What do Bob Dylan, Bru Springsteen, Red Hot Chilli Peppers, ZZ Top, Neil Young, John Legend and Justin Timberlake have in common?
They are a growing list of prolific artists who sell some or all of their music catalogs to investors or record labels for big money.
This chorus of exits has piqued the interest of retail and institutional investors who are exploring ways to generate revenue and profit from non-traditional investments (such as alternatives). As a music lover and investor, this action certainly interested me.
Here’s how to get started investing in the music industry with music royalties.
What are music royalties?
Music royalties come from copyright (intellectual property) created from written or recorded music. There are two types of song copyrights:
- Copyright on sound recordings (masters): copyright on the original recording of the song.
- Copyrights for compositions (publication): copyright associated with the lyrics or melody of the song.
Thus, “royalty” is a payment arising from copyright. These payments are made to those who own the rights to use the intellectual property.
There are many types of rights associated with the two types of copyright that determine where royalties ultimately end up. It’s an intellectual property web that gets more complicated:
Source: royalty exchange.
As you can see, every time a copyrighted song is used, many people can get paid. Because each artist has structured their respective copyrights differently, the way royalties are distributed, who gets what and how much is always different.
Where did the investment in music come from?
Investing in music royalties first gained notoriety in 1997 when David Bowie used the income stream from his royalties to raise $55 million at a 7.9% annual return. Called “Bowie bonds”, they attracted investors with passive income from his music.
Source: Tenor.com
Over time, more people began to see the possibility of copyrighting music due to the sheer number of people who own the income-generating rights to music copyrights and their ability to be bought and sold.
Today, major investment firms such as BlackRock, Blackstone, and KKR have formed partnerships to invest in music royalties, while major music stars such as Bob Dylan, Neil Young, Fleetwood Mac, and others have begun selling their catalogs for purposes estate planning.
Approximately $5 billion was spent on acquiring music rights in 2021 alone, and Spotify said it paid the rights holders $7 billion in royalties.
Why should I invest in music royalties?
Historically, music royalties have attracted investors because of their predictable cash flow and lack of correlation with traditional capital markets. The thought was that great music will sound regardless of whether the economy is good or bad, and therefore if an investor receives royalties from great songs, he will make money no matter what.
With the advent of things like Spotify, Tik Tok, Peloton and video games, more music is being played now (and in different ways) than ever before. Because interest rates have been so low for the past decade (well, until now), music royalties have gained a reputation for giving investors access to cash flow rather than bonds, stocks, real estate, etc.
Read more: 3 Cool Passive Investment Ideas
Although available, verified and complete earnings data for this asset class are difficult to come by and vary considerably. Some publicly available sources suggest that investors can typically earn between ~4% and ~15% per year. (But keep in mind that past performance does not guarantee future returns.)
How can I invest in music royalties?
Given the web of complexity surrounding music rights, there are several ways to start investing in space that come with different risk and return profiles.
Public companies / public investment firms
Investing in government organizations is one of the most affordable ways to access music royalties. Options to explore include:
However, not all of them are traded on US stock exchanges.
Private equity firms such as KKR and Blackstone may also be considered for some income from music royalties, but this is a very small part of their overall business.
Royalty Platforms
As the space has grown in popularity, several technology platforms have emerged that allow the sale and trade of individual song royalties or fractions of song royalties.
Some options to explore if you want to explore individual royalty investments include:
Private licensed investment funds
Although not much, there are some music royalty private equity funds that are being offered by boutique wealth and asset management firms.
However, these investment opportunities are usually offered to accredited investors with substantial initial financial assets. Crescendo Music Royalty Fund ICM Asset Management is an example of such investment products.
They also tend to be much more expensive than your traditional investment fund product, such as an ETF.
Read more: How to Build Your Own ETF or Mutual Fund Portfolio
Risks to consider
Despite the promise to invest in music royalties, there are many risks to consider.
Complexity and opacity
Music royalties are, by their very nature, a complex form of intellectual property with many moving parts. To confidently invest in space, you need to understand the different types of royalties, their tenure, their cash flow structure, and any repurchase rights that may be built into individual royalty deals. No wonder so many lawyers get involved when it comes to intellectual property.
In addition to being difficult, it is also difficult to achieve complete transparency about what is actually happening in the market, the valuation of transactions, and the true long-term income potential of individual royalties.
For example, some industry experts suggest that perhaps some of the most recent high-profile acquisitions of famous artists’ catalogs are more showcase rather than really good investments.
Also, because royalty streams depend on the popularity of the artist, large short-term spikes in listener activity due to things like one-time events or Tik Tok trends can lead to significant fluctuations in earnings that may not continue into the future.
Because royalty streams are typically bought to hold over a period of time, you need to be astute as to whether the income stream you are buying will perform the same as it did in the past or fall off.
For all these reasons and more, you should be well aware of how these investments work before you dive into them.
Pricing and valuation
Because music royalties are so popular these days, they can be expensive. As with any asset, the sexier, trendier, or more hyped something is, the more likely it is to become prohibitively expensive.
Since investing in alternative investments in general versus the stock market has also become a popular topic, it is important to know how these factors can affect the value of investing in music royalties.
Music royalty investment is typically valued based on a multiple of their last 12 months (LTM) income, and as of 2021, top artists were making over 25 times their annual income (4% return) from their song catalogs, while how other firms paid out ~15x LTM (~7% yield).
Interest risk
Since one of the main benefits of investing in music royalty is its ability to provide a steady cash flow, it is natural to compare this investment to bonds or REITs (to generate rental income). In fact, KKR recently issued an asset-backed security that was backed by music royalty income streams!
However, when it comes to investments that generate income or “yield”, the value of these investments depends in part on where the interest rates are and how much additional income or “spread” can be obtained for the amount of risk taken.
As interest rates rise and investors are able to generate more returns from safer assets, this could affect the spread received from music royalties and the demand for music royalties could fall.
Bottom line: is it worth investing in music royalties?
Looking ahead, music royalties represent an interesting and unique investment proposition for all types of investors. Given their unique qualities, they are certainly not for everyone, but if you are looking for an alternative way to generate income by investing in something you enjoy, they are well worth considering.
However, before you start singing your way to the bank, make sure you understand all the risks involved. Music royalty is a cool and growing area, but successful investing takes a lot of time and attention.
Featured Image: hurricanehank/Shutterstock.com