(Bloomberg) -- Stephen Marley comes from music royalty. Sean Garrett has written and produced smash hits for Beyoncé, Usher and Ciara.
Even so, when they and hundreds of lesser-known names in the world of hip-hop and rap needed cash, one Wall Street figure emerged as an unlikely source behind the financing: hedge-fund titan Jamie Dinan.
In a few short years, Sound Royalties, a West Palm Beach firm started within a unit of Dinan’s York Capital Management, has become ubiquitous in the music industry. Proudly billing itself as “artist friendly,” it offers cash advances to musicians, who often have to tide themselves over between royalty checks that can take months to arrive. A big selling point is that unlike a loan, it’s quick and easy. No credit checks or hassling with banks. Just your money, fast.
There’s just one catch. While Sound Royalties doesn’t disclose how much it earns from cash advances, its fees are usually far higher than the “industry-leading” 4 percent rate it advertises online, according to court filings and interviews with ex-employees and industry insiders. Those who have reviewed the contracts say they’re hard for non-financial types to understand, and some artists can end up paying rates of 30 percent or more. And because they’re structured as advances instead of loans, state usury laws don’t apply.
Not a Loan
“That’s why they call it a fee,” says Charles Koppelman, a former financial adviser to the late Michael Jackson. He now heads C.A.K. Entertainment, which counts Jennifer Lopez and Nicki Minaj as clients. “What they are taking is more than the law would allow if it were treated as a loan.”
It’s not hard to see why demand for royalty financing has jumped. With the possible exception of bona fide superstars, people in the music world regularly live paycheck-to-paycheck for months at a time. Many face trading away their rights to fund their careers.
And Wall Street’s interest is part of a growing trend, says Diane Standaert, director of state policy at the Center for Responsible Lending. More and more, hedge funds and private equity firms are looking to consumer finance to reap big profits, whether it’s by charging sky-high rates, lobbying to roll back regulations or exploiting a hodgepodge of state laws.
“We certainly haven’t seen them changing the predatory nature of these practices,” Standaert says.
Granted, consumer finance by all accounts contributes just a fraction of the profits for these Wall Street firms. Nevertheless, outfits like Sound Royalties are primed for growth. After starting a $10 million pilot program in 2016, according to Billboard, Sound Royalties said in February 2017 that it would extend at least $100 million of cash advances over the next 24 months. That’s helped bring royalty financing from the fringes into the mainstream.
A spokesman for York and Dinan, who also co-owns the Milwaukee Bucks, declined to comment. Pamela Armstrong, a spokeswoman for Sound Royalties, says the firm fills a need. Its service lets artists get paid without having to cede ownership of their work, which has historically been the case.
“Traditional bank financing is largely unavailable to the creative community,” Armstrong said in a statement. “Sound Royalties proudly provides valuable access to a broad spectrum of customized funding solutions which ensure that creatives retain their copyrights.”
The music industry lends itself to such non-traditional financing. Typically, performers must wait up to nine months to receive royalties. Organizations collecting money on their behalf pay out quarterly.
The type of financing offered by Sound Royalties is a “close-to-last-resort” option for artists often struggling to make ends meet, says Derek Crownover, a Nashville entertainment lawyer who reviewed one contract. Crownover says the terms certainly aren’t the worst he’s seen in his 25 years in the music industry, but they’re emblematic of how tough the business can be. And the high rates can be partly explained by the risk an artist declares bankruptcy.
“This could be ‘artist friendly’ in our world,” he says. “That’s the irony.”
While Sound Royalties has gotten a lot of buzz in the music industry of late, the firm’s Wall Street ties aren’t widely known.
York’s involvement with the niche business of royalty financing can be traced to 2015, when its private equity arm brought in Alex Heiche to help run its structured-settlements firm called Novation Ventures, according to people familiar with its dealings, who asked not to be named because the details aren’t public. Structured settlements, a frequent target of consumer advocates and regulators, offer lump-sum payouts at steep discounts to lottery winners, disability recipients and annuity holders, in return for their ongoing payments.
Heiche, formerly an executive at a rival firm, came up with the idea to start Sound Royalties. With York’s backing, Sound Royalties became a line of business within Novation, the people say. When Novation was sold off in June, Sound Royalties was separated from the unit and wasn’t offered to SuttonPark Capital, which bought Novation, according to a person with knowledge of the sale. York and Sound Royalties declined to discuss their ties or whether Sound Royalties is still backed by York’s private equity arm. Heiche also declined to comment, according to Sound Royalties.
Heiche, the public face of Sound Royalties, is described on the firm’s website as a “strong and outspoken” advocate for those in the creative world who want to be “fairly compensated for their work.” The firm’s website advertises rates starting at 4 percent on advances up to one year.
In practice, however, the firm aggressively pushed clients to take longer deals, at rates far higher than the norm, two of the people say. (Estimates vary, but they range from 5 percent on bank loans for top musicians to 10 to 20 percent for Sound Royalties’ competitors.)
Many say it’s no coincidence. Unlike most rivals, Sound Royalties adopted the structured-settlements model and its complex financing terms. The firm set up its marketing specifically to push five-year contracts, the people say, which are much more costly than industry-standard terms of 12 to 18 months.
The contracts were customized, but it generally worked like this. Sound Royalties projects how much money an artist will make over a set period, say three to seven years. It advances a percentage of that, minus an upfront fee that typically equals 10 percent. She pays back the projected amount over the life of the contract with her royalties, which bypass the artist and are sent directly to Sound Royalties.
If her royalties exceed that amount before the term expires, Sound Royalties pays her back. But if the artist falls short, she could incur additional interest until it’s repaid. The overall cost is rarely spelled out in a way that’s easy to understand. Often times, clients aren’t aware of how expensive it can be.
“They have some complicated deal structures,” says Parviz Omidvar, head of Royalty Advance Funding, a rival firm based in Beverly Hills. “Financial people and hedge fund people might be used to” such terms, he said, “but people in the music world may not be.”
Sound Royalties’ advances, ranging from $5,000 to $10 million, have nevertheless proven to be popular. Backed by York’s deep pockets and, at least until the recent sale, Novation’s large telemarketing team, over 300 people have signed up since mid-2015, state records show. One of them is Aaron Lockhart, a musician who lives in Riviera Beach, Florida, and heard about the firm through a friend. He was matter-of-fact about his high rates and didn’t take issue with Sound Royalties’ terms.
“As a musician, you have bills,” he says. My royalty checks “only get paid quarterly, so sometimes that money runs out.”
Initially, Sound Royalties sought deals tied to pop, rock and country, the most durable genres for producing royalty income, and bigger names, according to three people familiar with the firm. Clients like Larry Weiss, who wrote Glen Campbell’s “Rhinestone Cowboy” and Stephen Marley, a Grammy award-winner and son of Bob Marley, UCC financing statements filed with state regulators show. Now, a large number of clients are in rap and hip-hop, like Ace Hood and Bizzy Crook, the UCC filings show.
Marley, Ace Hood and Bizzy Crook -- whose real names are Antoine McColister and Lazaro Camejo -- didn’t respond to requests for comment.
Weiss says he was “a little careless” in not reviewing the contracts more closely. After taking multiple cash advances, Sound Royalties was soon collecting all his royalty income. Weiss also wound up getting hit with a bigger tax bill than he anticipated.
The firm “didn’t really go into how the structure worked” verbally, he says, referring to how much the financing would actually cost.
Another example shows how costly it can be. Sean Garrett, whose real name is Garrett Hamler, produced and wrote a number of chart-topping hits in the 2000s. Last August, Sound Royalties agreed to advance him $44,852, minus a 10 percent fee, a copy of the contract the firm filed as part of a lawsuit against him showed. It would collect $74,174 over three years, its estimate of what Hamler would earn, with repayment front-loaded into the first year.
Cost of Financing
The overall cost of the financing, in percentage terms, appears nowhere in the 11-page document. Based on a basic interest rate calculator, it comes out to about 28 percent per year. However, the effective APR rises as high as 34 percent because the bulk of the repayment occurs early in the contract term. Depending on how it’s calculated, the cost could be upwards of 50 percent, one industry insider says. (The contract was subsequently amended after it was signed.) Hamler’s attorney, Frederick Dawkins, says his client didn’t want to comment and that Sound Royalties voluntarily dropped its complaint.
These contracts allow “songwriters or artists to get some cash when virtually no one else will give it you,” Crownover says. However, “the negatives are that the rates in some states could be usury if you do the math on it.”
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