end net debt decreased to £28.2m.

A dividend of 0.65p per share has been proposed, which implies an 8% pro rata increase on the 0.4p paid for the eight-month period to December 2015, in line with the board’s progressive final dividend policy.

The strong performance of Marketing Performance Optimisation (MPO) and solid growth from Media Value Measurement (MVM) continue to underpin revenue growth, with Market Intelligence (MI) continuing to act as a drag on revenues, affected, as flagged at the interims, by a difficult period for the project based business.

Ebiquity is in the early stages of execution of its Growth Acceleration strategy announced last summer. It has implemented a new matrix organisational structure with global practice responsibilities, unifying its network of independently run local organisations under a common global structure with the sales effort reorganised toward a client first approach in order to optimise cross-selling opportunities. Investment is being increased across the divisions in order to ensure it attracts, retains and equips its talent with the appropriate skills and technology to deliver the best services to its clients. In parallel it is launching new services and is expanding the geographic footprint of its fastest growing MPO division, and stepping up its marketing efforts in order to better capitalise on its brand as a trusted independent advisor.

MPO (16% revenues) Revenue growth of 31.3% (21.6% excluding currency), while slower than the phenomenal 53% reported in H116, continues to reflect the increasing demand for data-driven analytics in marketing. Strong growth was reported from both the multichannel analytics and the marketing effectiveness services. Operating margins of 28.7%, while slightly ahead of CY15 (28.2%) are expected to decrease in future periods as the group executes its rollout plan. Marketing effectiveness services are being rolled out in Germany, France and the Asia-Pacific region, where first projects were delivered in H216. Investment is also being directed towards developing and launching a digital attribution model (in Q217) to complement its existing services.

MVM (56% revenues) Against a strong basis of comparison in CY15 (15% revenue growth), FY16 revenue growth slowed to 3.6% lfl. Growth in the contract compliance business was affected by some clients in the US delaying spend in advance of the publication of last summer’s ANA report. We had expected this to bounce back in the second half of the year; however, activity has started to pick up in 2017. Excluding this business (now 10% of MVM revenues), growth for MVM was a solid 6.6%. Operating margins decreased by 3pp to 25.7%, a consequence of the weakness in contract compliance and increased investment in its resources in China and the US.

MI (28% revenues) Revenues decreased 5.2% or 8.5% lfl. The loss of one significant client in the project based reputation business 2015 resulted in project-based research business declining sharply. This business now accounts for only 10% of divisional revenues. As flagged at the time of the interims, within the larger platform-based advertising intelligence business, the loss of three US clients early in H116 affected growth. However, it has received encouraging feedback following the launch of the new version of its platform globally last year (Portfolio Media) and the 1.7% lfl decline for the year in this business suggests a more stable second half (H116 lfl revenues for this business decreased 4.5%). Tight cost control and a change in the business mix resulted in an increase in operating margins to 16.7% (CY15: 14.9%).

Management is targeting an acceleration in revenue growth to a CAGR of 10% over the next five years, with margins moving to a more sustainable 12-13% (from the historic three-year average of 16%).

We leave our FY17 forecasts broadly unchanged (we increase FY17 EPS by 2%) and introduce FY18 forecasts reflecting this transition to a faster growing, but lower margin group.

In FY17 we factor in a pick-up in organic growth to 6% and a 4% benefit from currency, with operating margins decreasing to 14.5%. In FY18, we forecast 8% revenue growth with margins of 12.4%. More specifically:

Net debt of £28.2m comprises a £3.75m term loan (repayable on a quarterly basis) and a revolving credit facility of £30m (£29m drawn), both of which have a maturity date of 2 July 2018 (and covenants set at 2.5x EBITDA). In addition, the group has an accordion option to increase these facilities by a further £20m.

Over the last few years Ebiquity has been funding the earnout payments on the acquisitions of Stratigent (2013), China Media (2012), Billets America (2014) and Media Value (2015). Consequently, net debt has remained relatively stable. The last significant payment related to acquisitions was in FY16 (£4.4m). We forecast acquisition-related payments to decrease to £1.8m in FY17. Inclusive of these payments, capital expenditure (£3m) and the dividend, we forecast year-end net debt to decrease to £24.6m.

Our forecasts are presented in full in Exhibit 4.

Having been marked down by approximately 40% over the course of 2016, the shares have recovered 20% in recent weeks. However, the 12.4x P/E (FY18) and 9.9x EV/EBITA ratings remain unchallenging. Larger agency and consulting peers trade on average FY17 P/E and EV/EBITA multiples of 16x and 11x, respectively, while small-cap agencies trade on average 14x P/E and 11x EV/EBITA multiples. Although the step-up in investment means that despite the accelerating revenue profile, EPS is unlikely to expand over the forecast period this reflects the initial investment phase of Ebiquity’s more ambitious growth strategy, which we expect to result in a higher quality earnings base and a more sustainable growth profile over the medium to longer term. Investors should consider:

Ebiquity competes against large, global consulting groups in a price-sensitive market place. As a people-based business, the tight labour market for consultants with appropriate skill sets may affect the pace and cost of management’s expansion plan. 68% of revenues are non-sterling denominated and fluctuations in exchange rates may affect forecasts as there are no active hedging policies.