Welcome to Warner Music Group's First Quarter Earnings Call for the period ended December 31, 2018. 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. [Operator Instructions] Now I'd like to turn today's call over to your host, Mr. James Steven, Executive Vice President and Chief Communications Officer. You may begin.

Good morning, everyone. Welcome to Warner Music Group's Fiscal First Quarter Ended December 31, 2018, Conference Call. Both our earnings press release and the Form 10-Q we filed this morning are available on our website. Today, our CEO, Steve Cooper, will update you on our business performance and strategy. Our Executive Vice President and CFO, Eric Levin, will discuss our financial condition and results. And then we'll take your questions. Before Steve's comments, let me remind you that this communication includes forward-looking statements that reflect the current views of Warner Music Group about future events and financial performance. 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 that 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 earnings press release, our Form 10-Q and Form 10-K and other SEC filings. We plan to present certain non-GAAP results during this conference call. We have provided schedules reconciling these results to our GAAP results in our earnings press release posted on our website. Also, please note that all revenue figures and comparisons discussed today will be presented in constant currency, unless otherwise noted. With that, I'll turn it over to Steve.

Good morning, everyone, and thanks for joining us. It's been only a short while since we last spoke in December, so I'll keep my comments brief. I'm pleased to report that we're off to a great start for fiscal '19. I'll give our results on an all-in basis, which includes the impacts of our recent M&A activities and our adoption of a new revenue recognition standard. Eric will walk you through the details in a few minutes. In the first quarter, we grew total revenue by 18%, digital revenue by 20% and OIBDA by 39%. According to trade sources, the recorded music industry's rebound continues. For calendar '18, audio consumption in the U.S. rose 23%, more than double the rate of calendar '17. Streaming was the main driver, up 49%. The U.K. grew 6%, with streaming up 34%. It's encouraging to see this sustained level of growth in these 2 maturing streaming markets. We expect to see similar trends across other markets as more data is released over the coming weeks. Streaming platforms continue to expand their product offerings and their geographical footprints. Examples include new voice features from Pandora and Amazon, a new subscription service from Mixcloud and Spotify's launch in the Middle East and North Africa. Notwithstanding the expansion of products and services, there is a critically important point to be made about streaming. Our artists and songwriters create music that has meaningful and long-lasting value. We're absolutely committed to enhancing that value, and as such, we're very focused on reversing the trend of falling ARPU. In our view, the value of music should always be treated as independent from the choices that streaming platforms make about the pricing of their services and their customer acquisition strategies. Our substantial investments in our artists and songwriters continue to fuel…

Thank you, Steve, and good morning, everyone. Our first quarter results are evidence that our long-term strategy is paying off. Revenue rose 18% in constant currency and 15% on an as-reported basis. As Steve mentioned, there are 2 factors which affected the numbers which I'd like to call out. First, the net impact of M&A, which was about 6 percentage points. The revenue increase includes $76 million related to the acquisition of EMP, which was partially offset by an $18 million decrease related to concert promotion divestitures. Second, the impact of adopting the new revenue recognition standard, ASC 606, which contributed $20 million or about 2 percentage points of revenue growth on a consolidated basis. Adjusting for these items, our total Q1 revenue would have been up closer to 10%. From an OIBDA perspective, certain adjustments are necessary to make year-over-year comparisons more meaningful. The details are in our press release. But in the quarter, we had $9 million of onetime expenses compared to $13 million in the prior year quarter. These expenses are for restructuring and other related costs as we optimize the business and for our L.A. office consolidation. Q1 adjusted OIBDA rose 33% to $224 million. Further adjusting for the impact of ASC 606 and M&A, adjusted OIBDA would still have been up double digits, driven by revenue growth and revenue mix. Adjusted OIBDA margin rose 2.5 percentage points to 18.6%. Adjusting for the impact of 606 and M&A, margin rose about 2 percentage points. Variable compensation expense associated with our long-term incentive plan was $17 million compared with $23 million in the prior year quarter. We continue to expect the cash outlay for the long-term incentive plan to be in the range of $200 million, the majority now expected to be spread over fiscal '20 and…

[Operator Instructions] Your first question comes from the line of David Farber with Crédit Suisse.

I had a couple questions. First, can you just perhaps talk about the performance of EMP, how that's going? And then if you could break apart some of the same-store business, if there is anything in the quarter, that will be helpful. And then I had a couple follow-ups.

Sure. Just addressing EMP, EMP had a very strong quarter. Consistent with our expectations for this holiday season, which is the -- their biggest season of the year, revenue was $76 million, earnings were consistent with what you'd expect, in the range of high single digits, low 10%, so a very solid performance first quarter with our business. And we're very pleased with how that's up and running.

Got it. And the low -- the 10% is the margin number?

Yes. An OIBDA margin number, yes.

Got it. Okay. That's helpful. And then on the accounting change, you mentioned in the prepared that there will be some lumpiness. What's driving that predominantly?

So large -- the dominant impact of that is Music Publishing revenue recognition, which was previously on a cash basis, moving to an accrual basis. So as you'll recall, David, in our fiscal Q2 and Q4, this is where the bulk of the revenue was recognized in the past. We would expect that to be smoother now, with revenue in Q1 and Q3 being higher as it moves to an accrual basis, and revenue in Q2 and Q4 should be somewhat lower. But over the full year, we would expect to get to the same place.

Great. Okay. That makes sense. And then 2 quick questions. One is, there's been a good amount of adjustments related to the deferred comp piece as the business continues to perform very well. I guess my question is, do you expect some of that noise to get sort of smoothed out? Is that sort of done at this point? Is it caught up? And then, finally, can you just say again how you envision the dividend amount to be dealt with? Because you mentioned maybe $30 million a quarter, but I wanted to get that right. And then that's it for me. Those are my final 2.

Okay. Thank you, David. So on the dividend, I'll take that first. We expect Q1, Q2 and Q3 dividend to be the same level, which is $31.25 million this year. And then Q4 will be a variable amount that we'll determine at year-end based on our assessment of cash needs to continue to invest in organic growth, potential M&A, and excess cash that we deem beyond that, from cash on hand, we'll evaluate as potential dividends. So we'll look at that process. As far as deferred comp, as we said, we expect the bulk of that to be paid out in fiscal '20 and '21, in roughly the $200 million range is what we're seeing today. And thereafter, we'd expect that it's going to start to moderate. However, the one thing I would say is that the plan is tied to both operating performance and valuation of the business, so as those move, that number could adjust.

And your next question comes from the line of Davis Hebert with Wells Fargo Securities.

I wanted to ask about working capital. You mentioned that was a negative hit to free cash flow this quarter. But how should we be modeling that going forward, especially as you continue on this growth path?

In general, working capital has been pretty neutral here. This quarter, we had one fairly significant item, which is, as you know, we sold our Spotify shares last year, and the payment of those royalties is coming through this quarter. But other than that, working capital is going to flow based on timing of payments and receipts. And our fiscal Q1 is our largest physical quarter, and so receivables tend to be collected in fiscal Q2. So there is an ebb and flow throughout the year, but over the full year, we'd expect working capital to be pretty neutral.

Okay. That's helpful. And you called out some of the accounting impact to the licensing revenue piece, but it was still down year-over-year. And I think you had mentioned maybe some timing issues. But if we're looking at like a forward 12-month view, I mean, would you expect that to continue to show year-over-year growth?

Licensing revenue? Moderate growth, I think, would be fair. Yes. I think I would say moderate growth.

Okay. That's helpful. And then I have a couple of big-picture questions. The last couple of acquisitions you've made, I guess, have been a little bit outside of your traditional business. Can you kind of give us a sense for what your M&A philosophy is at this point in the cycle?

So I would -- Davis, good question. I would say, first of all, we continue to look at more what you would describe as traditional deals that we've done in the past, music catalogs, music labels, et cetera. We continue to evaluate those. If they're in geographies that are strategic, growing the areas that are appropriately priced and will get a return, we'll continue to look at those. In 2017, we acquired Spinnin', which has been a very successful acquisition. Last year, it was largely UPROXX and EMP. Those give us real commercial capabilities, the ability to reach music fans directly and connect with them, the ability to have some influence and cultural influence there and also generate profits and returns on investments. So we'll continue to look at both. We'll continue to look at things that continue to expand our reach to connect with audience and markets through commercial capabilities. And we'll continue to look at acquiring music rights as well. The deals that we do will be based on ones that are fairly priced and we're confident we can get a return. So it's really all about expanding our scope and our reach through both of those areas.

Okay. And last big-picture question, maybe for Stephen. How would you describe the competitive moat at this point in the ecosystem, where there is, I guess, some chatter around streaming services trying to have direct relationships with artists, trying to focus on royalty arbitrage or royalty cost reduction? How would you view the label's position and competitive moat from that perspective?

Well, I think that as the streaming services evolved or as they continue to evolve, we should expect to see that they will utilize sources of music outside of the majors in the hopes of lowering their margin. We have an expectation, obviously, that the playing field will always be even and that they will not utilize their ability to direct music through playlisting that is -- disadvantages us. We think that it's also likely that they will continue to look to direct-sign artists, which started with exclusives, and you can imagine them taking that another step or 2. But it's important to remember that they are not organized to create value for artists. They're not organized to create artists' careers. If you look at what we invest in our artists' careers in A&R marketing and promotion, it is a meaningful, very meaningful high-9 or low-10 figure number. And we do that not to promote a track, we do that to build careers. So I would expect, Davis, that we're going to constantly see some nipping around the fringes. I think we'll continue to see streaming services try to move to lower-margin products. Again, as I said, presumably, the playing field will be even and they will not steer music, which I'm sure you've seen complaints of already, where music is popping up in people's playlists and they don't know how it got there. But most importantly, our focus is on artists and their music, not distribution and not other products like podcasts and TV programs and chat rooms and so on. So I think we'll be able to continue to compete effectively in the environment long-term, regardless of the left and the right turns that the streaming services choose to make.

And we have no further questions. At this time, we'll turn the call over to Steve Cooper for closing remarks.

Thanks for your time, everyone, and pray for the end of winter. And we'll talk to you in a few months. Bye-bye.

And this concludes today's conference call. You may now disconnect.