Music Industry Faces Tough Negotiations In Digital Music-Licensing Frontier

Howard Stern and Oprah Winfrey might have lent some serious star power to subscription-based satellite-radio networks XM and Sirius, but that doesn't mean the fledgling medium is ready for prime time. This year, XM Satellite Radio Holdings Inc. and Sirius Satellite Radio Inc. have to renegotiate their royalty agreements with record labels. Not only is the music industry intent on raising the licensing fees, it wants to stop the introduction of new satellite radio receivers that work more like an iPod than a radio.

Because the new device would let subscribers record 5 or more hours of programming and organize their own playlists, the music industry wants a bigger cut. The labels get far less for songs played on satellite radio than for music purchased through download services or on CDs. 'It's an example of a new medium that does not fit very neatly in a copyright bucket,' says Silicon Valley attorney Michael Glaser, a partner at Perkins Coie in Menlo Park, CA. 'But this is a field that is changing so rapidly that stakeholders can't wait for Congress to make up the rules.'

Looking For Clarity

Instead, a no-doubt contentious licensing negotiation will play out before a panel of three royalty judges at the U.S. Copyright Office. Attorneys say it could be pivotal in bringing more clarity to the unsettled field of digital-copyright law. Five years after record labels forced Napster into bankruptcy and 1 year after the movie studios won a U.S. Supreme Court case against Grokster, digital-copyright issues are still being hashed out in court.

'A lot of folks were hoping, for better or worse, that the courts would come down with some very clear and articulate standard, but now we're left with formulating our advice based on as broad a perspective as we can glean from our vantage points,' says Glaser, who regularly counsels digital media startups. 'Maybe the industry will finally come up with a licensing scheme that would really encourage new business models to flourish.'

Radio TiVo?

Satellite radio is expected to grow fast ' it has 10 million subscribers now, with analysts expecting 40 million by 2010. But crafting a licensing model for satellite radio is not going to be an easy task. The service defies the traditional royalty-fee model set up for terrestrial radio. Regular broadcast radio pays royalty fees based on a playlist of songs, but with the new satellite-radio receiver it would be difficult to account for the number of times each listener plays a recorded song.

With the new iPod-style players coming out, record labels insist satellite service will no longer be akin to radio broadcast but a convergence of radio and download service that should not even be entitled to the statutory broadcast license that lets terrestrial radio stations play music. Both XM and Sirius say their new offering is simply a time-shifting device similar to a digital-video recorder such as TiVo. The recorded songs are also only available as long as subscribers continue to pay for the service, and the music can't be transferred to other devices.

'They try to argue it is similar to taping radio, but if people can record 5 hours of high-quality digital music and pick and choose what they want to listen to, that's not the same,' says John Simson, the head of SoundExchange, the music industry's trade association that collects royalties for digital-media sound performance.

For the music labels, there's trouble on the terrestrial radio front, too. Electronics manufacturers will soon introduce new high-definition digital radios that would let listeners of free radio capture any song on a standard AM/FM receiver. This again raises the issue of charging royalties as if the song is being played on the radio rather than being downloaded. One solution Glaser sees would be to combine a pay-per-song broadcast fee and a pay-per-recording device fee. 'It is still not perfect accounting,' he says, 'but at least they can be sure they'll get some revenue from the recording.'

But in anticipation of the new radio-recorder devices, the music industry is instead pushing for an audio-flag law to stop unauthorized recording of music. The audio flag would be similar to the video-broadcast flag Hollywood is lobbying for. All digital-audio players would have to include an electronic marker that would prevent anyone from recording or copying any digital-audio content on any player. Simson says the new devices will definitely be a key issue in any licensing negotiations. The music industry is also renegotiating royalty fees for Internet radio and has already demanded triple its existing royalty rate, to 30% of broadcasters' revenues.

An attorney who has represented music labels says it will be impossible to negotiate with the record industry as long as music executives insist on equating the physical marketplace with the digital marketplace 'dollar for dollar.'

'They can't see that the revenue they get from a CD sold at a store is never going to be the same from the revenue they derive from music downloading,' says the attorney, who now represents digital media companies. 'That's what's driving their licensing strategy right now and it is unreasonable.'

Simson, whose group is expected to collect $60 million in digital licensing this year, counters that record labels are simply trying to correct an 'unfairness' that Congress failed to address in previous amendments of the copyright law. 'When Congress passed the Digital Performance and Sound Recordings Act in 1995, high-definition radio was still a very young industry and lawmakers gave it exemption,' he says. '[Now] it has to be recognized that services like satellite radios and Webcasting are the key component why people are turning away from regular radio and from buying CDs.'

iTunes As Model

But it is highly unlikely that Congress will intervene once more to aid
copyright holders and set new limitations on how consumers can use digital content, says Laurence Pulgram, an intellectual property litigator and partner at Fenwick & West in San Francisco. 'It looks like there is some healthy skepticism about the latest limitations that are being proposed.'

Still, Pulgram is not discounting the possibility that consumers may see some form of an audio flag on music players in the future. If the Internet- and satellite-radio owners agree to a flagging technology, he believes other digital-media companies may follow suit. 'Already you're seeing the integration of hardware and content, and more of that is likely to happen as the content industry strikes partnerships with technology companies,' Pulgram says.

The most successful example of such partnerships is Apple Computer's iTunes. The company's music downloading service is tied to its iPod player. 'Content providers do know that good technology helps sell their products,' Pulgram notes. 'The iPod sells because it is good and the music companies have so far benefited from the partnership.'

Although it is not certain what kind of digital-licensing model the music industry will end up fully embracing in the future, there are some encouraging signs that the current digital-copyright battle will be resolved not in court but at the negotiating table. The market for digital distribution of music has already grown into a billion-dollar business, with music sales tripling to $1.1 billion last year, while music CD sales have been on a long-term. As a result, music labels appear to be more willing to work out potential licensing models than they were just a few years ago.

'The labels are receptive, although they still typically like to keep their existing licensing schemes,' says Los Angeles entertainment attorney Amy Ortner, a partner at Loeb & Loeb. 'I think content owners in general just want to make sure they are not sidelined and that there is revenue sharing and a new technology would not just be a breeding ground for piracy.'

Howard Stern and Oprah Winfrey might have lent some serious star power to subscription-based satellite-radio networks XM and Sirius, but that doesn't mean the fledgling medium is ready for prime time. This year, XM Satellite Radio Holdings Inc. and Sirius Satellite Radio Inc. have to renegotiate their royalty agreements with record labels. Not only is the music industry intent on raising the licensing fees, it wants to stop the introduction of new satellite radio receivers that work more like an iPod than a radio.

Because the new device would let subscribers record 5 or more hours of programming and organize their own playlists, the music industry wants a bigger cut. The labels get far less for songs played on satellite radio than for music purchased through download services or on CDs. 'It's an example of a new medium that does not fit very neatly in a copyright bucket,' says Silicon Valley attorney Michael Glaser, a partner at Perkins Coie in Menlo Park, CA. 'But this is a field that is changing so rapidly that stakeholders can't wait for Congress to make up the rules.'

Looking For Clarity

Instead, a no-doubt contentious licensing negotiation will play out before a panel of three royalty judges at the U.S. Copyright Office. Attorneys say it could be pivotal in bringing more clarity to the unsettled field of digital-copyright law. Five years after record labels forced Napster into bankruptcy and 1 year after the movie studios won a U.S. Supreme Court case against Grokster, digital-copyright issues are still being hashed out in court.

'A lot of folks were hoping, for better or worse, that the courts would come down with some very clear and articulate standard, but now we're left with formulating our advice based on as broad a perspective as we can glean from our vantage points,' says Glaser, who regularly counsels digital media startups. 'Maybe the industry will finally come up with a licensing scheme that would really encourage new business models to flourish.'

Radio TiVo?

Satellite radio is expected to grow fast ' it has 10 million subscribers now, with analysts expecting 40 million by 2010. But crafting a licensing model for satellite radio is not going to be an easy task. The service defies the traditional royalty-fee model set up for terrestrial radio. Regular broadcast radio pays royalty fees based on a playlist of songs, but with the new satellite-radio receiver it would be difficult to account for the number of times each listener plays a recorded song.

With the new iPod-style players coming out, record labels insist satellite service will no longer be akin to radio broadcast but a convergence of radio and download service that should not even be entitled to the statutory broadcast license that lets terrestrial radio stations play music. Both XM and Sirius say their new offering is simply a time-shifting device similar to a digital-video recorder such as TiVo. The recorded songs are also only available as long as subscribers continue to pay for the service, and the music can't be transferred to other devices.

'They try to argue it is similar to taping radio, but if people can record 5 hours of high-quality digital music and pick and choose what they want to listen to, that's not the same,' says John Simson, the head of SoundExchange, the music industry's trade association that collects royalties for digital-media sound performance.

For the music labels, there's trouble on the terrestrial radio front, too. Electronics manufacturers will soon introduce new high-definition digital radios that would let listeners of free radio capture any song on a standard AM/FM receiver. This again raises the issue of charging royalties as if the song is being played on the radio rather than being downloaded. One solution Glaser sees would be to combine a pay-per-song broadcast fee and a pay-per-recording device fee. 'It is still not perfect accounting,' he says, 'but at least they can be sure they'll get some revenue from the recording.'

But in anticipation of the new radio-recorder devices, the music industry is instead pushing for an audio-flag law to stop unauthorized recording of music. The audio flag would be similar to the video-broadcast flag Hollywood is lobbying for. All digital-audio players would have to include an electronic marker that would prevent anyone from recording or copying any digital-audio content on any player. Simson says the new devices will definitely be a key issue in any licensing negotiations. The music industry is also renegotiating royalty fees for Internet radio and has already demanded triple its existing royalty rate, to 30% of broadcasters' revenues.

An attorney who has represented music labels says it will be impossible to negotiate with the record industry as long as music executives insist on equating the physical marketplace with the digital marketplace 'dollar for dollar.'

'They can't see that the revenue they get from a CD sold at a store is never going to be the same from the revenue they derive from music downloading,' says the attorney, who now represents digital media companies. 'That's what's driving their licensing strategy right now and it is unreasonable.'

Simson, whose group is expected to collect $60 million in digital licensing this year, counters that record labels are simply trying to correct an 'unfairness' that Congress failed to address in previous amendments of the copyright law. 'When Congress passed the Digital Performance and Sound Recordings Act in 1995, high-definition radio was still a very young industry and lawmakers gave it exemption,' he says. '[Now] it has to be recognized that services like satellite radios and Webcasting are the key component why people are turning away from regular radio and from buying CDs.'

iTunes As Model

But it is highly unlikely that Congress will intervene once more to aid
copyright holders and set new limitations on how consumers can use digital content, says Laurence Pulgram, an intellectual property litigator and partner at Fenwick & West in San Francisco. 'It looks like there is some healthy skepticism about the latest limitations that are being proposed.'

Still, Pulgram is not discounting the possibility that consumers may see some form of an audio flag on music players in the future. If the Internet- and satellite-radio owners agree to a flagging technology, he believes other digital-media companies may follow suit. 'Already you're seeing the integration of hardware and content, and more of that is likely to happen as the content industry strikes partnerships with technology companies,' Pulgram says.

The most successful example of such partnerships is Apple Computer's iTunes. The company's music downloading service is tied to its iPod player. 'Content providers do know that good technology helps sell their products,' Pulgram notes. 'The iPod sells because it is good and the music companies have so far benefited from the partnership.'

Although it is not certain what kind of digital-licensing model the music industry will end up fully embracing in the future, there are some encouraging signs that the current digital-copyright battle will be resolved not in court but at the negotiating table. The market for digital distribution of music has already grown into a billion-dollar business, with music sales tripling to $1.1 billion last year, while music CD sales have been on a long-term. As a result, music labels appear to be more willing to work out potential licensing models than they were just a few years ago.

'The labels are receptive, although they still typically like to keep their existing licensing schemes,' says Los Angeles entertainment attorney Amy Ortner, a partner at Loeb & Loeb. 'I think content owners in general just want to make sure they are not sidelined and that there is revenue sharing and a new technology would not just be a breeding ground for piracy.'