SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
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(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended: September 30, 2005
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____________ to ____________
Commission File Number: 1-10551
OMNICOM GROUP INC.
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(Exact name of registrant as specified in its charter)
New York 13-1514814
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(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
437 Madison Avenue, New York, New York 10022
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(Address of principal executive offices) (Zip Code)
(212) 415-3600
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(Registrant's telephone number, including area code)
Not Applicable
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports and (2) has been subject to such filing
requirements for the past 90 days. YES |X| NO |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12 b-2 of the Exchange Act). YES |X| NO |_|
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date. 180,310,000 (as of October 28,
2005)
OMNICOM GROUP INC. AND SUBSIDIARIES
INDEX
PART I. FINANCIAL INFORMATION
Page No.
--------
Item 1. Financial Statements
Consolidated Condensed Balance Sheets -
September 30, 2005 and December 31, 2004.............. 1
Consolidated Condensed Statements of Income -
Three Months and Nine Months Ended
September 30, 2005 and 2004........................... 2
Consolidated Condensed Statements of Cash Flows
- Nine Months Ended September 30, 2005
and 2004.............................................. 3
Notes to Consolidated Condensed
Financial Statements.................................. 4
Item 2. Management's Discussion and Analysis of
Financial Condition And Results of Operations......... 9
Item 3. Quantitative and Qualitative Disclosures
About Market Risk..................................... 24
Item 4. Controls and Procedures................................. 25
PART II. OTHER INFORMATION
Item 1. Legal Proceedings....................................... 26
Item 2. Unregistered Sales of Equity Securities
and Use of Proceeds................................... 26
Item 6. Exhibits................................................ 26
Signatures ........................................................ 27
Certifications
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
OMNICOM GROUP INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
(Dollars in Millions)
(Unaudited)
September 30, December 31,
2005 2004
---- ----
ASSETS
CURRENT ASSETS:
Cash and cash equivalents ............................................................. $ 395.6 $ 1,165.6
Short-term investments at market, which approximates cost ............................. 14.4 574.0
Accounts receivable, less allowance for doubtful accounts
of $53.4 and $67.8 ................................................................. 4,995.9 4,916.7
Billable production orders in process, at cost ........................................ 650.3 536.6
Prepaid expenses and other current assets ............................................. 905.2 902.2
--------- ---------
Total Current Assets ..................................................... 6,961.4 8,095.1
--------- ---------
FURNITURE, EQUIPMENT AND LEASEHOLD IMPROVEMENTS, at cost,
less accumulated depreciation and amortization of $878.6 and $909.8 ................... 599.8 636.4
INVESTMENTS IN AFFILIATES .................................................................. 166.4 162.9
GOODWILL ................................................................................... 6,467.6 6,411.4
INTANGIBLES, net of accumulated amortization of $178.8 and $164.7 .......................... 90.7 110.0
DEFERRED TAX BENEFITS ...................................................................... 292.6 303.4
OTHER ASSETS ............................................................................... 255.0 283.2
--------- ---------
TOTAL ASSETS ............................................................. $14,833.5 $16,002.4
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable ...................................................................... $ 5,326.1 $ 6,011.5
Advance billings ...................................................................... 906.3 874.0
Current portion of long-term debt ..................................................... 0.7 209.2
Bank loans and commercial paper ....................................................... 213.9 17.5
Accrued taxes ......................................................................... 133.7 217.0
Other liabilities ..................................................................... 1,162.5 1,414.7
--------- ---------
Total Current Liabilities ................................................ 7,743.2 8,743.9
--------- ---------
LONG-TERM DEBT ............................................................................. 18.8 19.1
CONVERTIBLE NOTES .......................................................................... 2,339.3 2,339.3
DEFERRED COMPENSATION AND OTHER LIABILITIES ................................................ 293.2 309.1
LONG TERM DEFERRED TAX LIABILITY ........................................................... 421.3 317.4
MINORITY INTERESTS ......................................................................... 181.8 194.9
SHAREHOLDERS' EQUITY:
Common stock .......................................................................... 29.8 29.8
Additional paid-in capital ............................................................ 1,823.7 1,824.5
Retained earnings ..................................................................... 3,391.1 2,975.4
Unamortized stock compensation ........................................................ (163.5) (178.9)
Accumulated other comprehensive income ................................................ 111.8 268.5
Treasury stock ........................................................................ (1,357.0) (840.6)
--------- ---------
Total Shareholders' Equity ............................................... 3,835.9 4,078.7
--------- ---------
Total Liabilities and Shareholders' Equity ............................... $14,833.5 $16,002.4
========= =========
The accompanying notes to consolidated condensed financial statements are
an integral part of these statements.
1
OMNICOM GROUP INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF INCOME
(Dollars in Millions)
(Unaudited)
Three Months Ended September 30, Nine Months Ended September 30,
-------------------------------- -------------------------------
2005 2004 2005 2004
---- ---- ---- ----
REVENUE ............................................ $ 2,522.9 $ 2,319.0 $ 7,541.7 $ 6,958.1
OPERATING EXPENSES:
Salary and service costs ...................... 1,827.9 1,659.5 5,362.0 4,906.7
Office and general expenses ................... 420.5 412.1 1,266.0 1,230.9
---------- ---------- ---------- ----------
2,248.4 2,071.6 6,628.0 6,137.6
---------- ---------- ---------- ----------
OPERATING PROFIT ................................... 274.5 247.4 913.7 820.5
NET INTEREST EXPENSE:
Interest expense .............................. 19.9 12.3 55.5 36.8
Interest income ............................... (3.6) (3.5) (12.8) (10.2)
---------- ---------- ---------- ----------
16.3 8.8 42.7 26.6
---------- ---------- ---------- ----------
INCOME BEFORE INCOME TAXES ......................... 258.2 238.6 871.0 793.9
INCOME TAXES ....................................... 86.9 80.3 297.4 266.9
---------- ---------- ---------- ----------
INCOME AFTER INCOME TAXES .......................... 171.3 158.3 573.6 527.0
EQUITY IN AFFILIATES ............................... 6.9 3.2 17.2 10.5
MINORITY INTERESTS ................................. (16.5) (16.2) (52.7) (50.5)
---------- ---------- ---------- ----------
NET INCOME ................................. $ 161.7 $ 145.3 $ 538.1 $ 487.0
========== ========== ========== ==========
NET INCOME PER COMMON SHARE:
Basic ...................................... $0.90 $0.79 $2.97 $2.61
Diluted .................................... $0.90 $0.79 $2.95 $2.60
DIVIDENDS DECLARED PER COMMON SHARE ................ $0.225 $0.225 $0.675 $0.675
The accompanying notes to consolidated condensed financial statements are
an integral part of these statements.
2
OMNICOM GROUP INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Dollars in Millions)
(Unaudited)
Nine Months Ended September 30,
-------------------------------
2005 2004
---- ----
Cash flows from operating activities:
Net income ................................................................................. $ 538.1 $ 487.0
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation of tangible assets ....................................................... 100.8 98.1
Amortization of intangible assets ..................................................... 27.3 30.7
Minority interests .................................................................... 52.7 50.5
Earnings of affiliates less (in excess of) than dividends received .................... (8.4) (4.0)
Net gain on investment activity ....................................................... (7.0) (13.1)
Tax benefit on employee stock plans ................................................... 14.5 9.9
Provision for losses on accounts receivable ........................................... 4.4 8.7
Amortization of stock compensation .................................................... 67.5 89.6
Changes in assets and liabilities providing (requiring) cash,
net of acquisitions:
Increase in accounts receivable ....................................................... (294.9) (0.6)
Increase in billable production orders in process ..................................... (132.5) (211.0)
Increase in prepaid expenses and other current assets ................................. (130.7) (113.1)
Net change in other assets and liabilities ............................................ (138.6) (115.4)
Increase in advanced billings ......................................................... 58.8 113.2
Net increase in accrued and deferred taxes ............................................ 50.4 0.8
Decrease in accounts payable .......................................................... (506.8) (583.9)
-------- --------
Net cash used for operating activities ............................................. (304.4) (152.6)
-------- --------
Cash flows from investing activities:
Capital expenditures .................................................................. (102.4) (103.3)
Payments for purchases of equity interests in subsidiaries and
affiliates, net of cash acquired ................................................... (193.9) (241.3)
Proceeds from sale of assets .......................................................... 29.3 0.0
Purchases of short-term investments ................................................... (332.1) (663.6)
Proceeds from short-term investments and other ........................................ 954.9 946.4
-------- --------
Net cash provided by (used in) investing activities ................................ 355.8 (61.8)
-------- --------
Cash flows from financing activities:
Increase (decrease) in short-term borrowings .......................................... 196.3 (8.6)
Proceeds from issuance of debt ........................................................ 0.7 2.4
Repayments of principal of long-term debt obligations ................................. (189.2) (14.5)
Dividends paid ........................................................................ (123.8) (121.6)
Purchase of treasury shares ........................................................... (644.2) (446.5)
Other, net ............................................................................ (40.5) (27.2)
-------- --------
Net cash used in financing activities .............................................. (800.7) (616.0)
-------- --------
Effect of exchange rate changes on cash and cash equivalents ............................... (20.7) 16.0
-------- --------
Net decrease in cash and cash equivalents .......................................... (770.0) (814.4)
Cash and cash equivalents at beginning of period ........................................... 1,165.6 1,243.5
-------- --------
Cash and cash equivalents at end of period ................................................. $ 395.6 $ 429.1
======== ========
Supplemental disclosures:
Income taxes paid ..................................................................... $ 199.6 $ 168.4
Interest paid ......................................................................... $ 58.6 $ 32.0
The accompanying notes to consolidated condensed financial statements are
an integral part of these statements.
3
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
1. We have prepared the consolidated condensed interim financial statements
included herein without audit pursuant to Securities and Exchange
Commission rules. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally
accepted accounting principles ("GAAP") have been condensed or omitted
pursuant to these rules.
2. The accompanying financial statements reflect all adjustments, consisting
of normally recurring accruals, which in the opinion of management are
necessary for a fair presentation, in all material respects, of the
information contained therein. Certain amounts in prior periods have been
reclassified to conform them to the quarter ended September 30, 2005
presentation. These statements should be read in conjunction with the
consolidated financial statements and related notes included in our annual
report on Form 10-K for the year ended December 31, 2004.
3. Results of operations for interim periods are not necessarily indicative
of annual results.
4. Basic earnings per share is based upon the weighted average number of
common shares outstanding during the period. Diluted earnings per share is
computed on the same basis, including if dilutive, common share
equivalents which include outstanding options and restricted shares. For
purposes of computing diluted earnings per share, 1,276,000 and 520,000
common share equivalents were assumed to be outstanding for the three
months ended September 30, 2005 and 2004, respectively, and 1,407,000 and
1,257,000 common share equivalents were assumed to be outstanding for the
nine months ended September 30, 2005 and 2004, respectively. For the three
months ended September 30, 2005 and 2004, respectively, 4,633,000 shares
and 10,396,000 shares attributable to outstanding stock options were
excluded from the calculation of diluted earnings per share because the
exercise prices of the stock options were greater than or equal to the
average price of our common shares and therefore their inclusion would
have been anti-dilutive. For the nine months ended September 30, 2005 and
2004, respectively, 4,633,000 and 10,296,000 shares were excluded from the
calculation of diluted earnings per share because their effect would have
been anti-dilutive.
The assumed increase in net income related to the after tax
compensation expense related to dividends on restricted shares was $290.0
thousand and $318.0 thousand for the three month periods ended September
30, 2005 and 2004, respectively, and $870.0 thousand and $917.0 thousand
for the nine months ended September 30, 2005 and 2004, respectively.
4
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
The number of shares used in our EPS computations were:
Three Months Nine Months
Ended September 30, Ended September 30,
------------------------- -------------------------
2005 2004 2005 2004
---- ---- ---- ----
Basic EPS Computation 179,276,000 184,080,000 181,111,000 186,259,000
Diluted EPS Computation 180,552,000 184,600,000 182,518,000 187,516,000
5. Total comprehensive income and its components were:
(Dollars in Millions)
---------------------
Three Months Nine Months
Ended September 30, Ended September 30,
------------------- -------------------
2005 2004 2005 2004
---- ---- ---- ----
Net income for the period...................... $161.7 $145.3 $ 538.1 $487.0
Foreign currency translation adjustment,
net of income taxes of $5.6 and $8.2
and $84.4 and $7.0 for the three months
and nine months ended September 30, 2005
and 2004, respectively......................... (10.4) 15.2 (156.7) 13.1
------ ------ ------- ------
Comprehensive income for the period............ $151.3 $160.5 $ 381.4 $500.1
====== ====== ======= ======
6. Our wholly and partially owned agencies operate within the advertising,
marketing and corporate communications services industry. These agencies
are organized into agency networks, virtual client networks, regional
reporting units and operating groups. Consistent with the fundamentals of
our business strategy, our agencies serve similar clients, in similar
industries, and in many cases, the same clients across a variety of
geographies. In addition, our agency networks have similar economic
characteristics and similar long-term operating margins, as the main
economic components of each agency are the salary and service costs
associated with providing professional services, the office and general
costs associated with office space and occupancy, and the provision of
technology requirements which are generally limited to personal computers,
servers and off-the-shelf software. Therefore, given these similarities
and in accordance with the provisions of SFAS 131 - Disclosures about
Segments of an Enterprise and Related Information, most specifically
paragraph 17, we aggregate our operating segments, which are our agency
networks, into one reporting segment.
5
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
A summary of our revenue and long-lived assets by geographic area as
of September 30, 2005 and 2004 is presented below:
(in millions of dollars)
-----------------------------------------------------------------------
United Euro United Other
States Denominated Kingdom International Consolidated
------ ----------- ------- ------------- ------------
Revenue
Three Months
Ended September 30,
2005 $1,428.6 $ 476.3 $260.1 $ 357.9 $2,522.9
2004 1,261.3 471.3 255.5 330.9 2,319.0
Revenue
Nine Months
Ended September 30,
2005 $4,168.4 $1,531.6 $795.1 $1,046.6 $7,541.7
2004 3,781.6 1,430.7 777.4 968.4 6,958.1
Long-lived Assets
at September 30,
2005 $ 329.6 $ 95.9 $ 81.9 $ 92.4 $ 599.8
2004 324.5 99.4 89.4 88.0 601.3
7. Short-term bank loans and commercial paper outstanding at September 30,
2005 of $213.9 million are comprised of $54.2 million of domestic
borrowings and bank overdrafts of our international subsidiaries which are
treated as unsecured loans pursuant to our bank agreements and $159.7
million of commercial paper issued under our $2,100.0 million five-year
revolver. There was no commercial paper outstanding under the $400.0
million 364-day facility as of September 30, 2005. We had unsecured
committed revolving credit facilities totaling $2,500.0 million as of
September 30, 2005.
On May 23, 2005, we amended and extended our existing $1,500.0
million revolving credit facility with a consortium of banks, resulting in
a five-year $2,100.0 million revolving credit facility which matures May
23, 2010. On June 30, 2005, we entered into a new $400.0 million 364-day
revolving credit facility with a maturity date of June 29, 2006. This
facility replaced our previous $500.0 million 364-day revolving credit
facility that expired May 24, 2005. This facility includes a provision
that allows us to convert all amounts outstanding at expiration of the
facility into a one-year term loan.
In funding our day-to-day liquidity, we are an active participant in
the commercial paper market with a $1,500.0 million program. Both our
$2,100.0 million five-year revolving credit facility and our $400.0
million 364-day revolving credit facility provide credit support for
commercial paper issued under this program.
The bank syndicate for the five-year facility consists of 27 banks.
Citibank N.A. acts as administrative agent, ABN Amro acts as syndication
agent and JPMorgan Chase Bank and HSBC Bank USA act as co-documentation
agents for the facility. Other significant
6
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
lending institutions include Societe Generale, Bank of America, Wachovia
and Sumitomo Mitsui.
The bank syndicate for the 364-day facility consists of eight banks.
Citibank N.A. acts as administrative agent. ABN Amro acts as syndication
agent and JPMorgan Chase Bank, Bank of America, and Banco Bilbao Vizcaya
Argentaria act as co-documentation agents for the facility.
These revolving credit facilities provide us with the ability to
classify our borrowings that could come due within one year as long-term
debt, when it is our intention to keep the borrowings outstanding on a
long-term basis.
On August 2, 2005, we paid holders of our Zero Coupon Zero Yield
Convertible Notes due 2032, $37.50 per $1,000 principal amount of notes as
an incentive to the holders not to exercise their right to put their notes
to us for repurchase. None of the notes were put to us for repurchase. The
total payment of $33.5 million is being amortized ratably over a
twelve-month period to the next put date.
8. Included in operating income for the nine months ended September 30, 2005
is a pre-tax net gain of $6.9 million arising from the sale in the first
quarter of a majority owned business located in Australia and New Zealand
and the disposal of a non-strategic business located in the United States.
Due to an unusually high book tax rate caused by the non-deductibility of
goodwill, the book tax cost of the transactions was $6.1 million. After
deducting minority interest expense, the impact of these transactions
increased net income by $0.4 million.
9. In 2002, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 148 (SFAS 148),
"Accounting for Stock-Based Compensation - Transition and Disclosure - An
Amendment of FASB No. 123". We adopted Statement of Financial Accounting
Standards No. 123 (SFAS 123), "Accounting for Stock-Based Compensation"
effective January 1, 2004. Pre-tax stock-based employee compensation costs
for the nine months ended September 30, 2005 and 2004, were $67.5 million
and $89.6 million, respectively.
In 2004, the FASB issued SFAS No. 123R which is effective for annual
reporting periods beginning after December 15, 2005 and generally applies
to grants made after adoption. SFAS 123R is a revision of SFAS 123.
Because we previously adopted SFAS 123, as amended by SFAS 148, on January
1, 2004, we believe that the adoption of SFAS 123R will not have a
material impact on our consolidated results of operations or financial
position. However, we are in the process of assessing the full impact and
related disclosure requirements of this revision.
7
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)
10. Beginning on June 13, 2002, several putative class actions were filed
against us and certain senior executives in the United States District
Court for the Southern District of New York. The actions have since been
consolidated under the caption In re Omnicom Group Inc. Securities
Litigation, No. 02-CV4483 (RCC), on behalf of a proposed class of
purchasers of our common stock between February 20, 2001 and June 11,
2002. The consolidated complaint alleges, among other things, that our
public filings and other public statements during that period contained
false and misleading statements or omitted to state material information
relating to (1) our calculation of the organic growth component of
period-to-period revenue growth, (2) our valuation of and accounting for
certain internet investments made by our Communicade Group
("Communicade"), which we contributed to Seneca Investments LLC ("Seneca")
in 2001, and (3) the existence and amount of certain contingent future
obligations in respect of acquisitions. The complaint seeks an unspecified
amount of compensatory damages plus costs and attorneys' fees. Defendants
moved to dismiss the complaint and on March 28, 2005, the court dismissed
portions (1) and (3) of the complaint detailed above. The court's decision
denying the defendants' motion to dismiss the remainder of the complaint
did not address the ultimate merits of the case, but only the sufficiency
of the pleading. Defendants have answered the complaint, and fact
discovery is ongoing.
In addition, on June 28, 2002, a derivative action was filed on
behalf of Omnicom in New York state court. On February 18, 2005, a second
shareholder derivative action, again purportedly brought on behalf of the
Company, was filed in New York state court. The derivative actions have
been consolidated before one New York State Justice and the plaintiffs
have filed an amended consolidated complaint. The consolidated derivative
complaint questions the business judgment of certain current and former
directors of Omnicom, by challenging, among other things, the valuation of
and accounting for the internet investments made by Communicade and the
contribution of those investments to Seneca. The consolidated complaint
alleges that the defendants breached their fiduciary duties of good faith.
The lawsuit seeks from the directors the amount of profits received from
selling Omnicom stock and other unspecified damages to be paid to the
Company, as well as costs and attorneys' fees. On September 1, 2005, the
defendants moved to dismiss the derivative complaint and, pursuant to an
agreed schedule, briefing on the motion to dismiss should be complete in
November 2005.
The defendants in both cases believe that the allegations against
them are baseless and intend to vigorously oppose the lawsuits. Currently,
we are unable to determine the outcome of these cases and the effect on
our financial position or results of operations. The outcome of any of
these matters is inherently uncertain and may be affected by future
events. Accordingly, there can be no assurance as to the ultimate effect
of these matters.
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Executive Summary
We are a strategic holding company. We provide professional services to
clients through multiple agencies around the world. On a global, pan-regional
and local basis, our agencies provide these services in the following
disciplines: traditional media advertising, customer relationship management,
public relations and specialty communications. Our business model was built and
evolves around clients. While our companies operate under different names and
frame their ideas in different disciplines, we organize our services around
clients. The fundamental premise of our business is that our clients' specific
requirements should be the central focus in how we structure our business
offering and allocate our resources. This client-centric business model results
in multiple agencies collaborating in formal and informal virtual networks that
cut across internal organizational structures to deliver consistent brand
messages for a specific client and execute against our clients' specific
marketing requirements. We continually seek to grow our business with our
existing clients by maintaining our client-centric approach, as well as
expanding our existing business relationships into new markets and new clients.
In addition, we pursue selective acquisitions of complementary companies with
strong entrepreneurial management teams that typically either currently serve or
have the ability to serve our existing client base.
Globally, during the past few years, the overall industry has continued to
be affected by geopolitical unrest, lagging economic conditions, lack of
consumer confidence and cautious client spending. All of these factors
contributed to a difficult business environment and industry-wide margin
contraction. Throughout this period, we have continued to invest in our
businesses and our personnel, and have taken actions to reduce costs at some of
our agencies to address the changing economic circumstances. In recent periods,
improving economic conditions, coupled with the business trends described below,
have had a positive impact on our business.
Several long-term trends continue to have a positive impact on our
business, including our clients increasingly expanding the focus of their brand
strategies from national markets to pan-regional and global markets.
Additionally, in an effort to gain greater efficiency and effectiveness from
their marketing dollars, clients are increasingly requiring greater coordination
of their traditional advertising and marketing activities and concentrating
these activities with a smaller number of service providers.
Given our size and breadth, we manage our business by monitoring several
financial indicators. The key financial performance indicators that we review
focus on the areas of revenues and operating expenses.
Revenue growth is analyzed by reviewing the components and mix of the
growth, including: growth by major geographic location; growth by major
marketing discipline; growth from currency changes and growth from acquisitions.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
In recent years, our revenue has been divided almost evenly between
domestic and international operations. For the three months ended September 30,
2005, our overall revenue growth was 8.8% compared to the prior year period, of
which 0.5% was related to changes in foreign exchange rates and (0.3)% was
related to the disposal of entities, net of entities acquired. The remaining
8.6% was organic growth. For the nine months ended September 30, 2005, our
overall revenue growth was 8.4% compared to the prior year period, of which 1.6%
was related to changes in foreign exchange rates, (0.4)% was related to the
disposal of entities, net of entities acquired and the remaining 7.1% was
organic growth.
We measure operating expenses in two distinct cost categories: salary and
service costs, and office and general expenses. Salary and service costs are
comprised primarily of employee compensation related costs. Office and general
expenses are comprised primarily of rent and occupancy costs, technology related
costs and depreciation and amortization.
Each of our agencies requires service professionals with a skill set that
is common across our disciplines. At the core is their ability to understand a
client's brand and its selling proposition, and their ability to develop a
unique message to communicate the value of the brand to the client's target
audience. The office space requirements of our agencies are also similar across
geographies and disciplines, and their technology requirements are generally
limited to personal computers, servers and off-the-shelf software.
Because we are a service business, we monitor these costs on a percentage
of revenue basis. Salary and service costs tend to fluctuate in conjunction with
changes in revenues, whereas office and general expenses, which are not directly
related to servicing clients, tend to decrease as a percentage of revenue as
revenues increase because a significant portion of these expenses are relatively
fixed in nature. During the third quarter of 2005, salary and service costs
increased slightly to 72.5% of revenue from 71.6% of revenue in the third
quarter of 2004, as these costs increased in line with the increase in revenues.
Office and general expenses declined to 16.7% of revenue in the third quarter of
2005 from 17.8% in the third quarter of 2004, as a result of our continuing
efforts to leverage fixed costs and better align these costs with business
levels on a location-by-location basis. Similarly, during the first nine months
of 2005, salary and service costs increased marginally to 71.1% of revenue from
70.5% of revenue in the first nine months of 2004, and office and general
expenses declined to 16.8% of revenue in the first nine months of 2005 from
17.7% in the first nine months of 2004.
Our net income for the third quarter of 2005 increased by 11.3% to $161.7
million from $145.3 million in the third quarter of 2004, and our diluted EPS
increased by 13.9% to $0.90 from $0.79. Our net income for the first nine months
of 2005 increased by 10.5% to $538.1 million from $487.0 million in the first
nine months of 2004, and our diluted EPS increased by 13.5% to $2.95 from $2.60.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Results of Operations: Third Quarter 2005 Compared to Third Quarter 2004
Revenue: Our third quarter of 2005 consolidated worldwide revenue
increased 8.8% to $2,522.9 million from $2,319.0 million in the comparable
period last year. The effect of foreign exchange impacts increased worldwide
revenue by $11.6 million. Acquisitions, net of disposals, decreased worldwide
revenue by $6.8 million in the third quarter of 2005 and organic growth
increased worldwide revenue by $199.1 million. The components of the third
quarter 2005 revenue growth in the U.S. ("domestic") and the remainder of the
world ("international") are summarized below ($ in millions):
Total Domestic International
--------------- ---------------- -----------------
$ % $ % $ %
-------- --- -------- ---- -------- ---
Third Quarter ended September 30, 2004 .......... $2,319.0 -- $1,261.3 -- $1,057.7 --
Components of Revenue Changes:
Foreign exchange impact ......................... 11.6 0.5% -- -- 11.6 1.1%
Acquisitions .................................... (6.8) (0.3)% 13.7 1.1% (20.5) (1.9)%
Organic ......................................... 199.1 8.6% 153.6 12.2% 45.5 4.3%
-------- --- -------- ---- -------- ---
Third Quarter ended September 30, 2005 .......... $2,522.9 8.8% $1,428.6 13.3% $1,094.3 3.5%
======== === ======== ==== ======== ===
The components and percentages are calculated as follows:
o The foreign exchange impact component shown in the table is
calculated by first converting the current period's local currency
revenue using the average exchange rates from the equivalent prior
period to arrive at a constant currency revenue (in this case
$2,511.3 million for the Total column in the table). The foreign
exchange impact equals the difference between the current period
revenue in U.S. dollars and the current period revenue in constant
currency (in this case $2,522.9 million less $2,511.3 million for
the Total column in the table).
o The acquisitions component shown in the table is calculated by
aggregating the applicable prior period revenue of the acquired
businesses. Netted against this number is the revenue of any
business included in the prior period reported revenue that was
disposed of subsequent to the prior period.
o The organic component shown in the table is calculated by
subtracting both the foreign exchange and acquisition revenue
components from total revenue growth.
o The percentage change shown in the table of each component is
calculated by dividing the individual component amount by the prior
period revenue base of that component (in this case $2,319.0 million
for the Total column in the table).
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
The components of revenue and revenue growth in our primary geographic
markets for the third quarter of 2005 compared to the third quarter of 2004 are
summarized below ($ in millions):
$ Revenue % Growth
--------- --------
United States....................... $1,428.6 13.3%
Euro Denominated Markets............ 476.3 1.3%
United Kingdom...................... 260.1 1.7%
Other............................... 357.9 7.8%
-------- ---
Total............................... $2,522.9 8.8%
======== ===
As indicated, foreign exchange impacts increased our international revenue
marginally by 0.5%, or $11.6 million during the quarter ended September 30,
2005. The most significant impacts resulted from the strength of the Canadian
Dollar and Brazilian Real against the U.S. Dollar, which was substantially
offset by the decline of the Euro and the British Pound against the U.S. Dollar.
Driven by our clients' continuous demand for more effective and efficient
branding activities, we strive to provide an extensive range of advertising,
marketing and corporate communications services through various client-centric
networks that are organized to meet specific client objectives. These services
include advertising, brand consultancy, crisis communications, custom
publishing, database management, digital and interactive marketing, direct
marketing, directory advertising, entertainment marketing, environmental design,
experiential marketing, field marketing, financial/corporate
business-to-business advertising, graphic arts, healthcare communications,
instore design, investor relations, marketing research, media planning and
buying, multi-cultural marketing, non-profit marketing, organizational
communications, package design, product placement, promotional marketing, public
affairs, public relations, real estate advertising and marketing, recruitment
communications, reputation consulting, retail marketing and sports and event
marketing. In an effort to monitor the changing needs of our clients and to
further expand the scope of our services to key clients, we monitor revenue
across a broad range of disciplines and group them into the following four
categories: traditional media advertising, customer relationship management
(referred to as CRM), public relations and specialty communications, as
summarized below.
(Dollars in Millions)
--------------------------------------------------------------------------------------
3rd Quarter % of 3rd Quarter % of $ %
2005 Revenue 2004 Revenue Growth Growth
----------- ------- ----------- ------- -------- ------
Traditional media advertising ........... $1,079.5 42.8% $ 967.8 41.8% $ 111.7 11.6%
CRM ..................................... 875.6 34.7% 826.3 35.6% 49.3 6.0%
Public relations ........................ 257.2 10.2% 257.8 11.1% (0.6) (0.2)%
Specialty communications ................ 310.6 12.3% 267.1 11.5% 43.5 16.3%
-------- -------- -------- ---
$2,522.9 $2,319.0 $ 203.9 8.8%
======== ======== ======== ===
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Operating Expenses: Our third quarter 2005 worldwide operating expenses
increased $176.8 million, or 8.5%, to $2,248.4 million from $2,071.6 million in
the third quarter of 2004, as shown below.
(Dollars in Millions)
----------------------------------------------------------------------------------
Three Months Ended September 30,
----------------------------------------------------------------------------------
2005 2004 2005 vs 2004
------------------------------ ------------------------------ ----------------
% % of % % of
of Total Op. of Total Op. $ %
$ Revenue Costs $ Revenue Costs Growth Growth
-------- ------- --------- -------- ------- --------- ------ ------
Revenue ....................................... $2,522.9 $2,319.0 $203.9 8.8%
Operating expenses:
Salary and service costs .................. 1,827.9 72.5% 81.3% 1,659.5 71.6% 80.1% 168.4 10.1%
Office and general expenses ............... 420.5 16.7% 18.7% 412.1 17.8% 19.9% 8.4 2.0%
------- ---- ---- ------- ---- ---- ----- ----
Total Operating Costs ......................... 2,248.4 89.1% 2,071.6 89.3% 176.8 8.5%
Operating profit .............................. $ 274.5 10.9% $ 247.4 10.7% $ 27.1 11.0%
======== ======== ======
Salary and service costs, which are comprised of direct service costs and
salary and related costs, increased by $168.4 million, or 10.1%, and represented
81.3% of total operating expenses in the third quarter of 2005 versus 80.1% in
the third quarter of 2004. Most, or $168.4 million and 95.2%, of the $176.8
million total increase in operating expenses in the third quarter of 2005
resulted from increases in salary and service costs. This increase was primarily
attributable to increased revenue levels and the required increases in direct
salaries, salary related costs and freelance labor costs necessary to deliver
our services and pursue new business initiatives, as compared to the third
quarter of 2004. As a result, salary and service costs as a percentage of
revenues increased slightly from 71.6% in the third quarter of 2004 to 72.5% in
the third quarter of 2005.
Office and general expenses, which are comprised of office and equipment
rent, technology costs and depreciation and amortization of identifiable
intangibles, professional fees and other overhead expenses, increased by $8.4
million, or 2.0%, in the third quarter of 2005 compared to the same period in
2004. Office and general expenses decreased as a percentage of our total
operating costs in the third quarter of 2005 to 18.7% versus 19.9% in the prior
period. Additionally, as a percentage of revenue, office and general expenses
decreased in the third quarter of 2005 to 16.7% from 17.8% in the third quarter
of 2004 primarily as a result of our higher utilization of our fixed cost base
stemming in part from leveraging our real estate commitments and other occupancy
and office related costs over a higher revenue base. These expenses are
relatively fixed in nature and do not necessarily change relative to our revenue
growth.
Net Interest Expense: Our net interest expense in the third quarter of
2005 was $16.3 million, up from $8.8 million in the same period in 2004. The
increase resulted from $7.1 million of additional interest costs associated with
the amortization of payments we made to holders of certain of our convertible
notes not to exercise certain put rights and to consent to certain amendments to
our indentures. In August 2005, we paid $33.5 million in the aggregate to
holders of our Zero Coupon Zero Yield Convertible Notes due 2032, and in
November 2004, we paid $14.8 million and $1.5 million in the aggregate,
respectively, to consenting holders of our Liquid Yield
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Option Notes due 2031 and Zero Coupon Zero Yield Convertible Notes due 2033. In
addition, part of the increase was due to market increases in short-term
interest rates. These increases were partially offset by interest expense
savings relative to our (euro)152.4 million 5.20% Euro notes that were redeemed
upon their maturity in June 2005.
Income Taxes: Our consolidated effective income tax rate was 33.7% in the
third quarter of 2005, which is slightly higher than our third quarter 2004 rate
and our full year rate for 2004 of 33.6%.
Earnings Per Share (EPS): For the foregoing reasons, our net income in the
third quarter of 2005 increased $16.4 million, or by 11.3%, to $161.7 million
from $145.3 million in the third quarter of 2004. Diluted earnings per share
increased 13.9% to $0.90 in the third quarter of 2005, as compared to $0.79 in
the prior year period for the reasons described above, as well as the impact of
the reduction in our weighted average shares outstanding for the third quarter
which resulted from our purchase of treasury shares net of option exercises and
share issuances under our employee stock purchase plan.
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Results of Operations: First Nine Months 2005 Compared to First Nine Months 2004
Revenue: Our first nine months of 2005 consolidated worldwide revenue
increased 8.4% to $7,541.7 million from $6,958.1 million in the comparable
period last year. The effect of foreign exchange impacts increased worldwide
revenue by $113.2 million. Acquisitions, net of disposals, decreased worldwide
revenue by $25.9 million in the first nine months of 2005 and organic growth
increased worldwide revenue by $496.3 million. The components of the first nine
months of 2005 revenue growth in the U.S. ("domestic") and the remainder of the
world ("international") are summarized below ($ in millions):
Total Domestic International
------------------ ----------------- -------------------
$ % $ % $ %
-------- ----- -------- ----- -------- -----
Nine months ended September 30, 2004 ............ $6,958.1 -- $3,781.6 -- $3,176.5 --
Components of Revenue Changes:
Foreign exchange impact ......................... 113.2 1.6% -- -- 113.2 3.6%
Acquisitions .................................... (25.9) (0.4)% 35.7 0.9% (61.6) (1.9)%
Organic ......................................... 496.3 7.1% 351.2 9.3% 145.1 4.6%
-------- --- -------- ---- -------- ---
Nine months ended September 30, 2005 ............ $7,541.7 8.4% $4,168.4 10.2% $3,373.3 6.2%
======== === ======== ==== ======== ===
The components and percentages are calculated as follows:
o The foreign exchange impact component shown in the table is
calculated by first converting the current period's local currency
revenue using the average exchange rates from the equivalent prior
period to arrive at a constant currency revenue (in this case
$7,428.5 million for the Total column in the table). The foreign
exchange impact equals the difference between the current period
revenue in U.S. dollars and the current period revenue in constant
currency (in this case $7,541.7 million less $7,428.5 million for
the Total column in the table).
o The acquisitions component shown in the table is calculated by
aggregating the applicable prior period revenue of the acquired
businesses. Netted against this number is the revenue of any
business included in the prior period reported revenue that was
disposed of subsequent to the prior period.
o The organic component shown in the table is calculated by
subtracting both the foreign exchange and acquisition revenue
components from total revenue growth.
o The percentage change shown in the table of each component is
calculated by dividing the individual component amount by the prior
period revenue base of that component (in this case $6,958.1 million
for the Total column in the table).
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
The components of revenue and revenue growth in our primary geographic
markets for the first nine months of 2005 compared to the first nine months of
2004 are summarized below ($ in millions):
$ Revenue % Growth
--------- --------
United States....................... $4,168.4 10.2%
Euro Denominated Markets............ 1,531.6 7.1%
United Kingdom...................... 795.1 2.3%
Other............................... 1,046.6 8.1%
-------- ---
Total............................... $7,541.7 8.4%
======== ===
As indicated, foreign exchange impacts increased our international revenue
by $113.2 million during the first nine months of 2005. The most significant
impacts resulted from the strength of the Euro and the British Pound against the
U.S. dollar, as our operations in these markets represented approximately 70% of
our international revenue.
In an effort to monitor the changing needs of our clients and to further
expand the scope of our services to key clients, we monitor revenue across a
broad range of disciplines and group them into the following four categories:
traditional media advertising, CRM, public relations and specialty
communications, as summarized below.
(Dollars in Millions)
--------------------------------------------------------------------
Nine Months % of Nine Months % of $ %
2005 Revenue 2004 Revenue Growth Growth
----------- ------- ----------- ------- ------- ------
Traditional media advertising $3,283.4 43.6% $3,004.9 43.2% $ 278.5 9.3%
CRM 2,580.2 34.2% 2,385.1 34.3% 195.1 8.2%
Public relations 778.4 10.3% 760.1 10.9% 18.3 2.4%
Specialty communications 899.7 11.9% 808.0 11.6% 91.7 11.3%
-------- -------- ------- ----
$7,541.7 $6,958.1 $ 583.6 8.4%
======== ======== ======= ====
Operating Expenses: Our first nine months of 2005 worldwide operating
expenses increased $490.4 million, or 8.0%, to $6,628.0 million from $6,137.6
million in the first nine months of 2004, as shown below.
(Dollars in Millions)
------------------------------------------------------------------------------------
Nine Months Ended September 30,
------------------------------------------------------------------------------------
2005 2004 2005 vs 2004
----------------------------- ----------------------------- -------------------
% % of % % of
of Total Op. of Total Op. $ %
$ Revenue Costs $ Revenue Costs Growth Growth
-------- ------- --------- -------- ------- --------- -------- -------
Revenue ........................... $7,541.7 $6,958.1 $ 583.6 8.4%
Operating expenses:
Salary and service costs....... 5,362.0 71.1% 80.9% 4,906.7 70.5% 79.9% 455.3 9.3%
Office and general expenses.... 1,266.0 16.8% 19.1% 1,230.9 17.7% 20.1% 35.1 2.9%
------- ---- ---- ------- ---- ---- ---- ---
Total Operating Costs.............. 6,628.0 87.9% 6,137.6 88.2% 490.4 8.0%
Operating profit................... $ 913.7 12.1% $ 820.5 11.8% $ 93.2 11.4%
======== ======== =======
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Salary and service costs, which are comprised of direct service costs and
salary and related costs, increased by $455.3 million, or 9.3%, and represented
80.9% of total operating expenses in the first nine months of 2005 versus 79.9%
in the first nine months of 2004. Most, or $455.3 million and 92.8%, of the
$490.4 million total increase in operating expenses in the first nine months of
2005 resulted from increases in salary and service costs. This increase was
primarily attributable to increased revenue levels and the required increases in
direct salaries, salary related costs and freelance labor costs necessary to
deliver our services and pursue new business initiatives. As a result, salary
and service costs as a percentage of revenues increased marginally from 70.5% in
the first nine months of 2004 to 71.1% in the first nine months of 2005.
Office and general expenses, which are comprised of office and equipment
rent, technology costs and depreciation and amortization of identifiable
intangibles, professional fees and other overhead expenses, increased by $35.1
million, or 2.9%, in the first nine months of 2005 compared to the same period
in 2004. Office and general expenses decreased as a percentage of our total
operating costs in the first nine months of 2005 to 19.1% versus 20.1% in the
prior period. Additionally, as a percentage of revenue, office and general
expenses decreased in the first nine months of 2005 to 16.8% from 17.7% in the
first nine months of 2004, as a result of our higher utilization of our fixed
cost base stemming in part from leveraging our real estate commitments and other
occupancy and office related costs over a higher revenue base. These expenses
are relatively fixed in nature and do not necessarily change relative to our
revenue growth. Included in office and general expenses in the first quarter of
2005 was a pre-tax $6.9 million net gain related to the sale of a majority owned
business located in Australia and New Zealand and the disposal of a
non-strategic business located in the United States. Additionally, included in
office and general expenses in the first quarter of 2004 was a $3.2 million
pre-tax net gain arising from Seneca Investment LLC's recapitalization,
partially offset by losses from the disposal of other cost-based investments and
costs incurred in connection with the disposal of two non-strategic businesses.
Net Interest Expense: Our net interest expense in the first nine months of
2005 was $42.7 million, up from $26.6 million in the same period in 2004. The
increase resulted from $20.2 million of additional interest costs associated
with the amortization of payments we made to holders of certain of our
convertible notes during the first nine months of 2005 and the fourth quarter of
2004. In August 2005, we paid $33.5 million to holders of our Zero Coupon Zero
Yield Convertible Notes due 2032 to not exercise certain put rights and, in
November 2004, we paid $14.8 million and $1.5 million in the aggregate,
respectively, to consenting holders of our Liquid Yield Option Notes due 2031
and Zero Coupon Zero Yield Convertible Notes due 2033, as incentives to consent
to certain amendments to our indentures and not exercise certain put rights. In
addition, part of the increase was due to market increases in short-term
interest rates. These increases were partially offset by interest expense
savings relative to our (euro)152.4 million 5.20% Euro notes that were redeemed
upon their maturity in June 2005.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Income Taxes: Our consolidated effective income tax rate was 34.1% in the
first nine months of 2005. Excluding the impact related to the net gain, as
described above in our discussion of operating expenses, our tax rate was 33.7%
in the first nine months of 2005, which is comparable to our first nine months
of 2004 and full year rate for 2004 of 33.6%.
Earnings Per Share (EPS): For the foregoing reasons, our net income in the
first nine months of 2005 increased $51.1 million, or by 10.5%, to $538.1
million from $487.0 million in the first nine months of 2004. Diluted earnings
per share increased 13.5% to $2.95 in the first nine months of 2005, as compared
to $2.60 in the prior year period for the reasons described above, as well as
the impact of the reduction in our weighted average shares outstanding for the
first nine months of 2005 which resulted from our purchase of treasury shares
net of option exercises and share issuances under our employee stock purchase
plan.
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Critical Accounting Policies
For a more complete understanding of all of our accounting policies, our
financial statements and the related management's discussion and analysis of
those results, readers are encouraged to consider this information together with
our discussion of our critical accounting policies under the heading
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in our Annual Report on Form 10-K for the year ended December 31,
2004 (the "2004 Form 10-K"), as well as our consolidated financial statements
and the related notes included in our 2004 Form 10-K.
New Accounting Pronouncements
In 2004 the FASB issued SFAS No. 123R which is effective for annual
reporting periods beginning after December 15, 2005 and generally applies to
grants made after adoption. SFAS 123R is a revision of SFAS 123. Because we
previously adopted SFAS 123, as amended by SFAS 148, on January 1, 2004, we
believe that the adoption of SFAS 123R will not have a material impact on our
consolidated results of operations or financial position. However, we are still
in the process of assessing the full impact and related disclosure requirements
of this revision.
In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error
Corrections ("SFAS 154"), which replaces APB Opinion No. 20, Accounting Changes
and SFAS No. 3, Reporting Accounting Changes in Interim Financial Statements.
SFAS 154 requires retrospective applications of a voluntary change in accounting
principle to prior period financial statements presented on the new accounting
principle, unless it is impracticable to determine either the period-specific
effects or the cumulative effect of the change. SFAS 154 also requires
accounting for a change in method of depreciating or amortizing a long-lived
non-financial asset as a change in accounting estimate (prospectively) affected
by a change in accounting principle. Additionally, SFAS 154 requires that
corrections of errors in previously issued financial statements be termed a
"restatement". SFAS 154 is effective for accounting changes and error
corrections made in fiscal years beginning after December 15, 2005. We do not
believe that the adoption of SFAS 154 will have a material impact on our
consolidated results of operations or financial position.
The FASB issued two staff proposals on accounting for income taxes to
address recent changes enacted by the United States Congress. Proposed Staff
Position FAS 109-a, Application of FASB Statement No. 109, Accounting for Income
Taxes, for the Tax Deduction Provided to U.S. Based Manufacturers by the
American Jobs Creation Act of 2004, and Proposed Staff Position FAS 109-b,
Accounting and Disclosure Guidance for the Foreign Earnings Repatriation
Provisions within the American Jobs Creation Act of 2004. We believe that
Proposed Staff Position FAS 109-a does not apply to our business and we are
currently assessing the impact of Proposed Staff Position FAS 109-b; however, we
do not believe it will have a material impact on our consolidated results of
operations or financial position.
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Contingent Acquisition Obligations
Certain of our acquisitions are structured with contingent purchase price
obligations, often referred to as earn-outs. We utilize contingent purchase
price structures in an effort to minimize the risk to us associated with
potential future negative changes in the performance of the acquired entity
during the post-acquisition transition period. These payments are not contingent
upon future employment. The aggregate amount of future contingent purchase price
payments that we would be required to pay for prior acquisitions, assuming that
the businesses perform over the relevant future periods at their current profit
levels, is approximately $369 million as of September 30, 2005. The ultimate
amounts payable cannot be predicted with reasonable certainty because it is
dependent upon future results of operations of subject businesses and is subject
to changes in foreign currency exchange rates. In accordance with GAAP, we have
not recorded a liability for these items on our balance sheet since the
definitive amount is not determinable or distributable. Actual results can
differ from these estimates and the actual amounts that we pay are likely to be
different from these estimates. Our obligations change from period to period
primarily as a result of payments made during the current period, changes in the
acquired entities' performance and changes in foreign currency exchange rates.
These differences could be significant. The contingent purchase price
obligations as of September 30, 2005, calculated assuming that the acquired
businesses perform over the relevant future periods at their current profit
levels, are as follows:
(Dollars in Millions)
--------------------------------------------------------------------------
Remainder There-
2005 2006 2007 2008 after Total
---- ---- ---- ---- ----- -----
$ 41 $ 98 $ 109 $ 74 $ 47 $ 369
In addition, owners of interests in certain of our subsidiaries or
affiliates have the right in certain circumstances to require us to purchase
additional ownership stakes in those companies. Assuming that the subsidiaries
and affiliates perform over the relevant periods at their current profit levels,
the aggregate amount we could be required to pay in future periods is
approximately $255 million, $127 million of which relate to obligations that are
currently exercisable. If these rights are exercised, there would be an increase
in our net income as a result of our increased ownership and the reduction of
minority interest expense. The ultimate amount payable relating to these
transactions will vary because it is primarily dependent on the future results
of operations of the subject businesses, the timing of the exercise of these
rights and changes in foreign currency exchange rates. The actual amount that we
pay is likely to be different from this estimate and the difference could be
significant. The obligations that exist for these agreements as of September 30,
2005, calculated using the assumptions above, are as follows:
(Dollars in Millions)
-----------------------------------------
Currently Not Currently
Exercisable Exercisable Total
----------- ----------- -----
Subsidiary agencies $ 100 $ 115 $ 215
Affiliated agencies 27 13 40
----- ----- -----
Total $ 127 $ 128 $ 255
===== ===== =====
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Liquidity and Capital Resources
Our principal non-discretionary funding requirement is our working
capital. In addition, we have contractual obligations related to our debt and
convertible notes, our recurring business operations primarily related to lease
obligations, as well as certain contingent acquisition obligations related to
acquisitions made in prior years. Historically, substantially all of our
non-discretionary cash requirements have been funded from operating cash flow.
Our principal discretionary cash requirements include dividend payments to
our shareholders, repurchases of our stock, payments for strategic acquisitions
and capital expenditures. The repurchases of our stock during the third quarter
of 2005 are summarized in Part II, Item 2 "Unregistered Sales of Equity
Securities and Use of Proceeds" of this Report on Form 10-Q.
We have a seasonal working capital cycle. Working capital requirements are
lowest at year-end and higher during the first, second and third quarters. This
cycle occurs because in the majority of our businesses we act as agent on behalf
of our clients, including when we place media and incur production costs on
their behalf. We generally require collection from our clients prior to our
payment for the media and production cost obligations and these obligations are
greatest at the end of the year.
Historically, on an annual basis, our discretionary and non-discretionary
spending has been funded from operating cash flow. However, during the year we
manage liquidity by utilizing our credit facilities discussed below.
Liquidity: We had cash and cash equivalents totaling $395.6 million and
$1,165.6 million at September 30, 2005 and December 31, 2004, respectively. We
also had short-term investments totaling $14.4 million and $574.0 million at
September 30, 2005 and December 31, 2004, respectively. Consistent with our
historical trends in the first nine months of the year, we had negative cash
flow from operations of $304.4 million. We funded this deficit primarily with
cash on hand, liquidation of short-term investments, working capital management
and through issuance of commercial paper.
Capital Resources: On May 23, 2005, we amended and extended our existing
revolving credit facilities with a consortium of banks, resulting in a five-year
$2,100.0 million revolving credit facility which matures May 23, 2010. On June
30, 2005, we entered into a new $400.0 million 364-day revolving credit facility
with a maturity date of June 29, 2006. The five-year facility amended our
previous five-year, $1,500.0 million facility. The 364-day facility replaced our
364-day facility that expired May 24, 2005. The new 364-day facility includes a
provision that allows us to convert all amounts outstanding at expiration of the
facility into a one-year term loan.
In funding our day-to-day liquidity, we are an active participant in the
commercial paper market with a $1,500.0 million program. Both our $2,100.0
million five-year revolving credit facility
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
and our $400.0 million 364-day revolving credit facility provide credit support
for commercial paper issued under this program. As of September 30, 2005, $159.7
million of commercial paper was outstanding. We allocated these outstanding
commercial paper issuances to our five-year facility. We had no borrowings
outstanding under the 364-day credit facility.
The bank syndicate for the five-year facility consists of 27 banks.
Citibank N.A. acts as administrative agent, ABN Amro acts as syndication agent
and JPMorgan Chase Bank and HSBC Bank USA act as co-documentation agents for the
facility. Other significant lending institutions include Societe Generale, Bank
of America, Wachovia and Sumitomo Mitsui.
The bank syndicate for the 364-day facility consists of eight banks.
Citibank N.A. acts as administrative agent, ABN Amro acts as syndication agent
and JPMorgan Chase Bank, Bank of America, and Banco Bilbao Vizcaya Argentaria
act as co-documentation agents for the facility.
These facilities are a critical component in our analysis of the liquidity
and capital resources that provide us with the ability to classify up to
$2,500.0 million of our borrowings that could come due within one year as
long-term debt, when it is our intention to keep the borrowings outstanding on a
long-term basis.
Debt: We had short-term bank loans and commercial paper outstanding of
$213.9 million and $17.5 million, respectively as of September 30, 2005 and
December 31, 2004. The short-term bank loans consisted of $54.2 million and
$17.5 million at September 30, 2005 and December 31, 2004, respectively, which
are comprised of domestic borrowings and bank overdrafts of our international
subsidiaries and are treated as unsecured loans pursuant to our bank agreements.
The commercial paper outstanding of $159.7 million as of September 30, 2005 is
discussed above under the caption Capital Resources.
At September 30, 2005, we also had a total of $2,339.3 million aggregate
principal amount of convertible notes outstanding, including $847.0 million
Liquid Yield Option Notes due 2031, which were issued in February 2001, $892.3
million Zero Coupon Zero Yield Convertible Notes due 2032, which were issued in
March 2002, and $600.0 million Zero Coupon Zero Yield Convertible Notes due
2033, which were issued in June 2003.
Upon their maturity, in June 2005, we redeemed our Euro-denominated bonds
for $185.1 million. The bonds paid a fixed rate of 5.2% to maturity.
22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (Continued)
Our outstanding debt and amounts available under our credit facilities as
of September 30, 2005 ($ in millions) were as follows:
Debt Available
Outstanding Credit
----------- ---------
Bank loans (due in less than 1 year)............... $ 54.2 --
Commercial Paper issued under
$2,100.0 Million Revolver - due May 23, 2010..... 159.7 $ 1,940.3
$400.0 Million Facility - due June 29, 2006........ -- 400.0
Convertible notes - due February 7, 2031......... 847.0 --
Convertible notes - due July 31, 2032............ 892.3 --
Convertible notes - due June 15, 2033............ 600.0 --
Other debt......................................... 19.5 --
--------- ---------
Total.................................................. $ 2,572.7 $ 2,340.3
========= =========
We believe that our operating cash flow combined with our available lines
of credit and our access to the capital markets are sufficient to support our
foreseeable cash requirements arising from working capital, outstanding debt,
capital expenditures, dividends and acquisitions.
23
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market Risk
Our results of operations are subject to risk from the translation to the
U.S. dollar of the revenue and expenses of our foreign operations, which are
generally denominated in the local currency. For the most part, our revenues and
the expenses incurred related to those revenues are denominated in the same
currency. This minimizes the impact that fluctuations in exchange rates have on
our profit margins.
During the third quarter of 2005, our Japanese Yen based interest rate
swaps matured and were not replaced. Also, during the third quarter we entered
into a (euro)30.0 million (Euro) aggregate notional principal amount
cross-currency interest rate swap which matures in 2010. This swap effectively
hedges our net investment in certain Euro-denominated assets.
Our Annual Report on Form 10-K for the year ended December 31, 2004
provides a more detailed discussion of the market risks affecting our
operations. As of September 30, 2005, no material change had occurred in our
market risks from the disclosure contained in that 10-K.
Forward-Looking Statements
"Management's Discussion and Analysis of Financial Condition and Results
of Operations" and "Quantitative and Qualitative Disclosures About Market Risk"
and other information set forth in, or incorporated by reference into or
referenced in, this report contain disclosures which are forward-looking
statements within the meaning of the federal securities laws. Forward-looking
statements include all statements that do not relate solely to historical or
current facts, and can be identified by the use of words such as "may," "will,"
"expect," "project," "estimate," "anticipate," "envisage," "plan" or "continue."
These forward-looking statements are based upon our current plans or
expectations and are subject to a number of uncertainties and risks that could
significantly affect current plans and anticipated actions and our future
financial condition and results. The uncertainties and risks include, but are
not limited to, changes in general economic conditions, competitive factors,
client communication requirements, the hiring and retention of human resources
and other factors. In addition, our international operations are subject to the
risk of currency fluctuations, exchange controls and similar risks discussed
above. As a consequence, current plans, anticipated actions and future financial
condition and results may differ from those expressed in any forward-looking
statements made by us or on our behalf, and those differences could be material.
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ITEM 4. CONTROLS AND PROCEDURES
We have established and maintain disclosure controls and procedures and
internal controls over financial reporting designed to ensure that information
required to be disclosed in our SEC reports is recorded, processed, summarized
and reported within applicable time periods. We conducted an evaluation, under
the supervision and with the participation of our management, including our CEO
and CFO, of the effectiveness of our disclosure controls and procedures as of
September 30, 2005. Based on that evaluation, our CEO and CFO concluded that as
of September 30, 2005, our disclosure controls and procedures are effective to
ensure recording, processing, summarization and reporting of information
required to be included in our Quarterly Report on Form 10-Q for the quarter
ended September 30, 2005 as appropriate to allow timely decisions regarding
required disclosure. There have not been any changes in our internal controls
over financial reporting that occurred during our first, second and third fiscal
quarter that has materially affected or is reasonably likely to materially
affect our internal controls over financial reporting. Our independent
registered public accounting firm, KPMG LLP, has audited our financial
statements for the year ended December 31, 2004 and issued an attestation
report, dated March 11, 2005, on our assessment of our internal control over
financial reporting.
25
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
The information regarding legal proceedings described in note 10 to the
condensed financial statements set forth in Part I of this report is
incorporated by reference into this Part II, Item 1.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
(c) The following table presents information with respect to purchases of our
common stock made during the three months ended September 30, 2005 by us or any
of our "affiliated purchasers".
(c)
Total Number (d)
(a) (b) of Shares Purchased Maximum Number
Total Average As Part of Publicly of Shares that May
Number of Price Paid Announced Plans Yet Be Purchased Under
During the month in 2005: Shares Purchased (1) Per Share or Programs the Plans or Programs
- ------------------------- -------------------- ---------- ------------------- ----------------------
July 310,900 $ 80.13 -- --
August 1,051,000 $ 84.40 -- --
September 93,025 $ 80.66 -- --
--------- ------- --------- -------
Total 1,454,925 $ 83.25 -- --
========= ======= ========= =======
(1) The shares were purchased in the open market for general corporate
purposes.
Item 6. Exhibits
(a) Exhibits
31.1 Certification of the Chief Executive Officer and President required
by Rule 13a-14(a) under the Securities Exchange Act of 1934, as
amended.
31.2 Certification of the Executive Vice President and Chief Financial
Officer required by Rule 13a-14(a) under the Securities Exchange Act
of 1934, as amended.
32.1 Certification of the Chief Executive Officer and President required
by Rule 13a-14(b) under the Securities Exchange Act of 1934, as
amended, and 18 U.S.C. ss.1350.
32.2 Certification of the Executive Vice President and Chief Financial
Officer required by Rule 13a-14(b) under the Securities Exchange Act
of 1934, as amended and 18 U.S.C. ss.1350.
26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
OMNICOM GROUP INC.
November 1, 2005 /s/ Randall J. Weisenburger
--------------------------------------
Randall J. Weisenburger
Executive Vice President
and Chief Financial Officer
(on behalf of Omnicom Group Inc.
and as Principal Financial Officer)
27