Time for Sony to face the music

Sony is on a roll. No, not the electronics division you once bought your Walkman, PlayStation and Bravia from. That – with help from acts of God and a strong yen - has just dragged the group to a record $5.7bn annual net loss and launched another wave of cost-cutting in its latest search for a turnround.

But hidden by the electronics horror story, the results show Sony is making $2.5bn in operating profits from financial services, music and movies.

Its recorded music company is gaining market share with acts from Adele to boy band One Direction, and has a lock on TV talent shows through its deal with Simon Cowell.

Sony ATV, its publishing venture with Michael Jackson’s estate, is close to sealing a $2.2bn consortium bid for EMI Music Publishing that will make it the largest in the world by revenues.

And Sony Pictures, the TV and film business behind the TV series Breaking Bad and The Smurfs, is about to release the latest instalments in the dependable Spider-Man, Men In Black and James Bond franchises.

As Kazuo Hirai puts his strategy in place after taking over as chief executive from Sir Howard Stringer, investors seem not to have noticed. Shares this week hit their lowest level since 1980, the year the Walkman hit the US.

Sony’s market capitalisation of only $14bn is a sad 3 per cent of Apple’s valuation, and far behind that of studio owners such as Walt Disney, News Corp, Time Warner or Viacom.

A sum-of-the-parts valuation makes this look astonishing. Looking at the prices paid last year for the smaller EMI ($4.1bn) and Warner Music ($3.3bn), Sony’s music assets alone could be worth $5bn or more.

Last year, Sony’s music businesses had revenues of $5.4bn and operating income of $450m. Adele, cost-cutting and the EMI deal should keep profits flat this year despite the absence of 2011’s one-off gains.

Sony Pictures, with 2011 revenues of $8bn and operating income of $416m, is predicting higher profits from Spiderman 3, Men In Black 3 and Skyfall, the new Bond film.

If ever Sony wanted to unlock its entertainment assets’ value, this looks a good year to do so. Combined, they could bring in $10bn or more. The problem is that break-up valuations only drive share prices if investors believe a break-up is likely. In Sony’s case, they are right not to.

Nervous US staff watching a Japanese CEO take over from a Welsh-American are whispering about the chances of a spin-off, but speculation about splitting Sony is not new, and investors would be rash to bet on it happening soon.

For one thing, Mr Hirai – who, remember, came from Sony’s music business - has bigger problems to focus on. Its TV business has lost money for eight years.

Sony expected to make a Y60bn net profit last year, before earthquakes, hacker attacks and other nightmares struck, and the market will judge Mr Hirai by whether he can keep his pledge to restore its electronics arm to profit.

His focus is on three promising areas - video games, mobile phones and digital imaging products - but it is not yet clear that this will guarantee a string of blockbuster products.

You can understand why Mr Hirai might be reluctant to sell profitable entertainment assets and bet Sony’s future on being a Japanese electronics company, with high costs, an uncompetitive currency and a culture that is neither entrepreneurial enough nor scared enough to change fast.

With $11bn of cash and only $9bn of long-term debt, Sony also does not need the money, not least because there is not much to buy. A deal with another Japanese electronics company might offer savings, but Sony knows how hard it is to cut costs in Japan.

Yet Sony has not proven that the benefits of owning content businesses outweigh its conglomerate discount. Apple did not – despite occasional approaches to record labels – achieve its success by owning content companies.

Spinning off Sony’s entertainment business is easier said than done. Hit-and-miss music and movie groups have not fared well as standalone quoted companies. As for a sale, bankers can make the case for a deal with CBS or Discovery Communications. A Sony split could fit the mood of a sector where analysts speculate about a Vivendi break-up, but media M&A activity has been weak since Comcast bought most of NBC Universal.

Sony probably won’t split off its entertainment assets. But unless it can convince investors of their value or show rapid evidence of an electronics turnround, it should. Even if head office has no use for the cash, investors might like it back.

Andrew Edgecliffe-Johnson is the FT’s Media Editor