Warner Music: A big hit for Bronfman
Edgar Jr. got no respect--until he revived the world's fourth-largest music company.
(FORTUNE Magazine) - People have said many damning things to me over the years about Edgar Bronfman Jr. They have called the Seagram heir a rich man's son who steered his family liquor business into Hollywood so that he would have a more glamorous job.
"Edgar is Prince Charles," a music industry source sighed. "He's the poor little rich boy."
Others spoke of Bronfman with breathtaking condescension. "He's a smart person," said a movie studio chief. "But I think he's way out of his depth, and I don't see any sense of vision."
My feeling has always been that Bronfman is a proud, honorable man and certainly no fool. But he was perhaps too intent on doing big, risky deals to live up to the legacy of his father and grandfather, who built Seagram into a liquor dynasty. So when things went wrong for Bronfman, they did so spectacularly - most recently when he sold Seagram to Vivendi in 2000 for $34 billion in stock. Shortly thereafter the French company nearly went bankrupt. The Bronfman family watched $3 billion of its wealth go up in smoke, and Edgar Jr. became a laughing stock.
Nobody's laughing at him now. Two years ago Bronfman led a group of investors who bought Warner Music Group (Research) - the world's fourth-largest music company, with artists like Green Day and Madonna - from Time Warner (parent of FORTUNE's publisher) for $2.6 billion. It seemed like an awfully rich price. Almost everybody else was running from the music business, which was still reeling from digital piracy. Did Bronfman really know something that Time Warner (Research) didn't?
Apparently so. Bronfman became CEO of Warner Music, and a year ago he and his investors took 23% of the company public at $17 a share. In late April the stock was trading at more than $26, implying that Warner is now worth $3.9 billion. In short, Bronfman has been vindicated after the Vivendi (Research) debacle. He declined to sit down for an interview, but a friend, movie mogul Harvey Weinstein, says, "He's very happy. He's getting his revenge."
There are several reasons the acquisition has been a success. Music sales are rebounding after six miserable years for the industry. Digital sales are making up for the decline in CD sales - together they are up 3.5% in 2006 in the U.S., according to Merrill Lynch, and industry revenues are once again on the rise. Wall Street also smells a merger in the making between Warner and EMI, the world's third-largest record company. One analyst has predicted there is a 70% likelihood that a deal will be consummated before the end of the year.
But there is another factor: Bronfman has proved to be a shrewd, effective CEO. He lured hip-hop marketing whiz Lyor Cohen away from Universal's Island Def Jam and put him in charge of Warner's U.S. recorded-music unit. Thanks to Cohen's division, Warner had four of the top ten albums on the Billboard 200 chart in late April: rapper T.I.'s King; country star Tim McGraw's Greatest Hits Vol. 2; Daniel Powter's new release (with the pop smash, "Bad Day," played every week on American Idol when voters boot a contestant); and Brit crooner James Blunt's Back to Bedlam.
But don't expect Bronfman to spend time boasting about Warner's chart success when the company announces its earnings this month. He's figured out something that a lot of other record companies haven't gotten their heads around yet: As far as Wall Street is concerned, the Billboard charts are as relevant as the Osmonds.
What analysts really care about is how fast digital music sales are growing. Universal Music Group and SonyBMG still dominate the overall album market in the U.S., but Warner has 24.9% of the current digital album market this year, and its share is growing faster than its peers', according to Nielsen SoundScan.
One of the ways Warner has done that is by selling "bundled" albums on iTunes, like the Red Hot Chili Peppers' forthcoming Stadium Arcadium. In April the company offered fans the chance to preorder the double album for $19.90 on the Apple service. They also get a digital booklet, a behind-the-scenes video, a chance to buy advance tickets to the band's summer tour, and the opportunity to win a 60-gigabyte iPod. By contrast, they can preorder the CD on Amazon for $16.96 with no extras. Surely most Chili Pepper fans would prefer to pay $3 extra for a shot at advance tickets and an iPod. It's a nice deal for Warner too. Those are the kinds of promotional items record companies give away.
That gets Wall Street's attention. Michael Savner, an analyst for Bank of America, recently wrote that Warner is executing its digital strategy "significantly better" than its competitors. He says Bronfman deserves much of the credit. "Edgar has had some mixed results in the past," Savner said in an interview. "But we've been impressed with how focused he is on the business and how he is executing his strategy. So are most of the investors we've met with."
Warner also issues a press release every time it does a deal with a telephone company. That's because analysts like those deals too. Warner says half of its digital revenues come from selling music to mobile-phone users. That includes ringtones, which in turn are driving online and physical album sales. Last year the company struck a deal with France Telecom to sell a 20-second ringtone of "Hung Up," the first single from Madonna's Confessions on a Dance Floor, before the album itself was released. The snippet was so popular that deejays played it on the radio. Confessions wound up selling 2 ½ times as many copies as Madonna's previous album, American Life, a flop.
"Edgar is setting the tone," says Howard Handler, marketing chief for Virgin Mobile USA, another Warner telco partner. "He's saying, 'Look, I want to blow up what's been done in the past, because if we don't, we won't create extraordinary value.' "
It's important to remember the scorn heaped on the Warner deal in its early days. Bronfman and his private-equity backers - Thomas H. Lee Partners, Bain Capital, and Providence Equity Partners - recovered their initial investment in Warner Music within a matter of months, loading up the company with debt and rewarding themselves with a series of special dividends. They slashed the artist roster by 30%. These things came back to haunt Bronfman and his backers when they took Warner public.
They'd hoped to sell Warner to investors at about $23 a share, but their investment bankers balked. Merrill Lynch (Research) actually withdrew. Its star media analyst, Jessica Reif Cohen, urged investors to dump the stock, warning that the Bronfman group seemed more interested in cutting costs and enriching itself than in building the company. Nor did it help that Linkin Park, one of Warner's biggest acts, complained about being mistreated and threatened to jump ship just as the IPO was hitting the market. Bronfman and Lyor Cohen calmed them down and kept them at Warner. As for Merrill's Cohen, investors who followed her advice probably wish they hadn't.
Ultimately, Bronfman's biggest opportunity to create shareholder value is to do a deal with EMI. Neither company will discuss this. But somebody is whispering to the press. Most recently Warner shares rose 3% in April, the day after the London Sunday Times reported that the two companies were "preparing for preliminary talks."
There is speculation that Warner might try to buy EMI. But that doesn't seem likely. The vast majority of Warner's shares are still in the hands of the original private-equity investors. Presumably they want to cash out in the near future. Bronfman wouldn't be able to stop them. He controls only 12% of Warner himself.
If EMI buys Warner, Bronfman will be out of a job. Some people think Bronfman will be crushed if he has to leave the stage now that he has achieved moguldom once again. But that's not really fair. Bronfman would walk away from Warner a much richer man. He would also depart with something that he has reached for throughout his career but has never quite grasped: respect.
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