July 11 (Bloomberg) -- The largest record labels are closing in on a deal for a stake in buzzy digital-music service SoundCloud Ltd., in exchange for an agreement not to sue the startup for copyright violations, according to people with knowledge of the plans.
SoundCloud, a Berlin-based company with more than 250 million listeners a month, is negotiating with Universal Music Group, Sony Music Entertainment and Warner Music Group for licenses to continue playing songs from the biggest labels and avoid potential legal disputes, said people familiar with the talks. In return, SoundCloud is discussing giving each record label a roughly 3 percent to 5 percent stake, along with a percentage of future revenue, said the people, who asked not to be identified because the talks are private.
An agreement would value SoundCloud at $500 million to $600 million, two people familiar with the talks said. The company was valued at about $700 million in an investment round earlier this year, said one person, a discrepancy that could be attributed to the licensing deals being different than a traditional venture capital-like investment. The timing of an announcement with the labels is in flux because some of the music companies are closer to a deal with the startup than others, two people said.
Representatives from SoundCloud, Universal Music, Sony Music and Warner Music declined to comment.
SoundCloud, backed by Silicon Valley venture capital firms including Institutional Venture Partners and Kleiner Perkins Caufield & Byers, has been likened to Google Inc.’s YouTube for audio. The startup, led by Chief Executive Officer Alex Ljung, provides a way for people to quickly upload music, podcasts or other recordings online, and then to post that material on other websites. Twitter Inc. was in talks to acquire SoundCloud earlier this year, though a deal wasn’t completed, people familiar with the discussions have said.
SoundCloud, which recently updated its smartphone application to make it easier to find new music, initially gained popularity as a hub for sharing electronic dance music mixed together by popular nightclub DJs. It has grown to be a place to listen to podcasts, or for organizations like the White House to share recordings.
Unlike services such as Apple Inc.’s iTunes or Spotify Ltd., SoundCloud doesn’t have a full music catalog because what’s available is limited by what people and music companies have uploaded to the site. It also has a tool for songs to be taken off the site if copyright concerns are raised. SoundCloud has said 12 hours of audio is uploaded every minute.
Even with heavy customer usage, SoundCloud hasn’t developed much of a business model. Instead of building a subscription service like Spotify’s, advertising is seen as the most promising option, one person said. The company also charges those who upload more than two hours of audio a month. Until SoundCloud’s revenue crosses a certain threshold it will pay the labels based on how many times a song is played through the service, two people said.
The labels have maintained a positive relationship with SoundCloud and have been optimistic about getting deals completed, two industry representatives said. Record labels have used SoundCloud as a marketing tool to get new music to a large group of fans. SoundCloud’s loyal and fast-growing user base is a key reason labels haven’t attempted to shut the service down, even though the startup doesn’t have the licensing deals required to play the music.
Swapping licensing agreements for equity in a fast-growing startup is proving to be a lucrative business for music companies that have been upended by a drop in album sales over the past decade. As listening moves online, and new companies such as Spotify have emerged to deliver music in new formats, the record labels are using copyrights and the threat of legal action to gain pieces of the young businesses.
Universal Music, the world’s biggest label, had a 14 percent stake in Beats Electronics LLC before Apple swooped in and said it would buy Beats for $3 billion earlier this year. Jimmy Iovine, the top Universal executive who co-founded Beats while working at the label, now is employed by Apple. Universal also controls a 5 percent stake in Spotify, and a 47 percent piece of music-video service Vevo LLC, the former chairman of its parent company Vivendi SA, Jean-Rene Fourtou, said in April.
Warner Music also held stakes in Spotify and Beats, including investments made by its billionaire owner Len Blavatnik, said a person familiar with the company. Several of the labels also owned a piece of YouTube before it was purchased by Google in 2006.
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