The following drama depicts my fiery conversation with National Music Publishers’ Association President/CEO David Israelite after the topic turned to streaming services. It’s the second of a two-part feature.
The copyright advocate placed streaming services such as Pandora and Spotify squarely in his crosshairs as he cataloged each company’s strengths and weakness especially regarding their treatment of publishers and songwriters.
What is the value of paid vs. free subscribers? Will we ever reach critical mass? Why is it unfair that these services, using music owned by publishers and songwriters, can create a business strategy that may be good for them, but not at all in the interest of IP owners?
And finally if you aren’t familiar with how the mechanical rate paid by interactive services to publishers works, here’s your chance to read a detailed primer explaining how it came to be and how it gets calculated. READ ON…
For some added bio history about Israelite and background about our interview be sure to read part one David Israelite: The Status Quo Is Unacceptable.
NEKST: Are you concerned that we don’t have, and may never get, enough paid streaming subscribers to compensate IP owners for the loss of physical and download sales?
David Israelite: I obsess over it. There is a legitimate debate about the role of free services, fueled by advertising dollars, but no question about the value of paid subscribers. It’s undeniable that a paid subscriber is significantly more valuable to creators than a free one. In the case of Pandora less than 5% of their users pay, but that group contributes 20% of their revenue. About 27% of Spotify users pay and generate 91% of their revenue. The debatable question is—if you didn’t offer a free model would those people be converted into paid subscribers? Right now a songwriter has no choice about whether to allow a free model or not. A record label does for an interactive stream, but not for an non-interactive stream. So if Pandora decides to give away the music for free, only have ads and not encourage their listeners to buy, which is currently the case, that decision is made solely by Pandora. If Pandora has a different interest than what’s good for the publishers or labels that create the music, too bad. A tech company that wants to build subscribers and isn’t concerned about revenue can adopt a strategy that may not be beneficial to the people that fuel its business with their music. It may be great for a Pandora founder who walks away a multi-millionaire in stock options, but not for the songwriter who had no role in deciding and suffers economically.
NEKST: So how did Taylor Swift pull her songs from Spotify?
David Israelite: Taylor has done more to educate people about this issue and advance the conversation than anyone. She told Spotify, “I only want my music on your paid tier.” Spotify wasn’t willing to grant that courtesy, but as an artist/label she had the right to pull her music. However, Taylor Swift (the songwriter) had no choice. So people have to understand that for those who aren’t the artist on their songs, they don’t get a voice in the process.
What is the sweet spot of how many ads can you run before you lose legal customers to illegal activity?
NEKST: How many paid US subs are needed to reach scale? 70-80 million?
David Israelite: It’s perfectly understandable that people look at the metrics and calculate—at this price point with this many subscribers we get to this revenue amount. If publishers were part of those decisions here’s what might be part of the debate. First, what is the sweet spot of how many ads can you run before you lose legal customers to illegal activity? More ads will create more free-tier revenue and incentive to become a paid subscriber. Can you have different content available on the free and the paid tiers as a carrot to bring you in? Maybe. Those are the kinds of things we should be deciding as creators and let the outcomes be self-determinative. Apple doesn’t offer a free tier. Its service is 100% paid. Spotify is a strong believer that their free tier fuels their pay tier. Perhaps they are right, but it should be subject to a limitation of time, or how many ads run or what content is available. These questions should be resolved in a free marketplace and not a system being ruled by a 1941 anti-trust analysis about two specific companies. [Consent decrees, BMI and ASCAP]
NEKST: I understand your concern for the process. But can we attract enough subscribers to match the current industry funding from physical and digital download sales?
David Israelite: One of the hard truths may be that it becomes a smaller industry—and there is nothing you can change to get back to the golden days. Instead of crying over changed consumer behavior, we ought to be maximizing every opportunity to monetize music for the future. However, the wealth being created for digital music companies makes me believe there is still great value in this music. Spotify has a $9 billion valuation—more wealth than the entire recorded music industry—and unlike Apple, they only make music available to consumers. XM Sirius has a market valuation of $22 billion dollars. Yes, they have weather and sports, but music drives their service. So plenty of money can be generated by music, it’s about finding the right balance. In a normal economy if a company can’t figure out how to pay for the content and make a profit while they deliver it then they go out of business. And that’s OK. But how did we get to this place where people can use your property with someone else setting the rate whether you like it or not? Every other industry works differently.
Instead of crying over changed consumer behavior, we ought to be maximizing every opportunity to monetize music for the future.
NEKST: Isn’t this a time when people should be concerned and therefore actively presenting new ideas to solve these issues?
David Israelite: Yes, and you deserve credit for putting your ideas on the table in your book The Digital Solution which I’m looking forward to reading. A big challenge is the difference between the licensing process and the value of the assets. Those things get blurred in most proposals. The copyright office put out a detailed blueprint of how to make it work. Everyone won and lost something, but every interest has come out against the report except the publishers and songwriters.
NEKST: Can you explain the mechanical royalty that Spotify, and other interactive streamers, pay to publishers?
David Israelite: Spotify is an interactive streaming company which negotiates with the record labels in a free market. If you want to use the label copyright you have to come to an agreement. On the publishing side Spotify has to separately pay a public performance and a mechanical reproduction right. The mechanical goes to whoever you licensed to collect it. The way this came about was in 2001 the record labels thought they would be the ones that controlled the interactive streaming market like they did with the physical market. The labels came to the publishers and said, “We want to do this new thing called interactive streaming, but we’re not sure if it’s a public performance or a mechanical reproduction.” The publishers said, “We think you need to pay both rights.” However mechanical license rates get set in a process that only happens every 10 years, so publishers and labels made an agreement in 2001 whereby the publishers gave labels a license to do this activity and labels agreed that during the next rate setting process a rate would get set and they would apply it retroactively. Meanwhile, the labels never got in the business of streaming, the digital companies were the ones that did it. So publishers gave them the same deals. Fast forward to the copyright royalty board proceeding where this question first came up about 10 years ago. The labels said, “We signed these contracts that admitted the mechanical reproduction, but we don’t think it is worth anything, so we argue there is a mechanical, but it is worth nothing.” The digital companies then said, “We signed those contracts, but we aren’t going to honor them. We think it is just a public performance.” So I said to the record labels if you are going to take that approach then we will go to war on a bunch of other stuff. I told the digital companies we are going to sue you for contract breach and infringement. Ultimately we had a global settlement process that has been the law now for about 8 years that resulted in a new agreement over how this would work. The mechanical rate is 10.5% of the revenue of the service, but the service gets to deduct what they paid in public performance from that 10.5%. So if you are Spotify you take your PRO licenses which are about 4% today. That leaves about 6.5% to pay as a mechanical royalty which ultimately goes to the publisher. Spotify pays about 60% of its revenue to the labels and about 10% to the publishers so the ratio is 6 to 1. But because the labels are allowed to operate under a free market they also have gotten an equity stake in the company, that we don’t get. So it’s not really 6 to 1, you have to say 6 (plus equity) to one. And the argument about the consent decrees is that if we were out of them we wouldn’t care about equity we’d just set our prices fairly on the performance side.
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For added bio history about Israelite and background about this interview be sure to read part one David Israelite: The Status Quo Is Unacceptable.