Sing When You're Winning

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EMI had draft plans to sell digital music and combat piracy, but was forced to shelve them just to focus on its core operations. "The company was in such a bad spot in terms of both earnings and capital structure, frankly, we didn't have time to think of anything else," says Rose. Levy's team discovered that the Virgin label wasn't integrated into the business, so essentially two separate music companies were operating within EMI. Record sales were clearly not recovering, either. Indeed, after her Glitter album tanked, EMI had to pay Mariah Carey $28 million to extricate itself from the $80 million contract it had signed with her.

In February 2002, EMI issued another profit warning. Record sales were clearly not recovering. A month later, it announced a restructuring plan to trim $175 million in costs. That process included cutting 1,800 jobs and getting out of the business of manufacturing and distributing CDs. "It was a tough time," Rose says. And it left employee morale shaky.

EMI never flirted with bankruptcy, because its operating cash flow remained strong. Indeed, EMI's share price inched up to $5.30 around the time of the reorganization. But the financial community lost confidence in the music business, and a sell-off commenced. At one point, EMI's shares traded at around $1.30. At its nadir, the market valued the whole of EMI at less than the value of its publishing division alone. "The mood was tense and increasingly dark," says Rose. "We were fearful of losing control of the company. It could have been snapped up on the cheap." A 2000 merger attempt with Warner Music was rejected by the E.U. as anticompetitive. But twice during the later lean years, the companies discussed a tie-up. (And now that their balance sheets are improving, merger speculation is rife again, though Levy says the two companies aren't in talks.) Levy and Rose still believed that the ultimate solution had to come through a digital strategy. In-house consumer research indicated that most people didn't want to break the law, and that music fans would buy music online if the experience was better and easier than the illegal peer-to-peer (P2P) sites. So the company took a huge gamble in November 2002, announcing that EMI would license all of its legally-available music to anyone who would pay its set wholesale prices and meet its terms. And it began encouraging artists to make their music available online. Most have, though a few big names, including the Beatles and Radiohead, remain on the sidelines. By the company's own estimates, it made five times more tracks available in Europe than any other label.

The strategy had some external help. Legal action in 2001 shut down Napster, the P2P service that was the granddaddy of illegal filesharing. Last June, the U.S. Supreme Court unanimously ruled that companies whose software enables the trading of free music can be held liable for theft. Levy says the industry's legal crackdown is "paying off in raising awareness … that stealing music is as bad as any other form of stealing."

But the big breakthrough came from Apple, which finally convinced millions of consumers to pay for downloadable music. Apple's iTunes online music store — launched in 2003 — was easy to navigate and used a simple pricing structure: 99¢ per song; around $10 per album. ITunes downloads have now hit 850 million. "I will be eternally grateful for what Apple and the iPod have done," Kennedy admits. There are now 350 legal music sites online, up from 50 two years ago. Levy predicts that 25% of industry revenues will come from digital music by 2010, and many industry analysts and executives think he's right.

And then, EMI and the industry just got lucky. The unexpected cash cow of the digital era is the ringtone, and its wireless cousins: ringtunes, ringbacks and wallpaper. Last year mobile music sales were more than $400 million globally. EMI's publishing arm — with a catalogue of more than a million songs — is the world's largest, with a market share analysts estimate at around 20%. Last month, EMI Music reached a first-of-its-kind agreement with two royalties collection societies — Britain's mcps-prs Alliance and Germany's gema — to offer its Anglo-American songs under a single, one-stop license to European mobile and online services, rather than on a clunky territory-by-territory basis. And consumers — especially teens — are embracing the new technology with fervor. Ringtune sales of Atlanta rap group Dem Franchize Boyz's single, I Think They Like Me , soared to more than 850,000, when EMI made it available simultaneously with the radio release.