INSIDE INTERPUBLIC'S ANNUAL REPORT

An Ad Age Detailed Analysis of the Just-Filed SEC Document

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Interpublic Group of Cos. disclosed another loss, another restatement and the departure of another top financial executive. What else? To find out, AdAge.com took a deep dive into the 306-page annual report that Interpublic filed this week with the Securities and Exchange Commission. Here’s the condensed version.
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Largest clients
> Who’s on first: General Motors Corp. for years has been Interpublic’s largest client, kicking in 8% or about $502 million in Interpublic revenue last year. On second is Microsoft Corp., a worthy blue chip to have near the top of the roster. The filing shows Microsoft accounted for 3%, or about $188 million, of Interpublic revenue. “Based on revenue for the year ended Dec. 31, 2005, our largest clients were General Motors Corp., Microsoft, Unilever, Johnson & Johnson, and Verizon,” the 10-K disclosed. In its 2004 report, Interpublic said its top clients were GM, Johnson & Johnson, L’Oreal, Microsoft and Unilever.

> Steady jobs: Amid all its financial turmoil, Interpublic staffing is relatively stable. The company employed 43,000 people (18,000 U.S.) at year-end ’05 vs. 43,700 (18,400 U.S.) a year earlier.

> Pick a number: In 2002, when Interpublic first revealed its botched accounting, the company restated financial results back to 1997. Last September, it restated financials for 2000-2004. Last week, it restated the first three quarters of ’05.

Disclaimer
> General disclaimer: Interpublic’s new 10-K filing offered a new disclosure: “If some of our clients experience financial distress, their weakened financial position could negatively affect our own financial position and results. We have a large and diverse client base and at any given time, one or more of our clients may experience financial distress, file for bankruptcy protection or go out of business. If any client with whom we have a substantial amount of business experiences financial difficulty, it … may have a material adverse effect on our financial position, results of operations and liquidity.”

> Losing a grade: Interpublic, by the way, has something in common with its biggest client. They each scored a lofty “A” credit rating from Standard & Poor’s in 2001. With S&P’s latest Interpublic downgrade last week, both now are rated “B,” deep in junk-bond territory.

> Paying up: In the 10-K, Interpublic said it probably will have to pay money to resolve the SEC’s ongoing investigation of the company. “We continue to cooperate with the investigation,” the report disclosed. “We expect that the investigation will result in monetary liability, but because the investigation is ongoing, in particular with respect to the [2000-2004] restatement, we cannot reasonably estimate either the timing of a resolution or the amount.” This is a new disclosure, though Interpublic has made similar comments at investment conferences since December.

Professional fees
> Accounting for accounting: Interpublic said it forked over $333 million last year for “professional fees,” mainly for work on internal controls and accounting restatements and for computer work related to “shared-services initiatives.” So the accountants, lawyers and consultants pocketed a nickel out of every dollar of revenue.

> Lowe down: Interpublic took a fourth-quarter charge of $91 million to reduce the value on its balance sheet of the troubled agency Lowe. “A major client was lost by Lowe’s London agency”—Tesco—“and the possibility of losing other clients is now considered a higher risk due to recent management defections and changes in the competitive landscape,” Interpublic said. The charge resulted in Interpublic’s reporting a fourth-quarter net loss.

> Marginal: The operating margin (operating income divided by revenue) at Interpublic’s “integrated agency networks”— McCann Erickson, Foote Cone & Belding, Lowe, Draft, media shops, key standalone shops including Deutsch—fell to a dismal 4.7% last year from 10.7% in ’04 because of shrinking revenue and higher expenses.

Material weakness
> Material weakness, part 1: “A material weakness … in internal control over financial reporting is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected.” Interpublic listed 18 such shortcomings, many of which it said contributed to its restatement of 2005 financial results.

> Material weakness, part 2: The 10-K last September said Sarbanes-Oxley-related work to fix material weaknesses in internal controls “will extend into the 2006 fiscal year and possibly beyond.” The new annual report has bad news: “This work will extend beyond 2006.” Which means Interpublic could still be working to fix financial controls when the five-year anniversary of its accounting meltdown occurs in Aug. ’07.

Among Interpublic’s troubles in material weakness:

> Ineffective controls “allowed instances of falsified books and records, violations of laws, regulations and the company’s policies, misappropriation of assets and improper customer charges and dealings with vendors.”

Lack of effective controls
> “The company did not maintain effective controls over the accuracy and presentation and disclosure of recording of revenue. Specifically, controls were not designed and in place to ensure that customer contracts were authorized, that customer contracts were analyzed to select the appropriate method of revenue recognition, and billable job costs were compared to client cost estimates to ensure that no amounts were owed to clients.”

> “The company did not maintain effective controls to ensure that certain financial statement transactions were appropriately initiated, authorized, processed, documented and accurately recorded.” Interpublic said it found the problem in areas including client contracts and executive compensation.

> “The company did not maintain effective control over the monitoring of financial statement accounts. … Controls were not designed and in place to,” among other things, “compare revenue recorded to amounts billed to clients”; “identify contracts with potential client rebates and vendor incentives”; and “compare billable job costs to client cost estimates.”

Safeguarding assets
> “The company did not maintain effective controls over the safeguarding of assets.”

> The material fix: “We continue the process of developing and implementing a remediation plan to address our deficiencies…,” the report said. “Given the presence of material weaknesses in our internal control over financial reporting, there is more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected.”

> The bookkeeper books: Interpublic last week disclosed its controller-chief accounting officer, Nick Cyprus, was leaving effective March 31, becoming the latest in a string of financial executives to enter and exit since Interpublic’s bookkeeping woes began.

Mr. Cyprus was Interpublic’s highest-paid executive in 2004 in large part due to a $1.83 million signing bonus it provided to lure him from AT&T Corp. earlier that year. His contract required Mr. Cyprus to repay the sign-on bonus in full “in the event his employment is terminated within two years of the commencement date” -- May 24, 2004 -- “either by executive, except for either 'Good Reason' or death, or by Interpublic for 'Cause.'"

Interpublic hasn’t said whether Mr. Cyprus will be repaying the bonus. The answer should be apparent soon when Interpublic discloses more about his exit agreement in another regulatory filing.

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