Alternative Investments — Music Royalties and the Search for Yield (Part I)
It is common knowledge that the current low-yield market environment has steered investors away from traditional asset investments. Alternative assets may be riskier than equity and bond markets, but with this comes attractive yield and diversification upside — expected to rise to $13.6 trillion by the end of 2020. In fact, market volatility on the back of COVID-19 has encouraged an increased interest in the alternative assets sector, with most investors saying that the pandemic will have no negative impact on how much they invest in alternatives.
However, when one thinks of alternative assets, they are constrained to the likes of market norms — real estate, gold, art, watches, precious metals, cryptocurrency — typically reserved for high-net-worth individuals. Instead, I want to draw your attention to a unique set of collectible assets, an asset class that is disrupting the status quo and diversifying the opportunity set for the ordinary individual to have ‘skin in the game’.
Music Royalties
“It will be a while before a writer is paid his or her due on Spotify the way labels are so, for some of these folks, they can pull the money out of a catalog and buy real estate or some other investment that will provide a better rate of return over the next 10 years.” — Jeff Biederman (Partner, Manatt Entertainment)
Typically, music royalty investments have been framed as an elitist asset class, available only to a handful of private investors. Over the past decade, music catalog transactions have totaled $6.5 billion across recording and publishing, excluding non-disclosed transactions. During this time, we have seen PE-like funds focused on music royalty acquisitions raising in excess of $1 billion+ to purchase future revenue rights. This has triggered multiples of Net Publishing Share (NPS) to have almost doubled between 2010 and 2018 from ~10 to 12 times, now reaching up to 20+ times — a measure of trailing net annual earnings.
However, emergent models suggest that times are changing. Publicly traded music royalties funds and B2C propositions have added a much-needed boost to an industry under severe pressure to create and maintain revenue-generating opportunities on behalf of participants. Music is a universal language that, combined with strong industry growth and revenue outlook, makes royalty investments an attractive reality.
Origins
This is not new, though. The origins of the model sit with none other than the late David Bowie. The first of many ‘Pullman Bonds’ or ‘celebrity bonds’ was developed by renowned Wall Street investment banker, David Pullman. Issued by the Jones/Tintoretto Entertainment Company, ‘Bowie Bond’ asset-backed securities (ABS) were listed on the Luxembourg Stock Exchange in 1997 — raising $55 million backed by present and future revenue streams of 25 pre-1990 albums (287 songs) from a recently inked EMI licensing deal. Investors would earn 7.9 percent for the 10-year self-liquidating bond, which was only made possible because Bowie held the rights to his own music.
The stimulus for Bowie’s decision to sell his masters was the onset of music piracy. As P2P file-sharing propositions such as Napster, Kazaa, and the like rose in popularity, this began to have a material effect on record sales. To complicate the situation further, Apple’s iTunes turned the industry on its head, with the introduction of the single song format. Consequently, worldwide sales of recorded music dropped 7 percent in 2002.
To stay at the sharp end, Bowie penned a licensing deal with EMI for a guaranteed 25 percent royalties upside on US wholesale sales of his back catalogue, together with his unreleased studio and live recordings. It was a smart move by Bowie, as the market climate saw Moody’s downgrade the bonds from investment grade to BAA3 (one level above junk), which was still higher than the junk-rated EMI. Irrespective, the Bowie Bonds fully liquidated at maturity in 2007, transferring back to Bowie as the 10-year reversion period lapsed.
Here Today, Gone Tomorrow
A 2013 study by Dr. Soloveichik titled Music Originals as Capital Assets showed that more than 75 percent of CD sales occurred in the first year after release. Depreciating at 10 percent per annum, they were expected to reach a near-zero value within six years. When weighting the lifespan of a song across consumption categories (pre-streaming era), the depreciation schedule showed that original songs depreciate by 65 percent in the first year of life to stabilize at approximately 4 percent per annum.
Around the same time, streaming became unignorable as Psy’s Gangnam Style was the first video to break the billion-view mark — recalibrating chart metrics and changing the industry fundamentally forever. Why? Because streaming provides better access to a more sustainable monetization channel when compared to physical sales and radio programming of the early 2000s. As such, a 2019 study titled Music Consumption Decisions with Non-Durable Streaming Options shows that song sales and radio airplay decline slower in the streaming era, possibly because consumers that churn through music faster will adopt demand-side platform (DSP) services.
Rightsholders in today’s market see a fundamentally different opportunity set to the Bowie Bond era. While digital distribution models present a unique set of valuation factors, the inflow of data encourages an enhanced analysis of prospective royalty investment opportunities. This being said, the retrospective nature of valuing music royalties makes it difficult to assess upside within this rapidly evolving market. However, anomalous cases do exist, where the likes of Slade’s ‘Merry Christmas Everybody’ earns c. £500,000 every Christmas — while few and far between, these opportunities are out there.
But why would the rightsholders want to sell their position? The second part of this series explores the underlying industry dynamics affecting the financial wellness of artists in today’s market.
Stay tuned.
If you or your network is passionate about the space and would like to connect, please feel free to reach out.
E: Dario@Anthemis.com
