Sony has rejected Third Point’s proposal that it spinoff as much as 20% of its studio and other entertainment assets, saying that a “rights or public offering is not consistent with the company’s strategy for achieving sustained growth in profitability and shareholder value.”
Sony CEO Kazuo Hirai said in a four-page letter to Third Point’s Daniel Loeb that its Board of Directors “unanimously concluded that continuing to own 100% of our entertainment business is the best path forward and is integral to Sony’s strategy.”
Addressing concerns of Loeb that the performance of the entertainment assets are obscured by the overall company results, Sony said that it would increase disclosure of its entertainment business holdings, and said that it was in the midst of boosting profits in its film division. But he said that one of the rationales for spinning off the unit — to raise capital — could be done in other ways.
Hirai said that the additional disclosures would be made in the second quarter of its current fiscal year, and would be for certain categories within Sony Pictures and Sony Music, along with information so investors to calculate adjusted earnings before interest, taxes, depreciation and amortization, or EBITDA.
Reports surfaced last week that Sony was poised to reject Loeb’s proposal.
Loeb personally delivered a letter to Hirai in May, calling for such a spinoff as a way of boosting transparency, improving performance and margins in the entertainment division. Last week, Loeb stepped up his criticisms of Sony Pictures Entertainment chairman and CEO Michael Lynton and co-chairman Amy Pascal, calling into question their choices of recent box office misfires “After Earth” and “White House Down,” and calling the studio itself “underexposed, undervalued and underperforming.”
A spokeswoman for Third Point did not immediately respond to a request for comment. With a reputation as an activist investor, Loeb has been initially turned back by boards of companies like Yahoo, only to press forward and, in the case of Yahoo, succeed in getting the company to overhaul their operations. Third Point owns almost 7% of Sony stock.
That Sony even considered the proposal, rather than rejecting it out of hand, was viewed by some analysts as a sign of the changing business culture in Tokyo, albeit there is not the same tradition of brash, activist investors as there is in the United States.
In his letter, Hirai wrote that “many of your observations regarding our entertainment businesses, and in particular [Sony Pictures], are not consistent with the businesses that I know.”
The rejection of Third Point’s proposal is not a huge surprise, even if it proved unsettling to the studio. In an interview with Deadline on Friday, actor George Clooney blasted Loeb as “dangerous to our industry” because of his bottom line approach to a creative and cyclical business. (Third Point is a minority stakeholder in Variety Media, along with majority owner Penske Media Corporation, which also owns Deadline.)
In his letter, Hirai wrote that Sony Pictures and Sony Music “are critical elements of our strategy and fundamental drivers of Sony’s growth for the future. We expect that our strategy will result in increasing profitability through investing in high-growth, high-margin businesses, particularly in television production and international networks.” He cited investments in its global television business and the growth of international cable networks, more than doubling in revenue over the past five years.
Loeb had focused particular criticism on the film studio, claiming that it was not achieving the margins of other studios, and even said that if entertainment assets “achieved peer margins,” EBITDA would “increase nearly $800 million to just over $2 billion.”
Hirai, however, said that they were “very focused on increasing margins” in its feature division, and that they were “reducing costs.”
“While we believe our theatrical marketing costs have been and continue to be in line with our competitors, and that our margins are generally comparable to some other major studios, we recognize that our margins should be higher,” Hirai wrote. He cited efforts to “tighten controls and reduce costs,” and said that they have deployed “an even more exacting ‘green light’ process for film production, focusing more intensively on overall slate profitability as well as per film returns-on-investment.”
He also defended the compensation structure in the movie and music divisions, saying that it is linked to financial performance. Another argument made by Third Point was that a spinoff would free up capital, allowing Sony to invest in other businesses. But Hirai said that “should we require capital, or in the event of unanticipated events, our priority would be to raise it without selling a portion of an asset fundamental to our growth strategy, and without unnecessarily burdening Sony’s ability to execute our business strategy for both entertainment and electronics.”
Loeb also was critical of Sony for not taking greater advantage of synergies across divisions, but Hirai wrote that collaboration across divisions was increasing, and “a rights or public offering would put obstacles in our strategic path, creating the need for otherwise unnecessary and burdensome arm’s length intercompany relationships and for consideration of minority shareholder rights, thereby limiting our control and strategic flexibility.”
A copy of Hirai’s letter is here.