Music's Zero-Sum Merger
Peter Kafka, 11.06.03, 4:27 PM ET
NEW YORK - How do you fix a sick business in an ailing industry? The answer, according to Sony and Bertelsmann: a merger.
The two media giants today announced plans to combine their two music companies into a 50/50 joint venture, to be called Sony BMG. The letter of intent lays out a structure featuring an equal number of board members from each company, which will be run by Sony (nyse: SNE - news - people ) music boss Andrew Lack and chaired by BMG boss Rolf Schmidt-Holtz.
In theory, the merged company will benefit from reduced overhead and bigger market share, and may also prevent rivals EMI Group (otc: EMIPY - news - people ) and Time Warner's (nyse: TWX - news - people ) Warner Music Group from consummating a deal of their own. Conventional wisdom is that European Union regulators may sign off on a Sony/BMG deal, which would reduce the number of major record companies from five to four, but might balk at a second deal to shrink the industry even further. The two companies would hang on to their respective publishing, manufacturing and distribution businesses.
"We are optimistic that a partnership between Sony Music and BMG would provide significant opportunities to both companies--and invigorate the music marketplace overall," Lack told Sony employees in a companywide memo.
But industry skeptics wonder how much better a combined company will be in tackling the problems that beset the entire music business: declining sales; difficulty developing new acts who can last more than album; and piracy, both digital and traditional. "I think these are pathetic Band-Aids that don't do anything in the long run," says an attorney who represents artists signed to both labels.
How effective a Band-Aid will it be in the short run? The merger is predicated in part on cost cutting, but all five major music companies have already been shrinking their headcounts through the industry's three-year slump: BMG cut staff in the fall of 2001, though the company subsequently bought Zomba, home of 'N Sync and Britney Spears, last year.
Sony reduced its head count by 10%, to 9,000 employees, this year after bringing on Lack from NBC. Howard Stringer, who heads up Sony's U.S. arm and its entertainment group, plans to trims another 1,700 jobs in the next three years from his music and movie divisions.
"The people at Sony are maxed out. They're working their a---- off," says a manager who represents one of Sony's music acts. "At what point does working you're a-- off become burning out?"
To date, however, the cuts have improved Sony's margins. This week the company announced that while Sony's worldwide music revenue of $5.268 billion for fiscal 2003 would continue to decline over the next year, it expected adjusted earnings before interest, taxes, depreciation and amortization to improve slightly from last year's $454 million.
Another vote in favor of the merger: the potential benefit of pairing Sony's Lack, a hands-on, budget-conscious manager, with BMG's Clive Davis, a legendary impresario respected for his ability to pick hit songs and develop promising artists. This week, BMG owns five of the top 10 albums in the U.S., bolstered by acts like American Idol runner-up Clay Aiken and veteran crooner Rod Stewart, both of whom worked under Davis' eye.
A successful deal could also bolster Sony's plans to launch its planned digital music download service, referred to internally as Music Box, in April. This week Stringer told analysts and reporters that the service was designed as an answer to Apple Computer's (nasdaq: AAPL - news - people ) successful iTunes download service, which has spurred sales of 1.3 million iPod players.
Apple Chief Executive Steve Jobs "is not making much money off of our music, but he's making a lot of money off iPod," Stringer said, arguing that the Sony service would benefit both the company's hardware sales and its content sales.
