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Investment firm Caledonia adds Warner Music to its playlist

And the Sydney-based fund is the ultimate conviction investor. It invests big in a small number of companies, it inserts its views and strategies into the businesses and it plays a long game. In doing so investors in its fund have to be prepared to withstand the kind of volatility that a broad-based portfolio could typically iron out.

Until last month Caledonia boasted three core holdings – the US digital real estate group Zillow, the online food delivery company Grubhub and online betting outfit Flutter – all of which have significant market share within their respective industries. Caledonia’s investment duo of Vicars and Mike Messara believe there is still plenty of growth fuel left in the tank of all three.

In the US, physical music sales collapsed from $US14.6 billion in 1999 to just $US1 billion ($1.4 billion) in 2020.

But it is Caledonia’s new investment – a 6 per cent stake in Warner Music’s recent initial public offering – that has excited interest.

At the early stages of the digital revolution, the record industry was one of the first major victims of digitisation and was decimated by pirating. In the US, physical music sales collapsed from $US14.6 billion in 1999 to just $US1 billion ($1.4 billion) in 2020, Caledonia told investors in its potted history of the music industry after revealing its stake in Warner Music.

The industry was further disrupted in 2010 with the advent of streaming – a move that overturned the shocking economics of the record industry and the three big players that dominated it, Sony Music, Universal Music Group and Warner Music.

Warner Music gets a clip of the ticket when consumers stream Ed Sheeran songs.

Warner Music gets a clip of the ticket when consumers stream Ed Sheeran songs.

Streaming companies such as Spotify and Apple Music introduced access to a vast treasure trove of current music and an even bigger library of music for as little as $US10 per month. The big music companies emerged as the gatekeepers between the artists and the streaming services, which are dominated by seven players, the largest of which is Spotify.

While there are now 400 million music streaming subscribers worldwide it is a market Caledonia believes is in its infancy with expectations for the numbers to triple over the next decade.

This growth will be helped by the explosion in the number of devices connected to the internet. There are already several hundred million such devices in homes today including Amazon Alexa, Google Nest and Sonos with more to come, Vicars and Messara explained to investors.

The importance of the streaming companies into the music delivery process is that the use (or the playing) of all songs becomes audited – thus can be tolled and monetised. The large libraries that the big music companies control hold the key to the maintenance of their market shares which have held steady for years.

Caledonia sees these record industry music labels as the pivotal point between the millions of artists and the streaming companies. Spotify dominates the music streaming market but others are emerging which could create more competition.

Additionally, artists need the marketing support of the big record companies to find a voice (so to speak) among the tens of thousands of new songs recorded daily.

So Caledonia thinks it’s on to a winner and after studying the market extensively starting talking to Warner last year and emerged with a 6 per cent stake in the company when it listed last month.

“We think the growth in music streaming alone underpins high-single-digit revenue growth for the recorded music industry through 2030. Also, the streaming business model is digital and results in higher margins than physical music sales for the record labels,” Vicars and Messara told investors.

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