What ends up remaining unrecouped in these digital deals—which can be referred to as “breakage”—is revenue that can’t be pegged to specific performances or recordings, so it doesn’t have to be shared with artists, the independent labels that the majors distribute, or songwriters. It’s a significant boon to the majors, which is why they maximize breakage opportunities in their negotiations. Independents also enter into deals that result in breakage, but they are far more likely to flow an equitable share of such income to artist creators. Whereas the majors typically share breakage only when required to do so in their contracts with big artists or larger distributed labels (except for Warner Music Group, who has a more progressive stance and who sometimes volunteers to share breakage).
Unfortunately, this practice of maximizing breakage puts a downward pressure on the value of music (i.e. in negotiations, major labels are requesting larger lump-sum payments, rather than pushing for higher royalty rates), when really the whole music industry should be working together to increase the value of music, especially as large technology companies continue their assault on copyright. It could be said that the public dispute that the independents are currently having with Google's YouTube, where the independents are trying to protect the value of music, was caused by the majors concluding lopsided deals.
Also, breakage, when it is not shared with creators, undermines the intent of copyright, which is to reward creators—and the institutions most directly supporting them—in order to stimulate new works, not to enable some portion of the copyright value chain to be siphoned off by private interests just because they’ve built up the largest baskets of rights. Breakage, a manifestation of market concentration, is simply short-sighted, inefficient and unfair.
The market concentration issues that our industry is facing right now are a product of a basic, systemic problem. The current copyright system provides incentives for the wrong behavior (such as maximizing breakage). Large publicly traded companies, whose only fealty is to making profits for its shareholders in the short-term, are acting rationally when they take advantage of whatever inefficiencies exist in the marketplace. The same can be said about independent companies or their digital agencies, such as Merlin, when they take advantage of the same systemic inefficiencies to protect their own interests, or to defend their fair share. But the key question to the whole music industry should now be this: While we do what we all have to do to protect our own interests and maximize our own profits, do we have the conviction and the wherewithal to push for copyright law revisions to improve the whole licensing system, to increase the value of music, to make copyright more equitable and to reduce inefficiencies? The independent community’s answer to this question is a resounding yes, and our sincere hope is that we can come to these revisions in partnership with the whole music industry, including the majors.
The financial sector had a very similar moment, recently, when the Investors Exchange (“IEX”) was created in response to systemic issues with the high-frequency financial trading market. Some Wall Street traders were taking advantage of an issue that only a few really understood and had the resources to exploit; slightly uneven trading transmission delays, where those geographically closer to electronic market hubs had better information and better opportunities than others. Exploiting this issue generated huge profits, where every dollar of profit generated was one less dollar left for everyone else. This is very analogous to the systemic issues that the majors are taking advantage of with their innovations in digital music licensing. Michael Lewis’s book on high-frequency trading, “Flash Boys: A Wall Street Revolt,” provides an inspiring outcome: the major financial traders all moved to IEX to trade on a level playing field.
This should give great hope to the whole music industry when it seeks to address systemic issues within music licensing markets.
As Michael Lewis wrote, "IEX had made its point: That to function properly, a financial market didn’t need to be rigged in someone’s favor. It didn’t need payment for order flow and co-location and all sorts of unfair advantages possessed by a small handful of traders. All it needed was for investors to take responsibility for understanding it, and then to seize its controls. 'The backbone of the market,' [IEX CEO and co-founder Brad] Katsuyama says, 'is investors coming together to trade.'"
Because copyright is not just a private property right -- as the public interest must be kept in balance -- it would not be possible to make the same kind of adjustment to address systemic issues just within the music industry (like IEX achieved within the financial sector) without the help of Congress and the Copyright Office. But there is a real opportunity now for public and private interests to come together to forge a better path. The independent sector trusts that Congress and the Copyright Office will find that the compulsory statutory license for non-interactive performances must be strengthened (as it is the best friend of a level playing field), that breakage-like practices must not be incentivized, and that the independent sector must be provided more tools, such as antitrust relief, in order to more effectively use what power the independents already have to stave off further market concentration.
In the end, all the independent sector wants is a free market with a level playing field. We want to compete, to provide the economic growth and job creation that our American economy needs. Is that asking for too much?
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