The Problem
CENTRALIZATION, COPYRIGHT INFRINGEMENT, AND DIFFICULTY IN ENSURING FAIR COMPENSATION FOR ARTISTS AND CREATORS
The onset of the digital age in the 1980s allowed the likes of Napster to become a disruptive force in the recording industry. Peer-to-Peer file sharing (Figure 3) allowed people to pirate content online without legal implications. This caused a huge uproar amongst musicians because they were not compensated for their work, which ultimately forced the industry to adapt and embrace streaming technology in the early 2000s. The reasoning behind the shift towards streaming rather than owning content was to facilitate a more interactive relationship between listeners and musicians and to drive listeners away from piracy by offering them a free and legal alternative to accessing music.
However, even with an unprecedented reduction in piracy and the growth of the streaming market, the music industry is still facing the same problem. Musicians, especially the upcoming and the lesser-known ones, derive a paltry portion of the total revenue generated from their work because most of that revenue is consumed by intermediaries, the same entities who claim to represent their best interests. This problem is predominantly due to centralization, lack of transparency, and an unsustainable business model.
Centralization
Today, about 88.5% of the global music industry is largely dominated by three multinational record labels; Universal Music Group, Sony Music Entertainment, and Warner Music Group. These record label companies (with sub-labels and publishing companies as subsidiaries) oversee most of the music distribution. Because of such market monopoly, they are in a position to dictate market rules that are most favorable
To them. They often enforce unfair contracts in negotiations with streaming services, receive large advances, and bargain for the minimum payment and ownership positions under non-disclosure agreements. Centralization of revenue and power among music producers and publishers has also led to egregious abuse of nascent centralized streaming platforms. For example, recently Sony Music threatened to withdraw all its content from Pandora, claiming that the royalty rates were too low.
Similarly, data management is also becoming centralized. Streaming companies must appease prevalent practices in the industry even if such practices are inefficient or outdated. In 2014, Spotify announced that they are abandoning Peer-to-Peer (P2P) technology, which has once helped the startup reduce bandwidth costs and saved them millions of dollars in operating expenses every year, in favor of storing its catalog in a more traditional centralized server architecture.
Moreover, the current revenue share model in the streaming music industry is unfair to all musicians and particularly detrimental to independent and aspiring musicians. In revenue share contracts between record labels and streaming companies, most of the revenue goes towards paying the intermediaries, and musicians are almost always left out of these discussions. This results in a royalty distribution scheme that heavily favors intermediaries, at the expense of the musicians, ultimately undervaluing the musician’s work and revenue. The following is a breakdown of how royalty is typically distributed to musicians by streaming platforms like Spotify and Apple Music, ...it’s beneficial to understand how streaming royalties are generally calculated and paid:
The monthly revenue of a service (Spotify, Apple Music, et al.) is calculated.
Record labels have deals in place to get their royalty percentage flat, right off the top, so they receive their share of revenue first.
The Performance Rights Organizations (PRO) also have flat percentage deals in place, and they are paid next.
The streaming companies also retain a percentage for themselves, generally 15–30%.
The streaming services often contract various back office services, who can get a percentage too rather than a flat fee (at this point you’re looking at around 40% of the total revenue remaining, before artists, songwriters, and publishers have even been considered).
To establish the “per play allocation,” you then take [remaining revenue/total # service plays in that month].
Each publisher (the people who represent the compositions) then gets a lump sum payout of [per play allocation * total # plays publisher owns]
The publisher then delivers royalties to artists and songwriters; it is incumbent on the publisher to figure out how to split up their lump-sum payment to individual owners, and they also take a cut for the administration service.”
It is painfully apparent that the musicians who created the content gets paid after and less than the intermediaries who did not participate in the creative process.
“Currently, major record labels receive up to 97% of revenues that flow to all music rights holders, leaving just 3% to be shared among songwriters, music publishers, and other rights holders and administrators. One reason for this is that streaming services often only negotiate with the major record labels, which are supposed to represent all rights holders. In some cases, record labels are also shareholders in the streaming services, which clearly places their interests in conflict with the artists, songwriters and other rights holders they claim to represent.”
Lack of Transparency
With centralization of power in the hands of industry middlemen, the copyright and licensing contracts for most musicians have become complex, opaque and draconian. Artists, often with no legal background and without the means or the desire to hire lawyers, are not in a position to negotiate the terms of their contract. This creates a great degree of confusion, discontent and lost revenue. Although it is imminently possible to provide clear and concise contracts that are fair and easy to understand, industry intermediaries are reluctant to do so because the status quo benefits them immensely. ,
Unsustainable Business Model
The streaming companies have free-streaming tiers to promote platform adoption. Free streaming encourages growth in user-base and advertisements generate revenue. Deezer amassed 7 million users within its first two years, and Pandora earns as much as 88% of its revenue from ads alone.
The business model is unsustainable. After its first year of service, Spotify doubled its loss from $2.2 million to $4.4 million USD. Pandora saw negative operating leverage during its first two years after a switch of service to music streaming, and SoundCloud is criticized as a company of material uncertainty because it is heavily reliant on capital investments to operate.
One of the reasons behind their unsustainable business model is the rising content acquisition costs. They are highly variable, and are mainly associated with the type of content and licensing agreements with record labels. In 2015, the amount that Spotify had to pay for royalties and distribution fees climbed by 85%, to about $1.8 billion USD. In other words, expenses grew more than revenues did. To put this into perspective, of every dollar that Spotify brings in the door in revenues, about 85 cents goes right back out the door in the form of payments to the intermediaries. And since intermediaries primarily decide the percentage of revenue share from streaming companies, any disagreement could result in both parties being embroiled in a protracted legal dispute. In some cases, a losing lawsuit could result in discriminatory treatment of streaming companies with hikes in royalty rates, as it happened to Pandora. This pressures streaming companies to increase monetized revenue sources to stay afloat, like paid-streaming tiers, which in turn diminishes user base. In the case on Pandora, as studied by Music Business Research.
The high proportion of content acquisition costs also explains the operative loss of $37.7 million USD in 2012, despite increasing advertising and subscription revenues (Pandora 2013: 71). In fact, the content acquisition costs grew faster than the total revenue – 67.7 percent compared to 73.2 percent – from 2011 to 2012. The increase in costs is, thus, higher than the growth of listener hours of 72.9 percent in the same period.
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