While royalties share many similarities with other popular alternative assets—such as non-correlation to the economy and the ability to diversify risk—music royalties are a brand new asset class for most.
This makes evaluating risk and determining a valuation challenging. After all, investors with no experience in the music industry can’t tell by listening to a song or catalog whether it will prove a good investment or not.
Fortunately, you don’t have to know anything about music to make smart music royalty decisions. In fact, you don’t have to listen to the music at all. We’ve identified and highlighted the important measurable similarities between catalogs that will allow you to make an informed investing decision.
These are quantitative metrics that all catalogs share and that can be compared meaningfully from asset to asset. These include:
LTM—Last 12 Months’ Earnings
Last 12 Months’ Earnings, or LTM, is the first metric to consider. Sales on Royalty Exchange are measured by the multiple over the LTM investors will pay to acquire the royalty available. So if an asset earned $10,000 last year and you pay $50,000 for it, you would have paid a 5x multiple.
When you determine how much you want to spend on an asset, we feel it’s helpful to determine at what multiple you’re comfortable spending rather than just the dollar amount. Higher quality assets often justify paying higher multiples.
Dollar Age
Dollar Age is a time-weighted measurement of a catalog’s likely stability of earnings based on the revenue produced in the last year, factored against the age of the songs included.
For instance, suppose you were evaluating two different catalogs that had an LTM of $50,000. One catalog consists of songs that have earned royalties for over 10 years. The other consists of songs that have earned for only 3 years. Even though both earned the same amount last year, the catalog with songs earning for more than 10 years would have the higher Dollar Age and thus would be considered a less risky investment.
So if the LTM earnings are an indicator of the quantity of earnings, Dollar Age is the indicator of the quality of those earnings.
Here’s how Dollar Age is factored…
- ∑ = Sum of
- n = Each track
- Age of Track = Today’s date – date of track release (expressed in years)*
- LTM = Last twelve months earnings
- TLTM = Sum of LTM for all tracks
Here’s an example to illustrate the formula more clearly.
(*Age of track means the number of years a track has collected royalties, not necessarily when it was first released. If the date of first payment is unavailable, we use the original release data to approximate the age of earnings.)
As you can see, this catalog has four songs, each of which earned a different amount in the last 12 months (LTM), and each has earned for a different period of time.
To calculate the Dollar Age for the entire catalog, simply multiply the LTM of each song by the number of years that song has earned, to generate the weighted total. As you can see, this makes a song that earned $1,000 last year which has earned for six years equal in weighted total value to a song that earned $2,000 last year but has only earned for three years. The combined weighted total ($24,000), is then divided by the total LTM earnings of the entire catalog ($5,700), and the result is the Dollar Age: 4.21.
(Read More: What Is Dollar Age?)
Source of Earnings
When evaluating a catalog, it’s important to look not only at the total royalties it generates (the LTM), but also the source of those earnings. Sync royalties, for instance, can provide healthy spikes in revenue, but they are one-time earnings that can’t be projected or expected over time.
Sales and streaming, however, is much more consistent. So when evaluating a catalog, you’ll want to pay close attention to the sources of the LTM earnings. Catalogs that earn primarily from digital streaming are likely more stable than those earning primarily from sync royalties.
For instance, public performance royalties are generated from multiple uses (streaming, radio, live concerts, restaurants, etc.). We’ve found that the three most reliable sources of public performance royalties are—streaming, TV/film, and radio. The other sources had a very small impact on the overall royalty income of the catalogs analyzed and tended to decline rapidly over time.
(Read More: How Royalty Earnings Change Over Time)
Trend Rate
As part of your assessment, it is important to understand how much income a royalty stream is producing. What was the total income produced in the last year? In the past three years?
We provide data and charts for both in each listing. Looking at the average yearly income is a good starting point for assessing the potential of a royalty. Seeing a longer trail of historical data is terrific.
However, typically the most recent history is likely a better indicator of near-future results than older data.
Royalties on average tend to decline over time. The rate of that decline is worth following. Is that rate decreasing or increasing? We consider a three-year average trend rate of -5% or better to be indicative of a quality catalog.
Avoid “Social Proof”
The competitive nature of open markets facilitates price discovery, and that’s a good thing. But it also can create a scenario where the role of social proof overrides sound analysis. It’s common to feel better about a decision when others are making the same decision and to doubt a decision if we’re the only one making it.
We’ve seen social proof drive irrational “bidding wars.” We’ve also seen the opposite, where a lack of bidding activity paralyzes investors and keeps them from acquiring worthy assets at great values.
So it’s important to look beyond the social signals of markets when making investment decisions.
READ MORE
Case Study: How To Value (And Not Undervalue) Royalties.
Separating the Signal From the Noise In Royalty Investing Decisions.
