Before looking at the decision, it needs to be noted that these royalties are theoretically decided not just for Sirius XM and for Music Choice, but also for other services that fit into their class of service as defined by Sections 112 and 114 of the Copyright Act. Thus, the Music Choice decision applied theoretically to all "Preexisting Subscription Services" (or a "PSS") and the Sirius XM decision to all "preexisting satellite digital audio services" (or, as used in the decision, "SDARS" – satellite digital audio services). The "pre-existing language means that these services were either in existence or authorized by the FCC (for the SDARS services) at the time of the adoption of the Digital Millennium Copyright Act in 1998.  Of course, since 1998, all of Music Choices then-existing competitors in the cable audio business have gone out of business with one exception, and the second SDARS service – XM Radio – has merged with Sirius. So, effectively, these rates apply only to very few companies.

With that background, let's look at the rates. For PSS, essentially the audio services that accompany cable television service, the rates (as a percentage of gross revenue) were set as follows:

2013     8%

2014     8.5 %

2015     8.5%

2016     8.5%

2017     8.5%

This represents a very small increase from the 7.5% royalty rate that was in effect in 2012.  That rate had been reached as a result of a settlement between the parties in the last royalty proceeding. While we will go into more detail on the reasoning in the decision next week, the CRB essentially rejected SoundExchange's calls for the rate to be substantially increased (to 45% of revenue by the end of the term), and those of Music Choice asking that they be lowered. By rejecting the arguments of the parties, the Board looked to the last negotiated settlement as providing a benchmark royalty as to what reasonable parties would view as a marketplace rate, and proposed a modest increase as Music Choice plans more music options in the future.  On that basis, the Board came up with the rates that they adopted.

The Sirius XM decision involved more considerations, but essentially the same result. The majority of the Board rejected the proposals from SoundExchange to raise the rates.  It had proposed  starting at 12% of revenue in 2013 and ending at 20% in 2017.  The Board also rejected the Sirius proposals to lower the rates, currently at 8% of revenue, down to 5% based on evidence provided by direct licensing deals. Instead, the Board determined that the rates (as a percentage of the service's gross revenues - minus certain non-music related income) should be as follows:

2013   9%

2014   9.5%

2015   10%

2016   10.5%

2017   11%

The majority of the Board rejected much of the expert testimony provided by both parties, and used the parties' proposals to set the bounds of reasonableness for the rates (as the Sirius XM testimony suggested that their direct licensing deals were at 5-7% of revenue, the 7% was viewed as setting one bound of what was reasonable, with the 12% proposed by SoundExchange for the 2013 royalty forming another bound). We will write more about the details of the reasoning used to reach these decisions next week.

Another interesting aspect of the Sirius XM decision was the treatment given to the directly licensed sound recordings and the pre-1972 sound recordings. The Board agreed that the directly licensed sound recordings should be excluded from the royalties, as the licensing rights had already been obtained and paid for through the direct licenses. The Board also explicitly agreed, for the first time in any decision of which we are aware, that pre-1972 sound recordings also are not to be included in the revenue base, as the Federal sound recording copyright only applies to songs created in 1972 and after (with certain exceptions for earlier non-US recordings that are covered by US laws as a result of treaty obligations - see our discussion of this issue here and here).

While the Board recognized that the directly licensed sound recordings, and the pre-1972 sound recordings should be excluded, they had some trouble deciding how such an exclusion should be computed, as Sirius XM could not quantify the number of listeners to such recordings as used on their various channels. They obviously could count the number of times that such songs were played, but not how popular they were – how many people were listening to the songs each time they were played. To get to that number, the Board decided that a proxy should be used – the Internet streaming that Sirius XM does of its programming. The Board decided that Sirius XM could exclude from its payments a percentage equal to the percentage made up of the total number of performances streamed through its Internet service made up by the direct licensed and pre-1972 songs (a performance being one song streamed to one person – the manner in which most Internet radio services pay their royalties). So, if Sirius streamed 1 million performances in a given period, and of those 10,000 were streams of pre-1972 or directly licensed recordings, it could deduct 1% of the amount that it would otherwise owe SoundExchange.  This proxy was authorized only where Sirius XM streamed essentially the same programming that it provided on its satellite service.  If Sirius XM decided to stop streaming a channel, it was unclear how or if such an exclusion could be taken. 

There is much more to write about concerning the analysis of the competing cases.  We will look at those issues next week, and suggest how some of the analysis may be relevant to the Internet radio royalty issues that webcasters will be facing quite soon. 

Update - 1/5/2013 - The article initially indicated that only one PSS continued in business.  I have been informed that at least one other PSS is still in operation and qualifies for this rate, and the article has been corrected to reflect this.

Correction - 4/1/2013 - This article had incorrectly stated the rates for the SDARS services. 

Section 112 Rates: The Judges adopted the Parties' Stipulation regarding the rates and terms for the Section 112 rates, which will require a minimum fee advance payment of $100,000 per year, with royalties accruing during the year recoupable against the advance. The parties agreed that the value of the royalties allocated to the Section 112 license holders is 5% of the total royalty obligation, with the remaining 95% going to the Section 114 license holders.

Section 114 Rates: The Judges determined that the appropriate Section 114(f)(1) rates for Preexisting Subscription Services for 2013-2017 are 8% of Gross Revenues for 2013 and 8.5% for 2014 through 2017.

The Judges determined that the appropriate Section 114(f)(1) rates for Preexisting Satellite Digital Audio Radio Services for 2013-2017 are 9% of Gross Revenues for 2013, 9.5% for 2014, 10.0% for 2015, 10.5% for 2016 and 11.0% for 2017.

Both decisions represent modest, incremental raises in the current rates (see the description of the last CRB decisions on satellite radio rates here, and on cable radio here).  These decisions are made under the 801(b) factors, from Section 801(b) of the Copyright Act, that Internet radio currently is seeking, through the Internet Radio Fairness Act ("IRFA"), to have applied to the decisions as to the royalties paid by webcasters (see our summary here). We will not know how the standard was applied in reaching the decision to raise rates, and what guidance this decision provides for webcasters and their rates, until the full decision is released (see our summary of the arguments of the parties in this case, here).

These services are entitled to a decision under 801(b) as Congress made a determination, at the time that the Digital Millennium Copyright Act was passed in 1998, that these services were either already in existence (cable audio) or were sufficiently advanced in deployment (satellite radio) that the traditional standard for deciding statutory royalties, used in other contexts under the Copyright Act, would be applied. 801(b), for instance, is used to decide the royalties paid by the record companies to the publishers for the use of their compositions when making a sound recording, and are also used in the determination of rates paid by noncommercial broadcasters in the public performance of musical compositions (a rate recently set by the Board).  Internet radio, on the other hand, was given a new "willing buyer, willing seller" standard that has led to much controversy, as is evident from the current IRFA debate. The application of the standard apparently makes a difference, as other music services similar to Music Choice, that were not in existence at the time of the adoption of the DMCA, pay approximately twice what Music Choice will pay under this decision (see our article here).

We will write more about the decision once the full text is released.

Sirius XM and cable music provider Music Choice, which was also part of the proceeding, are both governed by the 801(b) standard rather than the “willing buyer, willing seller” standard that applies to Internet Radio. The oral argument made clear that the adoption of the 801(b) standard is not in and of itself a panacea for the concerns about the royalties that have been set by the Copyright Royalty Board. Last week’s argument focused on the value of music in a marketplace – essentially the “willing buyer, willing seller” question. While other 801(b) factors were discussed, they were seemingly passed over quickly, with most of the focus being on the questions of the marketplace value of the music.

But perhaps more interesting was their argument that relied on the direct licensing deals that Sirius was able to negotiate with over 90 record labels or artists, which all provided for a royalty at rates less than those at which Sirius currently pays. Sirius argued that these deals showed the true marketplace value of music, as they were negotiated outside of the royalty process by a willing buyer (Sirius XM) and willing sellers (the labels).

SoundExchange of course opposed the Sirius’ conclusions that rates should decrease. SoundExchange had its own expert witness who performed the same kind of economic regression analysis that had been used in past webcasting proceedings – taking the royalties paid by interactive digital music services (which are negotiated agreements not subject to a statutory royalty and not governed by the CRB or any other government agency), and doing an economic analysis to determine the value of the interactivity. By subtracting that perceived value of the interactivity, SoundExchange came up with a figure for a substantially higher royalty for Sirius than it currently pays.

SoundExchange argued that the direct licensing deals did not make for an appropriate benchmark as these deals represented a small part of all sound recordings that are available in the marketplace, and did not include deals with any of the major labels. Sirius of course responded that this was because the labels were encouraged not to negotiate with it (see this article on the lawsuit that Sirius has filed against SoundExchange for interfering with the private negotiations that it was having with other labels).

SoundExchange also attacked these deals by contending that they should not affect the CRB royalty decision as the deals were with the copyright holders, where all the royalty payments would go to the copyright holder, unlike the CRB royalties which, by law, half go directly to the artists. This argument seemed to gain some attention from the Judges, even though, were this logic to be followed, SoundExchange’s own evidence as to the rates would have to be rejected, as the royalties paid in the interactive marketplace also go to the labels. It seems to us that, if you are looking at a marketplace, you are looking at what buyers and sellers are agreeing to when they negotiate deals – no matter who those buyers and sellers are. In the real marketplace, the sellers usually are the copyright holders, not the artists, as the copyright holders are the ones authorized to negotiate such deals. If you reject those deals because the artists are not directly paid, you would never be able to find a marketplace deal to use as a benchmark, even though the Copyright Act specifically says that direct licenses should be considered. Moreover, as argued by Sirius XM, in such direct deals, the artists are in fact paid through the contracts that they have with the labels.  We will be very interested to see how the CRB resolves this issue.

Beyond the debate over the marketplace value of the music, there was some discussion of the other 801(b) factors, including the promotional value provided by the plays on Sirius and Music Choice, and on the stability of the industry factor, looking at the financial stability of each of these companies and what impact a change in royalties would have on their businesses. Both Sirius and Music Choice provided studies that showed that their services promoted music - studies that SoundExchange rejected without offering its own studies to the contrary.  SoundExchange argued that, as Sirius was now more economically stable than it was during the last rate proceeding, the rates needed to go up.  The cost of Sirius providing the satellites and hardware to deliver their service was also discussed in the context of the “relative investment” 801(b) factor. But in the oral arguments, these issued seemed to be a sideshow to the principal issue of putting a marketplace value on the music.  We'll see how they are considered in the final decision, as these matters were important in the last satellite royalty proceeding.

Oral arguments are often misleading, so we can't make predictions based on the questions that were asked.  Decisions in this case are supposed to be rendered by mid-December, even though there has been another change in the Board’s composition in recent weeks, as Judge Wisniewski, the economist on the CRB, was forced to retire due to health reasons. So the CRB that will be making the decision in this case will be one where 2 of its 3 members have not previously ruled on a music royalty payment scheme. It should be an interesting decision released in December - one that may give some indication of how the Board will treat webcasting royalties when they come up for adjustment in 2015.

Why would SoundExchange and A2IM oppose direct music licensing?  One reason is that music licenses that are directly negotiated between music users and rights holders are traditionally the best evidence of the value of music.  In recent rate court cases involving performing rights organizations, direct licenses formed crucial evidence of the value of music rights.  In cases dealing with ASCAP and BMI royalties for "business establishment" or "background music" services, evidence of direct licenses at rates significantly lower than previously established resulted in court decisions dropping rates by as much as two-thirds from the rates that ASCAP and BMI had previously been charging.  Were SiriusXM to be successful in its suit, and if it is in fact able to negotiate direct music licenses for substantial catalogs of music at rates lower than what it has paid under previous rate decisions, it would presumably introduce such evidence in proceedings before the Copyright Royalty Board (which is now in the process of setting the rates for the public performance of sound recordings by SiriusXM over its satellite service for the next 5 years), and argue that these direct deals are the best evidence of what a willing buyer and willing seller would agree to in a competitive marketplace. While the rates set by the CRB for SiriusXM are not like Internet radio rates and established solely based on a willing buyer, willing seller test, the question of marketplace rates is still a very important component to any CRB decision setting those rates (see our article here on the rates that SiriusXM currently pays to SoundExchange and the standard used to set such rates). 

Were SiriusXM to be able to directly negotiate lower royalties with a significant number of artists or labels, such royalties might provide crucial evidence in CRB proceedings as to what the true marketplace value of such rates should be.  Lower direct licensing rate could impact not only the rates paid by SiriusXM, but also other proceedings dealing with the sound recording royalty rate, including potentially proceedings for webcasting royalties (proceedings that will also affect the rates that broadcasters pay for streaming their signals). The next royalty proceeding for webcasters begins in 2014, and will set the rate for webcasting from 2016-2020.  Obviously, that could make the outcome of this lawsuit by SiriusXM, and its ability to negotiate direct licenses, very important to the future of digital music. 

In the CRB proceeding that was held in 2005-2006 (and from which, most of the settlements arose that now govern the royalties for sound recordings played by Internet radio stations), SoundExchange relied on a number of witnesses, including one expert, Michael Pelcovits, an economist whose model was the principal testimony relied on by the CRB in establishing the rates they determined to be reasonable.  In his written testimony, Mr. Pelcovits stated as follows:

...a rate that is set too low may have serious economic dangers.  By setting a rate too low, inefficient entry may be encouraged, and inefficient levels of production will be encouraged, which can hinder the development of an efficient market.  It is also worth noting that setting the statutory rate too high will not necessarily be harmful to the market.  If the price is too high, parties can (and are almost certain to) negotiate agreements for rates lower than the statutory standard.  Thus, a rate that is set too high is likely to "self-adjust" because of the sellers' natural incentive to meet the market. 

(Emphasis added).  The statutory rate referred to in this quote is the rate that is set by the CRB.  What this quote says is that, if that rate is set too high, then parties will naturally negotiate after-the-fact to try to find what the real market rate should be, and that such negotiations should be expected - not feared as many seem to be claiming as these attempts to cut deals come to light.  In other words, the music community seemed to favor (and expect) such negotiations, before they were against them it in their statements today. 

One possible difference is the loss of control. The settlement deals that were done under the Webcaster Settlement Acts all provided SoundExchange with the opportunity to decide which deals were precedential in future CRB proceedings, and which could be excluded from future rate-setting cases.  So, as we've written before (here and here), the deals that set relatively low rates, like those with the Pureplay Webcasters and the small webcasters, were deemed non-precedential, while those deals with higher rates, like the agreement with the Broadcasters, were considered precedential - and in fact contributed to the CRB decision in 2010 setting the rates for 2011-2015 for those webcasters not covered by one of the WSA settlements.  Deals that are marketplace deals would not be afforded the non-precedential status afforded the WSA deals absent some new act of Congress.

In establishing the statutory royalty, Congress envisioned that the CRB would base its decision on the rates set by the marketplace for similar rights.  In previous cases, because there were no freely negotiated marketplace rates (except for those recently done under the WSA and deemed "precedential"), the Copyright Royalty Judges had to rely on economic analysis of royalty schemes for other types of service and to come up with proper "adjustment factors" so as to determine the hypothetical rate that would be negotiated had these parties been negotiating rates for noninteractive webcasting.  Obviously, this is an inexact science, and has led to some results that many have argued are too high (though, as the SoundExchange press release indicates, some in the music community believe that the rates are too low).  Having freely negotiated rates may well provide some "real" basis for determining what a willing buyer and willing seller really would pay for music in a real marketplace.  But we will see if any such rates can in fact be negotiated by Sirius or any of the other parties that have attempted such negotiations. 

First, the most important issue - how much will it cost?  As with the CRB decision, the NAB deal, and the Pureplay deal (about which we wrote here) as it applies to large pureplay webcasters, the rates established by the deal are based on a "per performance" charge.   A performance is one song as listened to by one listener.  So if a song is played on an Internet radio station subject to the deal and 100 people are listening at the time the song is played, there are 100 performances.  The rates established by the deal are as follows:

           Year              Rate per Performance

2009                      $0.0016

2010                      $0.0017

2011                      $0.0018

2012                      $0.0020

2013                      $0.0021

2014                      $0.0022

                        2015                      $0.0024

The deal also requires a yearly $500 per channel minimum fee, capped at $50,000. As in all other deals, this minimum fee is applied to the per performance royalties that the service incurs.

The deal must be elected by a webcaster currently in operation within 15 days of the date that this Agreement is published in the Federal Register - a shorter period than allowed under some of the previous deals.  Once it is elected, a webcaster is bound for the remainder of the period through 2015, and not able to opt out should some lower rates be available under a future CRB decision  (note that this is different than under the Pureplay deal, where a webcaster can opt out at the end of any year).  Any party making the election to be covered by this deal must drop out of any litigation over the rates for 2011-2015.  As is becoming standard on many of these deals, royalty payments and reports of use are due 45 days after the end of each month of operation. 

One other important aspect of this agreement is that it can be used as precedent in the upcoming CRB proceeding for rates for 2011-2015.  The NAB deal also has a similar provision, allowing it to be considered to be of precedential value.  On the other hand, lower rates agreed to in the Pureplay and Microcasters deals are specifically labeled nonprecedential.  We wrote about the concerns expressed to the Senate Judiciary committee about the ability of SoundExchange to dictate which deals are precedential and which are not, here.

Finally, it is important to note that this deal covers Sirius XM's Internet streaming of its programming, not its satellite delivered music programming from which it received the bulk of its revenues.  Royalties for the use of music in that programming is paid on a percentage of revenue basis of between 6 and 8% of revenues - a rate set by the CRB and recently upheld by the Court of Appeals.  As we have written, the difference in these royalties is due to the difference in the standard applied under the Copyright statute to the determination of royalty rates for different services - leading to calls for "platform parity", as considered by the Senate last week.

All in all, for those webcasters who are not broadcasters and not pureplay webcasters, and don't qualify as small webcasters under the Microcaster or Pureplay deals, this agreement may present some options for the future.  Watch for its publication in the Federal Register in the near future. 

The press releases do not release detailed terms. For Sirius, the release states that the parties agreed to a per performance rate which is not specified, covering webcasting royalties through 2015.  These rates do not apply to Sirius performances that are done by satellite, which are covered by the Copyright Royalty Board rates recently upheld by the US Court of Appeals.  Instead, these rates only cover the streaming of Sirius programming done over the Internet or to mobile devices using Internet technology.  The Collegiate Broadcasters agreed to a rate that provided the flat $500 fee for the first 159,140 aggregate tuning hours a month set by the CRB decision, and then per performance fees at the NAB rates for all streaming above that amount.  The religious broadcasters deal is less defined, discussing a per performance rate, but not providing any more details of the agreement.  For both noncommercial groups, there are references to reduced recordkeeping requirements for some webcasters, but again, those have not yet been detailed.

What was perhaps most interesting about the Court's decision was the concurring opinion of one of the three Judges, who stated that the fact that the Board's judges were appointed by the Librarian of Congress, and not by the President, "raises a serious constitutional issue."   This was the same issue raised by Royalty Logic in challenging the constitutionality of the CRB in the webcasting proceeding (see our posts here and here).  The Judge concurred in the majority decision as none of the parties to the satellite radio case raised the constitutional issue, but this very question was squarely raised in the webcasting proceeding, and thus may well be resolved in the decision on that appeal.

The only issue that the Court did not resolve was the value of the Section 112 ephemeral royalty - the royalty that is to compensate copyright holders for the temporary transitory copies made in the streaming process, such as those made on servers.  The Board found that no one had shown any value for those transitory copies, and thus the royalty had no real market value, so any residual value was subsumed entirely within the Section 114 royalty.  After the Board issued its decision, the Copyright Office issued an opinion that the Board needed to set a separate royalty for the ephemeral right.  While the satellite radio companies suggested the value was zero, and SoundExchange argued that it should be 8.8% of the total royalty, the Court could find no evidence supporting either position.  So the Court remanded this issue to the Board to determine what percentage of the royalty, if any, should be allocated to the ephemeral rights.

This decision, coming as it does on the date that webcasters announce a settlement with royalties that range from 12% of gross revenues to 25% or more of such revenues, demonstrates again the difference that a standard can make.  The 801(b) standard, taking into account the public interest factors, produces a rate that the music users can actually support (as the satellite companies did here, not appealing the decision of the CRB, but instead arguing in support of it), while the "wiling buyer, willing seller" standard produces royalties which, even after a settlement substantially reducing the royalty, brings only grudging relief.  This issue should be assessed by Congress when it reviews the Copyright Royalty Board's status if, as suggested by this Court, the webcasting court finds the CRB to be unconstitutional. 

The royalty case that resulted in the much lower royalties for Sirius XM is also scheduled for argument in March, the week after the webcasters case. That decision, about which we wrote here, was decided under the 801(b) standard, which takes into account not only the perceived economic value of the music (the "willing buyer, willing seller" standard used in the webcasting case), but also factors involving the public's interest in receiving music, and the impact on the industry that the royalties will have.  If these cases both go forward, after hearing them in short order, the US Court of Appeals will become the center of the digital music royalty world - at least for a short period of time.  Watch for more as these cases develop.