UMG Inventory: Present Valuation Represents A Deep Low cost (UMGNF, UNVGY)

The next section was excerpted from this fund letter.

UMG’s shares skilled a pointy drop when the corporate reported outcomes final month. Whereas the corporate’s total income development of 10% and working revenue development of 11% have been each sturdy, subscription and streaming income development, a key metric, decelerated through the quarter from its latest double-digit development price to mid-single digit development.

We consider the quarter’s disappointing subscription and streaming development is because of sure idiosyncratic elements distinctive to UMG mixed with some weakening within the total financial setting. As evidenced by UMG’s friends’ outcomes nonetheless, music streaming continues to be rising at a wholesome price. We consider that UMG’s underperformance this quarter will show to be short- time period in nature and doesn’t impression our view of UMG’s medium and long-term development prospects.

We proceed to consider that music has a protracted runway of future development, because it stays under-monetized relative to historical past and when in comparison with different types of media. We anticipate the {industry} to enhance monetization by way of new services and products, with higher segmentation of shoppers together with higher-priced tiers and elevated subscription costs.

UMG’s subscription income development of seven% slowed from 13% final quarter, as the corporate started to lap final yr’s value will increase. Slower development at sure digital service suppliers (“DSPs”) offset sturdy development at Spotify (SPOT) and YouTube. Whereas quarterly efficiency can fluctuate, we consider that every of UMG’s core DSPs has a wholesome enterprise and that UMG can additional drive streaming and subscription development by working with its DSP companions to enhance their choices. The corporate is now working with Spotify in launching a premium providing for superfans which UMG estimates may finally be adopted by as a lot as 20% of Spotify’s subscriber base.

We consider there may be ample room to extend pricing within the coming years as music subscriptions have been stored at flat costs for practically a decade till some latest will increase. Because the {industry} matures in developed markets, ad-supported customers who right this moment obtain free music might be charged a month-to-month subscription price, as is often the case within the video streaming {industry}. Whereas every of the foremost DSPs elevated costs for particular person subscriptions from $9.99 to $10.99, solely Spotify and Deezer have raised costs to $11.99 and solely in sure geographies and for sure plans.

Through the quarter, UMG’s streaming revenues (revenues from ad-supported music) declined by 4%, a pointy deceleration from double-digit development final quarter, as financial uncertainty induced a slowdown in promoting revenues from its largest companions. The decline was additionally attributable to the absence of revenues from TikTok whereas a brand new deal was being negotiated which didn’t begin till the start of Could. UMG’s revenues from Meta additionally decreased quickly whereas the businesses labored collectively on a extra holistic deal that can develop different points of their relationship. Whereas streaming revenues are much less predictable as a result of they’re much extra inclined to financial situations, we consider that over the long run they need to develop at an analogous or increased price than subscription income development.

UMG’s administration group led by Sir Lucian Grainge has a protracted track-record of rising and shaping the music market by working with its companions in innovating artistic options to drive development. For instance, UMG’s efforts led to the industry-wide adoption of “artist-centric” initiatives that can lead to a larger share of streaming royalties for its artists. UMG can also be main the {industry} by working with companions to launch new merchandise to harness AI’s development alternatives whereas additionally guaranteeing regulatory and authorized safety for its artists.

Just like how buyers initially overreacted to issues concerning the potential adverse impression from AI, solely to see UMG shares shortly get better because the market higher understood the AI threat, we consider that as buyers higher perceive UMG’s path to increased income development and regain confidence within the long-term well being of the {industry}, the corporate’s share value is prone to improve considerably from its present ranges.

To that finish, the corporate is internet hosting a Capital Markets Day in September which is the perfect discussion board for administration to offer buyers with extra particulars on its enterprise and the long-term development alternative. Given UMG’s sturdy market place and lengthy runway for sustained earnings development, we consider that the corporate’s present valuation represents a deep low cost to its intrinsic worth.