Only one musical ego can come out on top

Mr Bronfman should now dedicate his masterpiece to the shareholders of EMI. An almighty tug of war is going on between his company and its British rival, the fourth- and third-largest music groups in the world respectively.

EMI reignited the long-running takeover dance in May by making an unsuccessful bid for Warner. But last week, EMI, whose stable of artists include Coldplay, revealed it had rejected a 320p-a-share counterbid from Warner, valuing the British company at £2.5bn. Suddenly, EMI, which has also unsuccessfully upped its bid for its US rival in the past fortnight, is looking vulnerable to being gobbled up by the very company it is seeking to buy. (Warner's bid for EMI is known as a Pac-Man defence in the City, after the computer game where the monster you were chasing abruptly turns and eats you.)

The outcome will be fascinating. Both companies are dominated by huge egos, an occupational hazard in the music industry. Neither Mr Bronfman, whose family co-founded the Seagram drinks empire, nor his opposite number at EMI, chairman Eric Nicoli, will give up without a fight. Hostilities have ceased for the moment as a brief interlude of phoney war ensues: bankers and City spin-doctors acting for both sides are frantically trying to convince the market that their clients deserve to be the predator, rather than the prey. The City is divided on which will prevail. But all are agreed on one point: a deal will be done. An estimated £200m annual cost savings are on offer, and combining the companies will allow them to close the gap on the top two, Universal Music Group and Sony BMG. So the only question is, who will buy who?

Simon Wallis from stockbroker Collins Stewart says it's a hard one to call. EMI shares closed at 303p on Friday, a long way below Warner's rejected 320p-a-share offer. After the shock revelation on Wednesday of Warner's counterbid, 85 million (over 10 per cent) of the British company's shares were snapped up, mostly by hedge funds willing to bet that the US company will come back with a higher offer. Other investors are clearly less certain and prefer to sell out while they have the chance.

But Mr Wallis points to two reasons why Warner is more likely to buy EMI, rather than the other way around. For one, Warner is mostly owned by private equity groups (only about a quarter of the company's shares are quoted). "EMI shareholders may be more likely to take the money and run," he says. "They don't have such long-term horizons as venture capitalists."

The other factor is that Warner's Mr Bronfman may want the deal more, he says. As demonstrated by his love song "To Love You More" (others include "Whisper in the Dark", which he wrote for Dionne Warwick in the 1970s to thank her for introducing him to his first wife), the music industry is more than a business to him. "Eric Nicoli, who is not a music man, may be more pragmatic," Mr Wallis adds.

Emotional considerations aside, opinion is divided on the financial health of the music industry - and that includes EMI and Warner, which boasts Madonna on its roster. Both earn money by selling the music made by contracted artists. Their publishing divisions also earn money through royalties every time their contracted songwriters' songs get played. The whole business is based on companies' copyright being upheld.

The downloading of music from the internet - illegally and legally - to computers or mobile phones, has transformed the industry. In Europe and the US, initial fears that downloading would destroy the industry have receded as illegal sites have been shut down and replaced by suppliers such as iTunes. But it is not clear if this trend will be followed elsewhere in the world, particularly in countries where the application of the law may be less thorough. For EMI, with around a quarter of its revenues coming from Asia and Latin America last year, it is crucial that downloading in these regions follow the Western, legal model. The operation of sites of dubious legality, such as allmymp3.com, which is based in Russia and allows users to access albums for about 10p, does not bode well.

But analysts say these risks are already factored into companies' share prices. On a price/ earnings ratio, EMI is valued at 15 times earnings. But five years ago, it was valued at 34 times. Music companies are adapting to new technologies and exploiting the business opportunities they present. For example, 5 per cent of EMI's music publishing revenues last year came from digital sales, for example selling ringtones of its artists' songs. Group digital sales of its music also more than doubled. How much Mr Nicoli and Mr Bronfman think they can continue to boost these digital revenues and protect their copyright will determine how much they are prepared to pay for each other's companies.

One analyst is reluctant to talk in terms of winners and losers. "The 'winner' may end up being the company that gets bought if the price is too high," he says.

EMI would have to fund its bid with an estimated £1bn rights issue and raise new debt. One of its shareholders, Schroders, has already publicly questioned the merits of such a deal. However, if Warner were to buy EMI, it too would have to saddle the new business with more debt to fund the acquisition.

Another EMI shareholder points out that the onus is on Mr Nicoli to prove he can run the combined business better than Mr Bronfman. Investors are impressed with the latter's track record since he led a private equity consortium raid on Time Warner to buy its Warner Music division in 2003, going on to cut costs and boost profitability at the company.

EMI shareholders will hope that Mr Bronfman will put his money where his mouth is and come back with a higher offer. Unlike Céline Dion's crooning, that would be music to their ears.