Hipgnosis Songs Fund results - Introduction from Merck Mercuriadis

These financial results are an important validation of Hipgnosis Songs Fund’s investment thesis, delivering the best like-for- like income growth in our short history.

These results demonstrate the value of our strategy, with Operative NAV per share growth of 3.6% year-on-year to $1.9153, underpinned by strong increases in royalty statement income. Taken together with dividends declared since launch until 31 March 2023, of 21.6p (27.9¢), we have delivered a 69% Total $ NAV Return to Shareholders since IPO on 11 July 2018, as we continue to benefit from the growth in streaming and higher Synch revenues generated by the Company’s unparalleled Portfolio of Songs.

Five years ago we predicted that the recovery of the music industry from the previous 16 years of technological disruption would be driven by the convenience and transformational growth of streaming. In addition, we considered that we could deliver an exceptional return by acquiring iconic Songs while they were still attractively priced.

Since then our thesis has become reality and we have transitioned from an era where almost all consumption of music was unpaid to one where almost all consumption of music is being paid for. This set of results is an early indication of what’s to come in the future.

People listen to iconic Songs whatever the macroeconomic conditions; the change in the way in which we consume music means that, increasingly, when we hear a song, a payment is being generated; music streaming continues to grow with its utility-like revenues, with the number of paid subscribers globally growing by 13% year-on-year to around 600 million, according to the IFPI, including over 100 million paying subscribers in the US.

Importantly, around the world the true value of Songs and Songwriters is increasingly being recognised.

Nevertheless, the current share price does not reflect the success of our investment strategy and I know all Shareholders share my frustration and disappointment that this is the case. When we launched the Company, we created a new asset class with Songs. It is therefore perhaps not a surprise, that in a world of incredible turmoil following a global pandemic, the largest war in Europe in nearly 80 years and increasing inflation and interest rates, that some investors have turned to “risk free” safe havens over exposure to new asset classes. However, despite these unique macroeconomic conditions, the strong growth in paid consumption for music continues. The Music industry is rapidly growing and thriving while others contract and as a result, Song catalogues continue to be a highly attractive asset.

We are aligned with Shareholders in believing that the fundamental value and opportunity of the Company fails to be reflected in the current share price.

As a result, we have been working with the Board, following consultation with many of the Company’s largest Shareholders, on a number of options to enhance Shareholder value.

We intend to update the market prior to the Annual General Meeting (AGM) and the Continuation Vote.

Strong underlying growth

IFRS Net Revenue, which is based on the Group’s accounting policies (including accruals), was $147.2 million and decreased from $168.3 million due to a number of non-recurring elements identified and called out in the prior and current period.

These include non-recurring Right to Income (RTI), the initial recognition of the Usage Accrual and the impact of the retroactive CRB III revenue due. Excluding the impact of these adjustments, IFRS Net Revenue grew by 10.9% year-on-year.

In order to provide Shareholders with an understanding of the like-for-like performance of the Company’s revenues, by removing the current year impact of non-recurring items, we provide our Pro forma Annual Revenue (PFAR) data which is primarily based on actual royalty statements. In 2022, PFAR increased 12.1% year-on-year to $130.2 million (2021: $116.2 million). This is despite the US Dollar’s very strong performance against almost all other major currencies during the year.

Streaming is a key driver of income growth and grew by 14.8% year-on-year in 2022, making up just over 40% of our PFAR income. Income from Synch revenue continues to show strong growth of 24.7% year-on-year in 2022. Significantly, Performance income, which had been suppressed since the Covid-19 lockdowns is now demonstrably coming back as consumption returns to even greater than pandemic levels. A small year-on-year decline in the first half of 2022 was more than off-set by a 41% increase in the second half. Taking into consideration the time lag inherent in the payment of performance income, this is a very positive indicator for the future and gives us a 9% year-on-year increase for 2022.

I believe that there are two reasons why the Company’s income has outperformed this year:

Firstly, the Songs in our Portfolio.

• We have bought carefully and we bought well by investing in Songs which we believe will stand the test of time and will be listened to for generations. The Company’s Portfolio of Songs is unrivalled for its extraordinary success and cultural importance. We have a relatively small portfolio with a very high ratio of success, which makes it efficient to manage as the Songs are in high demand. Significantly, we selected catalogues which we believed were well placed to benefit from the growth in music streaming. The Company owns nearly 25% of all Songs played over a billion times on Spotify (“Spotify’s Billions Club”), over 10% of Rolling Stone’s The 500 Greatest Songs of All Time and Songs on 16 out of the Top 40 UK best-selling albums of the first six months of 2023.

Secondly, our active Song Management.

• We drive consumption and value through Song management of the Catalogue to individual listeners, music creators and business music users, as well as harnessing consumer platforms through which the Catalogue can be showcased and consumed.

• We optimize revenue generation, revenue collection and value by ensuring accurate registration and rights enforcement of the Songs in the Catalogue, then collect revenues as efficiently and cost-effectively as we can.

• We campaign to change the position of Songwriters in the economic equation by working with politicians, NGOs and the wider music community to build support for increased fairness in payments for Songwriters. For the Songs which we’ve purchased, the Company stands in the shoes of the Songwriters, so our interests are perfectly aligned.

  Looking at the wider picture, the US Recorded Music revenues collected by the RIAA show that revenues are now back above the historic highs at the start of the millennium. Despite the general economic slowdown caused by rising interest rates, music and the Songs that underpin it is prospering. Particularly notable is the continued growth of music streaming with its utility-like revenues. The best days of the music industry and rights ownership are ahead of us and we believe that the capital appreciation in our portfolio is still in its infancy as we grow towards 2 billion paid premium streaming subscribers over the next 10 years. In this context, it’s not surprising that the market analysts at Goldman Sachs and J.P. Morgan, amongst others, expect music industry revenue growth to continue for the foreseeable future.

  The net increase in the Fair Value of the Portfolio of 4.0% year-on-year to $2.80 billion and the increase in the Operative NAV per share of 3.6% year-on-year to $1.9153 was driven by revenue in excess of the Portfolio Independent Valuer’s forecast.

  Active management of our Portfolio

  Whilst we benefit from the wider market growth, we continually add value through our active Song Management of the Company’s portfolio. These activities increase the value of our Songs both by bringing them to new audiences and ensuring we are paid what we are due as quickly as possible. Examples for the year include:

  • Placing a remix of Journey’s 1983 song Separate Ways (Worlds Apart) in season 4 of Netflix’s hit Stranger Things. The Company owns rights for both Jonathan Cain’s 50% share of the publishing and 66% of the master recording. The synch

generated a six figure fee and also drove a significant increase in streaming consumption, encouraged further synchs of the Song and a new cover version.

• Placing Nile Rodgers as the face of Chanel Eyewear as well as the first and only “Artist In Residence” at Apple Music. We have also presented CHIC’s first five albums and Sister Sledge’s We Are Family in Spatial Audio on the service, as well as securing a significant six figure synch for the song Spacer with Renault in Europe. These initiatives have introduced our iconic songs, co-written by Bernard Edwards, to a new generation of fans and are driving increased streaming consumption.

• Placing a cover version of Blink-182’s All The Small Things, co-written by Tom Delonge whose catalogue we purchased in 2019, as the soundtrack for John Lewis’s 2022 Christmas advert – one of the most coveted Synchs in the World.

• Rihanna performing four Hipgnosis Songs Fund co-owned Songs during her set at the 2023 Superbowl: Birthday Cake (The-Dream), All Of The Lights (Jeff Bhasker / The-Dream), Run This Town (Jeff Bhasker / No I.D.) and Umbrella (The- Dream / Tricky Stewart). Close to 119 million viewers tuned in for her performance on television and streaming services, with each of the Songs recording gains on streaming platforms of up to 280% in the week following her performance. Four months on, Umbrella’s US weekly Streaming-on-Demand figures are still 1.3 times that pre the Superbowl; Run This Town is showing 1.5x the demand and this has led to further synch placements.

• Our new recording of Bon Jovi’s Wanted Dead or Alive, by Empara Mi was commissioned to specifically to appeal to the Synch market. It was successfully placed, as the global trailer for Transformers: Reactivate, a major forthcoming video game. It generated six figure fees for both the publishing and the new recording which we participate in.

• Placing Richie Sambora as a contestant on the UK version of The Masked Singer. Four of the six Songs that he performed on the series were from the Company’s portfolio. When he was revealed in the semi-final, his profile reached a recent all-time high. There was an increased streaming consumption of the Bon Jovi songs as well as the four songs held by the Company that he performed on the series including Go Your Own Way and Smooth.

• Nicki Minaj interpolated our iconic Rick James song Super Freak into Super Freaky Girl making it a Number 1 single in the US and Top 5 in the UK and around the world, driving over 1 billion new streams across all digital service. It also increased streaming consumption on the original Super Freak and U Can’t Touch This by MC Hammer which is another iconic Super Freak interpolaton.

• Entering a direct licensing and administration partnership for digital royalties of reverted catalogues with Sacem, a world-leading Collection Management Organisation. This is materially cutting collection times, reducing collection costs and is delivering an increase in revenues.

  Artificial Intelligence

  Recent developments in Artificial Intelligence (AI) tools offer new opportunities which we are already looking to use in support of our iconic Songs. The enduring success of our Songs is down to the strong emotional connection they have with millions of consumers all over the world and they are therefore always in demand. AI enables us and other creators to quickly and cost effectively deliver new versions of these Songs, create interpolations or otherwise introduce our music to new audiences. Global copyright laws provide a significant degree of protection for our Intellectual Property. Nonetheless we are working with legislators who are actively looking at how to fill any gaps which are created by this new technology and we will support measures which prevent AI from learning from in-copyright music and recordings to the detriment of artists and Songwriters.

  Our activities within the Songwriter community

  Songs are the currency of the music business; without the Song there simply is no music industry. Yet Songwriters – who deliver the most important component to the success of a record company, digital service provider, music merchandiser or live promoter – are still the lowest paid people in the economic equation.

  We have always been clear that our motive is to establish Songs as an asset class and to provide a great return for our investors. Concurrently, our “ulterior” motive has always been to use our success to help take the Songwriter from the bottom to the top of the economic equation. This is in complete alignment with our Shareholders’ best interest.

Over the last five years we have made demonstrable progress. We advocated for and welcomed the moves by the US Copyright Royalty Board (CRB) and the wider music industry in the US to increase the rates paid to Songwriters and publishers.

CRB III provided for a 44% increase in the headline rate of Digital Service Providers (DSP) revenues paid to Songwriters and Publishers in the US, reaching 15.1% in 2022. It was disappointing that some streaming services appealed the original ruling, delaying much needed payments to Songwriters, many of whom rely on royalty payments for everyday living expenses. The appeal was rejected during 2022 and the industry is now working to ensure that the higher rate payments due for the CRB III period reach rights holders. The Company has accrued $21.7 million to account for the CRB III monies due to date.

We were pleased to support a joint industry proposal for CRB IV which saw the proportion of DSP revenue paid to Songwriters further rise, incrementally, to 15.35% in 2027, while the royalty payable on a physical sale or download is rising from 9.1 cents to 12 cents with additional inflationary increases. Whilst there is still a long way to go before Songwriters are fairly remunerated, these are important steps in the right direction.

The joint CRB IV proposals, which have now been confirmed, show there is increasing acceptance across the music industry that Songwriters should be fairly rewarded for their work. Whilst the increase is more modest than the CRB III rises, we support it as it will provide a background of stability at the highest streaming rates ever paid in the context of which we can continue our advocacy efforts for an even bigger share of the pie.

In the UK, the Competition and Markets Authority (CMA) concluded their market study and recommended that the Intellectual Property Office (IPO) take forward a number of workstreams. After the year end, the IPO announced an agreement on how the music industry and the Government will work together to deliver consistent high-quality metadata. We welcome this first step, however, we believe that far greater reform is needed and we continue to engage with the relevant organisations to achieve this change. The UK Government has also recently announced it has accepted a recommendation from the Culture, Media and Sport Select Committee (to whom Hipgnosis gave evidence) to establish an industry working group to explore issues around fair pay for creators in the music streaming industry. Our ultimate goal is for Songwriters’ pay to be determined by the free market, not legislation.

We also supported BMI in its Live Concert rate victory, which set a new rate 138% higher than the previous one, reflecting the importance of Songs in the live concert experience. As we’ve stated before, live concerts would not exist without Songs.

Outlook

These results highlight the continuing validity of our investment thesis. Our markets are buoyant and continue to grow. Streaming, increasingly, provides a utility-style income for holders of Song royalties and the increasing demand for Song Catalogues from Private Equity funds and the major record labels demonstrates the attractiveness of this asset class. Hipgnosis Songs Fund, with its portfolio of iconic, culturally significant Songs, is uniquely placed to benefit its Shareholders and deliver superior Shareholder returns over the medium term and we are committed to taking whatever action is necessary to deliver this.

With year-end results delivered, our focus is on re-rating the shares, passing the Continuation Vote at the forthcoming Annual General Meeting and delivering a great 2024 and beyond.

I take my responsibility to our Shareholders very seriously. From the 42 institutional investors that we started with in 2018 to the many hundreds of institutional and retail Shareholders we have today, I have always stated that, while iconic Songs with high quality long term cashflows provide great income for investors, the real purpose of this Company is for our Shareholders to be the beneficiaries of the substantial Net Asset Value growth which we believe will come over the next 10 years as the market in which we operate in grows to as many as 2 billion paid streaming subscribers around the world, who will in turn increase the consumption of our already extraordinarily successful Songs. I strongly believe we are well on our way to achieving that.

Finally I would like to thank each and every one of you who have supported us in establishing Songs as an asset class as well as the great Songwriters who have entrusted us with being custodians of their special Songs and Catalogues.

Merck Mercuriadis

Founder, Hipgnosis Songs Fund Ltd and Founder/CEO, Hipgnosis Song Management Ltd.