Bertelsmann, EMI Confirm Early-Stage Merger Talks

In its third dramatic move in less than two weeks, Bertelsmann has approached British music giant EMI Group with an offer to combine the two conglomerates.

Both corporations issued statements Friday confirming the merger proposal but indicated that no detailed discussions had taken place on the matter. The two companies also said that there could be no assurance that any transaction would occur as a result of the talks.

Under British law, a public company is required to confirm whether it has been approached by a suitor if its stock price rises more than 10%, analysts said. EMI shares have soared in recent days on speculation of a deal. Friday, the shares jumped 39 cents to $813.99 on the London Stock Exchange. EMI’s U.S. depositary receipt shares rose $1 to $15.25.

Bertelsmann, of Germany, and EMI declined to comment further, but company sources say Bertelsmann Chairman Thomas Middelhoff officially proposed the merger Thursday afternoon at a private meeting in New York with EMI Group Chairman Eric Nicoli.

The proposal came just four days after Middelhoff announced his decision to replace Bertelsmann’s two top music executives and overhaul its entire record division. News of the management shake-up came just five days after Middelhoff stunned the music industry by announcing Bertelsmann’s plan to join forces with the controversial Napster file-sharing service.

Combining Bertelsmann’s music division with EMI would create the world’s second-largest music conglomerate with sales of about $10 billion. In music, Bertelsmann’s Arista and RCA labels release CDs by such stars as OutKast, Whitney Houston, Christina Aguilera and Santana. Adding EMI to its roster would give Bertelsmann access to artists on the Priority and Hollywood-based Capitol labels, including the Beastie Boys, Master P and Frank Sinatra.

EMI has been the subject of takeover speculation for the last seven years. Bertelsmann first approached EMI about a merger six years ago but withdrew its offer after the British giant refused to relinquish control of the company to Bertelsmann’s music management team.

More recently, EMI has been left at the altar by Seagram and then by Time Warner. EMI and Time Warner last month abandoned their plan to join forces in the 11th hour to avoid having the proposal rejected by the European Commission.

That deal fell victim to a policy change in the European Commission. Concerned that further consolidation in the music business will hurt consumers, Mario Monti, the new commissioner in charge of competition policy, objected to the Warner-EMI deal on the grounds that it would reduce the number of record conglomerates from five to four.

It’s unclear how the deal proposed by Bertelsmann, which would create the same result, could overcome such antitrust concerns.

Bertelsmann can also expect significant resistance to the deal from its competitors, who were instrumental in derailing the Warner-EMI merger. As with that merger proposal, executives at competing entertainment companies are likely to line up to file complaints with antitrust regulators overseas and in the U.S. to block the deal.

Even if Bertelsmann can get around such obstacles, it is likely that regulators will force the combined company to sell off its Virgin Records label and a piece of EMI’s distribution operation to allay the European Commission’s antitrust concerns.

Sources say Bertelsmann’s proposal is similar in structure to the merger suggested by Time Warner. Under the agreement, Bertelsmann would pay EMI a control premium of about $1.42 per share to become partners with EMI, company sources say. It is unclear who would retain control over the board of directors, but some sources said Bertelsmann might settle for as little as a 40% interest in the combined company.

To buy EMI outright, it would cost Bertelsmann more than $9 billion based on its current market value, including debt and a premium. Many prospective buyers considered that to be too steep a price tag.

But by imitating the plan devised by Time Warner and using its own existing music assets, Bertelsmann could cut a deal to spend just slightly over $1 billion to get into business with EMI. Plus, the merger would provide Bertelsmann with hundreds of millions of dollars in cost savings by allowing the combined company to integrate business operations and restructure its domestic and international arms, which have been struggling in recent months.