================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended: December 31, 2004
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
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Commission File Number: 1-10551
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OMNICOM GROUP INC.
(Exact name of registrant as specified in its charter)
New York 13-1514814
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
437 Madison Avenue, New York, NY 10022
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (212) 415-3600
Securities Registered Pursuant to Section 12(b) of the Act:
Name of each Exchange
Title of each class on which Registered
---------------------------- -----------------------
Common Stock, $.15 Par Value New York Stock Exchange
Securities Registered Pursuant to Section 12(g) of the Act: None
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Indicate by check mark if the registrant has (1) filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months and (2) been subject to such filing
requirements for the past 90 days. Yes |X| No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulations S-K is not contained herein and will not be contained in the
definitive proxy or information statements incorporated by reference in Part III
of this form 10-K or any amendment to this Form 10-K. Yes [_] No |X|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2): Yes |X| No [_]
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At February 28, 2005, 184,776,556 shares of Omnicom Common Stock, $.15 par
value, were outstanding; the aggregate market value of the voting stock held by
nonaffiliates as of the last business day of the registrant's most recently
completed second fiscal quarter was $13,707,144,000.
Certain portions of Omnicom's definitive proxy statement relating to its
annual meeting of shareholders scheduled to be held on May 24, 2005 are
incorporated by reference into Part III of this report.
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OMNICOM GROUP INC.
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ANNUAL REPORT ON FORM 10-K FOR
THE YEAR ENDED DECEMBER 31, 2004
TABLE OF CONTENTS
Page
----
PART I
Item 1. Business......................................................... 1
Item 2. Properties....................................................... 3
Item 3. Legal Proceedings................................................ 3
Item 4. Submission of Matters to a Vote of Security Holders.............. 4
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities.......... 5
Item 6. Selected Financial Data.......................................... 5
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................. 8
Item 7A. Critical Accounting Policies and New Accounting Pronouncements... 16
Item 8. Financial Statements and Supplementary Data...................... 24
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure................................... 24
Item 9A. Controls and Procedures.......................................... 24
Item 9B. Other Information................................................ 24
PART III
Item 10. Directors and Executive Officers of the Registrant............... 25
Item 11. Executive Compensation........................................... *
Item 12. Security Ownership of Certain Beneficial Owners and Management... *
Item 13. Certain Relationships and Related Transactions................... *
Item 14. Principal Accounting Fees and Services........................... *
PART IV
Item 15. Exhibits, Financial Statement Schedules and
Reports on Form 8-K........................................ 26
Index to Financial Statements.................................... 26
Index to Financial Statements Schedules.......................... 26
Exhibit Index.................................................... 26
Signatures................................................................ 29
Management Report on Internal Controls Over Financial Reporting........... F-1
Report of Independent Registered Public Accounting Firm................... F-2
Report of Independent Registered Public Accounting Firm................... F-3
Consolidated Financial Statements......................................... F-4
Notes to Consolidated Financial Statements................................ F-8
- ----------
* The information called for by Items 10, 11, 12, 13 and 14 to the extent
not included in this document, is incorporated herein by reference to the
information to be included under the captions "Election of Directors",
"Stock Ownership", "Director Compensation" and "Executive Compensation" in
Omnicom's definitive proxy statement, which is expected to be filed by
April 22, 2005.
PART I
Introduction
This report is both our 2004 annual report to shareholders and our 2004
annual report on Form 10-K required under federal securities laws.
We are a strategic holding company. We provide professional services to
clients through multiple agencies operating in all major markets around the
world. Our companies provide advertising, marketing and corporate communications
services. For simplicity, however, the terms "Omnicom", "we", "our" and "us"
each refer to Omnicom Group Inc. and our subsidiaries unless the context
indicates otherwise.
Statements of our beliefs or expectations regarding future events are
"forward-looking statements" within the meaning of the federal securities laws.
These statements are subject to various risks and uncertainties, including as a
result of the specific factors identified under the captions "Risks and
Competitive Conditions" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" on pages 2 and 8 and elsewhere in this
report. There can be no assurance that these beliefs or expectations will not
change or be affected by actual future events.
1. Business
Our Business: As a strategic holding company, we are one of the largest
advertising, marketing and corporate communications companies in the world.
Omnicom was formed as a corporation in 1986 by the merger of several leading
advertising, marketing and corporate communications networks. Around that time
and through the 1990s, the proliferation of media channels, especially print and
cable television, effectively fragmented mass audiences. This development made
it increasingly more difficult for marketers to reach their target audiences in
a cost-effective way, and they turned to marketing service providers such as
Omnicom for a customized mix of advertising and marketing communications
services that would make best use of their total marketing expenditures.
Our agencies provide an extensive range of services which we group into
four fundamental disciplines: traditional media advertising; customer
relationship management ("CRM"); public relations and specialty communications.
The services included in these categories are:
advertising
brand consultancy
crisis communications
custom publishing
database management
digital and interactive marketing
direct marketing
directory advertising
entertainment marketing
environmental design
experiential marketing
field marketing
financial / corporate business-to-business advertising
graphic arts
healthcare communications
instore design
investor relations
marketing research
media planning and buying
multi-cultural marketing
non-profit marketing
organizational communications
package design
product placement
promotional marketing
public affairs
public relations
real estate advertising and marketing
recruitment communications
reputation consulting
retail marketing
sports and event marketing
Although the medium used to reach a given client's target audience may be
different across each of these disciplines, the marketing message is developed
in the same way -- and it is delivered in the same way -- through the provision
of consultative services.
Omnicom's business model was built and evolves around its clients. While
our companies operate under different names and frame their ideas in different
disciplines, we organize our services around our clients. The fundamental
premise of our business is that the specific requirements of our clients should
be the central focus in how we structure our business offering and allocate our
resources. As clients increase their demands for marketing effectiveness and
efficiency, they tend to consolidate their business with larger,
multi-disciplinary
1
agencies. Accordingly, our business model demands that multiple agencies within
Omnicom collaborate in formal and virtual networks that cut across internal
organizational structures to execute against our clients' specific marketing
requirements. We believe that this organizational philosophy, and our ability to
execute on it, is what differentiates us from our competition.
Our agency networks and our virtual networks, provide us with the ability
to integrate services across all disciplines. This means that the delivery of
these services can and does take place across agencies, networks and geographies
simultaneously.
Longer term, we believe that our virtual network strategy facilitates
better integration of services required by the demands of the marketplace for
advertising and marketing communications services. Our over-arching strategy for
the business is to continue to use our virtual networks to grow our business
relationships with our clients.
The various components of our business and material factors that affected
us in 2004 are discussed under the caption "Management's Discussion and Analysis
of Financial Conditions and Results of Operations" of this report. None of our
acquisitions in 2004, 2003 or 2002 were material to our consolidated financial
position or results of operations. For information concerning our acquisitions,
see note 2 to our consolidated financial statements.
Geographic Regions: Our total consolidated revenue is about evenly divided
between U.S. and non-U.S. operations. For financial information concerning
domestic and foreign operations and segment reporting, see note 5 to our
consolidated financial statements.
Our Clients: Consistent with the fundamentals of our business strategy,
our agencies serve similar clients, in similar industries, and in many cases the
same clients, across a variety of geographies. Furthermore, in many cases our
agencies or networks serve different product groups within the same clients
served by other of Omnicom's agencies or networks. For example, our largest
client was served by more than 90 of our agencies in 2004 and represented 4.3%
of our 2004 consolidated revenue. No other client accounted for more than 2.8%
of our consolidated 2004 revenue. Each of our top 100 clients were served, on
average, by 23 of our agencies in 2004. Our top 100 clients represented 45.1% of
our 2004 consolidated revenue.
Our Employees: We employed approximately 61,000 people at December 31,
2004. We are not party to any significant collective bargaining agreements. The
skill-sets of our workforce across our agencies and within each discipline are
similar. Common to all is the ability to understand a client's brand, its
selling proposition and the ability to develop a unique message to communicate
the value of the brand to the client's target audience. Recognizing the
importance of this core competency, we have established training and education
programs for our service professionals around this competency. See our
management discussion and analysis beginning on page 8 of this report for a
discussion of the effect of salary and related costs on our historical results
of operations.
Risks and Competitive Conditions: We face the risks normally associated
with global services businesses. The operational and financial performance of
our businesses are typically tied to overall economic and regional market
conditions, competition for client assignments and talented staff, new business
wins and losses and the risks associated with extensive international
operations. We do not believe that our international operations as a whole
present any material foreign exchange risk to our overall business because they
invoice clients and pay expenses in their local currency. However, there are
some risks of doing business abroad, including those of currency fluctuations,
political instability and exchange controls, which do not affect
domestic-focused firms. For financial information on our operations by
geographic area, see note 5 to our consolidated financial statements.
The particular businesses in which we participate are highly competitive.
Typically, the financial and technological barriers to entry are low. Key
competitive considerations for keeping existing business and winning new
business include our ability to develop creative solutions that meet client
needs, the quality and effectiveness of the services we offer, and our ability
to efficiently serve clients, particularly large international clients, on a
broad geographic basis. While many of our client relationships are
long-standing, companies put their advertising, marketing and corporate
communications services business up for competitive review from time to time. To
the extent that we are not able to remain competitive or to keep key clients,
our business and financial results would be adversely affected.
2
Our ability to retain existing clients and to attract new clients may, in
some cases, be limited by clients' policies on, or perceptions of, conflicts of
interest arising out of other client relationships. We maintain multiple
agencies to effectively manage multiple client relationships and avoid potential
conflicts of interests. In addition, an important aspect of our competitiveness
is our ability to retain key personnel. Our continuing ability to attract and
retain these employees may have a material effect on our business and financial
results.
Our revenue is dependent upon the advertising, marketing and corporate
communications requirements of our clients and tends to be lowest in the first
and third quarters of the calendar year as a result of the post-holiday slowdown
in client activity at the beginning of January and a slowdown in client activity
in August primarily as a result of the vacation season. See our management
discussion and analysis in Part II of this report for a discussion of the effect
of market conditions and other factors on our historical results of operations.
Directly or indirectly, government agencies and consumer groups have from
time to time affected or attempted to affect the scope, content and manner of
presentation of advertising, marketing and corporate communications services,
whether through regulations or other governmental action. However, these
attempts have not materially affected our agency networks nor do we expect such
actions to do so in the future.
2. Properties
We maintain office space in many major cities around the world. The office
space requirements of our agencies are similar across geographies and
disciplines and is in suitable and well-maintained condition for our current
operations. This space is primarily used for office and administrative purposes
by our employees in performing professional services. Our principal corporate
offices are at 437 Madison Avenue, New York, New York and One East Weaver
Street, Greenwich, Connecticut. We also maintain executive offices in London,
England.
Our office space is utilized for performing professional services.
Substantially all of our office space is leased from third parties with varying
expiration dates ranging from one to 19 years. Certain of our leases are subject
to rent reviews or contain various escalation clauses and certain of our leases
require our payment of various operating expenses, which may also be subject to
escalation. Leases are denominated in the local currency of the operating
entity. Our consolidated rent expense was $345.3 million in 2004, $335.5 million
in 2003 and $311.3 million in 2002, after reduction for rents received from
subleases of $26.3 million, $17.3 million and $15.5 million, respectively. Our
obligations for future minimum base rents under terms of non-cancelable real
estate leases and other operating leases, which include primarily office
furniture and computer and technology equipment, reduced by rents receivable
from non-cancelable subleases are (in millions):
Net Rent
--------
2005 ................................................... $401.2
2006 ................................................... 335.1
2007 ................................................... 282.1
2008 ................................................... 231.1
2009 ................................................... 206.3
Thereafter.............................................. 884.2
See note 10 to our consolidated financial statements of this report for a
discussion of our lease commitments and our management discussion and analysis
in Part II of this report for the impact of leases on our operating expenses.
3. Legal Proceedings
Beginning on June 13, 2002, several proposed class actions were filed
against us and certain senior executives in the United States District Court for
the Southern District of New York. The actions have since been consolidated
under the caption In re Omnicom Group Inc. Securities Litigation, No. 02-CV4483
(RCC), on behalf of a proposed class of purchasers of our common stock between
February 20, 2001 and June 11, 2002. The consolidated complaint alleges among
other things that our public filings and other public statements during that
period contained false and misleading statements or omitted to state material
information relating to (1) our calculation of the organic growth component of
period-to-period revenue growth, (2) our valuation of certain internet
investments made by our Communicade Group, which we contributed to Seneca
Investments LLC in
3
2001, and (3) the existence and amount of certain contingent future obligations
in respect of acquisitions. The complaint seeks an unspecified amount of
compensatory damages plus costs and attorneys' fees. Defendants have moved to
dismiss the complaint. The court has not yet decided the motion. In addition to
the proceedings described above, a shareholder derivative action was filed on
June 28, 2002 in New York State Court in New York City, by a plaintiff
shareholder, purportedly on the company's behalf. The complaint alleges, among
other things, breaches of fiduciary duty, disclosure failures, abuse of control
and gross mismanagement in connection with the formation of Seneca Investments
LLC by certain of our current and former directors. This case is stayed, pending
a ruling on the motion to dismiss the proposed class action. On February 18,
2005, another shareholder filed an action asserting similar claims. No response
is yet required.
The defendants in these cases expect to defend themselves vigorously.
Currently, we are unable to determine the outcome of these cases and the effect
on our financial position or results of operations. The outcome of any of these
matters is inherently uncertain and may be affected by future events.
Accordingly, we cannot assure investors as to the ultimate effect of these
matters on our financial position or results of operations.
We are also involved from time to time in various routine legal
proceedings in the ordinary course of business. We do not presently expect that
these proceedings will have a material adverse effect on our consolidated
financial position or results of operations.
For additional information concerning our legal proceedings, including the
class action and derivative action described above, see note 14 to our
consolidated financial statements, which is incorporated into this section by
reference.
4. Submission of Matters to a Vote of Security Holders
Our annual shareholders meeting has historically been held in the second
quarter of the year. No matters were submitted to a vote of our shareholders
during the last quarter of 2004.
4
PART II
5. Market for Registrant's Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities
Our common shares are listed on the New York Stock Exchange under the
symbol "OMC". On February 28, 2005, we had 3,784 holders of record of our common
shares. The table below shows the range of quarterly high and low sales prices
reported on the New York Stock Exchange Composite Tape for our common shares and
the dividends paid per share for these periods.
Dividends Paid
Period High Low Per Share
------ ---- --- --------------
Q1 2003.................. $68.25 $46.50 $0.200
Q2 2003.................. 76.43 53.15 0.200
Q3 2003.................. 81.18 69.61 0.200
Q4 2003.................. 87.60 71.80 0.200
Q1 2004.................. $88.82 $74.65 $0.200
Q2 2004.................. 83.48 75.05 0.225
Q3 2004.................. 76.15 66.43 0.225
Q4 2004.................. 84.95 70.97 0.225
The following table presents information with respect to purchases of
common stock made during the three months ended December 31, 2004, by us or any
of our "affiliated purchasers."
(c) (d)
Total Number Maximum Number of
(a) (b) of Shares Purchased Shares that May
Total Average As Part of Publicly Yet Be Purchased Under
Number of Price Paid Announced Plans Publicly Announced
During the month: Shares Purchased Per Share or Programs Plans or Programs
- ----------------- ---------------- ---------- ---------------------- ----------------------
October 2004 ............... -- $ -- -- --
November 2004 .............. 6,130 82.75 -- --
December 2004 .............. 26,382 84.62 -- --
------ ------ ---- ----
Total ...................... 32,512 $84.26 -- --
====== ====== ==== ====
6. Selected Financial Data
The following selected financial data should be read in conjunction with
our consolidated financial statements and related notes which begin on page F-1,
as well as our management's discussion and analysis which appears in Part II of
this report.
In accordance with SFAS No. 123, "Accounting for Stock-Based Compensation"
("SFAS No. 123"), as amended by SFAS No. 148, "Accounting for Stock-Based
Compensation -- Transition and Disclosure, an amendment of FASB Statement No.
123", we elected, effective January 1, 2004, to account for stock-based employee
compensation using the fair value method. As a result, the fair value of
stock-based employee compensation, including unvested employee stock options
issued and outstanding, was recorded as an expense in the current period
utilizing the retroactive restatement method as set forth in SFAS 148.
Accordingly, our results for the prior periods have been restated as if we had
used the fair value method to account for stock-based employee compensation.
5
(Dollars in Millions Except Per Share Amounts)
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For the years ended December 31, 2004 2003 2002 2001 2000
---------- ---------- ---------- ---------- ----------
Revenue .................................. $ 9,747.2 $ 8,621.4 $ 7,536.3 $ 6,889.4 $ 6,154.2
Operating Profit ......................... 1,215.4 1,091.9 985.1 889.1 839.5
Income After Income Taxes ................ 782.5 696.1 625.0 495.9 519.4
Net Income ............................... 723.5 631.0 570.5 455.7 475.7
Net Income per common share:
Basic ................................. 3.90 3.37 3.07 2.49 2.72
Diluted ............................... 3.88 3.37 3.07 2.48 2.61
Dividends declared per
common share .......................... 0.900 0.800 0.800 0.775 0.700
(Dollars in Millions Except Per Share Amounts)
----------------------------------------------------------------------------------
As of the year ended December 31: 2004 2003 2002 2001 2000
---------- ---------- ---------- ---------- ----------
Cash, cash equivalents and
short-term investments ................ $ 1,739.6 $ 1,548.9 $ 695.9 $ 517.0 $ 576.5
Total assets ............................. 16,002.4 14,620.0 12,056.5 10,686.8 9,899.2
Long-term obligations
Long-term debt ........................ 19.1 197.3 197.9 490.1 1,015.4
Convertible notes ..................... 2,339.3 2,339.3 1,747.0 850.0 230.0
Deferred compensation and
other liabilities .................. 309.1 326.5 293.6 297.0 296.9
As discussed in footnote 1 of the notes to our consolidated financial
statements, as required by statements of Financial Accounting Standards 142 --
"Goodwill and Other Intangibles" ("SFAS 142"), beginning with our 2002 results,
goodwill and other intangible assets that have indefinite lives are not
amortized due to a change in generally accepted accounting principles ("GAAP").
To make our results for the periods prior to 2002 more directly comparable in
the table that follows, we adjusted our historical results for periods prior to
2002 to eliminate goodwill amortization for all periods, as well as a
non-recurring gain on the sale of Razorfish shares in 2000, and the related tax
impacts. As a result of these exclusions, this presentation is a non-GAAP
financial measure. We believe that by excluding the items noted above, the table
below presents selected financial data using amounts that are more comparable
year-to-year and thus more meaningful for purposes of this analysis. In
addition, as a reminder, "Net Income, as reported, GAAP" includes the effect of
our adoption of SFAS No. 123 for all prior periods presented below.
(Dollars in Millions Except Per Share Amounts)
---------------------------------------------------------------------------------
2004 2003 2002 2001 2000
---------- ---------- ---------- ---------- ----------
Net Income, as adjusted:
Net Income, as reported, GAAP ......... $ 723.5 $ 631.0 $ 570.5 $ 455.7 $ 475.7
Add-back goodwill amortization,
net of income taxes ................ -- -- -- 83.1 76.5
Less: gain on sale of Razorfish
shares, net of income taxes ........ -- -- -- -- (63.8)
---------- ---------- ---------- ---------- ----------
Net Income, excluding goodwill
amortization and Razorfish gain .... $ 723.5 $ 631.0 $ 570.5 $ 538.8 $ 488.4
========== ========== ========== ========== ==========
Basic Net Income per share:
as reported, GAAP .................. $ 3.90 $ 3.37 $ 3.07 $ 2.49 $ 2.72
as adjusted ........................ $ 3.90 $ 3.37 $ 3.07 $ 2.95 $ 2.79
Diluted Net Income per share:
as reported, GAAP .................. $ 3.88 $ 3.37 $ 3.07 $ 2.48 $ 2.61
as adjusted ........................ $ 3.88 $ 3.37 $ 3.07 $ 2.92 $ 2.68
6
The following is a reconciliation of the "as reported" to "as adjusted"
Net Income per share on a basic and diluted basis.
2004 2003 2002 2001 2000
---------- ---------- ---------- ---------- ----------
Basic Net Income per share, as adjusted:
Net Income per common share:
Basic, as reported, GAAP ........... $ 3.90 $ 3.37 $ 3.07 $ 2.49 $ 2.72
Add-back goodwill amortization
per common share,
net of income taxes ................ -- -- -- 0.46 0.44
Less: gain on sale of Razorfish
shares, per common share,
net of income taxes ................ -- -- -- -- (0.37)
---------- ---------- ---------- ---------- ----------
Net Income per common share,
excluding goodwill amortization
and Razorfish gain:
Basic ............................ $ 3.90 $ 3.37 $ 3.07 $ 2.95 $ 2.79
========== ========== ========== ========== ==========
Diluted Net Income per share, as adjusted:
Net Income per common share:
Diluted, as reported, GAAP ......... $ 3.88 $ 3.37 $ 3.07 $ 2.48 $ 2.61
Add-back goodwill amortization
per common share,
net of income taxes ................ -- -- -- 0.44 0.41
Less: gain on sale of Razorfish
shares, per common share,
net of income taxes ................ -- -- -- -- (0.34)
---------- ---------- ---------- ---------- ----------
Net Income per common share,
excluding goodwill amortization
and Razorfish gain:
Diluted .......................... $ 3.88 $ 3.37 $ 3.07 $ 2.92 $ 2.68
========== ========== ========== ========== ==========
7
7. Management's Discussion and Analysis of Financial Condition and Results of
Operations
Executive Summary
We are a strategic holding company. We provide professional services to
clients through multiple agencies around the world. On a global, pan-regional
and local basis, our agencies provide these services in the following
disciplines: traditional media advertising, customer relationship management,
public relations and specialty communications. Our business model was built and
evolves around clients. While our companies operate under different names and
frame their ideas in different disciplines, we organize our services around
clients. The fundamental premise of our business is that clients' specific
requirements should be the central focus in how we structure our business
offering and allocate our resources. This client-centric business model results
in multiple agencies collaborating in formal and informal virtual networks that
cut across internal organizational structures to deliver consistent brand
messages for a specific client and execute against our clients' specific
marketing requirements. We continually seek to grow our business with our
existing clients by maintaining our client-centered approach, as well as
expanding our existing business relationships into new markets and new clients.
In addition, we pursue selective acquisitions of complementary companies with
strong, entrepreneurial management teams that typically either currently serve
or have the ability to serve our existing client base.
Several long-term trends continue to positively affect our business,
including our clients increasingly expanding the focus of their brand strategies
from national markets to pan-regional and global markets. Additionally, in an
effort to gain greater efficiency and effectiveness from their marketing
dollars, clients are increasingly requiring greater coordination of their
traditional advertising and marketing activities and concentrating these
activities with a smaller number of service providers.
Globally, during the past few years, the overall industry has continued to
be affected by geopolitical unrest, lagging economic conditions, lack of
consumer confidence and cautious client spending. All of these factors
contributed to a difficult business environment and industry-wide margin
contraction. During this period we have continued to invest in our businesses
and our personnel, and have taken action to reduce costs at some of our agencies
to deal with the changing economic circumstances.
Although the business environment has been difficult, as a result of the
diversity and balance of our portfolio of companies and service offerings, we
continued to grow our revenues, operating income, net income and earnings per
share. In the United States, revenue growth accelerated to 10.6% in 2004 and on
a constant currency basis, revenue growth for our international business
increased to 6.0%, an improvement over the prior year's revenue growth of 10.2%
and 5.7%, respectively. The slower international growth has been evidenced
mainly in Continental European countries.
As a result of increased incentive compensation costs, increased
professional fees and increased amortization of other intangible assets, our
operating margins were lower in 2004 and in 2003. However, as a result of our
revenue initiatives and cost reduction actions, we have achieved an improvement
in our operating margins in the fourth quarter of 2004, relative to the same
period in the prior year. Our operating margin for the fourth quarter of 2004
was 14.2% versus 14.1% for the fourth quarter of 2003. We are hopeful that
margins will continue to stabilize as a result of our new business initiatives
associated with the positive long-term industry trends described above, combined
with continuing improvements in the U.S. and international economy and the
cost-reduction actions taken in prior periods by our agencies.
Given our size and breadth, we manage the business by monitoring several
financial and non-financial performance indicators. The key indicators that we
review focus on the areas of revenues and operating expenses.
Revenue growth is analyzed by reviewing the components and mix of the
growth, including: growth by major geographic location; growth by major
marketing discipline; growth from currency changes; growth from acquisition and
growth from our largest clients.
In recent years, our revenue has been divided almost evenly between
domestic and international operations. In 2004, our overall revenue growth was
13.1%, of which 4.5% was related to changes in foreign exchange rates and 1.9%
was related to acquired entities. The remainder, 6.7%, was organic growth.
In 2004, traditional media advertising represented about 43% of the total
revenue and grew by 11.4% over the prior year. Customer relationship management
represented about 34% of the total revenue and grew by
8
14.0% over the previous year. Public relations represented about 11% of the
total revenue and grew by 12.0% over the previous year and specialty
communications represented about 12% of total revenue and grew by 17.6% over the
previous year.
We measure operating expenses in two distinct cost categories, salary and
service costs, and office and general expenses. Salary and service costs are
primarily comprised of employee compensation related costs and office and
general expenses are primarily comprised of rent and occupancy costs, technology
related costs and depreciation and amortization. Each of our agencies require
service professionals with a skill set that is common across our disciplines. At
the core is their ability to understand a client's brand and its selling
proposition, and their ability to develop a unique message to communicate the
value of the brand to the client's target audience. The office space
requirements of our agencies are similar across geographies and disciplines, and
their technology requirements are generally limited to personal computers,
servers and off-the-shelf software.
Because we are a service business, we monitor these costs on a percentage
of revenue basis. Salary and service costs tend to fluctuate in conjunction with
changes in revenues, whereas office and general expenses, which are not directly
related to servicing clients, tend to decrease as a percentage of revenue as
revenues increase because a significant portion of these expenses are relatively
fixed in nature. During 2004, salary and service costs increased to 70.2% of
revenue from 68.6% of revenue in 2003 due in part to our efforts to restore
incentive compensation, while office and general expenses declined to 17.3% of
revenue from 18.8% in 2003 as a result of our continuing efforts to better align
these costs with business levels on a location-by-location basis.
Our net income for 2004 increased by 14.7% to $723.5 million from $631.0
million in 2003 and our diluted EPS increased by 15.1% to $3.88 from $3.37.
In accordance with SFAS No. 123, "Accounting for Stock-Based Compensation"
("SFAS No. 123"), as amended by SFAS No. 148, "Accounting for Stock-Based
Compensation -- Transition and Disclosure, an amendment of FASB Statement No.
123", we elected, effective January 1, 2004, to account for stock-based employee
compensation using the fair value method. As a result, the fair value of
stock-based employee compensation, including unvested employee stock options
issued and outstanding, was recorded as an expense in the current period
utilizing the retroactive restatement method as set forth in SFAS 148.
Accordingly, our results for all prior periods presented have been restated as
if we had used the fair value method to account for stock-based employee
compensation.
Financial Results from Operations -- 2004 Compared with 2003
(Dollars in millions,
except per share amounts)
Twelve Months Ended December 31, 2004 2003
--------- ---------
Revenue ...................................... $ 9,747.2 $ 8,621.4
Operating expenses:
Salary and service costs .................. 6,846.8 5,911.8
Office and general expenses ............... 1,685.0 1,617.7
--------- ---------
8,531.8 7,529.5
--------- ---------
Operating profit ............................. 1,215.4 1,091.9
Net interest expense:
Interest expense .......................... 51.1 57.9
Interest income ........................... (14.5) (15.1)
--------- ---------
36.6 42.8
--------- ---------
Income before income taxes ................... 1,178.8 1,049.1
Income taxes ................................. 396.3 353.0
--------- ---------
Income after income taxes .................... 782.5 696.1
Equity in earnings of affiliates ............. 17.1 15.1
Minority interests ........................... (76.1) (80.2)
--------- ---------
Net income ................................ $ 723.5 $ 631.0
========= =========
Net Income Per Common Share:
Basic ..................................... $ 3.90 $ 3.37
Diluted ................................... 3.88 3.37
Dividends Declared Per Common Share .......... $ 0.90 $ 0.80
9
The following year-over-year analysis gives further details and insight
into the changes in our financial performance.
Revenue: When comparing performance between years, we discuss non-GAAP
financial measures such as the impact that foreign currency rate changes,
acquisitions/dispositions and organic growth have on reported revenues. As we
derive significant revenue from international operations, changes in foreign
currency rates between the years impact reported results. Reported results are
also impacted by our acquisition and disposition activity and organic growth.
Accordingly, we provide this information to supplement the discussion of changes
in revenue period-to-period.
Our 2004 consolidated worldwide revenue increased 13.1% to $9,747.2
million from $8,621.4 million in 2003. Foreign exchange impacts increased
worldwide revenue by $390.6 million. The effect of acquisitions, net of
disposals, increased 2004 worldwide revenue by $163.9 million. Organic growth
increased worldwide revenue by $571.3 million. The components of total 2004
revenue growth in the U.S. ("domestic") and the remainder of the world
("international") are summarized below ($ in millions):
Total Domestic International
-------------- -------------- --------------
$ % $ % $ %
-------- ---- -------- ---- -------- ----
December 31, 2003 ........ $8,621.4 -- $4,720.9 -- $3,900.5 --
Components of
Revenue Changes:
Foreign exchange impact .. 390.6 4.5% -- -- 390.6 10.0%
Acquisitions ............. 163.9 1.9% 131.9 2.8% 32.0 0.8%
Organic .................. 571.3 6.7% 370.6 7.8% 200.7 5.2%
-------- ---- -------- ---- -------- ----
December 31, 2004 ........ $9,747.2 13.1% $5,223.4 10.6% $4,523.8 16.0%
======== ==== ======== ==== ======== ====
The components and percentages are calculated as follows:
o The foreign exchange impact component shown in the table is
calculated by first converting the current period's local currency
revenue using the average exchange rates from the equivalent prior
period to arrive at a constant currency revenue (in this case
$9,356.6 million for the Total column in the table). The foreign
exchange impact equals the difference between the current period
revenue in U.S. dollars and the current period revenue in constant
currency (in this case $9,747.2 million less $9,356.6 million for
the Total column in the table).
o The acquisition component shown in the table is calculated by
aggregating the applicable prior period revenue of the acquired
businesses. Netted against this number is the revenue of any
business included in the prior period reported revenue that was
disposed of subsequent to the prior period.
o The organic component shown in the table is calculated by
subtracting both the foreign exchange and acquisition revenue
components from total revenue growth.
o The percentage change shown in the table of each component is
calculated by dividing the individual component amount by the prior
period revenue base of that component (in this case $8,621.4 million
for the Total column in the table).
The components of revenue and revenue growth for 2004 compared to 2003, in
our primary geographic markets are summarized below ($ in millions):
$ Revenue % Growth
--------- --------
United States ..................... $5,223.4 10.6%
Euro Markets ...................... 2,058.2 15.0%
United Kingdom .................... 1,085.0 15.2%
Other ............................. 1,380.6 18.1%
-------- ----
Total ............................. $9,747.2 13.1%
======== ====
As indicated, foreign exchange impacts increased our international revenue
by $390.6 million for 2004. The most significant impacts resulted from the
continued strengthening of the Euro and the British Pound
10
against the U.S. dollar, as our operations in these markets represented
approximately 70.0% of our international revenue. Additional geographic
information relating to our business is contained in note 5 to our consolidated
financial statements.
Due to a variety of factors, in the normal course, our agencies both gain
and lose business from clients each year. The net result in 2004, and
historically each year for us as a whole, was an overall gain in new business.
Under our client-centric approach, we seek to broaden our relationships with our
largest clients. Revenue from our single largest client represented 4.3% of
worldwide revenue in 2004 and 4.7% in 2003 and no other client represented more
than 2.8% in 2004 or 2003. Our ten largest and 250 largest clients represented
18.3% and 55.9% of our 2004 worldwide revenue, respectively and 18.7% and 53.8%
of our 2003 worldwide revenue.
Driven by clients' continuous demand for more effective and efficient
branding activities, we strive to provide an extensive range of advertising,
marketing and corporate communications services through various client centric
networks that are organized to meet specific client objectives. These services
include advertising, brand consultancy, crisis communications, custom
publishing, database management, digital and interactive marketing, direct
marketing, directory advertising, entertainment marketing, environmental design,
experiential marketing, field marketing, financial / corporate
business-to-business advertising, graphic arts, healthcare communications,
instore design, investor relations, marketing research, media planning and
buying, multi-cultural marketing, non-profit marketing, organizational
communications, package design, product placement, promotional marketing, public
affairs, public relations, real estate advertising and marketing, recruitment
communications, reputation consulting, retail marketing and sports and event
marketing. In an effort to monitor the changing needs of our clients and to
further expand the scope of our services to key clients, we monitor revenue
across a broad range of disciplines and group them into the following four
categories: traditional media advertising, customer relationship management,
referred to as CRM, public relations and specialty communications as summarized
below.
(Dollars in millions)
-----------------------------------------------------------------
Twelve Months Ended December 31,
2004 2003 2004 vs 2003
------------------ ------------------- -----------------
% of % of $ %
Revenue Revenue Revenue Revenue Growth Growth
------- ------- ------- ------- ------ ------
Traditional media advertising ................ $4,207.5 43.2% $3,775.7 43.8% $ 431.8 11.4%
CRM .......................................... 3,366.1 34.5% 2,953.4 34.2% 412.7 14.0%
Public relations ............................. 1,040.5 10.7% 928.6 10.8% 111.9 12.0%
Specialty communications ..................... 1,133.1 11.6% 963.7 11.2% 169.4 17.6%
-------- -------- --------
$9,747.2 $8,621.4 $1,125.8 13.1%
======== ======== ========
Certain reclassifications have been made to the 2003 amounts in the tables
above to conform the numbers to the 2004 amounts presented.
Operating Expenses: Our 2004 worldwide operating expenses increased
$1,002.3 million, or 13.3%, to $8,531.8 million from $7,529.5 million in 2003,
as shown below.
(Dollars in millions)
------------------------------------------------------------------------------------------
2004 2003 2004 vs 2003
------------------------------- -------------------------------- -------------------
% of % of
% of Total Op. % of Total Op. $ %
Revenue Revenue Costs Revenue Revenue Costs Growth Growth
-------- -------- -------- -------- -------- -------- -------- --------
Revenue .............................. $9,747.2 $8,621.4 $1,125.8 13.1%
Operating expenses:
Salary and service costs .......... 6,846.8 70.2% 80.3% 5,911.8 68.6% 78.5% 935.0 15.8%
Office and general expenses ....... 1,685.0 17.3% 19.7% 1,617.7 18.8% 21.5% 67.3 4.2%
-------- -------- -------- -------- -------- -------- -------- --------
Total Operating Costs ................ 8,531.8 87.5% 7,529.5 87.3% 1,002.3 13.3%
Operating profit ..................... $1,215.4 12.5% $1,091.9 12.7% $ 123.5 11.3%
======== ======== ========
Salary and service costs represent the largest part of operating expenses.
During 2004, we continued to invest in our businesses and their personnel. As a
percentage of operating expenses, salary and service costs
11
were 80.3% in 2004 and 78.5% in 2003. These costs are comprised of direct
service costs and salary and related costs. Most, or $935.0 million and 93.3%,
of the $1,002.3 million increase in operating expenses in 2004 resulted from
increases in salary and service costs. This increase was attributable to
increased revenue levels and the required increases in direct salary and salary
related costs necessary to deliver our services, including increases in
incentive compensation costs, increases in freelance labor costs and increases
in costs relating to new business initiatives and recruiting. This was partially
offset by a reduction in severance costs and the expected positive impact in
2004 of previous cost actions. As a result, salary and service costs as a
percentage of revenues increased year-to-year from 68.6% in 2003 to 70.2% in
2004.
Office and general expenses represented 19.7% and 21.5% of our operating
expenses in 2004 and 2003, respectively. These costs are comprised of office and
equipment rent, technology costs and depreciation, amortization of identifiable
intangibles, professional fees and other overhead expenses. As a percentage of
revenue, office and general expenses decreased in 2004 from 18.8% to 17.3%
because these costs are relatively fixed in nature and decrease as a percentage
of revenue as revenue increases. In addition, this year-over-year decrease
resulted from our continuing efforts to better align these costs with business
levels on a location-by-location basis. This decrease was partially offset by
increased costs incurred in connection with the implementation of Sarbanes-Oxley
Section 404 and $9.9 million of costs incurred in connection with the disposal
of two non-strategic businesses early in 2004.
We expect our efforts to control operating expenses will continue as we
continuously look for ways to increase the variability of our cost structure. We
are hopeful that with the continuing improvements in the U.S. economy combined
with the cost reduction actions taken by our agencies, margins will continue to
stabilize.
Included in office and general expense was a net gain of $13.1 million
related to investment activity during the first quarter of 2004. In March 2004,
in connection with Seneca LLC's recapitalization, we agreed to exchange our
remaining preferred stock in Seneca for a $24.0 million senior secured note and
40% of Seneca's outstanding common stock. The note, which is due in March 2007,
bears interest at a rate of 6.25% per annum. The recapitalization transaction
was required to be recorded at fair value and, accordingly, we recorded a
pre-tax net gain of $24.0 million. This gain was partially offset by losses of
$10.9 million on other cost-based investments unrelated to our investment in
Seneca. Additional information appears in note 6 to our consolidated financial
statements.
Excluding the net gain of $13.1 million from investment activity, office
and general expenses were 17.4% of revenue in 2004, compared to 18.8% of revenue
in 2003, and operating margin decreased to 12.3% of revenue from 12.7% of
revenue.
Net Interest Expense: Our net interest expense decreased in 2004 to $36.6
million, as compared to $42.8 million in 2003. Our gross interest expense
decreased by $6.8 million to $51.1 million. This decrease is attributed to a
reduction of $5.1 million in the amortization of interest related payments on
our convertible notes from $28.1 million in 2003 to $23.0 million in 2004 and
reductions resulting from cash management efforts during the course of the year.
This reduction was partially offset by an increase in interest expense relative
to the (euro)152.4 million 5.20% Euro note due to the foreign currency change of
the Euro relative to the U.S. dollar in 2004.
As a result of interest related payments made in the second half of 2004
related to our convertible notes, we expect interest expense to increase by
$10.4 million in 2005 compared to 2004, as these payments are amortized ratably
through their next put dates.
See "Liquidity and Capital Resources" for a discussion of our indebtedness
and related matters.
Income Taxes: Our 2004 consolidated effective income tax rate of 33.6% was
unchanged from 2003. The FASB issued two staff proposals on accounting for
income taxes to address recent changes enacted by the United States Congress.
Proposed Staff Position FAS 109-a, Application of FASB Statement No. 109,
Accounting for Income Taxes, for the Tax Deduction Provided to U.S. Based
Manufacturers by the American Jobs Creation Act of 2004, and Proposed Staff
Position FAS 109-b, Accounting and Disclosure Guidance for the Foreign Earnings
Repatriation Provisions within the American Jobs Creation Act of 2004. We
believe that Proposed Staff Position FAS 109-a does not apply to our business.
We are currently assessing the impact of Proposed Staff Position FAS 109-b,
however, we do not believe it will have a material impact on our consolidated
results of operations or financial position.
12
Financial Results from Operations -- 2003 Compared with 2002
(Dollars in millions,
except per share amounts)
--------------------------
Twelve Months Ended December 31, 2003 2002
--------- ---------
Revenue ...................................... $ 8,621.4 $ 7,536.3
Operating expenses:
Salary and service costs .................. 5,911.8 5,071.9
Office and general expenses ............... 1,617.7 1,479.3
--------- ---------
7,529.5 6,551.2
--------- ---------
Operating profit ............................. 1,091.9 985.1
Net interest expense:
Interest expense .......................... 57.9 45.5
Interest income ........................... (15.1) (15.0)
--------- ---------
42.8 30.5
--------- ---------
Income before income taxes ................... 1,049.1 954.6
Income taxes ................................. 353.0 329.6
--------- ---------
Income after income taxes .................... 696.1 625.0
Equity in earnings of affiliates ............. 15.1 13.8
Minority interests ........................... (80.2) (68.3)
--------- ---------
Net income ................................ $ 631.0 $ 570.5
========= =========
Net Income Per Common Share:
Basic ..................................... $ 3.37 $ 3.07
Diluted ................................... 3.37 3.07
Dividends Declared Per Common Share .......... $ 0.80 $ 0.80
The following year-over-year analysis gives further details and insight
into the changes in our financial performance.
Revenue: Our 2003 consolidated worldwide revenue increased 14.4% to
$8,621.4 million from $7,536.3 million in 2002. Foreign exchange impacts
increased worldwide revenue by $465.6 million. The effect of acquisitions, net
of disposals, increased 2003 worldwide revenue by $271.7 million. Organic growth
increased worldwide revenue by $347.8 million. The components of total 2003
revenue growth in the U.S. ("domestic") and the remainder of the world
("international") are summarized below ($ in millions):
Total Domestic International
-------------------- -------------------- --------------------
$ % $ % $ %
-------- ---- -------- ---- -------- ----
December 31, 2002 ........................... $7,536.3 -- $4,284.6 -- $3,251.7 --
Components of Revenue Changes:
Foreign exchange impact ..................... 465.6 6.2% -- -- 465.6 14.3%
Acquisitions ................................ 271.7 3.6% 174.7 4.1% 97.0 3.0%
Organic ..................................... 347.8 4.6% 261.6 6.1% 86.2 2.7%
-------- ---- -------- ---- -------- ----
December 31, 2003 ........................... $8,621.4 14.4% $4,720.9 10.2% $3,900.5 20.0%
======== ==== ======== ==== ======== ====
The components and percentages are calculated as follows:
o The foreign exchange impact component shown in the table is
calculated by first converting the current period's local currency
revenue using the average exchange rates from the equivalent prior
period to arrive at a constant currency revenue (in this case
$8,155.8 million for the Total column in the table). The foreign
exchange impact equals the difference between the current period
revenue in U.S. dollars and the current period revenue in constant
currency (in this case $8,621.4 million less $8,155.8 million for
the Total column in the table).
o The acquisition component shown in the table is calculated by
aggregating the applicable prior period revenue of the acquired
businesses. Netted against this number is the revenue of any
business included in the prior period reported revenue that was
disposed of subsequent to the prior period.
13
o The organic component shown in the table is calculated by
subtracting both the foreign exchange and acquisition revenue
components from total revenue growth.
o The percentage change shown in the table of each component is
calculated by dividing the individual component amount by the prior
period revenue base of that component (in this case $7,536.3 million
for the Total column in the table).
The components of revenue and revenue growth for 2003 compared to 2002, in
our primary geographic markets are summarized below ($ in millions):
$ Revenue % Growth
--------- --------
United States ..................... $4,720.9 10.2%
Euro Markets ...................... 1,789.9 22.6%
United Kingdom .................... 941.9 15.9%
Other ............................. 1,168.7 19.4%
-------- ----
Total ............................. $8,621.4 14.4%
======== ====
As indicated, foreign exchange impacts increased our international revenue
by $465.6 million for 2003. The most significant impacts resulted from the
continued strengthening of the Euro and the British Pound against the U.S.
dollar, as our operations in these markets represented approximately 70.0% of
our international revenue. Additional geographic information relating to our
business is contained in note 5 to our consolidated financial statements.
Due to a variety of factors, in the normal course, our agencies both gain
and lose business from clients each year. The net result in 2003 for us as a
whole was an overall gain in new business. Under our client-centric approach, we
seek to broaden our relationships with our largest clients. Revenue from our
single largest client represented 4.7% of worldwide revenue in 2003 and 5.0% in
2002 and no other client represented more than 2.9% in 2003 or 2002. Our ten
largest and 250 largest clients represented 18.7% and 53.8% of our 2003
worldwide revenue, respectively and 17.9% and 53.4% of our 2002 worldwide
revenue.
In an effort to monitor the changing needs of our clients and to further
expand the scope of our services to key clients, we monitor revenue across a
broad range of disciplines and group them into the following four categories:
traditional media advertising, customer relationship management, referred to as
CRM, public relations and specialty communications as summarized below.
(Dollars in millions)
----------------------------------------------------------------------------
Twelve Months Ended December 31,
2003 2002 2003 vs 2002
-------------------- --------------------- ------------------
% of % of $ %
Revenue Revenue Revenue Revenue Growth Growth
------- ------- ------- ------- ------ ------
Traditional media advertising ............... $3,775.7 43.8% $3,377.1 44.8% $ 398.6 11.8%
CRM ......................................... 2,953.4 34.2% 2,423.5 32.2% 529.9 21.9%
Public relations ............................ 928.6 10.8% 898.4 11.9% 30.2 3.4%
Specialty communications .................... 963.7 11.2% 837.3 11.1% 126.4 15.1%
-------- -------- --------
$8,621.4 $7,536.3 $1,085.1 14.4%
======== ======== ========
Certain reclassifications have been made to the 2003 and 2002 amounts in
the tables above to conform the numbers to the 2004 presentation.
14
Operating Expenses: Our 2003 worldwide operating expenses increased $978.3
million, or 14.9%, to $7,529.5 million from $6,551.2 million in 2002, as shown
below.
(Dollars in millions)
---------------------------------------------------------------------------------------
2003 2002 2003 vs 2002
------------------------------- ------------------------------ ---------------
% of % of
% of Total Op. % of Total Op. $ %
Revenue Revenue Costs Revenue Revenue Costs Growth Growth
------- ------- --------- ------- ------- --------- ------ ------
Revenue ............................ $8,621.4 $7,536.3 $1,085.1 14.4%
Operating expenses:
Salary and service costs ........ 5,911.8 68.6% 78.5% 5,071.9 67.3% 77.4% 839.9 16.6%
Office and general expenses ..... 1,617.7 18.7% 21.5% 1,479.3 19.6% 22.6% 138.4 9.4%
-------- ---- ---- -------- ---- ---- -------- ----
Total Operating Costs .............. 7,529.5 87.3% 6,551.2 86.9% 978.3 14.9%
Operating profit ................... $1,091.9 12.7% $ 985.1 13.1% $ 106.8 10.8%
======== ======== =======
Salary and service costs represent the largest part of operating expenses.
During 2003, we continued to invest in our businesses and their personnel, and
took actions to reduce costs at some of our agencies to deal with the changing
economic circumstances. As a percentage of operating expenses, salary and
service costs were 78.5% in 2003 and 77.4% in 2002. These costs are comprised of
direct service costs and salary and related costs. Most, or $839.9 million and
85.9%, of the $978.3 million increase in operating expenses in 2003 resulted
from increases in salary and service costs. The $839.9 million increase in
salary and service costs was attributable to increased revenue levels, including
changes in the mix of our revenues which resulted in greater utilization of
freelance labor. In addition, although we incurred increased severance costs and
did not reach optimal utilization levels for our staff, we continued to make
investments in new key personnel. Furthermore, we increased incentive
compensation where performance dictated. As a result, salary and service costs
as a percentage of revenues increased year-to-year from 67.3% in 2002 to 68.6%
in 2003.
Office and general expenses represented 21.5% and 22.6% of our operating
expenses in 2003 and 2002, respectively. These costs are comprised of office and
equipment rent, technology costs and depreciation, amortization of identifiable
intangibles, professional fees and other overhead expenses. As a percentage of
revenue, office and general expenses decreased in 2003 from 19.6% to 18.8%. This
year-over-year decrease, which was offset by increases in professional fees and
amortization of other intangible assets, resulted from our continuing efforts to
better align these costs with business levels on a location-by-location basis,
as well as from increased revenue levels.
For the foregoing reasons, our operating margin decreased from 13.1% in
2002 to 12.7% in 2003.
Net Interest Expense: Our net interest expense increased in 2003 to $42.8
million, as compared to $30.5 million in 2002. Our gross interest expense
increased by $12.4 million to $57.9 million. This increase resulted from $25.4
million of additional interest costs associated with the amortization of our
payments to qualified holders of our convertible notes as incentives to the
noteholders not to exercise their put rights. In February 2003, we paid $25.4
million to holders of our Liquid Yield Option Notes due 2031 and, in August
2003, we paid $6.7 million to holders of our Zero Coupon Zero Yield Convertible
Notes due 2032. These payments are being amortized ratably over 12-month
periods. No such payments were made in 2002. In addition, interest expense
relative to the (euro)152.4 million 5.20% Euro note increased by $2.2 million
due to the change in the value of the Euro relative to the U.S. dollar in 2003.
These increases were partially offset by lower short-term interest rates and
cash management efforts during the course of the year.
Income Taxes: Our consolidated effective income tax rate was 33.6% in 2003
as compared to 34.5% in 2002. This reduction reflects the realization of our
ongoing focus on tax planning initiatives including increasing the efficiencies
of our international tax structures.
15
7A. Critical Accounting Policies and New Accounting Pronouncements
Critical Accounting Policies: We have prepared the following supplemental
summary of accounting policies to assist in better understanding our financial
statements and the related management discussion and analysis. Readers are
encouraged to consider this supplement together with our consolidated financial
statements and the related notes to our consolidated financial statements,
including our discussion in note 1 setting forth our accounting policies in
greater detail, for a more complete understanding of accounting policies
discussed below.
Estimates: The preparation of our financial statements in conformity with
generally accepted accounting principles in the United States of America, or
"GAAP", requires management to make estimates and assumptions. These estimates
and assumptions affect the reported amounts of assets and liabilities including
valuation allowances for receivables and deferred tax assets, accruals for bonus
compensation and the disclosure of contingent liabilities at the date of the
financial statements, as well as the reported amounts of revenue and expenses
during a reporting period. We evaluate these estimates on an ongoing basis and
we base our estimates on historical experience, current conditions and various
other assumptions we believe are reasonable under the circumstances. Actual
results can differ from those estimates, and it is possible that the differences
could be material.
A fair value approach is used in testing goodwill for impairment under
SFAS 142 and when evaluating cost based investments, which consist of ownership
interests in non-public companies, to determine if an other than temporary
impairment has occurred. The primary approach utilized to determine fair values
is a discounted cash flow methodology. When available and as appropriate, we
also use comparative market multiples to supplement the discounted cash flow
analysis. Numerous estimates and assumptions necessarily have to be made when
completing a discounted cash flow valuation, including estimates and assumptions
regarding interest rates, appropriate discount rates and capital structure.
Additionally, estimates must be made regarding revenue growth, operating
margins, tax rates, working capital requirements and capital expenditures.
Estimates and assumptions also need to be made when determining the appropriate
comparative market multiples to be used. Actual results of operations, cash
flows and other factors used in a discounted cash flow valuation will likely
differ from the estimates used and it is possible that differences and changes
could be material. Additional information about impairment testing under SFAS
142 and valuation of cost based investments appears in notes 2 and 13, and notes
1 and 6, respectively, to our consolidated financial statements.
Acquisitions and Goodwill: We have historically made and expect to
continue to make selective acquisitions. In making acquisitions, the price we
pay is determined by various factors, including specialized know-how,
reputation, competitive position, geographic coverage and service offerings, as
well as our experience and judgment. The amount we paid for acquisitions,
including cash, stock and assumption of net liabilities totaled $378.1 million
in 2004 and $472.3 million in 2003.
Our acquisition strategy has been focused on acquiring the expertise of an
assembled workforce in order to continue to build upon the core capabilities of
our various strategic business platforms and agency brands through the expansion
of their geographic reach and/or their service capabilities to better serve our
clients. Accordingly, like most service businesses, a substantial portion of the
intangible asset value that we acquire is the know-how of the people, which is
treated as part of goodwill and, in accordance with SFAS 141, is not valued
separately. For each of our acquisitions we undertake a detailed review to
identify other intangible assets and a valuation is performed for all such
assets identified. The majority of the value of the identifiable intangible
assets that we acquire is derived from customer relationships. In executing our
acquisition strategy, one of the primary drivers in identifying and executing a
specific transaction is the existence of, or the ability to, expand our existing
client relationships. Additional key factors we consider include the competitive
position and specialized know-how of the acquisition targets. When executing our
acquisition strategy, a significant portion of an acquired company's revenues is
often derived from existing clients. The expected benefits of our acquisitions
are typically shared across multiple agencies as they work together to integrate
the acquired agency into our client service strategy.
A summary of our contingent purchase price obligations, sometimes referred
to as earn-outs, and obligations to purchase additional interests in certain
subsidiary and affiliate companies is set forth in the "Liquidity and Capital
Resources" section of this report. The amount of contingent purchase price
obligations
16
and obligations to purchase additional interests in certain subsidiary and
affiliate companies are based on future performance. Contingent purchase price
obligations are accrued, in accordance with GAAP, when the contingency is
resolved and payment is certain.
Additional information about acquisitions and goodwill appears in notes 1
and 2 to our consolidated financial statements of this report.
Revenue: Substantially all revenue is derived from fees for services.
Additionally, we earn commissions based upon the placement of advertisements in
various media. Revenue is realized when the service is performed, in accordance
with terms of the arrangement with our clients and upon completion of the
earnings process. This includes when services are rendered, generally upon
presentation date for media, when costs are incurred for radio and television
production and when print production is completed and collection is reasonably
assured.
In the majority of our businesses, we record revenue at the net amount
retained when the fee or commission is earned. In the delivery of certain
services to our clients, we incur costs on their behalf for which we are
reimbursed. Substantially all of our reimbursed costs relate to purchases on
behalf of our clients of media and production services. We normally have no
latitude in establishing the reimbursement price for these expenses and invoice
our clients for these expenses in an amount equal to the amount of costs
incurred. These reimbursed costs, which are a multiple of our revenue, are
significant. However, the majority of these costs are incurred on behalf of our
largest clients and we have not historically experienced significant losses in
connection with the reimbursement of these costs.
A small portion of our contractual arrangements with clients includes
performance incentive provisions designed to link a portion of our revenue to
our performance relative to both quantitative and qualitative goals. We
recognize this portion of revenue when the specific quantitative goals are
achieved, or when our performance against qualitative goals is determined by our
clients. Additional information about revenue appears in note 1 to our
consolidated financial statements.
Employee Stock-based Compensation: In accordance with SFAS No. 123,
"Accounting for Stock Based Compensation", as amended by SFAS No. 148,
"Accounting for Stock-Based Compensation -- Transition and Disclosure, an
amendment of FASB Statement No. 123", we elected, effective January 1, 2004, to
account for stock-based employee compensation using the fair value method. As a
result, the fair value of stock-based employee compensation, including unvested
employee stock options issued and outstanding, were recorded as an expense in
the current period utilizing the retroactive restatement method as set forth in
SFAS 148. Accordingly, our results for the prior periods have been restated as
if we had used the fair value method to account for stock-based employee
compensation. Pre-tax stock-based employee compensation costs for the years
ended December 31, 2004, 2003 and 2002, were $117.2 million, $131.1 million and
$173.5 million, respectively. Also in connection with the restatement, our
December 31, 2003 balance sheet presented reflects an increase in the deferred
tax benefit of $120.5 million, an increase in additional paid-in capital of
$434.7 million, an increase in unamortized stock compensation of $92.6 million
and a decrease in retained earnings of $221.6 million. Additional disclosures
are included in note 7 to our financial statements.
In December 2004, the FASB issued SFAS No. 123 (Revised 2004) --
Share-Based Payment ("SFAS 123R") which is effective for reporting periods
beginning after June 15, 2005 and generally applies to grants made after
adoption. SFAS 123R is a revision of FASB No. 123, Accounting for Stock-Based
Compensation. As a result of our adoption of SFAS 123 on January 1, 2004, we
believe that the adoption of SFAS 123R will not have a material impact on our
consolidated results of operations or financial position. However, we are in the
process of assessing the full impact of this revision.
New Accounting Pronouncements:
In addition to those discussed previously, the following pronouncements
were either issued by the FASB or adopted by us in 2004 and impact our financial
statements as discussed below.
SFAS No. 153, "Exchanges of Nonmonetary Assets, an amendment of APB
Opinion No. 29 ("SFAS 153"). SFAS 153 amends APB Opinion No. 29, Accounting for
Nonmonetary Transactions, to eliminate the exception from having to apply the
fair value accounting provisions of APB 29 for non-monetary exchanges of similar
productive assets and replaces it with a general exception for exchanges of
non-monetary assets that
17
do not have commercial substance. SFAS 153 is effective for the first reporting
period beginning after June 15, 2005. We believe that the adoption of SFAS 153
will not have a material impact on our consolidated results of operations or
financial position. However, we are in the process of assessing the full impact
of this amendment.
FASB Interpretation No. 46 -- Consolidation of Variable Interest Entities
("FIN 46"). FIN 46 addresses the consolidation by business enterprises of
variable interest entities, as defined in FIN 46, and is based on the concept
that companies that control another entity through interests, other than voting
interests, should consolidate the controlled entity. The consolidation
requirements apply immediately to FIN 46 interests held in variable interest
entities created after January 31, 2003, and to interests held in variable
interest entities that existed prior to February 1, 2003 and remain in existence
as of July 1, 2003. The FASB subsequently issued FIN 46R in December 2003 which
modified certain provisions of FIN 46. FIN 46R applied to the first reporting
period after March 15, 2004. The application of FIN 46 as originally issued and
as revised by the issuance of FIN 46R did not have an impact on, or result in,
additional disclosure in our consolidated results of operations or financial
position.
The Emerging Issues Task Force ("EITF") of the FASB reached a consensus
and released interpretive guidance in 2004 covering several topics that impact
our financial statements.
EITF No. 03-6, "Participating Securities and the Two-Class Method under
FASB Statement No. 128, Earnings Per Share" is required to be adopted in
financial periods beginning after March 31, 2004. The adoption of EITF No. 03-6
did not have an impact on our consolidated results of operation or financial
position.
EITF No. 04-8, "The Effect of Contingently Convertible Instruments on
Diluted Earnings per Share" was required to be adopted on December 31, 2004. The
adoption did not impact our historical results and our December 31, 2004
quarter-to-date and full-year diluted earnings per share as we amended our
Convertible Notes due 2031, 2032 and 2033 prior to December 31, 2004. The
amendments require us, upon conversion, to settle the principal of our
Convertible Notes in cash and any accretion in shares of our common stock. For
additional information, see note 4 to our consolidated financial statements. The
amendments made the notes compliant with EITF 90-19 "Instrument C" treatment.
Compliance with "Instrument C" treatment does not result in additional dilution
to our Diluted EPS because our weighted average share price was less than the
conversion price of the notes for the periods set forth above. In accordance
with the transition provisions of EITF 04-8, it is assumed that "Instrument C"
treatment occurred at the beginning of the first period presented.
Liquidity and Capital Resources
Cash Requirements, including contractual obligations
Our principal non-discretionary funding requirement is our working capital
requirement. In addition, as discussed below, we have contractual obligations
related to our debt and convertible notes, our recurring business operations
primarily related to lease obligations, as well as certain contingent
acquisition obligations related to acquisitions made in prior years.
Historically, substantially all of our non-discretionary cash requirements have
been funded from operating cash flow.
Our principal discretionary cash requirements include dividend payments to
our shareholders, repurchases of our stock, payments for strategic acquisitions
and capital expenditures. In 2004 and 2003, our discretionary spending was
funded from operating cash flow. However, in any given year, depending on the
level of discretionary activity, we may use other sources of available funding
to finance these activities.
We have a seasonal working capital cycle. Working capital requirements are
lowest at year-end and highest during the second and third quarters. The
fluctuation in working capital requirements between the lowest and highest
periods was approximately $1.0 billion in 2004 and 2003. This occurs because in
the majority of our businesses we act as agent on behalf of our clients,
including when we place media and incur production costs on their behalf. We
generally require collection from our clients prior to our payment for the media
and production cost obligations and these obligations are greatest at the end of
the year. This pattern was similar during the past three years. During the year
we manage liquidity through our credit facilities as discussed below under "Cash
Management."
Contractual Obligations and Other Commercial Commitments: We enter into
numerous contractual and commercial undertakings in the normal course of our
business. The following table summarizes information
18
about certain of our obligations as of December 31, 2004 and should be read
together with note 3 (bank loans and lines of credit), note 4 (long-term debt
and convertible notes), note 10 (commitments and contingent liabilities), note
11 (fair value of financial instruments) and note 12 (financial instruments and
market risk) to our consolidated financial statements.
Due in Due in Due
Less than 1 to 5 after 5 Total
1 Year Years Years Due
--------- -------- -------- --------
Contractual Obligations at
December 31, 2004 (in millions)
------------------------------------------------
Long-term debt ........... $ 209.2 $ 18.9 $ 0.2 $ 228.3
Convertible notes ........ -- -- 2,339.3 2,339.3
Lease obligations ........ 401.2 1,054.6 884.2 2,340.0
Other .................... 2.2 6.6 -- 8.8
-------- -------- -------- --------
Total .................... $ 612.6 $1,080.1 $3,223.7 $4,916.4
======== ======== ======== ========
As more fully described in the discussion below under the heading "Debt
Instruments, Guarantees and Related Covenants", the holders of the convertible
notes included in the table above have the right to cause us to repurchase up to
the entire aggregate face amount of the notes then outstanding for par value at
certain dates in the future. If these rights were exercised at the earliest
possible future date, as set forth in note 4 to our consolidated financial
statements, $892.3 million of the convertible notes could be due in less than
one year, and $1,447.0 million could be due in the "1 to 5 Years" category
above.
Due in Due in Due
Less than 1 to 5 after 5 Total
1 Year Years Years Due
--------- -------- -------- --------
Other Commercial Commitments at
December 31, 2004 (in millions)
------------------------------------------
Lines of credit .................... $ -- $ -- $ -- $ --
Guarantees and letters
of credit ....................... 0.1 0.1 0.0 0.2
-------- -------- -------- --------
Total .............................. $ 0.1 $ 0.1 $ 0.0 $ 0.2
======== ======== ======== ========
In the normal course of business, our agencies enter into various
contractual media commitments on behalf of our clients at levels substantially
exceeding our revenue. These commitments are included in our accounts payable
balance when the media services are delivered by the providers. Historically, we
have not experienced significant losses for media commitments entered into on
behalf of our clients and we believe that we do not have any substantial
exposure to potential losses of this nature in the future as we receive payment
in advance and we monitor the credit worthiness of our clients. In the event
that we are committed to the media services and our client has not paid us, we
believe that the risk of material loss is minimal because we believe that we
have reasonable options available to substantially mitigate potential losses.
Contingent Acquisition Obligations
Certain of our acquisitions are structured with contingent purchase price
obligations, often referred to as earn-outs. We utilize contingent purchase
price structures in an effort to minimize the risk to us associated with
potential future negative changes in the performance of the acquired entity
during the post-acquisition transition period. These payments are not contingent
upon future employment. The amount of future contingent purchase price payments
that we would be required to pay for prior acquisitions, assuming that the
businesses perform over the relevant future periods at their current profit
levels, is approximately $458 million as of December 31, 2004. The ultimate
amounts payable cannot be predicted with reasonable certainty because it is
dependent upon future results of operations of subject businesses and is subject
to changes in foreign currency exchange rates. In accordance with GAAP, we have
not recorded a liability for these items on our balance sheet since the
definitive amount is not determinable or distributable. Actual results can
differ from these estimates and the actual amounts that we pay are likely to be
different from these estimates. Our obligations change from period to period
primarily as a result of payments made during the current period, changes in the
acquired entities' performance
19
and changes in foreign currency exchange rates. These differences could be
significant. The contingent purchase price obligations as of December 31, 2004,
calculated assuming that the acquired businesses perform over the relevant
future periods at their current profit levels, are as follows:
($ in millions)
- --------------------------------------------------------------------------------
There-
2005 2006 2007 2008 after Total
- ---- ---- ---- ---- ------ -----
$225 $82 $81 $47 $23 $458
In addition, owners of interests in certain of our subsidiaries or
affiliates have the right in certain circumstances to require us to purchase
additional ownership stakes in those companies. Assuming that the subsidiaries
and affiliates perform over the relevant periods at their current profit levels,
the aggregate amount we could be required to pay in future periods is
approximately $274 million, $163 million of which relate to obligations that are
currently exercisable. If these rights are exercised, there would be an increase
in our net income as a result of our increased ownership and the reduction of
minority interest expense. The ultimate amount payable relating to these
transactions will vary because it is primarily dependent on the future results
of operations of the subject businesses, the timing of the exercise of these
rights and changes in foreign currency exchange rates. The actual amount that we
pay is likely to be different from this estimate and the difference could be
significant. The obligations that exist for these agreements as of December 31,
2004, calculated using the assumptions above, are as follows:
($ in millions)
---------------------------------------
Currently Not Currently
Exercisable Exercisable Total
----------- ------------- -----
Subsidiary agencies ............ $139 $ 99 $238
Affiliated agencies ............ 24 12 36
---- ---- ----
Total .......................... $163 $111 $274
==== ==== ====
Sources and Uses of Cash
Although our cash requirements in 2004 and 2003 were funded by operating
cash flow, during 2003 and prior years, we have opportunistically accessed the
capital markets by issuing convertible debt of $600 million, $900 million and
$850 million in 2003, 2002 and 2001, respectively. The proceeds were used for
general corporate purposes, including the repayment of maturing debt, the
repurchase of our shares and the funding of selected investing activities.
At year-end 2004, we had $1,165.6 million in cash and cash equivalents. In
addition, we had $2.0 billion in unused committed credit facilities available
for immediate use to fund our cash needs. These credit facilities are more fully
described in note 3 in the accompanying financial statements.
Our operating cash flow and access to the capital markets could be
impacted by macroeconomic factors outside of our control. Additionally,
liquidity could be impaired by short and long-term debt ratings assigned by
independent rating agencies.
Standard and Poor's Rating Service currently rates our long-term debt A-,
Moody's Investor Service rates our long-term debt Baa1 and Fitch Rating rates
our long-term debt A-. Our short-term ratings are A2, P2 and F2 by the
respective agencies. Neither our outstanding convertible bonds nor our bank
credit facilities contain provisions that require acceleration of cash payments
should our ratings be downgraded. The interest rates and fees on our bank credit
facilities, however, will increase if our long-term debt rating is downgraded.
Our committed bank facilities, described in detail in note 3, contain two
financial covenants, relating to cash flow and interest coverage, which we met
by a significant margin as of December 31, 2004.
We believe that our financial condition is strong and that our cash
balances, liquidity of short-term investments, operational cash flows, unused
committed borrowing capacity and access to capital markets, taken together, are
sufficient to support our foreseeable cash requirements, including working
capital, capital expenditures, dividends and acquisitions.
20
Cash Management
We manage our cash and liquidity centrally through treasury centers in
North America and Europe. Each day, operations with excess funds invest these
funds with their regional treasury center. Likewise, operations that require
funding will borrow funds from their regional treasury center. The treasury
centers then aggregate the net position of our operating companies. The net
position is either invested with or borrowed from third party providers. To the
extent that our treasury centers require liquidity, they have the ability to
access local currency lines of credit, our $2.0 billion committed bank
facilities, or issue U.S. dollar-denominated commercial paper. This enables us
to reduce our consolidated debt levels and minimize interest expense as well as
centrally manage our exposure to foreign exchange.
Our cash balance at December 31, 2004 decreased by $77.9 million from the
prior year, while our short-term investments at market increased $268.6 million
from the prior year. Short-term investments include investments of our excess
cash which we expect to convert into cash in our current operating cycle,
generally within one year.
We manage our net debt position, which we define as total debt outstanding
less cash and short-term investments, centrally through our treasury centers as
discussed above. Our net debt outstanding at December 31, 2004 decreased $198.0
million as compared to the prior year-end.
Debt Instruments, Guarantees and Related Covenants
We maintain two revolving credit facilities with a consortium of banks
totaling $2,000.0 million as described in note 3 to our consolidated financial
statements. These credit facilities are available to provide credit support for
issuances under our $1,500.0 million commercial paper program, as well as to
provide back-up liquidity in case any of our convertible bond issues are put
back to us. We fund our daily borrowing needs by issuing commercial paper or
drawing down on our revolving credit facilities. During 2004, we issued and
redeemed $27.2 billion and the average term was 2.3 days. As of December 31,
2004, we had no commercial paper or bank loans outstanding under these credit
facilities. We had short-term bank loans of $17.5 million at December 31, 2004,
primarily comprised of bank overdrafts by our international subsidiaries, which
are treated as unsecured loans pursuant to the subsidiaries' bank agreements.
Our credit facilities contain financial covenants that restrict our
ability to incur indebtedness as defined in the agreements. These financial
covenants limit the ratio of total consolidated indebtedness to total
consolidated EBITDA (EBITDA for these purposes being defined as earnings before
interest, taxes, depreciation and amortization) to no more than 3.0 times. In
addition, they require us to maintain a minimum ratio of EBITDA to interest
expense of at least 5.0 times. At December 31, 2004, we were in compliance with
these covenants, as our ratio of debt to EBITDA was 1.9 times and our ratio of
EBITDA to interest expense was 27.1 times.
At December 31, 2004, we had a total of $2,339.3 million aggregate
principal amount of convertible notes outstanding, including $847.0 million
Liquid Yield Option Notes due 2031, which were issued in February 2001, $892.3
million Zero Coupon Zero Yield Convertible Notes due 2032, which were issued in
March 2002 and $600.0 million Zero Coupon Zero Yield Convertible Notes dues
2033, which were issued in June 2003.
The holders of our Liquid Yield Option Notes due 2031 have the right to
cause us to repurchase up to the entire aggregate face amount of the notes then
outstanding for par value in February of each year beginning in 2006. The
holders of our Zero Coupon Zero Yield Convertible Notes due 2032 have the right
to cause us to repurchase up to the entire aggregate face amount of the notes
then outstanding for par value in August of each year. The holders of our Zero
Coupon Zero Yield Convertible Notes due 2033 have the right to cause us to
repurchase up to the entire aggregate face amount of the notes then outstanding
for par value on June 15, 2006, 2008, 2010, 2013, 2018, 2023 and on each June 15
annually thereafter through June 15, 2032. The Liquid Yield Option Notes due
2031, the Zero Coupon Zero Yield Convertible Notes due 2032 and the Zero Coupon
Zero Yield Convertible Notes due 2033 are convertible, at specified ratios, only
upon the occurrence of certain events, including if our common shares trade
above certain levels, if we effect extraordinary transactions or, in the case of
the Liquid Yield Option Notes due 2031 and the Zero Coupon Zero Yield
Convertible Notes due 2032, if our long-term debt ratings are downgraded to BBB
or lower by Standard & Poor's Ratings Services, or Baa3 or lower by Moody's
Investors Services, Inc. or in the case of the Zero Coupon Zero Yield
Convertible Notes due 2033, to BBB- or lower by S&P, and Ba1 or lower by
Moody's. These events would not, however, result in an
21
adjustment of the number of shares issuable upon conversion and would not
accelerate the holder's right to cause us to repurchase the notes. For
additional information about the terms of these notes, see note 4 to our
consolidated financial statements.
On February 21, 2003, we paid $25.4 million to qualified noteholders of
our Liquid Yield Option Notes due 2031, equal to $30 per $1,000 principal amount
of notes, as an incentive to the holders not to exercise their put right. This
payment was amortized over the 12-month period ended February 2004. On February
7, 2003, we repurchased for cash, notes from holders who exercised their put
right for $2.9 million, reducing the aggregate amount outstanding of the notes
due 2031 to $847.0 million.
On August 6, 2003, we paid $6.7 million to qualified noteholders of our
Zero Coupon Zero Yield Convertible Notes due 2032, equal to $7.50 per $1,000
principal amount of notes, as an incentive to the holders not to exercise their
put right. This payment was amortized over the 12-month period ended August
2004. On August 1, 2003, we repurchased for cash, notes from holders who
exercised their put right for $7.7 million, reducing the aggregate amount
outstanding of the notes due 2032 to $892.3 million.
On August 12, 2004, we paid $25.4 million to qualified noteholders of our
Zero Coupon Zero Yield Convertible Notes due 2032, equal to $27.50 per $1,000
principal amount of notes, as an incentive to the holders not to exercise their
put right and to consent to an amendment to the indenture. This payment is being
amortized over the 12-month period ended August 2005. Under the amendment, we
will pay cash to noteholders for the initial principal amount of the notes
surrendered for conversion. The remainder of the conversion value would be paid
in cash or shares at our option. We have also amended the method by which we
will pay contingent interest.
On November 16, 2004, we paid $1.2 million to qualified noteholders of our
Zero Coupon Zero Yield Convertible Notes due 2033 as an incentive to the holders
to consent to an amendment to the indenture. At later dates in November and
December 2004, we paid an additional $0.3 million to the remaining qualified
noteholders. These payments are being amortized ratably through the next put
date of June 2006. Under the amendment, we will pay cash to noteholders for the
initial principal amount of the notes surrendered for conversion. The remainder
of the conversion value would be paid in cash or shares at our option.
On November 30, 2004, we paid $14.8 million to qualified noteholders of
our Liquid Yield Option Notes due 2031 as an incentive to the holders not to
exercise their February 2005 put right and to consent to an amendment to the
indenture. This payment is being amortized ratably through the next put date of
February 2006. Under the amendment, we will pay cash to noteholders for the
initial principal amount of the notes surrendered for conversion. The remainder
of the conversion value would be paid in cash or shares at our option. We also
amended the method by which we will pay contingent interest.
At December 31, 2004, we had Euro-denominated bonds outstanding of
(euro)152.4 million or $206.6 million. The bonds pay a fixed rate of 5.2% to
maturity in June 2005. The bonds serve as a hedge of our investment in
Euro-denominated net assets. While an increase in the value of the euro against
the dollar will result in a greater liability, there will be a corresponding
increase in the dollar value of our Euro-denominated net assets. We intend to
redeem these Euro-denominated bonds in 2005 utilizing our available cash, our
credit facilities or a combination of both.
Our outstanding debt and amounts available under these facilities as of
December 31, 2004 ($ in millions) were as follows:
Debt Available
Outstanding Credit
----------- ---------
Bank loans (due in less than 1 year) ................... $ 17.5 --
$1,500.0 million revolver -- due May 24, 2009 .......... -- $1,500.0
$500.0 million -- due May 23, 2005 ..................... -- 500.0
(euro)152.4 million 5.20% Euro notes -- due
June 24, 2005 ........................................ 206.6 --
Convertible notes -- due February 7, 2031 .............. 847.0 --
Convertible notes -- due July 31, 2032 ................. 892.3 --
Convertible notes -- due June 15, 2033 ................. 600.0 --
Loan notes and sundry -- various through 2010 .......... 21.7 --
-------- --------
Total .................................................. $2,585.1 $2,000.0
======== ========
Additional information about our indebtedness is included in notes 3 and 4
of our consolidated financial statements.
22
Quantitative and Qualitative Disclosures Regarding Market Risk
Foreign Exchange: Our results of operations are subject to risk from the
translation to the U.S. dollar of the revenue and expenses of our foreign
operations, which are generally denominated in the local currency. The effects
of currency exchange rate fluctuation on the translation of our results of
operations are discussed in note 12 of our consolidated financial statements.
For the most part, our revenues and the expenses incurred related to those
revenues are denominated in the same currency. This minimizes the impact that
fluctuations in exchange rates will have on our net income.
While our agencies conduct business in more than 70 different currencies,
our major-non-U.S. currency markets are the European Monetary Union (EMU), the
United Kingdom, Japan, Brazil and Canada. As an integral part of our treasury
operations, we enter into short-term forward foreign exchange contracts which
hedge the intercompany cash movements between subsidiaries operating in
different currency markets from that of our treasury centers from which they
borrow or invest. In the limited number of instances where operating expenses
and revenues are not denominated in the same currency, amounts are promptly
settled or hedged in the foreign currency market with forward contracts. At
December 31, 2004, we had foreign exchange contracts outstanding with an
aggregate notional principal of $1,453.1 million, most of which were denominated
in our major international market currencies with maturities ranging from 2 to
365 days with an average duration of less than 30 days.
Additionally, at December 31, 2004 we had cross-currency interest rate
swaps in place with an aggregate notional principal amount of 19.1 billion Yen
maturing in 2005. See note 12 to our consolidated financial statements for
information about the fair value of each type of derivative instrument.
The forward foreign exchange and swap contracts discussed above were
entered into for the purpose of hedging certain specific currency risks. As a
result of these financial instruments, we reduced financial risk in exchange for
foregoing any gain (reward) which might have occurred if the markets moved
favorably. In using these contracts, we exchanged the risks of the financial
markets for counterparty risk. To minimize counterparty risk, we only enter into
these contracts with major well-known banks and financial institutions that have
credit ratings equal to or better than our credit rating.
These hedging activities are confined to risk management activities
related to our international operations. We have established a centralized
reporting system to evaluate the effects of changes in interest rates, currency
exchange rates and other relevant market risks. We periodically determine the
potential loss from market risk by performing a value-at-risk computation.
Value-at-risk analysis is a statistical model that utilizes historic currency
exchange and interest rate data to measure the potential impact on future
earnings of our existing portfolio of derivative financial instruments. The
value-at-risk analysis we performed on our December 31, 2004 portfolio of
derivative financial instruments indicated that the risk of loss was immaterial.
This overall system is designed to enable us to initiate remedial action, if
appropriate.
Debt Instruments: Our bank credit facilities mentioned above are available
to provide credit support for issuances of commercial paper, as well as to
provide back-up liquidity in case any of our convertible bond issues are put
back to us. We currently have a $500.0 million 364-day facility with a one-year
term out option expiring on May 23, 2005 and a $1,500.0 million 5-year facility
expiring on May 24, 2009. Accordingly, we classify outstanding borrowings, if
any, under these facilities as long-term debt. We normally replace our 364-day
facility each year with a new 364-day facility with similar provisions.
Our bank syndicates typically include large global banks such as Citibank,
JP Morgan Chase, HSBC, ABN Amro, Societe Generale, Barclays, Bank of America and
BBVA. We also include large regional banks in the U.S. such as Wachovia, US
Bancorp, Northern Trust, PNC and Wells Fargo. We also include banks that have a
major presence in countries where we conduct business such as Sumitomo in Japan,
Fortis in Belgium, San Paolo in Italy, Scotia in Canada and Westpac in
Australia.
Our other long-term debt consists principally of convertible notes. The
holders of these convertible notes have the right on specific dates to cause us
to repurchase up to the entire aggregate face amount as previously discussed. We
may offer the holders of our notes a cash payment or other incentives to induce
them not to put the notes to us in advance of a put date. If we were to decide
to pay a cash incentive, the amount of interest expense incurred will be based
on market factors.
23
Since our existing convertible notes do not pay or accrue interest, our
interest expense could increase if notes are put. The extent, if any, of the
increase in interest expense will depend on the portion of the amount
repurchased that was refinanced, when we refinance, the type of instrument we
use to refinance and the term of the instrument.
The incentive payments made in 2003 and 2004 to qualified noteholders, as
described above under "Debt Instruments, Guarantees and Related Covenants", are
one method of keeping the convertible notes outstanding and preserving our
liquidity. If we are required to satisfy a put, we expect to have sufficient
available cash and unused credit commitments to fund the put, while still
preserving ample capacity under these commitments to meet cash requirements for
the normal course of our business operations after the put event.
Our credit commitments support either the issuance of commercial paper or
bank loans, and we would likely fund the put initially using some combination of
these instruments. We would then evaluate all funding alternatives available to
us to replenish our credit capacity and liquidity. We believe the funding
alternatives would include substantially all forms of debt, equity and
convertible instruments available to us by accessing the public or private
capital markets. Our evaluation would likely include the expected cash flows
from the normal course of our business operations and the credit capacity to
fund additional potential puts on the remaining outstanding convertible notes.
If we were to replace the convertible notes with another form of debt on a
dollar-for-dollar basis, it would have no impact on either our debt to capital
ratios or our debt to EBITDA ratio. However, an increase in interest expense
would negatively impact our coverage ratios, such as EBITDA to interest expense,
if the replacement debt were to be interest bearing. Currently our coverage
ratios applicable to our current rating levels are well above the thresholds
since the majority of our long-term debt does not pay or accrue interest other
than the interest expense resulting from the amortization of the prior cash
payments. Based on present expectations of our future operating cash flows and
expected access to debt and equity capital markets, we believe any increase in
interest expense and reduction in coverage ratios would still place us
comfortably above the coverage ratio requirements. Thus, we do not expect any
negative impact on our credit ratings if the convertible notes are put in the
near future.
8. Financial Statements and Supplementary Data
Our financial statements and supplementary data are included at the end of
this report beginning on page F-1. See the index appearing on the following
pages of this report.
9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure
None.
9A. Controls and Procedures
We have established and maintain disclosure controls and procedures and
internal controls over financial reporting designed to ensure that information
required to be disclosed in our SEC reports is recorded, processed, summarized
and reported within applicable time periods. We conducted an evaluation, under
the supervision and with the participation of our management, including our CEO
and CFO, of the effectiveness of our disclosure controls and procedures as of
December 31, 2004. There have not been any changes in our internal controls over
financial reporting that occurred during our fourth fiscal quarter that has
materially affected or is reasonably likely to materially affect our internal
controls over financial reporting. Based on that evaluation, our CEO and CFO
concluded that as of December 31, 2004, our disclosure controls and procedures
are effective to ensure recording, processing, summarization and reporting of
information required to be included in our Annual Report on Form 10-K for the
period ended December 31, 2004 as appropriate to allow timely decisions
regarding required disclosure. Our independent registered public accounting
firm, KPMG LLP, has audited our financial statements and issued an attestation
report on our assessment of our internal control over financial reporting, which
is included herein.
9B. Other Information
None.
24
PART III
10. Executive Officers
The executive officers of Omnicom Group Inc. as of March 1, 2005 are:
Name Position Age
---- -------- ---
Bruce Crawford............ Chairman 76
John D. Wren.............. President and Chief Executive Officer 52
Randall J. Weisenburger... Executive Vice President and Chief Financial Officer 46
Philip J. Angelastro...... Senior Vice President of Finance and Controller 40
Michael Birkin............ Vice Chairman 46
Jean-Marie Dru............ President and Chief Executive Officer of TBWA Worldwide 58
Thomas L. Harrison........ Chairman and Chief Executive Officer of Diversified Agency Services 57
Kenneth R. Kaess, Jr...... President and Chief Executive Officer of DDB Worldwide 50
Peter Mead................ Vice Chairman 65
Michael J. O'Brien........ Senior Vice President, General Counsel and Secretary 43
Andrew Robertson.......... President and Chief Executive Officer of BBDO Worldwide 44
All of the executive officers have held their present positions at Omnicom
for at least five years except as specified below.
Philip Angelastro was promoted to Senior Vice President of Finance in
January 2002 and was appointed Controller on February 1, 1999. Mr. Angelastro
joined the Company in June 1997 as Vice President of Finance of Diversified
Agency Services after being a Partner at Coopers & Lybrand LLP.
Effective March 1, 2005, Michael Birkin will hold the title of Vice
Chairman, as well as President and CEO of Omnicom Asia-Pacific. Since 1999, he
has served as Worldwide President of Diversified Agency Services ("DAS"). Mr.
Birkin previously served as International President of DAS from 1997 to 1999 and
European Managing Director of DAS from 1995 to 1997.
Jean-Marie Dru was appointed President and Chief Executive Officer of TBWA
Worldwide in March 2001. He had previously been President International of TBWA
Worldwide. Mr. Dru was co-founder and Chairman of BDDP Group, which merged with
TBWA in 1998.
Ken Kaess has been Chief Executive Officer and President of DDB Worldwide
since January 2001, and President since December 1999. Prior to that he was
President of DDB North America.
Peter Mead was appointed Vice Chairman in May 2000. He had previously been
Group Chief Executive of Abbot Mead Vickers plc and Joint Chairman of AMV BBDO.
Michael O'Brien joined Omnicom in November 2003 and was appointed Senior
Vice President, General Counsel and Secretary in December 2003. Prior to that,
he was a partner in the law firm of Goodwin Procter LLP (since April 2002).
Prior to that, he was a partner in the law firm of O'Sullivan LLP.
Andrew Robertson was named Chief Executive Office of BBDO Worldwide in May
of 2004, having been made President of BBDO Worldwide in 2002. In 2001, Mr.
Robertson was President and CEO of BBDO North America, and was subsequently
elected to the Worldwide Board of Directors of BBDO. He joined BBDO in 1995.
Additional information about our directors and executive officers appears
under the captions "Election of Directors", "Stock Ownership", "Director
Compensation" and "Executive Compensation" in our 2004 proxy statement.
25
PART IV
15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a)(1) Financial Statements:
Page
----
Management Report on Internal Controls Over Financial Reporting .. F-1
Report of Independent Registered Public Accounting Firm .......... F-2
Report of Independent Registered Public Accounting Firm .......... F-3
Consolidated Statements of Income for the Three Years Ended
December 31, 2004 .............................................. F-4
Consolidated Balance Sheets at December 31, 2004 and 2003 ........ F-5
Consolidated Statements of Shareholders' Equity for the Three
Years Ended December 31, 2004 .................................. F-6
Consolidated Statements of Cash Flows for the Three Years
Ended December 31, 2004 ........................................ F-7
Notes to Consolidated Financial Statements ....................... F-8
Quarterly Results of Operations (Unaudited) ...................... F-28
(a)(2) Financial Statement Schedules:
Schedule II -- Valuation and Qualifying Accounts (for the
three years ended December 31, 2004) ........................... S-1
All other schedules are omitted because they are not applicable.
(a)(3) Exhibits:
Exhibit
Numbers Description
------- -----------
(3)(i) Restated Certificate of Incorporation (Exhibit 3.1 to our
Quarterly Report on Form 10-Q for the quarter ended June 30,
2003 (the "6-30-03 10-Q") and incorporated herein by
reference).
(ii) By-laws (Exhibit 3.2 to our 6-30-03 10-Q) and incorporated
herein by reference (File No. 1-10551).
4.1 Fiscal Agency Agreement, dated June 24, 1998, in connection
with our issuance of 1,000,000,000 5.20% Notes due 2005 (the
"5.20% Notes") (Exhibit 4.1 to our Quarterly Report on Form
10-Q for the quarter ended June 30, 1998 (the "6-30-98
10-Q") (File No. 1-10551) and incorporated herein by
reference).
4.2 Subscription Agreement, dated June 22, 1998, in connection
with our issuance of the 5.20% notes (Exhibit 4.2 to our
6-30-98 10-Q and incorporated by herein reference).
4.3 Deed of Covenant, dated June 24, 1998, in connection with
our issuance of the 5.20% notes (Exhibit 4.3 to the 6-30-98
10-Q and incorporated herein by reference).
4.4 Indenture, dated February 7, 2001, between JPMorgan Chase
Manhattan Bank, as trustee, and us in connection with our
issuance of $850,000,000 Liquid Yield Option Notes due 2031
(the "2031 Indenture") (Exhibit 4.1 to our Registration
Statement on Form S-3 Registration No. 333-55386) and
incorporated herein by reference).
4.5 Form of Liquid Yield Option Notes due 2031 (included in
Exhibit 4.4 above).
4.6 First Supplemental Indenture to the 2031 Indenture, dated as
of February 13, 2004, among us, Omnicom Capital Inc.,
Omnicom Finance Inc. and JPMorgan Chase Bank (Exhibit 4.3 to
our Registration Statement on Form S-3 (Registration No.
112840) and incorporated herein by reference).
4.7 Second Supplemental Indenture to the 2031 Indenture, dated
November 4, 2004, among Omnicom Group Inc., Omnicom Capital
Inc., Omnicom Finance Inc. and JPMorgan Chase Bank, as
trustee, to the 2031 Indenture, as amended by the First
Supplemental Indenture to the 2031 Indenture, dated February
13, 2004 (Exhibit 4.2 to our Quarterly Report on Form 10-Q
for the quarter ended September 30, 2004 (the "9-30-04
10-Q") and incorporated herein by reference).
4.8 Third Supplemental Indenture to the 2031 Indenture, dated
November 30, 2004, among us, Omnicom Capital Inc., Omnicom
Finance Inc., and JP Morgan Chase Bank, N.S., as trustee,
26
to the 2031 Indenture, as amended by the First Supplemental
Indenture to the 2031 Indenture dated February 13, 2004, and
the Second Supplemental Indenture to the 2031 Supplemental
Indenture dated November 4, 2004 (Exhibit 4.1 to the Form
8-K (Registration No. 1-10551) dated November 30, 2004 and
incorporated herein by reference).
4.9 Indenture, dated March 6, 2002, between JPMorgan Chase Bank
as trustee and us in connection with our issuance of
$900,000,000 Zero Coupon Zero Yield Convertible notes due
2032 (the "2032 Indenture") (Exhibit 4.6 to our Annual
Report on Form 10-K for the year ended December 31, 2001 and
incorporated by reference).
4.10 Form of Zero Coupon Zero Yield Convertible Notes due 2032
(included in Exhibit 4.7).
4.11 First Supplemental Indenture to the 2032 Indenture, dated as
of February 13, 2004, among us, Omnicom Capital Inc.,
Omnicom Finance Inc. and JPMorgan Chase Bank (Exhibit 4.3 to
our Registration Statement on Form S-3 (Registration No.
112841) and incorporated herein by reference).
4.12 Second Supplemental Indenture to the 2032 Indenture, dated
August 12, 2004, among us, Omnicom Capital Inc., Omnicom
Finance Inc., and JPMorgan Chase Bank, as trustee, to the
2032 Indenture, as amended by the First Supplemental
Indenture to the 2032 Indenture, dated February 13, 2004
(Exhibit 4.1 to our 9-30-04 10-Q and incorporated herein by
reference).
4.13 Third Supplemental Indenture to the 2032 Indenture, dated
November 4, 2003, among us, Omnicom Capital Inc., Omnicom
Finance Inc. and JPMorgan Chase Bank, as trustee, to the
2032 Indenture, as amended by the First Supplemental
Indenture to the 2032 Indenture, dated as of February 13,
2004, and the Second Supplemental Indenture to the 2032
Indenture, dated August 12, 2004 (Exhibit 4.3 to our 9-30-04
10-Q and incorporated herein by reference).
4.14 Indenture, dated as of June 30, 2003, between JPMorgan Chase
Bank, as trustee, and us in connection with our issuance of
$600,000,000 Zero Coupon Zero Yield Convertible Notes due
2033 (the "2033 Indenture") (Exhibit 4.1 to our Registration
Statement on Form S-3 (Registration No. 333-108611) and
incorporated herein by reference).
4.15 Form of the Zero Coupon Zero Yield Convertible Notes due
2033 (included in Exhibit 4.11 above).
4.16 First Supplemental Indenture, to the 2033 Indenture, dated
as of November 5, 2003, among us, Omnicom Capital Inc.,
Omnicom Finance Inc. and JPMorgan Chase Bank, as trustee,
(Exhibit 4.4 to our Registration Statement on Form S-3
(Registration No. 333-108611) and incorporated by
reference).
4.17 Second Supplemental Indenture to the 2033 Indenture, dated
as of November 4, 2004, among us, Omnicom Capital Inc.,
Omnicom Finance Inc. and JPMorgan Chase Bank, as trustee, as
amended by the First Supplemental Indenture to the 2033
Indenture, dated November 5, 2003 (Exhibit 4.4 to our
9-30-04 10-Q and incorporated herein by reference).
4.18 Third Supplemental Indenture to the 2033 Indenture, dated
November 10, 2004, among us, Omnicom Capital Inc., Omnicom
Finance Inc. and JPMorgan Chase Bank, as trustee, to the
2033 Indenture, as amended by the First Supplemental
Indenture to the 2033 Indenture, dated November 5, 2003, and
the Second Supplemental Indenture to the 2033 Indenture
dated November 4, 2004 (Exhibit 4.1 to the Form 8-K
(Registration No. 1-10551) dated November 10, 2004 and
incorporated herein by reference).
10.1 364-day Credit Agreement, dated May 24, 2004, among Omnicom
Group Inc., Omnicom Capital Inc., Omnicom Finance PLC, the
financial institutions party thereto, Citibank, N.A., as
administrative agent, ABN Amro Bank N.V., as syndication
agent and JPMorgan Chase Bank and HSBC Bank USA as
co-documentation agents (Exhibit 10.1 to our Quarterly
Report on Form 10-Q for the quarter ended June 30, 2004 (the
"6-30-04 10-Q") and incorporated herein by reference).
10.2 5-year Credit Agreement, dated May 24, 2004, among Omnicom
Group Inc., Omnicom Capital Inc., Omnicom Finance PLC, the
financial institutions party thereto, Citibank, N.A., as
administrative agent, ABN Amro Bank N.V., as syndication
agent and JPMorgan Chase Bank and HSBC Bank USA as
co-documentation agents (Exhibit 10.2 to our 6-30-04 10-Q
and incorporated herein by reference).
27
10.3 Amended and Restated 1998 Incentive Compensation Plan
(Exhibit B to our Proxy Statement filed on April 10, 2000
and incorporated herein by reference).
10.4 Director Equity Plan for Non-employee Directors (Appendix B
to our Proxy Statement filed on April 23, 2004 and
incorporated herein by reference).
10.5 Standard form of our Executive Salary Continuation Plan
Agreement (Exhibit 10.24 to our Annual Report on Form 10-K
for the year ended December 31, 1998 and incorporated herein
by reference).
10.6 Standard form of the Director Indemnification Agreement
(Exhibit 10.25 to our Annual Report on Form 10-K for the
year ended December 31, 1989 and incorporated herein by
reference).
10.7 Long-Term Shareholder Value Plan (Exhibit 4.4 to our
Registration Statement on Form S-8 (Registration No.
333-84498) and incorporated herein by reference).
10.8 Executive Salary Continuation Plan Agreement -- Thomas
Harrison (Exhibit 10.7A to our Quarterly Report on Form 10-Q
for the quarter ended June 30, 2002 (the "6-30-02 10-Q") and
incorporated herein by reference).
10.9 Executive Salary Continuation Plan Agreement -- Peter Mead
(Exhibit 10.7B to our 6-30-02 10-Q and incorporated herein
by reference).
10.10 Executive Salary Continuation Plan Agreement -- John Wren
(Exhibit 10.7E to our 6-30-02 10-Q and incorporated herein
by reference).
10.11 Equity Incentive Plan (Exhibit 4.3 to our Registration
Statement on Form S-8 dated August 18, 2003 (File No.
333-108063) and incorporated herein by reference).
10.12 Executive Salary Continuation Plan Agreement -- Kenneth R.
Kaess (Exhibit 10.3 to our 6-30-04 10-Q and incorporated
herein by reference).
10.13 Restricted Stock Plan for Non-employee Directors (Exhibit
10.10 to our Annual Report on Form 10-K for the year ended
December 31, 1999 and incorporated herein by reference).
12.1 Ratio of Earnings to Fixed Charges.
21.1 Subsidiaries of the Registrant.
23.1 Consent of KPMG LLP.
31.1 Certification of Chief Executive Officer and President
required by Rule 13a-14(a) under the Securities Exchange Act
of 1934, as amended.
31.2 Certification of Executive Vice President and Chief
Financial Officer required by Rule 13a-14(a) under the
Securities Exchange Act of 1934, as amended.
32.1 Certification of the Chief Executive Officer and President
and the Executive Vice President and Chief Financial Officer
required by Rule 13a-14(b) under the Securities Exchange Act
of 1934, as amended, and 18 U.S.C ss.1350.
28
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
OMNICOM GROUP INC.
March 11, 2005
BY: /S/ RANDALL J. WEISENBURGER
--------------------------------
Randall J. Weisenburger
Executive Vice President and
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ BRUCE CRAWFORD Chairman and Director March 11, 2005
- -------------------------------
(Bruce Crawford)
/s/ JOHN D. WREN Chief Executive Officer March 11, 2005
- ------------------------------- and President and Director
(John D. Wren)
/s/ RANDALL J. WEISENBURGER Executive Vice President and March 11, 2005
- ------------------------------- Chief Financial Officer
(Randall J. Weisenburger)
/s/ PHILIP J. ANGELASTRO Senior Vice President Finance March 11, 2005
- ------------------------------- and Controller
(Philip J. Angelastro) (Principal Accounting Officer)
/s/ ROBERT CHARLES CLARK Director March 11, 2005
- -------------------------------
(Robert Charles Clark)
/s/ LEONARD S. COLEMAN, JR. Director March 11, 2005
- -------------------------------
(Leonard S. Coleman, Jr.)
/s/ ERROL M. COOK Director March 11, 2005
- -------------------------------
(Errol M. Cook)
/s/ SUSAN S. DENISON Director March 11, 2005
- -------------------------------
(Susan S. Denison)
/s/ MICHAEL A. HENNING Director March 11, 2005
- -------------------------------
(Michael A. Henning)
/s/ JOHN R. MURPHY Director March 11, 2005
- -------------------------------
(John R. Murphy)
/s/ JOHN R. PURCELL Director March 11, 2005
- -------------------------------
(John R. Purcell)
/s/ LINDA JOHNSON RICE Director March 11, 2005
- -------------------------------
(Linda Johnson Rice)
/s/ GARY L. ROUBOS Director March 11, 2005
- -------------------------------
(Gary L. Roubos)
29
[This page intentionally left blank]
MANAGEMENT REPORT ON INTERNAL CONTROLS OVER FINANCIAL REPORTING
Management is responsible for the preparation of Omnicom's consolidated
financial statements and related information. Management uses its best judgment
to ensure that the consolidated financial statements present fairly, in all
material respects, Omnicom's consolidated financial position and results of
operations in conformity with Generally Accepted Accounting Principles.
The financial statements have been audited by an independent registered
public accounting firm in accordance with the standards of the Public Company
Accounting Oversight Board. Their report expresses the independent accountant's
judgment as to the fairness of management's reported operating results, cash
flows and financial position. This judgment is based on the procedures described
in the second paragraph of their report.
Omnicom management is responsible for establishing and maintaining
adequate internal control over financial reporting, as such term is defined in
Exchange Act Rules 13a-15(f). Under the supervision of management and with the
participation of our agencies, we conducted an evaluation of the effectiveness
of our internal control over financial reporting based on the framework in
Internal Control -- Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission published in 1987. Based on that
evaluation, our management concluded that our internal control over financial
reporting was effective as of December 31, 2004. KPMG, LLP, an independent
registered public accounting firm, that audited our consolidated financial
statements included in this Annual Report on Form 10-K, has issued an
attestation report on management's assessment of Omnicom's internal control over
financial reporting.
The Board of Directors of Omnicom has an Audit Committee comprised of four
non-management directors. The Committee meets periodically with financial
management, Internal Audit, and the independent auditors to review accounting,
control, audit and financial reporting matters.
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
of Omnicom Group Inc.:
We have audited the accompanying consolidated balance sheets of Omnicom
Group Inc. and subsidiaries as of December 31, 2004 and 2003, and the related
consolidated statements of income, shareholders' equity and cash flows for each
of the years in the three-year period ended December 31, 2004. In connection
with our audits of the consolidated financial statements, we also have audited
the related financial statement schedules. These consolidated financial
statements and financial statement schedules are the responsibility of Omnicom
Group Inc.'s management. Our responsibility is to express an opinion on these
consolidated financial statements and financial statement schedules based on our
audits.
We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Omnicom
Group Inc. and subsidiaries as of December 31, 2004 and 2003, and the results of
their operations and their cash flows for each of the years in the three-year
period ended December 31, 2004, in conformity with U.S. generally accepted
accounting principles. Also in our opinion, the related financial statement
schedules on page S-1, when considered in relation to the basic consolidated
financial statements taken as a whole, present fairly, in all material respects,
the information set forth therein.
We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the effectiveness of Omnicom
Group Inc.'s internal control over financial reporting as of December 31, 2004,
based on criteria established in Internal Control-Integrated Framework issued by
the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and
our report dated March 11, 2005 expressed an unqualified opinion on management's
assessment of, and the effective operation of, internal control over financial
reporting.
As discussed in Note 13 to the consolidated financial statements, Omnicom
Group Inc. adopted SFAS No. 123, "Accounting for Stock-Based Compensation," as
amended by SFAS No. 148, "Accounting for Stock-Based Compensation -- Transition
and Disclosure," an amendment of SFAS No. 123.
/s/ KPMG LLP
New York, New York
March 11, 2005
F-2
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
of Omnicom Group Inc.:
We have audited management's assessment, included in the accompanying
management report, that Omnicom Group Inc. maintained effective internal control
over financial reporting as of December 31, 2004, based on criteria established
in Internal Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). Omnicom Group Inc.'s management
is responsible for maintaining effective internal control over financial
reporting and for its assessment of the effectiveness of internal control over
financial reporting. Our responsibility is to express an opinion on management's
assessment and an opinion on the effectiveness of Omnicom Group Inc.'s internal
control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether
effective internal control over financial reporting was maintained in all
material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating management's assessment, testing
and evaluating the design and operating effectiveness of internal control, and
performing such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable basis for our
opinion.
A company's internal control over financial reporting is a process
designed to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles. A company's internal
control over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately and
fairly reflect the transactions and dispositions of the assets of the company;
(2) provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's
assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also, projections of any
evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the
degree of compliance with the policies or procedures may deteriorate.
In our opinion, management's assessment that Omnicom Group Inc. maintained
effective internal control over financial reporting as of December 31, 2004, is
fairly stated, in all material respects, based on criteria established in
Internal Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). Also, in our opinion, Omnicom
Group Inc. maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2004, based on criteria established in
Internal Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO).
We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated balance
sheets of Omnicom Group Inc. and subsidiaries as of December 31, 2004 and 2003,
and the related consolidated statements of income, shareholders' equity and cash
flows for each of the years in the three-year period ended December 31, 2004,
and our report dated March 11, 2005 expressed an unqualified opinion on those
consolidated financial statements.
/s/ KPMG LLP
New York, New York
March 11, 2005
F-3
OMNICOM GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31,
(Dollars in Millions
Except Per Share Data)
--------------------------------------
2004 2003 2002
--------- --------- ---------
REVENUE .............................. $ 9,747.2 $ 8,621.4 $ 7,536.3
OPERATING EXPENSES:
Salary and service costs .......... 6,846.8 5,911.8 5,071.9
Office and general expenses ....... 1,685.0 1,617.7 1,479.3
--------- --------- ---------
8,531.8 7,529.5 6,551.2
--------- --------- ---------
OPERATING PROFIT ..................... 1,215.4 1,091.9 985.1
NET INTEREST EXPENSE:
Interest expense .................. 51.1 57.9 45.5
Interest income ................... (14.5) (15.1) (15.0)
--------- --------- ---------
36.6 42.8 30.5
--------- --------- ---------
INCOME BEFORE INCOME TAXES ........... 1,178.8 1,049.1 954.6
INCOME TAXES ......................... 396.3 353.0 329.6
--------- --------- ---------
INCOME AFTER INCOME TAXES ............ 782.5 696.1 625.0
EQUITY IN EARNINGS OF AFFILIATES ..... 17.1 15.1 13.8
MINORITY INTERESTS ................... (76.1) (80.2) (68.3)
--------- --------- ---------
NET INCOME ........................... $ 723.5 $ 631.0 $ 570.5
========= ========= =========
NET INCOME PER COMMON SHARE:
Basic ............................. $ 3.90 $ 3.37 $ 3.07
Diluted ........................... $ 3.88 $ 3.37 $ 3.07
The accompanying notes to the consolidated financial statements are an integral
part of these statements.
F-4
OMNICOM GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31,
(Dollars in Millions)
----------------------
2004 2003
--------- ---------
A S S E T S
CURRENT ASSETS:
Cash and cash equivalents ......................... $ 1,165.6 $ 1,243.5
Short-term investments at market, which
approximates cost .............................. 574.0 305.4
Accounts receivable, less allowance for
doubtful accounts of $67.8 and $69.7 ........... 4,916.7 4,530.0
Billable production orders in process, at cost .... 536.6 440.4
Prepaid expenses and other current assets ......... 902.2 766.6
--------- ---------
Total Current Assets .............................. 8,095.1 7,285.9
--------- ---------
FURNITURE, EQUIPMENT AND LEASEHOLD IMPROVEMENTS,
at cost, less accumulated depreciation and
amortization of $909.8 and $817.1 ................. 636.4 596.8
INVESTMENTS IN AFFILIATES ............................ 162.9 151.2
GOODWILL ............................................. 6,411.4 5,886.2
INTANGIBLES, net of accumulated amortization
of $164.7 and $127.8 .............................. 110.0 121.4
DEFERRED TAX BENEFITS ................................ 303.4 264.7
OTHER ASSETS ......................................... 283.2 313.8
--------- ---------
TOTAL ASSETS ...................................... $16,002.4 $14,620.0
========= =========
L I A B I L I T I E S A N D S H A R E H O L D E R S' E Q U I T Y
CURRENT LIABILITIES:
Accounts payable .................................. $ 6,011.5 $ 5,513.3
Advance billings .................................. 874.0 775.2
Current portion of long-term debt ................. 209.2 12.4
Bank loans ........................................ 17.5 42.4
Accrued taxes ..................................... 217.0 221.7
Other liabilities ................................. 1,414.7 1,197.5
--------- ---------
Total Current Liabilities ......................... 8,743.9 7,762.5
--------- ---------
LONG-TERM DEBT ....................................... 19.1 197.3
CONVERTIBLE NOTES .................................... 2,339.3 2,339.3
DEFERRED COMPENSATION AND OTHER LIABILITIES .......... 309.1 326.5
LONG TERM DEFERRED TAX LIABILITY ..................... 317.4 204.1
MINORITY INTERESTS ................................... 194.9 187.3
SHAREHOLDERS' EQUITY
Preferred stock, $1.00 par value, 7,500,000
shares authorized, none issued
Common stock, $0.15 par value, 1,000,000,000
shares authorized, 198,636,936
and 198,663,916 shares issued in 2004
and 2003, respectively ......................... 29.8 29.8
Additional paid-in capital ........................ 1,824.5 1,832.0
Retained earnings ................................. 2,975.4 2,419.1
Unamortized restricted stock ...................... (178.9) (216.4)
Accumulated other comprehensive income ............ 268.5 109.7
Treasury stock, at cost, 11,561,622 and
8,239,072 shares in 2004 and 2003,
respectively ................................... (840.6) (571.2)
--------- ---------
Total Shareholders' Equity ........................ 4,078.7 3,603.0
--------- ---------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY ........ $16,002.4 $14,620.0
========= =========
The accompanying notes to the consolidated financial statements are an integral
part of these statements.
F-5
OMNICOM GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Three Years Ended December 31, 2004
(Dollars in Millions)
Accumulated Total
Common Stock Additional Other Share-
Comprehensive ------------------- Paid-in Retained Unamortized Comprehensive Treasury holders'
Income Shares Par Value Capital Earnings Stock (Loss) Income Stock Equity
------------- ------ --------- ---------- -------- ----------- ------------- -------- -------
Balance December 31, 2001 ...... 198,669,254 $ 29.8 $1,781.9 $1,516.2 $(334.5) $(295.4) $ (450.3) $2,247.7
Comprehensive Income:
Net Income ................... $ 570.5 570.5 570.5
Translation adjustments,
net of taxes of $(91.8) .... 141.2 141.2 141.2
--------
Comprehensive income ........... 711.7
========
Dividends Declared ............. (148.8) (148.8)
Amortization of stock-based
compensation ................. 173.5 173.5
Shares transactions under
employee stock plans ......... 89.0 (131.3) 89.7 47.4
Shares issued for acquisitions . (1.3) 22.8 21.5
Purchase of treasury shares .... (371.7) (371.7)
Cancellation of shares ......... (68,363) (4.7) 4.7 --
----------- ------- -------- -------- ------- ------- -------- --------
Balance December 31, 2002 ...... 198,600,891 29.8 1,864.9 1,937.9 (292.3) (154.2) (704.8) 2,681.3
Comprehensive Income:
Net Income ................... 631.0 631.0 631.0
Translation adjustments,
net of taxes of $(142.1) ... 263.9 263.9 263.9
--------
Comprehensive income ........... 894.9
========
Dividends Declared ............. (149.8) (149.8)
Amortization of stock-based
compensation ................. 133.1 133.1
Shares transactions under
employee stock plans ......... (35.6) (57.2) 146.0 53.2
Shares issued for acquisitions . 79,940 4.9 11.3 16.2
Purchase of treasury shares .... (25.9) (25.9)
Cancellation of shares ......... (16,915) (2.2) 2.2 --
----------- ------- -------- -------- ------- ------- -------- --------
Balance December 31, 2003 ...... 198,663,916 29.8 1,832.0 2,419.1 (216.4) 109.7 (571.2) 3,603.0
Comprehensive Income:
Net Income ................... 723.5 723.5 723.5
Translation adjustments,
net of taxes of $(85.5) .... 158.8 158.8 158.8
--------
Comprehensive income ........... $ 882.3
========
Dividends Declared ............. (167.2) (167.2)
Amortization of stock-based
compensation ................. 117.2 117.2
Shares transactions under
employee stock plans ......... (6.1) (79.7) 170.7 84.9
Shares issued for acquisitions . 0.5 4.5 5.0
Purchase of treasury shares .... (446.5) (446.5)
Cancellation of shares ......... (26,980) (1.9) 1.9 --
----------- ------- -------- -------- ------- ------- -------- --------
Balance December 31, 2004 ...... 198,636,936 $ 29.8 $1,824.5 $2,975.4 $(178.9) $ 268.5 $ (840.6) $4,078.7
=========== ======= ======== ======== ======= ======= ======== ========
The accompanying notes to the consolidated financial statements are an integral
part of these statements.
F-6
OMNICOM GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
(Dollars in Millions)
--------------------------------
2004 2003 2002
-------- -------- --------
Cash Flows from Operating Activities:
Net income ................................. $ 723.5 $ 631.0 $ 570.5
Adjustments to reconcile net income
to net cash provided by operating
activities:
Depreciation of tangible assets .... 130.4 124.4 120.0
Amortization of intangible assets .. 41.7 36.5 30.3
Minority interests ................. 76.1 80.2 68.3
Earnings of affiliates less than
dividends received ............... (3.2) 0.8 3.4
Net gain on investment activity .... (13.1) -- --
Tax benefit on employee stock plans 26.2 15.7 14.3
Provisions for losses on accounts
receivable ....................... 19.3 12.9 21.8
Amortization of stock compensation . 117.2 133.1 173.5
Changes in assets and liabilities
providing (requiring) cash net of
acquisitions:
(Increase) decrease in accounts
receivable ....................... (219.1) (207.7) 25.6
(Increase) decrease in billable
production orders in process ..... (83.6) (49.5) 34.0
(Increase) decrease in prepaid
expenses and other current assets (113.1) (116.8) 62.1
Net change in other assets and
liabilities ...................... 86.8 (50.6) (326.2)
Increase (decrease) in advanced
billings ......................... 73.7 91.8 (14.9)
Net increase (decrease) in accrued
and deferred taxes ............... 108.7 23.2 (35.1)
Increase in accounts payable ....... 316.1 329.2 253.0
-------- -------- --------
Net Cash Provided by Operating Activities .. 1,287.6 1,054.2 1,000.6
-------- -------- --------
Cash Flows from Investing Activities:
Capital expenditures .................... (159.7) (141.1) (117.2)
Payment for purchases of equity
interests in subsidiaries and
affiliates, net of cash acquired ..... (316.0) (410.0) (586.3)
Purchases of long-term investments ...... (24.5) -- --
Purchases of short-term investments ..... (1,431.2) (301.9) (15.9)
Proceeds from sales of short-term
investments ........................... 1,172.5 39.0 36.3
-------- -------- --------
Net Cash Used in Investing Activities ...... (758.9) (814.0) (683.1)
-------- -------- --------
Cash Flows From Financing Activities:
Net decrease in short-term borrowings ... (25.5) (15.6) (127.7)
Proceeds from issuance of debt .......... 8.3 796.3 900.0
Repayments of principal of long-term
debt obligations ...................... (15.3) (234.1) (339.9)
Dividends paid .......................... (163.1) (149.3) (148.4)
Purchase of treasury shares ............. (446.5) (25.9) (371.7)
Other, net .............................. (7.9) (16.8) (32.1)
-------- -------- --------
Net Cash (Used In ) Provided by
Financing Activities ..................... (650.0) 354.6 (119.8)
-------- -------- --------
Effect of exchange rate changes on
cash and cash equivalents ............. 43.4 (18.3) (2.9)
-------- -------- --------
Net (Decrease) Increase in Cash and
Cash Equivalents ......................... (77.9) 576.5 194.8
Cash and Cash Equivalents at
Beginning of Year ........................ 1,243.5 667.0 472.2
-------- -------- --------
Cash and Cash Equivalents at
End of Year .............................. $1,165.6 $1,243.5 $ 667.0
======== ======== ========
Supplemental Disclosures:
Income taxes paid ....................... $ 267.1 $ 344.0 $ 338.7
Interest paid ........................... $ 44.6 $ 56.9 $ 42.4
The accompanying notes to the consolidated financial statements are an integral
part of these statements.
F-7
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Principles of Consolidation. The accompanying consolidated financial
statements include the accounts of Omnicom Group Inc. and its domestic and
international subsidiaries. Intercompany balances and transactions have been
eliminated.
Revenue Recognition. Substantially all revenue is derived from fees for
services. Additionally, we earn commissions based upon the placement of
advertisements in various media. Revenue is realized when the service is
performed in accordance with the terms of each client arrangement and upon
completion of the earnings process. This includes when services are rendered,
upon presentation date for media, when costs are incurred for radio and
television production and when print production is completed and collection is
reasonably assured.
A small portion of our contractual arrangements with clients includes
performance incentive provisions which allow us to earn additional revenues as a
result of our performance relative to both quantitative and qualitative goals.
We recognize the incentive portion of revenue under these arrangements when
specific quantitative goals are achieved, or when performance against
qualitative goals is determined by our clients.
Our revenue recognition policies are in compliance with the Securities and
Exchange Commissions ("SEC") Staff Accounting Bulletin ("SAB") 101, "Revenue and
Recognition in Financial Statements" as updated by SAB 104, "Revenue
Recognition". SAB 101 and 104 summarize certain of the SEC staff's views in
applying generally accepted accounting principles to revenue recognition in
financial statements. Also, in July 2000, the Emerging Issues Task Force
("EITF") of the Financial Accounting Standards Board ("FASB") released Issue
99-19, "Reporting Revenue Gross as a Principal versus Net as an Agent". This
Issue summarized the EITF's views on when revenue should be recorded at the
gross amount billed because revenue has been earned from the sale of goods or
services, or the net amount retained because revenue has been earned from a fee
or commission. Additionally, in January 2002, the EITF released Issue 01-14,
Income Statement Characterization of Reimbursements Received for "Out-of-Pocket"
Expenses Incurred. This Issue summarized the EITF's views on when out-of-pocket
expenses should be characterized as revenue. Our revenue recognition policies
are in compliance with SAB 101, SAB 104, EITF 99-19 and EITF 01-14. In the
majority of our businesses, we act as an agent and record revenue equal to the
net amount retained, when the fee or commission is earned.
Billable Production. Billable production orders in process consist
principally of costs incurred on behalf of clients when providing advertising,
marketing and corporate communications services to clients. Such amounts are
invoiced to clients at various times over the course of the production process.
Investments Available for Sale. Investments available for sale are
comprised of the following two categories of investments:
Short-term investments and time deposits with financial institutions
consist principally of investments made with our excess cash which we expect to
convert into cash in our current operating cycle, generally within one year.
Certain of these investments mature at par with maturities longer than one year,
however they are reset to par every 49 days or less, with any changes reflected
in our interest income. There are no realized gains or losses, or unrealized
gains or losses from these short-term investments because market approximates
cost. Therefore, they are classified as current assets.
Long-term investments are included in other assets in our balance sheet
and are comprised of minority ownership interests in certain marketing and
corporate communications services companies where we do not exercise significant
influence over the operating and financial policies of the investee. We account
for these investments under the cost method. We periodically evaluate our
cost-based investments to determine if there have been any other than temporary
declines in value. A variety of factors are considered when determining if a
decline in market value below book value is other than temporary, including,
among others, the financial condition and prospects of the investee, as well as
our investment intent.
F-8
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Cost-Based Investments. Cost-based long-term investments are primarily
comprised of preferred equity interests in non-public marketing and corporate
communications services companies where we do not exercise significant influence
over the operating and financial policies of the investee. These minority
interests are accounted for under the cost method and are included in other
assets in our balance sheet. These investments are periodically evaluated to
determine if there have been any other than temporary declines below book value.
A variety of factors are considered when determining if a decline in fair value
below book value is other than temporary, including, among others, the financial
condition and prospects of the investee, as well as our investment intent.
Equity Method Investments. The equity method is used to account for
investments in entities in which we have an ownership of less than 50% and have
significant influence over the operating and financial policies of the
affiliate. The excess of the cost of our ownership interest in the stock of
those affiliates over our share of the fair value of their net assets at the
acquisition date is recognized as goodwill and included in the carrying amount
of our investment. Subsequent to the adoption of SFAS 142, equity method
goodwill is not amortized. We periodically evaluate these investments to
determine if there have been any other than temporary declines below book value.
A variety of factors are considered when determining if a decline in fair value
below book value is other than temporary, including, among others, the financial
condition and prospects of the investee, as well as our investment intent.
Treasury Stock. We account for treasury share purchases at cost. The
reissuance of treasury shares is accounted for at the average cost. Gains or
losses on the reissuance of treasury shares are accounted for as additional
paid-in capital and do not affect reported results of operations.
Foreign Currency Translation. Our financial statements were prepared in
accordance with the requirements of Statement of Financial Accounting Standards
("SFAS") No. 52, "Foreign Currency Translation". All of our foreign subsidiaries
use their local currency as their functional currency in accordance with SFAS
52. Accordingly, the currency impacts of the translation of the balance sheets
of our foreign subsidiaries to U.S. dollar statements are included as
translation adjustments in other accumulated comprehensive income. The income
statements of foreign subsidiaries are translated at average exchange rates for
the year. Net foreign currency transaction gains included in pre-tax income were
$2.6 million in 2004, $4.7 million in 2003 and $0.6 million in 2002.
Earnings Per Common Share. Basic earnings per share is based upon the
weighted average number of common shares outstanding during each year. Diluted
earnings per share is based on the above, plus, if dilutive, common share
equivalents which include outstanding options and restricted shares. For
purposes of computing diluted earnings per share for the years ended December
31, 2004, 2003 and 2002, respectively, 863,200, 297,900 and 151,000 shares were
assumed to have been outstanding related to common share equivalents.
Additionally, the assumed increase in net income related to the after tax
compensation expense related to dividends on restricted shares used in the
computations was $1.3 million, $1.1 million and $1.0 million for the years ended
December 31, 2004, 2003 and 2002, respectively. The number of shares used in the
computations were as follows:
2004 2003 2002
----------- ----------- -----------
Basic EPS computation ...... 185,724,200 187,258,200 186,093,600
Diluted EPS computation .... 186,587,400 187,556,100 186,244,600
Gains and Losses on Issuance of Stock in Affiliates and Subsidiaries.
Gains and losses on the issuance of stock in equity method affiliates and
consolidated subsidiaries are recognized directly in our shareholders' equity
through an increase or decrease to additional paid-in capital in the period in
which the sale occurs and do not affect reported results of operations.
Salary Continuation Agreements. Arrangements with certain present and
former employees provide for continuing payments for periods up to 10 years
after cessation of their full-time employment in consideration for agreements by
the employee not to compete with us and to render consulting services during the
post-employment period. Such payments, the amounts of which are also subject to
certain limitations, including our operating performance during the
post-employment period, represent the fair value of the services rendered and
are expensed in such periods.
F-9
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Depreciation of Furniture and Equipment and Amortization of Leasehold
Improvements. Depreciation charges are computed on a straight-line basis over
the estimated useful lives of furniture of seven to ten years and equipment of
three to five years. Leasehold improvements are amortized on a straight-line
basis over the lesser of the terms of the related lease or the estimated useful
life of these assets.
Goodwill and Other Intangibles. In accordance with SFAS 142, "Goodwill and
Other Intangible Assets", goodwill acquired resulting from a business
combination is not amortized, but is periodically tested for impairment.
Additionally, in accordance with SFAS 141, "Business Combinations", we allocate
the cost of an acquired entity to the assets acquired and liabilities assumed
based on their estimated fair values including other identifiable intangible
assets, as applicable, primarily customer relationships and trade names.
Information about acquisitions can be found in note 2.
Under SFAS 142, we no longer amortize goodwill and intangible assets with
indefinite lives and we are required to perform an annual impairment test on
goodwill balances and intangible assets with indefinite lives. In performing
this impairment test, SFAS 142 requires that we: identify the components of our
operating segments that are reporting units and their respective carrying value;
estimate the fair value of the reporting units; and compare the fair value to
the carrying value of the reporting units to determine if there is a potential
impairment. If there is a potential impairment, SFAS 142 requires that
additional analysis be performed to determine the amount of the impairment, if
any, to be recorded.
In accordance with paragraph 30 of SFAS 142, we identified our regional
reporting units as components of our operating segments, which are our four
agency networks. The regional reporting units are responsible for the agencies
in their region. They report to the segment managers and facilitate the
administrative and logistical requirements of our client-centric strategy for
delivering services to clients in their regions. We then concluded that for each
of our operating segments, their regional reporting units had similar economic
characteristics and should be aggregated for purposes of testing goodwill for
impairment at the operating segment level. Our conclusion was based on a
detailed analysis of the aggregation criteria set forth in paragraph 17 of SFAS
131 and the guidance set forth in EITF D-101: Clarification of Reporting Unit
Guidance in Paragraph 30 of FASB Statement No. 142. Consistent with the
fundamentals of our business strategy, the agencies within our regional
reporting units serve similar clients in similar industries, and in many cases
the same clients. In addition, the agencies within our regional reporting units
have similar economic characteristics, as the main economic components of each
agency are the salary and service costs associated with providing professional
services, the office and general costs associated with office space and
occupancy, and the provision of technology requirements which are generally
limited to personal computers, servers and off-the-shelf software. Finally, the
expected benefits of our acquisitions are typically shared across multiple
agencies and regions as they work together to integrate the acquired agency into
our client service strategy.
We perform our impairment test during the second quarter of each year. In
determining the fair value of our operating segments, we perform a discounted
cash flow analysis assuming the reporting units could be sold in a nontaxable
transaction between willing parties. When comparing the fair value of our
reporting units to their carrying value, we include deferred taxes in the
carrying value of each of our reporting units. We concluded, for each year
presented in the financial statements, that our goodwill was not impaired. We
plan on continuing to perform our impairment test during the second quarter of
each year unless certain events, as defined in SFAS 142, trigger the need for an
earlier evaluation for impairment.
Deferred Taxes. Deferred income taxes are provided for the temporary
difference between the financial reporting basis and tax basis of our assets and
liabilities. Deferred tax assets result principally from recording certain
expenses in the financial statements which are not currently deductible for tax
purposes, including employee stock-based compensation expense and from
differences between the tax and book basis of assets and liabilities recorded in
connection with acquisitions. Deferred tax liabilities result principally from
non-cash, unrealized financial statement gains associated with financial
instruments and investments, basis differences arising from investments and
tangible and deductible intangible assets, capital transactions and expenses
which are currently deductible for tax purposes, but have not yet been expensed
in the financial statements.
F-10
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Employee Stock Options. Options are accounted for in accordance with SFAS
No. 123, "Accounting for Stock-Based Compensation", as amended by SFAS No. 148,
"Accounting for Stock-Based Compensation -- Transition and Disclosure, an
amendment of FASB Statement No. 123". We elected, effective January 1, 2004, to
account for stock-based employee compensation using the fair value method. As a
result, the fair value of stock-based employee compensation, including unvested
employee stock options issued and outstanding, were recorded as an expense in
the current year utilizing the retroactive restatement method as set forth in
SFAS 148. Accordingly, our results for the prior years have been restated as if
we had used the fair value method to account for stock-based employee
compensation. Pre-tax stock-based employee compensation costs for the years
ended December 31, 2004, 2003, and 2002, were $117.2 million, $133.1 million and
$173.5 million, respectively. Also in connection with the restatement, our
December 31, 2003 balance sheet presented reflects an increase in the deferred
tax benefit of $120.5 million, an increase in additional paid-in capital of
$434.7 million, an increase in unamortized stock compensation of $92.6 million
and a decrease in retained earnings of $221.6 million. Information about our
specific awards and stock plans can be found in note 7.
In December 2004, the FASB issued SFAS No. 123 (Revised 2004) --
Share-Based Payment ("SFAS 123R") which is effective for reporting periods
beginning after June 15, 2005 and generally applies to grants made after
adoption. SFAS 123R is a revision of FASB No. 123, Accounting for Stock-Based
Compensation. As a result of our adoption of SFAS 123 on January 1, 2004, we
believe that the adoption of SFAS 123R will not have a material impact on our
consolidated results of operations or financial position. However, we are in the
process of assessing the full impact of this revision.
The table below presents a reconciliation of net income and earnings per
share, as reported, to the restated results for the years ended December 31,
2003 and 2002.
(Dollars in Millions,
Except Per Share Amounts)
-------------------------------
Earnings Per
Common Share
----------------
Net Income Basic Diluted
---------- ----- -------
As reported, year ended December 31, 2003 .... $675.9 $ 3.61 $ 3.59
Less fair value of stock options issued,
net of taxes ............................... 44.9 0.24 0.22
------ ------ ------
Restated, year ended December 31, 2003 ....... $631.0 $ 3.37 $ 3.37
====== ====== ======
As reported, year ended December 31, 2002 .... $643.5 $ 3.46 $ 3.44
Less fair value of stock options issued,
net of taxes ............................... 73.0 0.39 0.37
------ ------ ------
Restated, year ended December 31, 2002 ....... $570.5 $ 3.07 $ 3.07
====== ====== ======
Cash Flows. Our cash equivalents are primarily comprised of investments in
overnight interest-bearing deposits, commercial paper and money market
instruments and other short-term investments with original maturity dates of
three months or less at the time of purchase.
Concentration of Credit Risk. We provide marketing and corporate
communications services to thousands of clients who operate in nearly every
industry sector. We grant credit to qualified clients in the ordinary course of
business. Due to the diversified nature of our client base, we do not believe
that we are exposed to a concentration of credit risk as our largest client
accounted for 4.3% of our 2004 consolidated revenue and no other client
accounted for more than 2.8% of our 2004 consolidated revenue.
Derivative Financial Instruments. SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" establishes accounting and reporting
standards requiring that every derivative instrument (including certain
derivative instruments embedded in other contracts) be recorded in the balance
sheet as either an asset or liability measured at its fair value.
Our derivative financial instruments consist principally of forward
foreign exchange contracts and cross- currency interest rate swaps. For
derivative financial instruments to qualify for hedge accounting the following
criteria must be met: (1) the hedging instrument must be designated as a hedge;
(2) the hedged exposure must
F-11
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
be specifically identifiable and expose us to risk; and (3) it must be highly
probable that a change in fair value of the derivative financial instrument and
an opposite change in the fair value of the hedged exposure will have a high
degree of correlation.
If the derivative is a hedge, depending on the nature of the hedge,
changes in the fair value of the derivative will either be offset against the
change in fair value of the hedged assets, liabilities or firm commitments
through earnings or recognized in other comprehensive income until the hedged
item is recognized in earnings. The ineffective portion of the change in fair
value of a derivative used as hedge is required to be immediately recognized in
the statement of income.
The majority of our activity relates to forward foreign exchange
contracts. We execute these contracts in the same currency as the hedged
exposure, whereby 100% correlation is achieved based on spot rates. Gains and
losses on derivative financial instruments which are hedges of foreign currency
assets or liabilities are recorded at market value and changes in market value
are recognized in the statement of income in the current period. Gains and
losses on derivative financial instruments which are hedges of net investments,
are recorded to accumulated comprehensive income as translation adjustments to
the extent of change in the spot exchange rate. The remaining difference is
recorded in the statement of income in the current period.
Use of Estimates. The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenue and expenses during
the reporting period. Actual results could differ from those estimates.
Reclassifications. Certain prior year amounts have been reclassified in
our balance sheet and statements of cash flow to conform with the 2004
presentation.
2. Acquisitions
During 2004, we completed seven acquisitions of new subsidiaries and made
additional investments in companies in which we already had an ownership
interest. In addition, we made contingent purchase price payments related to
acquisitions completed in prior years. The aggregate cost of these transactions,
including cash payments and the assumption of liabilities for 2004 was as
follows (dollars in millions):
New and existing subsidiaries ......................... $186.7
Contingent purchase price payments .................... 191.4
------
$378.1
======
Valuations of these companies were based on a number of factors, including
specialized know-how, reputation, geographic coverage, competitive position and
service offerings. Our acquisition strategy has been focused on acquiring the
expertise of an assembled workforce in order to continue to build upon the core
capabilities of our various strategic business platforms through the expansion
of their geographic reach and/or their service capabilities to better serve our
clients. Consistent with our acquisition strategy and past practice, most
acquisitions completed in 2004 included an initial payment at the time of
closing and provide for additional contingent purchase price payments.
Contingent payments for these transactions, as well as certain acquisitions
completed in prior years, are derived using the performance of the acquired
entity and are based on pre-determined formulas. These contingent purchase price
obligations are accrued when the contingency is resolved and payment is certain.
For each of our acquisitions we undertake a detailed review to identify
other intangible assets and a valuation is performed for all such assets
identified. Like most service businesses, a substantial portion of the
intangible asset value that we acquire is the know-how of the people, which is
treated as part of goodwill and is not required to be valued separately by SFAS
141. The majority of the value of the identifiable intangible assets that we
acquire is derived from customer relationships and the related customer
contracts. In executing our acquisition strategy, one of the primary drivers in
identifying and executing a specific transaction is the
F-12
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
existence of, or the ability to, expand our existing client relationships. When
executing our acquisition strategy, a significant portion of an acquired
company's revenues is often derived from existing clients. The expected benefits
of our acquisitions are typically shared across multiple agencies and regions.
As of December 31, 2004 and 2003, the components of our intangible assets
were as follows:
(Dollars in Millions)
----------------------------------------------------------------------------
December 31, 2004 December 31, 2003
---------------------------------- ---------------------------------
Gross Net Gross Net
Carry Accumulated Book Carry Accumulated Book
Value Amortization Value Value Amortization Value
----- ------------ ----- ----- ------------ -----
Intangible assets subject to
SFAS 142 impairment tests:
Goodwill ..................................... $7,016.8 $ 605.4 $6,411.4 $6,467.0 $ 580.8 $5,886.2
Other identifiable intangible
assets subject to amortization:
Purchased and internally
developed software ......................... 207.8 141.4 66.4 188.2 114.5 73.7
Customer related and other ................... 66.9 23.3 43.6 61.0 13.3 47.7
-------- -------- -------- -------- -------- --------
Total ........................................ $ 274.7 $ 164.7 $ 110.0 $ 249.2 $ 127.8 $ 121.4
======== ======== ======== ======== ======== ========
The other identifiable intangible assets are amortized on a straight-line
basis ranging from 5 to 10 years.
3. Bank Loans and Lines of Credit
Bank loans of $17.5 million and $42.4 million at December 31, 2004 and
2003, respectively, are primarily comprised of the bank overdrafts of our
international subsidiaries. These loans are treated as unsecured loans pursuant
to our bank agreements. The weighted average interest rate on these bank loans
as of December 31, 2004 and 2003 was 5.6% and 5.2%, respectively.
At December 31, 2004 and 2003, we had committed and uncommitted lines of
credit aggregating $2,401.9 million and $2,468.2 million, respectively. The
unused portion of these credit lines was $2,384.4 million and $2,425.8 million
at December 31, 2004 and 2003, respectively. The lines of credit, including the
credit facilities discussed below, are generally extended to us on terms that
the banks grant to borrowers with credit ratings similar to ours.
On May 24, 2004, we amended and extended our existing revolving credit
facilities with a consortium of banks, resulting in a five-year $1,500.0 million
revolving credit facility which matures May 24, 2009, and a $500.0 million
364-day revolving credit facility with a maturity date of May 23, 2005. These
facilities amended our previous three-year $835.0 million and $1,200.0 million,
364-day revolving credit facilities. The 364-day facility continues to include a
provision which allows us to convert all amounts outstanding at expiration of
the facility into a one-year term loan.
The bank consortium for our five-year and 364-day bank facilities consists
of 27 banks. Citibank N.A. acts as administrative agent, ABN Amro acts as
syndication agent and JPMorgan Chase Bank and HSBC Bank USA act as
co-documentation agents for the facilities. Other significant lending
institutions include Societe Generale, Bank of America, Wachovia and Sumitomo
Mitsui. These facilities provide us with the ability to classify up to $2.0
billion of our borrowings that could come due within one year as long-term debt,
when it is our intention to keep the borrowings outstanding on a long-term
basis.
These credit facilities provide support for our $1,500.0 million
commercial paper program. The gross amount of commercial paper issued and
redeemed under our commercial paper program during 2004 was $27.2 billion, with
an average term of 2.3 days. During 2003, $19.6 billion of commercial paper was
issued and redeemed with an average term of 5.9 days. As of December 31, 2004
and 2003, we had no commercial paper borrowings outstanding.
F-13
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
The credit facilities contain financial covenants limiting the ratio of
total consolidated indebtedness to total consolidated EBITDA (EBITDA for
purposes of this covenant being defined as earnings before interest, taxes,
depreciation and amortization) to no more than 3.0 times. In addition, we are
required to maintain a minimum ratio of EBITDA to interest expense of at least
5.0 times. At December 31, 2004, our ratio of debt to EBITDA was 1.9 times and
our ratio of EBITDA to interest expense was 27.1 times. We were in compliance
with these covenants.
4. Long-Term Debt and Convertible Notes
Long-term debt and convertible notes outstanding as of December 31, 2004
and 2003 consisted of the following:
(Dollars in Millions)
----------------------
2004 2003
--------- ---------
Euro 152.4 million 5.20% Euro Notes, due
June 24, 2005 ...................................... $ 206.6 $ 192.0
Other notes and loans at rates from 3.1% to 9.8%,
due through 2010 ................................... 21.7 17.7
--------- ---------
228.3 209.7
Less current portion ................................. 209.2 12.4
--------- ---------
Total long-term debt ............................... $ 19.1 $ 197.3
========= =========
Convertible notes -- due February 7, 2031 ............ 847.0 $ 847.0
Convertible notes -- due July 31, 2032 ............... 892.3 892.3
Convertible notes -- due June 15, 2033 ............... 600.0 600.0
--------- ---------
2,339.3 2,339.3
Less current portion ................................. -- --
--------- ---------
Total convertible notes ............................ $ 2,339.3 $ 2,339.3
========= =========
For the years ended December 31, 2004, 2003 and 2002, we incurred gross
interest expense on our borrowings of $51.1 million, $57.9 million and $45.5
million, respectively. Interest expense included $23.0 million, $28.1 million
and $2.6 million related to our convertible notes in 2004, 2003 and 2002,
respectively. In addition, interest expense relative to our (euro)152.4 million
Euro 5.20% notes was $10.4 million, $10.3 million and $8.1 million in 2004, 2003
and 2002, respectively. The remainder of our interest expense in these years was
related to our short-term borrowings.
The 2004 interest expense was impacted by the amortization of a portion of
the interest payments of $6.7 million and $24.5 million made in August of 2003
and 2004, respectively, related to our convertible notes due 2032, amortization
of a portion of the interest payment of $1.5 million made in November and
December of 2004 related to our convertible notes due 2033 and amortization of a
portion of the interest payment of $14.8 million made in November 2004 related
to our convertible notes due 2031. The 2003 interest expense was impacted by the
amortization of a portion of the interest payments of $25.4 million and $6.7
million made on February 21, 2003 and on August 6, 2003 to qualified noteholders
of our convertible notes due 2031 and 2032, respectively.
On June 24, 1998, we issued (euro)152.4 million 5.20% notes. The notes are
senior unsecured obligations of the Company. Unless previously redeemed, or
purchased and cancelled, the notes mature on June 24, 2005.
The $847.0 million aggregate principal amount of Liquid Yield Option notes
due February 7, 2031, were issued by us in February 2001. These notes are senior
unsecured zero-coupon securities that are convertible into 7.7 million common
shares, implying a conversion price of $110.01 per common share, subject to
normal anti-dilution adjustments. These notes are convertible at a specified
ratio only upon the occurrence of certain events, including if our common shares
trade above certain levels, if we effect extraordinary transactions or if our
long-term debt ratings are downgraded by at least two notches from their
December 31, 2004 level of A- to BBB or
F-14
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
lower by Standard & Poor's Ratings Services ("S&P"), or from their December 31,
2004 level of Baa1 to Baa3 or lower by Moody's Investors Services, Inc.
("Moody's"). These events would not, however, result in an adjustment of the
number of shares issuable upon conversion. Holders of these notes have the right
to put the notes back to us for cash in February of each year, beginning in
February 2006, and we have agreed not to redeem the notes for cash before
February 7, 2009. There are no events that accelerate the noteholders' put
rights. Beginning in February 2006, if the market price of our common shares
exceeds certain thresholds, we may be required to pay contingent cash interest.
The $892.3 million aggregate principal amount of Zero Coupon Zero Yield
Convertible Notes due July 31, 2032 were issued by us in March 2002. The notes
are senior unsecured zero-coupon securities that are convertible into 8.1
million common shares, implying a conversion price of $110.01 per common share,
subject to normal anti-dilution adjustments. These notes are convertible at a
specified ratio only upon the occurrence of certain events, including if our
common shares trade above certain levels, if we effect extraordinary
transactions or if our long-term debt ratings are downgraded at least two
notches from their December 31, 2004 level of A- to BBB or lower by S&P, or from
their December 31, 2004 level of Baa1 to Baa3 or lower by Moody's. These events
would not, however, result in an adjustment of the number of shares issuable
upon conversion. Holders of these notes have the right to put the notes back to
us for cash in August of each year and we have agreed not to redeem the notes
for cash before July 31, 2009. There are no events that accelerate the
noteholders' put rights. Beginning in August 2007, if the market price of our
common shares exceeds certain thresholds, we may be required to pay contingent
cash interest.
The $600.0 million aggregate principal amount of Zero Coupon Zero Yield
Convertible Notes due June 15, 2033, were issued by us in June 2003. The notes
are senior unsecured obligations that are convertible into 5.8 million common
shares, implying a conversion price of $103.00 per common share, subject to
normal anti-dilution adjustments. These notes are convertible at the specified
ratio only upon the occurrence of certain events, including if our common shares
trade above certain levels, if we effect extraordinary transactions or if our
long-term debt ratings are downgraded from their current level to Ba1 or lower
by Moody's or BBB- or lower by S&P. The occurrence of these events will not
result in an adjustment of the number of shares issuable upon conversion.
Holders of these notes have the right to put the notes back to us for cash on
June 15, 2006, 2008, 2010, 2013, 2018, 2023 and on each June 15 annually
thereafter through June 15, 2032 and we have a right to redeem the notes for
cash beginning on June 15, 2010. There are no events that accelerate the
noteholders' put rights. Beginning in June 2010, if the market price of our
common shares exceeds certain thresholds, we may be required to pay contingent
cash interest.
In August 2004, we amended the indenture to the Zero Coupon Zero Yield
Convertible Notes due 2032. In November 2004, we amended the indentures to the
Liquid Yield Option Notes due 2031 and the Zero Coupon Zero Yield Convertible
Notes due 2033. The amendments to all three indentures were similar with respect
to settlement of the notes on put or conversion. We amended the provisions
regarding payment to the noteholders in the event of a put. Previously, we could
satisfy the put obligation in cash, shares or a combination of both, at our
option. The amendments provide that we can only satisfy the put obligation in
cash. We also amended the provisions regarding payment to the noteholders in the
event the noteholders exercise their conversion right. Previously, we were
required to satisfy the conversion obligation of each note by delivering the
underlying number of shares, as adjusted, into which the note converts. The
amendments provide that the conversion obligation is equal to a conversion value
determined on the day of conversion, calculated by multiplying the share price
at the close of business on that day by the underlying number of shares into
which the note converts. We then satisfy the conversion value by paying the
initial principal amount of the note in cash and the balance of the conversion
value in cash or shares, at our option. At the same time we amended the
indenture provisions governing settlement on put or conversion, we also amended
the provisions of the Liquid Yield Option Notes due 2031 and the Zero Coupon
Zero Yield Convertible Notes due 2032 governing the payment of contingent cash
interest.
F-15
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Aggregate stated maturities of long-term debt and convertible notes are as
follows:
(Dollars in Millions)
---------------------
2005 .......................................... $ 209.2
2006 .......................................... 1.1
2007 .......................................... 0.9
2008 .......................................... 0.5
2009 .......................................... 0.5
2010 .......................................... 15.9
Thereafter .................................... 2,339.5
5. Segment Reporting
Our wholly and partially owned agencies operate within the advertising,
marketing and corporate communications services industry. These agencies are
organized into agency networks, virtual client networks, regional reporting
units and operating groups. Consistent with the fundamentals of our business
strategy, our agencies serve similar clients, in similar industries, and in many
cases the same clients across a variety of geographies. In addition, our agency
networks have similar economic characteristics and similar long-term operating
margins, as the main economic components of each agency are the salary and
service costs associated with providing professional services, the office and
general costs associated with office space and occupancy, and the provision of
technology requirements which are generally limited to personal computers,
servers and off-the-shelf software. Therefore, given these similarities and in
accordance with the provisions of SFAS 131 - Disclosures about Segments of an
Enterprise and Related Information, most specifically paragraph 17, we aggregate
our operating segments, which are our four agency networks, into one reporting
segment.
A summary of our revenue and long-lived assets by geographic area for the
years then ended, and as of December 31, 2004, 2003 and 2002 is presented below:
(Dollars in Millions)
----------------------------------------------------------------------------
United Euro United Other
States Denominated Kingdom International Consolidated
------ ----------- ------- ------------- ------------
2004
Revenue .......................... $5,223.4 $2,058.2 $1,085.0 $1,380.6 $9,747.2
Long-Lived Assets ................ 329.9 110.1 99.5 96.9 636.4
2003
Revenue .......................... $4,720.9 $1,789.9 $ 941.9 $1,168.7 $8,621.4
Long-Lived Assets ................ 309.2 98.4 95.6 93.6 596.8
2002
Revenue .......................... $4,284.6 $1,458.6 $ 814.1 $ 979.0 $7,536.3
Long-Lived Assets ................ 319.7 75.2 86.9 75.9 557.7
6. Equity and Cost Based Investments
We have investments in unconsolidated affiliated companies accounted for
under the equity method. The affiliated companies offer marketing and corporate
communications services similar to those offered by our operating companies. The
equity method is used when we own less than 50% of the common stock but exercise
significant influence over the operating and financial policies of the
affiliate. The following table summarizes the balance sheets and income
statements of our unconsolidated affiliates, as of December 31, 2004 and 2003
and for the years then ended:
(Dollars in Millions)
------------------------
2004 2003
------- -------
Total net assets ................... $ 176.4 $ 183.5
Gross revenue ...................... 472.4 493.2
Net income ......................... 37.7 46.9
F-16
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Our equity interest in the net income of these affiliated companies was
$17.1 million and $15.1 million for 2004 and 2003, respectively. Our equity
interest in the net assets of these affiliated companies was $108.2 million and
$96.0 million at December 31, 2004 and 2003, respectively. Owners of interests
in certain of our affiliated companies have the right in certain circumstances
to require us to purchase additional ownership stakes at fair value. The terms
of these rights vary for each arrangement and the ultimate amount payable in the
future also varies based upon the future earnings of the affiliated companies,
changes in the applicable foreign currency exchange rates and the timing of when
these rights are exercised.
Our cost based investments at December 31, 2004 were primarily comprised
of preferred interests representing equity interests of less than 20% in various
service companies. This method is used when we own less than a 20% equity
interest and do not exercise significant influence over the operating and
financial policies of the investee. The total cost basis of these investments,
which are included in other assets on our balance sheet, as of December 31, 2004
and 2003 was $41.8 million and $27.1million, respectively.
At December 31, 2003, we held a non-voting, non-participating preferred
stock interest in Seneca Investments LLC ("Seneca"). Seneca was initially formed
in 2001 from our contribution of Communicade, our subsidiary that conducted
e-services industry investment activities. All of Communicade's investments at
that time were comprised of minority interests in e-services industry
businesses. Upon Seneca's formation, the transaction was accounted for in
accordance with SFAS 140, Accounting for Transfers and Servicing Financial
Assets and Extinguishments of Liabilities, and resulted in no gain or loss being
recognized by us on Seneca's formation. The preferred stock was non-voting and
was entitled to dividends at a rate of 8.5%, compounded semi-annually and was
redeemable on the 10th anniversary of issuance or earlier upon the occurrence of
certain extraordinary events. No cash dividends were paid by Seneca or accrued
by us subsequent to Seneca's formation.
In December 2002, we acquired all of the common stock of Organic, Inc.
from Seneca. The transaction was effected by the redemption of $99.0 million of
the preferred stock and the assumption of $7.2 million of liabilities. In June
2003, we acquired all of the common stock of AGENCY.com from Seneca. The
transaction was effected by the redemption of $181.0 million of the preferred
stock and the assumption of $15.8 million of liabilities.
On Seneca's formation and for all subsequent periods, the fair value of
our investment in Seneca exceeded its carrying value. Because our preferred
stock did not have a conversion feature, we considered it similar to a debt
instrument where it is not probable that the contractual interest payments may
be collected as scheduled in the loan agreement. Accordingly, we applied the
cost-recovery method, in accordance with the provisions of SFAS 114 and SFAS 118
and we did not accrue any dividend income. Under the cost-recovery method,
investment income cannot be recorded until it is probable of realization.
Consequently, we did not record any investment income related to unpaid
dividends and in connection with the purchases of Organic, Inc. and AGENCY.com
from Seneca, we applied the redemption of our preferred stock against our
remaining carrying value of our investment such that at December 31, 2003, our
remaining carrying value was reduced to zero.
In March 2004, we exchanged our remaining shares of preferred stock in
Seneca for a $24.0 million senior secured note due in 2007 that bears interest
at a rate of 6.25% and 40% of Seneca's outstanding common stock which we are
accounting for under the equity method. The senior secured note is accounted for
in our other assets. The restructuring was proposed by the common stockholders
of Seneca because the expected value of the assets that remained in Seneca in
early 2004 was insufficient to fund the preferred dividends that had accrued to
that date and were expected to accrue prior to potential realization events in
the future. The restructuring re-aligned the incentives of the common
shareholders with ours because it provided them with additional incentives to
maximize the value of the Seneca assets and to monetize the assets on an
accelerated basis. The exchange was accounted for at fair value in accordance
with EITF 98-3 and we recorded a net pre-tax gain of $24.0 million.
The $24.0 million pre-tax gain, which was included in operating income,
was partially offset by losses of $10.9 million from other investment activity
unrelated to Seneca.
F-17
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
In January 2005, we received a distribution of $5.2 million from Seneca
which was applied against the senior secured note reducing the outstanding
principal to $20.0 million.
7. Employee Stock Plans
Our equity incentive compensation plan was adopted in 2002 ("Equity
Incentive Plan"). Under the Equity Incentive Plan, 9.2 million common shares are
reserved for options and other awards, of which 3.3 million were for restricted
stock awards. Pursuant to the Equity Incentive Plan, the exercise price of
options awarded may not be less than 100% of the market price of the stock at
the date of grant and the option term cannot be longer than seven years from the
date of grant. The terms of each option and the times at which each option will
be exercisable will be determined by the Compensation Committee of the Board of
Directors. It is anticipated that the full vesting period for options will be no
shorter than three years. Current year option grants become exercisable 30% on
each of the first two anniversary dates of the grant date with the final 40%
becoming exercisable three years from the grant date.
Our prior incentive compensation plan was adopted in 1998 ("1998 Plan")
and amended in 2000. As a result of the adoption of the Equity Incentive Plan
during 2002, no new awards may be granted under Omnicom's 1998 Plan, except with
respect to shares relating to awards that are forfeited or cancelled. Pursuant
to the 1998 Plan, the exercise price of options awarded may not be less than
100% of the market price of the stock at the date of grant. Options become
exercisable 30% on each of the first two anniversary dates of the grant date
with the final 40% becoming exercisable three years from the grant date.
Under the terms of our long-term shareholder value plan ("LTSV Plan"),
common shares were reserved for option awards to key employees of the Company at
an exercise price that is no less than 100% of the market price of the stock at
the date of the grant. The options become exercisable after the sixth
anniversary date of grant. The options can become exercisable prior to this
anniversary date in increments of one-third if the market value for the
Company's common stock increases compared to the market price on the date of
grant by at least 50%, 75% and 100%, respectively. As a result of the adoption
of the Equity Incentive Plan during 2002, no new awards may be granted under
Omnicom's LTSV Plan.
Options included under all prior incentive compensation plans, all of
which were approved by our shareholders, for the past three years are:
2004 2003 2002
-------------------- -------------------- --------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------ -------- ------ -------- ------ --------
Shares under option, beginning of year ......... 18,677,095 $70.62 19,157,495 $69.83 17,743,823 $66.30
Options granted under:
1998 Plan ..................................... -- -- -- -- 2,289,607 91.82
LTSV Plan ..................................... -- -- -- -- -- --
Equity Incentive Plan ......................... 50,000 77.37 617,500 47.85 28,149 60.39
Options exercised .............................. (1,376,837) 40.52 (899,943) 38.89 (634,917) 44.56
Options forfeited .............................. (46,211) 67.41 (197,957) 67.43 (269,167) 81.69
----------- ------ ----------- ------ ----------- ------
Shares under option, end of year ............... 17,304,047 $73.05 18,677,095 $70.62 19,157,495 $69.83
=========== ====== =========== ====== =========== ======
Options exercisable at year-end........ 11,822,997 10,972,492 9,413,333
=========== =========== ===========
F-18
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
The following table summarizes the information above about options
outstanding and options exercisable at December 31, 2004:
Options Outstanding Options Exercisable
------------------------------------------------ ----------------------------
Weighted Average
Range of Exercise Options Remaining Weighted Average Options Weighted Average
Prices (in dollars) Outstanding Contractual Life Exercise Price Exercisable Exercise Price
------------------- ----------- ---------------- ---------------- ----------- ----------------
$12.94 to 26.27 140,361 1 year $12.97 140,361 $12.97
19.72 200,000 1-2 years 19.72 200,000 19.72
24.28 250,000 2-3 years 24.28 250,000 24.28
39.75 to 66.40 597,100 3-4 years 43.17 597,100 43.17
44.62 to 91.22 2,468,871 4-5 years 78.61 2,457,609 78.69
47.74 to 84.00 2,745,600 5-6 years 72.33 2,313,500 76.91
62.35 to 87.16 8,727,808 6-7 years 72.65 4,508,270 76.41
85.84 to 93.55 2,174,307 7-8 years 91.84 1,356,307 91.81
--------- ----------
17,304,047 11,822,997
========== ==========
The weighted average fair value, calculated on the basis summarized below,
of each option granted was $20.65, $9.87, and $28.01 for 2004, 2003 and 2002,
respectively. The fair value of each option grant has been determined as of the
date of grant using the Black-Scholes option valuation model and with the
following assumptions (without adjusting for the risk of forfeiture and lack of
liquidity):
2004 2003 2002
---- ---- ----
Expected option lives..... 3.5 years 3.5 years 5 years
Risk free interest rate... 2.2% - 3.4% 2.1% 2.4% - 4.7%
Expected volatility....... 33.4% - 36.2% 29.00% 28.20% - 35.30%
Dividend yield............ 1.1% - 1.2% 1.7% 0.9% - 1.3%
Restricted Shares. Changes in outstanding shares of restricted stock for
the three years ended December 31, 2004 were as follows:
2004 2003 2002
---------- ---------- ----------
Restricted shares at beginning of year 2,369,348 2,070,844 2,227,022
Number granted ..................... 1,078,230 1,093,128 769,964
Number vested ...................... (900,454) (708,719) (806,626)
Number forfeited ................... (134,711) (85,905) (119,516)
---------- ---------- ----------
Restricted shares at end of year ..... 2,412,413 2,369,348 2,070,844
========== ========== ==========
All restricted shares were sold at a price per share equal to their par
value. The difference between par value and market value on the date of the
grant is charged to shareholders' equity and then amortized to expense over the
period of restriction. The restricted shares typically vest in 20% annual
increments provided the employee remains in our employ.
Restricted shares may not be sold, transferred, pledged or otherwise
encumbered until the forfeiture restrictions lapse. Under most circumstances,
the employee must resell the shares to us at par value if the employee ceases
employment prior to the end of the period of restriction.
ESPP. We have an employee stock purchase plan that enables employees to
purchase our common stock through payroll deductions over each plan quarter at
85% of the market price on the last trading day of the plan quarter. Purchases
are limited to 10% of eligible compensation as defined by ERISA. During 2004,
2003 and 2002, employees purchased 288,181 shares, 315,566 shares and 349,181
shares, respectively, all of which were treasury shares, for which $19.0
million, $18.1 million and $22.5 million, respectively, was paid to us. For this
plan, 1,349,224 shares remain reserved at December 31, 2004.
Total pre-tax stock-based employee compensation costs for the years ended
December 31, 2004, 2003 and 2002, were $117.2 million, $133.1 million and $173.5
million, respectively.
F-19
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
8. Income Taxes
Income before income taxes and the provision for taxes on income consisted
of the amounts shown below:
Years Ended December 31,
-----------------------------------
(Dollars in Millions)
2004 2003 2002
-------- -------- --------
Income before income taxes:
Domestic ............................ $ 646.7 $ 629.4 $ 581.2
International ....................... 532.1 419.6 373.4
-------- -------- --------
Total ............................. $1,178.8 $1,049.0 $ 954.6
======== ======== ========
Provision for taxes on income:
Current:
Federal ........................... $ 161.0 $ 143.3 $ 154.6
State and local ................... 11.8 14.4 35.1
International ..................... 160.2 139.3 136.8
-------- -------- --------
Total Current ..................... 333.0 297.0 326.5
======== ======== ========
Deferred:
Federal ........................... 72.4 69.4 21.8
State and local ................... 1.6 (2.7) (4.6)
International ..................... (10.7) (10.7) (14.1)
-------- -------- --------
Total Deferred .................... 63.3 56.0 3.1
-------- -------- --------
Total ............................. $ 396.3 $ 353.0 $ 329.6
======== ======== ========
Our effective income tax rate varied from the statutory federal income tax
rate as a result of the following factors:
2004 2003 2002
-------- -------- --------
Statutory federal income tax rate ..... 35.0% 35.0% 35.0%
State and local taxes on income,
net of federal income tax benefit ... 0.7 0.7 2.1
International subsidiaries' tax
rate differentials .................. (2.6) (1.9) (1.0)
Other ................................. 0.5 (0.2) (1.6)
-------- -------- --------
Effective rate ........................ 33.6% 33.6% 34.5%
======== ======== ========
Deferred income taxes are provided for the temporary differences between
the financial reporting basis and tax basis of our assets and liabilities.
Deferred tax assets result principally from recording certain expenses in the
financial statements which are not currently deductible for tax purposes,
including employee stock-based compensation expense and from differences between
the tax and book basis of assets and liabilities recorded in connection with
acquisitions. Deferred tax liabilities result principally from non-cash,
unrealized financial statement gains associated with financial instruments and
investments, basis differences arising from investments and tangible and
deductible intangible assets, capital transactions and expenses which are
currently deductible for tax purposes, but have not yet been expensed in the
financial statements.
F-20
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Deferred tax assets and liabilities as of December 31, 2004 and 2003
consisted of the amounts shown below (dollars in millions):
2004 2003
------- -------
Deferred tax assets:
Compensation and severance ............................. $ 271.4 $ 240.4
Tax loss carryforwards ................................. 98.5 116.8
Basis differences arising from acquisitions ............ 83.6 71.3
Basis differences from short term assets and liabilities 28.4 25.3
Other .................................................. 3.5 --
------- -------
Total deferred tax assets ................................ 485.4 453.8
Valuation allowance .................................... (75.3) (84.3)
------- -------
Total deferred tax assets net of valuation allowance ..... $ 410.1 $ 369.5
======= =======
Deferred tax liabilities:
Financial instruments .................................. 155.6 109.9
Basis differences arising from tangible and deductible
intangible assets .................................... 96.4 42.4
Basis differences arising from investments and
capital transactions ................................. 65.4 45.7
Other .................................................. -- 6.1
------- -------
Total deferred tax liabilities ........................... $ 317.4 $ 204.1
======= =======
Net current deferred tax assets as of December 31, 2004 and 2003 were
$106.7 million and $104.8 million, respectively, and were included in prepaid
expenses and other current assets. At December 31, 2004, we had non-current
deferred tax assets of $303.4 million and long-term deferred tax liabilities of
$317.4 million and at December 31, 2003, we had non-current deferred tax assets
of $264.7 million and long-term deferred tax liabilities of $204.1 million. We
have concluded that it is more likely than not that we will be able to realize
our deferred tax assets in future periods.
A provision has been made for income and withholding taxes on the earnings
of international subsidiaries and affiliates that will be distributed.
9. Employee Retirement Plans
Our international and domestic subsidiaries provide retirement benefits
for their employees primarily through defined contribution plans. Company
contributions to the plans, which are determined by the boards of directors of
the subsidiaries, have generally been in amounts up to 15% (the maximum amount
deductible for U.S. federal income tax purposes) of total eligible compensation
of participating employees. Expenses related to the Company's contributions to
these plans in 2004 were $82.6 million, in 2003 were $65.3 million and in 2002
were $63.8 million.
Our pension plans are primarily related to non-U.S. businesses. These
plans are not subject to the Employee Retirement Income Security Act of 1974.
Substantially all of these plans are funded by fixed premium payments to
insurance companies which undertake to provide specific benefits to the
individuals covered. Pension expense recorded for these plans in 2004 was $10.3
million, in 2003 was $7.3 million and in 2002 was $12.4 million.
Certain of our subsidiaries have executive retirement programs under which
benefits will be paid to participants or to their beneficiaries over periods up
to 15 years beginning after cessation of full-time employment, at age 65 or
death. In addition, other subsidiaries have individual deferred compensation
arrangements with certain executives which provide for payments over varying
terms upon retirement, cessation of employment or death. The costs related to
these benefits, which are accrued during the employee's service
F-21
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
period with us, were not material to the 2004, 2003 and 2002 consolidated
results of operations or financial position. Our obligation with respect to
these programs is included in deferred compensation and other liabilities on the
balance sheet.
10. Commitments and Contingent Liabilities
At December 31, 2004, we were committed under operating leases,
principally for office space in major cities around the world. Certain leases
are subject to rent reviews with various escalation clauses and require payment
of various operating expenses which may also be subject to escalation clauses.
Rent expense for the years ended December 31, 2004, 2003 and 2002 was reported
as follows:
(Dollars in Millions)
-------------------------------------
2004 2003 2002
------- ------- -------
Office Rent ....................... $ 371.6 $ 352.8 $ 326.8
Third Party Sublease .............. (26.3) (17.3) (15.5)
------- ------- -------
Total Office Rent ................. 345.3 335.5 311.3
Equipment Rent .................... 137.6 152.4 152.1
------- ------- -------
Total Rent ........................ $ 482.9 $ 487.9 $ 463.4
======= ======= =======
Future minimum office and equipment base rents under terms of
non-cancelable operating leases, reduced by rents to be received from existing
non-cancelable subleases, are as follows:
(Dollars in Millions)
--------------------------------------
Gross Sublease Net
Rent Rent Rent
------- -------- -------
2005 ............................. $ 422.9 $ 21.7 $ 401.2
2006 ............................. 352.8 17.7 335.1
2007 ............................. 296.6 14.5 282.1
2008 ............................. 243.8 12.7 231.1
2009 ............................. 217.8 11.5 206.3
Thereafter ....................... 910.0 25.8 884.2
See note 14 for a discussion of legal proceedings to which we are subject.
11. Fair Value of Financial Instruments
The following table presents the carrying amounts and fair values of our
financial instruments at December 31, 2004 and 2003. Amounts in parentheses
represent liabilities.
2004 2003
--------------------- ---------------------
(Dollars in Millions) (Dollars in Millions)
Carrying Fair Carrying Fair
Amount Value Amount Value
-------- -------- -------- --------
Cash and cash equivalents ...... $1,165.6 $1,165.6 $1,243.5 $1,243.5
Short-term investments ......... 574.0 574.0 305.4 305.4
Other investments .............. 41.8 41.8 27.1 27.1
Long-term debt and convertible
notes ........................ (2,567.6) (2,570.3) (2,549.0) (2,594.6)
Financial Commitments
Cross-currency interest
rate swaps ................. (53.0) (53.0) (44.8) (44.8)
Forward foreign exchange
contracts .................. (2.8) (2.8) (1.0) (1.0)
Guarantees ................... -- (0.2) -- (0.9)
Letters of credit ............ -- -- -- --
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value.
F-22
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Short-term investments:
Short-term investments consist primarily of investments made with our
excess cash which we expect to convert into cash in our current operating cycle,
generally within one year. They are carried at market which approximates cost.
Other investments:
Other investments are carried at cost, which approximates fair value.
Refer to note 6 for additional information about these investments.
Long-term debt and convertible notes:
A portion of our long-term debt includes floating rate debt, the carrying
value of which approximates fair value. Our long-term debt also includes
convertible notes and fixed rate debt. The fair value of these instruments was
determined by reference to quotations available in markets where these
instruments are traded.
Financial commitments:
The estimated fair values of derivative positions in cross-currency
interest rate swaps and forward foreign exchange contracts are based upon
quotations received from independent, third party banks and represent the net
amount required to terminate the positions, taking into consideration market
rates and counterparty credit risk. The fair values of guarantees and letters of
credit are based upon the stated value of the underlying instruments. The
guarantees, which relate to real estate leases, were issued by us for affiliated
companies. Letters of credit, when issued, represent guarantees issued by us on
behalf of our operating companies for activities in the normal course of
business.
12. Financial Instruments and Market Risk
Statement Financial Accounting Standard (SFAS) No. 133, "Accounting for
Derivative Instruments and Hedging Activities" establishes accounting and
reporting standards requiring that derivative instruments which meet the SFAS
133 definition of a derivative (including certain derivative instruments
embedded in other contracts) be recorded in the balance sheet as either an asset
or liability measured at its fair value.
Derivatives that do not qualify for hedge accounting must be adjusted to
fair value through earnings. If the derivative is a hedge, depending on the
nature of the hedge, changes in the fair value of derivatives will either be
offset against the change in fair value of the hedged assets, liabilities or
firm commitments through earnings or recognized in other comprehensive income
until the hedged item is recognized in earnings. The ineffective portion of the
change in fair value of a derivative used as a hedge is required to be
immediately recognized in our statement of income.
Our derivative activities are confined to risk management activities
related to our international operations. We enter into short-term forward
foreign exchange contracts which hedge our intercompany cash movements between
subsidiaries operating in different currency markets from that of our treasury
centers from which they borrow or invest. In the limited number of instances
where operating expenses and revenues are not denominated in the same currency,
amounts are promptly settled or hedged in the foreign currency market with
forward contracts. Changes in market value of the forward contracts are included
in the income statement and are offset by the corresponding change in value of
the underlying asset or liability being hedged. The terms of these contracts are
generally 90 days or less. At December 31, 2004 and 2003, the aggregate amount
of intercompany receivables and payables subject to this hedge program was
$1,453.0 million and $1,251.0 million, respectively. The table below summarizes
by major currency the notional principal amounts of the Company's forward
foreign exchange contracts outstanding at December 31, 2004 and 2003. The "buy"
F-23
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
amounts represent the U.S. dollar equivalent of commitments to purchase the
respective currency, and the "sell" amounts represent the U.S. dollar equivalent
of commitments to sell the respective currency. Refer to note 11 for a
discussion of the value of these instruments.
(Dollars in Millions)
Notional Principal Amount
----------------------------------------------
2004 2003
-------------------- --------------------
Company Company Company Company
Buys Sells Buys Sells
------- ------- ------- -------
U.S. Dollar ................ $ 51.2 $ 36.0 $ 41.2 $103.9
British Pound .............. 551.1 125.9 460.1 160.8
Euro ....................... 36.0 498.8 8.1 273.5
Japanese Yen ............... 79.0 3.7 74.7 --
Other ...................... 8.2 63.1 41.2 87.6
------ ------ ------ ------
Total ...................... $725.5 $727.5 $625.3 $625.8
====== ====== ====== ======
At December 31, 2004 and 2003, we had Japanese Yen 19.1 billion aggregate
notional principal amount of cross-currency interest rate swaps which mature in
2005. The swaps effectively hedge our net investment in Japanese Yen denominated
assets.
We have established a centralized reporting system to evaluate the effects
of changes in interest rates, currency exchange rates and other relevant market
risks. We periodically determine the potential loss from market risk by
performing a value-at-risk computation. Value-at-risk analysis is a statistical
model that utilizes historic currency exchange and interest rate data to measure
the potential impact on future earnings of our existing portfolio of derivative
financial instruments. The value-at-risk analysis we performed on our December
31, 2004 portfolio of derivative financial instruments indicated that the risk
of loss was immaterial. Counterparty risk arises from the inability of a
counterparty to meet its obligations. To mitigate counterparty risk, we entered
into derivative contracts with major well-known banks and financial institutions
that have credit ratings at least equal to our credit rating. This system is
designed to enable us to initiate remedial action, if appropriate.
The foreign currency and yen swap contracts existing during the years
ended December 31, 2004 and 2003 were entered into for the purpose of hedging
certain specific currency risks. As a result of these financial instruments, we
reduced financial risk in exchange for foregoing any gain (reward) that might
have occurred if the markets moved favorably. In using these contracts,
management exchanged the risks of the financial markets for counterparty risk.
To minimize counterparty risk, we only enter into these contracts with major
well-known banks and financial institutions that have credit ratings equal to or
better than our credit rating.
13. New Accounting Pronouncements
The following pronouncements were either issued by the FASB or adopted by
us in 2002, 2003 and 2004, and impact our financial statements as discussed
below: Statement of Financial Accounting Standards No. 142, Goodwill and Other
Intangible Assets (SFAS 142); Statement of Financial Accounting Standards No.
143, Accounting for Asset Retirement Obligations (SFAS 143); Statements of
Financial Accounting Standards No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets (SFAS 144); Statement of Financial Accounting
Standards No. 146, Accounting for Costs Associated with Exit or Disposal
Activities (SFAS 146); Statement of Financial Accounting Standards No. 123,
Accounting for Stock-Based Compensation (SFAS 123), as amended by SFAS 148,
Accounting for Stock-Based Compensation -- Transition and Disclosure -- An
Amendment of FASB No. 123 (SFAS 148) and as subsequently revised by SFAS No. 123
(Revised 2004) -- Share Based Payment (SFAS 123R); Statement of Financial
Accounting Standards No. 150, Accounting for Certain Financial Instruments with
Characteristics of Both Liabilities and Equity (SFAS 150) and Statement of
Financial Accounting Standards No. 153, Exchanges of Nonmonetary Assets, an
Amendment of APB Opinion No. 29 (SFAS 153).
F-24
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
SFAS 142 addresses the financial accounting and reporting for acquired
goodwill and other intangible assets. SFAS 142 supersedes APB Opinion No. 17,
Intangible Assets. Effective January 1, 2002, companies are no longer required
to amortize goodwill and other intangibles that have indefinite lives, but these
assets will be subject to periodic testing for impairment. Additionally,
goodwill acquired in a business combination for which the acquisition date was
after June 30, 2001 is no longer required to be amortized. We adopted SFAS 142
effective January 1, 2002. We completed the initial impairment test during the
second quarter of 2002 and subsequent impairment tests at the end of the second
quarters of 2003 and 2004, and concluded that there was no impairment at any of
these dates. The results of the impairment testing did not impact our results of
operations or financial position.
SFAS 144 establishes a single accounting model for the impairment or
disposal of long-lived assets, including discontinued operations. Effective
January 1, 2002, we adopted SFAS 144. The adoption did not result in an
impairment charge.
SFAS 146 requires costs associated with exit or disposal activities be
recognized and measured initially at fair value only when the liability is
incurred. SFAS 146 is effective for exit or disposal costs that are initiated
after December 31, 2002. We adopted SFAS 146 effective January 1, 2003. The
adoption did not have a material impact on our consolidated results of
operations or financial position.
In accordance with SFAS No. 123, as amended by SFAS No. 148, we elected,
effective January 1, 2004, to account for stock-based employee compensation
using the fair value method. As a result, the fair value of stock-based employee
compensation, including unvested employee stock options issued and outstanding,
were recorded as an expense in the current year utilizing the retroactive
restatement method as set forth in SFAS 148. Accordingly, our results for the
prior years have been restated as if we had used the fair value method to
account for stock-based employee compensation. Pre-tax stock-based employee
compensation costs for the years ended December 31, 2004, 2003 and 2002, were
$117.2 million, $133.1 million and $173.5 million, respectively. Also in
connection with the restatement, our December 31, 2003 balance sheet reflects an
increase in deferred tax benefits of $120.5 million, an increase in additional
paid-in capital of $434.7 million, an increase in unamortized stock compensation
of $92.6 million and a decrease in retained earnings of $221.6 million.
In December 2004, the FASB issued SFAS No. 123R which is effective for
reporting periods beginning after June 15, 2005 and generally applies to grants
made after adoptions. SFAS 123R is a revision of FASB No. 123, Accounting for
Stock-Based Compensation. As a result of our adoption of SFAS 123 on January 1,
2004, we believe that the adoption of SFAS 123R will not have a material impact
on our consolidated results of operations or financial position. However, we are
in the process of assessing the full impact of this revision.
SFAS 150 establishes standards for how an issuer classifies and measures
certain financial instruments with characteristics of both liabilities and
equity. It requires that an issuer classify a financial instrument that is
within its scope as a liability (or as an asset in some circumstances). We
adopted the standard, as modified by FSP 150-3, in the third quarter of 2003.
The adoption did not have an impact on, or result in additional disclosure in,
our consolidated results of operations or financial position.
SFAS 153 amends APB Opinion No. 29, Accounting for Nonmonetary
Transactions, to eliminate the exception from having to apply from the fair
value accounting provisions of APB 29 for non-monetary exchanges of similar
productive assets and replaces it with a general exception for exchanges of
non-monetary assets that do not have commercial substance. SFAS 153 is effective
for the first reporting period beginning after June 15, 2005. We are in the
process of assessing the full impact; however, we believe that the adoption of
SFAS 153 will not have a material impact on our consolidated results of
operations or financial position.
The FASB issued two staff proposals on accounting for income taxes to
address recent changes enacted by the United States Congress. Proposed Staff
Position FAS 109-a, Application of FASB Statement No. 109, Accounting for Income
Taxes, for the Tax Deduction Provided to U.S. Based Manufacturers by the
American Jobs Creation Act of 2004, and Proposed Staff Position FAS 109-b,
Accounting and Disclosure Guidance for the Foreign Earnings Repatriation
Provisions within the American Jobs Creation Act of 2004. We believe that
F-25
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Proposed Staff Position FAS 109-a does not apply to our business and we are
currently assessing the impact of Proposed Staff Position FAS 109-b; however, we
do not believe it will have a material impact on our consolidated results of
operations or financial position.
The following FASB Interpretations ("FINs") were issued in 2002, 2003 and
2004: FIN No. 45, Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Guarantees of Indebtedness of Others -- an Interpretation
of FASB Statements No. 5, 57 and 107 and Rescission of FASB Interpretation No.
34; and FIN 46, Consolidation of Variable Interest Entities -- An Interpretation
of ARB No. 51.
FIN 45 sets forth the disclosures to be made by a guarantor in its interim
and annual financial statements about its obligations under guarantees issued.
FIN 45, which was effective for periods ending after December 15, 2002, also
clarifies that a guarantor is required to recognize, at inception of a
guarantee, a liability for the fair value of the obligation undertaken. The
application of FIN 45 did not have an impact on, or result in additional
disclosure in, our consolidated results of operations or financial position.
FIN 46 addresses the consolidation by business enterprises of variable
interest entities, as defined in FIN 46, and is based on the concept that
companies that control another entity through interests, other than voting
interests, should consolidate the controlled entity. The consolidation
requirements apply immediately to FIN 46 interests held in variable interest
entities created after January 31, 2003 and to interests held in variable
interest entities that existed prior to February 1, 2003 and remain in existence
as of July 1, 2003. The FASB subsequently issued FIN 46R in December 2003 which
modified certain provisions of FIN 46. The effective date of FIN 46R applies to
the first reporting period after March 15, 2004. The application of FIN 46 as
originally issued and as revised by the issuance of FIN 46R did not have an
impact on, or result in additional disclosure in, our consolidated results of
operations or financial position.
The Emerging Issues Task Force ("EITF") of the FASB released interpretive
guidance in 2002, 2003 and 2004 covering several topics that impact our
financial statements. These topics include revenue arrangements with multiple
deliverables (EITF 00-21), customer relationship intangible assets acquired
(EITF 02-17), vendor rebates (EITF 02-16), participating securities and the
two-class method (EITF 03-6) and the effect of contingently convertible debt on
diluted earnings per share (EITF 04-8). The application of this guidance did not
have a material impact on our consolidated results of operations or financial
position.
14. Legal Proceedings
Beginning on June 13, 2002, several proposed class actions were filed
against us and certain senior executives in the United States District Court for
the Southern District of New York. The actions have since been consolidated
under the caption In re Omnicom Group Inc. Securities Litigation, No. 02-CV4483
(RCC) on behalf of a proposed class of purchasers of our common stock between
February 20, 2001 and June 11, 2002. The consolidated complaint alleges among
other things that our public filings and other public statements during that
period contained false and misleading statements or omitted to state material
information relating to (1) our calculation of the organic growth component of
period-to-period revenue growth, (2) our valuation of certain internet
investments, made by our Communicade Group, which we contributed to Seneca
Investments LLC in 2001, and (3) the existence and amount of certain contingent
future obligations in respect of acquisitions. The complaint seeks an
unspecified amount of compensatory damages plus costs and attorneys' fees.
Defendants have moved to dismiss the complaint. The court has not yet decided
the motion. On February 18, 2005, another shareholder filed on action asserting
similar claims. No response is yet required.
In addition to the proceedings described above, a shareholder derivative
action was filed in New York State Court on June 28, 2002 by a plaintiff
shareholder, purportedly on the company's behalf against certain former and
current directors. The complaint alleges, among other things, breaches of
fiduciary duty, disclosure failures, abuse of control and gross mismanagement in
connection with the formation of Seneca Investments LLC, including as a result
of open-market sales of our common shares by our chairman and two former
employee directors. The complaint seeks the imposition of a constructive trust
on profits received in the stock
F-26
OMNICOM GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
sales, an unspecified amount of money damages and attorneys' fees and other
costs. A motion has been filed to dismiss this action. Subsequently, the parties
and the court agreed to stay further proceedings in this case pending additional
developments in the class action cases described above.
The defendants in these cases expect to defend them vigorously. Currently,
we are unable to determine the outcome of these cases and the effect on our
financial position or results of operations. The outcome of any of these matters
is inherently uncertain and may be affected by future events. Accordingly, there
can be no assurance as to the ultimate effect of these matters.
We are also involved from time to time in various legal proceedings in the
ordinary course of business. We do not presently expect that these proceedings
will have a material adverse effect on our consolidated financial position or
results of operations.
F-27
OMNICOM GROUP INC. AND SUBSIDIARIES
Quarterly Results of Operations (Unaudited)
The following table sets forth a summary of the Company's unaudited
quarterly results of operations for the years ended December 31, 2004 and 2003,
in millions of dollars except for per share amounts.
Quarter
-----------------------------------------------
First Second Third Fourth
-------- -------- -------- --------
Revenue
2004 ....................... $2,231.4 $2,407.8 $2,319.0 $2,789.0
2003 ....................... 1,937.2 2,149.5 2,028.6 2,506.0
Income Before Income Taxes
2004 ....................... 218.9 336.4 238.6 384.9
2003 ....................... 193.9 306.4 205.6 343.1
Income Taxes
2004 ....................... 73.6 113.1 80.3 129.4
2003 ....................... 67.1 104.0 68.9 113.2
Income After Income Taxes
2004 ....................... 145.3 223.3 158.3 255.5
2003 ....................... 126.8 202.4 136.7 229.9
Equity in Earning of
Affiliates
2004 ....................... 2.5 4.9 3.2 6.6
2003 ....................... 2.5 1.9 4.0 6.8
Minority Interests
2004 ....................... (12.2) (22.1) (16.2) (25.6)
2003 ....................... (13.8) (24.3) (16.1) (26.0)
Net Income
2004 ....................... 135.6 206.1 145.3 236.5
2003 ....................... 115.5 180.0 124.6 210.7
Basic Net Income Per Share
2004 ....................... 0.72 1.10 0.79 1.28
2003 ....................... 0.62 0.96 0.66 1.12
Diluted Net Income Per Share
2004 ....................... 0.72 1.10 0.79 1.28
2003 ....................... 0.62 0.96 0.66 1.12
F-28
Schedule II
OMNICOM GROUP INC. AND SUBSIDIARIES
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
For the Three Years Ended December 31, 2004
(Dollars in Millions)
================================================================================================================
Column A Column B Column C Column D Column E
- ----------------------------------------------------------------------------------------------------------------
Translation
Balance at Charged Removal of Adjustments Balance
Beginning to Costs Uncollectable (increase) at End of
Description of Period and Expenses Receivables (1) decrease Period
- ----------------------------------------------------------------------------------------------------------------
Valuation accounts deducted
from Assets to which they
apply -- Allowance for
doubtful accounts:
December 31, 2004........................ $69.7 $19.3 $24.0 $(2.8) $67.8
December 31, 2003........................ 75.6 12.9 24.6 (5.8) 69.7
December 31, 2002........................ 79.2 21.8 30.1 (4.7) 75.6
- ----------
(1) Net of acquisition date balances in allowance for doubtful accounts of
companies acquired of $0.1 million, $0.6 million and $2.0 million in 2004,
2003 and 2002, respectively.
S-1