Muzak's Unpaid Royalties Roil Apollo and GSO's Takeover Plan

(Bloomberg) -- Way to kill the mood.

A deal by Mood Media Corp. with Apollo Global Management and GSO Capital Partners to ease its debt burden took an added twist after a U.S. judge ruled last week that the company's Muzak unit might owe millions more in royalties to artists for the tunes it plays.

A federal appeals court sided on April 25 with SoundExchange Inc., a royalties collector that claimed Muzak had been underpaying since May 2014 on channels for satellite and cable television subscribers. The underpayment and late fees could cost more than $10 million, along with a higher royalty rate in the future, Mood Media said in a statement.

The ruling comes in the middle of Mood Media's campaign to push through a debt swap that would give creditors less than face value and make them wait longer to get paid. It's part of a larger deal that envisions a takeover by Apollo and Blackstone Group's GSO Capital, and the two private equity firms already control enough notes to guarantee the debt swap's approval. But the unexpected back payments and future royalties could upend calculations about whether it's a good deal for holders of the junk-rated securities.

“The higher royalties may make this debt exchange a temporary fix and maybe won't do enough to help the business going forward,” said Jawad Hussain, an analyst at S&P Global Ratings. “We really don't think they can push through price increases to offset that.”

Officials at Mood Media didn't respond to messages seeking comment. Representatives of New York-based Apollo and GSO Capital declined to comment.

Background Music

Mood Media uses copyrighted sound recordings for background music heard in more than 500,000 locations worldwide, including stores, car dealerships, restaurants and call centers, where it's used as hold music. Despite its ubiquity, the company hasn't been consistently profitable for the past decade, and its 2020 bonds fell to almost half their original value in November. They're now at about 75 cents on the dollar, with the yield hovering near 20 percent.

The restructuring plan calls for swapping Mood Media's $350 million of 2020 notes for new debt valued at 50 cents on the dollar, with the maturities extended by seven years, plus some common stock. The interest rate would jump and be paid with a combination of cash and more debt, according to an April 13 statement.

The other key part of the plan calls for funds affiliated with Apollo and GSO Capital to buy up all the common stock for C$0.17 a share, about three times their value last November. The company, incorporated in Canada and headquartered in Austin, Texas, is being restructured under the Canada Business Corporations Act and thus requires court approval, with Mood Media ultimately moving its legal home to the U.S.

S&P deemed the transaction as “tantamount to a default” when it cut Mood Media's corporate rating to CC from CCC+ on April 18. The company plans to formally start the proceedings May 15, and the deal needs two-thirds of the debt voted in favor. But Apollo and GSO control 68 percent of the notes and plan to support the deal, according to the company.

Cash Flow

Before the court decision, the company had been highlighting last year's $2.8 million of free cash flow, reversing deficits from earlier years. Chief Financial Officer Tom Garrett said during a March conference call that the bounty would be used to “bolster balance sheet liquidity” and for growth opportunities. The company is committed to achieving positive cash flow again this year, said Chief Executive Officer Steve Richards, who took the role in 2013 after serving as CEO of Muzak.

Mood Media said in its statement it's still assessing the potential impact of the royalty decision and whether to appeal. The company is scheduled to discuss first-quarter results on May 11. Mood Media did disclose the lawsuit in its 2016 year-end statements, noting that SoundExchange had sued in April 2015, lost the case and was appealing.

"If all of a sudden free cash flow is disappearing because of this litigation and nobody knew about it, then obviously this deal is toast,” said William Bratton, a corporate law professor at the University of Pennsylvania, adding that he's skeptical investors weren't aware of the pending case. “I can't believe that nobody knew about it."

SoundExchange is a nonprofit organization that collects and distributes digital performance royalties to artists and copyright holders, according to its website. “The decision will help SoundExchange continue its efforts to ensure that recording artists and rights owners receive proper compensation,” Chief Executive Officer Michael Huppe said in a statement.

To contact the reporter on this story: Molly Smith in New York at msmith604@bloomberg.net.

To contact the editors responsible for this story: Nikolaj Gammeltoft at ngammeltoft@bloomberg.net, Rick Green, Dan Wilchins