WarnerMusic (WMG): Industry on the cusp of showing its pricing power

WMG has compounder qualities: highly predictable free cash flow, consistent margins and returns. We like the industry which is capital light, low competitive intensity and has a consumer staple like nature.

The bet in WMG is quite simple. How much pricing power does the industry have?

• The recent 10% increase by Apple is likely to mean increases by other platforms and we think it paves the way for more regular price increases. If there was ever an environment for price rises – this is it.

• For the last 10 years, streaming platforms have kept subscription prices low to attract new subscribers. We estimate penetration of premium subscribers in the west at 50-60% of potential.

Music has finally ended it’s SAAS transition:

• Relative to 1999, the music industry’s income, adjusted for actual inflation should be ~ 80% higher than it is currently charging.

• Every other SAAS transition we have looked at has expanded the market due to lower prices, but volume and operating leverage have more than made up for the pay over time vs buy a licence upfront.

• Mix shift towards streaming has a positive impact on margins. Streaming now makes up 65% of the revenue generated by the music industry.

Potential Upside: $42 (+60%)

Sensible Downside: $22 (-15%)

Link to research