No. 3 Interpublic Group of Cos.

Analysis of Interpublic Activities in 2006

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Interpublic Group of Cos. continued its slight turnaround in 2006, posting a net loss ($31.7 million) that at least was below the annual losses it had piled up in the three previous years. Revenue slipped to $6.2 billion, down 1.3% or $83.5 million from 2005. Interpublic employed about 42,000 people worldwide at year-end 2006, down 2.3% from a year earlier (43,000). U.S. employment was about 18,000 both at year-end 2006 and 2005.

ORGANIZATION

Interpublic in March 2006 reorganized Lowe Worldwide, slashing its network of offices worldwide as part of the cost-cutting needed to return the holding company to profitability.

In June 2006, Interpublic merged two other agency networks, Draft and FCB, into a new integrated marketing agency, DraftFCB. The merged agency is run by Chairman-CEO Howard Draft.

In October 2006, Interpublic realigned its Universal McCann media unit with McCann Worldgroup and aligned Initiative with DraftFCB "to ensure that media thinking and expertise plays a central role in both brand and communications planning," the company said. Both media units retained their senior management and financial independence within the new operating structure. Interpublic's Magna unit was to continue to negotiate on behalf of the aggregated marketing clout of Interpublic media clients.

Interpublic Media Council was formed in 2006. It had oversight of the Futures Marketing Group and of coordinated group-wide activities and capabilities, such as Magna, Magna Trading (media barter) and OSI (outdoor media), as well as Interpublic's future media strategy, including M&A and investment priorities.

The Futures Marketing Group, created in 2006, brought together Interpublic's specialist and digital capabilities to serve as an incubator for media tools and solutions. Components of the group included the Interpublic Emerging Media Lab, The Consumer Experience Practice (TCEP), Wahlstrom and NSA (Newspaper Services of America). Bant Breen became president of the Futures Marketing Group in February 2007, moving from Interpublic's director of strategic development and innovation.

A new member of the Futures Marketing Group will soon be Reprise Media, a New York-based provider of search engine marketing (SEM) that Interpublic agreed to acquire in April 2007. Reprise Media will remain a stand-alone unit and will partner with agencies throughout the holding company as well as seek its own clients. It continues to be led by founders and managing partners, Peter Hershberg and Joshua Stylman.

The Emerging Media Lab is both a physical and a virtual space. Based in Los Angeles, it allows visitors to sit in a digital living room, brainstorming ideas as they test a multitude of entertainment scenarios, drink espresso in a "smart" kitchen where they can check their e-mail on the refrigerator, and view presentations in a high-tech conference room.

Interpublic made other moves with its management and board. It named Christopher Carroll senior VP-controller-chief accounting officer in April 2006, succeeding Nick Cyprus. (Mr. Cyprus joined General Motors Corp., Interpublic's largest client, as controller and chief accounting officer in December 2006.) Mr. Carroll had been controller at McCann Worldgroup since November 2005 and previously was controller at Eyetech Pharmaceuticals.

Former CEO David Bell retired as co-chairman in early 2006, five years after the board of True North Communications--where he had been chairman-CEO--picked a takeover offer from Interpublic over competing bids from Omnicom Group and Havas. After stepping down as co-chairman, Mr. Bell became Interpublic chairman emeritus.

In board maneuvers, Frank Borelli stepped down as presiding director in May 2006 and was succeeded by Richard Goldstein, a board member since 2001. Mr. Borelli continued as a director. William T. Kerr, 65, chairman of Meredith Corp., joined the board in October 2006.

Interpublic holdings consist of:

Integrated Agency Network: McCann, DraftFCB, Lowe, media agencies (Initiative, Universal McCann), standalone agencies (including Campbell-Ewald, Campbell Mithun, Deutsch, Hill Holliday, Martin Agency and Mullen).

Constituency Management Group: marketing services such as public relations (including WeberShandwick), event marketing ( Jack Morton), branding (FutureBrand) and sports marketing (Octagon).

Interpublic owns a stake in various multicultural shops including Abece (Hispanic), Accentmarketing (Hispanic), Axis Agency (African-American), Casanova Pendrill (Hispanic), IW Group (Asian-Pacific American) and Siboney USA (Hispanic).

2006 RESULTS

Interpublic revenue declined 1.3% in 2006 to $6.2 billion. Revenue each year from 2002 through 2006 stayed in a narrow band of about $6.1 billion to $6.4 billion (after various restatements) even as the ad market was rebounding from the 2001 recession.

U.S. 2006 revenue fell 0.6%; it rose 0.5% on an organic basis. International 2006 revenue fell 2.3%; it rose 1.5% on an organic basis. Globally, Interpublic saw the fastest 2006 growth in Latin America (up 16.8%) and Asia Pacific (up 8.1%).

Interpublic said overall 2006 organic revenue, which factors out divestitures and currency changes, increased 1%, "primarily due to higher revenue from existing clients." Organic revenue in 2005 fell 0.7%.

Interpublic had a 2006 operating margin (operating income divided by revenue) of 1.7%, a low return but at least a turnabout from 2005's -1.7%.

In its February 2007 10-K, Interpublic said: "Our strategy is focused on improving organic revenue growth and our operating income, and we are working to achieve a level of organic revenue growth comparable to industry peers and double-digit operating margins by 2008."

Interpublic noted 2006 organic revenue increased in both the U.S. and outside the U.S. "The international organic increase was driven by higher revenue from existing clients primarily in the Asia-Pacific and Latin America regions partially offset by net client losses, primarily in 2005, at [Integrated Agency Networks (McCann, DraftFCB, standalone agencies)] as well as decreases in the events marketing businesses...in the United Kingdom," Interpublic said in its February 2007 10-K. "The domestic organic increase was primarily driven by growth in the public relations and branding businesses...as well as higher revenue from existing clients, partially offset by net client losses and decreased client spending at" Integrated Agency Networks.

Revenue for Integrated Agency Networks in 2006 fell 1.8%; it rose 0.7% on an organic basis. Interpublic said the revenue decline in 2006 was a result of net divestitures, primarily from the sale of several businesses at DraftFCB and McCann in 2005, partially offset by an organic increase and changes in foreign currency exchange rates. It said the organic increase was driven primarily by McCann and DraftFCB, partly offset by decreases at Lowe and at The Works, a GM-dedicated agency.

Interpublic said the organic increase at McCann was the result of higher revenue from existing clients across domestic and international regions, primarily Asia-Pacific and Latin America. McCann's increase, the company said, was primarily driven by digital, direct and event marketing.

The increase at DraftFCB was mainly the result of increased spending from existing clients partly offset by net client losses, primarily in 2005, across domestic and most international regions, primarily Europe, Asia-Pacific and Latin America. The decrease at Lowe was mostly due to reduced spending by existing clients and net client losses, mainly in domestic locations in 2005. The revenue decrease at The Works was primarily due to the loss of GM's U.S. media buying business in 2005.

Revenue at Constituency Management Group rose 1.7%; it grew 2.8% on an organic basis. Interpublic said growth was a result of organic revenue increases in its U.S. public relations and branding businesses due to higher revenue from existing clients. Additionally, it said, there were U.S. organic revenue gains in sports marketing and events marketing due to higher revenue from existing clients and client wins. It said the domestic increase was partly offset by declines at some agencies that lost clients.

Outside the U.S., the decline related primarily to a decrease in events marketing and sports marketing from client losses. The international decrease was partly offset by increases in PR and branding due to higher revenue from existing clients.

Cost cutting was a big part of Interpublic's "Investor Day" presentation in March 2006. Exec VP-CFO Frank Mergenthaler said Interpublic would reduce the number of financial systems across Interpublic from 150 to four and trim the 1,350 legal entities worldwide to around 800.

Interpublic has been working through accounting issues and performance issues since its accounting troubles came to light in summer 2002. It made progress in 2006, getting past some of the "material weaknesses" in financial controls that had dogged the company.

There was continued speculation in 2006 about whether Interpublic might be a takeover prospect. Publicis Groupe in late '06 was said to be weighing a potential bid; Publicis Chairman-CEO Maurice Levy strenuously denied that. Not long after those reports, Publicis struck a smaller deal, swallowing interactive shop Digitas.

Publicis does have an interest in Interpublic: As of December 2006, it owned a 1.2% equity stake. Publicis received those shares in 2001 when Interpublic bought True North Communications, in which Publicis owned a 9% stake as the result of a one-time alliance with Foote Cone & Belding. Publicis classifies its Interpublic shares as "available-for-sale assets."

Interpublic's stock from 2006 to early 2007 hit multi-year highs and lows. The stock fell sharply after the company in early June 2006 announced a complex agreement for a new line of credit. Chairman-CEO Michael Roth around that time said, "I expected the stock to drop" because of the "unique structure" of the financing, but added, "I expect through the rest of the year it will level off when the impact of this (credit) transaction is understood."

Executives ended up getting stock option grants when shares were at a depressed price; Mr. Roth, for example, received options to buy 577,700 shares over time at the June 15, 2006, price of $8.655 price, near a three-year low; an Interpublic spokesman said the timing was a coincidence since the board's compensation committee in March 2006 had picked June 15 as pricing date for options. Interpublic's stock kept tumbling in July 2006 to a three-year low of $7.79.

But Mr. Roth's optimism proved well-founded: The stock rebounded in the second half of 2006 and then in January 2007 hit $13.94, highest price since he became CEO in January 2005 (though far below its bubble-era December 1999 peak, $58.375). The stock as of late April 2007 traded near $13.

Interpublic in 2006 remained under a formal SEC investigation relating to its 2002-2005 financial restatements. "We continue to cooperate with the investigation," it said in its February 2007 10-K. "We expect that the investigation will result in monetary liability, but because the investigation is ongoing, in particular with respect to the 2005 restatement, we cannot reasonably estimate the amount, range of amounts or timing of a resolution."

NEW BUSINESS

Interpublic in 2006 had a loss of $457 million in reported net new billings, reflecting about $3.1 billion in account wins and $3.5 billion in account losses, according to the tally of Bear, Stearns & Co. analyst Alexia Quadrani. That was worst among the six ad holding companies ranked by Bear Stearns.

Bear Stearns also scored Interpublic worst in 2006 adjusted net new billings with a loss of $214 million; "adjusted" reduces media accounts to 25% of reported billings to more closely correlate with anticipated revenue. The adjusted net new billings translated to an expected annualized revenue loss of $28 million.

TOP CLIENTS

Interpublic's top 10 clients accounted for about 25% of revenue in 2006 and 2005. Based on 2006 revenue, Interpublic's largest clients, ranked in order of size, were General Motors Corp., Johnson & Johnson, Microsoft Corp., Unilever and Verizon.

For the first time in decades, Interpublic's February 2007 10-K annual report didn't disclose the revenue contribution of its largest client. An Interpublic spokesman said the company will "reassess" reporting that data in future years; Interpublic's key competitors routinely disclose such data. Ad Age estimates that the largest client, General Motors, contributed 6.5% or $400 million in 2006, down sharply from a stated 8%, or about $500 million, in 2005, as the troubled automaker slashed spending. (The reduced 2006 revenue also reflected that GM effective October 2005 moved U.S. media buying to Publicis from Interpublic. That assignment had generated an estimated $45 million to $50 million in annual revenue for Interpublic.) Back in 1979, Interpublic generated 15% of revenue from GM.

Interpublic in spring 2007 faced new challenges on its No. 2 client: Johnson & Johnson in late March 2007 began a global review of media planning and buying. Interpublic's Universal McCann handled a large amount of North American media work (shared with Omnicom's OMD); Universal McCann and sibling Initiative were key agencies on J&J's non-U.S. roster.

Regardless of how the J&J review turned out, it's conceivable that Microsoft will be Interpublic's second-largest revenue client for calendar 2007. Notably, for Interpublic's 100 largest clients (representing about half of total revenue), tech/telecom emerged as the biggest sector in 2006, contributing 26% of the top 100 clients' revenue. Health/personal care and auto/transportation ranked second and third.

DISCIPLINES AND REGIONS

Interpublic said 58% of 2006 revenue came from advertising and media; 42% came from marketing services. In March 2006, Interpublic said advertising and media accounted for 63% of 2005 revenue, with the rest from marketing services. In February 2007, Mr. Mergenthaler said that reported '05 split had overstated advertising and media, "not accurately parsing some of the [McCann] Worldgroup revenue base" and not quantifying that standalone ad agencies did some marketing services work. He added that Interpublic was driving toward a 50/50 mix of advertising/media and marketing services.

Interpublic generated 55.6% of 2006 revenue from the United States. Europe, excluding the U.K., kicked in 16.8%; the U.K. supplied 9.1%. Asia Pacific accounted for 8.3%; Latin America, 4.9%. Other areas contributed 5.3%.

AGENCY DEALS

Interpublic in April 2007 announced its first acquisition since 2004: It agreed to buy Reprise Media, a search engine marketing firm. Reprise was to remain a stand-alone unit as part of Interpublic's Futures Marketing Group. Reprise had offices in New York, Boston and San Francisco.

Interpublic, working to simply its structure after its overload of deals in the '90s and early this decade, did not complete any acquisitions in 2005 and 2006. It disposed of 51 businesses in 2005 and 2006, primarily outside the U.S. Specifically, Interpublic said it exited 23 "loss-making international affiliates" in 2006.

Two U.S. ad agencies--Stein Rogan & Partners, New York, and Howard, Merrell & Partners, Raleigh, N.C.--bought themselves back from Interpublic in 2006. GlobalHue, a U.S. multicultural agency, in 2006 bought back the 49% stake owned by Interpublic.

Interpublic completed two acquisitions in 2004, two in '03 and nine in '02. In January 2007, Interpublic cut loose OneSeven, the landing place for the so-called Saatchi 17, which, composed of that number of staffers serving the General Mills account at Saatchi & Saatchi, left the agency in February 2005 with hopes of taking the account. OneSeven Chairman Mike Burns, a former Saatchi vice chairman and worldwide account director on General Mills, was striking out on his own. "We are now looking forward to building our business with an independent's focus and an entrepreneur's energy," he told Ad Age. The agency's clients included: ConAgra's Hebrew National; Gorton's seafood; McGraw-Hill's BusinessWeek; Dun & Bradstreet; and Unicef.

In January 2007, Interpublic and Frank Lowe ended a year-long battle, withdrawing their claims against each other. Mr. Lowe, who founded and sold ad agency Lowe to Interpublic, came out of retirement in December 2005 to start a new London shop. The new shop, Red Brick Road, opened in March 2006 with the $80 million account of retailer Tesco, poached from Lowe's London office.

German shop Springer & Jacoby in October 2006 was sold to Avantaxx, an investor unit owned by the Schaffhausen agency group. Interpublic, which had owned 51% of S&J, is no longer involved in the agency, nor are its founders, Konstantin Jacoby and Reinhard Springer.

Interpublic struck deals with several web ventures in 2006 and 2007. In February 2007, Interpublic entered a partnership with Spongecell, taking a preferred equity stake in the web services outfit. Spongecell helps event planners and promoters manage events. In October 2006, Interpublic bought a small piece of Spot Runner, an internet-based media shop and TV production outfit. (WPP Group and CBS Corp. also made investments in Spot Runner.) In June 2006, Interpublic formed a strategic partnership with Facebook, buying a tiny 0.5% stake in the social networking site.

Contributing: R. Craig Endicott
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