Warner Music Group Corp. (NASDAQ:WMG) Q4 2022 Earnings Call Transcript November 22, 2022
Warner Music Group Corp. beats earnings expectations. Reported EPS is $0.28, expectations were $0.13.
Operator: Good morning, and welcome to Warner Music Group’s fourth quarter earnings call for the period and fiscal year ended September 30, 2022. At the request of Warner Music Group, today’s call is being recorded for replay purposes, and if you object, you may disconnect at any time. Now, I would like to turn today’s call over to your host, Mr. Kareem Chin, Head of Investor Relations. You may begin.
Kareem Chin: Good morning, everyone. Welcome to Warner Music Group’s fiscal fourth quarter and full year earnings conference call. Please note that our earnings press release, earnings snapshot, and the Form 10-Q we filed this morning will be available on our website. On today’s call, we have our CEO, Steve Cooper; and our CFO, Eric Levin, who will take you through our results, and then we will answer your questions. Before our prepared remarks, I’d like to refer you to the second slide of the earnings snapshot to remind you that this communication includes forward-looking statements that reflect the current views of Warner Music Group about future events and financial performance. We plan to present certain non-GAAP results during this conference call and in our earnings snapshot slides, and have provided schedules reconciling these results to our GAAP results in our earnings press release.
All of these materials are posted on our website. Also, please note that all revenue figures and comparisons discussed today will be presented in constant currency, unless otherwise noted. All forward-looking statements are made as of today and we disclaim any duty to update such statements. Our expectations, beliefs, and projections are expressed in good faith, and we believe there is a reasonable basis for them. However, there can be no assurance that management’s expectations, beliefs and projections will result or be achieved. Investors should not rely on forward-looking statements because they are subject to a variety of risks, uncertainties, and other factors that can cause actual results to differ materially from our expectations. Information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in our filings with the SEC.
And with that, I’ll turn it over to Steve.
Steve Cooper: Thanks, Kareem. Good morning, everyone, and thanks for joining us. As you may know, I’ll be stepping down as CEO in January, so this is my last earnings call. I’ll have more to say about our leadership transition later, but let’s start by talking about what’s happening today. It’s no secret that we’ve been challenged on multiple fronts as we navigated the tumultuous macro environment. This includes financial volatility, rising interest rates, inflation, declines in online advertising spend, and currency headwinds. In addition, we’ve been navigating the complexities created by the pandemic and dealing with the impact of the war in Ukraine. Despite all these challenges, I’m pleased to say that we’ve had a very successful quarter.
Our total revenue in Q4 was $1.5 billion, representing year-over-year growth of 16%. Adjusted EBITDA also increased 16% to $276 million, with a margin of 18.4% compared to 17.2% in the prior year quarter. These results were driven by growth across all revenue lines, as well as the benefit from settling certain copyright infringement cases, as we discussed on our last earnings call. Recorded music revenue was $1.24 billion, an increase of 13%. Streaming revenue grew 10.4% when adjusted for the one-time impact of the DSP renewal we’ve been discussing since Q1. I’d like to remind everyone that Q4 was the final quarter impacted by this renewal. Q4’s uptick in subscription streaming growth, and the benefit from emerging streaming platform deal renewals, more than offset the decline in ad-supported revenue.
Artist services continued to recover in Q4, increasing by 33%, while licensing and physical were up by 38% and 6%, respectively. Publishing had another impressive quarter, with revenue of $254 million, reflecting exceptional growth of 32% plus. Digital and performance revenue stood out, growing 39% and 48%, respectively. As I look back on the last two and a half years since going public, it’s clear that we haven’t for a single day operated in a normal environment. So, it’s gratifying to report that our businesses continued to shine during fiscal ’22. For the full year, we delivered total revenue growth of 16% and adjusted OIBDA growth of 18%. Excluding one-time items, adjusted OIBDA grew 22%. We converted 65% of our adjusted OIBDA to operating cash flow for fiscal ’22, well in excess of the expectation we discussed last quarter of 50% to 60%.
As we look ahead, there’s tremendous momentum in both the short and long-term. I’ve consistently told you that streaming revenue would continue to have significant runway, that we would have price increases and ongoing subscriber growth, and that emerging platforms would continue to expand. We’re now seeing all these come to fruition. Most significantly, Apple and Deezer recently announced price increases. Making these announcements in the current economic environment, shows that music subscription services offer amazing value to consumers. Music remains undervalued, but we’re optimistic that there will be other increases to come. We’re also encouraged by reports of subscriber growth. Developed markets continue to grow in the double digits, while emerging markets are growing at higher percentages.
With global smartphone penetration expected to increase meaningfully in the coming years, our conviction in streaming growth remains strong. Finally, the revenue growth curve of emerging streaming platforms continues to outpace more established formats. These new platforms are all heavily reliant on music. And as engagement continues to grow, we expect monetization to follow suit. In our recent deal with Meta, our annualized revenue from this category reached $370 million this quarter. We look forward to the continued evolution of our deals as these platforms harness the power of user-generated content, not just for music discovery, but for marketing and monetization. You’ve often heard me reference the four key pillars of our long-term strategy, music, globalization, innovation, and people.
So, I’d like to talk about how these pillars have shaped our culture over the last decade and how they continue to drive our results. Let’s start with the music. What distinguishes the Warner Music Group is our ability to identify and sign original artists at the beginning of their careers and develop them into the world’s most recognizable superstars. We discovered many of our biggest names like Ed Sheeran, Cardi B, Dua Lipa, Bruno Mars, and Anita, when they were just starting out. Q4 exemplified the impact of our multi-pronged approach. We had great carryover success from our key artists like Ed, Dua, and Silk Sonic. Newly minted superstars, Jack Harlow and Zach Bryan, had multimillion selling albums released in Q3. And Lizzo’s phenomenal singles were a precursor for her chart-topping album, Special, released in Q4.
We’ve also proved once again that music can come from anywhere and resonate everywhere. Not only do we develop Anglo blockbusters, but also superstars within their domestic regions. Local chart toppers, like Japan’s Aimyon, and South Korea’s Twice, and international superstars like France’s David Guetta, Argentina’s Paulo Londra, and Nigeria’s Burna Boy. In addition, given the growing consumption of catalog music, we placed even more emphasis on spotlighting our legendary artists. Recent highlights include great looks for Kate Bush, Fleetwood Mac, and Led Zeppelin. As we broadened and deepened our artist roster, and prioritized a global approach to domestic music, our revenue composition has evolved. A decade ago, our top five artists generated over 15% of our recorded music physical and digital revenue.
In 2022, they generated just over 5%. Our momentum will continue with a strong release slate in Q1, including new music from Paramore, Aya Nakamura, Cardi B, Peter Fox, Roddy Ricch, Joel Corry, and more. I should also mention our outstanding showing in the Grammy nominations announced last week. Recorded music picked up more than 80 nods, which included half of the album of the year contenders. Our top nominees were Elektra’s Brandi Carlile with seven, and six each for Atlantic’s Lizzo, and 300’s Mary J. Blige. We also had three best new artist nominations for Anita, Omar Apollo, and Molly Tuttle. And Warner Chappell had a great showing, highlighted by nominations for The Dream and Amy Allen in the brand-new category of songwriter of the Year.
Warner Chappell is also performing very well, delivering on its strategy of diversifying revenue streams, while providing wider opportunities for songwriters globally. Here are a few recent highlights. In the US, Daniel Caesar took home Song of the Year for Peaches at the 2022 BMI R&B and Hip Hop Awards. We signed pop sensation, Lauren Spencer-Smith, and breakout punk rock band, the Linda Lindas. We renewed our deal with eight-time Grammy Award winner, Chris Stapleton, and we entered into a license renewal with China-based social platform, Kuaishou, for our catalog across multiple Asia PAC countries. We constantly work to enhance the value of our songwriters’ catalogs. Our teams proactively find needle-moving placements to their music, which distinguishes us from passive right holders.
One recent example of this is the placement of George Michael’s Freedom, covered by Warner superstar Dua Lipa, in a Yves Saint Laurent campaign that launched in August. There’s been a lot of debate over the value of major labels and publishers in a world where artisan songwriters have any number of distribution alternatives. While distribution has been democratized, talent never will be. Genuine talent is rare and difficult to find, but discovery is just the beginning. True long-term success requires significant resources, including financial investment, global infrastructure, creative expertise, and the skills to navigate the changing tech landscape. It’s that combination, genuine talent backed by our considerable resources and skills, that builds careers for the long haul.
Over and over again, artists and songwriters not only stay, but grow their relationships with us in this fiercely competitive market. That’s when we know we’re on the right track. 10 years ago, we were an Anglocentric company. Today, we’re a truly global music entertainment company, operating in over 70 countries. The key to our successful global expansion has been in identifying markets on the brink of ignition. We’ve customized for each new territory market and presence-building strategies. A couple of examples from the past decade are, the 2014 acquisition of Gold Typhoon in China, and the critical mass we’ve built in MENA, the world’s fastest-growing market, through our investments in Qanawat, (indiscernible), and Rotana. We see Eastern Europe as a new and important growth area for music.
Consumption in the region, which has a population of some 160 million people, grew 20% in 2021. Seizing on this opportunity, we’ve made moves to grow our presence. Examples include, our recently announced investments in Grupa Step, and BIG Idea in Poland, Mascom Records in Serbia, and the launch of OUT OF ORDER, a new label that will elevate artists in Eastern Europe and other emerging markets. The expansion of our global footprint has been further complemented by entering into partnerships with more than 200 streaming services around the world. In the music entertainment business, new technologies and business innovations they’ve driven, have often been met with fear rather than excitement. But today, we see tech as providing us with incredible opportunities to enhance the world of music.
We’ve consistently been a first mover in investing across the digital landscape. Our early embracive streaming made us the first major to report it as our largest source of recorded music revenue back in 2016. Around that time, we also began our revenue diversification efforts. Since then, we’ve partnered with nearly every major social platform, including Instagram, Facebook, Snap, Twitch, TikTok, and most recently, Pinterest. In many cases, we were the first major to do so. These deals are empowering our artists to scale their communities, encouraging fans to share user-generated content, and delivering significant incremental value. We were also the first major to aggressively pursue opportunities in the Metaverse. While our work in Web3 space has accelerated over the last 12 months, our efforts started back in 2019 when we invested in leading blockchain company, Dapper Labs.
Our partnerships with Roblox, Fortnite, and Wave, have created innovative opportunities for virtual world-building, concerts, and other forums. This has allowed us to work with artists like Twenty One Pilots and Charli XCX, in pioneering new forms of fan engagement. Through our deal with Sandbox, we were the first major to plant a flag and build on virtual real estate. WMG Land, our current working title, is now Live in the Sandbox, and Atlantic’s Sueco, was the first artist to become part of the experience. I’m very proud of the progress we’ve made over the past 10 years. We’ve moved way beyond thinking in terms of singles, albums, and videos. We help artists create all forms of rich, immersive interactions with their music in both the real and virtual worlds.
As I look out on the next 10 years, I believe we’re at the doorstep of a new golden age of music. As the ecosystem becomes more complex and exciting new business models emerge, our role as the connective tissue between artists and fans, will only become more prominent and more important. Finally, our people are the driving force that will always take our company to the next level. Last month, we announced that Julie Greenwald had been elevated to Chair and CEO of the newly created Atlantic Music Group. Julie’s been with the company for 18 years, and it’s industry mavericks like her that are the backbone of our success. We’ve enhanced our focus around important areas like ESG and diversity. Last year, we hired a head of ESG and established an executive oversight committee.
On February 1 of 22, we released our first annual ESG report detailing our commitment to sustainability, equity, and social impact. Our second annual report will be published this coming January. In 2020, we hired a Global Head of Diversity, Equity, and Inclusion. We’ve since established global North Star commitments and launched our DE&I Institute. And we created the $100 million Warning Music Group Blavatnik Family Foundation Social Justice Fund, that invests in organizations and advances community initiatives around the globe. To date, the fund has already committed over $24 million in grants. On November 1, we published the Protect Black Art Open Letter in the New York Times and the Atlanta Journal Constitution. The letter urges legislators across the US to end the racially discriminatory practice of treating rap lyrics as criminal confession.
Signatories included companies such as Universal, Sony Music, Spotify, and TikTok, organizations such as the ACLU, Color of Change, the Recording Academy, and the RIAA, and artists such as Alicia Keys, Coldplay, Drake, Megan the Stallion, and Post Malone, among many others. I’m pleased to see us creating new opportunities in our local communities using our resources to express our values and taking a stand on important issues. At the end of September, we announced that Robert Kyncl will become CEO during January ’23, and then CEO on February 1. As an entrepreneurial leader, Robert has an impressive track record of championing change at companies like YouTube and Netflix. He’s a pioneer of the creator economy, whose command of technology will enable us to unlock new opportunities for our company, our artists, and our songwriters.
I have the utmost confidence that he’ll build upon our strong foundation and bring us into a new era of how music lives in the world. With that, I’ll turn it over to Eric.
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Eric Levin: Thank you, Steve, and good morning, everyone. Against a backdrop of currency fluctuations, the weak ad market, inflation, and war, our 2022 results truly highlight the resilience and diversified nature of our business. Despite the many macro challenges, we delivered double-digit growth for Q4 and the full year across a number of key metrics, including, total revenue on a constant currency basis, adjusted OIBDA, and operating cash flow, which, as Steve mentioned, exceeded our full year expectations. Let me provide some detail on our results in Q4. Total revenue grew 16%, reflecting growth across recorded music and music publishing. I want to note that our revenue includes the benefit from settling certain copyright infringement cases, as we discussed on our last earnings call.
The $38 million impact is reflected in downloads and other digital revenue. Adjusted OIBDA increased 32.5%, with a margin of 17.7%, compared to 15.5% in the prior year quarter. These increases were primarily due to strong operating performance, as well as $29 million from the copyright settlement. Adjusted OIBDA and margin growth were impacted by foreign exchange rates, as well as two one-time items. These were the copyright settlement I just mentioned, and the impact of a DSP renewal we’ve been discussing since our earnings call since Q1. Excluding these items, constant currency adjusted OIBDA grew 33%, and margin would have increased 200 basis points. Adjusted EBITDA increased 16.5%, with margins increasing from 17.2% to 18.4%. You can find our adjusted EBITDA reconciliation in our earnings press release.
Recorded music revenue grew 13.1%. Streaming revenue increased 5%, reflecting continued growth in subscription streaming, and a recent deal with Meta, partially offset by the market-related slowdown in ad-supported revenue, and the impact of the DSP renewal. Adjusting for the DSP renewal, which had a $38 million impact in the quarter, streaming revenue grew by 10.4%. This growth was highlighted by subscription streaming growth in the low teens, a sequential improvement from Q3. However, ad-supported streaming revenue, which does not include revenue from emerging streaming platforms, saw increasing pressure and declined by high single digits. Adjusting for the impacts of the DSP renewal and the copyright settlement, recorded music revenue grew by 14.2%.
Artist services and expanded rights revenue increased by 33%, driven by merchandising and concert promotion. Physical revenue also increased, with growth of 6%, primarily driven by higher sales of final products and strong performance in Japan. Licensing revenue grew by 38% due to higher broadcast fees, synchronization, and other activity. Recorded music adjusted OIBDA increased by 20%, with margin improving from 17.2% in the prior quarter to 18.2%, primarily due to strong operating performance, as well as a $15 million impact from the copyright settlement. Excluding the one-time items detailed earlier, adjusted OIBDA grew 26% on a constant currency basis, and margin improvement would have been approximately 170 basis points. Music publishing continues to deliver impressive results, hosting 32% growth.
Digital revenue grew 39%, reflecting solid momentum in streaming, which increased 37%. Digital revenue includes a $7 million benefit in downloads and other digital revenue from the copyright settlement. Excluding this benefit, digital revenue increased 33%. Performance revenue increased by 48%, as revenue from bars, restaurants, concerts, and live events, continued to grow. We saw particularly strong recovery in Brazil, UK, Germany, and the US. Sync and mechanical revenue both increased by over 8%. Music publishing adjusted OIBDA increased 33% to $60 million, with margin increasing modestly. Excluding the impact of the copyright settlement, adjusted OIBDA would have increased 31% on a constant currency basis, and margin would have increased 50 basis points.
Moving to our full year results, total revenue grew 16%, driven by double-digit growth in both recorded music and music publishing. This translated to a healthy adjusted OIBDA growth of 18%, with a margin of 19.4%, up from 19.1% in the prior year. Excluding one-time items, the details of which can be found in our earnings press release, constant currency adjusted OIBDA increased 21.6%, and margin increased 70 basis points to 18.6%. Full year adjusted EBITDA increased 9.7%, with margin decreasing from 20.6% to 20.2%. Recorded music revenue increased by 13.6% or 15.2% when normalized for one-time items. Within recorded music, streaming revenue grew 9.5% or 13.5% on a normalized basis. Adjusted OIBDA increased by 12%, with margin declining by 30 basis points to 21.1%.
Excluding the one-time items, adjusted OIBDA increased 17% on a constant currency basis, with margin increasing 30 basis points to 20.4%. Music publishing revenue increased by 30% or 27% when normalized for one-time items. Adjusted OIBDA increased by 35%, with margin increasing from 23.4% to 24.3%. Excluding the one-time items, adjusted OIBDA increased 32% on a constant currency basis, with margin increasing 100 basis points. In line with our expectations, Q4 CapEx increased to $38 million as compared to $35 million in the prior year quarter, mainly due to investments in IT infrastructure. I want to note that our financial transformation program has encountered a delay as a result of the disruption of COVID-19. In addition, the size and scale of this global system implementation, requires us to invest more time performing the rigorous system testing and data validation to ensure go live readiness.
We expect the program to meaningfully roll out in 2024 and expand globally in the following couple of years. The program is still expected to deliver annualized run rate savings of $35 million to $40 million once fully implemented. However, the delay will result in a reduction in pro forma impact of cost savings that we account for in our adjusted EBITDA reconciliation in fiscal 22 and ’23. We saw very strong operating and free cash flow growth and conversion in Q4. Operating cash flow increased 78% to $406 million, from $228 million in the prior year quarter. Free cash flow increases 91% to $368 million, from $193 million in the prior year quarter. For the full year, operating cash flow increased 16% to $742 million, and free cash flow increased 11% to $607 million.
We delivered operating cash flow conversion, calculated as the ratio of operating cash flow to adjusted OIBDA of 65% for the full year. This was well above our expectation of 50% to 60% that we discussed last quarter. The over-delivery was largely driven by our strong operating performance in Q4, higher recruitments, and the timing of A&R investment and deal renewals. I want to emphasize that some of our Q4 over-delivery was the impact of timing. While we believe that our targets are reasonable, we view them as a multiyear period, and there will be lumpiness in working capital that will impact our operating cash flow to adjusted OIBDA conversion rates from quarter to quarter. As of September 30, we have a cash balance of $584 million, total debt of $3.7 billion, and net debt of $3.1 billion.
Our weighted average cost of debt is 3.5%, and our nearest maturity date is in 2028. Fiscal 23 is already off to a very solid start, even as the challenging macro environment persists. While there is still softness in the online ad market, we believe it is a temporary dislocation, and that we will be well positioned to capitalize on the inevitable recovery. We are excited about the recent price increases announced by several of our digital partners, as well as the opportunity for more to come. The runway for streaming growth remains strong as global penetration continues to increase, and the next wave of emerging opportunities take shape. Music is no longer reliant on any one format or distribution channel. It is an essential part of every form of entertainment.
The momentum in the music entertainment business is strong, and we continue to position ourselves for long-term success and growth. We’re excited about the next chapter, and we look forward to having Robert on board to lead us into new frontiers. Finally, Steve. Steve, and I, have been doing these calls together for the past eight years. It’s been a true joy to share the mic with him. On behalf of everyone at the company, I want to thank Steve for an amazing decade of growth and success. He’s led this company brilliantly through an era of incredible change, both in our industry and the world at large. Steve, thank you so much. And thank you to everyone for joining us today. We’ll now open the call for questions.
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Operator: Our first question comes from the line of Benjamin Swinburne with Morgan Stanley. Your line is no open.
Benjamin Swinburne: Thank you. Good morning. A couple of questions. Maybe just to start with, Steve, stepping back, you’ve been there and watched the industry go from declining to growing during your tenure as CEO. When you step back and think about your time at Warner Music, what’s been the biggest change for the industry, the company, the one you think will have the biggest impact as we all look forward over the next five to 10 years?
Steve Cooper: Well, thanks for the question, Ben. Happy Thanksgiving. I think the easy answer is streaming, but at least what I believe at Warner, it’s really been for us a shift in our mindset, and that shift has been driven by our evolution from an Anglo-American music company to a global music entertainment platform, from thinking about our business in terms of rigid formats, to really moving to offering fans access to unlimited, ubiquitous music in every way, shape, and form in the real land and the virtual worlds. We moved from a narrow set of artists deals to expanding our definitions of artists and partnerships and offering much broader suites of services. And the mind shift has really been built on a foundation of running Warner as one company and one team with a common set of goals.
And I think that, at least for us, that as the ecosystem becomes more and more complex, that by having that mind shift, and by working as one team, that that connected tissue that we provide between artists and fans, and what we do to move the value of music to its appropriate place, will just become more and more apparent as time goes by. And I’m happy to say that with my colleagues, I played a part in creating that mind shift, and I’m very confident that we will continue to embrace, adapt and adopt, adapt and adopt, as the world of music continues to evolve.
Benjamin Swinburne: Thank you, Steven. All the best in the next chapter for you. Eric, could you just help us think about the emerging streaming opportunity in fiscal 23? Obviously, you’re always at work trying to get music valued appropriately, but I think it’s potentially a busy year for you in terms of contract renewals. And in particular, given what’s happening with YouTube and ad-supported streaming, TikTok is one of kind of paramount import for your business because they seem to be taking share from YouTube and others. So, could you just help frame sort of the year ahead on the emerging streaming front of what we should be focused on, on our end?
Eric Levin: Sure. So, thanks, Ben, and nice hearing from you. So, again, don’t want to get into specific deals, but broadly the category. So, you’re right, Ben. So, in fiscal 21, we had a series of deals that we did or renewed. And generally, we do deals in two to three-year cycles. So, 23, we would expect to be the start of that process. Broadly, that category consists of more and more licenses, with growing consumption. We see that category as a growing category for the long, long term to come. Each deal and each contract will be negotiated individually. Some of the companies within that category have been highly successful and scaled, and others have had more challenges. So, each deal will meet where that partner is, but it’s our objective deal by deal to get the full and appropriate value of music, and we’ll be negotiating for each deal assertively to make sure each deal is valued properly.