Questioning Warner Music's Digital Download Growth (WMG)

| About: Warner Music (WMG)

Warner Music Group (WMG) reported Q4 2005 results (we try to use calendar quarters - they report this as fiscal Q1 2006) a couple of days ago, highlighting how great their digital music ventures have been. Here are the facts without the spin: $1044M total revenue, digital revenue of $69M, less than 7% of total revenue. That's growth of 30% Q/Q and 176% Y/Y for digital downloading revenue, but it's easy to grow from nothing.

Their total operating revenue was flat Y/Y. Operating earnings in the recorded music business grew from $194M to $206M, due to an operating margin increase. They had a margin of 20.6% that expanded by 1.8% to 22.4%. A 1.8% expansion on $920M recorded music revenue is $16.5M, but their operating income only increased $12M ($206M-194M), so those numbers don't jibe.

We'll use their $12M figure, and back out the digital music margin, assuming that the non-digital music margin stayed constant. Since they indicated that both margins expanded, that will give an upper limit to the digital music margin. The result is 46% [$206M=20.6%x($920M-$64M)+X%x$64M, and solve for X]. That is a pretty fat margin. In fact, it is too fat, as it is significantly higher than previous estimates, but we'll go ahead and use it as an upper limit. The upper bound margin and their digital Q/Q growth gives an upper bound of 14% (46%x30%) contribution to growth from digital downloads.

Growth was $12M, so digital downloads contributed a maximum of $1.7M to their Q/Q growth. That's on over a billion dollars of quarterly revenue, which makes it a big fat nothing.

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