A lion loses its roar

Bertelsmann sells BMG and gives up on the music business – By Thomas Schuler

Europe’s largest media group is morphing into a service provider. Profits from recordings and books are drying up – now the future lies in helping cities run themselves.

Some years ago, Bertelsmann’s then-CEO Thomas Middelhoff offered journalists a bet on a bottle of champagne. He claimed that the Bertelsmann subsidiary BMG (Bertelsmann Music Group) would soon become the world leader. He proudly took guests on tours to the top of the skyscraper in New York’s Times Square, where the BMG boss has his office. All the talk at the time revolved around the synergy between music, television and the Internet. TV talent shows such as “Pop Idol,” “American Idol” or the latter’s German spinoff – programs looking for new and youthful singers – were seen as the wave of the future. Bertelsmann rewarded creators of such formats with “synergy prizes.”

BMG never made it to the top.  Even after the merger with Sony two years ago, the new music giant remained mired in second place  – behind Universal. A far more serious concern was that music no longer generated profits anymore, at least not when it came to compact disc sales. Fans downloaded their favorites for free from the Internet or paid for live concerts. Music accounted for a slim 7.5 percent of Bertelsmann’s 2007 turnover, putting it in last place within the group. It lay far behind television, which took a 30 percent share, and the telecommunications service and publishing division Arvato, with a 25.5 percent share. It was even behind the magazine and books divisions and the Bertelsmann clubs. This explains the company’s decision to sell its music division BMG to Sony for about $900 million (€670 billion).

Hartmut Ostrowski, company CEO since 2007, publicly promised the Mohn family, Bertelsmann’s owners, to increase revenue by 2015 from the current €19 billion to €30 billion. He also said he would raise profits from €1.8 billion to more than €3 billion. But Ostrowski does not see this kind of growth coming from the music division or from the company clubs, which he has also partially sold off. It’s a step he announced several months ago, stating that it was rarely possible to change a lamb into a lion.

Tradition apparently no longer counts for much within Bertelsmann. Owner Reinhard Mohn had started the business of music and book clubs after World War II. He got his start with a book club that required subscribers to buy one recommended book each year. This approach allowed the company to establish expected sales figures and to guarantee that the capacities of the printing plants were properly used. Mohn then applied the same concept to magazines and music. While the magazine venture failed, by 1958, he was successful with music.

Mohn’s real goal was to cooperate with other record companies. But when no one wanted to work with him, he struck out on his own. Bertelsmann’s Ariola label signed big-name German stars such as Peter Alexander, Heintje, Udo Jürgens and Boney M. Beginning in the 1970s, the Arista and RCA labels added international stars including Luciano Pavarotti, Britney Spears, Whitney Houston, Alicia Keys, Christina Aguilera and Justin Timberlake – each of them with album and CD sales that went into the millions.

But now, revenue is falling in double-digit percentages. Selling BMG to Sony was a last-ditch measure, though Sony agreed to manufacture its CDs at Bertelsmann plants for the next six years. Bertelsmann has also held on to the rights of about 200 European artists, and plans to continue the BMG brand from Berlin as a licensing and administrative platform.

Where will the revenue growth come from? The company still has more than €7 billion in debt, liabilities it acquired in 2006 during a buy-back of 25 percent of the company. The sale of BMG aims to spur new investment in the education sector. And Bertelsmann is also establishing itself as a service provider to municipal administrations. A pilot project has begun in the central German city of Würzburg, for instance, where Arvato is establishing a paperless administration. The company’s aim is to save €27 million in staff costs over a period of 10 years. Arvato aims for a €7 million profit and expects future contracts with other communities.

Arvato employs more than half of Bertelsmann’s 100,000 employees. That is where the printing takes place, the pressing of CDs and DVDs, the printing and distribution of educational materials, business forms or instruction manuals. Arvato also runs call centers and Lufthansa’s frequent flyer program.

The market for administrative services alone in Germany is estimated at €20 billion, higher than the entire global music market combined – according to company figures. Within Bertelsmann, there is talk of an “Arvatoization” of the company. Is Europe’s largest media group turning into a service company? Ostrowski denies it but his actions suggest the opposite.

Selling publisher Random House would be a watershed marking the company’s abandonment of the media business. For now, the owners do not want to go that far. But even here Ostrowski made changes by naming Markus Dohle, a confidant of his former employment  with Arvato, as Random House CEO. Dohle made his name as a salesman – now he is in charge of finding a way to sell books in the digital age.

So what kind of change is really afoot? Singer Udo Jürgens used to serenade Reinhard Mohn for his birthday. The supervisory board was the first to hear Whitney Houston’s latest album. And at Berlin’s Rose Ball, Liz Mohn treated her 300 guests to an exclusive performance by singer Shirley Bassey. Bertelsmann parties will likely be less of a star-studded event in the future.