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April 16 (The following statement was released by the rating agency)
Fitch Ratings has affirmed UK-based WPP plc's (WPP) Long-term Issuer Default Rating (IDR) at 'BBB+' with a Stable Outlook. Fitch has also affirmed the senior unsecured ratings of the bonds issued by WPP Finance S.A., WPP Finance UK, WPP 2008 Ltd and WPP Finance 2010 at 'BBB+'.
WPP's ratings are supported by a leading industry position, strong portfolio of advertising, measurement, market research and brand management businesses, sound financial metrics and a well-communicated corporate strategy.
Following the Publicis Omnicon merger (which is expected to close some time in 2014) WPP will rank as the industry's second largest global advertising holding company (GHC), with WPP exhibiting strong company specific traits along with measured financial policies. Notwithstanding a recently announced increase in targeted share buybacks, Fitch expects that shareholder distributions and acquisitions will be managed within the company's stated leverage (average net debt to EBITDA) policy of 1.5x to 2x.
KEY RATING DRIVERS
Scale, Breadth and Diversity
As one of the industry's largest GHCs, WPP's ratings are supported by its scale, breadth of business and geographical diversity. The company has a balanced mix of creative (advertising and media investment) and so called non-creative (brand management, consultancy, market research and measurement) businesses. The company understands the need to invest (acquire) businesses in faster-growing markets and quickly evolving media platforms while at the same time being able to provide global advertising customers solutions across a complex mix of businesses and disciplines.
Growth of Digital
The company has built a strong position in digital media both through acquisition and organic investment - an important strategy for any GHC in light of the importance of, and growth expectations, for online advertising. In 2013 new media accounted for 35% of WPP's overall sales and the company has a medium-term target of 40%-45% revenues. The rapidly changing world of social media, the speed with which mobile advertising is increasing, the degree to which these platforms are driving audience fragmentation, contextual advertising and the potential to dis-intermediate traditional advertising formats all underline their strategic importance for GHCs.
Equally significant is an established presence and focus on emerging markets, in light of the maturity of western European (36% of 2013 sales) and North American (34%) markets. The company raised its target for revenue in its faster-growing markets in 2011 to 40%-45% of group sales from 30% in FY13. A growing middle class and increasing consumption trends in these markets underline the importance of WPP's ability to offer a complete set of solutions for multinational and domestically based clients alike by combining the scale economies of a global agency with requisite local knowledge. While the increased exposure to emerging markets gives rise to FX-related volatility and potentially more acute cyclical effects, Fitch acknowledges the stronger underlying margin and long term growth potential of these markets.
WPP's 4Q13 results were impacted by unfavourable FX movements. These movements affected the company's revenues, but also its margin as WPP's emerging markets operations earn a higher margin than operations in more developed countries. WPP funds itself in USD, GBP and euro-denominated debt. Unless they reverse, the adverse currency movements witnessed towards end-2013 will act as a headwind for the company in 2014. While Fitch's rating case assumes underlying growth of 3% or more in 2014, with a further 2% to 3% of growth provided by bolt-on acquisitions, we envisage these effects will be largely offset by negative FX - the impact of which will be felt most strongly through the first nine months of the year.
Slower Margin Improvements
WPP has lowered its expectations for margin improvement to 30 bps per annum from 50 bps. in 2014. Adverse FX movements have affected reported margins; guidance is, however, provided on a pre-FX basis, with the company indicating increased pressure from clients and competition slowing the improvement of its organic operating margin. Margin performance is nonetheless healthy and compares well with peers. Reduced expectations for further margin improvement do not currently impact WPP's rating.
Shareholder Distributions & M&A
Management has identified M&A, dividends and buybacks as its priority uses of free cash flow while managing its balance sheet within its target leverage. The company has increased its share buyback target for 2014 to 2%-3% of outstanding shares from 1%, and its target dividend pay-out ratio to 45% from 40%. The budget for new acquisitions remains at GBP300m-GBP400m in 2014, with the company, in Fitch's view, showing a disciplined approach to financial policy in recent years. The business generates healthy levels of free cash flow and Fitch's rating case assumes that distributions and M&A will be managed within its stated leverage (average net debt / EBITDA) range of 1.5x to 2x.
Negative: Future developments that could lead to negative rating actions include:
-Events leading to average net debt/EBITDA trending consistently and materially above 2x
-A weakened operating profile or a change in financial policy, more so than M&A or cyclically driven trends, which would put pressure on the ratings Positive: Future developments that could lead to positive rating actions include:
-Notwithstanding a strong industry position, diversification and a flexible cost base, the company's financial policy - balancing the need to invest in acquisitions, a progressive distribution policy and a measured leverage profile
- are likely to constrain ratings at the current level.