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ASCAP and BMI, which are the largest of the performing rights organizations - together controlling an estimated 85 or 90 per cent of the musical compositions - are subject to antitrust consent decrees.  They can't discriminate between music rights holders, and must offer the same licenses to similarly situated services, i.e. they must charge all webcasters according to set formulas - they can't cut deals with individual webcasters and offer them better deals, unless such deals are open to all that have similar qualifications.  Moreover, the rates that they charge are subject to government oversight by a "rate court" - a Federal District Court judge who can hold a trial to determine the reasonableness of any proposed rate.  This oversight is required by the antitrust consent decrees that govern both ASCAP and BMI.

As we have written before, SESAC, the smallest of the current PROs, is not subject to rate court review for its rates, nor is it restricted from "cutting deals" on the rates that it charges.  It is a private company, not subject to any antitrust consent decree.  Some music users have, from time to time, suggested that SESAC be brought under such decrees - including a group of TV stations that filed a lawsuit a year ago seeking to impose antitrust scrutiny on SESAC.  As SESAC is often able to require royalties from users that seem higher than those that would be due to it if it was paid on a strictly pro rata basis, these kinds of concerns arise from time to time.

But SESAC is still a fairly large organization, in business for a long time, and most media companies are accustomed to dealing with it.  EMI, and any other publisher that follows its lead, would seemingly be in a position similar to that of SESAC, and not be covered by the antitrust consent decrees.  Thus, any such publisher could charge what it wanted for the public performance right to the compositions that it controls, and even charge different services different amounts.  And it may be difficult for licensees to realize that they have to deal with a new organization or organizations to license music, and it will make it harder to determine which songs a music service has licensed or which ones it already has the rights to use.  Some webcasters are still are surprised that they have to pay SoundExchange, which has been around in one form or another for a decade, so how will they get the word that they now can't rely on ASCAP, BMI and SESAC for all their public performance needs for musical compositions?  While ASCAP's amended regulations (see Section 1.12 of those regulations dealing with this New Media opt-out) provide that ASCAP will must notify all New Media services when any publisher decides to avail itself of this New Media opt-out, and what songs will be licensed directly, as SoundExchange has itself found out, such notices often don't command the attention that one might think that they would. 

Collective licensing was developed to provide a one-stop shop to clear vast catalogs of music.  Many feel that it is necessary for those users - like a webcaster - who needs acceess to a broad array of music in order to operate its business.  When the sound recording performance royalty was first established in the 1990s, it came with a mandatory collective licensing approach (the "statutory license"), so that all users could easily determine how to pay for the music that they use, without needing to deal with every rights holder - perhaps having to negotiate a different deal with each one.  As we wrote here, that is why Internet radio has had the Beatles catalog for so long, even though interactive digital music services, which don't have a compulsory collective license only recently have been able to obtain such licenses.

If music publishers associated with record labels generally start to exercise their rights to withdraw their catalog from the PROs, it's possible that they could even exert more control over the use of the sound recordings.  If, for instance, they control both the publishing and the master recording (the sound recording) rights to a particular band's music, and they feel that the statutory sound recording performance royalties set by the Copyright Royalty Board are too low for a particular recording, they can effectively block the use of that sound recording by extracting a higher price for the musical composition the next time the license for that composition becomes due.  One could even see different prices being charged for the rights to different musical compositions (in fact, most Beatles compositions are held by EMI - so it is possible that every Internet radio operator will not have access to their recordings if this combined licensing scheme goes into effect).   While the efficiencies claimed by the publisher might exist in the case of some interactive services, or in cases where you are dealing with a very limited number of songs (e.g. negotiations to use the music in video productions), for traditional Internet radio services, the efficiencies seem to diminish, not increase.

Just what digital services are affected by this move?  Broadcasters do not seem to have to worry about this development, as the amendment to ASCAP's regulations allowing this partial withdrawal from its licensing system excluded them (and the definition of "broadcaster" under the antitrust conset decree (see Section II(f)), seems to exclude cable and direct broadcast satellite as well, as indicated in ASCAP's press release on the matter.  This exclusion would seemingly include broadcaster's Internet simulcast's of their over-the-air programming.  But other digital music services that are subject to Sections 114 (webcasters), 115 ("DPD", or "digital phonorecord deliveries", i.e. copies or reproductions of musical compositions made digitally) and 106(1) (other digital reproductions by audio services), are all covered. 

This is an evolving story.  There are many questions that remain.  One unanswered question is exactly which songs are covered by this opt-out.  Another is how it will affect the rates charged by ASCAP.  Finally, the practical effect remains to be seen.  It may well be that this new system will in fact prove more efficient, or will provide benefits to users and composers - or it may impose some of the burdens that I describe above.  Until this is all sorted out, music companies will need to watch carefully to ensure that they license the music they need - from the proper places.  More on some of the other issues involved in digital music licensing can be found in our advisory - The Basics of Music Licensing in a Digital World. 

NOTE:  Corrected 5/10/2011 to note that ASCAP, and not the music publishing company, sends out the notices to the services of a New Media opt out when a publisher decides to exercise it right to opt out of the normal ASCAP licensing scheme. 

Even the use of music in "live" programming, which would typically be covered by the public performance right, can lead to problems in this digital age where content is regularly repurposed.  We have seen cases in the last year where producers of live television programs that include the use of some music have been sued by the holders of copyrights in that music.  Why isn't this covered by the ASCAP, BMI and SESAC royalties?  Because these programs are often recorded, and then rebroadcast as re-runs on the station.  Or they are recorded and made available for downloading or on-demand streaming on the website of a station or program producer.  The copyright holder in both the musical work and the master recording has an exclusive right under the copyright law to license the reproduction (i.e. the duplication or copying) of the work.  So, when the work is duplicated on the tape used for the broadcast of a re-run of a "live" program, or where excerpts are copied on servers or other digital storage devices for on-demand playback on a website or through some other digital playback mechanism, the reproduction right is triggered.  Thus, program producers need to get the rights for these uses.

There is commercial production music available for these purposes, where rights are pre-cleared.  Also, it is often possible to get the rights to the musical work, and have that work recorded by a local band to avoid having to get the master rights from a popular band.  But whether you are using production music or locally recorded music, be sure you know what rights you are getting, and what rights you need for the purpose to which you are putting the music, to avoid running into trouble.

Look for the Davis Wright Tremaine Guide to Music Law Basics, to be available very soon.

We have written before how, using the Copyright Royalty Board decision that was reached for XM and Sirius in 2007 (and recently upheld by the Court of Appeals), it could be concluded that the "willing buyer willing seller" standard could lead to a broadcast performance royalty as much as 25% of gross revenues.  We reached that conclusion by looking at the CRB decision which set a royalty for XM and Sirius (at that point separate companies) of 6% growing over a six year period to 8% of gross revenues (with some adjustments subtracting those revenues clearly attributable solely to non-music programming).  The CRB reached that decision after finding that a fair market rate (essentially what the willing buyer willing seller standard is supposed to determine) would be approximately 14% of the XM/Sirius revenues (principally their subscription revenues as their music streams were commercial free).  This value was adjusted down to the final royalty to preserve the stability of the industry, a factor required to be taken into account by the 801(b) standard that applies to the determination of the satellite radio (but a factor left out of the House version of the broadcast performance royalty bill).  That 14% of revenue was computed on the assumption that about half of the subscription revenue could be attributed to non-music programming (e.g. news, sports, Howard Stern and Oprah, etc).  So, if the perceived market value of the music in Sirius XM programming was 14% of the total subscription revenue, and half of that value came from non-music programs, then the value of a pure music service would be double that number, or something in the vicinity of 25%.

At the House hearing on the performance royalty held in March, an RIAA witness seemingly implied that the royalty would actually end up being closer to the 6-8% of revenue that Sirius XM now pays.  But recent royalty decisions give one pause about such a claim.  Look, for instance, at the recent settlement between the Pureplay webcasters (some of whom I represent) and SoundExchange, where the percentage of revenue royalties range between 12 and 14% of revenue for small webcasters to 25% of revenue (at a minimum) for large pureplay webcasters.  And this rate is deemed an experimental rate, reached as a compromise and not reflecting the true value of music, according to the SoundExchange press release.

In other services where there is no adjustment made for the preservation of the industry subject to the royalty, the royalty has been high - though perhaps not quite as high as in the webcasters' case.  For instance, in connection with "new subscription services", the audio services provided with DISH and DirecTV video services, the parties planning to provide those services and SoundExchange reached an agreement for a royalty rate of 15% to avoid a CRB hearing.  Even in connection with Business Establishment Services (like Muzak) that do not pay for the public performance of music, but only for the ephemeral copies made in the digital transmission process (the most insignificant part of the webcaster royalty - assumed to be about 8% of the total royalty), the parties agreed to pay a royalty of 10% of gross revenues.  In no case of which I am aware has the royalty for the public performance of sound recordings been set at less than 10% of gross revenues, and then only in connection with "small webcasters," who have revenues similar to those of radio broadcasters who would pay a flat fee under the pending legislation for the broadcaster performance royalty. 

Thus, the conclusion of the CBO, that the broadcast performance royalty would be substantial, seems right on target, unless the new legislation adopts the full 801(b) factors. These factors would have to include the factor looking at the preservation of the stability of the industry which was so important in the Sirius XM decision - the one factor omitted from the standard proposed in the revised House bill. 

Of course, even at 6-8% of revenues, broadcasters will probably find the royalty significant).  But at 25%, in today's economic climate, it would virtually drain the radio industry of its profit margins.  We will be interested in seeing if these factors are discussed in tomorrow's Judiciary Committee hearing.

The Court decision rejected SoundExchange's challenges to the decision of the Board to apply the 801(b) factor which instructed it to take into account the impact of the royalty on the stability of the industry.  The application of this factor resulted in a royalty that grows from 6 to 8%, reducing what might have been a royalty in the range of 13% had the Board relied solely on its assessment of fair market value.  Among other issues, the Court rejected SoundExchange's claim that the XM-Sirius merger should have been taken into account to mitigate against any need for this factor to be taken into account.  The Court also rejected the Board's decision to exclude from revenues subject to the royalty those revenues that came from non-music services, like revenue from advertising on non-music channels or from equipment purchases. 

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. 

First, the deal provides for different treatment for large and small pureplay webcasters. For the small pureplay webcasters, the ones with less than $1.25 million in revenue (the number that has seemingly become a magic number included in the microcasters deal as well as the proposed broadcast performance royalty to distinguish between large and small users of sound recordings), a webcaster who agrees to pay slightly higher royalties in 2009-2014 than required under the microcaster deal (12% on the first $250,000 of revenue and 14%, as opposed to 10-12%), gets the following benefits:

• An aggregate tuning hour limit of 8 million monthly ATH for 2009, 8.5 million for 2010, 9 million for 2011, and 10 million for 2012-2014, instead of the 5 million monthly ATH under the microcaster deal
• A recapture provision that requires that the webcaster, upon sale of the webcasting business to an entity that would not qualify as a small pureplay webcaster, repay the difference between what he would have owed under this deal had he not elected to be a “small entity”, but the recapture is limited to 4 years, not a potential 10 years as required by the microcaster deal. In addition, under the terms of this deal, the webcaster has the option of paying 30% of the consideration from the sale to SoundExchange in lieu of the per performance recapture, a percentage which very well may be smaller than the per performance calculation. Under this deal, if the webcaster pays under the "per performance" option outlined below for one full year, no recapture requirement exists. This recapture provision is to avoid the LastFM issue that SoundExchange has expressed concern about in public statements (see our post here).
• A transition period, for a small pureplay webcaster who grows its revenues beyond $1.25 million, that allows it to continue to pay at a percentage of revenue royalty for the remainder of the year in which it exceeds $1.25 million, and the entire following year. The webcaster would have to pay 25% of its revenues to SoundExchange, but would not have to make per performance payments for as much as two years, if it times its transition beyond the $1.25 million threshold properly. This is in contrast to the 6 month transition under the microcaster deal.
• This deal gives the webcaster the ability to delay the transition to the per performance royalty, if its revenues go over $1.25 million, then drop back below that number. Only after a webcaster has revenues in excess of $1.25 million for 2 calendar years will it be required to pay at the per performance rates.

Webcasters who elect this deal must do so on a yearly basis. As the deal offers no small pureplay webcaster percentage of revenue option for 2015, this ability to opt out is important for the smaller webcaster who has not reached the $1.25 million cap by that time, as they can opt for the microcaster deal for 2015 if they cannot afford the pureplay per performance royalties set forth below in 2015. Or, if another settlement should be reached, or the CRB should set lower rates for 2011-2015, a webcaster could opt out of this deal and choose any better arrangement that comes along at the end of the calendar year in which it is operating.

The small pureplay deal also has minimum fees. Webcasters have a minimum fee of the greater of  $25,000 or 7% of expenses.  The 7% of expenses is also required under the microcaster deal. As it will be mostly larger “small” webcasters, ones with concerns about the $1.25 million dollar cap or the 5 million aggregate tuning hour limit under the microcaster deal, who elect this deal, most will have revenues in excess of $250,000, and thus would owe the $25,000 minimum fee in any event.  That minimum can be paid in quarterly installments.

For larger pureplay webcasters, the deal offers a substantial advantage over the CRB rates. The rates for large pureplay webcasters are the greater of 25% of revenue or a per performance royalty that is far lower than that required by the CRB – even through 2015. As set forth below, the per performance royalty for 2015 will be the same rate that webcasters were charged for 2008 under the CRB decision – and far less than that agreed to by the broadcasters in their settlement with SoundExchange. As most large webcasters claimed that the CRB-determined royalties would total 75% or more of their revenues, this new rate represents a substantial savings. The pureplay per performance royalties (with a per ATH royalty rate for 2006-2008) are as follows:

Year                 Per Performance      Per Aggregate Tuning Hour

2006                $0.00080                     1.2¢

2007                $0.00084                     1.26¢

2008                $0.00088                     1.32¢

2009                $0.00093

2010                $0.00097

2011                $0.00102

2012                $0.00110

2013                $0.00120

2014                $0.00130

2015                $0.00140

Either large or small pureplay webcasters, who offer a white label or syndicated service to some third party, where the service is offered to the public under the name of the third party and not the webcaster, or for those who offer a subscription service, will have to pay at higher rates. Presumably, the theory is that such services do not make their revenues from advertising, but instead from payments by third parties or from the subscriptions by the public, and can factor in these higher costs in the amounts that they charge for such services. Essentially, royalties for those services would be paid at the same per performance rate as the broadcasters are currently paying under their settlement with SoundExchange (see our post here on those rates).

In sum, while far from a perfect deal that webcasters would have selected on their own, this deal does provide another option for webcasters with substantial advantages in many area to those that qualify for treatment under this deal. While no doubt the fight will continue over the standards that should be used to determine royalties in future proceedings, so that parties don’t need to enter into these after-the-fact settlements when one party has a substantial bargaining advantage with a favorable decision already in hand, SoundExchange should be credited for agreeing to reach this deal when there was no compulsion that they do so. This deal presents certainty for many webcasters – eliminating further litigation and negotiation costs while setting rates at which a class of webcasters can go on with their operations. 

One reason for the confusion about SESAC may be that the other performing rights organizations representing composers, ASCAP and BMI, cover the costs of streaming a broadcast station on the Internet as part of the same process that broadcast stations use to pay their over-the-air royalties.  Thus, broadcasters do not see a separate invoice for their streaming royalties due to these organizations.  SESAC, on the other hand, has determined that streaming (and HD radio channels) are potentially independent revenue sources, so they charge a separate royalty for the music used by broadcasters providing these services.  However, it should be noted that both the ASCAP and BMI agreements with broadcasters are up for renewal this year, so these issues could conceivably be up for consideration in the negotiations about the new royalties to be paid by broadcasters in the future.

But for now, broadcasters who are streaming their signals on the Internet should understand that the rights covered by ASCAP, BMI and SESAC are different from those covered by the SoundExchange royalty, and thus there are obligations to all of these organizations for music royalties.  Thus, don't ignore that letter from SESAC asking for Internet radio royalties.

Last month, the House Judiciary Committee held a hearing on the broadcast performance royalty.    The hearing demonstrated the seriousness with which the House Committee viewed the prospect of a royalty being imposed on over-the-air broadcasters, with several Congressmen issuing warnings similar to that conveyed by Congressman Boucher, warning broadcaster representatives to sit down and work out a royalty with the recording industry, or Congress would impose one on the broadcasters which they might not like.  At the same time, broadcaster representatives emphasized an issue that, while important before, has become more crucial now -the economy and the financial health of the broadcast industry.  With broadcasters suffering from the poor economy, a royalty could be crippling to many.  But on the question of how much the royalty would be, RIAA President Mitch Bainwol echoed the line from the RIAA spokesperson in the Bloomberg article, saying that it would be "reasonable."  When asked what that meant, he said the it would be a bit more than is currently paid by broadcasters to ASCAP, BMI and SESAC (approximately 4-5% of revenues), saying that something in the area of 6-8% might be normal in these sorts of situations.

That range of numbers - the first numbers that I have heard from a representative of the recording industry - is somewhat surprising.  Two weeks ago, the recording industry was in the Court of Appeals arguing that a Copyright Royalty Board decision setting a royalty of 6-8% of revenues for satellite radio was too low.  In the Internet radio world, SoundExchange asked for more than 30% of gross revenues, and ended up with a per performance royalty that most webcasters have said works out to 75% or more of their revenues.  Yet the recording industry is saying that 6-8% would be reasonable?  It will be interesting to see if that number is repeated in other forums as evidence of their reasonableness, or if this was a one-time statement of this individual, not adopted by the industry as the benchmark for what they seek.

The back and forth at the hearing may provide some indication as to the next steps in the process of trying to impose these royalties.  There was significant discussion of an independent study to assess the impact any royalties would have on radio operators and musicians.  While no party publicly objected to a study, there has seemingly been no follow up to authorize that study since the hearing.  And, as the recording industry said that the study should not slow the adoption of the royalty, one questions why a study would be authorized if Congress was planning to go ahead and authorize a royalty before the results of the study were available.  Why let the facts get in the way of legislation? 

While Congress heading for their Spring recess, look for more action on the royalty in May after they have returned.

If this stratagem were to succeed, there may be an impact far beyond this particular game. In any decision of the Copyright Royalty Board as to the value of music in assessing what a willing buyer and a willing seller would agree to in a marketplace, the Board has always assumed that there would be some agreed upon value of music, as interactive or on-demand providers of music, such as video game makers, have traditionally paid for the use of the music they feature. Were this paradigm to change, music services could well argue that Internet radio and other services that are subject to the royalty should pay little or nothing for that royalty given the promotional value that they deliver. Of course, part of any such analysis would be proof. In the case of Guitar Hero, which features a limited selection of music, Activision can show that the sale of the featured music climbs coincident with a new release of a version of the game that features that music. Internet radio, on the other hand, which features a wide variety of music over a prolonged period, music that may also be featured on other services, has a harder time demonstrating the direct connection between airplay and music sales. But tests could be conducted (see RAIN’s proposal for the Three Dog Night test, here). It may very well benefit companies to conduct such tests before the next CRB proceeding, scheduled to begin next year.

The disconnect over Internet radio was evident not only in the discussions of the revenues, but in the discussion of the meaning of Internet radio to artists.  Simpson started his testimony talking about three heirs of deceased musicians who were thrilled by their SoundExchange royalty checks as the musician they represented had not made any money during their lifetimes from their recording and touring careers.  He used this introduction to launch into a discussion of the need for this compensation to reward artists for their  performances as the world moves from a culture of possessing music to one where music is not owned but merely listened to through various platforms.  As musicians will no longer be compensated through the sale of the their records, they need to make up the revenue from lost sales through performance licensees such as those reflected by the CRB-imposed royalties.  Musician John Ondrasik of Five for Fighting echoed Simpson's points, contending that compensation through royalties puts food on the table of musicians, and was necessary to avoid discouraging new artists, thereby hurting the country's economic and cultural life.  Ondrasik stated that he had received about $9,000 in royalties from SoundExchange the prior year which, while it might not seem like much, had made a difference.

In counterpoint to these witnesses, musician Matt Nathanson stated that, while he does not mind getting money from royalties, the promotional effects of Internet radio was so great that he would prefer to give up some royalties to insure that Internet radio can become profitable and grow.  He stated that Internet digital delivery of music had changed the economics of the music industry, leveling the playing field for artists.  No longer are musicians required to be dependent on the record companies for their livelihoods.  Nathanson made the following points:

• Blogs, email, viral marketing, and on-line listening have allowed musicians to keep in touch with their fans, without the need for a record label promotions department
• The digital delivery of music ends the fight for shelf space in record stores, allows musicians to audition their music directly to the consumer (on their websites, MySpace pages or through Internet radio) so that they can build an audience on-line
• In this new system, promotion is the key way to make an audience to grow, and Internet radio is an important component of that promotion given its diverse programming
• Digital delivery makes sales and promotions opportunities more equal - by getting rid of scarcity you don't give limited power to a handful of broadcasters, nor are there necessarily a handful of major artists who get all the promotion through airplay
• The new system favors new artists and, if the growth of Internet radio is limited because of royalties, it will most hurt the small and developing artists who are promoted through the multiple channels of Internet radio

Kennedy of Pandora made the point that Internet radio democratizes radio, suggesting that if lower royalties are not agreed to, only broadcasters who can subsidize their operations through their broadcast operations would be left on the Internet.  Diversity would be lost.  Nathanson stated that such consolidation would be a "huge step back" for artists.  Senators on the panel remarked that Nathanson's view was a different perspective that they had not heard before (they obviously don't read this blog, as we remarked on some of these same points in posts including one here - mentioning that points made by one of SoundExchange's own witnesses at the hearings before the CRB talked about how new artists would probably benefit from promotion when more established artists might be more hurt by any substitutional effects of Internet radio).  After his testimony, there was much discussion of the real debate being between the new and old ways of doing things. 

In response, Simson of SoundExchange, trying to refute Nathanson's position, said that the benefits that he suggests were not available to the estates of artists who had died.  But Nathanson, in perhaps the most telling line of the hearing, said that the it wasn't Internet radio that put the artists in that position - it was the record companies and their contracts with the artists.  Nathanson concluded that Simson was proposing to right the wrongs of the past by crushing a new industry that had nothing to do with creating those wrongs in the first place.

Obviously, these differing perspectives - even among artists themselves - do not make settlement easy.  And there were other issues that were discussed at the hearing - stream-ripping, the broadcast performance royalty and the fear of "subsidizing" technologies that will be discussed in the third part of summary, to be posted in a few days. 

The second bill that was being discussed was that of Senators Brownback and Wyden (who were both at the hearing, the former asking questions and the later as a witness) - the Internet Radio Equality Act (about which we have written here and here) which would lower Internet radio royalties to 7.5% of revenue and adopt the 801b standard for future proceedings.  As the bills propose different standards for music royalties, one area of disagreement was immediately evident.  Yet, as Senator Feinstein pushed the parties to find a compromise, a glimmer of hope actually appeared.  

The record company representative on the panel, Jeffery Harleston of Geffen Records, held firm for the "fair market value standard," arguing that if artists and labels are forced to license their product through a compulsory license, it is only "fair" that they receive the value that their work would have brought had they been able to license it in the marketplace - so a "fair market value" rate was appropriate to provide that compensation.  While the issue was not raised in the hearing, one wonders why, if the record companies believe that this standard is the only "fair" one when a compulsory license is involved, they don't advocate a change in Section 115 of the Act - the compulsory license that record companies rely on to get rights to reproduce the composition of a song when making a recording of that song.  Record companies and artists do not need to negotiate with music publishers for the rights to use a composition, but instead they can get that right through a compulsory license - and the royalty to be paid by the record companies under that license is set using the 801b standard.  So if record companies and artists use 801b when it benefits them, shouldn't the same standard be used when their product is the one subject to the license?

On the other hand, Joe Kennedy of digital music service Pandora, testified that the 801b standard, as used for all other royalties under the Copyright Act, should also be applied to the performance royalty in a sound recording.  Kennedy argued that, given the difficulty of the application of the "willing buyer, willing seller" standard to Internet radio (stating that the royalty currently takes 75% of Pandora's gross revenues and, if not changed, will definitely force the company out of business as the royalty increases over the next two years), it seemed difficult to justify the adoption of yet another new standard - "fair market value" - which has never been used in the past.  What Kennedy did not specifically state, but which seems evident from the fact that the recording industry is supporting this new standard, is that this new standard is likely to be interpreted much like the "willing buyer, willing seller" standard which already purports to assess the economic value of  music in an arms-length negotiation in an open marketplace.  That would seemingly be the same thing as "fair market value" of the music.

One point that was lost in the discussion was the meaning of the 801b standard, with some of the Senators in attendance admitting that they did not understand that standard and how it was applied.  What is the 801b standard?  The standard looks at a number of factors in assessing what the proper royalty should be.  Those factors are:

(A) To maximize the availability of creative works to the public.

(B) To afford the copyright owner a fair return for his or her creative work and the copyright user a fair income under existing economic conditions.

(C) To reflect the relative roles of the copyright owner and the copyright user in the product made available to the public with respect to relative creative contribution, technological contribution, capital investment, cost, risk, and contribution to the opening of new markets for creative expression and media for their communication.

(D) To minimize any disruptive impact on the structure of the industries involved and on generally prevailing industry practices.

As is evident, those factors not only look at the economic value of the use of the work, but also assess the public interest in the distribution of artistic and literary works and the impact that the royalty will have on the industry that has to pay it.  Just as the impact of the Section 115 royalty would have on the record companies must be assessed in looking at that royalty, the impact on the digital music businesses would have to be assessed in determining a rate decided under this standard.  In using the 801b factors in assessing the satellite radio royalties, for instance, the CRB reduced a willing buyer willing seller determination of 14% to a rate climbing from 6% to 8% of revenues over a 5 year period, justifying the reduction on the impact that the royalty would have on the business of the satellite radio companies if it were not so adjusted (see our previous post for more details). 

So - where was that glimmer of hope?  As Senator Feinstein pushed the parties on the panel to find a compromise standard so that the legislation could be moved this session, John Simson, the President of SoundExchange (the collective which collects the royalties and distributes them to artists and labels), actually broke ranks and stated that he did not rule out the use of the 801b standard.  However, he said that he thought that the standard would need to be tweaked to reflect current marketplace realities.  His specific example of where that tweaking could occur was in assessing the "substitution" issue - whether the use of the copyrighted work by the digital service would be a substitute for its purchase, thereby diminishing the income that the artist might receive from the use of the sound recording.  Of course, it would seem that the existing factors already take that into account in assessing the "risks" to various parties under consideration (C) above, the impact on the structure of the businesses that are involved in the proceeding under consideration (D), and the fair return under clause (B).

The purpose of the Copyright laws, under the Constitution, is "To promote the progress of science and useful arts, by securing for limited times to authors and inventors the exclusive right to their respective writings and discoveries."  Many commentators (see this article, for instance) state that the meaning of "science" at the time of the Constitution was much broader than it is today meaning, more generally, "knowledge and learning."  While creators are given limited exclusive rights, those rights are for purposes of promoting general knowledge within the community - not exclusively for the protection of the copyright holders.  If this interpretation is the correct one, then it seems like the Section 801b factors are exactly what is meant by the purpose of Copyright - insuring a fair return, but also allowing for the reasonable distribution of the copyrighted material so as to benefit the knowledge of the general population.  This, of course, leads into the discussion of the differing views of the purpose of the statute and of the state of the industry - issues both discussed in detail at the hearing - and to be covered in subsequent posts on this blog.

Also, this rate covers only these three Internet services, and only covers ASCAP.  Of course, the decision may be instructive as to the rates that would apply to other similar companies (and potentially for BMI rates in the future, as they also are subject to a consent decree - though SESAC is not).  However, most Internet companies, especially smaller companies that cannot afford expensive rate court litigation, are paying royalties under the "experimental licenses" that ASCAP posted on its website (and which have rates somewhat lower than the decision here for non-interactive services, and somewhat higher for interactive services), and should not, for the time-being, be affected by this decision. 

While this decision involves a different right than does the CRB decision for somewhat different types of services, the rights are similar, yet the approaches taken by the Court here and the CRB in the setting the sound recording royalty were quite different.  For instance, one of the criticisms of the CRB decision, especially by the small webcasters that I represented in the proceeding, was that the CRB refused to adopt a percentage of revenue royalty, finding it difficult to compute what revenue was to be included as being subject to the royalty and because it did not represent a payment for all of the music used.  The CRB found that a per performance (e.g. per song, per listener) rate was more appropriate as it insured a fair return to the copyright holder in the sound recording even by a service that did not maximize its revenue.  Under a percentage of revenue royalty, the CRB determined, there might be minimal payments for the use of music.  Here, however, the Court found almost exactly the opposite,  concluding that a percentage of revenue rate appropriate for the following reasons:

• It was economically efficient, as it did not provide any disincentive to a service not to use music as might be the case for a royalty that demanded a per performance fee
• It adapts to changing conditions, as it will collect more when a service makes more revenue and less when a service has hard economic times, thus taking into account changing economic and competitive conditions, variations in financial fortunes and changes in technology and other unforeseen changes in the circumstances of the services that may occur over time
• Revenues were simple to verify as information about total revenues were routinely collected by a service
• That these royalties provided the kinds of efficiencies expected for a blanket license - easy administration, that covered all rights to all the music represented by ASCAP, and gave the service certainty as to its music costs so that it did not need to take royalties into account in deciding how to introduce any new aspect of its service

By contract, the new CRB rates require many services to pay based on performances, a metric that many services don't currently track, and which many may not be able to accurately count (see our post here).  The CRB royalties also are such that they the webcaster must carefully consider them in making any decision as to whether or not to launch any new service as, if that service attracts listeners but not revenue, the service could owe significant fees without having earned the revenue to pay for the music use.  The per performance royalty does not adjust to changing economic conditions, either, as it remains at the level set by the CRB, regardless of the ability of the service to monetize the use of music or changing economic and competitive conditions.  In effect, the per performance royalty does not encourage the use of music, as evidenced by many of the larger services that are reportedly limiting their listening or (as in the case of AOL), getting out of the Internet radio industry entirely (see our post here).

The Court in the ASCAP case stated that deciding the marketplace value of music under a blanket license like the one at issue here is a difficult process, as there really are few if any real examples of what a willing buyer and willing seller would agree to.  The existence of the blanket license and the threat of a rate court proceeding itself distorts the market, and contributes to results of any voluntary deal that is negotiated for similar rights.  And the consideration of benchmark royalties negotiated for other services (a number of which were considered here) all have some differences with the situation at hand, meaning that some sort of inexact and hypothetical adjustment must be done to use the benchmark to determine the rate applicable in the pending case.  Regardless of whether or not one thinks that the decision reached in this case was the correct one, the considerations that went into reaching the rate are ones that might be instructive for future cases involving the CRB's decision on the sound recording royalty. 

The complaint of the sound recording copyright holders (primarily the record companies), is that services like Last.FM use sound recordings as the building blocks of their business, and can amass large audiences based on the use of the sound recordings, yet the record companies don't get a share of the "windfall" that may result when these businesses are sold.  Of course, this argument assumes that the value of these services is primarily in their use of the music.  Under their theory, it would seem that all a service needs to do is start playing music, and audiences (and eventually riches) will result.  Instead, most digital media companies will argue that there is far more to creating a successful Internet service than simply starting to play music online.  If you just had to provide the music and watch the audiences roll in, Internet radio would be a huge business that anyone could enter - and the litany of failed or struggling Internet radio and digital music delivery companies should not exist.  To me, it seems that a service, to be successful, must offer something more than just music, whether it is the community aspects of a Last.Fm or iMeem, or the sophisticated music selection software provided by a service like Pandora.  These sorts of services take much investment and much time to develop audiences, and even longer to develop significant revenue.   And, while these companies may eventually be sold to a company that may better develop and monetize their audience, as happened with Last.FM, the record companies will receive significant royalty revenue if the new owners are successful in the development of the potential of the service.  If they are not successful, one wonder whether there really was any significant value received from the use of the music, and if there was no real value, should there be significant royalties?

The complexity of questions such as these, and the differing perception of the value of music (whether it has intrinsic value on a per performance basis, or whether it really only has value to the extent that it leads to the development of revenue) lead to the debates over the appropriate royalties that the services should pay - such as the debate over the Internet radio royalties that has been going on for the last year.  Given the inherently conflicting views of the value of the music, and the contribution of the other elements of a service, the arguments are difficult to resolve, as there may be no common ground on which agreement can be reached.  Nevertheless, as the industry matures, and there is more and more evidence as to how these services can monetize their use of music, perhaps more rational royalty models can arise - or so one would hope.

The briefs filed by the parties raised a number of issues about the CRB decision including the following:

• The failure of the CRB to even address the proposal for broadcasters to pay a flat fee for streaming, similar to the flat fee that they pay to ASCAP and BMI
• The failure of the Board to adopt a flat fee for noncommercial stations, similar to that which had previously been negotiated between SoundExchange and NPR
• The determination by the Board that the Small Commercial Webcasters were not really concerned about a percentage of revenue royalty, despite consistent testimony that the fee was necessary to their survival
• The adoption of a $500 per channel minimum fee in spite of the lack of evidence that this fee in any way reflected SoundExchange's costs of collection.
• The determination of the royalty rate using a model derived from on-demand services, even though the model used an adjustment factor between the two types of services was abandoned by SoundExchange in the Satellite Radio proceeding, and despite the fact that there was an agreement between the record companies and Yahoo for certain streaming with limited amount of interactivity that provided an analogy much closer to the non-interactive streaming at issue here, that was never mentioned by the Board (though a similar Yahoo deal formed the basis of the royalty decision in 2002).
• The decision by the CRB that it had to adopt a proposal that was advanced by the parties, and could not split the difference by adopting a rate that it derived from the totality of the evidence - resulting in the Board essentially adopting the SoundExchange proposal.

While the appeal process progresses, the Boston Globe article made clear that the negotiations about a voluntary settlement are also still dragging on without any resolution.  The Court briefs had been delayed for two weeks in expectation that a settlement between SoundExchange and certain noncommercial webcasters might be reached, thereby obviating the need for the preparation of the briefs for those parties.  Yet the two weeks went by, and no settlement was reached.

The AOL-CBS deal may well reflect the determination by many Internet-only webcasters that they cannot make a business out of webcasting under the current economic conditions.  Note that the Globe article also mentions the efforts made by other webcasters, such as Live 365, to reduce their streaming in order to reduce their royalty obligations.  Rumors are that other Internet radio companies are also limiting their audiences, as appears evident by the Average Quarter Hour listening of Yahoo! which, according to Arbitron measurements, have decreased from over 300,000 to approximately 220,000 between May and June and December, the last numbers available on the Arbitron website.

Without an adjustment in the royalties, the promise of Internet radio, to provide diverse sources of programming to the public, may well have come to an end.  If even the largest of Internet radio companies are either abandoning the business or limiting their streams, how will small start-up companies deliver music to the public?  Will the predictions of the Globe article, that terrestrial broadcasters will be the only services that can survive in this environment, come to pass?  Will the record companies, that have contended that Internet (and terrestrial radio) do not provide promotional benefits to music, get their wish and end up having to promote their music in secret?  Over the next few months, these questions may well be answered. 

To some extent, the Business Establishment royalty reveals other inconsistencies in the law.  In the recent decisions on Internet radio and satellite radio, the CRB determined that the ephemeral copies had no value, allocating all of the royalty to the rights under Section 114.  This is consistent with other statements made by the Copyright Office suggesting that ephemeral copies, which are inherent in the transmission process but otherwise are of no real use to the consumer, have no value.  But, here, the royalty is valued at a full 10% of the revenue of the service.

Also, the law establishes that there is no performance right in the sound recording.  However, as in the over-the-air broadcast services, there is a royalty that must be paid for the use of the copyright in the composition.  Thus, the stores and other business establishments themselves have to pay royalties to ASCAP, BMI and SESAC for the performance of copyrighted works (though the services often pay that royalty on behalf of the user). 

Comments on the proposed royalty are due on February 29.

The answer - given by both artists - was "fairness."  Lovett pointed to the fact that, even though he may benefit from radio airplay because more of his CDs are sold and more people attend his concerts, the background musicians on his recordings don't get the benefit of such publicity (if the royalty is paid in the same manner as are the royalties on Internet radio and other digital audio services, then background nonfeatured performers would receive 5% of the royalties, contributed to a fund and distributed by the musician's unions).  Peacock pointed to the fact that it was unfair that other digital services (like Internet and satellite radio) paid the royalty and broadcasters did not.  She made the point that, even though radio might have some promotional value, that alone did not excuse the industry from paying royalties.  She pointed to other performances that have promotional value for the sale of CDs, yet still pay her for performing (pointing to a live concert where she said that it would be crazy to expect that a club owner would not pay her because of the promotional benefit of her singing in his club).

The Senators, while conceding the fairness point, asked if that was enough to carry the day.  Senators made the point that radio promotion was so important that some artists seemed to be willing to pay for it - apparently an allusion to the payola issues of recent years.  An interesting question was asked of the commercial broadcaster witness, Steve Newberry of  Commonwealth Broadcasting - whether broadcasters might favor a system where broadcasters would pay artists who wanted to hold out for a royalty, but be able to take money (without payola issues) from other artists who were willing to pay for their music to be aired on the radio (though see our post on the issues that arose when Clear Channel tried to get royalty waivers from new artists).  While Newberry declined that offer, it is an intriguing one - though one with many adverse consequences. First, as some of the Senators themselves pointed out, it would hurt new artists who could not pay for play (and certainly couldn't demand payment for being played).  And, as Mr. Newberry pointed out, smaller radio stations outside of major metropolitan markets would not benefit from such a system, as promotional payments would probably be targeted to large market stations.  And it would be those very same smaller radio stations with tighter operating margins which would be most impacted by any new royalty.

This discussion then flowed into a very brief discussion of the one issue that tends to get overlooked in these proceedings - that it is not the small struggling artist versus big corporate radio that really is at issue here.  Instead, it is the broadcaster versus the big artist and record labels who are rarely, if ever, asked to testify at these hearings.  But, as Senator Hatch, himself a music performer and writer, pointed out, most artist would get nothing out of such a royalty, as the vast majority of musicians don't have their music played on the radio.  In fact, he worried that a new royalty might make radio stations reluctant to take a chance on a new artists knowing that they had to pay for the performance, causing the station to instead opt to play an established hit or some form of non-music programming.   And, as with any new government imposed-obligation on broadcasters, it would probably be the smaller broadcasters who would be most affected by any new performance royalty.  When the BMI royalties on small stations rose by only a few dollars four of five years ago when a new royalty system to compensate BMI's composers was adopted, I had dozens of calls from small market stations complaining about the impact that the minor rise in expenses had on their operations.  A whole new royalty imposing what would probably be a larger  obligation on these stations would no doubt be greeted with similar outcries.

In fact, one wonders how much artists like Ms. Peacock and Mr. Lovett would themselves receive from a new royalty - as neither are staples of most hit-driven radio stations.  The bulk of any performance royalty - 50% (assuming that these royalties are structured in the same manner as Internet or satellite radio royalties)- goes to the copyright holder in a performance, i.e. the record company (in most cases).  45% goes to the featured performer and, as the royalties are distributed based on airplay, one would assume that Britney, U2, Carrie Underwood and other artists who already are very much in the public eye and who already receive substantial compensation from their performances through music sales and concerts would receive the great bulk of any royalty pool. 

The Committee did not get into the debate over semantics - whether this should be referred to as a "performance royalty" or a "performance tax."  In contrast to the substantive discussion had by the Committee, the NAB and the Coalition pushing for the new royalty engaged in some theatrics in the last week - the Coalition sending the NAB a dictionary highlighting the passage that says a tax is the collection of revenue for use by the government, while the NAB sent each Congressman a stuffed duck, arguing that the proposed royalty sure looked like a tax to the broadcaster (see the NAB ad in Washington publications directed to Congress explaining the duck, here).  As with so much else in these copyright debates, there is an element of truth in both sides arguments - the revenue from the royalty does not go to the government for the government's use - at least not directly.  But it sure does smell like a government-imposed redistribution of wealth as millions (or perhaps billions depending on the royalty rate) would move from the broadcast industry to the pockets of the record companies and, for the most part, the established recording artists.

The Committee meeting adjourned without any real indication where the royalty would go in the Senate - again unlike the House where the passage of a bill through committee seemed certain after the hearing there (though we are still waiting for a public draft, several months after the expected early September release).  About the only thing that seemed certain was that the issue was not going away - and would certainly be the subject of more debate and theatrics in the future. 

Congressman Howard Berman chairs the subcommittee, and he opened the hearing with a summary of the issues - indicating that he expected that the committee would move legislation this year to impose a performance royalty on broadcasters.  Congressman Berman pointed to the lack of equality between performers and composers in getting royalties (when both contribute to the popularity of a song), the fact that most other Western nations collect royalties on the public performance of both the composition and the sound recording, and platform equality (the fact that satellite radio, digital cable radio and Internet radio all pay royalties while broadcasters do not), as justification for the imposition of a new royalty on broadcasters.  Congressman Berman indicated that the royalty that he was seeking to impose would cover only broadcasters - and not be extended to commercial establishments like bars, restaurants and retail stores, which also currently pay a performance royalty to the composers of music.  He also said that he wanted to insure that any royalty would not hurt the ability of radio stations (especially smaller stations) to cover the news, and he would consider the possibility of special provisions to protect smaller stations.  He also made clear that he did  not want any sound recording royalty to decrease the amount currently paid to composers.

These themes were presented throughout the hearing - echoed by most of the witnesses and most of the committee members.  Testifying for the royalty were performers Judy Collins and Sam Moore, and New Hampshire Congressman Paul Hodes - who also enjoyed a pre-Congressional career as a recording artist.  Marybeth Peters, Register of Copyrights, also testified in favor of a performance royalty to be imposed on broadcasters, echoing the themes of Congressman Berman, and restating a position that has long been taken by the Copyright Office.  The Broadcasters were represented by a sole witness - Charles Warfield, President of ICBC Broadcast Holdings, a broadcaster with stations in New York and several other radio markets.

The artists made the argument that the current system was unfair, as they made significant money for composers whose songs they made hits on the radio - but they received nothing from the radio play of these songs.  Of course, neither mentioned what they received from the increased sales of their recordings that resulted from the increased airplay of their music.  Both also argued that the need for the revenue from these royalties was acute, as artists are forced to keep touring for their entire lives to make money, and the royalties would provide a safety net for them.  While Mr. Warfield suggested that the record companies, who stand to profit the most from the royalty and who already profit the most from the sale of recorded music, should better compensate artists so that they did not find themselves in these dire financial positions, his arguments seemed to fall largely on deaf ears.

On the issue of international royalties, the artists contended that foreign broadcasters, who do pay royalties on the public performance of recorded music, do not pay American artists for the performance of their music on these foreign stations as there is no reciprocal right in the US to pay foreign artist for US airplay.  The artists envision a pool of money waiting in the hands of foreign performing rights organizations that should start flowing to US artists.  No distinction was made between the US and foreign markets, nor was there discussion of how the royalty in foreign markets serves as a subsidy for local talent to develop in these smaller music markets in various international jurisdictions - to avoid having American music become the standard worldwide. 

The disparity between digital media and broadcasters was also explored in depth.  Many of the witnesses and the committee members made the point that it was unfair that the digital competition to broadcasters paid royalties, but broadcasters themselves did not.  Some even suggested that, given this competition, the broadcasters no longer provided the amount of promotional benefit they once did (Ms. Peters going so far as to suggest that they provided no promotional benefit that would outweigh the need for a royalty).  In response, Mr. Warfield pointed to the continuing vast reach of radio - reaching over 230,000,000 US residents each week, and the fact that record companies still constantly hound broadcasters seeking the airplay of recorded music - belying the claims that radio performance hurts record sales.  By the end of the hearing, even Mr. Berman acknowledged that radio does provide promotional exposure to artists, but he still questioned whether that alone justified the exemption from sound recording royalties.  The unique obligations of broadcasters to provide public interest programming was also cited as a reason for the different treatment of broadcast and digital services.

In fact, the concern that the imposition of a royalty could harm the local news and information services provided by local radio stations was the one ray of hope for the broadcaster in the hearing.  Virtually all of the committee members were concerned about the possibility that small stations would be hurt by royalty increases.  Especially at small stations, there was a recognition that there is a limited pool of money that is available and, if an additional expense is added, then broadcasters have to find the money some place, and cutting service to the community is not a desired result.  Several committee members suggested that broadcasters could just raise their advertising rates to handle the increased fees.  That, to this observer, seemed a bit naive - if broadcasters could simply raise their rates to bring in more revenue - wouldn't they have already done that?  Most broadcasters are businesses out to maximize their profits and - if they could get greater profits from increased advertising rates - they would have already raised those rates.  The reality is that broadcasters compete for advertising dollars in an ever-expanding media pool.  By raising rates, other forms of advertising - print, direct mail, billboards, TV, digital media and others - become more attractive to the advertiser.  If a broadcaster has a new significant fee to pay, with fixed revenue, the money to pay the new cost has to come from cutting funds used for other purposes.

From recent experience of smaller broadcasters complaining about the relatively modest increases in the past few years in royalties paid to BMI and ASCAP, one can only wonder how these broadcasters could deal with an entirely new royalty.  While Ms. Peters suggested that the "willing buyer, willing seller" standard of Section 114 of the Copyright Act would allow for the distinction between rates paid by large and small broadcasters, small webcasters can testify that this standard doesn't always produce the desired result, as the recent Copyright Royalty Board decision on Internet radio  royalties shows (where the Board found that public interest concerns - like the preservation of diverse sources of media outlets, did not factor into the economic analysis of a willing buyer, willing seller standard). 

The Internet radio experience, where SoundExchange requested royalties of 30% of revenues - 6 times more than the royalties paid for the rights to play the composition, should frighten all broadcasters.  And, while the current proposal is for royalties only on broadcasters, Ms. Peters made clear that she saw no theoretical reason why that royalty should not also extend to other performances of music - like in retail stores.  With hundreds of millions of dollars or more at stake in yearly broadcast royalties, and potentially more from retail outlets, this is sure to be a major battle in coming months.  The proponents of the new royalty have made a facially attractive case for imposing this new obligation on broadcasters.  Broadcasters must pay attention to this issue now , and explain to their Congressional representatives the impact that such a royalty would have, as this is currently the single most direct threat to their bottom line and, if the tenor of the conversation at the hearing is any indication, the threat is real.