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When the Hypnosis Songs Fund’s (HSF) board reduced the value of its catalog by 26% last week, the company acknowledged what investors had long believed. The London-listed royalty fund has amassed an enviable collection of songs since going public in 2018, but changing market conditions and the very nature of some of those rights have meant that their fair value has fallen far short. It may have been worth a significant reduction.
A new valuation by Shot Tower Capital puts the music rights portfolio, which includes A-list artists and songwriters such as Neil Young, Shakira and the Red Hot Chili Peppers, at $1.8 billion to $2.06 billion. Estimated. As recently as September 30, HSF’s longtime valuation expert Citrine Cooperman (formerly of Massarkey Consulting) valued the catalog at a fair value of $2.62 billion. Six months ago, it was said to be worth $2.8 billion.
HSF’s new board adopted Shottower in the wake of an Oct. 26 vote by investors against its continuation and partial catalog sale. This effectively amounted to a vote of no confidence in both the former board and investment advisory firm Hypnosis Song Management. Shottower will conduct its final due diligence to the HSF Board of Directors by March 25th, and HSF will provide an update on those findings by March 29th.
Some long-time critics of HSF’s previous valuation see validity in Shottower’s lower numbers. Stifel analysts argued that the new numbers show HSF is “clearly overpaying for its catalog,” they wrote in a March 4 note to investors. To date, HSF has spent approximately $2.2 billion on acquisitions. The company has raised more than 1.3 billion pounds ($1.67 billion) through an IPO and seven consecutive public offerings, and has drawn down $604 million from its revolving credit facility.
Such a significant drop in valuation suggests that different experts had different opinions about both the catalog’s earnings and the risk of those earnings. Shot Tower calculated that his HSF’s net revenue (after deducting third-party royalties and management fees) for his 12-month period ended June 30 was $121.7 million. Accounting firm BDO calculated a similar amount, $119.4 million for the 12 months ended September 30th. Earnings quality analysis.
The higher valuation of $2.62 billion appears to be based on higher annual net revenue. In its July 2023 investor presentation, HSF’s annual revenue is estimated at $134 million (based on portfolio fair value of $2.8 billion and implied historical net publisher share (NPS), a multiple of 20.89. based on). That’s $12.3 million more than Shottower’s figure and $14 million more than BDO’s estimate. However, the difference in annual revenue only partially explains the difference in valuations.
The discount rate also appears to have played a large role in the decline in HSF’s valuation. Shot Tower used a weighted average discount rate of 9.63% for its entire catalog. This is more than 1.1 percentage points higher than the discount rate used in previous valuations.Expert signboard Officials said the percentage was “on the high side” and “a particularly high number.” Other recent valuations have used lower discount rates. Discount rate and valuation are inversely related. The higher the discount rate, the lower the present value of the cash flows, and vice versa.
Since the September 30, 2020 valuation conducted by Citrine Cooperman, until this week HSF was valued using a discount rate of 8.5%. FTI Consulting’s evaluation of the Kobalt portfolio used in asset-backed securities (ABS) products in February found that songs older than 18 months had a discount rate of 8.5% (for songs older than 3 to 18 months). was 11.75%). His FTI valuation of the portfolio behind Concord’s $1.65 billion ABS puts it at an 8.25% discount on catalog songs (and an optional discount on recorded music frontier content and future releases). 11.75%) were used.
HSF’s discount rate has been a point of contention among analysts and investors in recent years. When HSF lowered its discount rate to 8.5% in 2020, analysts said valuations rose even though investment managers had not yet added value and market assumptions had not changed. complained. When interest rates began to rise in 2022, analysts wondered why HSF would stick to its 8.5% discount rate.
The discount rate depends on the risk of future cash flows. Completely safe returns are discounted using a risk-free rate of return, such as the 10-year Treasury rate. Since no business is risk-free, a company’s profits will likely deserve a higher rate. If a company has debt, the cost of borrowing above the risk-free rate is also factored into the discount rate.
According to the press release, Shottower’s discount rate takes into account a variety of factors, which may explain how it ended up at 9.63%. For example, Shot Tower found that 65% of HSF’s revenue comes from passive rights, which the company has no control over publishing, managing, or licensing. In many cases, HSF owns only the songwriter’s share, not the publisher’s share or the producer’s royalties from sound recordings. Investors may have thought that HSF would have more control over management, distribution and licensing. In his HSF annual report for the year ended March 31, 2022, HSF owns his 100% interest in 96% of the songs in his catalog (138 of his total songs). He said he is doing so. 146 catalog).
“There’s a lot of value in that control,” explains an industry insider. Strategic buyers (usually music publishers or record labels) will pay a premium to manage, license, or control the distribution of recordings. Because passive rights involve more potential risk for the counterpart (e.g. co-author) and potential recovery risk (such as if royalties are redirected from the label rather than received from his PRO) , usually traded at a discount. In my opinion, “you’re making better progress,” says this official. Producer royalties acquired by HSF, including RedOne, Jimmy Iovine and Timbaland, are also reluctant.
Shottower’s valuation was a double-edged sword for a company looking to shore up investor confidence. The low figure confirmed some investors’ long-held belief that the portfolio’s value was lower than HSF claimed. However, the drop in valuation further hurt HSF’s stock price. As Shottower’s valuation fell, HSF’s board pledged to use cash to pay down debt rather than restart the dividend, which was suspended in October. Therefore, while the drop in valuation better reflects HSF’s market capitalization, the 11% decline in the stock price on the day of the announcement was likely due to the continued loss of dividends.
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