EUR 850.00 For Business Accounts Only

Morningstar | Publicis Reports In-Line 1Q Revenue; Acquiring Epsilon for a Good Price; Increasing FVE to EUR 64

While Publicis’ first-quarter revenue update, which was in line with expectations, was not a newsmaker, the firm did announce its all-cash acquisition of Alliance Data Systems’ target-marketing services company, Epsilon, for $4.4 billion, or EUR 3.7 billion. It appears that the technological and consulting expertise that Publicis attained by purchasing Sapient in 2015 needs to be complemented by access to first-party data and additional technology, both of which the Epsilon deal brings forth. We think Publicis is now better positioned to offer its clients data analytics capabilities, which go well together with creativity. We expect the Epsilon deal to accelerate top-line growth and expand margins. We have adjusted our model accordingly and have increased our fair value estimate of Publicis to EUR 64 per share from EUR 60. While the stock was up over 1% in reaction to the acquisition announcement, it continues to trade at an attractive discount to our latest fair value estimate.

Epsilon is a technology-driven target-marketing company that conducts data analytics on first-party and its own data to help create more effective personalized or targeted campaigns across various channels. The firm generated $2.2 billion in revenue and $475 million in adjusted EBITDA (22% margin) in 2018. Both Publicis and Epsilon may benefit from this transaction as Publicis may sell additional services to U.S. clients, Epsilon may expand its reach beyond the U.S., and Publicis may gain access to more first-party data from current clients and may help those clients reach new customers.

Looking closer at the deal, we think Publicis will have attractive cross-selling opportunities in the U.S., as 97% of Epsilon’s revenue comes from there. We think Epsilon can help Publicis enhance its media services to U.S. clients as Epsilon’s data analytics capabilities allow clients to monitor and adjust campaigns across various channels in real time. WPP’s [m]Platform is attempting to do something similar. On the other hand, Publicis’ strong presence in Europe can widen Epsilon’s reach.

Plus, we believe Publicis’ advertising clients are likely to provide Publicis with access to more of their data (or first-party data) given that this deal arms Publicis with another intangible asset, technology. Unlike what Publicis’ Sapient (along with other consulting firms) has been pitching, in our view, the in-house approach of data management does not require complete “business transformation” efforts by clients. In these cases, we believe data analytics tools provided by Epsilon, some of which are SaaS-based, help clients avoid the lengthy and costly technology implementation and integration associated with “business transformation.”

Further, while Epsilon’s data analytics capabilities can help its clients extract further value from the first-party data to cross-sell other products and retain their current customers, Epsilon’s ownership of identity, behavioral, and transactional data, provide those clients a wider reach and can help them possibly acquire new customers. We think such combination can help launch more effective omnichannel campaigns.

In our view, Publicis attained the valuable data and technology at a good price, which is equivalent to trailing 12-month revenue and adjusted EBITDA multiples of 2.0 and 9.3, respectively. In comparison, IPG paid 3.5 times revenue and 11.5 adjusted EBITDA for Acxiom last year. While Epsilon revenue fell 4%, we expect a return to growth as Epsilon is well-positioned to bring in new clients. Plus, according to Epsilon’s management, loss of clients last year was due mainly to events such as mergers, acquisitions, and bankruptcies, which is not foreseen for this year. Acquisitions of Epsilon’s other peers have also been at higher multiples. For example, in 2017, Neustar was taken private at 2.4 times revenue. Neustar was growing at a 10% three-year CAGR, with average adjusted EBITDA margin of 46%, higher than the 22% that Epsilon reported in 2018. While Publicis is buying Epsilon at 9.3 times adjusted EBITDA, we estimate the Neustar deal was for only 5.4 times. Another ad holding firm, Dentsu, bought Merkle in 2016 for 3.4 times revenue.

According to Publicis, the acquisition of Epsilon likely will close in the third quarter this year. We have added our projection of Epsilon revenue for the fourth quarter of 2019 to our model. We now expect total revenue of EUR 9.5 billion for 2019, followed by 16% growth in 2020 brought forth mainly by this deal, which will result in revenue of EUR 11 billion. Our 10-year model for Publicis now assumes average total revenue growth of 4.4%, up from our prior 2.5% projection. We expect the higher-margin Epsilon business to widen Publicis’ operating margin to 17.3% by 2028, up from 15.3% in 2018 and higher than our previous assumption of 16.8%. While Publicis said it will halt its share buybacks, the firm will not change its dividend policy, which will remain at around a 45% payout ratio.