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Morningstar | WPP to Sell Kantar Stake to Bain Capital; Maintaining GBX 1,450 FVE; Shares Undervalued

WPP, which is on our Best Idea list, announced the sale of a stake in Kantar to Bain Capital Private Equity which represented a total enterprise value of Kantar at GBP 3.2 billion. While this is below the GBP 4 billion Kantar valuation we had estimated, our GBX 1,450 fair value estimate for WPP will not be impacted. Although the WPP share price has increased more than 14% year to date, we continue to view this narrow moat name as attractive. WPP and Bain have agreed that WPP will retain a 40% stake in Kantar and will continue to have access to Kantar data utilized to design and launch higher ROI ad campaigns for clients. The transaction not only allows WPP to deleverage, but also to have a bit more flexibility to focus on further integration of technology and creativity, which we think remains the main differentiator in the advertising space. With a healthier balance sheet, WPP shareholders will benefit from the further assurance of no dividend cuts during the firm’s current restructuring and turnaround phase. WPP also plans to use some of the cash received to reward shareholders via share buybacks and/or special dividend. This transaction is likely to close in early 2020.

This deal basically creates a joint venture of which Bain Capital will control 60% and WPP will control the rest. The transaction implies a total equity value of GBP 3 billion for Kantar. The two parties also agreed that WPP will invest GBP 320 million for its 40% ownership of Kantar. After taking into account that investment, along with tax and transaction costs, WPP will receive GBP 2.5 billion in cash from Bain. The ad holding firm is planning to use approximately 60% of that cash or GBP 1.5 billion to further reduce debt on its balance sheet. The firm is confident that it can hit the low end of the 1.5-1.75 net debt/adjusted EBITDA range by the end of next year, one year earlier than it had previously expected. The remaining GBP 1 billion will be rewarded to the shareholders over time.

The GBP 3.2 billion enterprise value of Kantar represents a 2018 EV/Adjusted EBITDA of 8.2. After adjusting our model to exclude Kantar beginning in second quarter 2020, our GBX 1,450 fair value estimate of WPP represents 9.5 times the firm’s 2021 adjusted EBITDA, which we view as fair given that the firm is expected to have completed its three-year restructuring in 2021. In addition, we slightly increased our margin expansion assumption for WPP after 2021, as we think over the long term, there will be fewer investments required by the firm to manage Kantar data. In addition, Kantar revenue has historically generated slightly lower margins. In terms of sales, Kantar’s valuation represents 1.2 times 2018 revenue. Our valuation of WPP is 1.4 times the firm’s 2021 total revenue. Kantar revenue accounted for 16% of WPP revenue in 2018.

In our view, besides deleveraging, another benefit associated with this deal for WPP includes additional flexibility to focus on utilization of data to speed up the production of digital and creative campaigns, which most ad agency clients are demanding. Further, the company and its shareholders could benefit from any improvement that Bain Capital’s investments in Kantar’s operations may bring.

In terms of how this agreement may impact WPP’s ownership and/or access to data, in our view, the impact is minimal. First, WPP will continue to have access to Kantar data as it did before. Costs associated with attaining the data will not change. Second, after the completion of this transaction, the firm will still have ownership of data generated and gathered by its GroupM and Wunderman Thompson. Third, WPP will continue to utilize data provided by many other parties, including Google and Facebook, similar to what it has done in the past. And fourth, the firm will continue to tap into its clients’ data (or first-party data). We must also note that WPP does provide third-party data management services to its clients. According to management, the firm is in the process of migrating all of that to the cloud.