Advertising revenue could become a vital lifeline for European labels, according to a new Jupiter Research report.

Based on a qualitative analysis of the current market, the report -- "The Future of Digital Music: Fighting Free with Free" -- claims ad-funded music services could fill the revenue gap between Europe's declining legitimate music sales and the losses created by the still virulent digital pirated music.

Among the ad-supported services studied for the report are the soon-to-launch U.S.-based SpiralFrog and legal file-sharing service Qtrax; the existing Ruckus Network Inc.; and the multi-lingual Last.fm in London.

"Digital music service provision must move beyond transactional-based distribution and embrace ad-supported discovery and distribution (services)," says the report, which was coordinated by Jupiter Research VP and research director Mark Mulligan. "Ad-supported services give the music industry the ability to reach relatively wider audiences and areas of the market currently dominated by illegal alternatives."

The report argues that the advertising model might be necessary because a-la-carte (pay-per-download) remains a niche business. "Young consumers are increasingly shunning music buying in favor of file sharing, which is four times more popular than is digital-music buying among ages 15 and 24," it says.

The report states that pricing, currently dominated by the €1.00 ($1.36) a track charged by Apple's iTunes Music Store, Europe's biggest digital-music service, will not return Europe's music sector to its buoyant days in 2001 when Europeans spent €11.5 billion ($15.6 billion). Europeans spent just €8.4 billion ($11.4 billion) last year on music, according to Jupiter.

The report predicts that only 38% (36 million) of the total 93.8 million European digital-music audiences will pay for content by 2011. And because premium digital-music stores are not converting non-payers, advertising could be the solution for funding services used by the other 62%.

Some 50% of the 56 digital-music executives interviewed for the report said they were willing to experiment with ad-supported services but needed more clarification. Of the total number of interviewees, 38% believed ad-supported services could co-exist with paid-for premium music, while 32% feared the ad model threatened to erode music's value.

The report, however, believes that ad-financed models should be given a chance. "They can become essential elements of the online music landscape, directing consumers toward premium services and other music spending," it concludes.

Jupiter Research's Mark Mulligan believes the viability of ad-funded music services could have influenced EMI's recent move to remove DRM-protection from its music catalog.

"I think it absolutely helps differentiation of ad supported services, and will have been part of the thinking, although by no means the deciding factor," he tells Billboard.biz.