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[03 July 2000]
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RIAA to Enter $400 Million Music Licensing Business
by Mark Lewis, Webnoize

Expanding far beyond its role as a powerful lobbying group, the Recording Industry Association of America (RIAA) is making a major move to enter the music licensing business, potentially collecting and distributing more money than performing rights groups Broadcast Music, Inc. (BMI) and the American Society of Composers, Authors and Publishers (ASCAP) combined.

Songwriters and publishers already have the right to collect royalties on webcast music; federal legislation in the '90s extended that right to record companies that hold the copyrights to the sound recordings.

However, it is a little known legal fact that the RIAA does not have an exclusive right to control royalty distribution for those performances. And critics are concerned that there will not be sufficient oversight over the RIAA's activities, and that record companies may not pay artists their cut of webcasting royalties.

The RIAA has been in the licensing business since 1992, collecting royalties on the sale of blank audio compact discs and CD copying decks (but not CD burners), after a 1992 law awarded record companies those monies to compensate for potential revenue lost from piracy enabled by such devices. The RIAA also collects on behalf of record companies 6.5% of gross revenue from cable radio and satellite radio businesses that offer what are called "digital subscription services" for music.

While the RIAA will not reveal its total revenue from these services, it collects approximately $2 million per year from two of them, DMX (Digital Music Express) and Music Choice, according to Ron Gertz, a copyright attorney who founded and runs Music Reports, Inc. Gertz's firm is a playlist data service that makes royalty payments to ASCAP, BMI and individual copyright holders on behalf of broadcasters and new media companies.

Non-interactive webcasting is the newest area in which the RIAA will collect royalties on behalf of more than 300 labels, including the major label groups, which own 90% of the world's sound recordings. Non-interactive webcasters don't let users select what they hear, but are required by the Digital Millennium Copyright Act (DMCA) to license the sound recordings they transmit and pay royalties on their use.

Theoretically, this could mean that radio stations that broadcast their signals over the Internet would have to pay for the right to use the record companies' music, unprecedented in the history of U.S. commercial radio. There is so much money at stake in this change that the RIAA and the National Association of Broadcasters are fighting it out in both the United States Copyright Office and the United States District Court in New York.

The RIAA Enters the Multi-Million Dollar Licensing Business

The RIAA collective will handle royalty distribution for non-interactive webcasting, while labels are negotiating their own royalty deals with interactive webcasters, which let users skip songs and choose artists. Licensing royalties from subscription services and webcasting (including radio stations on the 'Net) could come to $400 million per year -- double what ASCAP and BMI collect from radio -- according to Gertz.

John Simson, senior director of membership for the RIAA collective (which will get an official name in the next six weeks), says he doesn't think the figure will be that high for the first year, though it could grow to that in five years.

The royalties will be "significant," says RIAA collective head Mike Pears, though he contends that they would not be as much what ASCAP and BMI distribute because the RIAA will not collect from analog transmissions.

Running a clearinghouse that deals with that much money -- and maintains the computerized records that will track to whom it should go -- is not a small job. The RIAA plans to hire "at least five or ten people" to run its licensing operations, according to Steven Marks, the RIAA's senior vice president of business affairs. The RIAA's royalty collective is "quite far along" in developing the computer databases that can compile and standardize all the play data from various audio services and webcasters, according to Pears. A former business strategist for record companies, Pears has been supervising the creation of the RIAA's master database of sound recording owners for the last year.

The RIAA has identified 7,300 entities that hold sound recording copyrights and has already convinced mid-size labels such as the Zomba Group, Koch and Green Linnet to join the collective along with the majors.

"Recruiting is my main mission," says Simson, a former artist attorney who represented Mary Chapin Carpenter from 1988-95 and has been on the new RIAA project for two months.

"Reasonable" Admin Costs

The RIAA is entitled under law to take a percentage of the royalties for administrative costs. The law specifies that they must be "reasonable," but that term is oblique, acknowledges Tanya Sandros, a senior attorney at the U.S. Copyright Office. Because the administrative percentage affects the bottom line that goes to copyright holders and ultimately to the artists who are supposed to get a cut of the royalties, there is concern that the percentage is fair.

The RIAA would like to take 16-20% of the total for administrative expenses, according to Simson. "Our goals is to keep [expenses] in line with other performing rights organizations like ASCAP and BMI," he says.

"History has shown that if administrative costs approach 20%, managers lose their heads," says Andrew Sanders, director of international legal and business affairs at ASCAP, which took 15.9% in administrative costs in 1999. ASCAP's percentage is less than BMI's, he said, which is around 18%.

The final administrative percentage will be negotiated at an upcoming Copyright Arbitration Rate Panel (CARP) proceeding, supervised by the U.S. Copyright Office.

How Much Should Webcasters Pay?

In addition to the administrative percentage, webcasters and the RIAA must decide at the CARP proceeding how much webcasters should pay, and how the money should be distributed and audited.

Currently, the RIAA and the webcaster negotiate the cost of the license, which is based on either gross revenue or the number of times a song stream was played by each user, Marks says. But because costs are not set up by formulae the way ASCAP and BMI licenses are, it is difficult for entrepreneurs to budget for licensing in advance, critics contend.

Marks disagrees, countering that the RIAA negotiation process gives the webcaster the ability to bargain and possibly obtain a better deal than a predetermined rate would provide.

The number of webcasters who have reached a licensing agreement with the collective are in the "double digits," Marks says. Those webcasters are paying between 15-22% of their gross revenues, according to an industry source. As a point of comparison, BMI web site licenses cost either 1.75% of a site's gross revenue, or 2.5% of a special revenue base revenue adjusted for site traffic.

Some webcasters are displeased with the cost proposed in negotiations, one reason the process has moved to an arbitration panel.

The cost could be a percentage of gross revenue, a per-performance fee, or flat fee, according to Seth Greenstein, an attorney representing Yahoo! Broadcast at the CARP. Once the fee is established, webcasters will have to make retroactive payments that account for webcasts since October 1998, when the DMCA became law.

The RIAA will not reveal the percentage of gross revenue it seeks, but negotiations over digital subscription audio (a different license from webcasting) provide an indication of how the RIAA has bargained in the past. It initially asked for 41.5% of gross revenue, though the figure was ultimately set at 6.5% by the Copyright Office.

"Since no one really knows what exactly is the value of everything over the Internet and how people are making money -- and what kind of money there is to be made -- no one knows what to give away at this stage," says Sandros. "So, of course, each side is going to be asking for whatever is most advantageous to its constituents."

New Licensing Agencies Could Get Into the Game

One of the most crucial issues -- and a little known fact-- is that the RIAA collective does not automatically get to become the sole licensing agency for digital sound recording performance licenses. The law does not prevent other agencies from serving this function, according to David Carson, general counsel for the U.S. Copyright Office.

"In the digital subscription rate setting," explains Carson, "parties to the CARP proceeding agreed that a collective operated by the RIAA would be the organization that received and disbursed the funds. The next CARP is free to continue with that provision or come up with some other means of doing it."

"The RIAA would like to become ASCAP," says Gertz. "But there can be multiple organizations representing the copyright owners, and common organizations for the users." These users include webcasters and cable radio services.

Other players are coming to the table, according to Carson. The Association for Independent Music, an organization that represents non-corporate labels and distributors, has filed to participate in the next rate arbitration proceeding.

"Here, you have choice," says Sandros. "Someone just has to present to us different ways of collecting the royalties and making the distributions."

Is a Watchdog Needed?

Critics allege that once the collective is in power, it will be difficult to ensure that funds are correctly distributed to copyright holders and that fees are being assessed correctly.

"Who's going to watchdog this?" asks Ken Hertz, a music attorney who represents Alanis Morrisette and Herbie Hancock. "Who's going to keep track of what was collected? There isn't an independent body; these licenses are being issued directly. That's the worst possible thing."

Marks says that the RIAA will be supervised by the Copyright Office, but the RIAA has not always deferred to the rates and procedures that the Copyright Office has imposed on the trade group in the past.

The group challenged the Copyright Office in March 1999, in the U.S. District Court in Washington, D.C., after the Copyright Office lowered the royalty percentage for digital audio subscription licenses and said that copyright holders should be able to audit the RIAA. The court ruled to let the 6.5% rate stand, but did not uphold the auditing provision, sending it back for further consideration, because neither the arbitration panel nor the negotiating parties had addressed the idea in their original proceedings.

Ultimately, disputes with any performance rights organization, including the RIAA, have to be settled by the courts, not the Copyright Office, says Sandros. "We have no jurisdiction over those organizations," she says of the RIAA, ASCAP and BMI.

Will the Artists Get Paid?

Copyright Office attorneys and artists' attorneys say that under the DMCA, record companies must turn over 45% of webcast royalties to featured performers and 5% to backup musicians and singers.

But some featured artists' contracts state that they they are not entitled to any money from blanket licenses. Labels could decide to defer to these contracts, rather than the DMCA, and not pay artists the 45% split.

Music attorney Hertz says that because the new revenue is essentially "found money," the record companies could improve their public image by distributing the non-recoupable 45% to artists.

"In the current climate," he says, "the record companies might bend over backwards to not create the impression that they're ripping off artists. They're not comfortable with their current media image of being the big, bad record companies."

Sony Music Entertainment and EMI Recorded Music refused to comment on the royalty issue, but Universal Music's Larry Kenswil, president of the group's strategy think-tank eLabs, maintains that Universal will not owe artists any portion of the royalty. He claims the split applies only to royalties on blank audio and duping machines, and on digital audio subscription services, which are covered under 1995 laws.

For webcasting royalties, Kenswil says, "It's not a matter of [federal] statutes. It's a matter of contract."

Moreover, because many artists hold contracts that were written before the advent of the Web, those contracts don't specify webcast royalty splits. In those cases, artists and labels will have to renegotiate contracts or try to base claims on language somehow related to licensing.

Kenswil's view that the splits specified by the DMCA don't apply may be a minority opinion. Like the Copyright Office attorneys, Marks of the RIAA says that royalties to featured and backup artists are guaranteed by the law. But the RIAA cannot force the labels it represents to pass on a cut to the artists.

Pears says that although the RIAA might have "persuasive power" over its member labels, "We're not in the business of telling our members what to do."

Some critics contend that this means that the RIAA cannot truly represent artists in the royalty business, unlike ASCAP and BMI, which represent both publishers and songwriters directly. But the question of who must pay for webcast licenses -- and whether the RIAA will be the only clearinghouse -- must first be answered, before the artist royalty issue is resolved.

Since its publication, Webnoize has issued a clarification relating to this article.
[by Mark Lewis, Webnoize]


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