What happened
Shares in UK-based advertising agency WPP (WPP 1.66%) fell 11.4% in January according to data provided by S&P Global Market Intelligence. The high-yield stock's fall comes after a management presentation seemed to fail to win over analysts.
Indeed, the stock received two downgrades in January from heavyweight brokerages. Goldman Sachs downgraded the stock to neutral from buy after the presentation in the middle of the month, with Bank of America having already downgraded it to underperform.
The business model of advertising agencies is under pressure from the growth of digital advertising. Image source: Getty Images.
So what
The ongoing challenge for the ad agencies is convincing investors of their relevance in an age of growth for digital advertising. According to WPP's own analysis, the growth in the retail environment is coming from e-commerce. Moreover, the business model of advertising agencies is being challenged by growth in digital advertising and particularly the ability of social media giants to deal directly with advertisers.
These two facts are creating doubts as to the growth outlook for advertising agencies, and it's no surprise that the leading players have been notable underperformers in recent years.
The gist of WPP management's presentation was that growth in digital advertising provides an opportunity for the company. Referring to social media and technology companies' growing presence in advertising, CEO Mark Read told investors that WPP is "extremely well positioned to help our clients understand how the world is being adjusted by those companies." In other words, clients will need WPP to help them manage and analyze the wealth of data coming at them from technology companies.
Now what
Read's argument may well be valid, but the deeper question is whether WPP's growth opportunity from helping clients manage their online campaigns will offset declines from its traditional business. Moreover, large clients are developing their own in-house capabilities to handle online marketing, and large consultancies like Accenture, Deloitte, Ernst & Young, and also IBM are increasingly muscling in on a market that they may understand better than the ad agencies.
Looking ahead, WPP and the other traditional agencies are going to have to convince the market they are capable of managing the dynamic shifts in their industry. That's the only way they'll avoid the fate of long-term structural decline.
