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The Downfall Of Pandora, Consumer Choice And Emerging Music

20081109-cbe7abtrsdqmqgbefb4dqdxp2sGuest post by Joey Flores (@earbits) of sidewinder.fm, a music and tech think tank. Flores is co-founder and CEO of Earbits, an online music streaming service.

If you listen to Pandora, you may have started hearing commercials asking you to support the Internet Radio Fairness Act. It’s legislation proposed to reduce Internet radio royalties to the level of other digital formats, like satellite radio. Over the coming months you’ll hear others “advocating for artists” by keeping the rates high. As a strong advocate for artists, let me tell you why maintaining the current rates is the worst thing that could happen to artists, consumers, and the future of music.

The beauty of Internet radio over broadcast is its personalized nature. With each user having an individual stream, Pandora can play totally obscure music for one person while playing Top 40 for someone else. With broadcast radio, audience sizes are static and large. This creates airtime scarcity and opens up programming to the influence of money. That’s why commercial radio has long been dictated by the major labels and their massive budgets. With unlimited stations and single-person audience sizes, Internet broadcasters are empowered and driven to play what each user wants. If they don't, users will find someone who will, and finally they can.

Simply put, the Internet is democratizing music, and this is a good for artists. 

Internet Radio Royalties are Creating a Music Middle Class

In addition to providing greater variety, Internet radio is putting millions of dollars in the pockets of musicians. Under their compulsory licenses provided by Congress and the Copyright Royalty Board, Pandora and Sirius can play whatever music they want if they agree to pay a performance royalty to sound recording owners. This is the first time that broadcasters have been required to pay a royalty that makes its way into the pockets of the performers themselves and it’s a huge win for artists.

Unfortunately, this revenue is in jeopardy. While Sirius pays a percentage of revenue — a manageable structure that accounts for swings in internal performance and market conditions — Pandora pays a per-stream fee every time they play a song. This structure opens them up to significant risk, along with all other Internet broadcasters who rely on these licenses. Despite over $180 million dollars in revenue for the first half of this year, Pandora has lost over $25 million, and no major company has yet to be profitable under this structure. Without a change, Pandora will go out of business or be forced to negotiate terms directly with rights holders, i.e. the major labels. Forcing Internet broadcasters to pay unsustainably high rates to the majors will reduce consumer choice, kill payments to artists, and cut many independent labels out of the future of Internet radio.

Historically, the major labels have worked day and night to figure out contract structures and licensing arrangements that avoid paying money to artists. The labels either designate most fees as a type of fee artists aren't entitled to share in, or they withhold the majority of them because artists aren't entitled to payments until the label has made back the bloated costs of their recordings.

Pandora, on the other hand, pays their royalties to a government-appointed organization called SoundExchange, which then distributes half to the labels, and half to the performers on the record. The fact that Pandora’s payments circumvent label accounting departments is a multi-million dollar-sized thorn in the side of the majors. While major rights holders lobby against lowering the compulsory rates, behind closed doors, they would gladly accept a reduced rate of 80%, as long as it flows through their accounting departments, instead of getting only 50% from SoundExchange.

Lobbying for Internet Radio Fairness Act is Lobbying for Artists

If companies can’t make the compulsory licenses work, most will sit down at approximately four negotiating tables, representing the bulk of popular music. They’ll be offered better rates for playing the content provided by this group than other groups, and they’ll be given further breaks if they play the specific artists the labels tell them to. This means less airtime for independent labels, less choice for consumers, fewer artists sharing in the royalty pie, and so on. Once again, financial incentives will dictate what you hear on the radio, not consumer demand.

Since Pandora started lobbying publicly to level their playing field, many artists, small labels, and advocates have been up in arms demanding they continue paying “fair” rates. The Recording Academy is using politically-charged language, calling the bill a Pandora "bailout", accusing them of deceptively naming it the "Internet Radio Fairness Act", and saying that it will increase Pandora's profits — and yet, Pandora has never had a profitable year. The RIAA and other groups say these rates are good for artists, but I encourage artists and consumers to ask, when has the RIAA ever fought for anything that was good for artists or consumers?

Lobbying for high rates seems like a pro-artist thing to do, but unsustainable rates force companies into making money-driven decisions about what content they’ll play, and worst of all, will lead to an insurmountable obstacle between artists and their royalties. Consumers and artists should not buy into politically-charged language that exaggerates the strength of an industry on its knees.

Bringing the current rates to a sustainable level creates a market where companies who pay artists can flourish, play a wider variety of artists than ever before, and continue making their payments through a non-profit organization. There are dozens of companies waiting to get into Internet radio and add to this massive revenue stream for artists, if only the rates are made sustainable. If you like choice and advocate for artists, if you want radio where consumer demand dictates what we have access to, not royalty structures, support the Internet Radio Fairness Act.  Despite the fact that a reduction in royalties only strengthens my biggest competitors, I believe it’s the right thing to do for artists and emerging music.

Editor's Note: Earbits does not rely on the compulsory licenses affected by the Internet Radio Fairness Act. Find more information about the legislation here