RSVR - Reservoir Media: Not Hearing The Music

Summary

• Shares of tightly held and independent music concern Reservoir Media, Inc. are down over 30% since going public in July 2021.
• Most of the move came during five trading sessions in May 2022, when the S&P fell 9%, belying its recession-proof business model.
• With steady cash flows but significant debt, the recent insider buying merited a deeper dive.
• A full investment analysis follows below.

Without music, life would be a mistake . ? Friedrich Nietzsche

Today's spotlight in on a company in a niche of the market we have never explored before. The company came public during the SPAC wave of 2021 and its shares are now well established in ' Busted IPO ' territory. The company has steady cash flows as well as a levered balance and the shares have picked up some insider buying as of late. A full analysis below.

Company Overview:

Reservoir Media, Inc. (RSVR) is a New York City based independent music company comprised primarily of a publishing division and a record label business. The company represents over 140,000 copyrights to musical compositions, 36,000 sound recording copyrights, and hundreds of #1 releases over a diversified roster of artists, genres, and musical eras. It is also the first female founded and run publicly traded music company in the U.S. Reservoir was formed in 2007 and went public when it reverse merged into special purpose acquisition company (SPAC) Roth CH Acquisition II Co. in July 2021, with its first trade transacted at $9.49 a share. Its stock trades just over $6.50 a share currently, translating to a market cap of approximately $425 million.

The company operates on a fiscal year (FY) ending March 31st. The year ended March 31, 2022 will be referred to as FY22.

Operating Segments

Reservoir conducts its business through two operating segments: Music Publishing and Recorded Music.

Music Publishing invests in songwriters and owns the notes and lyrics of their compositions. Reservoir's catalog of past songs includes works by Joni Mitchell, Ray Charles, Evanescence, Hoagy Carmichael, and John Denver (amongst many others), with "It's Your Thing" by The Isley Brothers its number one royalty generator. The company's active roster of songwriters have created award-winning hits performed by Justin Bieber, Ariana Grande, Bruno Mars, BTS, and Drake (amongst others). The company receives royalties off its catalog from several sources, including creators of movies, tv programming, video games, advertising etc. who use its songs in their media (known as synchronization revenue); subscription streaming services (digital), play on radio stations or by DJs (known as performance revenue), and through the sales of CDs, albums, etc. (mechanical). The royalties are split between the songwriter and Reservoir, whose cut is known as the net publisher share (NPS). This segment generated FY22 revenue of $77.1 million, or 71% of Reservoir's total. Approximately 53% or this segment's top line was generated from digital (24% from performance and 15% from synchronization) with a 51/49 split between domestic and foreign copyrights.

Recorded Music invests in artists and controls more than 36,000 sound recording copyrights (known as master recordings). [For the avoidance of doubt, in the music industry, money is received separately for musical compositions (from writers) and master recordings (from recording artists).] Reservoir's record company works with artists such as The Delfonics, Sinead O'Connor, Coolio, and Queen Latifah to create, market and promote their recordings. The revenue streams are essentially the same (digital; performance is dubbed neighboring rights, synchronization, and mechanical a.k.a. physical) with royalties split with the artists. The only difference is that the Recorded Music segment is responsible for the production, packaging, and distribution of its output, with digital (67%) and physical (30%) comprising the preponderance of its top line. The royalty share minus these costs is known as the net label share [NLS]. This segment generated FY22 revenue of $29.5 million, or 27% of total. Not too dissimilar to Music Publishing, its domestic/foreign split was 54/46.

Approach

To add to its collection of copyrighted compositions and master recordings, Reservoir has grown through acquisition, deploying over $650 million of capital since inception. To illustrate its acceleration in this area since becoming a public entity, in FY22, the company closed on 110 deals, spending over $224 million, or ~50% of what it spent in its prior thirteen years combined. Management attempts to improve on the acquired royalty stream through value enhancements, which include its global synchronization efforts and advocacy work - suing for 'fair compensation'. Over the past decade, Reservoir executed acquisitions at a weighted average price of 13.5x NPS or NLS, but through its value enhancements it was able to reduce the actual multiple by 2.4x through 2020. Furthermore, as it grows through acquisition, its operating expenses as a percentage of revenue decline.

Music Industry

Music was unquestionably an industry profoundly impacted by the interconnectivity and ongoing digitization of the world - the biggest impact as it relates to Reservoir is music streaming. The music publishing industry generated global revenue of $6.9 billion in 2021, up 17.6% from a Covid-compromised 2020, which also represented a 9% CAGR since 2016. However, it paled in comparison to the recorded music industry, which accounted for 2021 worldwide revenue of $25.9 billion, up 18.5% from the previous year, also representing a 9% CAGR since 2016. In this segment of the music industry, streaming comprised $16.9 billion, or 65% of total and up 32% from 2020. Remarkably, over 96% of the U.S. population aged 13 to 55 uses a streaming service to listen to music in a typical week, and globally, 523 million people subscribe to a music streaming service.

As an interesting aside, the emergence of the pandemic produced a 16% year-over-year increase in the sale of physical albums, the first time that format has grown in 20 years. Brick-and-mortar music stores reopening full-time and the return of touring - permitting artists to adequately promote their new albums - have contributed to this aberration.

Reservoir operates in an oligopoly in both recorded music and music publishing, with the former 72% dominated by Universal Music Group ( OTCPK:UMGNF ), Sony Group's ( SONY ) Sony Music Entertainment, and Warner Music Group ( WMG ); and the latter 60% controlled by Sony Music Publishing, Universal Music Publishing, and Warner Chappell Music. The balance of the market for both these segments is highly fragmented.

Recent Quarters:

On June 21, 2022, Reservoir reported its final fiscal quarter of 2022, posting a gain of $8.9 million ($0.14 per share (GAAP)) and Adj. EBITDA of $15.4 million on revenue of $35.1 million as compared to net income of $5.0 million and Adj. EBITDA of $10.5 million on revenue of $24.1 million in 4QFY21, representing 77%, 47%, and 46% improvements, respectively. Impressively, 20% of the revenue growth was organic.

For FY22, the company generated net income of $13.1 million and Adj. EBITDA of $41.3 on revenue of $107.8 million versus net income of $9.3 million and Adj. EBITDA of $31.9 million on revenue of $80.2 million, representing increases of 41%, 29%, and 34%, respectively.

Strength was across the board with the trends in digital (up 153% in Recorded Music in FY22) and the company's focus on synchronization (up 62% in FY22) stalwart contributors.

Then six weeks later, the company posted second quarter numbers . On a GAAP basis, Reservoir broke even, which was a nickel a share above expectations. Revenues were over 45% on a year-over-basis to $24.3 million, beating the consensus by over $6 million. It was a strong quarter across the board as can be seen in the charts below, with recorded revenue growth of 80% as one notable data point.

First Quarter Fiscal 2023 Financial Results:

First Quarter Fiscal 2023 Segment Review

Balance Sheet & Analyst Commentary:

With its ongoing asset accumulation strategy, the issue becomes the financing of those purchases. As of June 30, 2022, Reservoir had cash and cash equivalents of $12.6 million and $67.4 million available for borrowing under its revolving credit facility, for total available liquidity of $80 million. Net Debt stood at $264.9 million (defined as total debt, less cash and equivalents and deferred financing costs). This places net leverage at a little under 6, but well under the 7.5 stipulated by the company's debt covenants.

Although newly public, its business model is conducive to steady cash generation, producing cash from operations of $14.7 million in FY21 and $12.5 million in FY22. The year-over-year decline was a function of changes in working capital - namely, higher royalty advances. Cash flow from operations was $1.8 million in the first quarter of this year.

Considering the SPAC that birthed Reservoir is named Roth CH Acquisition II, it is not surprising to see the sell-side sponsorship comprised of Roth Capital and Craig Hallum, who both initiated buy ratings and $13 price objectives on shares of RSVR in August 2021. Sidoti also initiated coverage in the same month with a ' high risk ' rating and a $14 price target. On average, they expect the company to generate earnings of $0.10 a share on revenue of $119.2 million in FY23, followed by $0.17 a share on revenue of $131.8 million in FY24, representing 11% top-line growth.

With their stock down some 30% from its opening trade, several insiders and beneficial owners have made purchases in late-July. One board member and Reservoir's CFO accumulated over 30,000 total shares, while director Ryan Taylor, who represents the interests of Richmond Hill Capital, Essex Equity, and ER Reservoir, LLC, bought 203,339 shares on behalf of those entities. Another director bought nearly $100,000 worth of shares on August 9th.

Verdict:

With two investors (ER Reservoir and Richmond Hill) holding nearly two-thirds of the ownership interest, there is very little trading volume in Reservoir, a company with 64.2 million shares outstanding. As such, its stock is subject to serious volatility. For example, after closing the May 4, 2022 trading session at $9.20 a share, its stock plunged 31% to $6.37 over the next five trading sessions on average trading volume of less than 130,000 shares in the double-counted NASDAQ market. There was no news specific to Reservoir, just a 9% fall in the broader market. The shares remain at these levels still.

That price action belies its business model, which is relatively uncorrelated to economic activity as the world does not stop listening to music in difficult times. That said, with an EV/FY23E Adj. EBITDA of just under 15 and net leverage of 5.7, Reservoir is not cheap. With medium-term organic growth only in the mid-to-high single digits and a P/E on FY24E earnings of nearly 40, there well could be further downside risk in Reservoir. As such, investment is not recommended.

Music expresses that which cannot be put into words and that which cannot remain silent ? Victor Hugo

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