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Musicstrategyconfidential
EmailID

121457

Date

2014072522:48:28UTC

From

daveg@surveymonkey.com

To

michael_lynton@spe.sony.com

EmailBody

RawEmail

Musicstrategyconfidential

Michael,

AswediscussedSaturday,IthoughtIwouldsendyoualongeremailwith
mythoughtsaboutthestrategy,whattherisksarewithitandthe
reasonsithasntbeendonetodate.Iobviouslydonthaveaccesstoany
internaldatabutIthinkSonyiscloseenoughtoWMGorEMI(whereI
haveseenthedata)tomakereasonableassumptions.

Ifyoustillwanttodiscussthisafteryoudigestthis,Iamhappytofinda
timetocomedowntotalkaboutitmore.Ithinkthisamountof
reinventionhasrarelybeendoneinsideapublicmediacompanyandit
wouldbetoughforSonyasacompanytostomachthecomplaintsfrom
artists,employeesandrelatedparties(RIAAbudgetwouldbeslashed,as
anexample).Wewouldhavetoreallydecideifitwaspossibleifyou
agreedwithmythesis.Iwouldalsowanttodoalotofactualworkpriorto
implementingtovalidatethedatabehindtheassumptionsand
understandthesequencing.Ithinkitisatwothreeyearprojecttoshrink
thecompanydowntotheendstatewithalotofnoiseinthatperiod.

Best,
Dave

Corestrategicassumptions:

Musicisbecomingapurelydigitalproduct.Adigitalonlyrecordedmusic
companywillbeamuchmoreprofitableoneafteroneoffrestructuring
costs.Itwillhavelowerrevenueandhighermargins.Itsrevenuewillbe
verystableandgrowwiththeoveralldigitalmusicmarketgrowth.Itwill
beamuchmorevaluablecompanywithitsrevenuebasesolidlycoming
fromsubscriptionandadrevenue.Itwillbevaluedlikemusicpublishing
companiesorcablechannels,notlikerecordedmusiccompaniestoday.
Marginsforrecordedmusicshouldeventuallybeabove40%onthatlower
butgrowingrevenuebase.

Catalogprovides50%oftherevenueand200%oftheprofitsofrecorded
music.Thishasgenerallybeenthecasefortheotherrecordedmusic
companieswhentheanalysiswascorrectlydone.Thecorrectanalysis
requiresincludingreissues,livealbums,greatesthitsreleasesincatalog.
Catalogneedstobedefinedmuchmorebroadlytoincludeallmusicthat
hasntbeencreatedinthelast2yearsEMIusedtocalltheBeatles
releasesnewmusiceventhoughtheyclearlywerentunderanew
albumcontract.Inaddition,streamingrevenuestendtobemoreheavily
weightedtocatalog.PandoraandSpotifyareprobably65%catalogunder
thisdefinition.Licensingandsynchrevenuearemostlycatalogaswell.
Therefore,ifSonyRecordedMusic(exJapan)isdoing$250MMinEBITDA
today,catalogisprobablygeneratingapproximately$500MMandthe
newreleasebusiness,whichis98%oftheheadcount,islosing$250MM
peryear.Thecatalogisalsoprimarilygeneratingthisrevenueoffdeep
catalogthatisatleast5yearsoldorolder.Thegreatclassicsofpopmusic
arestableearners,muchliketheconsistentsongsthatgeneratemostof
themusicpublishingrevenues.

Withcatalogprovidingthebaseprofits,newreleasesneedtobecutback
dramaticallytothepointwherethenewbusinesseitherbreaksevenor
losesasmallamountofmoney(justifiedbythelongtermcatalogincome
streamofthosesongs).Thus,ifthenewreleasebusinessisoriented
towardsbuildingnewdeepcatalog,itchangestheentireprocessfrom
tryingtopickbighitstosafelygettingsomegoodmusicoutthathas
longevity.Thiswillbiasnewreleasestogenreslikerockandcountrythat
typicallyhavehadstrongcatalog.Thesealsohappentobethegenresthat
donthaveexpensiveproducerssomoremusiccanbecreatedforthe
sameA&Rdollars.Therecordcompanyneedstoactlikeamusicpublisher
fornewreleasesputtingupverylittlemoneybutnottryingtohold
artistsforlongcontractperiodsortokeepasmuchoftherevenue.
Advanceswouldbe$50kwitha40%revenueshareaftertheadvance.
Lossesinnewreleasesaregenerallydrivenbyexpensivefixedheadcount
andbuiltinmarketingcostsfornewreleasesthatdontpayoff.Thenew
releasebusinessbudget,employeesandcapitalneedtoberingfenced
fromthecatalogsothatitstandsonitsownwithaLifetimeValue
assessmentofthecapitaldeployed.Mostfixedheadcountinnewreleases
willneedtobeeliminated,artistswillneedtobepaidquicklyand
transparently,dealswillneedtobesimpleandfairandcatalog
replenishmentistheonlygoalofthenewreleasebusiness.Artist
contractsthathavelargefixedmarketingcostswillneedtobe
restructuredorsoldoffastherewillnolongerbeheadcounttodothe
work.Newreleaseswillbetestedonconsumersbeforeaddedmoneyis
spenttoensurethatitisntwasted.Inshort,thenewreleasebusinesswill
becomelikeanindependentlabel.PublishingandrecordedmusicA&R
shouldbecombinedtoensurethatallrecordedmusicreleaseshada
combinedpublishingdealandthatyoucancapturethepublishingvalue
fromthecatalogyoucreate.Notallnewpublishingwriterswouldbeon
recordedmusiccontractsbutallnewrecordedmusiccontractsshouldbe
combinedwithpublishing.

Physicaldistributionisgoingawayitdoesntneedtobeeliminated
prematurelybutitneedstofollowdigitalandnotdriveit.Therecord
companywillwanttomilkthephysicalCDbusinessbutnotworryabout
supportingretailerswithcredittomakequarterlynumbers.Jamming
productintothechannelneedstobeeliminatedandthedigitalbusiness
needstobethepriority.

Internationally,mostlocalrepertoirewillprobablyhavetobeeliminated.
Therecordcompanywillwanttoselloffthelocalrepertoireorspinoutthe
locallabelsandfocusonEnglishlanguagerepertoireglobally,unlessthere
issomecountrythathasmanagedtobeprofitableonitslocalrepertoire
(i.e.Japan).Thisisahugepartofthecostbasewithverylittlevalue.
Digitaldistributorsdonotneedlocalnewreleaselabelstoworkwithas
theyareallregionalorglobalplayers.Internationallocalpublishing
repertoirewillneedtobeevaluatedbutmuchofthatcostand
infrastructureshouldntcontinueeither.

Digitallicensingstrategyneedstochangedramatically.Therecord
companyandthepublishingcompanyneedtounderstandtheeconomics
andtheecosystemoftheDSPsandworktohelpthemgrowprofitablybut
alsotoensurethattherearemultipleproviders.Pandorashouldbe
incentivizedtobuildasubscriptionbusiness,Spotifytoentertheradio
space,newentrantstohaveanadvantageinthebeginningandmuch
moreinternationalaccesstodigitalcontent.Thesimplestwaytostart
wouldbetoofferPandora,Spotify,Google,Amazonandothersanew
threeyeardeal.Thiswouldbea1015%premiumovertheirexpected
paymentforthe3yearsbuttheywouldgetunlimiteduseofthemusic
duringthatperiod.Thiswouldincentthemtoheavilyinvestingrowing
theiruserandrevenuebasesbecausetheywouldseeimprovedmargins
oneachincrementalsub.Additionally,therecordcompanywouldmake
licensestransparentandsimpleforallnewentrantswhileremovingthe
pricesettingconstructsfromondemandsubscription.IfNetflixwantedto
pay200MMperyeartogiveallofits40MMsubsamusicsubscription
thatshouldbeencouraged,notscoffedat.Thegoalfordigitalisfor
subscriptionandadbasedservicestobecomethepredominantmeansfor
peopletoaccessmusic.Theseservicesneedmargintoattractcapitalto
maketheinvestmenttogrowtheiruserbases.Thisshouldhelpbuild
morestablelongtermrevenuestreamsforbothrecordedmusicand
publishing.

PublishingneedstoextractitselffromthetaxofthePROs(ASCAP,BMI).
Thetechnologyisavailabletodaytoenabledirectlicensingofpublic
performancesforradioandTVifthecostsofthePROswassharedequally
betweenbroadcastersandpublishers,thiscouldresultinanincremental
7%9%revenueincreasetopublishersonthesamebaseofcontent.In
addition,recordcompaniesshouldbeabletogetaUSperformanceright
foranalogradiobypushinghardtomoveasmanylistenerstodigital
radioasquicklyaspossible.


Headcountreductionswilltaketimebutaftertherestructuringperiod,it
shouldbepossibletorunRecordedMusicwithafewhundredpeopleand
thesameforpublishing.Moreinvestmentwillbeneededintechnologyfor
royalties,reportingandlicensingcontentandrevenuewillcertainlycome
downontherecordedmusicsidebuttheabsoluteandrelativemargin
improvementsshouldmakeupforit.

ItshouldbeeasytodoublemarginswithoutmuchchangeWarnernow
hasan18%OIBDAmarginonalowerrevenueandpublishingbased
comparedtoSonys11%.Butthegoalistogettoa40%marginonthe
combinedSonyMusicbusiness,albeitonlowerrevenue.Thisshouldbea
growthbusinessthatgrowswiththedigitalbusinessandgetsa
substantialpremiumonitsvaluationbecauseofthemargin,thestability
ofthecashflowandthegrowth.Ifthewholebusinesshad$587MMof
OIBDAon$5.4Bofrevenuelastyear,itshouldgetto$1.6BofOIDBAon
$4Bofrevenuein3years.Thiswouldbeanalmost3Ximprovementin
absoluteearningsbutwouldbea45xincreaseinvaluationbecauseofthe
marginsandthegrowthtiedtodigital.Thenewbusinesswouldbe
growing1020%annuallywithhighmargins.