Spotify's $150 Million Legal Tangle Explained

Spotify CEO Daniel Ek

Copyright infringement is usually associated with novice music services or blatantly illegal download sites. So why has Spotify, the leading music subscription service with over 70 million users and an $8 billion-plus valuation, been made the target of a $150 million class action lawsuit led by Camper Van Beethoven and Cracker frontman David Lowery? Because it doesn't always have licenses for the music it streams. What's more — and this is outside the lawsuit — it know which publishers should be paid for the music it streams.

Spotify recently admitted this was the case. In anticipation of the lawsuit, it announced in a blog post on December 23, it would "build a comprehensive publishing administration system" to fix the "missing, wrong, or incomplete" data needed to properly pay publishing royalties.

For publishers, purchases result in mechanical royalties that are paid by record labels, which must match their recordings to the associated songwriters and pay the publishers accordingly. In contrast, streaming royalties are paid by the streaming service, shifting the administrative burden to companies like Spotify. Both purchases and on-demand streams require mechanical licenses to be obtained from publishers. This is where Spotify appears to have problems — it does not have publishing licenses for all the songs it streams.

Spotify Hit With $150 Million Class Action Over Unpaid Royalties

But even when Spotify has acquired some licenses, it may not have enough to legally stream a song. Say someone streams song "X" from artist Y. Song "X" has three co-writers. Spotify might have licensed the catalogs of two publishers, but lacks a license from the third. Until the publisher is located and licenses are obtained, Spotify puts the royalties into an account with other unpaid royalties. After publishing licenses are obtained, Spotify pays out the previously unpaid royalties to the publisher, which then distributes them to the songwriter according to the two parties' contract, much like physical and digital sales.

It's ironic that Spotify has run into these problems. The company has positioned itself as an alternative to piracy — copyright infringement, in other words -- while aligning its mission with artists' desire to be rightfully compensated from the growing streaming market.

But it's not entirely surprising, either. Like nearly all other subscription services, Spotify has consistently promoted the size of its catalog of music. When the service launched in the United States in 2011, CEO Daniel Ek said its goal was "to have all the world's music." It had 15 million at the time. Now it claims to have over 30 million. To quickly grow the catalog requires putting master recording licenses over publishing royalties. 

Spotify has stated it intends to make changes. In a statement to Billboard, Spotify's Jonathan Prince reiterated the themes in the earlier blog post. The problem, he said, is "the data necessary to confirm the appropriate rightsholders is often missing, wrong or incomplete." He added that Spotify is working with the National Music Publishers Association to pay unmatched royalties and will invest in systems to properly handle publishing royalties.

A key problem is the compulsory license used by subscription services. A subscription service doesn't need to secure mechanical licenses from publishers in advance of adding their musical works to its catalog. It can send what's called a notice of intent and simply pay the appropriate royalties. But it's not quite that easy in practice.

Spotify Announces Database to Properly Manage Royalties

Because record labels are not required to provide publishing information associated with their sound recordings, services don't always know which publishers they're supposed to contact and pay. The end result can be an incomplete record of songwriting credits and publishers for tens of millions of tracks.

Other streaming services also been sued in the past. SoundCloud was sued by PRS For Music for allegedly streaming its member publishers' songs without the proper license. The two sides reached a deal four months later after, according to a PRS For Music statement, "five years of unsuccessful negotiations." YouTube faced a class action lawsuit brought by independent music publishers in 2011, Later that year it bought RightsFlow to handle the tracking and payment of royalties to music publishers.

This latest data problem came to light recently, when digital distribution and monitoring company Audiam alleged that Spotify was underpaying publishing royalties due from streams of Victory Records songs. Audiam compares the royalty statements of record labels and matches them against the mechanical royalty statements received by publishers. In the case of Victory, which owns both its master recording and publishing rights, Audiam claimed Spotify had not paid royalties on 53 million streams. 

Spotify Threatened With Another Class-Action Lawsuit As Disputes Over Royalties Intensify

But major music companies, which have equity in Spotify, want the streaming space to grow and believe imposing damages "could trigger mutually assured destruction," one industry participant told Billboard. That could explain why some publishers are trying to reach a resolution with Spotify through the NMPA that would deliver back royalties in return for foregoing legal action.

The industry knows it needs a global database with information about publishers, songwriters and royalty splits for every sound recording. It's been attempted before, with the most recent, the Global Rights Database, falling on its sword in 2014 as organizations began dropping support. Unfortunately, companies and organizations don't yet agree on metadata standards and how a database would be created and funded. Until the data problem is solved, Spotify won't be the last company sued for copyright infringement.

A version of this article was originally published in the Jan. 16 issue of Billboard.

Update: this article has been updated to better clarify the main issues. One issue is the infringement that takes place when an interactive service doesn't have a publishing license needed to stream a track. The other issue is interactive services' inability — often caused by systemic problems —to properly match compositions to the correct sound recording.