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The Interpublic Group of Companies (NYSE:IPG)

Q3 2012 Earnings Call

October 26, 2012 8:30 am ET

Executives

Jerome J. Leshne - Senior Vice President of Investor Relations

Michael I. Roth - Chairman, Chief Executive Officer and Chairman of Executive Committee

Frank Mergenthaler - Chief Financial Officer and Executive Vice President

Analysts

Alexia S. Quadrani - JP Morgan Chase & Co, Research Division

Michael Nathanson - Nomura Securities Co. Ltd., Research Division

Hersh Khadilkar - Morgan Stanley, Research Division

John Janedis - UBS Investment Bank, Research Division

Peter Stabler - Wells Fargo Securities, LLC, Research Division

Matthew Chesler - Deutsche Bank AG, Research Division

Anthony J. DiClemente - Barclays Capital, Research Division

James G. Dix - Wedbush Securities Inc., Research Division

David Bank - RBC Capital Markets, LLC, Research Division

Daniel Salmon - BMO Capital Markets U.S.

Operator

Good morning, and welcome to the Interpublic Group Third Quarter 2012 Earnings Conference Call. [Operator Instructions] This conference is being recorded. If you do have any objections, then please disconnect at this time. I would now like to introduce Mr. Jerry Leshne, Senior Vice President of Investor Relations. Sir, you may begin.

Jerome J. Leshne

Thank you. Good morning. Thank you for joining us. We have posted our earnings release and our slide presentation on our website, interpublic.com, and we'll refer to both in the course of this call.

This morning, we are joined by Michael Roth and Frank Mergenthaler. We will begin with prepared remarks to be followed by Q&A. We plan to conclude before market open at 9:30 a.m. Eastern.

During this call, we will refer to forward-looking statements about our company, which are subject to uncertainties in the cautionary statement included in our earnings release and the slide presentation and further detailed in our 10-Q and other filings with the SEC.

At this point, it is my pleasure to turn things over to Michael Roth.

Michael I. Roth

Thank you, Jerry, and thank you, all, for joining us for our review of our third quarter and 9 months 2012 results. As usual, I'll begin by covering key highlights and developments. Frank will then provide additional financial detail. I'll conclude with an update on our agencies to be followed by the Q&A.

Beginning with revenue in the quarter, our organic decrease of 0.9% was made up of 5.2% International growth and a 5.4% decrease in the U.S. These results reflect greater caution on the part of our clients, particularly in September, headwinds from 2011 losses and extremely challenging third quarter comparisons.

As you recall, our industry-leading growth of 8.7% in last year's third quarter was driven by 10% growth in the U.S. and benefited from a revenue shift of $26 million from Q2 into Q3. In addition, we continue to see the impact from last year's account losses, which was 2.5% in the quarter, also notably, in the consumer goods sector, and in the U.S., that number was approximately 4%.

In the U.S., we had growth at our media businesses, our digital agencies and the marketing service specialists in our CMG segment, as well as a number of our integrated U.S. independents. From a sector perspective, we grew in the auto and financial services verticals while the softness that we noted on our second quarter call in the pharma and retail sectors continued in Q3.

The solid International results were on top of an outstanding performance in several markets a year ago. We were led by a U.K. market with an organic increase of 25%, which included several large assignments related to the Olympics. The Asia Pac region had solid growth on top of a 15% increase a year ago. In LatAm, organic growth was flat from last year. But it's worth noting that Q3 last year featured over 20% growth in LatAm, and the region is up almost 10% organically year-to-date in 2012.

Turning to expenses. Our results in the quarter reflect careful and effective cost management. Sequentially, from Q2 to Q3, all of our major expense categories were flat or decreased. The only exception was pass-through expenses, which are directly offset in revenue, and this was due to our high volume of Olympic projects connected to the London games.

Q3 operating profit was $131 million, and operating margin was 7.9%. Profit performance in the prior year period was the best of any third quarter in our company's history, which made for another tough comp. Q3 diluted earnings per share of $0.15 compares to $0.16 in Q3 '11, excluding the impact of our Facebook transaction a year ago.

In the third quarter, we continued to drive value from our balance sheet. We repurchased approximately 8 million shares in the quarter for $83 million. This brings our repurchases to 19 million shares and 201 million through the 9 months. Over the past 12 months, we put approximately $600 million to work in the form of share repurchases, dividends and retiring long-term debt.

Diluted shares in the quarter decreased 15% from last year's third quarter, due to our share repurchases and elimination of a convertible debt issue earlier this year, as well as dilution from our convertible preferred shares last year.

Looking ahead, Q4 is always critical since it is our seasonally largest quarter and our most significant profit contributor. We expect to achieve revenue and profit growth in the fourth quarter. With respect to the full year, we anticipate positive organic revenue performance. Given our growth through the 9 months and client caution, we now expect a lower rate of growth for the year than we have previously targeted.

In 2012, we will see year-on-year improvement with respect to operating margin. On a trailing 12 months to September 30, our margin increased 30 basis points. This demonstrates that we can enhance profitability at lower rates of revenue growth. Once again, Q4 will be key, but we believe that with organic revenue growth of at least 1% for the full year and a continued focus on cost, a 50 basis point improvement in operating margin remains attainable.

By the end of the fourth quarter, we will finish cycling the impact of last year's account losses on our top line. Consequently, we're confident that we will be in a position to grow at the rate of our industry in 2013. Our track record of cost discipline means that with competitive growth, we are well positioned to achieve further margin expansion, ultimately, to our stated goal of fully competitive profitability. We continue to repurchase our shares and have additional accretive opportunities in our debt profile available to us over the next 9 months to drive incremental value creation.

Now I'll turn it over to Frank and after his remarks, I'll return with some observations on the tone of our business at our agencies.

Frank Mergenthaler

Good morning. As a reminder, I will be referring to the slide presentation that accompanies our webcast.

On Slide 2, you'll see an overview of our results. Our organic revenue change was a decrease of 0.9% in Q3 against 8.7% growth last year. We continued our strong expense discipline across the company. Our quarterly progression from Q2 to Q3 was well controlled and year-end expense growth was 1.2% organically. Q3 operating income was $131 million and operating margin was 7.9%. Q3 diluted earnings per share was $0.15.

We ended the quarter with $1.2 billion of cash and short-term marketable securities on the balance sheet. That total does not include our ownership interest in Facebook and reflects our share repurchase, dividends and deleveraging activity over the past 12 months. In that time, we also invested $190 million in acquisitions, focused in high-growth digital, marketing services and specialty disciplines, as well as high-growth markets around the world.

Turning to Slide 3, you'll see our P&L for the quarter. I'll cover revenue and operating expenses in detail in the slides that follow. Our average basic share count for the quarter was 431 million, a decrease of 7% from a year ago, which reflects our share repurchases activity over the past 12 months. Average diluted shares for the quarter decreased 15%, which also reflects the retirement of convertible debt earlier this year and dilution from our convertible preferred shares in Q3 2011.

Turning to operations on Slide 4, beginning with revenue. Revenue in the quarter is $1.67 billion, a reported decrease of 3.2%. Compared to Q3 2011, the impact of change in exchange rates was a negative 310 basis points. The effect of net acquisitions and dispositions added 80 basis points of revenue growth. The organic decrease was 0.9% or $16 million. Over the first 9 months of the year, organic revenue growth was 0.8%. As we called out in our last conference call, revenue headwinds are approximately 3% for the full year and they were 2.5% in Q3.

As you can see on the bottom of the slide, the organic revenue decreases at our Integrated Agency Network segment was 4% in the quarter, reflecting greater than 3% headwinds. Last year's third quarter organic growth for IAN was 8.3%.

Organic growth at our CMG segment was 14%. This includes project work from the Olympics in the U.K., as well as solid growth across our portfolio of marketing services specialists, including PR, events, sports marketing and branding. This performance is on top of Q3 2011 organic growth of 10.9%.

Moving to Slide 5, revenue by region. In the U.S., our decrease was against growth of 10% last year and reflects domestic headwinds of nearly 4%. We saw growth in the U.S. for our integrated independent agencies, our media businesses and at CMG. We had client sector growth in the U.S. in auto, transportation and financial services. The consumer goods sector decreased, and as of Q2 this year, the retail sector decreased, but this was compared to a 30% increase a year ago. We continue to see softness across much of the pharma category due to in large part to the industry's patent cliff.

Turning to International markets. Organic growth is 5.2%. That's on top of solid growth of 6.7% a year ago. The U.K. was a key driver. Organic revenue growth was 25.3%, which was helped by a portfolio of Olympic project work across a range of clients.

Continental Europe was flat organically in Q3. We continue to grow in Germany, our largest market on the continent. We had a small decrease in France. It's worth noting that we continue to see pressure on the markets such as Italy and Spain due to the harsh economic environment. On a reported basis, double-digit percentage decreases in the quarter and 9 months reflect the effect of a stronger U.S. dollar against the euro.

Asia Pac grew 5.3% organically and is up 11.7% for the 9 months. Q3 performance was on top of 15% growth a year ago. We were led by growth in media and marketing services, with notable increases in Australia, China, India and several smaller markets in the region. We grew with existing clients, as well as new client wins.

In LatAm, Q3 was flat against 22% growth a year ago. The 9 months organic growth is 9.7%.

In our other markets group, revenue decreased 1.8% organically, which reflects decreased revenue in Canada, as well as in the Middle East and North Africa region, partially offset by growth in South Africa.

On Slide 6, we chart the longer view of our organic revenue change on a trailing 12-month basis. The most recent data point is 1.4%, which is updated to include Q3 2012.

Moving on to Slide 7 on our operating expenses. Our operators continue their effective focus on expense management. In Q3, operating expenses were flat to down in all of our major expense categories with the exception of pass-throughs that increase with growth in our events business. From a year-on-year standpoint, operating expenses grew only 1.2% organically, including the growth of our pass-through expenses, but the decrease in our top line put pressure on our expense leverage in the quarter.

Total salaries and related expenses were 63.7% of revenue in Q3 compared to 63% a year ago. On a trailing 12-month basis to September 30, salaries and related leverage was 63.1% compared to 63.4% the same period a year ago, an improvement of 30 basis points. Our leverage on base payroll, benefits and tax was 53.8% in Q3 compared with 51.1% -- 51.5% a year ago, which is primarily due to our revenue decrease.

Average Q3 headcount grew by 2% compared to the same period a year ago with approximately half of our increase from net acquisitions. The balance of our hiring reflects organic investment in growing disciplines, including media, public relations and in digital services throughout our agencies. It also supports our growth in markets such as China, India and Brazil. Offsetting these investments were decreases in Continental Europe and in the U.S., tracking revenue decreases. Quarter-end headcount was 43,500.

Severance expense was 1% of Q3 revenue compared with 1.1% a year ago. Incentive expense in the quarter was 2.3% of revenue compared with 4.1% a year ago. Q3 reflects our lower incentive accrual compared to Q3 2011 due to our latest projections for full year revenue.

Turning to office and general expense on the lower half of the slide. O&G was $475 million in Q3, which is an increase of 2% from a year ago, due to higher pass-through expenses. O&G increased $22 million on an organic basis, $21 million of which was pass-through expenses. These are direct costs offset in revenue.

Moving on, we drove 20 basis points of leverage on occupancy expense compared to a year ago as we continue to find efficiencies in our real estate portfolio. Occupancy was 7.2% of revenue compared with 7.4% a year ago.

On Slide 8, we show our operating margin improvement on a trailing 12-month basis with most recent data point of 9.4% for September 30.

Turning to the current portion of our balance sheet on Slide 9. We ended the quarter with $1.2 billion in cash and short-term marketable securities, excluding our remaining ownership in Facebook, compared with $1.8 billion a year ago, a decrease of approximately $600 million. Comparison includes $440 million returned to shareholders over the last 12 months in the form of share repurchases and common stock dividends, as well as a reduction of our long-term debt by $150 million.

We've also invested approximately $190 million in acquisitions over the past 12 months. Restricted marketable securities line seen here, $95 million, is our remaining 4.4 million shares of Facebook mark-to-market as of September 30. The restriction lapses in the middle of the next month.

On Slide 10, we turn to cash flow for the quarter. Cash used in operations was $104 million compared with cash generation of $150 million in Q3 2011. Cash used in working capital is $240 million compared with the use of $34 million last year, due to the impact of trailing account losses and our slower Q3 growth.

Investing activities, we used $131 million, primarily for acquisitions and CapEx. Acquisitions in Q3 reflected our emphasis on high-growth disciplines and expanding our digital capabilities. Our acquisitions in Q3 included a health care technology and market research specialist agency and a leading shopper marketing agency.

Financing activities used $98 million, the largest components of which were $83 million for share repurchases and $26 million for our quarterly common stock dividend. The net decrease in cash and marketable securities in the quarter was $313 million.

On Slide 11, we see our total debt outstanding at the end of Q3, as well as our year end from 2007 through 2011. Our total debt reduction since the end of 2007 has been nearly $700 million to the level you see here of $1.68 billion. Over the next 9 months, we will have additional opportunities to address nearly half of our outstanding total to further improve our balance sheet and reduce our effective cost of debt.

In March of next year, we can call our $200 million, a 4.75% convertible debt, which includes 17 million diluted shares. In July, we have the option to call our 10%, $600 million senior notes at a price of 105.

Turning to Slide 12, in summary, we are managing a challenging top line with disciplined cost control. We continue to utilize our balance sheet to drive value with additional opportunity in front of us, and we remain confident of our ability to drive margin improvement with sustained growth.

With that, let me now turn it back over to Michael.

Michael I. Roth

Thank you, Frank. Well, as we already noted, during the third quarter, the combination of increased client caution, deep comps, especially in the U.S., and headwinds from 2011 client losses, again concentrated in the U.S., outweighed our growth internationally and at a number of our agencies.

The momentum at Mediabrands and across the CMG portfolio continues to be positive. Those agencies are picking up new assignments, building leading-edge digital expertise and winning market share, particularly at Weber Shandwick and GolinHarris. We are also seeing strong performance at R/GA and HUGE, as well as within the digital capabilities embedded throughout all our agencies, including the U.S. independents.

Draftfcb has made progress in replacing revenue from 2 large client losses, developing its offering in digital and marketing services and effectively managing cost. Lowe continues to build on its leadership position with Unilever and is a top creative network focused on emerging markets. The transformation at McCann continues. Major clients are increasingly seeing the best of its integrated marketing solutions, and we are committed to supporting this great brand by investing in its talent and its resources.

New business performance this year is on a more solid footing, and we were net new business positive through the third quarter. Year-to-date, performance in the BRIC markets has been very strong with growth north of 12% on top of an even better performance in 2011. Relative to our peers, we are very competitively represented in emerging economies in our revenue mix, so we should continue to enjoy the benefits of being in those high-growth markets.

We have outstanding agencies in India and Brazil across all our global networks. Brazil and Argentina are also providing to be promising markets for our digital agencies and a great source of digital talent. As we said before, our investment in China will largely be organic through talent acquisition and development.

The other high-growth area of the business is digital. We continue to see significant progress across the portfolio. This is an area that has contributed very good growth year-to-date. We'll stay focused on adding to our capabilities through hiring and training, as well as incubation of new capabilities, such as MAP, our digital audience platform and automated trading desk. We'll also support further international expansion for R/GA and HUGE on top of a tactical digital M&A activity at our major global networks.

To reiterate, we expect to see organic revenue growth in the fourth quarter and to achieve positive organic revenue performance for the full year. We're committing to delivering year-on-year improvement in operating margin for 2012.

From the second to the third quarter of this year, we continue to demonstrate strong expense management. In fact, over the past 12 months, organic cost increases have lagged organic revenue growth. Therefore, as mentioned earlier, a 50 basis point improvement in operating margin remains attainable with annual organic revenue growth of at least 1%.

It's worth noting that our 2012 incentive compensation plans were built around the revenue and margin targets we set going into this year. So accountability for performance against these goals is very much in place.

Looking forward, we should be going into 2013 in a much better position than we did this year. We're positioned to achieve competitive growth, which, in turn, will allow us to deliver further margin expansion. We've also called out additional opportunities in our debt profile that will present themselves in the next 9 months, and our share repurchases and dividend programs will continue to be strong drivers of value creation.

While this year has proven to be more challenging on revenue than anticipated, we continue to manage the business effectively. The quality of our offerings is sound, and we're focused on making improvements where and when required. We have great digital expertise and precedents -- presence in high-growth emerging markets. Above all, our ability to help clients manage in an increasingly complex consumer and media landscape represent a significant opportunity. These factors position us well for the balance of this year and to create shareholder value in the years to come.

Thank you. I will open up the floor now to questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Alexia Quadrani from JPMC.

Alexia S. Quadrani - JP Morgan Chase & Co, Research Division

Just -- if you can give us a little bit more color on the weakness in the U.S. How much worse, I guess, was September versus the rest of the quarter? And anything one-time-ish in it, or should we just assume that the pullbacks will continue? I know you have some very difficult comps in the quarter. Just trying to quantify how much the weakness was sort of incremental client caution that you mentioned or just some sense of what the trend is in the underlying business going into Q4?

Michael I. Roth

Alexia, we were positive in July and August in terms of organic growth. So frankly, the decline in September was a bit of a surprise to us. But frankly, we're seeing that in the whole industry. I think we've seen it in all of our peers who I've mentioned. Obviously, that's -- there wasn't any one specific items that caused that, and what we're seeing as a general tone is this concern and uncertainty with respect to the macroeconomic environment. And I think, not just our industry, I think we've seen it in -- with respect to all industries, that we're seeing caution in terms of expenditures. And until this macro uncertainty is removed, I think we can't say with certainty what the outcome is going to be. That said, the fourth quarter has traditionally been our strongest quarter. And remember, last year, in the third quarter, we had this shift from the second quarter into the third quarter of a single item of around $28 million, which distorted the comps. So I think what we're seeing is consistent with what the industry is taking into account. Our comps of last year had some client losses. And we're cautious, but as I indicated, what we're saying is with at least 1% organic growth for the year, we should be able to expand our margin to, at least, a 50 basis point mark that we had indicated. But there's some uncertainty out there, and I think we're just going to have to manage our business. The cost controls that we have within our company, I think, are coming through very strongly, and you see that. And of course, our model is a vary based -- variable cost-based model, which is how you see the change in our incentive comp which reflects it. Remember, our businesses are compensated, including the corporate, by the way, on revenue and margin. So when you see a pullback in either of those 2, then there's adjustments in our incentive comp. That's how our model is built, and that's how our forecast and our modeling, going forward, takes into consideration.

Alexia S. Quadrani - JP Morgan Chase & Co, Research Division

And when you look at the very strong performance you had in the U.K., you mentioned the Olympics, obviously, was a big factor there. Could you tell us if you think you would've had positive organic growth in the U.K. aside from the Olympics?

Michael I. Roth

Yes. It wouldn't have been 25%, but the answer is yes.

Operator

And our next question comes from Michael Nathanson from Nomura.

Michael Nathanson - Nomura Securities Co. Ltd., Research Division

I have 3 for you. Just following up on the Olympics question. If you guys had the pass-through cost of $21 million, then logic would say that the revenues are going to be somewhere in the low $20 million range, right? That's kind of a logical assumption.

Frank Mergenthaler

There's some margin in that number, Michael.

Michael Nathanson - Nomura Securities Co. Ltd., Research Division

Right. So I'll put a little margin, okay. I just want to get that clear. Second thing is I guess going back to the weakness in September. At what point when you're in the fourth quarter, do you feel like you have a handle on fourth quarter organic? I mean, is December the most important quarter -- the most important month in the quarter, will 2 to 3 months give you confidence? At what point when you come back to the market do you have a better sense of what fourth quarter looks like on organic?

Michael I. Roth

Remember, a lot of our project business is in the fourth quarter. And December is the critical month. If you remember, historically, whenever you look at whether there were good years or bad years -- and certainly, that -- not that I think we're in that position. But when we saw 2008, December is where it really came -- basically, the project business stopped, okay? We don't expect that to happen, but certainly, December is a critical month. So what we see in October and November is much the business as usual, and we just sort of see how it comes out in December. And we won't have visibility into that until we're close to it.

Michael Nathanson - Nomura Securities Co. Ltd., Research Division

Okay. Last question's for Frank. On flexibility of costs in the fourth quarter, aside from the comp -- the performance comp, is there anything else you have in terms of flexibility that you can bring down if you see that organic revenue coming down? Or are you pretty much locked in with a lot of your cost buckets in the fourth quarter?

Frank Mergenthaler

The biggest thing, as you know, with fourth quarter being our largest revenue quarter from a seasonality perspective, you've got correlated sequential growth and expenses. We're very focused now on managing that sequential increase in costs against that revenue, right? So that's the message out for everybody is focus very hard on kind of what our run rate was coming out of Q3, be very disciplined about adding cost as that seasonal revenue comes in on -- in Q4.

Michael I. Roth

This doesn't start if -- the basic thrust of your question is this doesn't start tomorrow, all right? And at the end in the second quarter, we did our bottoms up, and we said we better be careful with our cost increases. So we started managing those cost items that potentially are variable at the end of the second quarter, and that's -- and you're seeing some of that right in the third quarter. So I think that's a good example of how we are -- we have visibility into the cost side of our business, and we take actions as quickly as we can to make sure that the impact of those actions that we take are felt as soon as possible.

Operator

And our next question comes from Benjamin Swinburne from Morgan Stanley.

Hersh Khadilkar - Morgan Stanley, Research Division

This is Hersh Khadilkar, actually, on behalf of Ben. Just wondering, given the more cautious tone on the top line environment, does it change your view on the buyback pace for this year and next?

Michael I. Roth

No. I think that's one of the great stories of our company, and that is we have a very strong balance sheet. We continue to anticipate that to be the case. And certainly, by year end and -- we continue to have, what, an excess cash position and financial flexibility on our financing. And as we indicated, we're committed to the buyback program. And we see that as a great indication to our shareholders that we're committed to enhancing shareholder value, and therefore, that's why we put in the buyback program and the dividend in the first place. And we see no reason at this point to change our views on that.

Operator

Our next question comes from John Janedis from UBS.

John Janedis - UBS Investment Bank, Research Division

Frank, you've talked historically about the need for leverage in the SRS line to hit the long-term margin targets. I think this year most of the margin leverage comes from O&G. And so when we look ahead to next year, what kind of growth do we need to see on organic for improvement in SRS?

Frank Mergenthaler

John, I think we've demonstrated that with any growth we've gotten leverage out of SRS, right? So if you look at trailing 12 months, we've generated 20 or 30 incremental basis point of margin as of September 30, and most of that is coming -- or a good proportion is coming out of SRS. So we're very confident, with sustained growth, we can continue to drive leverage, and that will be a key contributor to getting us to competitive margins.

John Janedis - UBS Investment Bank, Research Division

Okay. And then separately, I guess, there's been a lot in the press about the pharma category. Michael, can you give us an update on those clients and maybe how that might translate into a headwind next year, if at all?

Michael I. Roth

Yes. I mean, what you -- there are a number of things that you're seeing in the pharma business. One of note, of course, is the consolidations that are out there. And frankly, we -- pharma is a very important sector to us, and health care is 15%. And we continue to view that as an opportunity for us, evidenced by the acquisitions that we've made in that category. So what we're experiencing right now is the -- a lot of these drugs are coming off patent, but there is a pipeline of new drugs and launches. And frankly, we are experiencing some wins in terms of new products going to market, and this is on a global basis. And so I think it continues to be an important sector for us. And I think as we move out into 2013 and beyond, pharma will come back in these launches of new products, and we certainly have the capability within that sector to compete very effectively and add to our growth as a result of it. I might add -- I know the questions are going to be on new clients. The J&J consolidation was out there, and we had -- I know Jerry had a lot of questions on it. So let me cover some of it right now. Good news for us on J&J, particularly on the media side, we mentioned in the last quarter that J&J had a review going with respect to its European media. I don't know if it's been out in the press yet, but we did pick up incremental -- and on that one, we weren't really doing any European media business for J&J, and we were successful in picking up new markets with respect to that review. So we're very excited about that, and it shows how strong our relationship with J&J is on the media side. So the next question is we do have a review on the U.S. side of the media, but I think the fact that we've picked up incremental business in Europe is a strong indication of our relationship on J&J and how they view our media offerings. So we're comfortable with that review as it proceeds. On the consumer brand review that they had, again, our strength in J&J is in the ACUVUE, in the pharma business and the media business. We had some consumer brands, particularly Tylenol, that we did lose. But again, the overall strength of our J&J business is in the other sectors.

Operator

And our next question comes from Peter Stabler from Wells Fargo Securities.

Peter Stabler - Wells Fargo Securities, LLC, Research Division

Wondering if we could get a little bit more detail about Q4 and the headwinds. You provided us some information, and I apologize if I missed this. Could you give us a sense of what the U.S. headwinds are in Q4 and total? And then I got one quick follow-up.

Frank Mergenthaler

The U.S. headwinds are 3% to 4%.

Michael I. Roth

And particularly in the consumer goods sector.

Frank Mergenthaler

And for the aggregate, it's around 2.5%.

Peter Stabler - Wells Fargo Securities, LLC, Research Division

Okay, great. And we all know that you're in the thick of talking to clients about 2013. Commentary coming out of your European competitor suggest not just fear, I guess, but also kind of hesitation. And just wondering if you could give us any color on the nature of the conversations. Do you feel like nominal GDP growth for you is realistic? You've already commented on your confidence around competitiveness. But if you had to take kind of an early look at 2013, any guidance would be great.

Michael I. Roth

Well, Magna put out a -- they put out their release, did they not? Yes, okay. I'm sorry. They did pull back slightly in terms of the macro impact on a global basis. So I think that's really what we're -- frankly, what we're seeing. The conversations that we've been having with our multinational clients, of course, is caution. But they also are viewing this as an opportunity, so -- which is exactly why you're seeing some strength in the emerging markets, because that's where our clients see the battle to be won or lost. So we are seeing very strong conversations about how they can either launch products or gain market share in those markets. And what we're doing is we're putting together plans to help them effectively gain market share or launch in those areas. And so I think that conversation and our results reflect that, that they're still going on. And I don't think you're going to see major pullbacks in those markets, because what I view as our enlightened clients view this as a good opportunity to gain market share. So we're right next to them in terms of helping them to do this. Of course, there's caution, as I indicated, and particularly in Europe. But actually, when you look at our overall International results, they're positive, which, given the competitive set in that area, we're very proud of the results that we're seeing on the international markets. So I think there's caution. We're concerned. But I don't see this as wholesale cutbacks the way we've seen in the past.

Operator

And our next question comes from Matt Chesler from Deutsche Bank.

Matthew Chesler - Deutsche Bank AG, Research Division

Just wanted to revisit the earlier question. I think the question was trying to get a sense for any of the revenue implications in 2013 from some of the consolidations that didn't go your way. Because I know you had made a comment earlier that you were net new business positive through the third quarter, but a couple of those consolidations didn't go the way -- I know some of them weren't as big as the headlines appeared. But do you – as you go into 2013, what's the implications from those losses?

Michael I. Roth

Yes. I think the big one that you're referring to -- we can't really comment on specific clients. But the one that you're referring to is the Pfizer consolidation. And as we indicated, there was some impact of that. A lot of it was local business that we already do, and it's not taking into effect until the end of '13 and '14. So we don't have a lot of visibility into that right now, but frankly, it's sort of business as usual for us. So we -- as we indicated, we didn't think that's going to be a material impact for us, certainly, going into 2013. On the other side of it, we have been picking up additional product launches on a global basis, whether it be in McCann, health care or Draftfcb, and our pharma offering at J&J continues to see that as well. So although there may be some exposure as a result of the consolidation at Pfizer, we are seeing some positive impacts and wins in our other pharma sectors.

Matthew Chesler - Deutsche Bank AG, Research Division

Would you go as far as to say that you're entering 2013 with a tailwind or is it...

Michael I. Roth

I wouldn't mention that. First of all, I told the team I don't like to jinx thing. I'm kind of superstitious. So I'll keep it where it is right now, and we're net new business positive for the first 3 quarters.

Matthew Chesler - Deutsche Bank AG, Research Division

Okay, right. And then in terms of the buyback, do you think of your investment in Facebook is it something that's supplemental to your current authorization, or that would just help you deploy what you've already committed to?

Michael I. Roth

Well, I think if you look at our best -- past actions, when we sold the other half, the immediate thing we did was increase our authorization. I think that should give you an indication on how we view the Facebook and proceeds, if and when we realize them. My lawyers are looking at me like crazy.

Matthew Chesler - Deutsche Bank AG, Research Division

Okay. And then just in terms of the bigger bucket for base benefits and tax. What kind of leverage, and what should we be expecting in Q4? Is it possible that, that can be down sequentially, given the -- that you guys got an early start on your expense controls?

Frank Mergenthaler

We don't expect this to be down sequentially, Matt. I do think -- we are expecting to see greater leverage out of it. Just because of the seasonality revenue growth, that would be very difficult to do to reduce it.

Operator

Our next question comes from Anthony DiClemente from Barclays.

Anthony J. DiClemente - Barclays Capital, Research Division

Just a couple. I'm sorry if you said this but, Frank, did you -- were you able to parse out in the U.S. what the tailwind from Olympic-related work in the 3Q was in terms of basis points?

Frank Mergenthaler

What we said was it came at -- there's about $20 million of incremental Olympic work in the U.K.

Anthony J. DiClemente - Barclays Capital, Research Division

In the U.K.? Okay.

Frank Mergenthaler

U.K.

Anthony J. DiClemente - Barclays Capital, Research Division

What about the U.S.?

Frank Mergenthaler

Again, that's -- there's no incremental Olympic revenue in the U.S.

Michael I. Roth

Well, let me just comment about Olympics. Down the road, it's not immediate, but obviously, in Brazil, we have some engagements with respect to the FIFA and the Olympics in place. So that's pretty exciting to see down the road. So there are opportunities. Right.

Anthony J. DiClemente - Barclays Capital, Research Division

Okay. And then, Frank, I know you have some issues that come up in 2013, I mean, your balance sheet. So converts to call, I think that's March, and you've got 10% notes that you could potentially term out midyear next year. I guess the question is, is there any reason at all that you would not look to refinance those issues at much lower rates?

Frank Mergenthaler

No.

Anthony J. DiClemente - Barclays Capital, Research Division

Okay. All right, that's good. Okay. Okay, great. And then...

Michael I. Roth

Well, you heard my comments and saying we see opportunities on our balance sheet. That's what we were referring to.

Anthony J. DiClemente - Barclays Capital, Research Division

Sure. Okay, got it, loud and clear. And then -- and finally, Mike, for you -- Michael, for you. I wonder -- it's just kind of interesting that CMOs in the U.S, you wouldn't be using this type of environment with capital kind of a little bit easier, to just go after market share, and so it's -- I understand there's caution. But I'm just wondering, is there anything else going on with respect to how CMOs are looking at the world? Are they taking incremental dollars and perhaps doing some more on their own, in terms of earned media? Maybe you could just provide us an update on what you're seeing in digital and technology. Are people maybe allocating dollars more efficiently to mobile or to social? And just wondering if what's happening is that because usage and time spend is moving towards those types of platforms, that they can perhaps spend and campaign a bit more efficiently?

Michael I. Roth

It's a great question. And the fact is that's where a lot of the action is taking -- look, just take a look at the increase in digital overall, and you can see how it's outpacing spend in other outlets. That doesn't mean TV and cable is not growing. It is. But "the Internet" and digital is growing at a faster rate. The notion of paid and earned media, you're spot on, on the point that our clients are looking to us to make sure that they get better reach, more effectiveness with less expenditure. And I was waiting to use this phrase on this call and I'll use it and that is that confusion is good. So this is where we earn our keep. And yes, the clients are saying, "I want to gain market share. I want to increase my exposure to the consumer base. But I want to do it in a much more efficient way." So we are seeing that, and ultimately -- and I don't -- they're looking to see more earned than paid, and it's incumbent upon us to have the tools and resources to do that. So we are seeing the impact of that, and frankly, you're seeing a lot of that. A lot of the reviews that are out there are on the media side, and the reason for it is because everyone -- they're looking for efficiencies. I might add, by the way, on the Unilever media pitch, I think that came to a close after the last announcement we had. And on that one, we retained the business we had, and we picked up some incremental business there, which also was good. But what they're looking for is for us to use all the tools and resources to be more efficient in how they spend their dollars. So it's not that they're taking the dollars and spending it elsewhere. They just want to get more for the same amount of money that they were spending. And in some cases, there's pressure on their P&L, and they're concerned about where to spend their money on a macro basis so we see some pullback. That's not the same as where we experienced before, just a total stop of marketing dollars.

Operator

And our next question comes from James Dix from Wedbush.

James G. Dix - Wedbush Securities Inc., Research Division

Two -- just a couple of things. Just going back to September, which seems to have been a tough month industry-wide. Do you have any other color as to where you saw, geographically, any more increased caution than anywhere else? Because for the quarter, at least, your International growth beat my expectations and seemed pretty strong. And so I was curious as to whether you had any more color as to what you saw in September, specifically, by geography, and whether that kind of mix of concern by geography is continuing in -- so far in the fourth quarter.

Michael I. Roth

Yes. I think most -- not most of it, a good part of it was here in the United States, and that was reflected in our results today. And frankly, the impact on retail is one of the areas that we've seen it. I think that's where the question of macro impact, of getting our act together in Congress and the uncertainties in terms of the fiscal cliff that we're facing, and I think you're seeing it on the retail sector. So it's likely to spill over to our caution on the part of our clients on the retail side, and so I think a portion of it is coming through there.

James G. Dix - Wedbush Securities Inc., Research Division

Okay, great. And then secondly, I mean, if you were able to achieve your 1% organic growth, or at least that, for the year, what are the items that could cause you to have less than 50 basis margin improvement for the year? Is it just the mix of the growth versus headcount? Or I'm just trying to understand kind of how those dynamics could play out for the full year and what you're seeing in the fourth quarter.

Michael I. Roth

Well, one of the items that's in there, frankly, that would impact it would be severance, all right. To the extent we have to take actions and we see softness in the revenue, then historically, because of our variable cost model, it comes out in headcount. So you might see some -- right now, we're using 1% in severance. So you'll see a slight tick -- pickup in severance. The rest of it is pretty consistent of what we've seen in the past.

James G. Dix - Wedbush Securities Inc., Research Division

Okay. And I guess finally, on incentives for the year. I know you've talked about 3.5% to 4%. I mean, it sounds like part of your lower accruals in the third quarter was due to the lower organic growth. Any general sense at this point as to what we should be modeling for that for the whole year, or is it just too hard to say?

Frank Mergenthaler

I'd probably say 3% to 3.5%.

Operator

And our next question comes from David Bank from RBC Capital Markets.

David Bank - RBC Capital Markets, LLC, Research Division

Frank, I feel like every call for the past couple, I've asked you this question, which was when you think about the minimum amount of tailwind you need to get the operating leverage for the 50 basis points of margin improvement, what's the minimum amount of revenue you need? And I guess where the question is getting answered here in that, this year, at least, it sounds like you don't need any more than 100 basis points necessarily to get there. So I guess I'll take one more shot at it. What do you think is the minimum amount of revenue growth you need to get the 50 basis points of improvement? And then recognizing that this was a -- and there's a bunch of extraordinary things going on this year in terms of client headwinds and just general environment, what do you think you need on a more sustained basis over the next couple as you target the margin improvement? What is the minimum amount of revenue growth you think you need to get the operating leverage?

Frank Mergenthaler

I'll try again, David. For this year, as we called out in Michael's comments, that we believe with 1% growth, 50 basis points is attainable. What puts that at risk is the comment Michael just made. If, in fact, as we go through 2013 planning and revenue concerns move to next year and we need to take action with respect to headcount because it's a variable cost model, as Michael called out, there could be some severance pressure on it, right? So if we've got to take severance actions, we're going to go ahead and do that, and that may put the 50 basis points at risk.

David Bank - RBC Capital Markets, LLC, Research Division

I guess I'm asking though, like could you do it at lower than 1% or is that the kind of -- is that the...

Frank Mergenthaler

We said 1% gives us 50 -- 50 basis points is attainable, right? So...

David Bank - RBC Capital Markets, LLC, Research Division

Okay, understood. And then more on a going-forward basis?

Frank Mergenthaler

Going forward, I think we're still in the same place as where we were on Investor Day, when we put the longer-term model in front of the investment community. We were at 4% to 5% growth. We think we can get 100 basis points of margin improvement, and we're still there. So we'd like to see -- as Mike said, we're going to be competitive with respect to top line. What that means based on macroeconomic situation, we're not sure yet. We're not ready to commit to that yet. But we think with 4% to 5% growth, we can get back on the margin trajectory that we called out on the Investor Day over a year ago.

Michael I. Roth

Let me weigh in a little bit here. We've consistently said that what we need is growth to expand margin. Remember, we're still not at competitive margins, okay? So we're in a little different position in terms of margin expansion. So when we say we need -- whether it be 1%, we can expand margin. I think what we've shown, if you look at our results through the 3 months, we've had a 30 basis point margin expansion, okay? And so the point here is that, directionally, we still have the opportunity to expand margin in a low-growth environment. To get to the competitive margin, obviously, we have to step up and have greater revenue. But for the thesis of whether we're in a position to expand our margin, then we don't need those kind of growth levels to consistently do that because of the variable cost model that we have. And if we weren't managing our costs as effectively as we are, then we couldn't make that statement. Now -- and I -- and you're seeing this in -- across all businesses now and, certainly, in the United States. The issue is a revenue issue. It's not a cost issue. Businesses have learned how to manage their cost profile. So even though people are meeting their objectives, they're meeting it by the cost side of the business, not the revenue, and that's really what's driving the macroeconomic concerns. And that is, at some point in time, we have to convert to a more growth on the revenue side than expense management. And that's the concern that I think you're seeing across all sectors. And so we see growth. We see margin expansion. But until we get real revenue pickups in terms of the macroeconomic side, that's when you see the greater expansion on the margin for us going forward, and that's a truism.

David Bank - RBC Capital Markets, LLC, Research Division

I guess just one quick follow-up. You've definitely have sort of spoiled us in your ability to generate the operating leverage off of a less robust revenue base growth. So the question really is in -- and I don't know if you can answer this one. But can you keep doing this? If you get -- no one really knows what next year holds exactly to within 100 or 200 basis points. But if you were to only grow, say, 100 basis points next year, do you think 50 bps of margin expansion is doable again?

Michael I. Roth

Well, I'm not going to pin 50 basis points. What I'm going to tell you is I just said...

David Bank - RBC Capital Markets, LLC, Research Division

I tried, Michael.

Michael I. Roth

That on margin -- with revenue growth, we continue to be able to expand margin. And yes, the answer is we can keep doing that because we have a variable cost model. And -- but it's not going to grow at the rate that we'd like it to grow in a more robust environment. That's not even a robust environment. Our Investor Day, we said 4% to 5% organic growth, okay, which is, historically, what our industry has been able to grow. And what's holding the industry from historically getting there has been the macroeconomics. Remember, our position in -- and we've proven it is that we have competitive offerings. So now it's -- we're crossing the street with the crowd looking at macroeconomics. And so in a lower growth environment, then we can still grow margin but it's not going to be at the growth rate that we would all like to see. But it's a revenue issue. It's not a cost issue.

Operator

And I do have a question from Dan Salmon from BMO Capital Markets.

Daniel Salmon - BMO Capital Markets U.S.

Two questions. First, notwithstanding all the broader issues you've already discussed, how are you thinking clients may time their decisions on budgets for next year, in light of things like the U.S. fiscal cliff coming right up at the end of the year? Do you expect a delay in terms of when you'll be hearing back from clients? And then just secondly, any changes in the labor market for digital talent these days?

Michael I. Roth

Well, the changes are that it's continuing -- it's not a change. It continues to be very competitive. I think we're seeing less turnover. When you have a difficult economic environment, you don't see a lot of people jumping jobs. But it's still -- that's the area that we're still seeing a lot of competitiveness in terms of recruiting. The good news is we have great agencies and great clients, so we're -- we are -- have good places for those talented people to go and feel comfortable with the work they're doing. So I think it's a challenge, but we're up to it. And if you looked at our headcount improvement or increase, if you will, on the digital side and in the media side is where we're seeing our growth. So it shows we do have the ability to hire in there. When our clients are going to see the light? If all -- if everyone gets their act together and we have resolution of all the fiscal cliff and the sequestration and all the stuff that's out there, then I think 2013 will be a pleasant surprise for everybody. And -- but we're not going to see it all of a sudden in December, the floodgates are going to open up and happy days are here again and we're looking at huge growth rates. So I think it'll happen, but it's just a question of when all these other issues, and Europe, let's not forget the issues in Europe, all come together. And if we get resolution of all this, then I think we can return to the days when we see good, solid growth in our industry, and we'll see the margin expansion that we were talking about. But it is not a light switch that all of a sudden they just open up the floodgate. Because remember, this takes a while for people to get their plans together and for us to put -- to work with them in terms of how to spend their money.

Operator

We are now approaching 9:30. We will return the call back to Michael.

Michael I. Roth

Well, thank you very much, again. Look forward to our next earnings call, and thanks for your participation.

Operator

Thank you. And that does conclude today's conference call. You may all disconnect at this time.

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