Tech

Leila Abboud is a Bloomberg Gadfly columnist covering technology. She previously worked for Reuters and the Wall Street Journal.

Shira Ovide is a Bloomberg Gadfly columnist covering technology. She previously was a reporter for the Wall Street Journal.

Cue the singing angels. After interminable wrangling, the world's biggest music label and the world's biggest streaming service have agreed on new contract. That Vivendi's Universal Music Group and Spotify Ltd. overcame the acrimony bodes well for both.

The deal includes key compromises on both sides: Universal Music has agreed to accept a lower royalty rate for each song than it received under the old contract, but only if Spotify hits certain targets on increasing its paying subscriber base. Neither company disclosed exact figures, but suffice it to say that if Spotify lures more customers it will pay less than the current rate of roughly 55 percent.  

In exchange, Spotify will in effect let the label put new albums behind a paywall for two weeks. That means a new Rihanna or Kanye West album might be available at first only to the more than 50 million people who pay for Spotify -- and not to the tens of millions more people who listen to the free advertising-supported service. Universal Music wanted badly to lock up more of its music to push people to the paid service, which costs about $10 a month.  

Streaming Rules
At Universal Music Group, streaming services are now the largest revenue source
Source: Vivendi's 2016 financial disclosures
Note: Percent changes reflect adjustments for currency changes and shifts in business lines.

Music executives often complain in private about how Spotify has too much of a Silicon Valley mentality that prioritizes expanding the free user base over persuading people to subscribe. The new contract's sliding scale of royalty rates is an elegant mechanism in which both sides may actually get what they want. The new contract could serve as a model for deals Spotify is trying to reach with the two other top music labels, Sony Corp. and Warner Music Group Corp. 

Given that the terms of the contract aren't public, it's hard to pinpoint its effect on Vivendi and Spotify's financial results. But both Spotify and the music companies may very well gain from their concessions.

Gadfly has written before about how the economics are tough for streaming music companies because they hand over the vast majority of their revenue to owners of song catalogs and music publishing rights. Spotify isn't profitable and needs to push down the roughly 81 to 83 percent of revenue it pays for music licensing, marketing and other non-operating costs before it moves ahead with an initial public offering

Opposite Directions
Spotify is growing fast but remains unprofitable largely because of the fees paid to labels
Source: Company reports

For Universal Music, the label will receive a smaller slice of a larger pie without denting its revenue too much. Streaming now accounts for about 30 percent of its revenue, and that's where all the growth is because fewer people are downloading albums on iTunes or buying CDs.

The agreement between Spotify and Universal is also a moment to revel in the big picture. The music industry has done what few media and entertainment businesses have done so far: Shift its business model successfully from physical sales to digital ones. Thanks largely to the popularity of streaming music services, industry revenue is growing significantly for the first time since the late 1990s. Annual sales are still less than half of what they were at the peak of the CD era, but there is light at the end of the tunnel.

Crescendo
U.S. music industry revenue has been cut in half since CDs ruled. But streaming music in 2016 led the industry to its first significant revenue growth since the late 1990s.
Source: The Recording Industry Association of America
Note: Figures for earlier are inflation adjusted.

Revenue for the U.S. music industry rose 11.4 percent in 2016, according to figures disclosed last week by an industry trade group. And subscription streaming music services deserve all the credit, delivering double the revenue from a year earlier. Last year was the first time ever that streaming music services generated the majority of U.S. music industry sales. That's a relief for the labels because sales of CDs have been shrinking for years, as are digital downloads from stores like iTunes. 

Happy Tunes
Internet music services -- principally Spotify and other subscription companies -- for the first time generated more than half of U.S. music industry revenue
Source: The Recording Industry Association of America

And the music industry's business shift hasn't just helped the labels and Spotify. Apple Inc.'s music sales were shrinking because people were downloading less on iTunes, but music revenue has now increased for three consecutive quarters thanks to its Apple Music streaming service. Apple rode Spotify's coattails to build a successful subscription music option of its own.

Spotify and Universal Music have seemingly done the impossible. They've shown that after nearly 20 years of fighting over the digital future of the music business, there are finally more areas of agreement than reasons for war. It's true that the music labels, musicians and music-focused tech companies like Spotify aren't out of the woods financially. But pragmatism is now en vogue, and that could very well lead to a healthy financial future for music.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. The royalty rates vary by country, but the New York Times reported Spotify's royalty rate for Universal songs is being cut to about 52 percent from 55 percent. 

  2. Apple wasn't always a believer in streaming music. "You don't want to rent your music," Steve Jobs famously said in 2003, in a proclamation that proved completely wrong. More than 100 million people now effectively rent access to music through Spotify, Apple Music and other paid music options.  

To contact the authors of this story:
Leila Abboud in Paris at labboud@bloomberg.net
Shira Ovide in New York at sovide@bloomberg.net

To contact the editor responsible for this story:
Daniel Niemi at dniemi1@bloomberg.net