Monday, 13 June 2011

No one wants to pay for music. Yet investors are splurging on music firms

May 12th 2011

SAY what you like about the men who built business empires from the wreckage of Soviet communism. They are angels. Roman Abramovich turned Chelsea football club into a winner. Alexander Lebedev rescued the Evening Standard and Independent newspapers. And on May 6th Len Blavatnik, an oil magnate, agreed to pay $3.3 billion for Warner Music Group. The stunned reaction among music executives suggests that his is the greatest act of charity ever.

Warner Music was born in 2003, when Edgar Bronfman and a group of investors paid $2.6 billion for Time Warner’s music division. Mr Bronfman, heir to a whisky fortune, was known as an unlucky investor. New York magazine called him “possibly the stupidest person in the media business”. Not any more. He has managed to sell a company in a collapsing industry for substantially more than it cost (and there are rumours that another suitor will yet try to outbid Mr Blavatnik’s offer).

Since 2003 global CD sales have roughly halved. Competition from pirates has crushed retailers and forced record labels to cut prices. Rising digital music sales, mostly through Apple’s iTunes store, have not nearly made up for these losses. And it is still unclear whether music-streaming services such as Spotify will reverse the decline or accelerate it by drawing honest people away from buying music.

Under Mr Bronfman and his private-equity partners, Warner Music drastically cut costs in the mid-2000s. Executives went from flying first class to business class, then to economy. For a while revenues held up, suggesting it was possible to run a successful music firm on the cheap. But since 2008 Warner’s recorded-music sales have dropped by 75%. Its “artist and repertoire” costs, which include searching for and signing artists, are also dropping. That is a worrying sign, similar to a drug firm spending less on R&D.

Investors argue that music publishing (that is, the trade in songs rather than recorded music) is still doing fairly well. This is true. Advertisers and TV broadcasters are hooked on music, and that brings money to record labels. But firms must cultivate songwriters for years. Warner’s publishing business is weak—its share of the market has slipped in the past two years to 13.9%, according to Music & Copyright, a trade publication.

The rumour now is that Warner will try to buy EMI from Citigroup, which seized it earlier this year from Terra Firma, another private-equity firm. That would make some sense. Warner is strong in America; EMI is strong in Europe. And rich technology firms want to copy Apple by building businesses on music: Google launched a music-storage service on May 10th. The bigger the music firm, the more it can pick winners and shake the digital market. A merged EMI-Warner would be a serious rival to Universal Music Group, the world’s biggest music company.

Overpaying for two music firms is not twice as crazy as overpaying for one. But Mr Blavatnik may not get the chance. Also, the auction for Warner Music suggests there will be no shortage of rich men willing to lose—sorry, risk—money on a record company.
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