From: Brian Wieser <[email protected]>
Subject: PRIORITY: Agencies and Barter - Great Businesses, But Perception Problems
Remain
Date: May 18, 2015 at 2:25:18 PM EDT
Reply-To: <[email protected]>
BOTTOM LINE: One of the issues associated with the current advertising agency holding
company rebate “debate” (put in black-and-white terms, the notion that marketers believe
undisclosed-and-unauthorized forms of agency compensation are accruing to their US agencies,
while holding companies deny the presence of these activities) relates to barter, or corporate
asset trades. Barter is very much a part of the conversation because of the limited degree to
which marketers understand these practices in context of their agencies’ overall operations. We
think that barter operations produce significant value for marketers, and ultimately are valuable
businesses to the holding companies with scaled operations in this field including Omnicom
(OMC, Sell) and Interpublic (IPG, Hold). However, investors need to be aware of barter both for
the business model that it is in context of the rebate issue as well as in context of modern media
agency operations. The durability of non-transparent trading activity – even when that nontransparency is fully disclosed – is also important to note. Further, we think investors should
generally be aware of the ways in which barter activity may impact reported revenues and
margins for agency holding companies.
What is Barter, And How Big Is It For The Agencies?
In its idealized form, barter, or corporate trade allows a marketer to take an asset and trade that
asset for media “credits” from a barter agency. The marketer’s assets will typically have been
written-down, unlikely to generate full value for the marketer. The marketer then pairs its credits
along with cash to buy advertising inventory through the barter agency. In doing so, the marketer
uses less cash than it otherwise would have needed to accomplish its goals. Meanwhile, the
barter agency then trades the asset either to an intermediary who will liquidate that asset for cash
(or for an asset that a media owner wants) or trades a mix of the asset and cash directly to a
media owner for ad inventory. Conceptually, the media agency overseeing planning works
closely with the barter agency to ensure that inventory chosen is consistent with the marketer’s
preferences. At the same time, a barter agency may previously have committed to spending with
a given media owner before it has an asset to trade.
While clients who work with barter agencies will generally understand that they are buying into a
“black box” involving undisclosed margins, those clients who desire complete transparency from
their agencies along with a minimization of conflicting interests may have some concerns about
the presence of barter operations in the holding companies they work with. These concerns are
rooted in the perception that a barter agency’s sibling media agencies may directly or indirectly
use their negotiating clout to steer benefits (or even inventory) to the barter agency, making
barter more appealing from a pricing and inventory access perspective than it otherwise would
be.
The biggest entity which specializes in barter is privately held Active International. Active has
stated that it placed more than $1.7bn in media around the world last year, although the majority
of this activity is in the United States. The second biggest is Omnicom’s ICON International,
which claims to place more than $1bn annually, and operates solely within the United States.
This size compares with RECMA estimates of total US-based media billings of around $20bn for
Omnicom’s media agencies. Interpublic’s Orion Trading is likely the next largest, at around half
of ICON’s size on our estimation. As another useful point of reference for scale, according to a
2012 article in Ad Age, independent media agency Horizon’s affiliated barter division Eden Road
traded $200mm, equivalent to around 5% of the agency’s then-$4bn in total billings. Most other
holding companies either have much smaller barter operations or exclusively partner with
independents such as Active. All agency holding companies will have clients who will work with
Active, and in many instances marketers will work with the barter shop within one holding
company while maintaining a core media account with another. This may be because of
relationships, perceived quality of the offering or because the media credits a marketer received
in exchange for its asset trade outlived the relationship the marketer had with its core agency.
How Widespread Is Barter As A Source of Media Owner Revenue?
Meanwhile, from the media owner’s perspective, barter can be a double-edged sword. Any
vendor of any given good would always prefer cash to an asset. However, barter capitalizes on
the fact that most media owners have unsold inventory or are in need of incremental volume of
spending at different points in time. Liquidating inventory for a mix of cash and assets or for
discounted rates can be preferable to the alternative of not doing so, although not always: media
owners might fear that trading with barter may serve to encourage discounting, especially as they
will tend to believe that barter shops owned by holding companies will trade information with their
sibling agencies, improving a conventional media agency’s negotiating position. Further, we
believe media owners generally have to sell their inventory at a discount to barter shops, allowing
them to take a higher margin than would be the case when selling to a conventional media
agency. From the media owner’s perspective, this creates some risks to overall pricing integrity if
they become dependent upon barter as a revenue stream.
Corporate trade is reasonably widespread among media owners. While not all public companies
disclose how much activity they realize from barter, those who do convey that it accounts for 2%
or less of GAAP revenue (and a typically equivalent amount of expense). A list of media
companies we are aware of who provide explicit include Cumulus (CMLS, N/R), Emmis (EMMS,
N/R), Entercom (ETM, N/R), Gray (GTN, N/R), Lamar (LAMR, N/R), NCM (NCMI, N/R), News
Corp (NWS, N/R), NexStar (NXST, N/R), Radio One (ROIAK, N/R), Saga (SGA, N/R), Salem
(SALM, N/R), Spanish Broadcasting (SBSA, N/R), Time Inc. (TIME, N/R) and Townsquare (TSQ,
N/R). In addition to this list, Dex (DXM,N/R) has disclosed that it generates revenues from
barter.
See attached for our summary of the revenues these companies generate from barter in
context of their total revenues.
More notably, Crown Media (CRWN, N/R) (owner of The Hallmark Channel cable network)
indicated this past year that barter revenues doubled year-over-year and now accounts for more
than 1% of their revenue. We believe that national TV owners and digital media owners have
become increasingly important suppliers to the barter agencies. For example, a scan of ad sales
executives working with barter agencies on LinkedIn indicates sales relationships between (at
minimum) Comcast’s (CMCSA, Buy, covered by Pivotal Research’s Jeffrey Wlodarczak) NBC
Universal, Disney’s (DIS, N/R) ABC, Time Warner’s (TWX, N/R) Turner Networks, Viacom (VIAB,
Buy), Discovery (DISCA, Buy) and AMC Networks (AMCX, N/R), too. Although the figures on the
attached spreadsheet indicate a declining share of revenue is coming from barter, we think this is
more likely because more and more barter is going to more nationally-oriented media properties
rather than to the more locally-oriented ones who have historically disclosed data on barter. The
sheer breadth of the kinds of companies generating revenue from barter should convey how
widespread
barter
has
become.
Cumulus
Emmis
Entercom
Gray
Lamar
NCM
News Corp
NexStar
Radio One
Saga
Salem
Spanish
Broadcasting
Time Inc.
Townsquare
Barter
Revenue (in
mm)
2014
2013
$34.9 $31.1
8.7
9.2
3.8
3.8
2.2
1.4
7.8
7.9
1.3
1.9
47.0
48.0
31.2
31.5
3.2
2.6
3.8
3.9
6.0
5.6
8.7
20.0
13.1
10.4
28.0
9.3
Total Revenue (in
mm)
2014
2013
$1,263.0 $1,026.0
205.0
196.0
379.8
377.6
508.0
346.0
1,287.0 1,246.0
394.0
426.0
4,019.0 4,346.0
631.3
502.3
441.4
448.7
134.0
129.5
266.5
236.9
146.3
1,775.0
373.9
Barter as % of
Total Revenue
2014 2013
2.8%
3.0%
4.2%
4.7%
1.0%
1.0%
0.4%
0.4%
0.6%
0.6%
0.3%
0.4%
1.2%
1.1%
4.9%
6.3%
0.7%
0.6%
2.9%
3.0%
2.3%
2.4%
153.8
1,807.0
268.6
Median
5.9%
1.1%
3.5%
6.8%
1.5%
3.5%
1.7%
2.0%
Problems Lie In Perceptions, But Interest in Barter Will Still Grow, Meaning More Focus
Needed On Accounting Implications
There can be an interesting array of overlapping interests and non-cash-based activity when an
agency has a media owner as a client. For example, Omnicom’s ICON has a case study on its
website which says ICON has structured over thirty transactions for Discovery Communications,
ranging from issuing Trade Credit for inventory to funding agency fees.” ICON illustrates that it
traded $5mm of unsold product from Discovery’s retail operations for ad inventory Discovery used
to promote its networks’ programming. At competing cable network Lifetime, ICON exchanged
business travel it procured for ad inventory that Lifetime provided to ICON.
The presence of proprietary trading activity within the industry which is un-associated with barter
probably adds to the concerns that some marketers have in this area. While WPP’s (WPP.L,
Sell) Xaxis is certainly the best known example of an agency-based entity that buys ad inventory
and re-sells it to marketers, we think this business is increasingly understood as being a media
owner akin to Rocket Fuel (FUEL, N/R) or other ad networks. Omnicom’s more conventional
agency trading desk Accuen is also taking principal positions in its digital media buys as part of
an evolution of that unit’s business model. However, there are other entities inside of Omnicom
that are clearly buying and reselling ad inventory, such as OmNet, which launched in late 2013 in
the wake of the then-pending merger with Publicis (PUB.PA, N/R). Although the premise of
OmNet is that an advertiser can buy comparable inventory to what is on the rest of a media plan
– including national TV properties – for a lower price than would otherwise be possible, marketers
we have spoken to have concerns about the degree to which there is an appearance of
conflicting interests. We note that in the case of Xaxis and OmNet (and likely with other
proprietary trading-focused entities as well) the undisclosed nature of these trades is disclosed to
clients. The problem lies in the perception, at minimum. We think that the undisclosed nature of
trades may be disclosed, but not fully understood by all of a marketer’s decision-makers.
For investors, this perception problem is an important one. Unfortunately for the holding
companies, they are in a tough spot, as demonstrating that nothing inappropriate is happening
can be a near-impossible task. However, we think that interest in barter should continue to grow
much as it has in the past, not least as these activities produce significant financial value for
marketers, made more notable in a media world which is increasingly procurement-driven.
However, the more that agency activities become “black boxes” the more that marketers will
behave as if undisclosed activities are more pervasive than they probably are, and so expanded
disclosure – whether for clients alone or for clients as well as investors – may be part of the
solution that will eventually emerge. Conceivably, even marketers who have conveyed that they
are comfortable with the non-transparent nature of barter may begin to insist on more
transparency – and thus reduced margins – on underlying media inventory pricing unless the
barter businesses are more fully separated from their sibling media agencies.
More practically, as barter grows, it becomes increasingly important for investors to understand
the impact of related activities on reported financial results. Barter can be accounted for in many
different ways, with revenue that might be associated solely with a fee or which might be
associated with the value of the media traded, depending on how specific contracts have been
structured. Booking a significant amount of barter activity for the media trading underpinning it
will produce relatively low operating margins than would otherwise be the case; booking barter for
fees alone to the exclusion of media trading will be a higher margin activity. Thus, as barter
expands, it becomes another factor that limits the direct comparability of line items such as
organic revenue growth and operating income margins between the holding companies
(especially for Omnicom, which is already booking its proprietary trading activity as revenue on a
gross basis).