Mega record labels: We want our MP3

MP3.com basks in a landmark agreement with the majors. But how will the audio company turn the deals into profits?


Eric Boehlert
June 14, 2000 11:07PM (UTC)

After a few tough months watching his company get clobbered in federal court for violating record label copyrights -- and facing a potentially life-threatening ruling in August -- MP3.com founder and CEO Michael Robertson has reason to gloat about his future.

Last week, Robertson penned licensing agreements with two of the Big Five major label players, BMG Entertainment and the Warner Music Group. "We have a catalog-wide licensing for content from Warner Bros.," he boasted. "You know how many of those Warner Bros. has ever granted? One, and it's to us."

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The headline-grabbing deal -- which immediately pumped up MP3.com's languishing stock -- allows MP3.com users to stream (i.e. listen to songs online but not download them to their hard drives) the majors' vast musical catalogs. MP3.com will agree to pay a royalty on each song played. The company hopes to finalize similar licensing deals with the remaining three majors -- Universal, Sony and EMI.

The agreement is the result of a messy court fight over Robertson's MyMP3.com service. Launched in January, MyMP3.com was an ingenious feature that allowed users to instantly access digital versions of CDs. MP3.com made the music available by creating a massive 80,000-CD libary database.

There was just one problem: The company never asked the labels' permission. Nor did it pay a cent in royalties to labels, artists or publishers. MP3.com argued that the move fell under the "fair use" exemption of existing copyright law. The Recording Industry Association of America scoffed, suing MP3.com on behalf of the industry.

In an April ruling, Judge Jed Rakoff nearly laughed the online company out of court. ("The complex marvels of cyberspatial communication may create difficult legal issues; but not in this case.") Even worse, Rakoff signaled that he'd spent the summer tallying an appropriate figure for damages (the major labels wanted $6 billion).

Now, as part of the new agreement, MP3.com will cut Rakoff off at the pass and pay the majors a proposed $100 million in damages. Not such an onerous burden, as cash-rich MP3.com has approximately $380 million in the bank.

Robertson isn't interested in dwelling on the battle over MyMP3.com. "It's important to look at the new ground we're breaking," he insists. Still, many in the business can't resist playing Monday morning quarterback.

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The lingering debate: Was MyMP3.com a gutsy and savvy way for Robertson to get a group of otherwise-reluctant major labels to take his company seriously at the negotiating table? Or was the MyMP3.com launch a poorly thought-out initiative that cost the company $100 million in damages, and, with an unfriendly August ruling looming, substantially higher licensing fees that will make it difficult for the MyMP3.com service to break even?

"In my opinion, they've made some mistakes," says Scott Greenberg, an analyst for Streetadvisor.com. "Michael is a very bold and aggressive and relatively young CEO, so that's inevitable."

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Others suggest that if Robertson had approached the labels about licensing before launching MyMP3.com, "he'd still be at the negotiating table right now," says Eric Scheirer, media and entertainment analyst for Forrester Research. "He paid a lot of money [$100 million], but what else are they going to do with all that cash? He spent it very effectively."

And for all the hoopla that's surrounded the settlement -- some say it represents a fundamental shift as the music industry gives way to hard-charging online entrepreneurs -- do the licensing agreements really change anything? "Ultimately, the power stays with the major labels," says Greenberg. "A lot of people were looking to disrupt that monopoly. But MP3.com's worked out a deal that will simply send digital revenues to label and artists."

In a more general sense, says Scheirer, the deals do represent significant change. "It's a big step for MP3.com," he says. "It handled very difficult negotiations with difficult people. It's the moment MP3.com grows up." As for the labels: "They had the option to put MP3.com out of business. They could have just waited for the judge's [August] verdict."

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Now the real question becomes: How will MP3.com turn these licensing agreements into profits? For the first time, the company will legally offer its users access to major-label (i.e. superstar) content. This also represents the first time MP3 will pay royalties. Who will pay for that? Robertson is adamant that advertising revenues will cover those costs. He insists that MyMP3.com will remain free to its users. "NBC pays licensing for their programming and doesn't charge viewers," he says. "There's no reason to believe we can't have the same model."

"I'm extremely skeptical," says Nitsan Hargil, an analyst for Kaufman Brothers, a former MP3.com booster who has cooled recently on the company. "They're going to have to get advertising revenue way up; they've not yet proven they can do that."

Hargil notes that MP3.com must still hammer out agreements with the remaining major labels, as well as indie record companies and individual publishing companies (all which all have copyright suits pending). For those reasons he suggests MP3's stock -- which rocketed up when word of the pending settlement leaked last week -- "will bounce back downward rather than upward," he says. "When people start looking into this story they'll realize it's not as wonderful as it sounds." (Trading for roughly $18 yesterday, MP3.com is up dramatically from its $6 low in April. Still, the stock is trading well short of the pre-RIAA lawsuit mark of $30.)

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If anything, the new licensing agreement provides MP3.com with two different models and services. One would be a straight subscription approach: Listeners would pay, say, $10 a month to stream genre-specific songs from the vast major label catalogs (with MP3.com paying a reported 1/3 cent for every song streamed). MP3.com may take comfort from a recent survey that found a majority of Napster users would gladly pay a monthly fee for access to the company's music files. But Napster offers downloads, which allows users to burn music files onto CDs. MyMP3.com does not.

In contrast, once MyMP3.com users purchase a CD, they will be able to upload the contents into their MP3.com locker for free -- and MP3.com will pay the labels 1.5 cents for every loaded track plus another 1/3 cent when a song is played back online. (To cover those future payments, MP3.com will likely have to pony up between $3 million and $4 million in advance for every major label.) In other words, subscription users would pay for streaming access to a huge library of songs, while MyMP3 users would only have free access to songs that they uploaded off their own discs.

There's just one problem: The more songs MyMP3.com users upload, the more MP3.com pays out in royalties. For instance, if a user uploads five CDs worth of music each month into his account, MP3.com owes the labels roughly $15 annually -- for just that user. MyMP3.com boasts 500,000 users.

At least one senior online music company executive who talked with record companies earlier in the year about licensing catalogs says record companies jacked up their rates following the judge's label-friendly ruling in April. "Those proposed rates were significantly lower earlier this year. MP3.com was forced to settle and pay a lot more," says the exec, "because a judge in August could rule hundreds of millions of dollars in damages against them."

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"That's speculation," answers Robertson. "The point is we think what we're doing is [a] great thing for [the] industry."


Eric Boehlert

Eric Boehlert, a former senior writer for Salon, is the author of "Lapdogs: How the Press Rolled Over for Bush."

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