Warner's Broken Record

My walls are closing in
Without a sense of confidence, I'm convinced there's just too much pressure to take
I've felt this way before, so insecure

-- "Crawling" by Linkin Park

I know I wasn't the only one surprised to see Warner Music Group (NYSE: WMG  ) file to go public in March. Hoping to price its freshly minted shares as high as $24 each, it would have priced the company at a significant premium to the $2.6 billion paid to Time Warner (NYSE: TWX  ) to acquire the struggling unit just last year.

The prerecorded-music industry hadn't improved that much since then, and there had to be a reason why Time Warner was so anxious to ditch its music label. That deal came shortly after Vivendi (NYSE: V  ) had no problem finding suitors for most of its entertainment properties but was compelled to keep its Universal Music Group division when the offers for that entity ran dry.

So perhaps that's why the stock will make its debut today on a bit of a down note. The company was forced to price its IPO down to $17 a stub. That's where supply and demand were able to come to a firm handshake.

It was a rocky deal even before its rock artists started rocking the boat . Linkin Park, one of Warner's top acts in recent years, blasted the upcoming IPO and demanded to be released from its contract. Whether the band wanted a piece of the action or to simply gain some negotiating leverage, the outburst certainly didn't help Warner's cause. While the company had made the most of its celebrity status -- even P. Diddy attended and represented the company at an investor show in Manhattan -- it's clear that music is still a tough business.

Sure, portable-music devices are all the rage, and online subscription services are providing legal alternatives to the piracy that was crippling the industry. But that's not enough to make fossil fuel out of these dinosaurs. Digital-music sales are still a drop in the bucket compared with what the record companies used to make on CD sales. When the market peaked in 2000, 942 million CDs were sold stateside, ringing up $13.2 billion in sales.

You also have satellite-radio companies like Sirius (Nasdaq: SIRI  ) and XM Satellite Radio (Nasdaq: XMSR  ) energizing music fans by providing them a wider range of music genres. But that hasn't translated into a mother lode of CD sales.

Yes, digital music offers some significant advantages over the traditional disc format for the record labels. No inventory. No pressing costs. No cutout returns. Yet despite painful layoffs, the major music companies still need to get leaner. The amount of distribution that's now virtual is leveling the marketing playing field, too. That may very well be giving musical acts -- like Linkin Park -- the motivation to cut the labels out completely and deal directly with the consumer.

That's why investors have every right to be tenuous when it comes to buying into the music industry these days. In the words of Warner recording artist Kid Rock, "I was born at night, but not last night, baby."

Some more words to live by:

Longtime Fool contributor Rick Munarriz thinks that we are living in a material world and Warner Music Group is a material girl. Yes, Madonna is also part of the Warner Music family. He does not own shares in any of the companies mentioned in this story.The Fool has a disclosure policy. Rick is also part of theRule Breakersnewsletter research team, seeking out tomorrow's ultimate growth stocks a day early.


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