Contract Blues...

[From New York Times]

Bertelsmann Encounters Some Turbulence

FRANKFURT, Sept. 3 - A day after the French media conglomerate Vivendi Universal struck a deal with General Electric to exit the global entertainment business, Europe's other big media empire, Bertelsmann of Germany, demonstrated the costs of staying in that business.

The company reported a 10 percent decline in sales, and a 91 percent drop in net income in the first half of this year, as its music and book-publishing properties in the United States faltered in a harsh market.

The Bertelsmann Music Group, in particular, hit rough water, reporting operating losses of 117 million euros ($126 million) in the first half, nearly triple its losses in the period last year.

The music group's dismal numbers are a fresh headache for Bertelsmann's top executives in GŁtersloh, who are negotiating with AOL Time Warner to merge the music business with the Warner Music Group.

Executives at both companies say the talks have bogged down over how to value their respective assets. In its first formal offer in late August, AOL proposed a joint venture that would be 60 percent owned by Warner. Bertelsmann, seeking a 50-50 venture, balked at that proposal, according to these people..

While BMG, as the music division is known, is smaller than Warner in sales, it arguably has a higher profit margin on its sales, which could be a highly useful negotiating lever for Bertelsmann. Today's results, however, may weaken its bargaining position, industry executives said.

BMG attributed the red ink to a combination of delayed album releases, write-offs of costly recording contracts with Whitney Houston and other stars, and the industry's broader battle against piracy.

"We're in a situation where there are a number of issues working against us, and piracy is just one of them," said Michael Smellie, BMG's chief operating officer. "They are having a devastating effect."

The turmoil in the music industry is a major reason Vivendi did not auction off its Universal Music Group, along with the film studio, cable television networks and theme parks. The company felt that it could not command a decent price for the unit.

The talks between BMG and Warner, already fluid, could become more tangled with rumors of interest by another major record company, EMI, in striking a deal with Warner.

Industry executives said a bid by EMI, which has circled several music companies, was a long shot. They noted that Bertelsmann and Warner had agreed to extend for several weeks an agreement to negotiate with each other exclusively.

Some industry executives regard a joint venture between BMG and Warner as a way for Bertelsmann to extricate itself from music. The company's chairman, Gunter Thielen, insists that he remains committed.

"We believe music will recover in two to three years," he said in an interview in July. "There will be music in 50 years."

Still, the view from Germany, where piracy is rampant, is unremittingly bleak. Mr. Smellie noted that the German recording industry's sales plunged 21.5 percent in the first half of this year. Sales fell 10.5 percent worldwide, while they fell 7.8 percent in North America.

Nearly half of BMG's losses resulted from write-downs of recording contracts of artists signed to one of its labels, Arista. Those contracts had to be renegotiated after the departure of Arista's founder, Clive Davis, in 2000. Mr. Smellie said the slow sales of recent albums by these performers, including Whitney Houston and Toni Braxton, proved the deals were too generous.

BMG was also hobbled by a delay in the release of albums by popular bands like Outkast and the Strokes. Mr. Smellie said those albums, plus 20 other new releases from performers like Britney Spears and Rod Stewart, would help BMG recover in the second half of this year.
He said BMG was confident of meeting its goal of matching 2002's operating profit of $125 million.

Bertelsmann's other major American division, Random House, is also counting on a sales surge to lift it out of a hole. Its sales fell 26 percent in the first half, to 747 million euros ($805 million), compared with 2002, while operating profits shrank 57 percent, to 29 million euros ($31 million).

In a letter to employees, Peter W. Olson, the Random House chairman, said the results were pulled down by "currency exchange rate fluctuations, ongoing difficult retail marketplace conditions, and the weak economy."

Mr. Olson said some Random House imprints delayed new books to spare them the hostile retail market. In the fall, when book sales traditionally crest, Random House plans to publish hardcover fiction by John Grisham, Toni Morrison and Danielle Steel, and a memoir by the singer Sting.

In his memo, Mr. Olson said he was confident that Random House would have a "good full fiscal year," though he stopped short of saying the company would meet its targets.

Mr. Thielen has not backed off his promise that the parent company will generate more operating profit this year than it did last year. In the first half, it reported net income of 142 million euros ($153 million), on sales of 7..8 billion euros ($8.5 billion).

To do that, Bertelsmann will depend heavily on its European television group, RTL, which had a 44 percent increase in profit in the first half. RTL now accounts for the bulk of the parent company's profit.

Bertelsmann's results confirm what people inside and outside the company have been saying since its boardroom shake-up last summer: The United States has become the weak link in a far-flung empire.

Source: NEW YORK TIMES (Online Edition)



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