The Justice Department stepped into a particularly thorny corner of the digital music industry with its decision on Wednesday to examine 70-year-old orders that determine how startups such as Pandora (P) compensate songwriters. This could mean a lot more money for people who write songs for a living—and less money for those who sing them.
The question now facing regulators involves consent decrees put in place in 1941 to curb the power of ASCAP and BMI, two organizations that collect royalties for songwriters. Worried about the monopolistic power of these two organizations, the federal government required them to license music to anyone who agreed to pay rates approved by judges. While these orders have been updated several times, iTunes, Pandora, and Spotify didn’t even exist the last time this happened in 2001.
There’s nothing simple about the economics of the streaming music industry, and even the most successful companies are struggling to find a formula for sustainability. Each digital music company operates under a slightly different license, and Pandora ends up being the primary beneficiary. It pays a much smaller proportion of its revenue to songwriters than do other companies that license music. Pandora pays about 4 percent of its music revenue to songwriters, while Spotify pays about 12 percent and Google (GOOG) pays up to 50 percent for music on YouTube, according to David Israelite, the chief executive of the National Music Publishers’ Association, a trade group for songwriters.
The Justice Department hasn’t actually committed to do anything about this; its announcement on Wednesday sets up a public comment period as it studies the issue. But music publishers want the end of government-mandated royalty rates altogether.
“The industry would like to see a radical shift in the ability of ASCAP and BMI to operate,” says Justin Kalifowitz, the president of Downtown Music Publishing. “What you have with Pandora is that it’s very clear that they’re not paying anywhere near fair market rates, and there’s no way to get artists and publishers to get them to pay fair market rates.” If the publishing groups were allowed to play hardball with Pandora, Kalifowitz says, they would end up making significantly more money.
But that doesn’t necessarily mean that Pandora would have to shell out more. “You could make the argument that this might increase their costs, but it would just be a theory,” says Dan Rayburn, an analyst with Frost & Sullivan. Given the tenuous financial situation of all digital music companies, it’s not at all clear they can pay more than they’re paying already.
What could happen instead is that the overall pool of royalties would stay about the same while shifting more to music publishers. The other groups that receive royalties for music—record labels and performers—would likely be on the losing end. This is why the politics of this business is so byzantine. Publishers and record labels each have an interest to push for higher overall royalty rates, but the Justice Department could pit them against each other by freeing up the publishers to push for more.
“Our position is that music deserves as much money as possible from businesses that rely on the music to exist,” says Israelite. “Once that maximum number is determined, songwriters deserve a fair share of it.”
Mollie Starr, a spokeswoman for Pandora, says the company looks forward to participating in the federal review and praises the existing consent decrees for “enabling new industry entrants.” The review, she adds, “must take into account the careful balance of how to best serve songwriters while also fostering competition and innovation to the benefit of consumers.”
The publishers are holding out a nuclear option if the Justice Department decides not to do anything significant. Big publishers have already been making noises about wanting to drop out of ASCAP and BMI altogether, instead negotiating their own agreements with Pandora. This would be a huge mess. Without those organizations, each publisher would have to find out who’s playing its songs, negotiate agreements, and enforce them—and Pandora would have to sit down with dozens of rights holders instead of two big industry groups. That would make doing business more expensive for everyone involved.