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Powerful advertiser Dentsu is grappling with Olympic-sized problems

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Shortly after the first Olympic follow-up campaigns finally surfaced on Japan’s prime-time television networks in early summer, advertising giant Dentsu told investors they should expect a huge profit of $ 800 million.

Unfortunately for the company – historically considered one of the most powerful in Japan – the good news had nothing to do with its core business, growth prospects, or the Tokyo 2020 delayed games in which it was so central.

Instead, profits came from the $ 3 billion sale of Dentsu’s Tokyo headquarters: a 48-story, teardrop-shaped architectural icon that equates to the company’s oversized $ 55 billion share of the Japanese advertising market.

The sale of the skyscraper could be considered Japan’s largest single building transaction, according to analysts, bankers and long-time Dentsu customers. But it also hides the internal agony of a company whose problems have finally outweighed its bragging rights.

“As with the sale of its headquarters, the company is in a phase where it is shamelessly shrinking its balance sheet to generate money to invest in future growth,” said Citigroup analyst Hiroki Kondo. “There is a real feeling of crisis at Dentsu.”

According to a former Dentsu executive, this powerful but conservative group is struggling to adapt to the changing times, the digital revolution in advertising, and a domestic market where it still has a 28 percent share of the market but is changing increasingly different from the one it has dominated for more than a century.

At the same time, the Tokyo Olympics, which should bring in revenue to give the company time to correct its shortcomings, has become a heavy drain on management resources.

Sponsors hired by Dentsu have even used outside expertise to assess the potential harm if they continue to trust the company with their campaigns and are prominently associated with an event that experts warn will result in a medical disaster could lead.

“Dentsu is withdrawing in the Asia region [as management diverts to the Olympics], and in the past six months it has been losing both old customers and pitches for new business. Customers need advertisers who are transparent and innovative and when they look at Dentsu they don’t see that, they see a company behind the curve, “said a former manager.

Dentsu responded that it was “strongly positioned”, noting that its foreign media advertising fees doubled year over year in the first quarter as a result of increasing fees from existing customers and acquiring new customers.

Before the pandemic and before the Olympics were postponed, Dentsu’s problems seemed grave but more solvable. In 2016, the company was caught asking too much for online advertising from customers, including Toyota. Later that year, the suicide of a college graduate was officially labeled a “death by overwork” and forced the company’s president to resign.

French investigators have been investigating Tokyo’s successful bid to host the 2020 Olympics for the last six years. Their allegations include that substantial funds have been directed by the bid committee to individuals who could influence the outcome of the voting by companies and individuals with historical contacts to Dentsu had. A former Dentsu executive who denied improper conduct told Reuters that he had distributed gifts and helped secure the support of a former Olympic power broker suspected by French prosecutors of taking bribes. Dentsu has denied any involvement in the matters that are the subject of the French investigation.

Line chart of stock price and index rebased on January 2020 showing Dentsu stock performance

But also for the fifth largest advertising agency in the world, the Olympic Games were a decisive source of profit and a symbol of its continued domination at home. Dentsu was called in shortly after Tokyo had won the Olympic application and was able to convince more than 40 Japanese companies to become sponsors and thus to fulfill a “national obligation”. The result was the most heavily sponsored event in history, a record $ 3.1 billion funded primarily by Japanese companies, which in some cases paid $ 100 million each.

But while that was beneficial to Dentsu, the real prize would have come in the run-up to and during the games in the form of promotions by the various sponsors and a frenzied competition for the best TV ad spots, most of which Dentsu controls. Citigroup analysts estimated that all of this would have contributed approximately 10 billion yen ($ 90 million), or 9 percent, to the group’s annual operating profit.

But that rosy scenario has now faded as corporate sponsors are holding back from Olympic TV commercials fearing that it will cause reputational damage by being linked to an event that is met with public opposition.

“The real danger, of course, lies in the perception of the Olympics – right now there is an idea that it might happen without a disaster, but the risks are extremely high,” said a company near Dentsu.

If the Olympics end without a surge in Covid-19 infections, Dentsu may be able to regain some revenue through advertising that captures post-Games euphoria. But even then, Kondo estimates that at best the company will not make a profit from an event with which it has had a four-decade relationship and which a former manager says is part of the company’s raison d’être.

Analysts and industry leaders say the longer-term consequence could be forcing Dentsu to mend ties with companies upset about the meager marketing perks of their Olympic sponsorship by offering discounts on ad space.

“This is going to hurt Dentsu quite a bit because they were betting on all of the campaigns and TV commercials that would come out of the Olympics – not the original sponsorship deals, but all the work that those deals would ultimately guarantee them . “Said the person close to Dentsu.

Bar chart from Salees, 2020 (billion USD) with the largest listed advertising agencies worldwide by revenue

Aside from the games, the pandemic has also created major problems. The decline in global ad spend resulted in a large $ 3.2 billion goodwill write-off from the UK Aegis acquisition.

“There have been a number of acquisitions by Dentsu. . . The problem was that they couldn’t integrate them, ”said the former Dentsu manager.

The company is also aggressively cutting costs, particularly in Japan, to make itself nimble and fitter for the digital age. Although the company now generates more than half of its gross profits from digital ads and related advisory services, industry executives have indicated that its dominance in traditional media has resulted in a slower digital transition compared to non-Japanese competitors.

The sale of the headquarters is a sign of the turbulence at the top.

We anticipate that the restructuring could have a negative impact in the near future, including fewer acquisitions of new projects, and we expect these initiatives will take some time to contribute to revenue growth.

Potential buyers said they were quick to decide against it, in part because it would be expensive to make room for new tenants as the building was bespoke for Dentsu.

Some of Dentsu’s management had discussions with a financial group, which was not the company’s main bank, about the sale of the building to the Japanese real estate group Kenedix, according to people familiar with the business.

A second group blocked this and invited another domestic real estate giant, Hulic, to place a bid. Hulic was successful, said people familiar with the deal, largely because he was offered cheap financing by Dentsu’s main bank, Mizuho.

The company declined to comment on the building’s buyer, but said the sale was part of its years of efforts to implement remote working and other flexible work practices, and not the result of its financial performance.

Dentsu executives say they will use the newly acquired cash from asset sales to make acquisitions, but analysts remain skeptical of the company’s growth potential, both domestically and internationally, beyond the immediate increase in profit margins from cost reductions.

“We anticipate that the restructuring could have negative effects in the short term, including fewer acquisitions of new projects, and we expect these initiatives to take some time to contribute to revenue growth,” said JPMorgan analyst Haruka Mori.

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