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Stalled EMI auction intensifies risks for Citigroup

by Richard Morgan | Published November 9, 2011 at 9:45 AM

An impasse in the auction for EMI Group Ltd. is raising regulatory and execution risks to a degree that has increasing numbers of observers wondering if the sales process can be brought to a successful conclusion.

For example, in response to Vivendi SA's Universal Music Group's re-entry in the contest for EMI's recorded-music division, a trade group for leading European independents brought regulatory risk to the fore Tuesday, Nov. 8, by announcing its opposition to any expansion efforts by the company that already ranks as the industry's leader. UMG not only leads the recorded-music segment with a 28.7% share, as measured for 2010 by Music & Copyright, but ranks first in music publishing, with a 22.6% share.

The trade group Impala, which out of Brussels represents 4,000 of music's non-major labels, also voiced displeasure at Sony Corp.'s Sony Music Entertainment for pursuing EMI's publishing division. SME ranks second in recorded music, with a 23% share, and third in music publishing, with a 12.5% share.

What rankles Impala is that, on a pro forma basis, the addition of EMI's 10.2% share in recorded music would take UMG's to 38.9%, and the addition of EMI's 19.7% share in music publishing would take SME's to 32.2%. These acquisition-boosted shares would, in turn, top those of all independents combined: 23.2% for recorded music and 31.4% for music publishing.

"Even if Universal or Sony attempts to construct a deal for EMI with a third party or with divestments, it would still increase their market power," the trade group said in a release. "Impala believes that the regulators would not be convinced by such an approach and points out that, even if they did, it could end up in the courts."

The threat of extended litigation -- "the buyer would still have to sell at the end of the day at huge cost," Impala asserted -- does not bode well for an auction that has already witnessed the exit of Warner Music Group Corp., the industry's only other major. WMG bowed out a little over a week ago after a final-round bid of $1.5 billion fell as much as $300 million short of what Citigroup Inc., which laid claim to EMI ownership in February, had in mind for the recorded-music division of its London-based company.

WMG's withdrawal is believed to have motivated Citi to check out UMG's receptivity to renegotiating. Sources said Los Angeles-based UMG won the support of its Paris-based parent company, Vivendi, before resuming takeover talks that had broken down earlier over EMI's pension liabilities. While no precise amount was placed on those liabilities, their upper range has been estimated in excess of $600 million.

Citi's reaching out to UMG for a return engagement could be interpreted as a ploy to get WMG to do the same. The latter, with a 14.9% share in recorded music and a 13.9% share in music publishing, would wind up with a 25.1% share in recorded music were it to secure EMI's operation -- an amount comfortably between those of the industry's current leaders.

Even notoriously cranky Impala seems to prefer this contingency, provided it's accompanied by what the trade group called "substantial remedies." But those aren't out of the question, Impala continued, "because of the precedent [of a failed EMI bid] from 2007, when Warner already recognized the importance of the independent sector and demonstrated its willingness to find far-reaching remedies."

Despite press reports to the contrary, sources close to WMG said it has yet to re-engage with Citi over EMI, even though a merger of the two recorded-music divisions promises hundreds of millions in synergies. This hesitancy surprises some observers who believed that Access Industries Inc., which acquired New York-based WMG in July through a take-private transaction valued at $3.3 billion, already had its sights on EMI as a tack-on acquisition before entering the music business in the first place.

Citi may have been negotiating with this belief in mind, but a consequence of WMG's exit and of Impala's insistence on regulatory intervention could be no sale at all. This would be a great disappointment to BMG Rights Management GmbH -- a joint venture between German media giant Bertelsmann AG and New York private equity firm Kohlberg Kravis Roberts & Co. LP -- which by all accounts has been negotiating for EMI's music-publishing division in a manner consistent with its desire to become what new Bertelsmann CEO Thomas Rabe recently called "a major player in worldwide music publishing."

However, selling one division (music publishing to BMG Rights, for instance) and keeping the other (after shrugging off UMG for regulatory reasons, say, and WMG for low-ball bidding) would greatly elevate Citi's execution risk. Such circumstances could leave EMI's recorded-music operation not only stuck under Citi ownership but leaderless in light of the odds that EMI chief executive Roger Faxon would travel with his company's publishing division to new ownership. It's a combination that practically defines a wasting asset in the music business: no talent worth signing would do so under such circumstances, and no recruit worth hiring would accept employment. Most of all, though, prospective buyers for the remaining EMI division under Citi ownership would have little incentive to hurry up and buy today when a lower price is all but guaranteed tomorrow.

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Stalled EMI auction intensifies risks for Citigroup

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