Dentsu Group Inc. (TSE:4324, Financial) is the largest advertising company in Japan and works with 95 of the world's top 100 advertisers. The share price has been volatile on an annual basis but is up a substantial 124% since the lows in 2020. Today, their market cap is a staggering 1.4 trillion yen ($11.4 billion), with the stock price on an uptrend thanks to fast-growing profits. Does that make the stock undervalued today? Let's take a look.
Business model
Dentsu was founded back in 1901 and is thus an extremely old and well-established player in the advertising industry both in Japan and internationally. The company has been at the heart of advertising for large brands since the eras of the newspaper, radio, TV and now digital advertising. With a whopping 64,000 employees, the company is bonded together by the “one dentsu” and “eight ways” culture.
As the decades have rolled by, the company has become increasingly complex and suffered from the classic conglomerate business philosophy of committee decisions, high costs and slow processes. However, the company has recently announced a range of initiatives to streamline the business as they enter their 121st year. What's so significant about the 121st year? This timescale is based upon the ancient Chinese calendar which is still popular in Japan. The company is focused on the super long term (measured in 60-year increments) and has a goal to benefit the greater society, which is a common theme in Japanese culture.
Source: Dentsu investor materials
Dentsu Japan Network is reorganizing the business into four domains. Meanwhile, Dentsu International is integrating its plethora of 160 agency brands to just six: Dentsu Inc., Dentsu Tec, Dentsu Public Relations, Dentsu Live, Dentsu Digital and ISID.
Source: Dentsu investor materials
Dentsu also announced the decision to divest the majority of its stake in Recruit Holdings (TSE:6098, Financial). It plans on executing a new strategy of fewer acquisitions, focusing on larger-scale acquisitions in the high growth area of customer transformation and technology. This simplification of the business combined with cost saving initiatives saved the company ÂĄ75 million in 2021 and helped to boost income substantially.
Dentsu has also expanded their relationship with American Express (AXP, Financial) and announced a joint venture with Toyota (TSE:7203, Financial), helping with digital transformation as well as marketing. The company also has very close partnerships with Alphabet's Google (GOOG, Financial)(GOOGL, Financial), Meta's (FB, Financial) Facebook, Z Holdings (TSE:4689, Financial) and Rakuten (TSE:4755, Financial). In addition, they have developed custom solutions with platforms such as Salesforce (CRM, Financial) and Adobe (ADBE, Financial).
Recent earnings
The company’s revenue jumped from ¥939 billion in 2020 to ¥1.1 trillion yen in 2021, up 6.6%. However, the real boost was on operating income, which skyrocketed by 74% from ¥82 billion to ¥143 billion. This was driven by a series of cost saving initiatives and the sale of non current assets such as the Dentsu headquarters building.
The company also announced a series of buybacks worth ÂĄ30 billion in February 2021, which is great news for shareholders.
Dentsu’s digital businesses, Merkle, ISID and Dentsu Digital, have been growing very fast and have generated a compound annual revenue growth rate of over 20% for the past three years. The company plans to expand more into this area and increase the revenue from customer transformation and technology, which is currently 28% to 50% of the group's revenues.
Source: Dentsu investor materials
Valuation
In terms of valuation, the stock looks to be overvalued according to the GF value chart:
Dentsu is an advertising juggernaut and an established player in the industry. However, legacy companies generally have an issue with high costs and increasing complexity. While the company has recognized these issues and is making a focus to cut costs and return to growth, the very fact that it must undertake such cost-cutting measures is a warning sign, in my opinion.
