How activist Irenic can amicably build shareholder value at Reservoir Media

Business: Reservoir Media operates a music publishing business, a recorded music business, a management business and a rights management entity in the Middle East. It operates through two segments: Music Publishing and Recorded Music. The Music Publishing segment is involved in the acquisition of interests in music catalogs, from which royalties are earned, as well as signing songwriters to agreements. The Recorded Music segment acquires sound recording catalogs and discoves recording artists, as well as markets, distributes, sells and licenses the music catalogs. Its publishing catalog includes compositions written and performed by Joni Mitchell, The Isley Brothers, Billy Strayhorn, Hoagy Carmichael and John Denver. Its songwriters include Ali Tamposi, Jamie Hartman, Oak Felder and Steph Jones. It represents over 150,000 copyrights and 36,000 master recordings.

On Sept. 30, Irenic announced that it is urging the company to undertake a strategic review and to form a special committee of the board to oversee the review process.

Reservoir Media (“RSVR”) is an award-winning independent music royalty company with a portfolio of over 130,000 copyrights and 36,000 master recordings, focusing primarily on stable music that has remained popular through time, including tracks by Hans Zimmer, Joni Mitchell and John Denver. After 12 years as a private company, RSVR went public in July 2021. It debuted through a merger with special purpose acquisition company Roth CH Acquisition II, whose sponsor Adam Rothstein currently serves as a member of Reservoir’s board. Since then, the company has continued to show year-over year growth, almost doubling its year-over-year gross profit since its first earnings report in March 2021 from $47.39 million to $89.38 million, while earnings before interest, taxes, depreciation, and amortization similarly increased from $33.8 million to $54.4 million. The company’s business model is divided into two main segments: Music Publishing, accounting for 66.41% of total revenue, and Recorded Music, which generates 29.25% of total revenue, both of which of grew 14.74% and 21.66% year over year, respectively. A main source for the company’s revenue is subscription streaming, which as an industry grew by 11.2% in 2023, representing approximately $14 billion in revenue. Streaming and downloading services currently account for approximately 54.17% of Reservoir’s total revenue between the two segments. Despite this promising financial performance, the company has still managed to lose 22.24% of its share price since its SPAC IPO in 2021.

Irenic first reported holding a position in RSVR in their Q3 2023 13F filing, and the firm later filed a 13D on Dec. 20, 2023, when the stock was around $7 per share. On Sept. 30, 2024, Irenic filed a 13D amendment reporting 8.14% beneficial ownership at an average cost of $6.54 per share and announced that it wants the company to undertake a strategic review and consider a potential sale. We are the first to criticize “sell the company” activism as short term, but sometimes it makes sense, and this is one of those situations. Reservoir is not an operating company, as much as a collector of royalties. In this way, their assets work similarly to a bond that pays a coupon. The coupon here is the royalty payments and those payments increase in one of two ways. First, the musician can sell or stream more music and collect more royalties. RSVR’s library primarily consists of mature artists who are not likely to have spikes or dips in their royalty stream at this point, so that is unlikely here. Second, the company will see an increase in royalties without increased streaming as streaming companies increase their fees to end users, which happens regularly. So, Reservoir should have a very stable and predictable growing revenue stream. The thesis for this company going public through a SPAC is that it could use its fully or overvalued SPAC shares to acquire peers that trade at lower multiples, allowing them to have lower capital costs to roll up royalty streams. That was a great idea when SPACs were getting sky-high multiples, but those days are over. Now, the company is only trading at 8- to 9-times net publisher’s share (NPS is a commonly used industry specific metric representing the amount of revenue a music publisher receives from a song minus costs associated with royalties being paid out), while peers are trading in the mid to high teens. As a result, that thesis is blown and there is really no reason for a company like this to have the expenses and transparency of being public without the benefit of lower capital costs.

So now the acquirer becomes the acquiree. Ideally, a strategic buyer who is happy to pay upward of 15-times NPS for this company would enter the picture, which is possible. But RSVR is more likely to be sold to a financial buyer for two reasons. First, the Khosrowshahi family owns 44% of the common stock and Golnar Khosrowshahi is the CEO. It is very unlikely that there would be a transaction in which the family is no longer involved and Khosrowshahi is no longer CEO. Second, she is an excellent CEO in this industry and any financial buyer should be happy to have her at the helm while acquiring additional assets. There is recent precedent for this, too: In July 2024, peer player Hipgnosis was acquired by Blackstone at approximately 18-times NPS. Hipgnosis’s portfolio consisted of 138 catalogs with more than 40,000 songs, notably smaller than Reservoir whose catalogs hold over 130,000 copyrights and 36,000 master recordings. Moreover, currently in addition to the Khosrowshahi family’s 44% stake and Irenic’s 8.14% holding, private equity firm Richmond Hill Investments owns 21.85%. Any combination of these three investors could roll some of their equity into a buyout deal to make it easier and more rewarding for a financial buyer. Richmond Hill’s managing partner Ryan Taylor is on the board of RSVR, and the firm acquired its position when one of its portfolio companies was snapped up by RSVR. We do not think that Richmond Hill is a likely candidate to take Reservoir private.

With the Khosrowshahis’ 44% ownership, any confrontational activism is not an option here, but that is OK because it is not what Irenic is looking for. The firm believes in the management team and sees itself as a good partner for the company as well as a protector of shareholder value.

Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments.