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WPP's green shoots look good for value hunters

The current price to sales valuation completely discounts any future growth
October 18, 2018

Recent market stutters are likely to have caused consternation for stockpickers who had been enjoying the dominance of growth stocks during the longest ever recorded bull run. But, as this magazine’s editor commented last week, if momentum investing has indeed run its course, it could be time for the long-awaited return of fundamentals-driven value investing. Of course, many of the UK’s lowly valued companies are cheap for a reason, but in other cases there is genuine value. We think WPP (WPP) may be a case in point.

IC TIP: Buy at 1050p
Tip style
Speculative
Risk rating
Medium
Timescale
Medium Term
Bull points

Return to like-for-like revenue growth

Strong balance sheet and well-covered dividend

New management and strategy

Good value

Bear points

Margin erosion

History of underperforming

Admittedly, the marketing behemoth has struggled (alongside many of its global peers) with the changing dynamics of digital advertising. In 2017, like-for-like revenues were down 5.4 per cent, while annual operating profit margins are expected to hit 16.9 per cent in the year to December 2018, from 17.3 per cent two years ago. Broker JPMorgan forecasts that as the company battles to win business, margins will bottom out at 16.3 per cent in 2019 before the company begins to rebuild profitability. But a price-to-sales ratio of 0.9 times suggests WPP is seen as in a state of structural decline, which seems unfair – last time the price-to-sales valuation dropped so low was 2009, in the wake of the global financial crisis.  

For a start, the outlook for global advertising spend is not nearly as bad as it was in 2009. Traditional print and TV marketing has taken a beating, but this has been counterbalanced by a big uptick in digital. Overall, global marketing spend is expected to hit $558bn (£422bn) in 2018, from $535bn last year. Under former boss Martin Sorrell, WPP had already attempted to capitalise on that trend by building up its digital assets, while recent acquisitions include the Amazon-focused content campaign agency 2sales and US e-commerce specialist Gorilla Group.

A full strategic overhaul from new chief executive Mark Read is expected at the end of the year, which could help simplify the business, which has been built through a plethora of acquisitions, and squeeze value from the assets by improving customer satisfaction, lowering churn and increasing cross-selling opportunities. Meanwhile, recent disposals should help strengthen the balance sheet – the net debt to adjusted cash profits ratio is expected to have fallen to the lower end of the 1.5 to 2.0 times target by the end of 2018, according to JPMorgan. This offers reassurance in regard to the near-6 per cent forecast dividend yield.

Moreover, WPP has revealed the beginning of a recovery. In the second quarter of 2018, like-for-like revenues ticked up for the first time since the first quarter of 2017 after the group won several big new contracts, including Adidas, Hilton and T-Mobile. Those positive trends are expected to continue for the remainder of the year, with a particularly noticeable revival in the UK and Europe, which contributed 35 per cent of net revenues in the first half.

WPP (WPP)    
ORD PRICE:1,051pMARKET VALUE:£13.3bn
TOUCH:1,050-1,051p12-MONTH HIGH:1,474p1,034p
FORWARD DIVIDEND YIELD:5.8%FORWARD PE RATIO:9
NET ASSET VALUE:759p*NET DEBT:46%
Year to 31 DecTurnover (£bn)Pre-tax profit (£bn)**Earnings per share (p)**Dividend per share (p)
201510.51.629445
201612.41.9911357
201713.12.0912060
2018**13.32.0211759
2019**13.52.0612261
% change+2+2+4+4
Normal market size:1,000   
Beta:0.96   
*Includes intangible assets of £14.9bn, or 1,180p a share
**Broker JPMorgan forecasts, adjusted PTP and EPS figures