Warner Music Group-Look Beyond the Headlines

To most people, when you say that you think that Warner Music Group (nyse: wmg) is a great investment, they’d laugh at you. But I wouldn’t. I love the idea. Warner was spun off from Time Warner (makes sense…) in may 2005. The physical side of the business, which accounts for about 88% of revenue, is declining, but the real “magic” in this company comes from the digital side (12% of revenue). Last year, digital, which comprises both ringtones and music on websites like iTunes, sales doubled. This is the real growth driver for the company, and the management knows this- on the last conference call they talked about their “laser focus” on the digital side and on signing new artists. Warner increased their digital market share by 300 basis points to 20.5%. The reason why digital is so important is because it has much higher margins than physical sale. The management team at Warner knows that the music business is changing rapidly, and they are insistent that they remain on the vanguard of the “music revolution.” They just signed a new deal to have their music videos published on YouTube. They also signed deals to have music video’s published on Google and Brightcove. Warner is also persuing strategies in international markets, with sales in Japan, for example, up 50% YoY.

I want to emphasize that there are many risks with Warner. Because physical sales are so important, price and unit declines will hurt the bottom and top lines. But, I would buy this stock on any weakness, because I think that the management really understands that technology is changing and they are moving this company towards faster-growing, higher margin businesses. Besides, they pay a 2.5% dividend yield while you wait.


3 Responses to Warner Music Group-Look Beyond the Headlines

  1. EP says:

    Stop believing the management’s own propaganda. The digital revenue will never make up for the loss of physical CD sales, no matter how much Edgar Bronfman and Liar Cohen want it to be so.

    The main reason is that the WMG publishing catalog is mainly standards and doesn’t include much of the following genres which actually DO get downloaded a lot.

    1) Boyband rock
    2) Hip-hop

    The labels side at this point is a lot of overhead who long ago had to give up on developing artists when the owners took out all that debt to buy the company. Now, $180m is going to debt service each year instead of going to artists’ advances and trying to develop singer/songwriters.

    I suggest you invest your ducats in a company in a growth industry with sound management. If you really want to read something interesting, do some independent research into Edgar Bronfman’s tenure at Seagram’s and Vivendi and what a mess he made of things there before you start believing the bullshit coming out of his mouth.

  2. loslobos71 says:

    OK. Theres a lot of things to tackle in this post so Illl start with Physical vs. Digital:

    To say that digital will never replace physical makes a lot of sense, but digital + phyiscal = X ($ sold ) in every case, and when x grows by 5% a year, that means that some combination of D + P will equal 1.05(x). It almost doesn’t matter whether people buy digital or physical, becuase they will buy the same amount of music. Management (we can talk about them later) is aggresively persuing the digital segment of the market because they think that they can gain significant market share in the young generation through deals with YouTube and iTunes, etc.

    Per 10-K: “For example, we recently announced a deal with YouTube through which we will share advertising revenues related to the streaming of our music videos and user generated videos utilizing our recorded music library.” We see that their strategy is working because, as it states: “our shares of digital recorded music track and album sales in the U.S. as measured by SoundScan were higher than our overall recorded music album share in the U.S., which we believe reflects the relative strength of our content and in particular our catalog content, as well as the success of our recent digital innovation efforts.”

    They also gained market share in 4 out of the top 5 music segments, which tackles point #2 (that they aren’t in the right segments). “For the fiscal year ended September 30, 2006, we have gained album market share in the U.S. year-over-year in four out of the top five musical genres including Alternative, Hard Music, R&B and Top Sellers. ” So whether or not they were in the right places to begin with, I don’t know. BUt management knows what the right segments are and they are gaining share in those segments..

    I agree with you that their are a lot of risks with the company. One of them is their huge pile of debt. That is not Edgar’s fault because it was there before he was. But in any case, I emphasized in my writing that I would buy it at a LOWER price. It could be a really interesting stock to watch, maybe not to own. I’m looking at Paychex, Electronic Arts, and YRC first. But thanks for your comment.

  3. EP says:

    Get your facts straight. Edgar TOOK OUT the debt with Thomas Lee, Providence Partners, Bain, et al to buy the company. It was not there before he got there.
    It was a part of Time Warner previously.

    I would really recommend staying away from this company until it gets decent management.

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