Two opposing bills on Capitol Hill could determine the future of the webcasting market for Pandora and its rivals
The current lame-duck session of Congress represents the calm before a storm that's expected to erupt in full force next year over Internet radio royalties.
In its most simplistic terms, the Internet radio royalty fight pits Pandora against SoundExchange. Pandora is the largest Web radio service in the United States and the largest source of webcasting royalties for SoundExchange, the organization that collects such royalties on behalf of sound recording owners, artists and performers.
The coming battle will really be a competition to define parity in noninteractive digital music royalties. Each type of digital service currently pays either a fixed per-stream royalty or a percentage of revenue for the performance of sound recordings. The different versions of parity would change what those services pay in different ways.
The major players at the heart of the battle pay vastly different portions of their revenue to SoundExchange. SiriusXM pays 8% of its 2012 revenue. Music Choice pays 2.5% of its annual revenue, and Pandora paid 63.9% in the six-month period ending July 31.
Bills introduced in September by Reps. Jason Chaffetz, R-Utah, and Jared Polis, D-Colo., and Sen. Ron Wyden, D-Ore., define parity as royalties set using what's called the 801(b) standard. This standard seeks to balance various public, corporate and public interests while minimizing disruption. The 801(b) standard has been used for SiriusXM satellite radio and two cable radio services, Music Choice and Muzak, in addition to other copyright uses outside of digital music.
Congressman Jerrold Nadler, D-N.Y., has offered an opposing bill, currently being circulated in draft form. Supported by SoundExchange, the RIAA and trade groups that represent artists, the Interim FIRST Act would instruct the Copyright Royalty Board to apply the "willing buyer, willing seller" standard used for Internet royalty rate settings to satellite radio and cable as well.
"It's the artists' and the record labels' product that forms the core of their product," SoundExchange president Michael Huppe says. "The least that can be done is to compensate those people at a fair market value."
So both bills would seek equal footing for all three platforms but would have two different definitions of parity. The Chaffetz and Wyden bills would lower the royalty rates paid by Internet radio services like Pandora and keep satellite and cable services at their current rates. The Nadler bill would keep Internet radio royalties at their current levels but raise the royalties paid by SiriusXM, Music Choice and Muzak.
But the debate should also consider the possibility that lower royalties will help grow the Internet radio market. Ultimately the RIAA, SoundExchange and Pandora are most concerned about the size and health of that sector. A high royalty that hurts the market would be a Pyrrhic victory.
John Villasenior, a nonresident senior fellow at the Brookings Institution in Washington, D.C., wrote in a paper published in August that webcasters "face a particularly challenging royalty environment." Villasenior backs the use of the 801(b) standard in setting Internet radio royalties.
"Even if we limit the discussion to SiriusXM and Pandora, I personally believe the combination of increased rates from SiriusXM -- and that's going to happen -- plus market growth from Pandora, even under a reduced percentage relative to what they pay now, SoundExchange will see substantial increases in what it collects," he says.
Lower royalties would probably entice entrants like Apple into Internet radio, bringing new innovations and more listeners. Pandora founder Tim Westergren says lower royalties would help the company free up money for projects that could help bring artists and listeners closer together. "Resources are going against a lot of the basic block and tackling of keeping your head above water with these rates."
Pandora's opposition counters that a lower royalty is effectively a subsidy that allows the company to fuel its growth as a public company seeking market share in an exploding, disruptive marketplace. "Subsidy is the right word," Westergren says, "because they are asking for what is pretty clearly below a fair market standard."
A similar argument came from Wall Street. Noting that Spotify runs "substantially more advertising per hour than Pandora," BTIG equity analyst Richard Greenfield wrote in a blog post that Pandora needs the Chaffetz bill because "it knows its business model only works while running limited advertising."
Ironically, the market is already finding its own definition of parity. Sources tell Billboard that the deal Clear Channel negotiated with Glassnote Entertainment will pay a percentage of revenue for terrestrial radio performances and the same 0.11 cents per play that pure-play webcasters like Pandora pay SoundExchange.