Online Music Companies Outplayed - Page 3

Troubles With Licensing

Following the MP3 revolution, there was an avalanche of start-ups trying to build innovative businesses on digital music. From music and music video download sites and Internet radio stations, to sites that evaluate musical tastes and custom CD creators, there was a rush to use technology to change the way consumers get music.

But most of these businesses required licenses from all the major record labels — which control more than 80 percent of available music. In the brick-and mortar world, by contrast, retailers can get all the music they want to sell at a standard price.

Those who tried to run their businesses without the proper licenses have been hit with aggressive litigation. And those trying to negotiate said the terms offered by the major labels were not viable. Executives said they were asked for large advances, outrageous fees and even chunks of equity — sometimes 30 percent to 40 percent of their companies.

"Its difficult because people are trying to create business models out of the dust," said Fracassi at House of Blues, which has found its niche by offering Webcasts of live concerts. Companies arent going to get favorable licensing deals "unless you have another aspect of your business that you can use to leverage the labels to work with you. They dont think they need any more promotion on the Internet."

Two years ago, New York-based Sputnik7 asked Sony Music Entertainment for some videos to add to its fledgling entertainment site. While major record companies actively try to get their videos played on cable channels, Internet executives said, their attitude is entirely different when dealing with Internet companies.

"When we asked Sony for videos — and we didnt want their mainstream videos; we were looking for the cutting-edge stuff that they probably could not get played on cable anyway — they just said, No, " said David Beal, Sputnik7s CEO. "They were looking for ridiculous amounts of money, or a piece of the company. It was ridiculous. Sony wanted a huge piece of equity in the company.", a custom CD site, closed its doors this month because it couldnt get enough music to retain its customers. It had obtained only one licensing deal, with EMI, in exchange for a 40 percent stake in the company. "Clearly, there are more music companies than 40 percent equity chunks," said Larry Lieberman, the former president of global marketing at the company. last year chose to walk a fine legal line, claiming that its service, which allowed users to stream their music from the companys Web site, was "fair use" and didnt require a license. The RIAA sued the company because its service transferred the music from a central database, rather than requiring users to upload it. After losing initially, MP3 reached settlements with the major labels. But other Internet companies said the labels are now using that deal as a precedent, making the onerous licensing terms accepted under duress the baseline for the rest of the industry.

"They take the weakest link, then they put their boot on their throat, and that becomes the standard for everyone else," DiMAs Potter said.

Meanwhile, many companies, unable to make viable licensing deals, limit their services to what they can safely do without a license. Such compromises, they said, hurt their ability to innovate and lure customers.

"The licensing process has been so arbitrary and has been done on terms that are not viable for business," Myplays Pakman said. "Its easy to get licenses — you just have to agree to really bad terms."

Myplay was the first company to offer an online "locker service" like MP3.coms. For now, Myplay requires its users to upload their music, although a central database makes the process far easier. Pakman said hes been negotiating with the labels for a license for such a database for more than a year, but the terms were never favorable. Now, he said, the licensing costs four times what it did before the settlements.

Pakman said the labels wanted 1.5 cents every time a song is transferred from the database and .25 cent to .5 cent each time its played, making it impossible to support the service by advertising alone. He said he doesnt believe consumers will pay to play music they already own.

"The general point is that what everyone is doing is brand new in every shape and form," said Bob Roback, president of Launch Media. "We would like all of the record companies to be doing music video-on-demand licenses and broader grants of licenses for the use of audio."

Launch has considered offering a locker service from time to time, he said, but "as soon as weve requested a term sheet, we look at that and we cant find a way to make the numbers work."

If companies want to make a profit from offering locker services to consumers, they should have to pay a rate that makes sense for the label, EMIs Cohen said. "Owning the movie [on DVD] doesnt give you virtual rights to it wherever you go."

The Digital Millennium Copyright Act, an addition to the copyright law enacted in 1998, provides a compulsory license for noninteractive Webcasts that are similar to radio programs. But no price was set, so companies wishing to take advantage of the license must negotiate with the RIAA as the agent of the labels, or submit to an ongoing arbitration.

Meanwhile, Potter said, several Internet companies said they could not get the standard promotional clips available to terrestrial radio — unless they agree to negotiate with the RIAA instead of taking part in the arbitration. Potter thinks the RIAA wants to use such deals to influence the arbitrated price.

Given the popularity of Napster-style services, the Internet music industry is trying to move toward subscription models, where consumers pay a monthly fee to access a large collection of music. But while many companies want to offer such services, only one, Streamwaves, has gotten a license from a major label, EMI, to launch one. Some Internet companies said the labels seem to want to limit such services — or offer those themselves. Universal Music Group has launched its own streaming subscription service at

Hatch has signaled that licensing practices are something he has his eye on. "I expect to see the market provide fair, nondiscriminatory licensing of music, not just cross-licensing among major labels," Hatch said in his recent address. "I intend to do what I can to see that happen."