Dentsu Group — One dentsu initiative set to improve efficiency

Dentsu Group (TYO: 4324)

Last close As at 20/05/2024

JPY4,174.00

31.00 (0.75%)

Market capitalisation

JPY1,169,815m

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Research: TMT

Dentsu Group — One dentsu initiative set to improve efficiency

Dentsu’s Q323 trading update describes demanding trading conditions with continuing spending constraint from customers in technology and finance, and ongoing delays to larger digital transformation projects. Full year organic revenue guidance is revised to -5% (from 0% to -2%), with an operating margin of 13.5%, depressed by one-off factors from 15.0%. The outlook is improving, albeit patchily, and initiatives to streamline the business and structure it more effectively to meet client needs should benefit the operating margin in FY24 and beyond.

Fiona Orford-Williams

Written by

Fiona Orford-Williams

Director, TMT

Dentsu Group_resized

TMT

Dentsu Group

One dentsu initiative set to improve efficiency

Q3 trading update

Media

16 November 2023

Price

¥4,027

Market cap

¥1,065bn

Net debt (¥bn) at 30 September 2023

265.9

Shares in issue

264.38m

Free float

75.8%

Code

DENN

Primary exchange

TSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(9.7)

(4.1)

(8.8)

Rel (local)

(12.1)

(7.5)

(24.5)

52-week high/low

¥4,960

¥4,027

Business description

Dentsu Group is a holding company, operating in over 145 countries. It provides a wide range of client-centric integrated communications, media and digital services.

Next events

Preliminary FY23 results

February 2024

Analysts

Fiona Orford-Williams

+44 (0) 20 3077 5739

Milo Bussell

+44 (0) 3077 5700

Dentsu Group is a research client of Edison Investment Research Limited

Dentsu’s Q323 trading update describes demanding trading conditions with continuing spending constraint from customers in technology and finance, and ongoing delays to larger digital transformation projects. Full year organic revenue guidance is revised to -5% (from 0% to -2%), with an operating margin of 13.5%, depressed by one-off factors from 15.0%. The outlook is improving, albeit patchily, and initiatives to streamline the business and structure it more effectively to meet client needs should benefit the operating margin in FY24 and beyond.

Year end

Net revenue (¥bn)

PBT*
(¥bn)

EPS*
(¥)

DPS
(¥)

P/E
(x)

Yield
(%)

12/21

976.6

146.0

392

118

10.3

2.9

12/22

1,117.0

186.5

485

155

8.3

3.8

12/23e

1,122.3

121.9

335

137

12.1

3.4

12/24e

1,172.6

162.9

436

152

9.3

3.8

12/25e

1,213.6

179.0

650

162

6.2

4.0

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Q3 tough trading and one-offs

Organic revenue declined by 6.0% in Q323, resulting in an organic revenue decline for the first nine months of 2023 (9M23) of 4.1%. Japan was the one region to post progress at the organic level, of 1.9%. In Europe, the Middle East and Africa (EMEA), where the organic revenue decline was 9.7%, there were further repercussions from the DACH cluster issues that arose in late Q2 (see our August outlook note), but management states these are now fully resolved. Full year guidance has been revised. The downgrade to operating margin guidance, to 13.5%, also takes into account the one-off elements of severance payments and the costs associated with the DACH cluster. Excluding these, the operating margin is now guided to 15.0%, from 17.0% previously. We would expect margins to start expanding again from FY24 and we have pencilled in an improvement to 15.4%, which may prove overly cautious, dependent on the timing of improvement in demand levels.

One dentsu initiative progressing

The breakdown of internal silos is continuing. It is already having a positive impact on existing and potential clients, with better prioritisation leading to higher pitch conversion. Dentsu has identified 11 ‘accelerator clients’, with dedicated global account leadership to grow and deepen the relationships. Fewer internal barriers also facilitate the use of networked talent, not restricted by geography or agency brand. We view this as the main driver of medium-term revenue and margin growth.

Valuation: Narrowed discount to peers

Dentsu’s share price is now down 2% year-to-date, while global marketing service group peers have declined on average by 6%. Dentsu’s shares trade below their long-term average of 1.4x EV/net revenue and at a narrowed discount to peers of 6% on average EV/EBITDA for FY22–24e. At the time of our August report, the discount was 33%, primarily reflecting the underperformance of the peer set.

Rebasing forecasts

We have realigned our FY23 forecasts to match Denstu Group’s guidance as we are so far through the group’s trading year and so there should be reasonable confidence in management’s visibility. With what should be one-off factors of severance costs and adjustments associated with the DACH cluster contracts flowing through in the current year, we would expect that the guided adjusted operating margin of 15.0% should prove to be a base, with recovery from FY24. Management has previously discussed ambitions to reach a margin of 18.0%, but our forecasts (for now) are more modest, looking for 15.4% in FY24 and with our FY25 numbers, published now for the first time, a further expansion to 16.4%. Given the emphasis on efficiency improvements, tight control of the cost base alone should make this achievable, before any benefits from scale.

We have built in top-line growth of 4.5% for FY24, which will include a full year’s revenues from Tag, the acquisition that completed this year on 1 July. Until we have better visibility, we have pencilled in 3.5% organic growth for FY25, which is below the previously disclosed CAGR ambition of 4–5%.

In reaching our estimates for FY24, we have assumed that underlying demand, particularly from the technology sector, improves more notably in the latter part of the year. This may also prove to be overly cautious.

With regard to the dividend, management is using a base earnings figure corrected for the impact of the DACH cluster and severance costs, which it calculates at ¥390 per share, rather than the ¥335 that it expects to report for the year. The payout ratio had been expected to build towards 35% in FY24, but the timescale has been accelerated so this level of distribution is made for FY23. The final dividend is therefore now expected to be ¥58.5, giving as total for the year of ¥137, down from last year’s payment of ¥155.

Exhibit 1: Summary of revisions to forecasts

EPS (¥)

PBT (¥bn)

EBITDA (¥bn)

Old

New

% chg.

Old

New

% chg.

Old

New

% chg.

2022

485

485

-

186.5

186.5

-

216.8

216.8

-

2023e

461

335

-27

175.4

121.9

-31

243.5

204.2

-16

2024e

509

436

-14

190.2

162.9

-14

256.0

233.4

-9

2025e

-

650

N/A

-

179.0

N/A

-

252.0

N/A

Source: Dentsu accounts, Edison Investment Research

Japan delivers best regional performance over Q3 and 9M23

Japan: Q3 organic net revenue growth 3.0%, 9M organic growth 1.9%, 41% of 9M group net revenue

The group’s targeted higher-growth area of Customer Transformation & Technology (CT&T) led the way, reporting ‘double-digit’ growth over the first nine months. The consulting offering in business transformation also benefited from good levels of demand and had a particularly good Q3. Advertising was flat year-on-year, with some weakness in both TV spot and digital advertising and stronger demand for Connected TV and retail media, which are more profitable for the group. Overall Q3 advertising trends were improving, but more slowly than had been hoped. Absolute levels of net revenue are likely be higher than the prior year.

Americas: Q3 organic net revenue decline -6.6%, 9M organic decline -6.3%, 29% of 9M group net revenue

As in previous quarters and as reported by others in the industry, sales cycles for CT&T-type projects have lengthened and more ambitious projects have been scaled back. On the Media front, lower levels of spend from clients in the technology and finance sectors is a narrative heard elsewhere in the sector. For Dentsu, this has been exacerbated by client losses experienced in H222 and H123. Management’s view is that sentiment here is on the turn and surveys of chief marketing officers in these segments are indicating higher levels of spend building through FY24. The creative practices seem to have turned the corner after an extended period of under-performance, with new business wins and expansion of accounts from existing clients.

It is in the Americas where the One dentsu initiative is being honed under new regional leadership. This is focused on putting together more holistic solutions to client business challenges, rather than each agency approaching separately with their own skill sets on offer, or ‘Integrated Growth Solutions’ in Dentsu’s vernacular. Pooled specialist resources can deliver more efficiently with better utilisation rates. This is taken further by the identification of accelerator clients, of which there are currently 11 with multinational footprints, each with account leads working closely with the client. 30 further regionally strategic clients have been identified, which will benefit from the One dentsu approach and may become accelerator clients over time.

So far, this has resulted in a 50% uplift in pitch conversion.

EMEA: Q3 organic net revenue decline -17.2%, 9M organic decline -9.7%; 20% of 9M group net revenue

There were a number of factors behind the poor performance in the EMEA region. Firstly, there was a pattern of reduced media spending in technology and finance, measured against strong prior year comparators. Secondly, as in the Americas, CT&T declined after client losses in H123 with slower pipeline conversion. Patterns across different countries across the region were mixed, with positive organic growth in Spain, Italy and the Netherlands and generally better local performance than that from global accounts.

The issue on a highly complex set of interwoven projects in business transformation and systems integration across the DACH region that was identified late in Q223 carried across into Q323 as more remedial work was done. Management is confident that all necessary adjustments to previously recorded revenue and profit have now been made and that no further adjustments should be necessary in Q423. This issue alone is estimated by management to account for 100bp of the reduction now guided to the FY23 operating margin.

New regional management has been appointed for EMEA, tasked with rolling out the integrated growth solutions approach, backed by the One dentsu initiative.

Asia-Pacific (excluding Japan): Q3 organic net revenue decline -9.1%, 9M organic decline -8.0%, 10% of 9M group net revenue.

The Asia-Pacific region experienced a more generalised malaise, reflecting challenging macroeconomic conditions in many of the individual territories. This played out in lower Media revenues across the region as clients pulled back spend, with Creative organic revenues declining on weakness in China, although South Korea and Hong Kong largely bucked the trend. CT&T reported an organic revenue decline due to slower new business conversion in Australia and New Zealand.

Valuation

The Q323 and 9M23 performances of the major global marketing service holding companies has been surprisingly divergent. At least some of the differential has been due to the degree of exposure to the spending of technology and financial clients. Publicis was particularly notable for its outperformance, while Interpublic and WPP have had more difficult trading periods, factors clearly reflected in their share price performances. Dentsu’s share price in the year-to-date has done better than its peers on average and, combined with the moves in consensus estimates, the discount on which Dentsu was trading to its peers has narrowed significantly, from 33% in August to 6% now, when taken as an average of EV/EBITDA across FY22–24. The sector overall is trading well below its long-term average multiples.

Exhibit 2: Valuation of major marketing service holding companies

 

Price

Market cap

YTD

EV/sales (x)

EV/EBITDA (x)

P/E (x)

Dividend yield

Company

(local CCY)

(US$m)

(%)

CY23

CY22

CY23

CY24

CY22

CY23

CY24

(%)

Omnicom

US$76

14,986

-7

1.1

6.8

6.7

6.4

11.1

10.3

9.7

3.7

WPP

700p

9,201

-15

1.0

6.1

6.0

5.8

7.3

7.5

7.2

5.6

Interpublic

US$29

11,004

-14

1.2

6.4

6.5

6.2

10.5

10.3

9.8

4.3

Publicis

€70

18,695

22

1.5

6.7

6.6

6.3

11.2

10.2

9.8

4.5

Hakuhodo

¥1,117

2,703

-16

0.8

3.8

4.5

4.5

11.9

15.8

14.6

2.9

Peer average

 

 

-6

1.1

6.0

6.1

5.9

10.4

10.8

10.2

4.2

Dentsu

¥4,412

8,780

6

1.0

5.6

6.0

5.2

9.4

13.7

10.5

3.0

Premium/(discount)

 

 

12%

-14%

-6%

-2%

-11%

-9%

26%

3%

-28%

Source: Refinitiv, Edison Investment Research. Note: Prices as at 14 November 2023.

Exhibit 3: Financial summary

¥m

2021

2022

2023e

2024e

2025e

Year end 31 December

IFRS

IFRS

IFRS

IFRS

IFRS

INCOME STATEMENT

Revenue

 

 

1,085,592

1,243,883

1,260,700

1,316,000

1,362,060

Cost of Sales

(109,015)

(126,881)

(138,400)

(143,399)

(148,418)

Net revenue

976,577

1,117,002

1,122,300

1,172,600

1,213,641

EBITDA

 

 

196,917

216,831

204,177

233,361

251,990

Operating profit (before amort. and excepts.)

 

 

179,028

203,189

151,500

180,684

199,313

Amortisation of acquired intangibles

(29,409)

(28,721)

(40,793)

(48,911)

(48,911)

Exceptionals

93,579

(56,849)

(28,200)

(7,000)

0

Share-based payments

0

0

0

0

0

Reported operating profit

241,841

117,617

82,507

124,773

150,402

Net Interest

(35,491)

(20,246)

(21,269)

(15,804)

(18,228)

Joint ventures & associates (post tax)

2,483

(1,932)

(1,971)

(2,010)

(2,050)

Exceptionals

0

5,467

(6,410)

0

0

Profit Before Tax (norm)

 

 

146,020

186,478

121,851

162,870

179,035

Profit Before Tax (reported)

 

 

208,833

100,908

52,857

106,959

130,124

Reported tax

(93,979)

(34,982)

(19,557)

(37,436)

(45,544)

Profit After Tax (norm)

116,255

138,819

88,600

117,266

177,817

Profit After Tax (reported)

114,853

65,925

33,300

69,523

84,581

Minority interests

(6,463)

(6,077)

0

0

0

Discontinued operations

0

0

0

0

0

Net income (normalised)

109,203

130,037

88,512

113,279

173,434

Net income (reported)

108,389

59,847

33,300

69,523

84,581

Average Number of Shares Outstanding (m)

279

268

264

260

267

EPS - normalised (¥)

 

 

392

485

335

436

650

EPS - normalised fully diluted (¥)

 

 

390

482

333

433

646

EPS - basic reported (¥)

 

 

389

223

126

267

317

Dividend (¥)

118

155

137

152

162

Net revenue growth (%)

16.9

14.4

0.5

4.5

3.5

EBITDA Margin to revenue less pass-through costs (%)

20.2

19.4

18.2

19.9

20.8

Normalised op. margin to revenue less pass-through costs (%)

18.3

18.2

13.5

15.4

16.4

BALANCE SHEET

Fixed Assets

 

 

1,377,417

1,423,928

1,630,155

1,633,440

1,619,725

Intangible Assets

858,748

962,100

1,163,900

1,154,162

1,127,424

Tangible Assets

173,681

168,859

173,286

186,309

267,088

Investments & other

344,988

292,969

292,969

292,969

225,213

Current Assets

 

 

2,343,115

2,317,496

2,148,326

2,335,258

2,517,131

Stocks

20,661

3,670

4,550

4,715

4,880

Debtors

1,500,020

1,578,922

1,692,447

1,766,685

1,828,519

Cash & cash equivalents

723,541

603,740

320,167

432,697

552,571

Other

98,893

131,164

131,162

131,162

131,162

Current Liabilities

 

 

(1,971,873)

(2,017,695)

(2,036,191)

(2,171,353)

(2,219,908)

Creditors

(1,465,110)

(1,532,591)

(1,588,827)

(1,694,575)

(1,772,544)

Tax and social security

(60,960)

(30,894)

(30,894)

(30,894)

(30,894)

Short term borrowings

(93,067)

(95,790)

(95,790)

(95,790)

(95,790)

Other

(352,736)

(358,420)

(320,680)

(350,094)

(320,680)

Long Term Liabilities

 

 

(839,188)

(768,403)

(827,141)

(848,027)

(842,410)

Long term borrowings

(486,122)

(436,639)

(431,022)

(425,405)

(419,788)

Other long term liabilities

(353,066)

(331,764)

(396,119)

(422,622)

(422,622)

Net Assets

 

 

909,471

955,326

915,148

949,318

1,074,538

Minority interests

(64,440)

(75,060)

(75,149)

(75,149)

75,149

Shareholders' equity

 

 

845,031

880,266

840,000

874,169

1,149,687

CASH FLOW

Operating Cash Flow

283,709

175,078

146,328

208,547

231,712

Working capital

69,156

(3,519)

(58,168)

31,345

15,970

Exceptional & other

(98,761)

40,156

14,435

4,421

1,885

Tax

(103,813)

(115,764)

(40,600)

(37,436)

(63,771)

Net operating cash flow

 

 

150,291

95,951

61,994

206,878

185,796

Capex

318,135

(4,585)

(23,500)

(23,500)

(23,500)

Acquisitions/disposals

(49,671)

(40,873)

(231,333)

(11,487)

5,513

Net interest

(14,920)

(18,301)

(21,269)

(15,804)

(18,228)

Equity financing

(30,010)

(40,006)

0

0

0

Net dividends

(19,128)

(37,895)

(42,600)

(37,554)

(41,891)

Other

(147,241)

(24,920)

0

0

0

Net Cash Flow

207,456

(70,629)

(256,708)

118,532

107,690

Opening net debt/(cash)

 

 

54,115

(144,352)

(71,311)

206,645

88,498

FX

23,095

13,932

(20,800)

0

0

Other non-cash movements

(32,082)

(16,344)

(448)

(385)

(426)

Closing net debt/(cash)

 

 

(144,352)

(71,311)

206,645

88,498

(18,765)

Source: company accounts, Edison Investment Research 

General disclaimer and copyright

This report has been commissioned by Dentsu Group and prepared and issued by Edison, in consideration of a fee payable by Dentsu Group. Edison Investment Research standard fees are £60,000 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

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General disclaimer and copyright

This report has been commissioned by Dentsu Group and prepared and issued by Edison, in consideration of a fee payable by Dentsu Group. Edison Investment Research standard fees are £60,000 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

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London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

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Research: Industrials

Melrose Industries — Increasing trajectory

The aerospace cycle is in strong recovery mode and Melrose Industries, assisted by the restructuring actions, is taking full advantage at both the top line and profit level. Internal momentum and market recovery provide confidence that management’s target returns set out for FY25 will be achieved, offering a further positive valuation catalyst.

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