Why Sony Bought Bulk of EMI Before It Had To -- And What Competitors Could Win By Objecting To the Deal

AP Photo/Eugene Hoshiko
Sony Corp. CEO Kenichiro Yoshida attends at a press conference at the company's headquarters on May 22, 2018 in Tokyo.

Sony Corp. had until the end of August to put together a deal to buy Mubadala's stake in EMI Music Publishing, but it jumped the gun and paid handsomely, this week announcing it would snap up 90 percent of EMI at a price that values the whole publishing unit at $4.75 billion, more than double its price in 2012.

Why would Sony press fast-forward? There are several reasons.

For one, sources say Sony's new CEO Kenichiro Yoshida likes recurring revenue and investing in intellectual property, something that music publishing promises. By acting early, he was able to mark the start of his tenure with a show of decisiveness, rather than waffling while waiting for the sell-mechanism process built into the Sony-led consortium's initial EMI purchase in 2012 to play out. (EMI's non-strategic investors, known as Partners A, were allowed to initiate a sale of their stakes six years after the June 29, 2012 closing date to Partners B, Sony and the Michael Jackson estate, which would have had a two-month exclusive window to buy or pass, potentially sending the shares to auction.) 

"He definitely wanted this deal," so why wait, says one executive familiar with the deal.

Two: the valuation of EMI could have skyrocketed in the months ahead. While the $4.75 billion price, with about $320 million in net publisher's share, or gross profit, means that EMI traded at nearly a 15 times multiple, "a very full price," says one veteran music publishing asset investor, other executives noted that $4.75 billion might look like a steal if Vivendi opts to spin off Universal Music Group in a new stock offering, which would likely dwarf Spotify's $28 billion valuation given its vast catalog of music rights. If and when analysts value UMG, their assessment of its Universal Music Publishing Group may also put other music publishers' valuations into the stratosphere. 

And even without a UMG spinoff, other bidders might have driven up EMI's price in an auction.  Private equity firms were waiting in the wings looking to score the deal, say numerous sources, while Len Blavatnik's Access Industries and its Warner Music Group were also interested, those sources say. 

"Mubadala wanted to sell and Sony wanted to buy; and the latter didn't want to take the chance that it got out on the open market," says another executive familiar with the deal. Moreover, had a lengthier sale process had played out, "it likely would have been insanity" for the traditionally tight-lipped conglomerate, with media reports blanketing every aspect of the process as they did the first time EMI came up for sale, says a source familiar with the deal.

But before the deal can close, it will almost certainly need to pass muster with European regulators.

According to the European Commission's post-merger standards, Sony's recorded music and publishing rights combined, after this EMI acquisition, could mean that Sony's market control might exceed the 50 percent threshold, meaning that Sony may need to divest other assets. When Sony acquired a 29 percent stake in EMI the first time around, in 2012, it had to sell more than $200 million in what were mainly EMI publishing assets. Sources suggest the current deal would trip the 50 percent wire in some European territories.

When Sony decided to buy out the Michael Jackson estate's half of Sony/ATV, Warner Music Group, BMG and Impala all objected to the deal. IMPALA has already objected to this deal and the other two will likely chime in with the same concerns, hoping to throw a wrench into the proceeding that would result in divestments that they could then buy. In fact some suggest that their main goal in objection would be to buy whatever crumbs fall off of Sony's table.

Yet Sony has spent the last six years as the administrator of EMI and already counts its market share as its own, so it's not clear what antitrust concerns might arise with a simple increase in its EMI stake to 90 percent. Also, even with this deal, Sony is still smaller, overall than Universal Music Group. While Sony's music operation brought in $7.075 billion in revenue in the year ended March 31, 2013, excluding revenue from its Visual Media/Platform and including EMI's revenue, Sony's pure music operations banked $5.364 billion in revenue, compared with UMG's annual revenue for the year ended Dec. 31, 2017: $6.41 billion. Still, Sony's publishing turnover now would total $1.341 billion, versus the Universal Music Publishing Group's total of $965 million.

Meanwhile, in the current deal, Sony is assuming the $1.3 billion in debt that EMI Publishing was carrying. However, a sale transaction like this usually triggers the retirement of the debt, unless negotiations between the buyer and the creditors allow the debt to roll over. In either event, it would likely be easy enough for Sony to raise replacement debt, should it need to. Sony declined to comment, except to say it is reviewing its options on refinancing.

As for the $2.3 billion in cash it is paying, Sony Corp. has plenty more, $11.22 billion at its year end. Since then, Sony has sold about half of its 10.165 million Spotify shares, and while it is sharing those proceeds with artists and indie labels, it already has realized about $500 million for itself, Billboard estimates, and when all shares are sold, Sony's take from that could be another $500 million, giving it a total of $1 billion in extra cash.

EMI's other investors are coming out ahead. While the transaction is costing Sony about $2.3 billion that includes transactions cost and paying off warrents and options probably too, so overall about $1.9 billion went to Partners A, i.e. Mubadala and others in the consortium, according to the Sony 6-K. filing. So that means Mubadala put in $320 million and owned 66.2 percent of the Partner's A share of the $1.9 billion payout, so it should get a payout of $1.258 billion, while Jynwel Capital, which put up $106.67 million to buy 22.06 percent of Partner's A share, should get a $419.14 million take. The four Blackstone/GSO funds that combined owned 10.33 shares of Partner A through a $50 million investment will combined take home $196.27 million,and Pubwest, which is believed to be David Geffen, put up $6.667 million for a 1.37 percent stake of Partner A share, and so will reap $27.03 million, according to Billboard's math.

The Jackson estate, which got a 9.84 percent stake in the overall EMI Music Publishing in 2012 and didn't have to put up any cash for that share (apparently got it by virtue of its 50 percent ownership of Sony/ATV) is the only stakeholder that hasn't sold. Sony could try to buy the Jackson estate out as well, but the estate's minority ownership could also help Sony's position as it goes through the regulatory process. In addition, sources say that Sony/ATV's top management is in for a big payday too, thanks to an management equity plan initiated as part of the original EMI acquisition.

In any event, Sony is getting the lion's share of a company that saw $663 million in revenue last year, out of which it squeezed earnings before interest, taxes, depreciation and amortization of $249 million, operating profit of $127 million and net income of $42 million in the year ended March 31, 2018, according to documents it filed yesterday with the SEC. In the prior year, those numbers were revenue of $615 million, while operating income was $164 million and net income was $56 million. For the year before that ended March 31, 2016, EMI generated revenues of $569 million with an operating loss of $153 million and net income of $45 million.