UMG’s buoyant stock debut is a new chapter for the music business

Universal Music Group (UMG) had an extremely positive first day of trading as a standalone entity, with shares at one stage trading 35% up from their reference point and making the market cap leap to $55 billion, while former-parent, Vivendi, saw a drop of two thirds in its value. Prior to the first day of trading, there were questions over whether Vivendi had pushed the indicative value of UMG shares too high, due to, in part, a series of UMG equity sell offs – but day one suggests that pent-up demand was sufficiently high to negate those concerns. Meanwhile, Warner Music Group’s (WMG) stock also surged, showing that investors see this as a market dynamic rather than a pure company dynamic. So, what is going on? Why is there so much investor enthusiasm in the music industry? The answers lie in the two-tier narrative that is building around today’s music business.

If the UMG listing had happened as recently as two years ago, we probably would not be talking about such a stellar trading debut. The fact that we are doing so now is because the music market has moved on a lot since then – and I mean a lot. This is what the music market looked like in September 2019:

For those deep in the music business, it is sometimes hard to appreciate just how much change has happened in such a short period of time. As CS Lewis once wrote: Isn’t it funny how day by day nothing changes, but when you look back everything is different? Crucially for UMG’s listing, these changes have contributed to a major shift in the music industry’s metanarrative for investors:

  • 2019: The Spotify vs the labels narrative was in full swing. Investors viewed the market through the lens of ‘rights vs distribution’. They were backing Spotify against UMG, vice versa or simply backing both horses in the race as a sector hedge. Record labels looked vulnerable in a market which was dominated by digital service provider (DSP) growth, which, in turn, was dominated by Spotify. Streaming’s future was bright, but there was a risk that as streaming got bigger, the labels would get weaker.
  • 2020: Streaming revenues continue to grow strongly, up 18.3% in 2020 with 467 million subscribers, and up a further 25.9% in H1 21 in the US. But, crucially, the market is diversifying beyond DSPs. New growth drivers (social, short-form video, games, fitness, and mindfulness) are now making a truly meaningful contribution to label revenues (around $1.5bn in 2020). Music is becoming the soundtrack to the new digital entertainment universe. Vitally, unlike the traditional approach of sync (an ad hoc model that struggles to be agile and to scale), the labels are applying scalable licenses, born out of the DSP model, to ensure music rights can be agile enough to grow with the fast-changing digital entertainment marketplace. On top of this, a) the catalogue M+A boom has established music as an investor asset class, b) recorded music grew during the pandemic while live declined, thus demonstrating it to be the most resilient component of the wider music industry. The outlook for music is now a multi-layered narrative, with DSPs still centre stage but no longer the only game in town.

What this all means is that music rights are a compelling investment proposition for bigger institutional investors. However, the thing about bigger institutional investors is that they typically like to invest in big established companies. So, looking at the marketplace, unless an investor wants to build a catalogue investment fund (which is a highly specialised approach), there are not many big companies to invest in. WMG is the smallest major, Sony Music is just one smallish part of the Sony Corporation, and Believe is an indie label. So, while those are still interesting options for investors, the opportunity to invest into the world’s largest music company was previously the exclusive domain of a few large investors. Now, finally, everyone can have a part of UMG. 

So, what we have is the confluence of two factors:

  • Pent-up investor demand
  • A compelling and diversified industry narrative

The timing for UMG is perfect, but, of course, it has not been a neutral player simply watching the sands shift. It has actively driven this narrative, not just through what Sir Lucian Grainge and other executives have been telling the market, but also through its succession of equity transactions which helped build demand and value recognition. Part of the reason UMG is the world’s biggest music group is because it is the world’s biggest music group. It uses its scale and influence to help shape the market and its future trajectory. This is arguably one of UMG’s most valuable assets: it exercises control over its own destiny.Whether UMG’s share price falls or whether it grows in the coming weeks, the listing represents a high water mark for the music business as an asset class and may well be reflected upon as a useful bookend for one phase of the music business as another emerges.

The record labels are weaning themselves off their Spotify dependency

The major labels had a spectacular streaming quarter, registering 33% growth on Q2 2020 to reach $3.1 billion. Spotify had a less impressive quarter, growing revenues by just 23%. After being the industry’s byword for streaming for so long, Spotify’s dominant role is beginning to lessen. This is less a reflection of Spotify’s performance (though that wasn’t great in Q2) but more to do with the growing diversification of the global streaming market. 

Spotify remains the dominant player in the music subscription sector, with 32% global subscriber market share, but streaming is becoming about much more than just subscriptions. WMG’s Steve Cooper recently reported that such ‘emerging platforms’ “were running at roughly $235 million on an annualized basis” (incidentally, this aligns with MIDiA’s estimate that the global figure for 2020 was $1.5 billion). 

The music subscription market’s Achille’s heel (outside of China) has long been the lack of differentiation. The record labels showed scant interest in changing this, but instead focused on licensing entirely new music experiences outside of the subscription market. As a consequence, the likes of Peloton, TikTok and Facebook have all become key streaming partners for record labels – a very pronounced shift from how the label licensing world looked a few years ago.

The impact on streaming revenues is clear. In Q4 2016, Spotify accounted for 38% of all record label streaming revenue. By Q2 2021 this had fallen to 31%.

Looking at headline revenue alone, though, underplays the accelerating impact of streaming’s new players. Because Spotify already has such a large, established revenue base, quarterly dilution is typically steady rather than dramatic. Things look very different though when looking specifically at the revenue growth, i.e., the amount of new revenue generated in a quarter compared to the prior year. On this basis, streaming’s new players are rapidly expanding share. Spotify’s share of streaming revenue growth fell from 34% in Q4 2017 to just 26% in Q2 2021. Unlike total streaming revenue, the revenue growth figure is relatively volatile, with Spotify’s share ranging from a low of 11% to a high of 60% over the period – but the underlying direction of travel is clear.

Spotify remains the record labels’ single most important partner both in terms of hard power (revenues, subscribers) and soft power (ability to break artists etc.). But the streaming world is changing, fuelled by the record labels’ focus on supporting new growth drivers. The implications for Spotify could be pronounced. With so many of Spotify’s investors backing it in a bet on distribution against rights, the less dependent labels are on it, the more leverage they will enjoy. From a financial market perspective, the last 18 months have been dominated by good news stories for music rights – from ever-accelerating music catalogue M&A transactions to record label IPOs and investments. 

Right now, the investor momentum is with rights. Should the current dilution of Spotify’s revenue share continue, Spotify will struggle to negotiate further rates reductions and will find it harder to pursue strategies that risk antagonising rights holders. Meanwhile, rights holders would be surveying an increasingly fragmented market, where no single partner has enough market share to wield undue power and influence. That is a place where rights holders have longed dreamed of getting to, but now – divide and conquer – may finally be coming to fruition.

Labels are going to become more like VCs than they probably want to be

When you are in the midst of change it can be hard to actually see it. Right now, the music business is undergoing a consumption paradigm shift that is changing the culture and business of music. Streaming may be well established and maturing in many markets but the market impact will continue to accelerate as behaviours continue to evolve and bed in. Whether it is the rise of catalogue or the decline of megahits, everywhere you look, the music landscape is changing. So it is only natural that the role of record labels is going to change too. They have already of course, but shifts like label services deals and JVs are not the destination, instead they are preliminary steps on what is going to be a truly transformational journey for labels. 

Record labels often like to compare themselves to venture capital (VC), taking risks, investing in talent and sharing in the upside of success. While that comparison is flawed, its relevance is going to increase, but not in the way many labels will like. 

Firstly, where the comparison breaks down: VCs invest money early in a company’s life and then earn back if / when a company has a liquidity event (e.g., it sells, it IPOs, a new investor buys out earlier investors). But record labels invest and then take money immediately. As soon as the artist is generating royalties, the label is earning a return, it does not have to wait until some distant time in the future. What is more, even after the label no longer has an active relationship with the artist, it continues to earn. So a record label basically has a perpetual liquidity event. Which means its risk exposure is lower than a VC. Even if the artist flops, it will have recouped at least some of its outlay. VCs can be left with nothing if a start- up fails.

But where the label / VC analogy works best, is when looking at how the role of labels will evolve. VCs are typically earlier-stage investments so start-ups use VCs as launchpads for future success, a means to an end. Labels will likely have to start getting used to the same dynamic. Ever more artists are going their own way, launching their own apps, labels, using D2C sites. But the reason why record labels are around (despite artists being able to create their own virtual label from a vast choice of services – see chart) is that artists still need someone to build their audience (at least in most instances). The investment and A&R support help too, though those services can also be tapped into ad hoc from standalone companies.

This value chain dependency is what has helped labels to stay relevant despite dramatic industry shifts. But the next stage of this evolution will see a cohort of artists viewing labels as accelerators rather than long-term partners. They will use labels to establish their fan bases and then engage with them on their own terms, sometimes with labels, sometimes not. This is of course already beginning to happen, but it will become an established and increasingly standard career path.

Major labels like to think of themselves in the business of creating superstars. But as the very nature of what a superstar is dilutes, more artists will simply see labels as a launch pad. Start-up Platoon positioned itself as an artist accelerator and was bought by Apple. In many respects it was ahead of its time, pioneering a model that labels will increasingly find themselves filling, even if it is not their preferred role. 

Labels as artist accelerators

The repercussions will be massive. Labels, especially majors, will often over invest early to establish an artist. The business model depends on recouping the investment on future earnings. But with ever more artists looking to retain their rights, the labels only have a finite window in which they can monetise those rights, unless they negotiate term extensions. What this means is that labels are becoming a utility for many artists, a stepping stone while their brands are built for them. Like it or loathe it, savvy, empowered artists will increasingly see labels as the launchpad for future independence, and in this respect, labels are becoming more like VCs than ever.

As disruptive as this paradigm shift will be, record labels will find a way to adapt, just as they have to streaming, TikTok, label services, distribution etc. The difference here though is that this may represent a complete recalibration of the role that record labels play in the music industry value chain. This will mean a riskier, more limited role for labels, which in turn will make them more like VCs than they may be comfortable with. Turns out that modelling yourself on VCs can be a risky business in itself.

IFPI confirms global recorded music revenue growth

Last week MIDiA reported that recorded music revenues grew by 7% in 2020. Today the IFPI confirmed that figure, reporting 7.4% growth. (Similarly, the IFPI reported 19.9% growth for streaming, MIDiA had 19.6%). Given that the majors’ total revenues collectively grew by just 5.5% in 2020, this means that even by the IFPI’s reporting the majors lost market share, driven largely by the continued rapid growth of the ‘artists direct’ segment and also the similarly stellar growth of smaller, newer independent labels. Whichever measure you use, the recorded music market is transforming at pace.

There was one big difference between the IFPI and MIDiA figures. MIDiA’s figure for 2020 is $23.1 billion while the IFPI’s estimate is $21.6 billion. The gap between the IFPI’s and MIDiA’s figures is steadily widening each year, in large part because of the way in which the market is changing. The traditional market, which is of course the easiest to measure, is being out accelerated by an increasingly diverse mix of non-traditional revenue streams. MIDiA has spent the last few years putting considerable resources into measuring these emerging sectors. These include the music production library sector, of which the revenues do not flow through any of the channels that traditional music industry trade associations track. You have to go direct to company financials, ad agencies and sync companies to collect this data, which MIDiA spent a lot of months doing. The recordings side of that sector alone was worth the best part of half a billion in 2020. 

The long tail of independents is the other key area of variance, which is why MIDiA fielded a survey of independent labels to capture the revenue of independents of all ages, regions and revenue sources. This gave us an unrivalled view of just how much the independent sector was growing and its contribution to global revenues. 

Direct to consumer has also been a growth sector and one which access to the data is limited for traditional trade associations. During the pandemic impacted 2020, direct to consumer became a lifeline for many smaller labels and independent artists. MIDiA was able to size this sector through the independent label survey, an independent artist survey and data collected directly from platforms.

The key takeaway from all of this is: change. The industry is changing and in turn it is becoming more difficult to measure. There is also a host of additional challenges to how anyone measures the market in the future. For example, Bandcamp did $100 million of merch and live streaming revenue in 2020 and even though total Bandcamp revenues went up, recorded music income growth ground to a near halt. It turns out that aficionado indie kids only have so much disposable ‘fandom’ spending. As more platforms aim to monetise fandom, whether that be subscriptions on Twitch or NFTs, more music consumer spending will shift from traditional recorded music to derivative formats. The old distinction between merch and recorded may become counter-productive when trying to size the music business.

But these are all quality problems to have. The recorded music business grew in a year when the live music business was decimated. It was a rare beacon of hope when the world was falling apart. And as MIDiA’s recorded music market figures revealed, global Q4 revenues were up 15% year-on-year. The recorded music business weathered its fiercest storm in 2020 and entered 2021 in fighting shape. 

Recorded music revenues hit $23.1 billion in 2020, with artists direct the winners – again

The global pandemic caused widespread disruption to the music business, in particular decimating the live business and impacting publisher public performance royalties. Although the recorded music business experienced a dip in the earlier months of the pandemic, the remainder of the year saw industry revenue rebound, making it the sixth successive year of growth. Global recorded music revenues grew 7% in 2020 to reach $23.1 billion in record label trade revenue terms. The growth rate was significantly below the 11% increases seen in both 2018 and 2019, and the annual revenue increase was just $1.5 billion, compared to $2.1 billion in 2019. These metrics reflect the dampening effect of the pandemic. Global revenue was down 3% in Q2 2020 compared to one year earlier, but up to 15% growth in Q4 2020, suggesting a strong 2021 may lie ahead if that momentum continues.

Streaming growth driven by independents (labels and artists)

Streaming revenues reached $14.2 billion, up 19.6% from 2019, adding $2.3 billion, up from the $2.2 billion added in 2019. So, 2020 was another year of accelerating streaming growth and, given that Spotify’s revenue growth increased by less in 2020 than 2019, this indicates that it is for the first time meaningfully under-performing in the market, due to the rise of local players in emerging markets and strong growth for YouTube. For the first time, the major labels under-performed in the streaming market – but not all majors were affected in the same way. Sony Music Entertainment (SME) was entirely in line with streaming market growth, Universal Music Group (UMG) slightly below and Warner Music Group (WMG) markedly below. Independent labels and artists direct both strongly overperformed in the market, collectively growing at 27% and thus increasing their combined streaming market share to 31.5%.

Market share shifts

The major record labels saw collective market share fall from 66.5% in 2019 to 65.5% in 2020. While this shift is part of a long-term market dynamic, most of the dip was down to WMG reporting flat revenues for the year. SME gained share and UMG remained the largest record label with 29.2% market share. Independent labels also saw a 0.1 point drop in market share, but there was a very mixed story for independents. MIDiA fielded a global survey of independent labels and the data from that helped us track the contribution of independents. Independent labels as a whole grew by 6.7% (i.e. slightly below the market), but within the sector there was a massive diversity of growth rates, with smaller, newer indies tending to grow faster than the market (some dramatically so) and larger, more established indies growing below the market rate. There were also many independents (of all sizes) that saw revenues fall in 2020.

The unstoppable rise of independent artists

In 2019, artists direct were the stand-out success story, massively outperforming the market. History repeated itself in 2020 with artists direct growing by a staggering 34.1% to break the billion-dollar market for the first time, ending the year on $1.2 billion and in the process increasing market share by more than a whole point, up to 5.1% in 2020. The continued rise of independent artists reflects the clear and pronounced market shift towards this new, emerging generation of artists. With lots of private equity money now pouring into creator tools companies like Native Instruments, expect this space to heat up even further in 2021. The recorded music business is changing, and it is changing fast.