Warner Music Group Corp. (WMG) Earnings Call Transcript & Summary

All right. Good afternoon. For important disclosures, please see the Morgan Stanley Research disclosure website at morganstanley.com/researchdisclosures. You have any questions, reach out to your Morgan Stanley salesperson. Really excited to welcome to the conference for the first time, the new CEO of Warner Music Group, Robert Kyncl. Robert, thank you so much for coming.

Thank you. Thanks for having me.

Great to have you here. So I know it's only been a few -- a short time in your new seat, but I wanted to start by asking you why you decided to leave YouTube and lead Warner Music Group and why you're excited about the prospects for this company.

So I spent the last 20 years into very intellectual companies, Netflix and YouTube and Google. And as you know, they both have gone through tremendous growth transformation from DVDs to streaming and Netflix this case from pretty much variable content cost, the fixed content cost, right? A lot of change. And on the YouTube side, from the very early days and small monetization to build building a very robust advertising business, but not just there, also expanding into multiple subscriptions, so doing multiple revenue streams with YouTube music and Premium and YouTube TV, so across multiple industries. So it's just been a tremendous lift over the last 20 years. And also in YouTube's case, we've worked incredibly hard in the last 6 years or so to completely turn around the relationship with the music industry and I would say, quite successfully. So it's just been a lot of work, 20 years, that was time to change. So that was it. And then you starting about what to do next and what to do so you want to do something different. And in my case, I always love music. I play -- I used to play music instruments. I need to brush up on that a little bit more, Cello and guitar. But when it was going up. But I love music. But more importantly, when I looked at it, music has 100% of global population as the addressable audience. Everybody in the world listens to music. Everybody likes music. It's different for everybody, but they all do, which is very important because it gives us multiple bites at the apple to figure out our role in the industry and how we contribute and what share we take and all of those things, but we'll always have conversations by music because it's ever present. And that's very, very unique from an industry standpoint. And in terms of Warner, I look at the unique ownership structure and the fact that we have a very patient long-term majority shareholder is giving us the greatness -- braveness to challenge status quo of the industry and drive long-term value for all shareholders. So when you wrap it all together, is the decision.

So why did the Board select you? Was it the Cello and Guitar jobs or…

Probably. Not at all. Look, as I just said in my experience, kind of has been, for the last 20 years, straddling Silicon Valley in Hollywood. And I literally just even time wise. So I speak both languages know how to translate both languages to each other. It's pretty clear that technology will impact the music industry more and more in the coming years. So having sort of this melding of minds between technology and media is incredibly important. And after a decade of incredible growth and coming out of the trial of the industry, we need to be positioned in new ways for the next decade. So having fresh thinking coming in and sort of shaking up some of the things was important to the Board and the shareholders. And I think the I also bring different perspectives because I grew up in the communist country, for 20 years, life under communism. So I have quite different perspectives on life. My range of experience is pretty wide. And I grew up in a small country in Czech Republic. So today, on the Internet, when you think about it, the Internet has leveled the playing field for everyone. So the rise of local repertoire around the world is very, very important. So having people with global perspectives coming from the outside is also important. So I think some of these factors mix together probably prior the choice.

That's a great answer. When you were talking about the next phase of growth for Warner on the earnings call a couple of weeks ago, you highlighted a couple of new hires that you've made at the senior level from Google. Can you talk about what those hires tell us about your focus at Warner?

Sure. So first, my first hire, I think, a weekend or something like that. [ Mr. Matoosh ], who is running our strategy and operations role, which was a new role, a new department at Warner. And it's focused on, a, helping us develop strategies for the whole company, making sure that there's a cohesive tissue across all divisions across the company and that we develop KPIs or OKRs for each of those goals that were growing against. And then we measure them and we execute against them. You need infrastructure for that. Like it's very easy to say these things. It's much harder to actually operationalize it. So the waste first hire for that. And obviously, we're building the team out and making sure that we have the infrastructure to actually do this. The second hire shortly after was Ariel Barden, who is our President of Technology. And it's very important and transformative for us because in the future, I view Warner as a technology-enabled music company where technology is a force multiplier and all the wonderful things that our teams are doing today and helping us scale and be more efficient and effective. And we need a first-class technology team that's coming from the best companies in the world has a history of shipping products on time with great impact, and Ariel and I have worked together for 5 years at YouTube have lots of first and experience and is the one to do that.

Great. Since the IPO of Warner back in 2020, investors have been attracted to the growth algorithm, which is essentially distill down healthy revenue growth, largely driven by streaming, but with additional monetization opportunities, margin expansion as a result of that top line and consistent healthy free cash flow conversion. Do you see any of those levers changing as you look out over the longer term, especially under your leadership?

So when I think about the IPO, at that time, the company was really positioned and judged against the future of subscription streaming right? It was like a very sort of singular focus on it. And that continues. There's healthy growth in both developed as well as emerging markets. So that still holds true. But since then, a couple of other things have happened. One, we're starting to see price increases against that core model with Amazon and Apple and [indiscernible] starting on those. The second thing is double-end emerging platforms. And those -- you all know who those are from following us, but it's companies who have need for music because music is amplifying whatever is happening on those platforms, and they continue to grow. And I think these 2 elements, I'm forgetting one more, but it can't come to me right now. They are driving -- oh, they will be very upset with me if I didn't mention this. Warner Chappell, our publishing company. Yes. Has really accelerated its growth over the last few years. And it's just wonderful, wonderful to see that. So I think the algorithm is intact.

Okay. Do you think the market is underappreciating any of these opportunities as you think about sort of the early conversations you've had with investors or look at the stock price?

So I think there are a couple of things. One is price. I do think that music is undervalued, and I think it's underappreciated in the markets. 2, the artist plan relationships. In general, it's an area that's very strong in terms of those relationships, but it's not well monetized today. And I can't really tell you specifics of that yet. But intuitively, I can see that, that's an area worth developing. And I think the other part is AI. And look, AI could also be looked at as a threat, right? So undepreciated or as a threat like either of those. But what I can tell you is that it is something that we're paying extreme attention to, a, from the point of view of protecting artists and songwriters and their copyright obviously. And we'll also thoughts on that. But also, we're looking at it in terms of opportunity, what it is that it can do to amplify because when you look at the history over the last multiple hundreds of years, every time a new technology came after some temporary dislocation, it has generally lifted markets up and created more value opportunities. So I want to make sure that we have both approaches the one where we look at protecting copyright. But we also have a very forward-leaning stance on things to make sure that we create more value.

Great. I want to -- we'll get to AI later. I want to dive into some of the major investor debates and get a sense of how you think about them. Probably the most frequent question I've got from investors since Spotify and Warner have been public companies is who has the leverage sort of DSPs versus labels. That's like the standard approach a lot of investors have. And I noted on your call, you talked about music having achieved something rare. It's built on mutually beneficial partnerships. So do you see things differently? I mean, you were at YouTube, you were on the other side, gives you a unique perspective. Can you just talk about the industry structure and how you approach it and may be different than how we're thinking about it?

Yes. So --YouTube in the early days, we've had a battled relationship with the music industry, and I was partner to blame. So I'll let that. And it's grown out of desire to move fast and grow. And so we've had that. And then about somewhere around 2015, somewhere there. We decided that like we just need to turn this around because we are in this together with the music industry forever. We recognize the value of music for us. And we just said we just want to have a long-term collaborative relationship. It doesn't change on a dime. It takes a very long concerted effort, but that is what we've done. And I think the results are showing themselves. YouTube has become a very significant revenue contributor to the industry, obviously, a big one in terms of reach for Artist. And I'm very proud of what we've done together with all of our partners, majors in these, et cetera, across the industry.

What got you and the team at YouTube to flip your approach?

It's too exhausting to price because there's so many other things that you have to work on. And -- but I'm joking partly on that. It's like a little bit true. It's more the -- we've done tons of research on the value of music to our users. And we've decided that this is an industry that we want to be in the business with forever and that we want to have a long-term collaborative relationship, right? The way to do is to grow the business together. And until we invested into education, for instance, of the industry on advertising because that wasn't really there. And we, on the other hand, have to get educated in subscriptions because we don't have it at that time and had to build up the business. And the collaborations actually -- I mean I can give you examples of those, which is Universal Music worked with YouTube to develop shared sales rights for inventory on their content and therefore, for content of all of the other Labels. And it led to greater competition for the impressions and better results. Sony worked with YouTube on go-to-market strategies around connected TVs and music, which is very interesting. [indiscernible] before, and it was like them truly learning the business well and then pushing us in all the right ways, collaborative with YouTube. And Warner has done the same around monetization of hip-hop which had some structural issues and impediments, which got lifted and then it benefited the whole industry. So these are like very specific examples, but you can see like how deeply we went with our partners. And I have the same desire and approach to be on the other site being on this side and doing the same thing with all of our partners.

Great. So Spotify, YouTube and Apple are 40% of your revenues, at least in fiscal '22, which means they are even larger part of the streaming revenues. You already said that you expect streaming revenue growth to core subscription to grow. And you've asserted a number of times that music is underpriced. What needs to happen in the industry so we could establish a regular cadence of price increases. For example, at YouTube Music, while you were there, you weren't raising prices every year yourself. So what has to happen to get the industry? I just interviewed Paul Vogel at Spotify, no news today, unfortunately, on the price increase front. But how do we get -- how do we move forward as an industry?

So all right. So number one, by the way, I said this on the first earnings call, 1 month on the job. So like quickly studying things for 4 months. And as I know in the first half, it is -- music is undervalued. And this is not my opinion. There's actually numbers that back it up the price that -- let's say, if you take the U.S., the price that the user pays per hour of consumption of music is half of what they pay for movies and TV shows on streaming services. I'm not even counting cable TV, where the ARPU is like insanely higher than that, but just versus streaming. It's half of them. So right there, it's 50% undervalued today -- how did that happen? -- subscription price on streaming got established in 2011. And again, I'm just going to use one market, so it's easy to isolate things in the United States $10 per month per user. No price has moved ever since. Today, some are raising, but inflation adjusted, it should be $13.25 today. But on top of it, in 2014, family plans got introduced, which effectively are lowering ARPU. After the introduction of that, you can average out the ARPU to $7. So now you're at $7, roughly instead of $13.25 -- without any increases, we have reduced ARPU over time. Now I'm not saying this is a criticism because -- this was an industry where that went through significant value destruction for a long time. And it was very important to drive adoption of payments and paying for music. And all of the DSPs, Spotify, YouTube, Amazon, Apple and everyone else have done a great job of doing that and family plans and student plans and maybe even the pricing staying flat, were all contributors towards that growth and brought adoption of streaming. But that is a long time without changing the prices. And effectively, we are the lowest form of entertainment and lowest form of entertainment where there is monetization. It's precisely the opposite is true, which is, I would say that music is actually the highest affinity entertainment, greater than movies and TV shows because we use it most frequently. The amount of repeat consumption on songs, on certain artists is unmatched by any other medium. The amount of people that show up in person to go see them is unmanaged from any other medium. So we have the highest form of engagement, highest formal affinity and lowest per hour price -- that doesn't seem right. So I think it should change in an orderly fashion. But you say, okay, how do you arrive at that? And you asked me the question, you were at one of those, like why didn't you raise price. Right? And I think it's structural in the way the agreements work with the industry, which encourage the lowest common denominator at the lowest common price basically because if you're somebody who does the fiscally responsible thing and increase price, they can be hanging out there with a higher price for the same similar product as someone else who hasn't. And that doesn't seem fair, and it doesn't seem smart for the industry to bitrate as a model and an industry that has come out of the trial has gotten people used to paying for music. And I think it's going to change. So I think -- another collaborative fashion. And so I think their models that exist in other industries, let's say, the cable industry where you have annual CAGR increases on cost of content. And if you look at something like YouTube TV, it has grown its subscription in the last 5 years from $35 to $70, so pretty significant increase, while growing the fastest and #1 VMVPD in the industry because they have a superior product. And I don't mean the content, but the actually the experience and all of it, right? So all of that is possible. So I think it's just -- it is up to us, the industry overall, the DSPs and the labels to figure out a new model that drives value of music up while growing the business. And I think the other idea is sort of what I call elephant favored nations term, which is if we get certain market share of DSPs on certain wholesale price that it automatically rose out to the rest. And whether they change their prices or not, there's up to them. So there's multiple different ways to play this out. And we're thinking about it quite a lot. And maybe we'll make some of that work.

Sounds interesting. So the [ LFN ] approach would be enough of major DSPs raised prices and brought up the wholesale cost. Eventually, the remainder, the laggards would be a similar cost structure for the investments.

Correct. But I can say what they do with the retail prices, I'm talking about wholesale. So we get a couple of them on this wholesale price, -- rolled out to the rest -- and these are the type of fiscally responsible long-term decisions that a company like ours should undertake as well as others, in order to drive long-term value for artists, songwriters and all of our shareholders.

Yes. Makes sense. Okay. Let's talk a little bit about the business this year. So you yourself acknowledge that the first quarter was a challenging one. And growth overall, I'd say, has been slower than people were hoping for over the last several quarters, there have been some headwinds to the business that I think people are well aware of. Can you give us a sense of when those stayed -- and is there sort of a quarter ahead of us or at a time point you'd indicate that we should think about as Warner being sort of free and clear of some of the headwinds that you faced?

So one of the -- obviously, the reason I did the job is because I believe this is a growth business. I believe a whole bunch of growth levers here. Let's say, to Studying the entertainment industry in general, but our industry and our company. Like you can always see that no 2 quarters are the same. It's like they're just different and there are a bunch of variables that go in. So I would always encourage you to judge us over a longer period of time rather than each quarter because it's just -- if you look at the history, that kind of proves itself. So -- but having said all that, I will entertain your questions. And I would say that starting Q3, we're having much more favorable comps and much more robust slate of releases.

There you go. Okay. Fair enough. Thank you. You mentioned this earlier, which is the emerging streaming opportunity. And you guys have been disclosing a business to us that I think is annualizing at almost $400 million, up 20% year-on-year. This is as of last quarter. Nice growth, still only about 6% of the business. Maybe for the audience here, talk about the emerging streaming category that you're excited about and where you see the biggest opportunities?

So yes, I think it's an exciting thing. Look, that wasn't there a few years ago. So it's great to see those kind of things pop up. And I actually think 6% is great right after a few years, getting to that, and that will continue to grow. I do I do see opportunity -- obviously, pricing opportunity aligns with the growth. The way it plays out here is generally, when you have these new platforms, most of them start from flat piece, right, because it's easier for everybody involved to get in the business fast and drive it over time, they transition to revenue sharing agreements. But that is dependent also on the technology that they have to track and remunerate correctly. And so obviously, there are advancements in that area and that continues to grow. I think the -- all of these emerging platforms have built like very interesting experiences that use music in effectively now music content. And I think that's wonderful, right? It's just expanding the reach of music and it's kind of consistent with what I said before, which is 100% of the world uses music in different ways. And the Internet and all counts of new services allow for those things to melt even more. So I think that we'll continue to see continued growth here and the levers in terms of monetization. And again, through collaborative robust partnerships is there as well.

There's a lot of focus on TikTok right now. We talk about a platform with a significant amount of music integration, music consumption. I'm sure they would argue that my assumption is they would argue that they are a promotional platform, maybe some of the arguments that YouTube made many years ago.

I'm just going to say that…

Not accusing you -- but this is an important one for the industry, just given the size of that platform. What are your hopes and expectations about how Warner's relationship and the industry's relationship with TikTok and evolve positively?

By the way, you just remind me of something. We used to say it's promotion that pace, meaning we not over and promoting, but we're also paying, right? And I remember some of my colleagues, probably if they listen, they must be login now. But -- so number one, I think TikTok is like created an impressive single-use business. It's obviously large-scale global business, lots of user affinity. I can tell you, that's not an easy thing to do. It's very, very hard. So that's all for that. I think the -- it's also a company that's kind of in battle today, right, with lots of different institutions around the world. I would say more so than YouTube ever was. And I can tell you is that, that is not fun, right? It's like when you just -- it's not funding your day today. So I would say as an industry -- as a company that's going through that and someone who has kind of gone through that myself, so I think I do have a unique view on it is that -- it is much better to have friends and not fight a war on every flank. And it's much better to have supporters and have holistic relationships. And that is what we're open to, and that's where we want to take advantage of together with them. And I think the -- it just -- it has to all work holistically for both sides. And that's all I look for like fair set up for each eye and growing the business together. And I think there's a lot of opportunity for us to do it. Obviously, they're running tests in Australia, but I'm using -- I've gone through all of those things. Like everything that TikTok is going through. I have gone through all the same feelings all the different tests. I can just like predict all the next moves. And at some point, it's -- but by the way, it's part of a correct stewardship of a company for them to do. But at some point, they need to decide how important music is to the future in YouTube's case, it was helping people because people like having trends and music in order to make their videos viral, and it's a simple way to like jumpstart. And so we leaned into it.

So you're not worried about those -- the outcome of those tests. You know the outcome of those tests.

Yes. But again, people can make all kinds of decisions and you have to respect them, right? And I was at the principle saying, I like to be understood and have my decisions perspective. And I think what we stand for and what I stand for is fair remuneration for content to our artists and songwriters and holistic relationship with our partners that grow the business meaningfully together.

Does the way music is distributed from a royalty point of view, need to change. This is a big topic. We hear a lot out of UMG that the structure of payout is wrong and needs to be fixed. Is that -- can you share that view?

Yes. So I have a lot of thoughts on that, too. So I would say the -- so again, not a criticism because you always have to look at historically, a lot of people were noting for content in the first decade of this century and then the streaming services help turn it around, right, significantly and build this wonderful thing that we all have today. But everything over time, the as a look and changing and to change it. And I think this is one of those for sure. I agree with that. But the way I would look at it is separate user actions from algorithmic actions and user actions being born out of the fan artist relationship that I spoke about before, which is the highest sort of in any mediums. And I'll give you an example of user actions. For instance, if somebody -- if a user comes a subscriber to DSP comes and is starting the session with [ Lizzo ], Lizzo, should get the multipliers on her views, because she basically brought them to the platform. It's valuable to the platform. It's good for them. If she is consistently starting long sessions even though it's not all with her content, it starts with our content and then through recommendations guesses, but somehow she's consistently long session generator. There should be multipliers for that. If she is searched for, ever done some researches for, she should have multiplied for that versus just being recommended. What I'm saying is there's so many different ways to slice and dice this, that is tying the user fan connection and the actions the user does that is good for the platform because it shows up in their churn going down and maybe even traffic drivers, right? So it's aligning the incentives without changing any of the underlying economics on the top line. So lots of faults on that model.

Interesting. We'll have to stay tuned on how that evolves. We're running out of time. I want to make sure I give you an opportunity to talk just quickly about sort of Warner Music's sort of special sauce with A&R and its superstars and how you are able to attract -- to generate attractive returns while you continue to run your business and also sort of capital allocation and M&A. So maybe you could touch on both of those. What is it on the A&R front that allows Warner to grow margins, retain at superstars at the same time in a highly competitive market? And how do you think about acquisition capital when you guys look at assets for inorganic growth?

Yes. So first, I want to say that we've met our investment targets to date, like on the capital that we've deployed, which, obviously, I'm very glad to be able to say on behalf of the team texted the work, but it's wonderful. The -- one of the things that I noticed is that we are uniquely developing talent from very early stage. So we don't -- I mean we don't just take plug-and-play talent that has risen somewhere and become big, but we actually are managing to find talent, whether it's [indiscernible] and the Bruno Mars, et cetera, to -- and grow them and with them from very, very early stage. And that is a very, very special thing. I think the -- our global infrastructure around the world is incredibly helpful in an increasingly noisy world to help artists break through the clutter, which is getting greater and greater. So we're leveraging that. And our investments are going towards a growing artists and songwriters, mining the catalog in Cabo, which in again, unlimited shale space environment is driving a lot of value. We have strict investment guidelines that we're sticking to and growing those, and we continue to do it in a very smart ways. So I think the financial discipline that we have to deliver all of these things underpins everything that we do. And it was one of the sort of most pleasant surprises that I've had coming to the company, just see how financial discipline and has been.

That was going to be my last question. Which is -- What are -- what has surprised you most in WMG? Is that the answer? I mean this was one. The -- I would say -- so I'll give you one good one less good one. So the good one was this. And the less good one is when I was at 2, we were always -- because we had to basically license all the rights together and assemble them in order to play back the songs, publishing rights, U.S., ex U.S., sounded coding rights and then public performing rights all around the world in every single country. So I kind of felt like were the assembly plant, putting it all together. And then we always saw the friction with songwriters that they were not getting data about their performance and how it ties to the remuneration. And we always felt from the DSP side, like the publishers must be doing something to hide this, right? And there is like something that very is going on. So I come in the company, I was like, "oh, I'm going to look at this and I want to understand it. And then I realized that we're actually not getting the data from other parties that should be providing it to us. In this case, I'm talking about the collection societies around the world that are doing that. And there are 2 reasons for it. So there's a lot of [indiscernible]. It's very hard for me to draw a straight line from the revenue to the money that we receive like in the time basis, et cetera. So there are 2 reasons for it. One is our own systems. It's something for us to work on, and we're doing that. People are building things. And the other is actually the relationships with the Glacier societies around the world and getting timely and accurate data, they can be transparently provided to songwriters. So I think this is also one of those status quo things that is worth reexamining and making it better and more transparent and fair for songwriters and publishers and all of us in the industry. A lot of great ideas and look forward to keeping track you guys are doing. Please come back next year.

Thank you so much.

Thanks, everybody. Thank you.