M&A Deals of the Year
Sometimes it's good to break rank, zig instead of zag, stand conventional wisdom on its head. Just ask Warner Music Group Corp., which auctioned itself out of sequence last year by beating EMI Group Ltd. to market.
Everyone knew, after all, that Citigroup Inc. couldn't wait to unload EMI after seizing it from Terra Firma Capital Partners Ltd. in a debt-for-equity swap last February. But what very few knew was that, three months before Citi exercised its reclamation rights as EMI's sole creditor, WMG's directors had decided to test the market themselves.
This ever-so-quiet decision defied prevailing logic that maintained WMG should wait for EMI to determine what sort of valuation a music company might command. Such logic also ensured that WMG would be spared a dealmaker's ultimate embarrassment -- calling an auction to which nobody comes.
Undeterred, WMG pressed ahead. It embarked on a nine-month process that not only elicited surprising demand for a music company but ended with its sale for $3.3 billion in July. Also, by positioning itself as first mover, WMG pushed back an EMI auction by ever-eager Citi until June. (WMG agreed to sell itself to Access Industries Inc. in May.)
It's for any number of reasons that WMG's decision was the right decision. But all one really needs to know is that, even though the auction featured a company in the world's most ravaged industry, the winning bid brought in $700 million more than the sellers paid for WMG when they bought it in March 2004.
That alone qualifies the sale of WMG as a Deal of the Year. But there's more to it than that. The consortium of sellers -- fronted by Edgar Bronfman Jr. and backed primarily by Thomas H. Lee Partners LP -- managed to take out $1.40 for every dollar it invested, even as WMG gained market share. And that's before putting itself up for sale.
Granted, WMG's public shareholders may not have fared as well as those financial sponsors, having bought about 20% of the company for $17 per share during an initial public offering conducted in May 2005. But there's no denying they benefited from the auction itself: The $4.72 per share recorded for WMG stock on Jan. 20, 2011 (the day before the company's auction became public), increased 75% before WMG was taken out at $8.25 per share on July 20.
Indeed, on further assessment, the decision of WMG's directors to beat EMI to market seems less counterintuitive than it does cunning. That's largely because seven years is a long time for private equity, even for practitioners as richly rewarded as those sponsoring WMG. So, had EMI obtained first-mover advantage, any exit strategy entertained by WMG's backers would have been delayed if not compromised.
Compounding this issue was the market's perception of WMG as EMI's only logical buyer. Yet its fulfillment would have required WMG's sponsors to stay the course another three to five years. They'd have to, a veteran dealmaker says, not only to close on EMI but to reap the rewards of combining it with WMG.
Pursuit of this scenario could easily backfire, however. "Say WMG bids aggressively for EMI but for some reason loses," the dealmaker explains. "Its sponsors would definitely want to sell at that point. Only they'd have to sell into a market that, because of the EMI sale, no longer has a full set of bidders."
Twenty-twenty hindsight must credit WMG's directors for acting on a premonition that, a year later, actually happened. In November, after an auction almost as robust as WMG's, EMI's two divisions were purchased by strategic competitors: Universal Music Group and Sony Music Entertainment.
Although these buyers assumed incredible regulatory risk, they also denied the industry a strong triopoly in favor of a near monopoly in recorded music (UMG) and a dominating duopoly in music publishing (SME and UMG). And this can only mean that, had WMG's backers not beat EMI to market, they would have been left with a music company regarded as much weaker than those bulked up by assets from EMI.