Welcome to Warner Music Group's Quarterly Earnings Call for the period ended September 30, 2021. At the request of Warner Music Group, today's call is being recorded for replay purposes, and if you object, you may disconnect at any time. Now I would like to turn today's call over to your host, Kareem Chin, Head of Investor Relations. You may begin.

Good morning, everyone. Welcome to Warner Music Group's fiscal fourth quarter and full year earnings conference call. Please note that our earnings press release and earnings snapshot are available on our website, and we plan to file our 10-K during the week of November 22nd. On today's call, our CEO, Steve Cooper will provide you with an update on the quarter and full year. Eric Levin, our CFO is on medical leave, and as a result, our Acting CFO and Corporate Controller, Lou Dickler will take you through our financial results. Steve, Lou, and I will then answer your questions. Before our prepared remarks, I’d like to refer you to the second slide of the earnings snapshot to remind you that this communication involves forward-looking statements that reflect the current views of Warner Music Group about future events and financial performance. We plan to present certain non-GAAP results during this conference call and in our earnings snapshot slides and have provided schedules reconciling these results to our GAAP results in our earnings press release. All of these materials are posted on our website. Also, please note that all revenue figures and comparisons discussed today will be presented in constant currency unless otherwise noted. All forward-looking statements are made as of today, and we disclaim any duty to update such statements. Our expectations, beliefs, and projections are expressed in good faith, and we believe there is a reasonable basis for them. However, there can be no assurance that management's expectations, beliefs, and projections will result or be achieved. Investors should not rely on forward-looking statements because they are subject to a variety of risks, uncertainties, and other factors that can cause actual results to differ materially from our expectations. Information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in our filings with the SEC. And with that, I'll turn it over to Steve.

Thanks, Kareem. Good morning, everyone, and thanks for joining us. As we all know, the world has been through a very dark time over the last 18 months. We've all been challenged both personally and professionally in ways we could not have imagined. But with vaccination rates continuing to rise and many territories beginning to return to some kind of normalcy, it feels like there is light at the end of the proverbial tunnel. If there's anything that our company has learned during this pandemic, it's that for billions of people across the globe, music is essential to our well-being. It permeates our lives and gives us inspiration and hope. It gives voice to our anxiety, our sadness, and our joy. In short, music touches our hearts like no other art form. When concerts and live appearances were nearly impossible to stage, our ability to super-serve our artists and songwriters during this extraordinary time was made crystal clear. Our global resources, creative expertise, and commercial reach make us an absolutely indispensable component that is critical to the entire music value chain. Six years ago, Warner doubled down on streaming. We became the first music major to make it our largest revenue source. Today, our business is no longer driven by linear format shifts; it's multifaceted and expanding in all directions, from social media to gaming, home fitness to VR — we're at the heart of virtually every consumer experience. The increasing complexity of our industry goes hand-in-hand with the ever-growing potential of our company. We're not merely embracing our future; we're creating it. With that, let's get to an overview of our fourth-quarter results. Total revenue increased by 22% on an as-reported basis and 21% on a constant currency basis. Adjusted EBITDA was up by 34%, with margin improvement driven by strong revenue growth. In Recorded Music, revenue increased by more than 21%; digital grew 17%, and streaming grew 20%. Meanwhile, revenue sources that were severely impacted by COVID, most notably artist services and physical, recovered nicely, growing 70% and 22%, respectively. In Publishing, we delivered revenue growth of over 19%. Digital, mechanical, and sync all had double-digit growth. It was also very good news that performance revenue appears to have bottomed out and has returned to modest growth as consumer venues across the board continue to recover. As new capital flows into our sector, we're even more confident in our position. We have the expertise and capabilities to increase market share, not merely the financial resources to buy it. We're highly selective and only pursue deals that through our active management of assets will be accretive to shareholder value. Our track record of making financially disciplined investments is evidenced by the rate at which we convert adjusted EBITDA to free cash flow. Now let me drill down into the key tenets of our business with a few examples of the progress we're making. While taste trends and technology will change, artists and songwriters will always be our driving force. We pride ourselves on our ability to work with talent at all stages of their careers and across a wide diversity of genres, generations, and geographies. We're developing and nurturing the next generation of recording artists such as the UK's Tim Ambrose and Joel Chords, Argentina's Lit Killah, and the US's Don Toliver, whose album debuted number one on the top album sales chart at Billboard. We're also trusted by iconic recording artists to manage their life's work. In just the last several months, we struck career-expanding deals with Coldplay, Madonna, David Guetta, and the estate of David Bowie. On the publishing side, big signings include German Rapper RIN, R&B Star Jhene Aiko, Rock Legend William Patrick Corgan, and Grammy Award winner Daniel Caesar. We also welcomed pop icon Sam Smith for a joint publishing agreement with Tim & Danny Music. Many artists also see the value in having Warner as their home for both recorded music and publishing; Led Zeppelin, Bruno Mars, Madonna, Saweetie, Tones and I, Cardi B, and Lizzo to name just a few. While our artists and songwriters are at the center of all that we do, genius really does need come. More than ever, talent needs help to cut through the noise. Our mission is to elevate great artists, amplify their music, and help their voices move the world. Music is the only true global language, and I'm a big believer in the principle that success can come from anywhere and translate everywhere. Simultaneously, music is becoming hyper-localized; in Japan, Germany, and France, the three biggest non-Anglo markets, domestic repertoires make up, on average, over 65% of the business. We're now operating in over 70 countries and expanding our resources and reach in a number of key growth markets. In the past year alone, we've made several strategic moves to strengthen our A&R presence across the globe. We've launched Atlantic Records in both Russia and Benelux, and ADA, our Indie Label Services Group, expanded into Russia, as well as Italy. We continued our expansion into Africa by acquiring leading independent label Coleske. We further expanded our Asian and Chinese footprint with our hip-hop labels Asiatic and JUUICE and our dance label, Whet. We forged an important new alliance with Rotana music, the Arab world's leading independent label. We also established, through local Warner companies and ADA, important distribution partnerships with KRU in Malaysia, Sky Digital in India, Orfeón Videovox and Worldwide Records in Mexico, Baramey in Cambodia, Yin Yang Media in Vietnam, and Same Sane Records in Australia. Here's a great example of our strategy in action. We signed Nigerian artist CKay to Warner Music South Africa after he was discovered through our partnership with Chocolate City. In an unprecedented achievement, CKay made history by scoring the most-watched music video in the world on YouTube with his song, Love Nwantiti — the biggest song to ever come out of Africa. This is also one of the most popular tracks on Instagram and TikTok, and also on Spotify, where it now has over 180 million streams. Bloomberg recently took note of this, calling it a watershed moment for African pop. Let's now turn to our progress with innovation and revenue diversification. Not so long ago, people questioned the outlook for streaming growth. Today it’s clear from our results that subscription streaming still has tremendous runway ahead of it, bolstered by price increases in developed markets and increasing penetration in emerging markets. That growth is being supplemented by emerging platforms that are incorporating music as a critical feature of their user experiences. To that end, we're positioning ourselves at the intersection of social, gaming, fitness, VR, and music. We continue to lead this sector by being the first major to partner with disruptive players in these dynamic and rapidly growing spaces. In another pioneering move, we are to date the only music major to form a partnership with Twitch, paving the way for even greater collaboration in the future. We've also continued to grow our own unique network of consumer media brands including IMGN, UPROXX, Songkick, and HipHopDX. We've expanded our reach through the development of outlets such as The Pit and Indie Mixtape, and we continue to manage nearly 5000 unique artist YouTube channels. As a result, our ad-based revenue grew significantly in Q4 with sustained gains across these owned and operated properties. Our network of consumer media brands is a strategic focus for us and has significant growth potential. Be on the lookout for an exciting announcement later this week that will tell you how we intend to further turbocharge this area. None of this, however, is possible without great people in place to make it all happen. We continue to strengthen our executive branch, promoting from within as well as hiring great talent from the outside. Over the past year, we've installed our next generation of digital savvy leadership in many key territories. These include Canada, China, Germany, France, Latin America, South Africa, Poland, the Philippines, Taiwan, and Indonesia. We also have a new leader of ADA Worldwide along with separate US and international ADA heads making us even more capable of serving indie artists and labels everywhere. Without a doubt, we have the best team in the business — one that positions us exceptionally well for this new golden age in music. With our new Head of ESG in place since August, we plan to issue our first annual report in early 2022. It will provide a detailed update on our progress in sustainability and DEI among other topics. This past June, we published our first impact report from the Warner Music Group, Blavatnik Family Foundation Social Justice Fund. Established last year, the fund has focused its grant making on three key pillars: education, criminal justice reform, and arts and culture. It's already committed funds and resources to a number of amazing organizations with many more brands on the way. Fiscal year '22 is already off to a strong start. Coldplay's new album was their ninth number 1 in the UK, while Ed Sheeran has the fastest-selling album in 2021 so far. Silk Sonic with Bruno Mars and Anderson, Paak duo dropped their new album, An Evening with Silk Sonic, last Friday. We also have an amazing slate of holiday releases from Kelly Clarkson, Michael Bublé, Sia, Rob Thomas, Brett Eldredge, and others. In today's detention economy, our business not only demands an ever-increasing flow of great music, but also ever-growing levels of service to great artists and songwriters. Warner achieved staff mix better than any other company in the world, and we look forward to raising the bar even further in the coming year and beyond. Before I turn it over to Lou, there is one final matter I'd like to mention. While major music companies such as Warner Chappell negotiated direct licenses with streaming services in the United States, there is a portion of the revenue from traditional audio streaming services, specifically mechanical revenue, which is subject to a compulsory license at rates set by the Copyright Royalty Board. You may have read about Formal Records IV, which is the name of the ongoing US digital Mechanical Royalty Rate proceeding Web IV, and the CRB. It will determine what music publishers and songwriters will be paid by these traditional services between 2023 and 2027. There's been a lot of controversy in the music press on this topic, but there should be nothing controversial about music publishers and songwriters getting paid the fair market rates to which they're entitled. We fight hard for the rights of our songwriters. Songs and songwriters are at the very beginning of the value chain, and there would be no music business without them. We fully support the NMPA's advocacy efforts in the current rate proceeding and we look forward to a positive outcome for Warner Chappell Music and its songwriters. And with that, I'll turn it over to Lou.

Thank you, Steve, and good morning, everyone. 2021 was an incredibly challenging year to navigate, and our results only continue to validate the strength and resilience of our business model. In Q4, total revenue was up approximately 21% on a constant currency basis, and up over 22% on an as-reported basis. These results are underpinned by growth across almost all of our revenue lines. For the full year, our total revenue increased by over 15% on a constant currency basis and almost 19% on an as-reported basis. Our strong operating performance was evidenced by the healthy growth in adjusted OIBDA, and adjusted EBITDA we saw in both the fourth quarter and the full year. In Q4, adjusted OIBDA increased by over 25% to $218 million, with margins improving from 15.5% to 15.8%. Adjusted EBITDA, which reflects the pro forma impact of future cost savings and transactions completed in the quarter, increased by 34% to $237 million, with margins improving from 15.7% to 17.2%. I want to note that both metrics reflect adjustments for approximately $15 million of restructuring costs, primarily driven by severance costs associated with the leadership and related organizational changes that Steve referenced earlier. For the full year, adjusted OIBDA and adjusted EBITDA increased by approximately 29% and 30%, respectively. You can find the calculations and reconciliations related to adjusted OIBDA and adjusted EBITDA in our press release. Recorded Music revenue increased by over 21% in the fourth quarter. Residual revenue increased by 17%, driven by continued strength in streaming revenue, which grew approximately 20% year-over-year. All components of streaming revenue experienced robust year-over-year growth. Recorded Music revenue from emerging streaming platforms remains at $235 million on an annualized basis, but grew meaningfully year-over-year. As we have said previously, we expect the growth cadence from this revenue source to correlate with the timing of significant new deals and renewals with scaled platforms. We also saw meaningful recovery in several of our revenue streams that were impacted by COVID. Artist services and expanded rights revenue, which includes merchandising, grew by 70%, reflecting an increase in merchandising and concert promotion revenue as touring has resumed. Physical revenue grew by 22%, primarily driven by the strong demand for vinyl across the globe. Licensing revenue declined by 9%, mainly due to one-time licensing settlements in the prior year, partially offset by higher synchronization revenue as businesses continue to recover from COVID disruptions. Adjusted OIBDA was $204 million, a 27% increase over the prior year quarter, with margins improving to 17.4%. This growth was driven by higher overall revenue, some of which came from recovering lower-margin areas like artist services, resulting in muted margin growth. For the full year, Recorded Music revenue increased by 16%, driven by growth across almost all revenue streams. Adjusted OIBDA increased by 29%, with margin improving by 1.7 percentage points to 21.5%. Music Publishing revenue increased by over 19% in Q4, reflecting growth across all of its components. This performance was led by digital revenue growth of around 19% and driven by the continuing growth in streaming across traditional and emerging platforms. Digital revenue growth in the quarter was impacted by a favorable one-time settlement in the prior year quarter. There was also a shift in the collection of the writer share of US digital performance income for certain digital service providers, which will affect the next couple of quarters. The impact of this change is a reduction in our revenue, offset by a reduction in our writers' royalty expense, resulting in a modest benefit to our margin. Sync revenue increased due to higher motion picture and commercial income and a one-time licensing settlement. Mechanical and performance revenue increased as businesses continue to recover from COVID disruptions, with mechanical, which only covers physical sales, benefiting from an increase in new sales. Music Publishing adjusted OIBDA increased 14% to $49 million, while margin decreased 1.5 percentage points to 23.9%. For the full year, Music Publishing revenue increased by 13%, and adjusted OIBDA increased by 12%, with margin declining from 24.4% to 23.5%. For both Q4 and the full year, the decline in adjusted OIBDA margin was attributable to revenue mix, including the COVID impact on higher-margin performance revenue. Operating cash flow increased 30% to $228 million and 38% to $638 million for Q4 and the full year, respectively. We have revised our free cash flow definition to be more aligned with how we evaluate the operating performance of the business and to better reflect cash flow available for acquisitions, investments, and returns to shareholders. Going forward, references to free cash flow will be calculated as operating cash flow minus CapEx. On this basis, our free cash flow grew 39% to $192 million in Q4 and 44% to $545 million for the full year. This translates to an impressive free cash flow conversion rate defined as the ratio of adjusted OIBDA to free cash flow of 89% and 54% for Q4 and the full year, respectively. These metrics underscore the strong operating performance within our business as well as our financially disciplined ROI-focused investment strategy. CapEx in Q4 was $35 million compared to $37 million in the prior year quarter, and $93 million for the full year compared to $85 million in the prior year. The increase was related to our previously announced transformation initiatives. Looking ahead to 2022, we expect to see elevated CapEx in the range of $130 million to $135 million for the full year. This increase is due to the continued investment in our IT and finance infrastructure as well as the expansion of EMP's facilities to address the strong demand in our e-commerce business. Our financial transformation program remains on track and is expected to deliver annualized run rate savings of about $35 million to $40 million once fully implemented in 2023. As of September 30, we had a cash balance of $499 million, total debt of $3.3 billion, and net debt of $2.8 billion. Since our IPO, we have actively managed our capital structure, reducing our weighted average cost of debt from 4% to 3.2% and extending maturities with our nearest maturity date now in 2028. As we look ahead to the rest of the year, our expectations for total revenue and adjusted EBITDA growth rates remain largely in line with our internal expectations at the time of the IPO. While there will be some variability in revenue mix driven in part by recovery in certain COVID impacted revenue streams, we continue to be very optimistic about our long-term growth and have a high degree of confidence in our margin targets. We are truly excited about the steady flow of great music we have in store and look forward to an amazing rest of the year. Thank you for joining our call today, and we will now open the call for questions.

Thank you. Our first question comes from Michael Morris with Guggenheim. Your line is open.

Thank you very much. Good morning, guys. Two topics for me. I think, first, Steve can you talk a bit about the general trends that you're seeing in A&R costs? The deals seem to be getting more expensive and royalty advances I think are reflecting that. Can you just share with us what you think is driving that? And then my second topic, I think I'll direct to Lou just because you spoke about this. It's really about the runway for these emerging platform digital partnerships going forward. As you start to lap some of the initial deals, how should we think about the financial path there? Did those initial deals have certain minimum guarantees that could be at risk as you renew, or should we think about the growth opportunity more driven by a combination of both usage and expansion of these deals? Thanks, guys.

Great. So, Michael, on the first one, A&R trends, I think it's important to remember that we manage a portfolio. As artists move from the initial stages of their career to really established artists, to either regional or global superstars, the cost does increase. That cost is generally, however, offset by reduced marketing and promotional expenses as artists become better known. I think that given the financial resources that are flowing into both the Recorded Music and the music publishing markets, the goal for Warner is to not get wrapped up in the exuberance of the market, for lack of a better term, and maintain our financial discipline that has been in place since the acquisition of Warner by Access. We are very thoughtful about how we allocate capital and what we put into any deal, whether it be an artist or M&A. We are very thoughtful about not buying market share loss and we are very thoughtful about structuring deals to ensure that we get what we believe to be appropriate returns on our investments. You'll also see that our A&R budgets, marketing and promotional budgets have remained in a relatively stable relationship with revenue over the last four, five, six years, and we expect that to continue. That is a stable relationship between marketing and promotion to revenue for the foreseeable future, Michael.

With regard to the ESP question, Michael. As we've mentioned, the revenue for this streaming is recognized on a step basis, not linear, and that's due to the timing of the deal renegotiations. The deals are often structured as buyout versus consumption, and as a result, you see that revenue impact. We do believe that as the services scale and new services come online in this space, the economics are looking to improve and we're seeing revenue growth.

Great. Thank you both. Appreciate it.

Our next question comes from Kutgun Maral with RBC Capital Markets. Your line is open.

Good morning. Thanks for taking the questions. And of course, best wishes to Eric. I hope he gets well soon. I was hoping to get your perspective on Universal. Their public listing has increased investor awareness and focused on the Recorded Music and Music publishing side of the audio ecosystem and seems to be driving a better appreciation of the attractive dynamics of the industry overall. But I guess on your end, has the UMG spin out affected Warner Music Group at all? And maybe second, can you talk a bit about their margin profile compared to yours and maybe why their margins appear higher? Thank you.

I will address the first part, and Lou will handle the second part. I believe that Universal's IPO is positive not just for the overall music industry but specifically for content, as it has highlighted content more and increased investor interest in the opportunities related to music content. We have successfully competed with them for many years, and we wish them great success with their launch. Lou will discuss some of the differences in margins. I want to emphasize that our margins are essentially the same, and we achieve that with roughly half the operating leverage.

Yeah. So as Steve mentioned, there is not a difference between our margin and UMG's margin on an apples-to-apples basis. They're nearly identical. Under IFRS, Universal was able to classify certain rent and lease costs as depreciation, which is excluded from EBITDA. If you net out the impact of that rent expense differential, as we noted, our margins are nearly identical and Steve pointed out, slightly increased in greater scale.

Thank you.

Our next question comes from Andrew Uerkwitz with Jefferies. Your line is open.

Hey, thank you. I am hoping you hear me. I have two questions, I'll ask at the same time. Steve you talked earlier about new opportunities, whether it's metaverse NFTs and whatnot. Everyone else on the earnings call has been talking about this quarter. You guys, I believe, have invested pretty early in this space. So one, could you kind of talk about the broad opportunities here on how music and audio play a role? And then, secondly, are there specific areas here that you think are more exciting than others? Thank you.

Okay. Well, what we see, Andrew, are really new models emerging every day. And I don't see any reason why each new model, whether it be in social, gaming, fitness, or other areas, aren't going to continue to emerge. Almost all of them utilize music as one of the critical elements of building out their models and frankly, underlying their success. I personally couldn't imagine a time without music or hip-hop without music. So when we looked at these new emerging opportunities which are showing up all around the world, they present tremendous possibilities for Warner. They're very exciting. These start-ups — we love to invest in them. We love to work with them to build these businesses to scale. And I think our drive and our ability to diversify revenue will just continue. With respect to where do I think things are really going to get more interesting and special. Most of the models we currently see are the traditional push-pull, where we push to the models, the models pushed to consumers, and consumers pull through the music that we help differentiate from much of the white noise that's uploaded these days into the services. I think with the — within these large-scale metaverses like Fortnite, Roblox, and others, that we will begin to see an opportunity where providing content and distribution merge, Andrew. And when you begin to look at the global reach and the number of people that spend meaningful amounts of time in these new worlds, I think it provides a universe of opportunity for Warner.

Got it. Thank you so much.

Our next question comes from Ben Swinburne with Morgan Stanley. Your line is open.

Thank you. Good morning. Steve, you made a comment in your prepared remarks that Warner strives or can drive market share without buying it. I think there was a phrase we used. Can you talk a little bit about how you guys do that specifically as we think about a market where there's more and more capital maintaining all this IP? And then I'm wondering if you could talk a little bit about what you want to do with your free cash flow and leverage because I think given the strong free cash flow this year and looking into fiscal 2022, you guys are going to have a leverage level, at least on a net basis, that's relatively low compared to how you've capitalized the company in the past. So, as we think about the next couple of years, what might you guys do with your balance sheet or capital allocation that might optimize the balance sheet? Thank you.

Right. So what I've actually said about market share, Ben, is we won't acquire it at a loss. The way we will continue to maintain and grow our market share is through our investment strategies, which really we invest broadly speaking in the four buckets and then I'll swing back to those that all four of them actually influence market share. First, we invest in our core business, and we do that both through an expansion of our A&R budget in line with the growth of our revenue and through M&A, primarily through the acquisition of catalogs in the publishing space. We are and have been making a concerted effort to invest in diversification of revenue, which is bucket number two. Bucket number three is innovation and technology, and bucket four is in our people. So all of those over time impact our ability to build and gain market share. Specifically with money flowing into the sector — lots of money flowing into this sector — we are, because we live in this sector, oftentimes have more insight and a better view of what assets can and, as importantly, what they can't do by way of being turbocharged. Our organization is, I think, the best in the world at turbocharging these sorts of assets. So when we look at them, we look at them to see how we can create that turbocharging, what headroom we believe we have, and how through financial discipline we are prepared to either price and/or restructure companies to achieve those ROI goals. We are very selective. We are certainly not going to be one of the lemons going over a cliff by spending unwisely and thinking that without the organization and the expertise, these assets are going to grow through some mystical or magical formulation. So that’s on the first piece. On the second piece, we've been very clear about what we do with our free cash flow. Our first priority is to invest in the business again with rigorous discipline to get the ROIs that we believe our shareholders deserve. The second is, when we can't find those opportunities, to return capital to our shareholders. The third is to pay down debt. With respect to the third, we haven't gotten to that intersection yet, and I don't see us getting there for the foreseeable future.

Right. Can I just ask Lou one quick housekeeping on the streaming growth? I think you said 20%. Was there any currency impact, or maybe if you have that number ex-currency, that would be interesting.

Yeah, Ben, it's not material. It's 1% or 2%.

Okay. Thank you.

Thank you. Our next question comes from Matthew Thornton with Truist Securities. Your line is open.

Hey, good morning, guys. Steve, maybe two for you. I guess first I'm wondering if you can comment on what's going on over in the UK with the CMA there opening up a market study of the industry. Just kind of curious your thoughts as to the implications and maybe just how that plays out and any implications for Warner? And then just secondly, I know you guys don't provide formal guidance, but maybe just a little more high-level color as to how you're thinking about fiscal 2022 drivers or linearity or anything else that's kind of catching your attention for the upcoming year? Thanks, guys.

Okay. First of all, on the UK study, we believe what it's going to show is that on the content side — and we should keep in mind that that study is going to look at the music section, not only content providers but DSPs. But on the content side, we have a fiercely competitive industry, where artists and songwriters have historically, have today, and will tomorrow have the benefit of fierce competition between the labels to land both recording artists and songwriters, and I think that the fact that we have such a competitive environment, it will show that songwriters and recording artists are the primary beneficiaries of that competition and that their compositions benefit from that competition. So I'm confident that that will be a finding. I think that the review or the investigation will also show that our artists in our roster and the way we select those artists and songwriters to join us and then what we do by way of marketing and promotion will show that streaming has been in general very good to them. I think it will also show that the availability of tools for DIY artists today, by way of being able to professionally sound mix and distribute their music, has never been greater. So I'm confident that when somebody looks at the music ecosphere from a purely factual objective point of view, that people will realize and come to the conclusion that the labels are actually the good guys, not the bad guys. On guidance, as you noted, we don't give guidance. That being said, our music in the market at the moment, the music that's coming from some of our biggest artists is dropping as we speak. I'm confident that the momentum we've generated over the last three, six, nine, twelve months will continue.

Thank you. Our next question comes from Jessica Reif Ehrlich with Bank of America Securities. Your line is open.

Thank you. I have two topics or two questions. First, what do you think drove the renaissance in physical? And do you think that will continue? On that topic, could you talk about the difference in margins, which we know are lower, but what is the differential with physical versus digital? And then second, Steve, you called out ad-based revenue, and I guess as opposed to subscription or direct sales, can you talk about the size of your ad-based revenue now? What the growth rate is and outlook for that part of your revenue?

Sure. Okay. So let me just quickly talk about the renaissance of physical, and then I'll turn it over to Lou on both the comparisons of margins and the outlook for growth of ad-based revenue. There is a segment of people around the world that love vinyl. It is the recordings in and of themselves are an art form. The album art, the notes, the lyrics, the way it's put together represents a work of art and a work of art from these incredible musical geniuses. So this segment of the music-loving population loves vinyl, loves to collect it, and we think that it will continue to grow. The constraint being the ability to actually produce vinyl given the limited amount of capacity around the globe. Incidentally, vinyl just per se, collecting it is, for many people, something that's really cool, and for what it's worth, I think they're right. Lou will now walk you through the numbers.

Yes. So, on the margin differential between physical and digital, the difference is roughly 15% better margin on the streaming side. And then what was the second question, regarding ad revenue?

How we see ad revenue?

Yes. So, ad revenue continues to grow nicely. Obviously, COVID did have an impact on digital advertising revenue that seems to have recovered. That’s the business for us if you look at DSP, UPROXX, Songkick, IMGN as social publishers, combined revenues for that are about $100 million in the quarter relative size.

Did that answer your question?

Thanks. Good luck.

Our next question comes from Rich Greenfield with LightShed Partners. Your line is open.

Hi. Sorry about that. Can you hear me now?

Yes.

I apologize for that, Steven. When considering ad-supported streaming, for many years the industry generally had a negative view on it and mainly regarded it as a stepping stone to subscription streaming. Many labels, though I won't name any specifically, aimed to eliminate it or push everyone toward pure subscription models. However, nowadays the ad-supported aspect of the business seems to be thriving. I've never seen Spotify and Daniel Ek so enthusiastic about their ad-supported offerings as they have been in recent quarters. I'm interested in your views on the expansion of this side of their business and if you're encouraging other partners who lack ad-supported options to pursue similar strategies.

Well, first of all, we've always been of the view that people can pay for music either with their time or with currency. I guess, in an ad-supported business, their time is the currency; and on the subscription side, money is the currency. So we've always been supportive of both. We, in our discussions with DSPs, always encourage them to look at revenue-generating possibilities to strengthen both their businesses and our business. I think that when you look at the way digital ad revenue has bounced back, and the way it grew during the pandemic, we see others jumping into it, Rich. But we like all forms of revenue that support the music sector and ultimately flow to our artists and to us. So, whether it be going deeper into ads, price increases, or new functionality, we're always for that with respect to our partnerships with our DSPs.

Thank you.

Our next question comes from Meghan Durkin with Credit Suisse. Your line is open.

Hi, good morning, guys. Steve, you talked a lot about different growth areas, whether emerging markets, new revenue streams, acquisitions, and other. Of all these areas, can you maybe rank order those for the drivers of future growth for the company? And then maybe for Lou, I'm not sure if this is for Lou, but maybe discuss how you think about the return targets when you're allocating capital towards deals? Maybe that will help us to frame the impact from the acquisitions you've done recently. Thanks.

Certainly. I believe all of our areas and investment priorities hold significant value and can deliver substantial returns in the near future. Our primary business will likely continue to be our largest, focusing on traditional streaming, which we support by expanding our A&R budgets through mergers and acquisitions and by broadening our geographic reach. This strategy will bolster our core business. When we consider revenue diversification, we take products from our main business and tailor them for different revenue opportunities as we invest in new and emerging economic models. We see considerable potential in traditional streaming and recognize exciting opportunities in mature markets, where we believe growth can still continue, as well as in emerging markets, where we anticipate a transition over time from free services to paid subscriptions as ad markets develop. Therefore, our investment focus is on core diversification, technological innovation, and talent, all of which are vital for our future success.

And with regards to the IRR question — your IRR question; we've talked quite a bit about being financially disciplined, which we are, and that will continue. We'll continue to look for accretive investments. The IRR that we get on these deals is depending on the risk profile of that deal. So the higher risk deals have a higher return. So the blended rate is probably in somewhere in the mid-teens, but again, it depends on the risk profile in an individual deal.

Okay. Thanks. Best wishes to Eric. I hope he's back with us soon.

Thank you.

Thank you. We'll pass on your kind wishes.

Our last question comes from Ivan Feinseth with Tigress Financial. Your line is open.

Thank you for taking my questions. Congratulations on another great year and please send my best wishes to Eric for a speedy recovery. Can you talk a little bit about how Sodatone has helped you discover and find great artists, and even in areas where you may have to increase the investment that you've gotten a better return? And since music is going to be a major part of the immersive experience on the metaverse, Steve, what — when you start to hear people talking about this more, what areas of the metaverse excite you the most?

Okay. So with respect to Sodatone, it's, for lack of a better term, a super advanced search engine, which we utilize to identify recording artists and songwriters and their music as it is getting traction and emerging literally in every market around the world. It is used by way of our teams—hundreds of our employees on a daily basis to evaluate virtually all the new music and the artists associated with that new music inside of their specific territories or regionals. While I can't give specific numbers, I will tell you that in the last several years, the number of our artists that we've identified and signed through Sodatone has probably quintupled. It is a remarkable tool, and our people — I mean, they use it literally, Ivan, 24/7. So now the metaverse. What excites you? If you look at the trends, you can see that more and more people — and when I say more and more people, I'm talking hundreds of millions, not thousands or tens of millions— are spending more and more time in these interactive environments. So if you look at many of the ways in which music is distributed, it is not an interactive environment. It is literally a push-pull environment. In these metaverses, it is the combination of social, gaming, entertainment, and probably more things that I'm just unaware of that I could add. In these environments, it goes beyond push-pull. It is actually interconnectivity between content, between people, between people and content, and between communities, interaction between adjacent communities. It is bringing music and our artists to those environments to build and enhance not only the interconnectivity of music to people, but our artists to people, our artists to artists, and it creates so many possibilities for the convergence of content, artists, fandom, and distribution that I think it will take music and music's ability to really be the one true global language to an entirely different level. Ivan, it's super exciting.

Yes, I agree. Thank you and wishing you happy holidays and New Year.

Thank you. My pleasure.

This concludes the question-and-answer session. I would now like to turn the call back over to Steve Cooper for closing remarks.

So again, I'd like to thank everyone for joining us today. I hope everyone has a wonderful, safe holiday season, and we will talk to you in the new calendar year. Stay safe, everyone. Thank you.

This concludes today's conference call. Thank you for participating. You may now disconnect.