Music moguls seek security blanket

How free-falling sales are softening the recording industry's hard line.

By Jon Healey
February 19, 2007

One way to judge the music industry's troubles is to watch annual sales figures for CDs, which have slumped 25% since 2000. But it's more revealing to chart how the major record companies' attitudes about new business models online have been shifting.

At first the shifts were almost too small to notice, as when the labels started making a handful of downloadable songs available for $2.50 or more. But as the file-sharing phenomenon grew and CD sales slipped, the changes became more pronounced. The labels started offering the rights to songs on terms that didn't cripple their online partners. They embraced Apple's iTunes Music Store, whose anti-piracy technology doesn't actually limit copying. They cut deals with file-sharing companies for subscription services that let users share the songs they rented.

Along the way, though, the major labels adamantly refused to do the kind of deal necessary to replicate what the original Napster, Kazaa and eDonkey had provided: they would not accept a flat fee a "blanket" license that lets Internet service providers sell an all-you-can-eat sonic buffet, enabling customers to download, burn and swap as much as they pleased. The rights would be included in the cost of a high-speed Internet access line, so the downloads would seem free while still generating royalties for artists, songwriters, labels and publishers.

That reticence may be giving way, too, thanks to the relentless decline in revenue. Just look at what the head of the major record companies' global trade group, let slip last month at a music-industry gathering in France. If Internet service providers "want to come to us and look for a blanket license for an amount per month," IFPI chief John Kennedy said, "let's engage in that discussion."

His U.S. counterpart, Mitch Bainwol of the Recording Industry Assn. of America (RIAA), quickly added that the licenses should be negotiated voluntarily, not compelled by the government. So that part of the labels' thinking hasn't changed. Nevertheless, Kennedy's remark reflects a potential sea change in the way the record companies do business. If the labels follow through, it could trigger the greatest explosion in innovation since engineers at the Fraunhofer Institute in Germany developed the MP3 format.

That's a big "if," but two of the four majors have already taken the first step. In England, a venture called PlayLouder MSP is negotiating deals with record companies and music publishers for a competitively priced high-speed Internet access service that will include the right to download millions of songs, transfer them to portable devices and share them with friends. The main restriction is that subscribers can't send songs to people who aren't customers of PlayLouder MSP. In other words, it's a private electronic playground for music lovers.

The company, which expects to launch its service this year, plans to put a chunk of the monthly service charges into a royalty pool that would be divided according to popularity—the more often a song is downloaded, the larger the share of the pool that its copyright holders will receive. To monitor the network and enforce its borders, PlayLouder MSP relies on technology that can identify songs as they pass through the network—and, if necessary, block them. So far, several large independent labels from the U.S. and the U.K. have agreed to let the company offer MP3s of all their songs, while two of the majors, Sony BMG and EMI, have agreed to supply songs wrapped in electronic locks. Those locks won't make much difference, though; as part of the deal, subscribers will be free to share MP3s from all of PlayLouder MSP's partners, including Sony BMG and EMI.

The shift in thinking is apparent even among labels who haven't signed on to the PlayLouder approach. In the past, label executives made three main arguments against the blanket-licensing concept: it turned their companies into glorified marketing firms; it forced labels to fight over a fixed pool of dollars, so that one artist's gain was another one's loss; and there wouldn't be enough money in the pool to replace all the CD sales that would be lost. The first two complaints get little mention today; instead, the make-or-break issue for blanket-licensing deals is the amount of royalties the service can generate.

That's the right focus. Blanket licensing wouldn't transform labels into advertising companies; the only element of their business they would lose is the part that distributes plastic discs, and that's going away anyway. When consumers can choose from a virtually unlimited supply of songs, the ability of a label to find, sign and promote the most compelling artists will be even more important than it is today. And the fees that consumers pay for downloading rights represent only a portion of the money that PlayLouder could generate for copyright holders. There's also money to be made from advertisers, mobile phone companies, device makers and premium music services that want to insert themselves into the network.

Developing a specialty broadband service for music fans is just one piece of the puzzle. Ultimately, more of the companies that feed and benefit from the public's hunger for digital music need to generate revenue for the industry. In England, representatives of Internet companies, computer and consumer-electronics manufacturers and the music industry are exploring this issue as part of "value recognition strategy" working group. But it's not clear the group will come up with new market-based solutions, such as blanket licenses. Instead, it may bog down in fights over how much Internet providers should do to help identify and punish customers who share songs illegally.

In fact, some participants in the working group were surprised by Kennedy's conciliatory remarks because he'd recently stepped up the rhetoric against Internet providers that didn't try to curb piracy by their users. His organization has already sued more than 30,000 individuals for allegedly engaging in music piracy online, while its U.S.-only counterpart, the RIAA, has sued more than 18,000. The RIAA, too, has prodded Internet providers recently to do more to help its lawsuit campaign, although in a less menacing style than Kennedy. But lawsuits are a holdover from 2003, when the music industry was an $11.8 billion business in the United States. It was down to $11.2 billion in 2005, and album sales dropped an additional 5% last year. So far this year, the drop is even steeper. You have to wonder how low they have to go before blanket licenses look like a better approach than blanket lawsuits.