Agreement Royale

On September 23, songwriters, publishers, record labels and digital music services announced they had reached an agreement on mechanical royalties for songs played on online music services.

Called a “breakthrough that will facilitate new ways to offer music to consumers online,” the voluntary agreement crafted by the Digital Media Association (DiMA), the National Music Publishers’ Association (NMPA), the RIAA, the Nashville Songwriters Association International (NSAI) and the Songwriters Guild of America (SGA) ended a longstanding dispute about mechanical royalties for interactive streaming and limited downloads.

According to the agreement, which still must be approved by the Copyright Royalty Board to take effect, limited download and interactive streaming services will pay a mechanical royalty of 10.5 percent of revenue, less any amounts owed for performance royalties. In certain instances, royalty-free promotional streaming is allowed.

This agreement garnered a significant amount of press and blog coverage last week, but lots of it jumped to the conclusion that this was the answer to the ongoing digital performance royalty fight between SoundExchange and webcasters like Pandora and soma.fm. Not so. That’s a different issue, related to a different part of copyright. We know this stuff can be horribly confusing, so we’ve put this blog post together in an effort to explain what happened last week, and how it affects musicians, music services and webcasters.

What’s a mechanical royalty?
The mechanical royalty is the fee paid to the publishers of a musical composition for the reproduction and distribution of the work. The publishers usually pass a share of this royalty on to the songwriters and composers. In the physical world, mechanical royalties for songs that have already been recorded are calculated as a payment-per-song- manufactured rate. Labels – a.k.a the licensed “manufacturer” of a musical work – have two options: they can rely on the statutory rate, which is currently 9.1¢ per song, or they can negotiate with the publisher to try to come up with a different rate.

For the purposes of this blog post, let’s just use the example that a record label releases an album that has 10 songs on it. Based on the statutory rate, it owes the publisher 91¢ in mechanical royalties for every album that’s manufactured. If the songwriter has a publishing deal, these payments are usually made to her/his publisher, or to Harry Fox if the publisher is a member of HFA. The publisher then splits the royalties with the songwriter and composer according to the terms of the publishing deal. For self-published writers, the royalty goes directly from the label to the songwriter.

How is a mechanical royalty earned on the digital platform?
In a physical world, calculating the mechanical royalty using the statutory rate is a simple equation: # of songs on CD x # CDs manufactured x 9.1¢. But calculating mechanical royalties in the digital environment? Not so simple. In fact, there have been two simultaneous disputes going on between the publishers, the labels and the digital music services for the past few years:
A) what type of use (download, stream, etc) invokes a mechanical royalty?
B) What should the rate be?

Up to this point, the publishers have argued that nearly all digital uses of music involved the reproduction of a musical work, even if it was just an “incidental” copy that was made simply to facilitate another licensed use. As such, the publishers said that these uses were subject to a mechanical royalty fee.

But most digital music services and their trade association – DiMA – disagreed, especially about mechanical royalties being due on buffer copies on hard drives that make streaming services possible and on promotional, 30-second clips that were simply there to promote another licensed use. DiMA and the services argued that publishers being able to collect mechanical royalties on these uses was double-dipping, since in most cases these incidental copies were simply helping customers to either listen to or stream a song; activities that generated their own royalties.

What does last week’s agreement say?
Last week’s agreement tries to, first, solve the dispute about what invokes a mechanical royalty in the digital environment. According to the press release, the settlement will apply to two uses: limited downloads and songs streamed as part of interactive streaming services. The parties also agreed to permit certain kinds of promotional streams without payment, and agreed that webcasters will not owe mechanical royalties for non-interactive, audio-only streams.

What services does this apply to?
This agreement primarily affects Rhapsody and Napster, for both their on-demand streaming services and their “to-go” services that allow subscribers to take music on portable players. But it will also begin to affect many more services – MySpace, imeem, iLike and others – as they start to offer interactive streaming options to their users.

What’s an interactive stream? What’s a limited download?
Of course, we still need to see how these uses are specifically defined in the settlement but, generally, an interactive stream is a stream — not a download – of a composition that is selected by the user. In other words, streaming music on demand. This is essentially the user’s experience when using Rhapsody or Napster’s music subscription service where, unlike the iTunes Music Store or Amazon or eMusic, the user doesn’t need to download music to enjoy it; the music is simply streamed via an internet connection from the “celestial jukebox.”

A limited or “tethered” download allows users to download a song or a playlist onto a computer or an MP3 player — the songs will continue to play as long as you maintain your subscription. If you cancel your subscription, the music disappears. Again, this is different than purchasing a song from iTunes/Amazon/eMusic, which is considered permanent download. Note that even if a purchased song contains digital rights management (DRM) that “limits” the type of devices on which it can be played, it’s still considered a permanent download.

What’s the rate of payment?
Last week’s agreement also tries to settle the question about the rate for the mechanical royalty for these types of uses in the digital space. Remember that, in the terrestrial world, it’s currently a per-penny/per-song rate. This was something that the publishers wanted to preserve in the digital world, since it guaranteed a fixed amount of revenue, no matter what the use. But the music services and labels argued that this per-penny/per-song rate forced them to adopt old models and left them no flexibility on pricing. In other words, at 9.1¢ per song, mechanical royalties became a fixed cost, whether the song was being downloaded for 99¢, or 25¢, or being streamed as part of a person’s subscription. In some instances, the publishers’ royalties would have been higher than everyone else’s.

The September 23 announcement states that all parties agreed to a “percentage of revenue” calculation (again, the Copyright Royalty Board must still approve this for these specific uses). Under this arrangement, interactive audio-only webcasters and subscription services will pay 10.5 percent of their revenue to songwriters and publishers, minus any performance royalties already being paid to labels. This formulation addresses the digital music service’s concerns about paying the publisher twice; it makes clear that a mechanical payment is due, but permits the service to deduct its performance royalties, thereby capping the rate paid to publishers at 10.5 percent. A percentage rate provides a much more flexible system that allows for some pricing experiments, and an easier calculation for the music services to make.

How do songwriters ensure that they’re receiving any mechanical royalties due to them?
Based on conversations with representatives from a number of parties affected by this agreement, these details have yet to be worked out. However, if a songwriter has a publishing deal with a publisher who’s a member of HFA, the royalties should go from the music service to the publisher through HFA, then be passed along to the songwriter/composer as per their deal. For self-published musicians who use a digital aggregator, the royalties should, in theory, go from the music service to the digital aggregator, which then would pass them on to either the musicians’ indie label, or directly to the musician. This is the theory, but the real payment mechanism has yet to be determined.

How does this affect Pandora and other webcasters?
While last week’s agreement doesn’t solve the high-profile debate about webcasting rates for performance royalties, the mechanical royalty agreement does settle some lingering uncertainty about whether webcasters would have to pay mechanicals on the buffer or cache copies that make non-interactive streaming possible. According to the press release, the parties agreed that non-interactive, audio-only streaming services like Pandora and soma.fm do not require a mechanical license. This means webcasters no longer have to worry about paying the publishers both for a performance and again for the cache and buffer copies made to enable that performance.

However, this agreement does not solve the debate between webcasters and sound recording rightsholders, which has to do with the non-interactive public performance of a recording on a digital platform. The digital performance royalty is generated when a recording is performed on a radio-like webcast, on Sirius XM, or on those cable channels up in the 300s. SoundExchange collects these fees and subsequently distribute the royalties to the sound copyright owner (usually the record label) and the performers. What Pandora and others are concerned about is the rate for these digital performance royalties for performers and copyright owners of the sound recording. It’s a long story that we have described in detail in a number of places, but the short story is that the disagreement about this digital performance royalty rate is ongoing. We remain hopeful, however, that a settlement will be reached soon.

FMC commends the NMPA, DiMA, the RIAA, the SGA and the NSAI for coming to a voluntary agreement that seems to balance the needs of the emerging services with those of musicians, songwriters and copyright owners. There are many parts of this agreement — particularly the acceptance of a percentage of revenue calculation — that make a lot of sense. We hope that this can serve as a model for solving the other lingering royalty and licensing disputes, so that new business models can continue to flourish and musicians can benefit from increased access, exposure and revenue, and music fans can discover more music.