Bottom Line: Saatchi clears hurdles

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The Independent Online
TWO MONTHS after setting its face against a rights issue, Saatchi & Saatchi, the advertising group, has asked its shareholders to stump up pounds 73m in a deeply discounted cash call at 130p a share.

Investors were unperturbed at this apparent change of heart by Charles Scott in the six weeks following his appointment as chief executive. Perhaps they had judged that, following the WPP cash call, a Saatchi rights was inevitable. By the close, the shares were down just 2p to 170p yesterday, reflecting the market's support.

The company has fought a long battle to claw itself back from the brink of collapse four years ago. Along the way it was forced to dilute shareholders' interests to ensure survival.

It could have soldiered on, rebuilding its business from existing resources but that route would have taken many years to deliver any significant benefit for shareholders. Nor would it have been able to afford a dividend until its pounds 190m debt burden had fallen to a more manageable level.

But the rights issue should help the group to overcome several hurdles at once. Half the proceeds are to be used to reduce debt. Helped by an already improving cash flow, borrowings should fall to about pounds 150m this year, paving the way for a dividend next year.

Saatchi will also use the new funds to expand its advertising network into fast-growing markets in the Far East where its main clients want an improved service. Greater use of information technology should also enhance margins. Without such investment, the group's competitiveness is likely to come under serious pressure.

The rights issue will reduce Saatchi's tax charge, and savings here are likely to feed through to earnings. Although the advertising industry has yet to see any firm signs of an economic upturn in the US and UK, the group is on course to lift margins steadily over the next three years. Support for the rights can only speed its recovery. Looking out to 1995, the company is capable of generating taxable profits of about pounds 70m, implying an earnings multiple of below 10 times.

The shares look attractive on recovery hopes and their high operational gearing to an economic upturn. They should outperform the market over the medium term. Though shareholders may feel uneasy about funding their own dividend payment, the rights are more appealing than WPP's.