..--- - - - - - - - - - - - - -- - _ .

_ - -

EMI Group plc

In ellis [nternet age , lhe consumer is using music content more lhan ever before-wherlier lhal's
playlisling, [Jodcasling, personalizing, sharing, duwnluading or juSt simply enjuyinR it. The digiwl
revolwion has cau.led a compleLe change LU lhe culwre, opera liuns , and attiwde uf nwsic
companies n' crywhere. It hasn't been eas y, and we must cerwinly continue LU fig/a !Jiracy in all its
forms. BlIl there can be no doubt that with eWll greater commitment co innuvat ion and a true fun iS
on the consumer, digiLaI dislriblllion is becoming Llle besl lhing ella I ever happened LU lhe music
business and the music fan .
- Eric Niwli, CEO. EMl Groupl

In early spring 2007, Martin Stewart drove through the darkened streets of Kensington
in West London. As chief financial office r (CFO) for global music giant EMI, Stewart
already knew most of the news that would break at the comp any' s April 18 ea rn
ings announcement. Annual underlying revenue for the company was down 16% to
GBPl .8 billion (British pounds). Earnings per share (EPS) had also dropped from
10.9 pence (p) in 2006 to -36.3p in FY2007. Those disappointin g number s were
roughly in line with the guidanc e Stewart had given investors in Februa ry. The per
formance reflected the g lobal declin e in music industry revenue s, as well as the
extraordin ary cost of the restructurin g program EMI was pursuing to realign its invest
ment priorities and focus its resources to achieve the best returns in the future.
The earnings announcement would be accompanied by announcing the amount of
the dividend, which had not yet been determined. The board would meet soon to review
EMI' s annual results, and Stewart was to recommend an appropriate final dividend for
the fisc al year.' On an annual basis, EMI had consistently paid an 8p-per-share dividend
'Iruernational Federation of Phonographic Industry (I FP!), " IFPI: 07 Digital Music Report," January 2007.
2 1n

the United Kingdom, companies typically declared dividends twice a year, first with the mid-year results and
second with the full-year results. Typically, EMI paid an interim divideild of2p per share and a final dividend
of 6p per share. In addition, both EMI'o interim and final dividends were paid out to shareholders in the follow
ing fiscal year. In November 2006, EMI's board committed to paying the interim dividend of 2p per share
following its 2007 fiscal midyear results with actual payment to shareholders expected in April 2007. Both
the 2p interim dividend and the recommended final dividend would be reflected in the 200S financial statements.
This case was written by Elizabeth W. Shurnadine (MBA '0 Il. under the supervision of Professor
Michael J. Schill, and is based on public information. Copyr ight 200S by the University of Virginia
Darden School Foundation, Charlottesville, VA. All rights reserved. Tv order copies. send an e-mail to
sales @dardenbuoincsspublishing.com. No pa rt of /his publica tion /1/(I \' be reproduced, stored ill a retrie val
system , used ill U spreadsheet , or transmitted in any [orm or b v 0/1 \ ' means-s-cle ctronic. mechanical , pho to
copving , reco rding, or otherwi se-i-without the pe rmis sion 11 1he Durd en Schoo! Foundation.

363

364

Part Five

Management of the Firm's Equity: Dividends Repurchases, Initial Olfferings

to ordinary shareholders since 2002 (Exhibit 1). Now in light of EMI's recent per
formance, Stewart questioned whether EMI should continue to maintain what would
represent a combined GBP63 million annual dividend payment. Although omitting the
dividend would preserve cash, Stewart appreciated the negative effect the decision
might have on EMI's share price, which was currently at 227p. Stewart recognized that
EMI faced considerable threat of takeover. Although its board had recently been able
to successfully reject an unsolicited 260p-per-share merger offer from its U:S. rival
Warner Music, there continued to be considerable outside interest in taking over EM!.
It seemed that boosting EMI's share price was imperative, if EMI wanted to maintain
its independence.

EMI
With a storied history that included names such as the Beatles, the Beach Boys, Pink
Floyd, and Duran Duran, it was not difficult to understand why EM! considered its
current and historical catalog of songs and recordings among the best in the world.
EMI, Warner Music Group, Sony BMG Music Entertainment, and Universal Music
Group, collectively known as "the majors," dominated the music industr y in the early
2 1st century and accounted for more than two-thirds of the world's recorded music
and publishing sales.:' Exhibit 2 contains a list of the global top-IO albums with their
respective record labels for 2003-06.
Recorded music and music publishing were the two main revenue drivers for the
music industry. EM! divided its organization into two divisions devoted to eac h of
these operations. EMI Music, the recorded music side, sought out artists it believed
would be long-term commercial-recording successes. One of EMI' s record labels mar
keted the artist's recordings to the public and sold the releases through a variety of
retail outlets. EMJ's extensive music catalog consisted of more than three million songs.
Recorded-music division sales came from both new and old recordings; existing cata
log albums constituted 30% to 35% of the division's unit sales. Exhibit 3 contains a
list of EMI's most-successful recording artists in FY2007.
EMI Music Publishing focused on the actual songs as opposed to the record
ings. There generall y were three categories of publishin g-rights owners in the music
industr y: the lyric's author, the music's composer, and the publi sher who acquired
the right to exploit the song. These publishing-rights owners were entitled to roy
alties whenever and however their music was used. Music publi shers categorized
their revenue streams as mechanical royalties (sales of recorded music), perform
ance royalties (performances of a song on TV, radio, at a live concert, or in other
public venues such as a bars), and synchronization royalti es (use of a song in audio
visual works such as advertisements or computer games) . EMI included a fourth
catego ry of royalties labeled "o ther," whic h incl uded sales of sheet music and

' William B. Drewry, Jolanta Masojada, Nick Bertolotti. and Giasone Salati. Credit Suisse Equity Research.
"G lobal Music Industry. 'Just the Two of Us.' '' 16 June 2006. Sony BMG Music Entertainment was a jo int
venture owned by Sony Corporation and Berte lsmann. Universal Music was owned by Vivendi.

Ca se 27

EMI Gro up pic

365

increasingly in the 21 st centu ry, mobile ring tones and ring backs. Simil ar to the
recorded-mu sic division, the music-publ ishing division identified songw riters with
probable commercial potential and signed them to long-term contracts. The division
then assisted the songwriters in marketin g their works to record comp anies and othe r
media firms. EMI' s curre nt publishing catalog enco mpassed more than one million
musical co mpos itions. Exhibit 3 also co ntains a list of EMI's most-s uccessful
songwriters in the FY2007. EMI' s publi shing business generated one-fourth of the
total group revenue. Revenue in the publishing business was stable, and operating
profi ts were positive.
In addition to seeking out and signing flourishing recording artists and songwrit
ers to long-term agreements, both EMI divisions also expanded and enhanced their
individual catalogs and artist rosters by strategic transactions. Two key acquisitions
for EMI's recorded-music division were the 1955 acquisition of a leading American
record label, Capitol Records, and the J 992 acquisition of Virgin Music Group, then
the largest independent record label. Both transactions added key recording stars such
as Frank Sinatra, Nat King Cole, Janet Jackson, and the Rolling Stones. The music
publishing division similarly targeted existing publishing assets with large, proven
commercial potential such as the purchase of Motown founder, Berry Gordon's music
catalog in various stages in 1997, 2003, and 2004.
Since the company's founding in 1897, EMI' s model had been that of "con
stantly seeking to expand their catalog, with the hits of today forming the classics
of tomorrow." Both divisions pursued the goal of having the top-selling artists and
songwriters and the deepest, most-recognized catalog assets. EMI welcomed techno
logical innovations, which often drove increased music sales as consumers updated
their music collections with the latest music medium (e.g., replacing an LP or cassette
with the same recording on com pact disc). But the latest technology, digital audio on
the Internet, was different and revolutionary. Digital audio on the Internet demanded
rethinking the business model of all the majors, including EMJ.

Di gital Aud io and the Music Industry

Digital audio had been around since the advent of the com pact disc (CD) in the
early 1980s. But, it was the 1990s combination of digital audio, Internet, and MP3
fi le format that brought the music industry to a new crossroa ds. The MP3 format
had nearly the same sound quality as CDs; however, its small fil e size allowed it to be
easily downloaded from the Internet, stored on a computer hard drive, and transferred
to a digital audio player, generally referred to as an MP3 player.
Peer-to-peer file sharing Internet services, most notably Napster, were introduced
in the late 1990s. First available in mid-1 999, Napster facilitated the exchange of
music fi les. The use of Napster's fi le-sharing program exploded, and Napster claimed
20 million users by July 2000. Napster's swift growth did not go unnoticed by the
music industry. While the Recording Industry Association of America (RIAA) was

EM1 Gr oup PL C, "A nnua l Re port 200 7."

366

Part Five

Management of the Finn 's Equity: Dividends Repurchases. Initial Offferings

eventually successful in using the court system to force Napster to remove copyrighted
material, it did not stop peer-to-peer fil e sharing. New services were quickly devel
oped to replace Napster. The International Federation of the Phonograph ic Industry
(IFPI), an organization that represents the recording industry worldwide , estimated
that almost 20 billion songs were downloaded illegally in 2005.
EMI had an early presence on the Internet in 1993. In 1999, EMI artist David
Bowie's album, hou rs . . . , was the first album by a major recording artist to be
released for download from the Internet. None of the record labels were prepared,
however, for how quickly peer-to-peer file sharing would change the dynamics of the
music industry and become a seemingly permanent thorn in the music industry's side.
In the wake of Napster's demise, music labels, including EMI, attempted different
subscription services. But, most services failed for numerous reasons including cost,
CD-burning restrictions, and incompatibility with most of the available MP3 players.
It was not until spring 2003 when Apple launched its user-friendly Web site, iTunes
Music Store, that legitimate digital audio sales really took off in the United States,
the world 's largest market for music. iTunes began its global expansion in 2004 and
sold its one-billionth download in February 2006. By the beginning of 2007, there
were 500 legitimate online music services in over 40 countri es, according to the IFPI,
with $2 billion in digital music sales in 2006.
Despite the rise of legally downloaded music, the global music market continued
to shrink due to the rapid decline in physical sales. Nielsen SoundScan noted total
album units sold (excluding digital-track equivalents) declined almost 25% from 2000
to 2006.5 IFPI optimistically predicted that digital sales would compensate for the
decrease in physical sales in 2006. Yet, in early 2007, IFPI admitted that " holy grail"
had not yet occurred with 2006 overall music sales estimated to have declined by 3%.6
IFPI now hoped digital sales would overtake the decline in physical sales in 2007.
Credit Suisse's Global Music Industry Forecasts incorporated this view with a rela
tively fl at music market in 2007 and minor growth of l.I % to 1.5% in 2008 and 2009.7
The Credit Suisse analyst also noted that the music industry 's operating margins were
expected to rise as digital sales became more signifi cant and related production and
distribution costs de clined ." Lehman Brothers was more conservative and assumed a
fl at market for the next few years, commenting that the continued weakness into early
2007 implied the "market could remain tough for the next couple of years.?"
There was fear among many in the industry that consumers' abilities to "unbundle"
their music purchases-the ability to purchase two or three favorite songs from an
album online versus purchasing the entire album at a physical retail store-would put

5S rian Hiatt and Evan Serpick, "The Record Industry's Decline." Rolling.S tone.corn, 19 June 2007 (accessed
21 August 2008),
(, International Federation of Phonogra phic Industry ([FP\), "IFPI: 07 Digital Music Report," January 2007.
7William S . Drewry. Jolanra Masojada, Denn is Sabo. and Ashish Gupta. Cred it Suisse Equity Research,
"Warner Music Group." 9 February 2007.
"Drewry, et al., "Just the Two of Us,"

"Richard Jones and Tamsin Garrity. Lehman Brothers Equity Research, "E lvll Group." 15 February 2007,

Case 27

EMt Group pic

367

negative pressure on music sales for the foreseeable future. A Bear Stearns research
report noted:
While music consumption, in terms of listening time , is increasing as the iPod and other
portable devices have become mass-market products, the industr y has still not found a way
of monetizing this consumption. Instead. growing piracy and the unbundling of the album,
combined with the growing power of big retailer s in the physical and iTunes in the digital
worlds, have left the industry in a funk. There is no immediate soluti on that we are aware
of on the horizon and in our view, visibility on sale s remains POOL IO

Developments at EMI
The beginning of the new millennium had been incredibly difficult particularly within
EMI' s recorded-music division where revenues had declined 27% from GBP2 ,282 mil
lion in 2001 to GBPI,660 million in 2006. Exhibits 4 and 5 show EMI's financial
statements through FY2007. Fortunately, download able digital audio did not have a
similar ruinous effect on the publishing division. EMI's publishing sales were a small
buffer to the company's performance and hovered in a tight range of GBP420 million
to GBP391 million during that period. CEO Eric Nicoli's address at the July 2006
Annual General Meeting indicated good things were in store for EMl in both the short
term and the long term. Nicoli stressed EMI' s exciting upcoming release schedule s,
growth in digital sales, and success with restructuring plans.
EMI's digital sales were growing and represented an increasingly larger percentage
of total revenues. In 2004, EMI generated group digital revenues of GBP 15 million,
which represented just less than I% of total group revenues. By 2006, EMI had grown
the digital revenue to GBPl12 million, which represented 5.4% of total group revenues.
The expected 2007 digital sales for EMI were close to 10% of group revenues.
Given the positive expectation s for its 2007 fiscal year, financial analysts had
expected EMI's recorded-music division to see positive sales growth in the year. EMI' s
surprising negative earnings guidance on January 12 quickly changed its outlook . EMI
disclosed that the music industry and EMI 's second-half-of-the-year release s had
underperformed compared with expectations. While the publishing division was on
track to achieve its goals, EMI's recorded-music division revenues were now expected
to decline 6% to 10% from one year ago. The market and investor community reacted
swiftly to the news. With trading volume nearly 10 times the previous day 's volume,
EMI' s market capitalization ended up down more than 7%.
EMI further shocked the investment community with another profit warning ju st
one month later. On February 14, the company announced that the recorded-music
division's FY2007 revenues would actually decrea se by around 15% year-over-year.
EMI based its new dismal forecast on worsening market condition s in North America,
where SoundScan calculated the physical music market had declined 20% in 2007.
The investment community punished EMI more severely with this second surpri se

I('Nicholas Bell and Richard Gordon, CFA. Bear Stearns International Limited European Equity Research,
"EMI," 27 February 2007.

368

Part Five

Management of the Firm's Equity: Dividends Repurchases, Initial Offferings

profit warning, and EMI' s stock price dropped another 12%. British newspaper the
Daily Telegraph reported shareholders were increasingly disgruntled with performan ce
surprises. One shareholder allegedly said, "I think [Nicolij' s a dead duck. [EMI] is
now very vulnerable to a [takeover] bid and Nicoli is not in any position to defend
anything. I think the fin ance director [Martin Stewart] has also been tainted because
it suggests they did not get to the bottom of the number s." EMI analyst Red wan
Ahmed of Oriel Securitie s continued contending EMI management 's recent news, " it's
disastrous .. . they give themselves a big 6% to 10% range and a month later say it's
15%. They have lost all credibility. I also think the dividend is going to get slashed
to about 5p.'.t I Exhibit 6 contains information on EMI's shareholder profile.
As its fiscal year came to a close, EMI's internal reports indicated that its Feb
ruary J 4 guidance was close to the mark. The recorded-musi c division's revenue was
down, and profits were negative. The publishing-division revenue was essentially fl at,
and its division' s margin improved as a result of a smaller cost base. The company
expected underlying group earnings before interest, taxes, depreciat ion, and amorti
zation (EBITDA), before exceptional items, to be GBP 174 million, which exceeded
analyst estimates. Digital revenue had grown by 59% and would represent 10% of
revenue. EMI management planned to make a joint announcement with Apple in the
next few days that it was going to be the first major music company to offer its dig
ital catalog free from digital rights management and with improved sound quality. The
new format would sell at a 30% premium . EMI management expect ed this move
would drive increased digital sales.
Management was pleased with the progress of the restructuring program
announced with the January profit warning. The plan was being implemented more
quickly than expected and acco rdingly, more cost savings would be realized in
FY2008. The program was going to cost closer to GBP 125 million, as opposed to the
GBPI50 million previously announced. Upon completion, the program was expected
to remove GBP 110 million from EMI' s annual cost base; the majority of the savings
would come from the recorded-mu sic division. The plan reduced layers in the man
agement structure and encouraged the recorded-music and publishing divisions to
work more closely together for revenue and cost sy ne rgies .V One headline-worthy
change in the reorganization was the surprise removal of the recorded-mu sic division
head, Alain Levy, which put Nicoli in charge of that division.

The Dividend Decision

Since the board had already declared an interim dividend of 2p per share in November
2006, the question was whether to maintain the past payout level by recommendin g an
additional 6p final EMI dividend be paid. Considering EMI's struggling financial sit
uation, there was good reason to question the wisdom of paying a dividend. Exhibit 7

II

Alistair Osborne, "N icoli 'a dead duck' as EMI Issues New Warning," Daily Telegraph, 16 February 2007.

12Prior restructuring efforts over the past three years had collectively saved the company GB P180 million
annually: however, they had resulted in a one-ti me implementation cost of GBP 300 million.

Case 27

EMI Group pic

369

provides a forecast of the cash flow effects of maintainin g the dividend based on mar
ket-based forecasts of performance. Yet omitting the dividend was likely to send a
message of lost confidence by management. Such a move seemed to be the last thing
EMf needed to do because it could accelerate the ongoing stock price decline. ':'
Exhibit 9 depicts trend s in the EM1 share price from May 2000 to May 2006. Many
believed that music industry economics were on the verge of turning the corner. A
decisi on to maintain the historic al 8p dividend would emphasize management's expec
tation of business improvement, despite the disappointin g recent financial news. Fore
casts for global economic growth cont inued to be s trong (Exhibit 10), and reim
bursements to shareholders through dividends and repurchases were on the upswing
among media peers (Exhibit 11).
As Stewart navigat ed his way home, the radio played another hit from a well
known EM1 artist. Despite the current difficulti es, Stew art was convinced there was
still a lot going for EMf.

I'Historically, there was strong evidence of significant negative stock price reactions [0 divide nd cancell a
tions (see Balasingham Balachandran , John Cadle, and Michael Theobal d, "Interim Dividend Cuts and
Omissions in the U.K.: ' European Financial Management 2: 23- 38, for a study using only British firms;
and Roni Michaely, Richard Thaler, and Kent Womack, "Price Reactions to Dividend Initiations and
Omissions: Overreact ion of Drift')" Jou rnal oj Finance 50: 573-608 , for a larger study using U.S. firms).
Both academics and practitioners vigorously debated the impact of dividend policy. In fact. Nobel laureate
economists had argued that dividend policy should maintain little relevance to investors. Exhibit 8 conta ins
a summary of Modigliani and Miller arguments.

(,ol
-.I

<:>

EXHIBIT 1
Fiscal
Year

I Financial and Stock Data per Share (in pence)

Stock Price!

Basic

Underlying

Dividend

End

EPS

Diluted EPS

per Share

High

Low

Average

Basic EPS

2001
2002
2003
2004
2005
2006
2007

10.1
(25.5)
29 .3
(9.1)
9.6
10.9
(36 .3)

21.9
11.8
15.7
15.5
13.1
15.7
5.8

16.0
8 .0
8.0
8.0
8 .0
8.0
2.0p + TBD

691 .00
505.00
365.00
278 .25
281 .25
266.00
313 .75

427 .00
214 .00
80.00
91.25
191 .00
207 .00
210 .75

566.0
367.1
194.7
166.2
236 .1
244.2
263 .5

158 %

Avg.
Dividend

Wgtd. Avg.
Shares
Outstanding

Underlying
Oil. EPS

Yield

(millions)

73 %
68%
51%
52 %
61%
51%
TBD

2.8%
2.2%
4.1%
4.8%
3.4%
3.3%
TBD

NA
782 .8
784.0
784.4
785.6
786.8
794 .8

Payout Ratio Using

nmf

27 %
nmf

83%
73 %
TBD

, Stock price data is for the fiscal year period. For example, 2007 data is from April 1, 2006, to March 31, 2007. Stock price data was available for 2001 only from May 15. 2000 ,

to March 3 1, 2001.

Source s of data: Company Web site and Yahoo ' Finance .

Case 27

EXHIBIT 2

EMI Group pic

371

Top-10 Physical Album Sales (2003-06)

Artist

Album Title

Company

High School Musical

Stadium Arcad ium
Love
Back to Bedlam
FutureSexlLoveSounds
B'Day
U2 18 Singles
Me and My Gang
Amore
Amore

Walt Disney/Universal/EMI
Warner
EMI
Warner
SonyBMG
SonyBMG
Universal
Lyric StreeVHollywood/Universal/EMI
Universal
Universal

X&Y

The Emancipation Of Mimi

The Massacre
Monkey Business
American Idiot
Confessions on a Dancefloor
Breakaway
Curtain Call
Back to Bedlam
Intensive Care

EMI
Universal
Universal
Universal
Warner
Warner
SonyBMG
Universal
Warner
EMI

Confessions
Feels Like Home
Encore
How To Dismantle An Atomic Bomb
Under My Skin
Greatest Hits
Greatest Hits
Destiny Fulfilled
Greatest Hits
Songs About Jane

SonyBMG
EMI
Universal
Universal
SonyBMG
EMf
Universal
SonyBMG
Universal
SonyBMG

Come Away With Me

Get Rich Or Die Tryin'
Meteora
Life For Rent
Dangerously in Love
A Rush of Blood to the Head
Fallen
In The Zone
Let Go
One Heart

EMI
Universal
Warner
BMG
Sony
EMf
Sony
BMG
BMG
Sony

2006
1 Soundtrack
2 Red Hoi Chili Pepper s
3 The Beatles
4 James Blunt
5 Justin Timberlake
6 Beyonce
7 U2
8 Rascal Flails
9 II Divo
10 Andrea Bocelli

2005
1 Cold play
2 Mariah Carey
350 Cent
4 Black Eyed Peas
5 Green Day
6 Madonna
7 Kelly Clarkson
8 Eminem
9 James Blunt
10 Robbie Williams

2004
1 Usher
2 Norah Jones
3 Eminem
4 U2
5 Avril Lavigne
6 Robbie William s
7 Shania Twain
8 Destiny's Child
9 Guns N' Roses
10 Maroon 5

2003
1 Norah Jones
250 Cent
3 Linkin Park
4 Dido
5 Beyonce Knowles
6 Coldplay
7 Evanescence
8 Britney Spears
9 Avril Lavigne
10 Celine Dion

Source of data: International Federation of Phonographic Industry (IFPI) Web site.

372

Part Five

EXHIBIT 3

Management of the Firm's Equity: Dividends Repurchases, Initial Offferings

EMI Top Recording and Publishing Successes in FY2007

Album Title

Artist

Love
Not Too Late
Corinne Bailey Rae
Rudebox
Love, Pain & The Whole Crazy Thing
Alright, Still
Inside In/Inside Out
Celestial
Introducing Joss Stone
Ultra Blue
The Best of Depeche Mode Volume 1

The Beatles
Norah Jones
Corinn e Bailey Rae
Robbie Williams
Keith Urban
Lily Allen
The Kook s
RBD
Joss Stone
Utada Hikaru
Depe che Mode
Janet Jackson
30 Seconds to Mars
Herbert Gronemeyer
Sarah Brightm an
Gerard Rene-Gordon
Bo b Segar
Iron Maiden
Diam's
Renaud

20

yo.

A Beautiful Lie
12
Diva : The Single s Colle ction
Toppers Kerst Album
Face The Promis e
A Matte r of Life and Death
DansMa Bulle
Rouge Sang

Unit Sates"
(millions)

5.0
4.2
2.7

2.5
2.0
1.7
1.6
1.3
1.3
1.3
1.2
1.2
1.2
1.1
1.0
1.0
1.0
0.9
0.8
0.8

EMI Music Publishing's Most-Successful Songwriters of FY2007

Songwriter

Song

Amy Wine hous e

Beyonce
Brad Paisley
Death Cab for Cut ie
Enrique Iglesias
Good Charlotte
Hinder
James Blunt
Jay-Z
Kanye West
Kelly Clarkson
Ludacr is
Natasha Bedi ngfield
Norah Jones
Ozzy Osbourne
Panic! At The Disco
Pink
Rob Th oma s
Take That
The Fray

Rehab
Irreplaceable
The World
Soul Meets Body
Do You Know (Ping Pong Song)
Lifestyles of the Rich and Famous
Lips of an Angel
Goodbye My Lover
Show Me What You Got
Wouldn 't Get Far
Never Again
Money Maker
These Words
Thinking About You
I Don 't Wanna Stop
I Write Sins Not Tragedie s
U + UrHand
Lonely No More
Patience
How To Save A Life

' A ll sales figures are for the 12 months ended March 31, 2007 . Unit sales include digita l albums and digital track album equivalent.
Source of data: Company annu al report.

Case 27

EXHIBIT 4

EMl Group pic

373

Consolidated Income Statements (in millions of GBP, except per-share data)

For Years Ended March 31,

Unde rlying Revenu e

Group p rofit fro m op eratio ns
before exceptional item s and amortization
Exc eptional items
Amortiza tion and impairment
Share of profit from associates & jv

2007

2003

2004

2005

2006

2,175

2 ,121

2 ,001

2,080

1,75 2

255
(21 )
(43)
1

249
(138)
(51 )
(0)

22 5
(18)
(48)
1

251
3
(50)
1

151
(307)
(53)
2

161

204

(207)

Profit (loss) from operations

Exceptional items:
(Losses) on disposal or closu re of bus iness
Gains on d isposal of PP&E and investments

191

60

(25)
235

(40)
24

50

Prof it (loss) before finance charges

Finance charg es

401
(77)

43
(96)

161
(62)

206
(88)

(157)
(107)

Profit (loss) before taxation

Taxation

324
(83)

(53)
(20)

99
(24)

118
(28)

(264)
(23)

Profit (loss) afte r ta xat ion

241

(73)

75

90

(287)

Underlying EBITDA 1
Underlying PBT 2

297
179

284
163

250
141

276
159

174
63

29 .3p

(9 .1)p

9.6p

10.9p

(36 .3)p

15.7p

15.5p

13 .1p

15.7p

8 .0p

8.0p

8 .0p

8.0p

860
3 .9 X
2 .0 X

749
3 .3 x
1.9 x

858
2.9 X
1.6 X

880
3.0 x
2.0 x

Earning s per ordinary sh are :

Ba sic
Underlying diluted
Dividend per ordinary share
Net borrowinqs"
Interest cover 4
Dividend covers. 6

5.8p
2 .0p

+ TBD
904
1.9 x
TBD

' Underlying EBITDA is group profit from operations before depreciation. operating exceptional items and amortization.

2Underlying profit before taxes (PST) is before exceptional items and amortization.

3Net borrowings is the sum of long-term and short-term borrowings including finance leases less cash, cash equivalents, and liquid

funds investments.

"Interest cover is underlying ESITDA (before exceptional items) divided by finance charges (excluding non-standard charges).

5Dividend cover is underlying diluted earnings per ordinary share divided by dividend declared per ordinary share.

GEM I noted the company targeted an ongoing dividend cover of 2.0x in its 2004 Annual Report.

Sources of data: Company annual reports and Web site.

EXHIBIT 5

Consolidated Balance Sheets (in millions of pounds)

For the Years Ended March 31,

2005
Assets
Noncurrent assets
Music cop yrights and inta ngib les
Good will
Propert y, plant, and equipment
Investments in associates
Finan cial asse ts
Defer red taxation
Othe r receivabl es

2006

2007

405
35
200
9
57
30
7

389
43
197
9
56
23
4

306
29
132
8
20
12
4

74 1

72 1

5 11

28
336
30 0
21
110
2
24 1

37
330
409
17
110
0
2
191

30
218
29 0
16
101
0
2
332

1,038

1,096

988

1,779

1,81 7

1,499

1,162
10
8
100

1,150
10
5
31

1,3 17
7
4
42

1,280

1,195

1,369

31
1,060
160
44

23
1,14 9
14 3
34

12
1,045
112
111

1,295

1,348

1,280

2,575

2,54 4

2,650

111
447
496
4
204
(2, 107)

111
448
496
(17)
206
(2,019)

112
455
496
20
2 15
(2,45 1)

Equity attributable to equity holders of the parent

Minority interests (equi ty)

(846)
49

(775)
49

(1,154)

Total equ ity

(796)

(727)

(1,151)

Cu rrent assets
Inventories
Advan ces
Trad e receivables
Co rporatio n tax recoverable
Othe r receivables
Finan cial asse ts
Investments: liquid funds
Cas h and cash equ ivale nts

Total assets
Liabil ities
Noncurrent liabilities
Finan cial liabilities
Oth e r pay abies
Deferred taxati on
Pension pro vision s

Current liabiliti es
Finan cial liabilit ies
Othe r payabies
Current tax liability
Other provisions lor liabi lities and cha rges

Total liabilities
Eq u ity
Cap ital and reserves
Shar e capital
Shar e premiu m acco unt
Capi tal red emption reserve
Foreig n exchange reserve
Other reserves
Retained earn ings

Sources of data : Company annu al reports and Web site.

374

Case 27

EXHIBIT 6

Large

375

Analysis of Ordinary Sharehold ings on May 18, 2006

Categories of Shareholders
Small

EM! Group pic

1 to 500 shares
501 to 1,000 shares
1,001 to 10,000 shares
10,001 to 100,000 shares
100,001 to 1,000,000 shares
1,000 ,001 shares and over

Total

Number

Percentage

Total Shares Held

by this Category

9,720
4,243
4 ,648
434
291
123

50.0
21.8
23 .9
2.2
1.5
0.6

1,923 ,604
3,100,499
10,864,585
15,502,961
101,194 ,240
660,339 ,675

19,459

shareholders

792,925,564

Substantial Shareholders 1
FMR Corp./Fidelily International Ltd .
Wellington Management Company, LLP
Deutsche Bank AG
HBOS pic/Insight Investment Management Ltd.
The Capital Group Companies, Inc.
Prudent ial pic group of companies
Legal & General Investment Management Ltd.

Percentage
0.2
0.4
1.4
2.0
12.8
83.3
shares

No. of Shares

Percentage
of Capital
Held

114,065 ,999
74,460 ,205
49,278,472
40,609,739
40,512,803
37,310,271
27,687 ,735

14.39
9.39
6.21
5.12
5.11
4.71
3.49

'Substantial shareholders are defined as owning 3% or more of ordinary shares and/or 3% or more of the voting rights of ordinary shares .
Source of data: Comp any annual reports.

376

Part Fi ve Man agement of the Firm 's Equit y: Dividends Repurchases, Initi al OHlerin gs

EXHIBIT 7

EMI Projected Sources-and-Uses Statement Assuming Annual 8.0p Dividend Is

Maintained (end of year March 31)
2006

2007

2008 Est.

2009 Est.

Assumptions
Revenue growth
New equity issued
Sh are repurchases
Dividends

1.7%

0.7%

0.0
63.2

0.0
63.2

1,781 .3

1,793.7
26.3

06
05
62.9

8.9
5.5
63.2

Revenue
Net income

2,079.9
90.0

1,751.5
(287.0)

Noncurrent as sets
Current assets
Total a ss ets

721

511

476

479

---...L.illlli

1,817

1,499

1,488

1,514

1,150
46
1,348
(726)

1,317
52
1,280
(1,151)

1,442
52
1,289
(1,295)

1,494
52
1,299
(1,332)

90.0
0.6
42.5
(12.0)
(72.6)

(287.0)
8.9
(77.6)
167.3
6.7

(80A)

~
101A

.rse,u

(249.8)

53 .1

26.3
0.0
0.0
52.2
0.0
_ 10.0
88.5

(19.9)
57 .9
0.5

(210 .9)
(107.6)
5.5

(34.1)
24.0
0,0

2.8
22.5
0.0

~
101A

~3. 2

(249 .8)

53.1

88.5

Financial Statements

Debt oblig ation s

Other noncurrent liabil ities
Current liabilities
Total equity

(80A)

Sources and Uses Statement

Sources
Net income
New equ ity issued
Other adju stments to equity
Increase in debt obligations
Increase in oth . NC liabil ities
Increase in current liab ilities
Total sources
U ses
Increase in noncurrent a ssets
Increa se in current asset s
Share repurchases
Div idends
Total us es

0.0
0.0
124.6
0.0

Noles:

'The dividend use in 2007 reflects the 8.0p dividend declared in IotaI for the fiscal year 2006, which was actually paid in the fiscal year

2007. The impact of the board's decision would be in the 2008 fiscal year.

22008 and 2009 forecasts are from ABN AMRO Equity Research and case writer's estimates. Lehman Brothers forecasted net profit of

GBP(110) million and GBP81 million for 2008 and 2009, respectively,

Sources of data: Company annual reports and Web site; Bridie Barrett, Justin Diddams, and Paul Gooden, ABN AMRO Bank NV,

"EMI, A Special Situation," 16 February 2007; Richard Jones and Tamsin Garrity, Lehman Brothers Equity Research, "EMI Group,"

15 February 2007.

Case 27

EXHIBIT 8

EM! Group pic

377

Excerpts from Fischer Black's "The Dividend Puzzle"l

Why do corporations pay dividends? Why do investors pay attention to dividends?

Perhaps the answers to these questions are obvious . Perhaps dividends represent the return to the investor who

puts his money at risk in the corporation . Perhaps corporations pay dividends to reward existing shareholders,

and 10 encourage others 10 buy new issues of common stock at high prices . Perhaps investors pay attention to

dividends because only through dividends or the prospect of dividends do they receive a return on their invest

ment or the chance to sell their shares at a higher price in the future.

Or perhaps the answers are not so obvious . Perhaps a corporation that pays no dividends is demonstrating confi

dence that it has attractive investment opportunities that might be missed if it paid dividends . If it makes these in

vestments, it may increase the value of the shares by more than the amount of the lost dividends . If that happens,

its shareholders may be doubly better off. They end up with capital appreciation greater than the dividends they

missed out on, and they find they are taxed at lower effective rates on capital appreciation than on dividends .

In fact, I claim that the answers to these questions are not obvious at all. The harder we look at the dividend pic

ture, the more it seems like a puzzle , with pieces that just don't fit together. Suppose you are offered the following

choice. You may have $2 today, and a 50-50 chance of $54 or $50 tomorrow. Or you may have nothing today, and

a 50-50 chance of $56 or $52 tomorrow. Would you prefer one of these gambles to the other? Probably you

would not. Ignoring such factors as the cost of holding the $2 and one day's interest on $2, you would be indiffer

ent between these two gambles.

The choice between a common stock that pays a dividend and a stock that pays no dividend is similar, at least

if we ignore such things as transaction costs and taxes . The price of the dividend-paying stock drops on the

ex-dividend date by about the amount of the dividend . The dividend just drops the whole range of possible stock

prices by that amount. The investor who gets a $2 dividend finds himself with shares worth about $2 less than

they would have been worth if the dividend hadn't been paid , in all possible circumstances.

This, in essence, is the Miller-Modigliani theorem . It says that the dividends a corporation pays do not affect the

value of its shares or the returns to investors , because the higher the dividend , the less the investor receives in

capital appreciation, no matter how the corporation's business decision turns out. When we say this, we are assuming

that the dividend paid does not influence the corporation's business decisions. Paying the dividend either reduces

the amount of cash equivalents held by the corporation, or increases the amount of money raised by issuing

securities.

If this theorem is correct, then a firm that pays a regular dividend equal to about half of its normal earnings will be

worth the same as an otherwise similar firm that pays no dividends and will never pay any dividends . Can that be

true? How can a firm that will never pay dividends be worth anything at all? Actually, there are many ways for the

stockholders of a firm to take cash out without receiving dividends. The most obvious is that the firm can buy back

some of its shares. Under the assumption of the Modigliani-Miller theorem, a firm has value even if it pays no divi

dends. Indeed, it has the same value it would have if it paid dividends.

1 Fischer

Black, "The Dividend PUZZle," Journal of Ponfol io Mana gement (winter 1976).

378

Part Five Management of the Firm's Equity: Dividends Repurchases. Initial Offferings

EMI Share Price Performance

EXHIBIT 9
700 r-----

- --

-------,

600

- - - - - - - - - - - -- - - -- - - --- - Q,I

400

c:

Q,I

a.

100 -

- --

---

0 '---- ---"-------'-- - --'---- --"- - ----' - - - '-- -----'

c;:~

~'O.:;,

Case 27

EXHIBIT 10

EMI Group pic

379

Global Economic Indicators and Projections

Annual Growth Rate, Percentage
Real GOP

World
United States
Japan
EU 27
United Kingdom

Inflation

2005

2006

2007E

2008E

2005

2006

2007E

2008E

4.9
3.2
3.2
2.1
1.9

5.5
3.3
3.5
3.5
2.7

5.0
2.6
2.0
3.0
2.7

5.1
3.3
2.5
2.7
2.1

3.5
3.4
(0.1)
2.5
2.1

3.9
3.2
0.1
2.6
2.3

3.5
1.9
0.2
2.1
1.9

3.3
2.3
0.5
2.4
2.0

Interest Rate Forecasts, Percentage

3-Month Rates

United States
Japan
Euro Zone
United Kingdom

10 Year Bond Yields

2005
avg.

2006
avg.

2007E
avg.

2008E.
avg.

2005
avg .

2006
avg.

2007E
avg.

2008E
avg.

3.51
0.05
2.18
4.80

5.20
0.30
3.08
4.85

5.23
0.74
4.02
5.44

5.38
1.03
4.37
4.91

4.24
1.39
3.38
4.40

4.79
1.76
3.78
4.50

4.49
1.62
3.86
4.58

5.24
1.98
4.53
5.18

Real Economy Forecasts

Consumption Expenditure
2005

Wage Growth

2006

2007E

2008E

2005

2006

2007E

2008E

Un ited States

3.5

3.2

3.3

3.1

2.8

3.9

3.8

4.0

Japan

3.5

3.2

2.0

3.0

0.2

0.8

0.7

1.2

Euro Zone

1.5

1.8

1.8

2.2

na

na

na

na

United Kingdom

1.4

2.1

2.5

2.0

4.1

4.1

4.4

4.0

Source of data: Societe Generate Economic Research. "Global Economic Outlook," 14 March 2007.

'-'

ce
c

EXHIBIT 11

Comparative Global Media Data

2006 Fiscal Year
Data
Currency

Fisc al
Year
End

EMI Group pic

Pou nd

31-Mar

2,080

9.8%

4.3%

nmf

0.72

22.4

Bertelsmann'
Clea r Channel
Disney
IAC/interA ctiveCorp .
News Corp.
Sony Co rporation
Tim e Warner
Viacom
Vivendi
Warne r Music
XM Satellite Radio

Euro
Dollar
Dollar
Dollar
Dollar
Yen
Dollar
Dollar
Eur o
Dollar
Dollar

31Dec
31- Dec
29Sep
3 1-Dec
30-Jun
3 1-Mar
31-Dec
3 1-Dec
31-D ec
30Sep
3 1-Dec

19,297
7.067
34,285
6.278
25 ,327
7,475,436
44, 224
11,467
20,0 44
3,5 16
933

9.7%
31 .8%
20.2%
15.7%
18.3%
2.5%
27.3%
28 .1%
2 1.8%
14.4%
nm!

12.6%
9.8%
9.8%
3. 1%
10.6%
1.7%
11.6%
12.9%
13.0%
1.3%
nm!

0.97
0.9 1
034
0. 10
0.38
0.24
0.58
1.06
0.22
38.60
nmf

na
0.42
0.16
0.08
0.17
na
0.42
0.27
na
0.65
0.29

na
22.2
17.1
48.9
23.3
nm!
14.9
18.5
12.2
72.2
nmf

Revenues
(millions)

Data

EMI Group pic

Bertelsmann '
Clear Channe l
Disney
IACl lnterActive Corp .
News Corp.
Sony Corporation
Time Warner

vi acorn"
Vivendi
Warner Music"
XM Sate llite Radio

Share Repu rchases (millions)"

Currency

FY2004

FY2005

Pound
Euro
Dolla r
Dollar
Dollar
Dolla r
Yen
Do llar
Dollar
Euro
Dollar
Dollar

0
0
1,841
335
430
0
8,523
0
na
27
na
0

0
0
1,070
2,420
1,848
535
4 16
2, 141
na
108
0
0

FY2006
1
0
1,37 1
6,898
98 3
2,027
394
13,660
2,3 18
0
0
0

Operating
Mar gin

Net Profit
Marg in

Div idends Paid (m illions)"

LT DebU
Book Eq .

LT Debtl
Mkt. Eq.

Average Div idend Yield 5

Payout Ratio'

FY2004

FY2005

FY2006

FY2004

FY2005

FY2006

FY2004

FY2005

FY2006

63
324
256
430
0
202
23,106
0
na
0
na
0

63
287
343
490
0
240
22,978
466
na
689
0
0

61
120
383
5 19
0
431
24,810
876
0
1,152
74
0

4.8%
na
1.2%
0.9%
0.0%
0.2%
0.6%
0.0%
na
2.8%
na
0.0%

3.4%
na
2.1%
0.9%
0.0%
0.2%
0.6%
0.6%
na
4.0%
0.0%
0.0%

3.3%
na
2.4%
1.0%
0.0%
0.8%
0.5%
1.2%
0.0%
4.3%
2.9%
0.0%

nm!
27%
31%
19%
0%
13%
14%
0%
na
46%
na
0%

83%
28%
54%
18%
0%
11%
20%
16%
na
52%
0%
0%

73%
5%
55%
16%
0%
16%
20%
17%
0%
53%
168%
0%

' Bertelsmann is a private Ge rman compa ny .

2Viacom split into two compan ies, Viacom and CBS Corp oration on 12/31/200 5 .
3Wa rner Music completed its initial pub lic offer ing (IPO) in May 20 05.
" Dividends paid and share rep urcha ses data is sourced from the individual compa ny' s cash flow statemen t.
5Average divide nd yield calculated as dividends decla red pe r sha re for a year divided by the average annual price of the stock in the same year.
Gp ayout ratio calculated as the sum of all cas h dividends declared, but not necessa rily yet pa id, for a company's fisc al yea r, divided by net profit for that yea r.
Sou rces of data: Value Lin e Invest ment Survey and compa ny Web sites .

Avg . PIE
Rat io ( x)