A quick guide to how money works in today’s high-risk music business

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The amount of investment sloshing into the digital music business makes 2016 a very exciting time for the industry. Nick Lawrence, CEO of specialist music accountants NWN Blue Squared, takes a look at what it all means – and explains why he’s a little concerned about the ultimate outcome for artists.

IPOs, VCs, CLNs, PE, Debt Financing, Funding Rounds, Equity Stakes and EBITDA.

As an accountant, these acronyms and terms crop up almost daily in conversation.

Now, you may think I need to get out more, but a quick canter through MBW’s recent articles shows that most of these terms are now becoming common currency (every pun intended) in the music sector.

Sure, the music industry has always been about asking ‘buddy’ whether he can ‘spare a dime’, but I believe the dawn of digital has put the financials of big business into starker relief than ever. Let me explain…

What does it mean?

Before we get into the rights and wrongs, it probably helps to understand some of the terminology.

Let’s start with EBITDA: Earnings Before Interest, Taxes, Depreciation and Amortisation. Basically, the amount of revenue a business earns minus expenses – also known as net income.

EBITDA has become the primary measure of how well a company is performing. It’s one of the key numbers that, for example, Apple will be examining if it is indeed mulling over a purchasing Pandora.

Once the ‘ITDA’ bit is taken from the ‘E’, what’s left is profit or loss from trading activity.

It would be easy to think that the ‘bottom line’ still remains critical to long-term success and, unless you’re running a charity, a company shouldn’t be able to survive without making a profit.

But, in the digital music business, things aren’t that simple.

Spotifyrecently described by MBW as “a loss-making entity which (commendably) pumps out 70%-plus of its income to rights-holders” is looking for another $1bn of cash this year to keep its business running.

That’s despite having already spent a similar amount since 2008 without making a profit.

Who’s in and how?

Venture Capitalists and Private Equity finance houses are constantly being wooed – and are looking for – businesses which may not be currently profitable but have potential.

These organisations and individuals are prepared to kiss more than a few frogs to find a wealthy prince that will turn them into kings.

This is the kind of organisation that tried to keep SFX afloat. Until they recognised they had indeed a kissed a toad… in the hole.

Often, the money doesn’t come from just one source.

Loss-making Deezer’s latest ‘funding round’ boasted a range of financiers including owner of Warner Group – Access Industries – itself a holding company for various businesses of billionaire Len Blavatnik.

Equally, as was hinted at in recent news about Soundcloud’s licence deal with UMG, there’s the opportunity for companies with an interest in the products or services of a business to supply their own goods or services at a discount in return for a share in that business – known as an ‘equity stake’.

Making it big

Finally, in terms of modern music biz financial terminology, there’s ‘the big one’: an Initial Public Offering (IPO).

This is when an organisation becomes a ‘public company’ listed on one of the global stock exchanges. In reality, the ‘public’ often forms only a small percentage of the shareholders – the majority usually comprising other large businesses, pension and wealth funds.

While recently Deezer backed out of an IPO, Spotify’s Daniel Ek has made no bones about aiming to go public and has offered those that lend him money this year a potential 17.5% discount on shares when the stock exchange bell eventually rings.

In the meantime, lenders will hold a metaphorical piece of paper they can eventually chop in for shares – known as Convertible Loan Notes.

The IPO opportunities are starting to look more positive for the artists themselves with the news that Sony and Warner are set to share a percentage of their gains from these public sales.

So it’s all good, right?

Well, yes and no.

On the one hand, whether you agree with their business models, methods of financing and commercial motives, the fact is that Spotify, Pandora and many others have made music and its genres more accessible to a wider range of people than ever before.

Overall, that can only be a good thing for everyone in the industry and that includes the artists themselves.

Yet, more than ever, music has become a commodity which the money men and women are willing to fund and trade along with energy, manufacturing and, of course, the whole digital sector.

At NWN Blue Squared, I am amongst a relatively small group of accountants who work across a range of music businesses, from artists releasing their first tracks online, to large promoters, festivals and labels.

The one thing music is not, in my view and certainly that of the artists, is a commodity.

Music has always been a mercurial industry, with often no rhyme nor reason for success or failure. But wider business history can still offer us lessons.

I worry that there is real a danger right now in our industry of a repetition of the dot-com bubble that burst so spectacularly in 2000, leaving both businesses and investors in crisis.

One would hope that lessons have been learned.

Yet, once again, we are seeing a flurry of financial acronyms surrounding powerful companies whose bottom line is, to say the least, looking thin.

It’s a gamble

I would like to think the motivation of the likes of Daniel Ek, Len Blavatnik, SoundCloud’s Founders Alex Ljung and Eric Wahlforss, or Pandora’s Glaser, Kraft and Westergren remains the continued success and growth of the music industry.

But, when the chips are down, it is the artists, songwriters and producers – amongst others – whose livelihoods are ultimately at stake.

If the gamble pays off, it’s a vindication of the strategy and, hopefully, an improved payday for everyone (although it is more than questionable whether the artists will get their fair share).

Yet if all of this financial game-playing proves to be a busted-flush, the damage to the digital music industry could be catastrophic.

In essence, the acronyms are fine, providing they don’t obscure the reality that the financiers will simply seek commodities elsewhere if the music sector goes pear-shaped.

If you are considering becoming an investor yourself, the music industry is an exciting – and often profitable – place to be. Welcome.

But, please, go in with your eyes wide open, understand the acronyms and, most importantly, be careful what you wish for.

You are gambling with people’s talent and livelihood.Music Business Worldwide

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