As more investors are turning to music catalogues and royalty funds in search of yield, even more artists and rightsholders’ are becoming less reluctant to sell the rights to their music
Source: Los Angeles Magazine
“We all die. The goal isn't to live forever, the goal is to create something that will.” These words by American novelist Chuck Palahniuk sink deep into the notion of great art being timeless in a world flooded with creative expression. Whether it be the Madonna Litta by Leonardo Da Vinci from the Renaissance Period or Michael Jackson’s Thriller album from 1983, these works of art transcend time and increase in value like aging fine wine. Although the credit to the artistry will forever remain in the name of the artist, the ownership of the art rarely stays in one hand. Such has been a prominent trend in the modern music industry.
In my second blog, I discussed how investors are repositioning themselves for the post-COVID music & entertainment business and I made high-level illustrations into the music catalogue investment space. Since then, the space has grown significantly and, in this blog, I dive deeper and discuss recent transactions, valuation, and legacy considerations for artists.
Firstly, what is a music catalogue and why is the term more popular than ever?
A music catalogue is a collection of rights needed to exploit and monetize a set of master recordings (which are the official original recordings of a song). When an artist sells their music catalogue, they are forfeiting their rights to directly monetize their music, despite being the original creators. Historically, artists never really were the original rightsholders’ to their music in the first place. Since record labels were traditionally gatekeepers to the music industry as they controlled the means of distributing music, they often leveraged this advantage by forcing artists to give up ownership of their master recordings as a part of a record deal. However, through the prevalence of streaming, many artists are now distributing their music without the help of a traditional record label and are considered “independent” artists as they own the rights to their music catalogue.
With the surge of streaming services and music discovery tools, the number of opportunities available for music rightsholders to exploit a catalogue is increasing, making the underlying songs more valuable. Legacy catalogues are an asset class that provide consistent returns, and a secondary market has emerged with investors actively trading music catalogues. For rightsholders including artists and labels, an active secondary market provides them with a potential liquidity event in return for their share of their music rights.
Why are artists selling their catalogues?
Over the past decade, building a career as an independent artist has become a feasible path because of easier access to music distribution. The biggest selling point of choosing this path has been owning the masters. Owning the catalogue allows artists to oversee and maintain creative control of their music in future licensing deals and samples. Artists like Prince and Taylor Swift have fought for more autonomy over their creative work, questioning the ethics behind the buying and selling of catalogues. This begs the question of why major artists are taking the opposing stance and pursuing catalogue sales in this new decade. The answer is simple; the price is right. With the demand for music catalogues surging in the alternative investments space, more rightsholders including artists and labels are being lured into selling. Alternative reasons such as artists approaching retirement age and looking to cash out, or artists trying to take advantage of estate regulations to minimize taxes are also common.
Who is buying these music catalogues?
Within the music catalogue secondary market, many new music royalty funds have emerged. There are several public and private funds that are competing for skin in the game, namely KKR, Hipgnosis Songs, Primary Wave Publishing, and Shamrock Capital, among others. Such funds are buying the rights to music catalogues and are generating royalty payments for investors each time one of the songs is purchased, streamed, or performed. The partners of these funds actively manage the underlying assets by seeking sync and licensing deals to exploit the songs beyond streaming and radio. For example, if “Northside Capital” owned Post Malone’s entire music catalogue, and an agent from Bud Light wanted to license a song for a new beer commercial, they would have to strike a deal directly with “Northside Capital”, the rightsholder, basing the deal value on the commercial's anticipated viewership.
Here are some recent notable and pending transactions:
01/11/2023 – Dr. Dre sold his legacy catalogue to UMG & Shamrock: For a deal reportedly worth over $200 million, Dr. Dre sold his catalogue which includes songs such as Still D.R.E. and generates $10 million annually
01/24/2023 – Hipgnosis Song Management acquired 100% of Justin Bieber’s catalogue: Under the management of Scooter Braun, Justin Bieber decided earlier this year to sell their entire catalogue for reportedly over $200 million
IN PROCESS – Michael Jackson's estate nearing catalogue sale worth $900 million: If completed, this would be the largest music catalogue acquisition to date. Unlike the transactions above, this deal would only include a 50% interest in the catalogue, and the estate would maintain full control and management of the songs
How are investors approaching valuation for these assets?
Quantifying the future demand for music catalogues requires many subjective assumptions. The asset class is still a relatively new, private market with a handful of buyers and sellers. However, the recent catalogue boom has created many deal precedents that could help investors in valuation. Although hype and emotional reactions are critical in determining whether a song becomes a hit, assessing a song or catalogue as a long-term, value-driven investment requires a different set of considerations.
From a qualitative perspective, there are many fundamental considerations investors need to make:
Longevity: The longer that a catalogue has been consistently earning royalties, the more investors are inclined to believe that it will continue to do so. No investor will question whether Michael Jackson’s 1982 Thriller album will ever cease to earn royalties. Hence, the average age of songs in a catalogue is a key factor in assessing its potential for future cash flows
Source of Royalties: Investors look for catalogues that generate their plays from more sustainable and long-term sources such as streaming. Streaming is a more reliable source than radio airplay and physical sales. Licensing and sync royalties are lucrative as well, however, past deals cannot be used to make future forecasts as they are usually one-time events
Familiarity: Investors typically value a catalogue using a multiple of its LTM net publisher’s share (i.e. proportion of gross profit attributable to the rightsholder), and research shows that investors are willing to pay a higher multiple for catalogues where the artist or song is well-known
Dispersion of Catalogue Royalties: The number of songs driving royalty income is an important consideration as well. A music catalog that derives a substantial portion of total royalties from one song may not be as attractive as a music catalog that generates earnings from multiple songs
To assess these fundamentals, investors would require previous annual royalty statements as documented by performing rights organizations, in addition to relevant agreements such as past licensing and publishing deals.
From a quantitative perspective, investors are shifting away from using a comparables approach using a multiple of NPS (net publisher’s share) to instead using a future discounted cash flows/income approach. This approach estimates the value of a music catalogue based on the present value of the future economic benefits the music catalogue is expected to generate. This approach also uses a market-derived discount rate that reflects the risks of the assets, as well as a terminal growth/diminution rate across the life of the catalogue. Since catalogue earnings can be unpredictable at times because of the everchanging tastes and popularity of certain genres, 5 to 10 years of historicals should be reviewed to guide future assumptions.
How is the current legal & economic environment impacting music catalogue sales?
Rising interest rate environments may have a significant impact on music valuations going forward. If buyers require higher rates of return going forward, catalogue cash flows need to accelerate to maintain the same purchase multiples. However, statutory increases in mechanical royalty rates for songwriters, if passed in U.S. copyright law, would inherently increase the underlying value of catalogues that primarily comprise of publishing royalties.
Going forward, especially as interest rates begin to stabilize, music catalogue sales are expected to stay strong and the secondary market to remain active. In the future, I anticipate that the active buying and selling of intellectual property rights such as music catalogues will span beyond music. This is already being witnessed with Netflix buying the rights to television series, and with Spotify purchasing exclusive streaming rights to podcasts as well.
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