Earnings Call Transcript - WMG Q3 2022

Operator, Operator

Welcome to Warner Music Group’s Quarterly Earnings Call for the period ended June 30, 2022. 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, Mr. Kareem Chin, Head of Investor Relations.

Kareem Chin, Head of Investor Relations

Good morning, everyone. Welcome to Warner Music Group’s fiscal third quarter earnings conference call. Please note that our earnings press release, earnings snapshot, and the Form 10-Q we filed this morning will be available on our website. On today’s call, we have our CEO, Steve Cooper; and our CFO, Eric Levin, who will take you through our results, and then we will 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 includes 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 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 in actual outcomes 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.

Steve Cooper, CEO

Thanks, Kareem. Good morning, everyone, and thanks for joining us today. Given these turbulent times, I’d like to start by reaffirming why we’re so positive about WMG’s future. As the pandemic proved, music is an essential need for humanity. This need has and will continue to make the music sector more resilient than many other industries. Streaming, our largest revenue source, has a long runway, and there’s substantial headroom for both subscriber growth and subscription fee increases. We continue to see an explosion of new opportunities in sync, social media, gaming, and NFTs, as well as the resurgence of vinyl sales and the bounce back in touring-related revenue. Over the long term, we’re no longer reliant on any single format. Today, music propels and monetizes across every form of entertainment. In the digital age, artists have more ways than ever to engage and excite fans, which magnifies the importance and value of music companies such as ours. Against this backdrop, we’re uniquely positioned for long-term success. We have the scale, skill set, and agility to best capitalize on trends in artist development and drive the globalization and diversification of our business. It’s from this position of strength that we want to be clear about some challenges that we encountered in Q3. We’ve had to deal with very significant FX headwinds, as we report in dollars, not euros or yen. The slippage of several key album releases into Q4 caused macro advertising trends resulting in a slowdown in ad-supported revenue, and the ongoing suspension of our Russian operations. In addition, our reported results were impacted by several previously disclosed one-time items that affect year-over-year comparisons. These include the deal renewal with one of our digital partners, which will affect all four quarters of this fiscal year but not beyond, and the benefit in the prior year quarter from the catch-up payment related to another of our digital partners. As always, our goal is to help you reconcile reported results to underlying performance. We’re committed to making sure that these items are more clearly understood in the future. Eric will go into more detail about our normalized numbers shortly. So on to our results. Total revenue in the quarter was over 1.4 billion. This represents a year-over-year increase of 7% and a 12% increase on an as-reported basis in constant currency compared against an incredibly strong Q3 in 2021. Adjusted EBITDA declined 6.7% to 263 million with a margin of 18.4% compared to 21% in the prior year quarter. The year-over-year adjusted EBITDA decline was driven primarily by FX headwinds. The margin decline was impacted by the strong resurgence of our lower-margin artist services offerings. In recorded music, our revenue was approximately 1.19 billion, an increase of 8.5% from the prior year quarter with streaming revenue up 2.7%. As I mentioned, factors such as ad-supported streaming weakness impacted these results. However, these percentage increases do not accurately reflect the true strength of our streaming business. Normalizing for the previously discussed one-time items, recorded music streaming revenue grew by 9.2%. Artist services continued to show impressive recovery with revenue growth of 55.7%, while licensing was up 8.7%, and physical sales increased approximately 2%. Publishing had a very strong quarter with revenues of $245 million, approximately 35% more than the prior year quarter. I’d like to note, we expect an uplift in our Q4 recorded music streaming revenue, driven by a very strong release slate, including new music from Cardi B, Lizzo, Hanukkah Disco, Argentina’s Paulo Londra, Nigeria’s CK, and South Korea’s Aespa. In addition, we have recently signed new deals with Meta that will deliver additional revenue in Q4. Our new deals include an expanded revenue-sharing model that will open up additional opportunities for both frontline and catalog artists. With that in mind, I’d like to spend the rest of my remarks today picking up on the theme of why we’re so confident about our future. Many of you have heard me talk before about the key pillars of our long-term strategy: music, globalization, innovation, and people. I’d like to explain how we’re distinguishing ourselves in each of these areas and talk a bit about our ambitions. As always, let’s start with the music. We often get asked whether all the major music companies are just tracking the same data and chasing the same artists. If you look at our biggest stars, you can see that that’s not true for us. Long-term artist development has been a hallmark of WMG for decades, with stars like Madonna, Joni Mitchell, and Fleetwood Mac among many others. Today, we remain absolutely committed to backing originality. Ed Sheeran, Cardi B, Anita, Dua Lipa, Bruno Mars, and others are extraordinary artists that were signed to our labels very early in their careers. It should be noted that last month, Ed Sheeran became the first artist to hit 100 million followers on Spotify. Q3 saw the return of Lizzo, one of our most talented new superstars. Her monster hit 'About Damn Time' achieved number one status in the U.S., while reaching the top three in Australia, Belgium, Canada, New Zealand, and the UK. Released last month, her acclaimed new album 'Special' hit the top 10 in key markets, including the U.S., UK, Canada, and Australia. The sophisticated multi-platform campaign behind Lizzo’s new release is a great example of what’s possible when a true original is backed by our creative global team. By way of example, in April, Lizzo made her debut in the Metaverse by performing at 'Breakers', the first music award show on Roblox. In July, she celebrated her album release with an exclusive live show experience in New York, sponsored by American Express and live streamed on Twitch. In the fall, a documentary about Lizzo’s life is coming to HBO Max. The film is co-produced by Warner Music Entertainment and Atlantic Films. Around the world, we’ve had a string of hits from some of our most exciting international stars, including Nigeria’s Burna Boy, Japan’s Tatsuro Yamashita, and the UK’s LF System. Back in the U.S., Jack Harlow celebrated his first solo single number one, while the Red Hot Chili Peppers' 12th studio album debuted at number one in the U.S., the UK, Germany, and 13 other markets around the world. We also helped propel the explosive success of Kate Bush’s 'Running Up That Hill' in the new season of Netflix's 'Stranger Things'. Originally released in 1985, the song returned to number one on Billboard’s global 200 and Spotify's daily global charts. This is a great example of the evergreen power of unique songs and recordings, as well as further proof that there are no barriers in the modern music business. Irrespective of genre, geography, or generation, a hit can emerge and reemerge from anywhere at any time. Meanwhile, our publishing arm, Warner Chappell, is really humming. Our songwriters scored 86 songs on the Billboard Hot 100 in Q3. Our Nashville team was named Billboard’s Top Country Music Publisher for an unprecedented 21 consecutive quarters. Culture-shifting songwriters who joined Warner Chappell this quarter include Dope, who co-produced Drake’s 'Way Too Sexy', Puerto Rican rapper Guaynaa, an influential figure in the queer Latin rap scene, and Tyson Yoshi, one of Hong Kong’s top hip-hop singer-songwriters and independent artists. We also signed a wide-ranging partnership with Hollywood star and popular comedian, Kevin Hart, and his media company, Heartbeat. We’re administering all of Heartbeat’s songs covering past and future works for film, TV, gaming, and Web-3. Our shift to becoming a truly global music enterprise continues to pay off. We’ve taken a two-pronged approach, growing our local expertise and talent while making targeted investments and forging partnerships with local best-in-class operators. A case in point, back in 2014, we were first movers in China, taking two important steps that year: we acquired one of the largest independent catalogs, Gold Typhoon, and we were the first major music entertainment company to strike a wide-ranging partnership with Tencent. In 2014, China was the 19th ranked music market in the world. Last year, it was in sixth position and climbing. Deals made a number of years ago have been critical to us being in the pole position to capitalize on continued growth in China, where our revenue is 7x what it was in 2014. We continue to spot the markets that are going to ignite and deploy a bespoke strategy for each one. We’ve spoken to you in the past about the launch of Warner Music in India and organic growth market share in Brazil. More recently, we’ve transacted with Rotana in the Middle East and Chocolate City in Nigeria and across Africa. This quarter, we launched Warner Music in Israel, a fast-growing market with real global potential. Our roster there already includes superstars Noah Carell and Noga Rez. We have some exciting plans to further turbocharge our growth in this market. As a company that thrives at the intersection of art and tech, our commitment to innovation is helping us create a bright future for our artists, songwriters, and ourselves. We’re constantly experimenting with ways to improve, expand, and diversify our revenue streams. Last month, we became the first major music entertainment company to adopt SoundCloud's fan-powered royalties model, which pays artists based on individual users' streaming habits. This quarter, our in-house podcast network added shows to our portfolio such as the acclaimed series 'Rap Radar' and the Webby-nominated 'Holding Court'. At the same time, we’ve established a reputation as the company to approach first if you want to do anything groundbreaking in music. We continue to harness the tools, tech, and protocols that collectively make up Web-3. By constantly learning and evolving, we are simultaneously strengthening our role as the connective tissue between fans and artists by unlocking new opportunities in these rapidly changing environments. Here are just a few examples of our many recent initiatives. Two of our artists, Jason Derulo and Guaynaa, teamed up with TerraZero to recreate real-life landmarks on the virtual platform Decentraland. This partnership helped us expand our horizons across multiple Metaverse worlds and tap into new promotional avenues. Warner Records UK partnered with Bose to offer a first-of-its-kind NFT collection called Stickman Toys. Using a custom-built algorithm, visual art was mapped to audio stems, creating a set of unique collectible characters. Stickman Toys has been extremely successful, peaking at number two on OpenSea, the world’s largest NFT marketplace. Finally, through our participation in a funding round for Authentic Artists, we’re helping to redefine communal music experiences for the Metaverse. Authentic Artists is an industry-leading music platform powering virtual artists, digital collectibles, and interactive music experiences using cutting-edge AI. Before I move on, I’d like to mention that we were pleased by the July 1 remand decision by the U.S. Copyright Royalty Board in Phonorecords II, which covers streaming royalties for the 2018 to 2022 periods. After a long drawn-out appeals process, streaming services are finally being required to pay songwriters and publishers the percentage of revenue rates that were set by the CRB in February 2019. These rates escalate annually from 11.4% in 2018 to 15.1% in 2022. This marks a hard-won increase from the 10.5% rate previously set by the CRB for 2017. Since many digital services were continuing to pay songwriters and publishers at that 10.5% rate during the appeals process, the remand decision will require them to make significant retroactive payments. It’s an important step in the fight for fair compensation for songwriters. Before I talk a bit about our people, I want to honor Mo Austin, the legendary former chairman and CEO of Warner Brothers Records. On August 1, we announced that Mo had passed away peacefully at 95. There was an unbelievable outpouring of loving tributes from across the entire spectrum of artists and executives who had been part of our industry for decades. Mo was one of the greatest music executives ever. He was a driving force in shaping the Warner Music Group as we know it today. He will be hugely missed, and our deepest condolences go out to his family. I’ll now give a few brief updates about our commitment to diversity, equity, and inclusion and the ways our people are impacting local communities. First, we’re reinforcing our unique company culture through state-of-the-art headquarters in different territories. The latest example is our music station in Madrid, a creative hub housed in a renovated train station originally built in 1861. This facility includes recording studios, a content creation lab, and a live music venue. Providing round-the-clock access to spaces like this not only helps us attract and retain talented executives, artists, and songwriters, but also fosters creativity and collaboration in a post-COVID world. Second, our Warner Music Group Blavatnik Family Foundation’s Social Justice Fund announced its fourth tranche of grantees this quarter and held its first grantee convening event. 56 leaders from 26 organizations came together to advance social reform across the arts, education, and criminal justice. Third, 300 Entertainment and Atlantic Records are leading the fight to prohibit prosecutors in the U.S. from using rap lyrics as confessional evidence in criminal trials. We’re supporting the Project Black initiative, whose mission is to end these racially discriminatory attacks on creative expression. Finally, in the wake of the Supreme Court’s decision to overturn Roe v. Wade, our priority is keeping our people safe. We believe that everyone has the right to control their reproductive health. To that end, we’ve expanded our health care services, including financial and legal support, so our employees can exercise that right no matter where they live. In addition, we’ve matched employee donations supporting the important work of the Center for Reproductive Rights. To wrap up, I know that in this current macroeconomic climate, everyone is being inundated with information about short-term trends. But while we’re very focused on consistently delivering quarterly results, that’s not the primary lens through which we look at our business. Over the past five years, we’ve grown revenue by 63% on an as-reported basis, and adjusted EBITDA by almost 100%, while generating about 2.5 billion in operating cash flow. In this industry, real success and real returns come from taking the long-term view. It’s about setting the right trajectory that will take us to new heights. We believe that the Warner Music Group is absolutely on the right path, and we look forward to keeping you updated as we continue to build tomorrow’s story. With that, I’ll turn it over to Eric.

Eric Levin, CFO

Thanks, Steven. Good morning, everyone. Our Q3 results reflect the inherent resilience of our business that comes from our diverse portfolio of revenue streams. Even in a quarter where ad-supported streaming revenue came under pressure due to macro trends, we still grew most of our revenue lines and saw significant growth in operating and free cash flow. Total revenue increased by over 12% on a constant currency basis, reflecting growth in both recorded music and music publishing. Total company streaming revenue increased by 6.5%, driven by growth across both segments. Adjusted for the one-time items that I will describe in a moment, total revenue and streaming growth were 14.9% and 10.3%, respectively. Company-wide streaming revenue from emerging platforms was sequentially flat at $345 million on an annualized basis. As Steve mentioned, this revenue will increase in Q4 driven by new deals with platforms, including our recently signed deals with Meta. Adjusted OIBDA declined 3% with margins of 17.8% compared to 19.6% in the prior year quarter. On a constant currency basis, adjusted OIBDA increased by 2.4%. That decline in margin was primarily due to revenue mix, driven by the growth of lower-margin artist services revenue, and the impact of exchange rates. The impact on adjusted OIBDA growth and margins was magnified by the reduction in streaming revenue, which was primarily driven by one-time items. Normalizing for these items, consolidated adjusted OIBDA on a constant currency basis grew 13%, and margins would have declined by only 40 basis points. Adjusted EBITDA decreased 6.7%, with margins declining from 21% to 18.4% due to the same factors that impacted adjusted OIBDA. Recorded music revenue grew 8.5%, driven by growth across all revenue lines. Streaming revenue increased by 3%, compared to a very strong prior year quarter that saw impressive growth of 27%. Our prior year quarter performance was driven by outsized growth in ad-supported streaming revenue that was recovering from COVID, new deals with emerging streaming platforms, and some especially successful releases. By comparison, our streaming growth in Q3 2022 was more muted due to deceleration in ad-supported streaming revenue driven by the challenging macro environment and shifts in the timing of new releases. Normalized subscription streaming revenue grew in the low double digits in line with the market. However, ad-supported streaming growth, which had been trending in the high teens, fell into the low single digits in Q3. Additionally, there were several previously disclosed items that impacted comparability for the quarter. A new deal with one of our digital partners which commenced in Q1 created a $34 million Q3 headwind and an $11 million benefit in the prior year quarter due to a catch-up payment related to one of our digital partners. Adjusting for the impact of these one-time items, recorded music total revenue and streaming revenue grew 13.1% and 9.2%, respectively. While the macro challenges to ad-supported streaming revenue may persist for some time, we expect streaming growth to improve for us in Q4, bolstered by a robust release schedule, a less challenging prior year comparison, and new deals with emerging streaming platforms. Artist services and expanded REITs revenue growth accelerated and increased by 56%, primarily reflecting a boost in concert promotion revenue as touring activity returned. Physical revenue grew by 2%, primarily driven by strong performance in Asia. Licensing revenue increased 9%, mainly due to higher synchronization revenue led by the U.S. and UK. Adjusted OIBDA decreased by 9% on an as-reported basis and 4% on a constant currency basis. Adjusted OIBDA margin declined from 22% in the prior year quarter to 19.4%, primarily due to revenue mix. Normalizing for the one-time items described above, adjusted OIBDA grew by 7% on a constant currency basis, and the year-over-year margin decline would have only been 100 basis points. Music publishing continues to deliver impressive results, posting 35% year-over-year growth. Digital revenue grew 32%, reflecting continued momentum in streaming, which increased 35% and was driven by strength across traditional and emerging streaming platforms. Additionally, digital revenue growth reflected a $17 million benefit resulting from the July 1 decision by the U.S. Copyright Royalty Board concerning Phonorecords III, which Steve mentioned earlier. Adjusted for the benefit from this decision, digital revenue increased by 16.5%, and streaming revenue increased by 18.3%. Performance revenue increased by 80% as bars, restaurants, concerts, and live events continued to recover from COVID disruption. We saw a rebound in Germany, UK, France, and the US. Sync revenue increased by over 20% due to higher television and commercial licensing activity. Mechanical revenue declined slightly. Music publishing adjusted OIBDA increased by 30% to $57 million while the margin remained flat at 23%. On a constant currency basis, adjusted OIBDA increased by 33%. Normalizing for the impact of the CRB rate benefit, adjusted OIBDA would have increased by 23% on a constant currency basis, and the margin would have been essentially flat. In line with our expectations, Q3 CapEx increased to $35 million as compared to $20 million in the prior year quarter, mainly due to IT investments in infrastructure and expansion of our EMP facilities. As a reminder, our financial transformation is expected to deliver annualized run rate savings of $35 million to $40 million once fully implemented. Operating and free cash flow growth in Q3 were very strong. Operating cash flow increased 79% to $163 million from $91 million in the prior year quarter. The increase was largely driven by the timing of A&R investment. Free cash flow increased 80% to $128 million from $71 million in the prior year quarter. We expect strong cash flow generation in Q4 as well, driven by the timing of deals that will be favorable to working capital. As of June 30, we had a cash balance of $345 million, total debt of $3.8 billion, and net debt of $3.4 billion. Our weighted average cost of debt is 3.4%, and our nearest maturity date is 2028. Before we conclude our call, I want to mention that we recently settled a number of copyright infringement cases that will impact our Q4 results. We expect that the proceeds from these settlements after netting litigation expenses and artist and songwriter royalties will have an estimated favorable impact on consolidated OIBDA of at least $25 million. We are closely monitoring the rapidly changing macro environment, and we will adapt as we always have. We have full conviction in music’s resilience and will aggressively pursue new opportunities for artists and songwriters even during market dislocations. The fourth quarter is off to a strong start with our new releases performing well and new deals with emerging streaming platforms. We are on an upward trajectory and are positioning ourselves to take advantage of the opportunities for growth that lie ahead. Thank you for joining our call today. And we will now open the call for questions.

Operator, Operator

First question comes from an analyst with JPMorgan. Your line is open.

Unidentified Analyst, Analyst

Hi, thanks for taking the question. It’s good to hear the confidence and the underlying growth in scope for 4Q based on the deal, other ESP deals and just the new release schedule. Can you perhaps update us on your outlook for or expectations for 2023, given concern about slowing growth industry-wide and the ad-supported slowdown that you kind of called out as the macro? Perhaps any one-time item that will affect comparability as we kind of go into next quarter and into 2023. Thank you.

Steve Cooper, CEO

Yes. Thank you so much. So we don’t have any one-time items disclosed, but we don’t have anything next quarter that we see that is meaningful that will affect the comparison. We do look forward to 2023 when we will have passed the anniversary of the DSP renewal that has created challenging comparisons for the four quarters of fiscal ‘22. But fundamentally, even though there’s a challenging macro environment, we are very confident in the resilience of music and the effectiveness of Warner Music's strategy. We have a strong release schedule for Q4 and are looking forward to further strong releases throughout fiscal ‘23. We see subscription streaming growth continuing to grow in double digits despite what’s happening in the macro environment. Sync continues to grow. Artist services and recorded music are now back to pre-COVID levels, which obviously represents low-margin revenue, but delivers revenue and OIBDA and provides value-added services for artists that we always look forward to providing as part of our relationship. Warner Chappell has been very active; their growth every quarter this year has been over 20%. The recovery of performance has allowed their stellar growth in areas like streaming and sync to shine through. So we feel really good about our underlying business model. We feel confident about the resilience of music and our positioning for continued growth. I don’t want to diminish that it's a challenging environment; we’ve seen the impact on ad-supported revenue this quarter. We continue to make sure we do everything we can to support each line of revenue growth. FX and ad-supported revenue both had challenges this quarter, but fortunately, ad-supported is a minority of our streaming revenue, and therefore is a contained portion of our revenue. The larger portion of our revenue continues to grow strongly. So hopefully that gives you a summary, and thank you for your questions.

Unidentified Analyst, Analyst

And one quick follow-up. With artist service recovering, obviously, you’ve outlined low margin, but it still contributes to OIBDA growth. Any perhaps update on how we should be thinking about margins into fiscal 2023, particularly as maybe the financial transformation program gets implemented?

Steve Cooper, CEO

Thank you for that. One of the things we’ve been saying for the past couple of years is that when artist services recover, because it was essentially put on hiatus for the first two years of COVID, it would have an effect on margins downward. We didn’t know exactly how much because we didn’t know if artist services would recover over two years or fully in one year. Artist services are now back to the revenue levels that they were pre-COVID. This recovery will put downward pressure on margins in 2022 but will then create comparisons for 2023, where we’ve got artist services fully included in '22 compared to '23. We expect to get back on our margin growth trajectory as we have comparisons that will be more favorable with the fully recovered artist services in both the numerator and denominator. We feel very good about the fundamental margin growth program we have in place, growing our high-margin digital revenue streams, and managing costs, including our financial transformation and other technology initiatives that are in place to drive efficiency. So we feel very good about our margin growth trajectory. Our financial transformation program remains on track to launch in fiscal '23. We expect the benefits to start rolling in through '23 and '24 until it’s fully rolled out and complete. I will say that the rollout of the financial transformation is always tied to meeting very specific and detailed standards that allow us to complete our statutory management reporting perfectly. We are very close to that point, but there is work to do until we cross every 'i' and dot every 't'. We’re working diligently to get there, and we fully expect to launch the program in '23.

Operator, Operator

One moment for our next question. Benjamin Black with Deutsche Bank. Your line is open.

Benjamin Black, Analyst

Hey, guys, thank you. Thanks for taking my question. After adjusting for the new deals and the catch-up payments, we’ve seen a few quarters of decelerating growth in recorded music streaming. So the question here is really how should we be thinking about a good underlying growth rate going forward? You’ve seen slowing subscriber growth, or are we simply lapping difficult comparisons? And on the advertising side, Spotify mentioned seeing modest softening in the last two weeks and into the third quarter. Now you’re mentioning it as well. Can you elaborate on the softness that you’re seeing? Is it platform specific? Is it region-specific, for example? And how are you thinking about advertising growth for the balance of the year and into 2023? Thank you.

Steve Cooper, CEO

Sure, let me jump in on that. Thanks for the question. First thing I’d say is that subscription streaming growth is still quite strong and remains in double digits. In the short term, we see this as a very strong sign despite the macro environment. Long term, we think subscription streaming growth has tremendous upside potential in front of it. Developed markets are roughly 30% penetrated in aggregate. We’ve seen both research studies and market forecasts that show growth into the 50s or even 60 percent over time. Emerging markets are still penetrated in the mid-single digits and are starting to show real improved growth. We see enormous opportunity for emerging markets coming online with subscription streaming. The price per subscriber is still very low. We see real ARPU opportunity, and Spotify and Amazon, which have implemented forms of price increases, have proven to the market that it doesn’t impact churn; price increases are available for distributors who are excited about subscriber growth opportunities. We did see an ad-supported slowdown, which you’ve seen in some of the companies that are distributors that reported lower ad-supported growth. Clearly, it was a difficult comparison versus a year ago. A year ago, we had 27% streaming growth, and ad-supported growth was even faster than our average total streaming growth due to the recovery from COVID. We think the macro environment has impacted ad-supported businesses, and we’ll continue to monitor that. Again, ad-supported streaming is in the mid to high teens overall streaming, so it’s part of our business, while the much larger part of our business continues to grow in double digits. But that is something we’ll continue to monitor. Again, we have great confidence in the long-term potential of streaming; we believe it’s just getting started. We think the emerging streaming side will continue to increase in the number of licenses. We’ve just concluded our new Meta deal. The opportunities in Web-3 and NFTs are in the very early experimentation phase and have significant potential, and we’re focused on developing business models to monetize it. So we’re excited as we look forward about growth in streaming. In the short term, we’re navigating tough macros, but we still see the resilience of music and streaming giving us real opportunities to continue growth vectors.

Benjamin Black, Analyst

Fantastic. Thank you for the color.

Operator, Operator

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

Matthew Thornton, Analyst

Hey, good morning, Steve and Eric. Maybe one question and two housekeeping items if I could. First, Eric, you talked a little bit about the margin progression as you see it over the next couple of years. How do you think about the conversion rate from adjusted OIBDA to free cash flow over the next couple of years? It was 50% in this quarter; it has kind of bounced around a bit. But I guess, higher level, how do you think about that progressing over the next couple of years? And then just secondly, the housekeeping items: I think there was an adjustment to an earnout liability that benefited the recorded music margin this quarter, if you can quantify that. And in the streaming portion, I think there was some language around the timing of new deals. Again, anything worth quantifying there as well? Thanks, guys.

Eric Levin, CFO

Those three questions. So, adjusted OIBDA to free cash flow. Generally, our free cash flow to adjusted OIBDA conversion has been 50% to 60%. We think that’s a reasonable range to operate, but every quarter will be different. The timing of spending on A&R will vary based on deal activity, and it’s challenging to look at quarter-to-quarter. A larger period of time, year-to-year, for example, is a better period; the 50% to 60% has been a comfortable range for us. I will make the comment, though, that we look at our excess cash deployment, and the first priority is redeploying it into the business to drive future growth. We have grown our market share. If you look over the past five-year period, one of the ways we do that is by reinvesting our operating cash flow back into the business with accretive deals. We are focused on converting operating and free cash flow in line with OIBDA with a call of 50% to 60% conversion rate. The second question: we had made an investment in the business and had accrued about $10 million towards an earn-out that was part of the acquisition if certain metrics were achieved. Given the slowdown in the ad-supported market, we no longer forecast that earn-out will be achieved, so we reversed that $10 million accrual. Regarding the timing of deals, the one deal we called out is the Meta deal, which we closed in Q4, and that will be reflected in our Q4 results. We do expect improving emerging streaming revenue with those new emerging streaming deals, but we don’t quantify individual deals, so I can’t provide a number for you, but we do expect it to have a positive impact.

Operator, Operator

One moment for our next question. Our next question comes from Michael Morris with Guggenheim. Your line is open.

Michael Morris, Analyst

Thank you, guys. Good morning. Maybe one for Eric. Just following up on digging into the recorded music streaming trend. You talked about the advertising portion and the size there, which was helpful. Can you talk about the release schedule that album release slippage and the impact as we looked at kind of export growth rate going from 15% or mid-teens in the second quarter to the 9% sort of quarter rate in the third quarter? How much of that sequential slowdown was driven by that album release timing? And how much of that do you expect will come back in the fiscal fourth quarter? And then maybe a bigger picture question for Steve, just on the CEO transition that was announced late in the quarter and a little bit long-dated with respect to the timing. Can you just give us your thoughts on that transition? Why the timing? What you guys are looking for? Would appreciate the color there.

Eric Levin, CFO

So I’ll start. There were a few substantive releases that slipped from Q3 to Q4. Focusing a little bit on Q4, we feel very good about it overall, for the release schedule we have. Lizzo, who already has a number one hit, has an album coming out; Panic at the Disco, Paulo Londra, and several other significant international artists are in Q4 release schedule, which is looking very promising. The close of several emerging streaming deals, including the Meta deal, will also serve as a positive influence. We mentioned that there were several legal settlements in Q4 that will bring approximately $25 million of OIBDA into Q4. There are several positive developments in Q4 that we expect to impact our results throughout the remainder of the quarter. Regarding the ad-supported slowdown, part of it was the broader market. You can look at the results of some of our largest distributors and observe the rate at which they slowed down, which affects our business. But again, our job is to maximize the performance of that area with releases and great marketing campaigns. We’re thrilled that the largest part of our subscription revenue continues to grow solidly in double digits.

Steve Cooper, CEO

The CEO transition is straightforward. We decided to announce a change with a long lead time, allowing us to conduct a thorough, thoughtful, broad search with a diverse group of candidates. I’m actively involved in that process. I expect that there will be an overlap with respect to the transition. We just want to ensure that it’s well thought out, orderly, and that we continue focusing on business without missing a beat.

Operator, Operator

Thank you. One moment for our next question. Our next question comes from Kutgun Maral with RBC. Your line is open.

Kutgun Maral, Analyst

Good morning, and thanks for taking the questions. First, given the divergent trends across subscription, ad-supported, and emerging platforms, can you just update us on the mix of the three categories across either recorded music or your overall digital revenue? Eric, I think you said earlier that advertising is about mid to high teens, but I wanted to confirm and maybe get a bit more color on emerging platforms as well. How much was emerging platform revenue in the quarter? And just lastly, you were asked earlier about the timing of emerging platform renewals. Emerging platform revenue and growth had decelerated over the last year because we’re in a lull of activity with the Meta deal as we move forward into fiscal '23. Are you entering a new cycle of renewals that could help accelerate the streaming revenue growth line? Thanks.

Steve Cooper, CEO

On streaming, the rough mix of the components is subscriber ad support and emerging, roughly 70%, 20%, 10%. Ad-supported is in the very high teens with emerging at approximately 10%. There are minor categories in there like digital radio, but those are relatively small compared to the larger pie. Regarding emerging streaming and the growth components, there are several factors. The renewals are a meaningful part when you have a few deals that have become sizable; that becomes significant. We don’t talk specifically about the timing of individual deal renewals. Meta is a meaningful one for us typically done on two to three-year agreements. We had a round of renewals roughly a year ago reflected in our Q3 '21 results. There will be some deals that come up in '23. It’s not just about renewals; it’s about new vectors of growth. We’re looking at areas like Web-3 and NFTs, and the ability to build interactive communities comes with huge potential. The platforms and products that develop sustainable business models exciting fans and monetize connections between fans and artists will be essential. We’re working closely with partners and have made deals with top-tier companies for NFTs and community engagement. We expect to see new and exciting growth areas in the forthcoming years.

Operator, Operator

One moment before our next question. Our next question comes from Matthew Thornton with Truist. Your line is open.

Matthew Thornton, Analyst

Must be a busy morning. I didn’t think I would get a second question in here. Eric, is the right way to think about streaming growth just to put a fine point on this. You guys reported 9.2% constant currency relative to DSP items. You have some Russian headwind; you had some slight slippage that you talked about, and then probably most pronounced you have the ad-supported pressure. Is it those three items that kind of bridge you up into that healthy double-digit growth? I want to ensure I’m understanding that correctly. And then maybe one for Steve. Steve, in this tougher macro and higher interest rates, how do you think about deal activity whether it’s small or large?

Steve Cooper, CEO

With a disciplined approach remaining our focal point, I expect our activity to continue being quite active.

Operator, Operator

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

Ben Swinburne, Analyst

Hello, this is Ben. Can you hear me?

Steve Cooper, CEO

We can hear you, Ben.

Ben Swinburne, Analyst

Hey, guys. I didn’t hear the last eight minutes. So this could be repetitive. I apologize. I was hearing nothing. But anyway, Eric, is there any way to help us think about currency in the fourth quarter as it relates to revenue and also margin? I think there’s a similar mismatch on OpEx and revenue on the currency front we should be thinking about. You mentioned 50% to 60% cash flow conversion. I don’t think you’re going to be there this year just based on the nine months. I know you said strong Q4, but do you think 2023 could be back in that zone? And then I know we talked about it a lot already on the emerging streaming side. But part of the attraction to your business and your stock is the idea that over time, there’s more consumption of music, which drives more revenue for your company. What’s your visibility in this emerging streaming bucket overall? I know there are a lot of different deals. But as you look out over the next year or two, does that start to play out more obviously for all of us as we see consumption growth? Or is it still too early to make that call? Thank you.

Eric Levin, CFO

So on currency, looking at Q4, I think nothing indicates there will be much difference in terms of headwinds in Q4. It’s still going to have a similar headwind as we convert to a strengthening dollar. The margin impact continues to flow through pretty organically. We have a significant amount of costs in local currencies, but international repertoire incurs costs around the globe. We will continue to manage our currency impact as we have hedged against the U.S. dollar against the nine most major currencies that we work with. We’ll keep assessing the cash basis related to currency. In relation to the conversion rate, our first half of '22 had significant spend on A&R. We see the latter half of the year being more moderate in investments, with an improvement in working capital as well that leads to a more favorable cash flow conversion rate. We aim to hit the low end of our cash conversion range, but we're optimistic about cash generation due to favorable trends. Regarding emerging streaming, it’s noted that this area is expanding. The number of licenses, now in the hundreds, is consistently growing at a fair rate. We have already broached the Meta deal and other deals that contribute to the Q4 growth. New categories are becoming influential, and we anticipate emerging streaming will continue to expand over the coming years.

Operator, Operator

And I’m not showing any further questions at this time. I’ll turn the call over to Steve Cooper for any closing remarks.

Steve Cooper, CEO

Again, thanks everyone for joining us. We appreciate your ongoing interest in the support of Warner Music. I hope everybody has a wonderful wrap up to this summer and a very safe Labor Day. Stay well, everyone. We’ll talk to you soon. Bye-bye.

Operator, Operator

Ladies and gentlemen, this concludes today’s presentation. You may now disconnect and have a wonderful day.