Less Money, Mo' Music & Lots of

Problems: A Look at the Music Biz

Jul 26, 2015
By Jason Hirschhorn
----The disruption of the music industry has undoubtedly benefited consumers, but for many on
the inside, its consequences have been both profound and painful. Artists finally have direct
connections to their audiences, but they must fight through more noise than ever before.
Distribution is no longer constrained by shelf space or A&R men, but a stream or
download generates royalties many artists decry as untenable. Audiences can now enjoy more
music, more easily and in more places yet the amount they spend is at an unprecedented
low.
Music may have been the first media format to be upended by digital, but it remains deeply
challenged even as video, publishing and gaming continue their path forward (however
modestly). If the industry hopes to restore growth and fix the problems with todays streaming
models, it needs to confront its evolution: how have ecosystem revenues from albums sales
to concerts, radio plays, digital downloads and streams changed and been redistributed?
What is the underlying value of music? Did streaming erode this value or correct it? Whats
the logic behind streaming royalty models and where are its flaws and decencies? How can it
be improved? After 15 years of declining consumer spend, its time to stop focusing on what
was or should be. Industries dont rebuild themselves.
PART I: HOW WE GOT HERE:
The Decline of Recorded Music Sales

Since the RIAA began its comprehensive database of US music sales in 1973, the category
has never commanded less in consumer spend than it does today. On an inflation-adjusted
basis, sales have plummeted by over 70% (or $14B) since 1999 even though the American
population has grown by some 46M over the period. And this decline is likely to continue.
Digital revenues have begun to fall and CDs, which still represent 30% of sales, are unlikely
to rebound. In Q3 of 2014, Wal-Mart, which moves one in every four physical discs sold in
the United States, nearly halved the shelf space dedicated to the format, as well as the number
of unique records it carried. In a few years, Amazon may be the only mass market retailer of
physical music, at which point prices will undoubtedly tumble further.
What makes this decline particularly controversial is the fact that consumption of recorded
music is greater than ever before. We listen to it wherever we go: on the subway, waiting in
line, getting groceries and anywhere else we can. The soundtracks of our lives, so to speak,
rarely stop. As a result, music executives often blame the collapse of revenues on iTunes 99
price points (and claim that the associated deal they struck with Apple arose only out of the
extraordinary paranoia and confusion surrounding digital distribution and piracy in the early
2000s). However, much of the industrys pre-iTunes value was inflated, held up only by
bundle-based packaging (viz. albums), rather than consumer demand. Per track prices
mattered, of course, but theyre also a distraction.
The End of the Age of Ownership: First Albums, then Tracks

The introduction of true a la carte music purchasing was bound to disrupt the music business.
Everyone knew the album model had forced consumers to own tracks they didnt want and
prevented them from owning some of those they did, but how this would net out was
impossible to predict. Nearly 15 years later, however, the answer has become clear.
By 2010, the total number of tracks (including album track equivalents) sold in the United
States each year had fallen by 57% (to roughly 4.6B). Though its convenient to blame piracy,
NPD estimates that fewer than 340M tracks were pirated in the United States in 2010 (~17M
pirates downloading an average of 20 tracks each). Even if every one of these illegal
downloads represented a cannibalized sale, the industry would still be down more than 50%.
The same is true if the number of pirated tracks were somehow twice as many as NPD had
estimated. With fewer than 1.5M Americans subscribed to music streaming services in 2010,
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this explanation also falls short. The end of the album didnt just bring about the end of
unearned revenues, it revealed that the underlying demand for owned music was much
lower than most believed. Recognizing this fact is critical. If the music industry hopes to
increase sales and better support its artists, revenues will need to be generated outside of
conventional unit sales.
But first, its also important to note that the album-to-track conversion has been doubly bad
for the most popular artists. In the album days, consumer spend was monopolized by a
handful of $20 must have records released by the Beatles and Michael Jacksons of the
world. Today, that same spend (or whats left of it) can be spread across dozens of artists
with each one compensated only for the specific tracks a consumer picks.
Concert Revenues: An Insufficient (but Well-Distributed) Savior
As has been widely reported, declining unit sales led the music industry to refocus its efforts
on concert revenues. Artists now spend significantly more time touring than they did in the
pre-Napster days (estimates here vary) and command close to 35% more per ticket on an
inflation-adjusted basis. As a result, the US concert industry has nearly tripled since 1999
(when recorded music sales peaked).

Yet, whats typically overlooked by this narrative is that the vast majority of this growth
83% to be exact has gone to non-Top 100 touring artists. In 2000, the Top 100 tours (which
included NSYNC, Metallica and Snoop Dogg & Dr. Dre) collected nearly 90% of annual
concert revenues. Today, that share has fallen to only 44%. Furthermore, the Top 100 tours
have faced stagnant revenues for close to a decade, with both ticket prices and sales largely
flat:

So in all, the pains and changes over the past 15 years have been unevenly distributed.

The most popular artists have seen their primary income stream, recorded music sales,
collapse by more than 70% in inflation-adjusted terms since 2000 (~$14B), while their
concert revenues have increased by only $600M (or 32%)
Meanwhile, independents the vast majority of whom never generated significant
revenue from physical sales are making considerably more from concerts than at any
point in recent history (+$3.2B, or +1,150%) and capturing an increased share of what
recorded sales remain

The redistribution of music revenue is, itself, positive. Much has been said about the
increasing diversity of societys musical interests, but our tastes are not inherently more
diverse than they were a century or even a decade ago. Rather, the average person simply
couldnt access nearly the variety that they can today.
Even still, the drop in music revenues has affected everyone inside and around the business.
Whats more, declining total track volumes explain only two thirds of the total drop in
revenues. The rest, many artists decry, stems from the deliberate commoditization of music by
those who have no respect for the craft or its artists only a desire to serve up ads, build a
digital empire or hawk hardware. This, they argue, is why revenues have collapsed and
indeed, why Jay Z and a whos-who of industry 1%ers banded together in March to try and
forcibly re-value music through Tidal.
To answer the questions of value and fairness two particularly important concepts in the
streaming music era we need to understand how music supply, demand and monetization
have evolved.

Why Music is Better, but Less Valuable than Ever Before

As has typically been the case with popular media, the move to digital shows that much of the
industrys value stemmed not from the content itself, but from distribution. In a digital
environment, the majority of distribution expenses (CD manufacturing, pressing and
packaging, shipping, physical retail etc.) are reduced or eliminated, resulting in a significantly
lower cost per unit of music sold. However, as any company that still includes an oil
surcharge can attest, this change does not necessitate reduced prices. The value of music is, in
theory, independent from its costs. In fact, one could argue that the ability to purchase
individual tracks from a seemingly endless catalogue, at a moments notice and then take
these tracks anywhere should have increased the value of music. Yet, the shift to digital
resulted in a price drop far in excess of distribution-related cost takeout. Piracy fears played a
part, but the sustained drop in per track and per album value reflects a core economic reality:
digital has made music more competitive than ever before.
This is at the heart of the changing value.
"Music is art, and art is important and rare," Taylor Swift wrote in the Wall Street Journal in
July of 2014 (months before pulling her catalogue from Spotify), "Important, rare things are
valuable. Valuable things should be paid for. Yet of all the mass media, music is perhaps the
least rare, most substitutable and in many instances, the most imitable (just ask Max Martin or
Dr. Luke)[1]. For nearly half a century, however, the major labels (and therefore their artists)
have held a de facto monopoly on the music industry and its output all by controlling
distribution. The costs of recording, producing, distributing and marketing a studio album
not to mention getting a track played on national radio stations were so significant that few
could do so at scale without the major labels. Furthermore, the major labels had scale-related
incentives that limited the number of artists they were willing to support. As a result, the
supply of both artists and music was fundamentally constrained.
Digital distribution ended this artificial scarcity, and with it the idea that music even great
music was scarce.[2] Spotify, for example, counts more than 30 million tracks, each
available anywhere and anytime. Because of this, music lovers can now listen to a much
greater variety of music not just the few albums theyve bought or whats on locally
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programmed radio (which is heavily influenced by the major labels, too). This competition
has inevitable economic consequences: prices go down and average units sold per album,
track and artist drop. This is particularly true for online streaming. Though every music
listener has favorite artists, consumption of music tends to be more passive and voluminous
than any other media category. The average Spotify user, for example, listens to more than
1,300 tracks per month. When consumption is that great, the value of any one stream becomes
slight. The economics bear this out: if we focus exclusively on Spotify paid subscribers
($9.99/month), the implied value of any one stream was $0.0076 in Q1 of 2015.
These jaw-dropping per stream economics cant be solved by eliminating free listening,
doubling subscription fees (e.g. TIDAL HiFi) or even by increasing royalty rates to a full
100% of revenue. Would Aloe Blacc have been satisfied with $10,000 not $4,000 for his
share of (post-label) songwriter royalties for 168M Spotify streams? Would $342.33 (instead
of $114.11) for 4.2M Pandora streams have been enough for Bette Midler to make a living?
While its hard for any artist to embrace these new economics, they cant change the fact that
the music industry has undergone a fundamental, structural shift in both supply and demand.
As a result, the economics, business models and key industry metrics need to change.

PART II: THE FUTURE OF MUSIC

How Listening Hours Will Change and What That Means for the Industry
Preparing for the future will require artists and labels to better understand not just how and
why music revenues have eroded, but also the mechanics of the streaming business and the
ways in which economics are likely to evolve. Oddly enough, the best place to start is
terrestrial radio. For all the attention paid to Internet distribution, broadcast radio and owned
music still represent roughly 42 minutes of every hour spent listening to music in the United
States. Though theyre unlikely to go away entirely, we will continue to see more and more of
this time shift to services such as Pandora, YouTube and Spotify, which represent only 16%
of listening time today (or 10 minutes of every hour).

This transition is meaningful in a few ways. Most obviously, the topline economics vary
tremendously across the different services and technology types, with digital distribution
currently underperforming by 50-75%. In addition, value is both captured and distributed very
differently by channel. Spotify relies almost exclusively on subscription fees and pays rights
holders a royalty on revenue, for example, while broadcast radio stations depend almost
exclusively on advertising, are free to the consumer and pay a blanket fee for music rights.
Its worth highlighting, too, that performers typically[3] receive no compensation when their
songs are played on AM/FM only the writers and publishers do. The initial idea here, which
is currently sustained by federal laws, was that broadcast radio provided performers with
tremendous promotional value, which helped these artists sell records and concert tickets.
Though writers and publishers benefited from the associated rights payments and/or royalties,
regulators believed that radioplay value was overwhelmingly captured by the performers. As a
result, the shift from AM/FM to satellite and web radio (both of which pay writers and
publishers as well as performers) will have a profound effect on not only how much a listen
or play generates in revenue, but who receives what portion of that revenue. Yet the real
disruption will comes from the diminishing role of the medium when it comes to how music
is discovered and made into a hit.
Today, broadcast radio still drives an estimated 70% of music discovery, but this process is
far from democratic. The majority of radio plays especially for the biggest stations
originate from the promotional activities of the major labels. Though human-led curation is
making a comeback online, most of the music discovered over the Internet comes from
algorithmic recommendations, social sharing or independent bloggers each of which is
under significantly less influence from the major label system. Furthermore, the content
listened to on on-demand streaming services is exclusively up to the user, not a disc jockey.
Accordingly, the cannibalization of AM/FM listening by web streaming services will not only
reduce the role of labels in the music value chain (and therefore the fees they deserve), but it
will also limit the mass market mindshare currently monopolized by label-supported artists
(as a group).
However, the effects of government regulations go far beyond how revenue is passed through
and whether performers receive a share. As the number of transmission types and interaction
models have proliferated, the music industry has ended up with a labyrinthine set of
regulations that, though designed to protect creatives, results in haywire compensation rates
for the same core consumer service: audio entertainment. Until this is resolved, everyone
involved in the music industry is likely to be frustrated by a sense of inconsistent and
allegedly unfair treatment. Streaming is a particularly good example.
As an interactive on-demand streaming service, Spotify (which primarily substitutes for
music ownership, but cannibalizes radio time too) must form individual, voluntary deals with
labels for the rights to their content and pays, by agreement, a 70% royalty on all revenues.
Non-interactive streaming services, such as Pandora (which primarily substitutes for radio,
but cannibalizes music ownership too), have content payments fixed by regulators and courts
and use compulsory licenses to acquire content. In 2014, their content costs were only 48% of
revenues and, unlike Spotify, can drop significantly as revenues scale.
Even still, the on-demand future of music is becoming clear. Though Spotify had only a fifth
of Pandoras user base three years ago, it now challenges the companys user count and nearly
triples its total minutes delivered.
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The Logic, Math and Potential Behind Spotifys Royalties

Unlike Netflix (~10,000 titles) or Pandora (~1M tracks), the on-demand streaming value
proposition is based on having all (or roughly all) the music a user might want. This has a
defining effect on how rights holders are paid as individual services cant acquire licenses to
individual catalogues or titles at scale it would be both contractually impractical and
analytically infeasible. Netflix and Pandora, on the other hand, dont need any specific
content. They need titles that collectively optimize user engagement and retention relative to
content spend. This doesnt mean that certain artists and tracks arent more or less valuable to
Spotifys users, but comprehensiveness is paramount.
As a result, Spotify establishes the value of every track in a consistent, straightforward
fashion based on the share of total streams the track represents. If Drake's music represents
10% of total plays in July, his tracks will receive 10% of total July royalties (which in turn
represent 70% of Spotifys total July revenue). Tidal and Apple Music (both launched seven
years after Spotify) pay roughly 72%.

Though sensible, this approach results in numerous unique and initially confusing outcomes:

If Spotify users stream more music in August than July, but the same amount of
Drake, Drake would see a smaller cheque for the same play count. This could even
happen despite an increase in Spotifys Monthly Revenue
If Spotifys Monthly Revenue is flat, but Drakes stream count grows faster than total
track volume, he could be paid less per stream but generate more revenue
If revenues increase, Drake could see greater royalties even if stream counts drop

Though this variability not to mention the microscopic per stream payments (typically
between $0.006 and $0.0084 according to Spotify) will inevitably irk artists, this payout
structure best reflects the value of music in an era of abundant supply. Any song hired to
entertain is worth the same as another; the question for artists is how frequently will their
track be hired relative to all other options?
At first glance, focusing on the per stream royalty metric makes sense. The music industry has
always spoken about the number of units sold or radio spins (though notably, not radio listens,
which would be more appropriate per stream analogue), but its clearly unsuited to the
consumption and distribution models of today. Not only is the figure inevitably low, its
essentially impossible to decipher or compare. Spotify may pay the same flat rate to labels,
but how these royalties are passed through to songwriters and performers varies tremendously
from artists to artist and even album to album. The value of these post-label payments is
similarly affected by the allocation of rights. A cheque from a stream of "Jenny From the
Block," which credits 11 writers, will inevitably fall short of those to singer-songwriters like
Hozier at the same stream counts. Similarly, the per track royalties cited by the members of a
group or band will be but a fraction of those received by a solo artist. As a result, the total
values reported by individuals are not only unique, theyre misleading. Of course, the
distribution of royalties across credited writers, composers, performers and copyright holders
isnt new but the public discussion of these values is. When is the last time an artist
publicized her proceeds from a platinum record, 10,000 radio plays or 1,000,000 listens? In
addition, the units discussed have moved from tangible, high-priced albums to intangible,
variably valued streams, making the conversation particularly challenging for those outside
the business.
More broadly, Spotify's royalty structure also requires artists to adapt to dramatically different
compensation timelines and performance dependencies. When a consumer buys an album, the
artists responsible would traditionally collect their total share of proceeds within the following
months or quarters. Regardless of whether this album is played once, or becomes part of a
daily routine for the better part of the decade, neither the amount paid by the consumer nor the
amount received by the artists ever changes. And the revenue always comes up front and in a
one-time payment. In a streaming environment, however, royalties are paid not only when
(and to what extent) consumption occurs, but indefinitely. This has several consequences: (I)
Even though streams, like unit sales, will be concentrated in the first weeks following a
release, early payouts will be a fraction of what they used to be; (II) The financial success of
an album may not be clear for several quarters or even years; (III) Records that drive
sustained consumption can significantly out-earn those with more fleeting (or marketing-led)
interest, even if the number of unique listeners (or those who would have previously bought
an album) is identical. This change is particularly challenging for artists used to receiving big
cheques for their hit albums, but it will also test those who feel their bank statement lags their
newfound stardom. Accordingly, continued artist outcry is expected, even though the
matching of revenue to engagement is hard to criticize.[4]

Its also worth noting, too, that Spotifys 70% royalty model actually handicaps the
companys financial performance. Its unique in the media business, Piper Jaffray analyst
James March told Quartz earlier this year. In every other media business I cover, if you sell
more tickets, or get higher ratings, the operating leverage is massive, you dont pay more [in
licensing fees or royalties] for the TV show or movie. But in streaming music the more
popular they get, the more royalties they pay. Netflix, on the other hand, pays fixed fees for
most of its content. Regardless of how much revenue the company generates (or doesnt
generate), the licensing costs stay flat thereby creating the opportunity for outsized profits,
as well as losses. The Spotify model is, by and large, good for the labels and their creatives.
For every $10 subscription Spotify sells, the music industry will take home $7.
This leaves considerable upside.

In general, Spotify pays 2.5-3x more of its revenue to the music industry than the AM/FM
radio industry does. Though the latter is in decline, it still generates nearly $15 billion a year
twice that of the recorded music industry today. Revenue rates per hour are presently roughly
50% lower on Spotify than AM/FM radio, but this still generates more in net revenue to the
music labels and is bound to improve as advertisers shift more of their spend online.
Even still, Spotifys revenue share and right-headed payments model doesnt mean its
offering is perfect.
Improving Spotify.
Spotify has long argued its free service (which includes commercials and disables track
selection on mobile devices) is essential to converting users to a paid model. In addition, the
company points out that generating ad revenue however nominal from non-paying users is
better than these same listeners resorting to piracy. Yet while this underlying logic is true, its
net economic effect is unclear.

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Though Spotifys unpaid subscribers represented 76% of the companys active user base in
2014, they contributed a mere 9% of total revenue. Moreover, the value of these users has
fallen by a third since 2010 (after adjusting for currency variations), to only $3.8 a year or
$0.32 a month. Today, a paid user is an astounding 30x more valuable than a free one up
from 20x in 2010. And this has profound implications.
For every free user Spotify is able to push to paid, the company could lose 29 other free users
and still generate more net revenue for Spotify, as well as labels, performers and composers.
If Spotify came out with changes to its free service (e.g. increased ad loads, listening caps, no
track selection for desktop use, fewer advanced features etc.) that convinced only 3% (or
1.8M) of its free users to go to paid, the company and its stakeholder partners would realize
immediate financial benefits even if the remaining 97% (53.2M) of free users abandoned the
service entirely.
In isolation, a free user that generates ad revenue may be better than one that pirates. But if
satisfying that user erodes the value proposition of a paid service especially one worth 30x
more per user a net disservice may have been done to the industry. How many would-be
paid users have been convinced that the free service is good enough"? Is there no way to
convince that user to pay without losing (literally) dozens of free users? Over the past few
years, Spotify has continually reduced the gap between its tiers (listening caps were dropped
in January of 2012, for example) and improved the free option (introducing new features
available to both paid and unpaid users. As a result, Spotifys revenue economics have eroded
even as consumption (and therefore consumer value) increased and Pandoras revenue per
hour doubled.

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There are a few potential explanations for this divergence. As a substitute for radio, Pandora
is logically an advertising-first service (four out of every five dollars in 2014 revenue came
from ads). Accordingly, ad loads and sales are likely of primary importance. Similarly,
revenue per hour theoretically scales with usage (another hour played is another hour with
ads). On the otherhand, Spotifys reliance on fixed revenue (90% of grossings are from allyou-can-eat subscriptions) means that increased consumption will erode revenue per hour
(just as is the case with Netflix or HBO), as well as payouts per stream.
More broadly, revenue is likely of only secondary importance at Spotify when compared to
growing Monthly Active Users. Not only are MAUs a key IPO metric (and therefore of
primary concern to the companys investors), but they enable Spotify to turn its service into a
broader, more valuable entertainment platform (see its recent video announcement). In
addition, a scaled user base helps the service insulate itself from existing competitors
(Pandora) and ward off upstarts like Tidal, as well as giants like Apple and Google.
These priorities and business model decisions are, rightly, Spotifys prerogative. Whats
more, the labels enter agreements with the company willfully, not through compulsory
license. However, there are two potential problems here.
First, the music industry is funding the majority of Spotifys investment in user growth. When
Spotifys tiering strategy causes a subscriber to pick free service over a paid subscription,
Spotify loses out on only $3 (or roughly $2 after tax), while the industry misses $7. While
Apple Music (now) pays rights holders for music streams by users within their free threemonth trial, Spotify simply works in free users streams into its artist payout calculation. They
therefore get credit, but not paid. And the free usage never ends.
Second, the ongoing availability of free-to-access music reiterates the idea that music is
without value. It may not be worth what it used to be or what artists wish it were but it is
worth something. And at only 32 cents per free user per month in ad revenue, B2B ad
subsidization is far from enough. Even if free users listened to only a third as much music as
paid users, per track revenue would be only $0.00044 (versus $0.0046 for paid, roughly 11x
as much). With average per user consumption up 36% year over year (to 148 minutes a day),
its clear that the service is valued by its users. And from increased value should come
increased value capture.
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Spotifys focus on users before revenue is typical with growth stage technology companies.
And eventually, Spotify will need to shift from user acquisition to monetization at which
point having the largest possible user base is an obvious asset. To this end, Spotify claims that
80% of paid users start as free users which could mean the companys users-first strategy
will ultimately be in the industrys interest.
However, this doesnt necessitate unrestricted and unending fee service. Netflix did not need
to give away its service to drive millions to subscribe just a month-long free trial, low (and
initially unprofitable) prices and a strong value proposition. Furthermore, starting free would
likely have hindered the services ability to introduce paid-only access by normalizing the
idea of costless Hollywood content. And this is already a serious problem in the music
business:

A years subscription to Spotify costs $120. Though it seems pricey today (which is exactly
the problem), the sum is largely in line with what used to be spent on an individual purchasing
level. For more than three decades, the average American over 13 spent more than $75 a year
on recorded music and received significantly less than Spotify offers today. At times,
including much of the 1990s, the average spend was over $90. Today, however, such spend is
far outside the norm and more so each day. In 2014, the same demographic groups spend
(which includes streaming services) was only $24 a 76% drop from 1999. At its current rate
of decline (-7% CAGR over the past 5 years), this figure will drop below $20 in two years.
At what point are the strategic advantages of a scaled user base offset by accrued losses in
consumer willingness to pay? Not only is it notoriously hard to change the perceived value of
a product or service, even the most successful efforts will take time. This does not mean
unpaid subscriptions should be dropped entirely. The logic behind maximizing the number of
music listeners also makes sense its the best way to drive paid subscriptions and generate
revenue from those who might otherwise pirate. However, Spotify should begin to move some
of its more differentiating features, such as synchronized running, to its premium tier, increase
the frequency of advertising (which hits only non-paying subscribers) and re-introduce
listening caps that will force heavy users to pay for unlimited service.

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Alternatively, record companies and publishers could pressure Spotify to reconsider its focus
on user maximization at the expense of revenue optimization by adjusting contract terms. As
long as the service incurs no material costs for free subscribers (only a royalty on incremental
revenue and server costs), it has a reduced incentive to drive paid adoption or maximize
royalty payments. To correct this, labels could require fixed payouts per unpaid subscriber on
either a per-stream or per month basis.
Without Changes to Label Agreements, Artist Upside Will Remain Marginal
So far, weve discussed the first three sections of the streaming payout model: revenue (which
is up to the streaming services and users), royalty payments (regulators and the streaming
services) and payment structures (streaming services and labels). In many ways, the
remaining function, label payouts, is the most pressing problem especially where streaming
is concerned. The figures quoted by artists when criticizing the unlivable royalties paid out
by streaming services, for example, are after their labels take their share. Though the dataset
is limited to France, Ernst & Young reported that Spotify and Deezer retained only 21% of
gross revenue last year. Labels took home more than twice that amount and nearly three
times as much as artists, songwriters and publishers combined. Put another way, labels
retained 73 of every 100 cents paid out by Spotify and Deezer, while the tens of thousands of
artists and songwriters collected only 11 and 16 cents, respectively. One could argue the
distribution is even more skewed than payout rates suggest, as Sony, Warner and Universal
own a reported 25% of Spotify. Today, that stake is worth more than $2B (up from $1B in Q4
2013) a sum that nearly matches the total value of all royalties paid by Spotify to date and
will be retained in its entirety by the three labels.

What makes this distribution particularly problematic is its resilience. Over the past 15 years,
the music industry has been transformed in almost every way, yet the rates paid by labels to
their artists remain largely unchanged. This needs to be corrected. Labels are still important
and by far the best pathway to mainstream success but their role in the music value chain is
continually diminishing and is significantly less essential than it was even ten years ago:

Physical distribution, including manufacturing, fulfillment, logistics, etc., remains

valuable, but its importance is in terminal decline

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Social media, social music networks and direct-to-fan engagement are slowly
disintermediating the A&R process and chipping away at corporate mass marketing
campaigns and radio promotional activities
Falling equipment costs means many artists now use or own private recording studios
The concert industry has also become exceptionally streamlined, bearing little
resemblance to the hyper-fragmented roadshows of the 70s and 80s

The most concrete example of the declining role of music labels, as I wrote two years ago, is
Macklemore:
In 2013, Macklemore became the first unsigned artist in nearly 20 years to have a numberone single in the United States, Thrift Shop. The track was a grassroots success story born
on social music sites such as SoundCloud and Hype Machine, rather than in state of the art
studios and ad agency lofts. And if Thrift Shop didnt scare music labels, Macklemore
quickly gave them a second reason to be. Three months later, he proved he was no one hit
wonder with another chart topper: Cant Hold Us. A third track, Same Love hit
#11 shortly thereafter.
Macklemores success doesnt mean that music studios and labels dont add value. Breaking
out of obscurity let alone to Macklemores newfound fame remains exceedingly difficult.
Thrift Shop was actually the fifth single from his album The Heist, which was released
more than 18 months before the single appeared on the Billboard charts. But if obscure
artists can have a multiplatinum record without label support, what must the Katy Perrys and
U2s of the world be thinking? Artists typically receive less than 15% of the revenue from an
iTunes sale (after Apples 30% distribution cut), with the rest going to the record label and to
a lesser extent, songwriters. U2 is a large operation, to be sure, but theyre also a reliable
and routine one. Rather than hand over usurious portions of their music sales to a record
company, why cant they pay salaried team to manage their concert tours, contracts, studio
sessions and retail distribution (the last of which Macklemore hired Warner Music Group
for)? Many of the more complex studio responsibilities, such as retail negotiations and
managing manufacturing and fulfillment contracts, are quickly becoming anachronisms in the
age of digital distribution and flat prices.
The need for changes in the artist-label contract isnt new. But with revenue down more than
70% and an unprecedented number of artists competing for the remainder, the business can no
longer afford the financial structures of yesteryear. Indeed, this is why many believe Spotify
will begin signing artists directly, disintermediating labels just as Netflix has done to
television networks.[6] At the same time, artists must recognize that "better" revenue shares
or direct-to-streaming-service deals may result in reductions in (much-loved)
contract advances.[5]
Going Beyond the Record
Music, itself, may be commoditizing but as concerts have shown, there are opportunities to
expand musical content into new experiences and products. Last year, Deadmau5 launched a
paid app ($5/month or $50/year) that gives subscribers access to exclusive music, videos and
intimate behind-the-scenes reports. Taylor Swift took on a role as New York Citys official
global brand ambassador and served as a one-time Victorias Secret Angel. Private
performances and Las Vegas residencies have also become more popular and lucrative in
recent years. In 2011, for example, Jay Z and Kanye West were paid $3M each for a private
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show in Dubai. Though their ultimate share of this revenue is private, it would have taken
500,000 albums (enough for gold certification) or a 5x platinum single to match this topline.
A number of celebrity musicians have even parlayed their fame into significant cross-industry
successes, from clothing to beverages, venture investing and sports franchises.
This type of brand extension dominates the video and news industry today. The core product
is transformed from a profit center into a platform or brand upon which additional products
can be sold, be it theme parks or wine tours. Even still, compressed economics tend to make
cost structure a key competitive advantage. Those willing and able to survive on less revenue
tend to be fine and in many cases can establish an empire (e.g. Maker or BuzzFeed). For
those who grew in an era of plentiful consumer spend and limited competition, this transition
is tough, but for indies many of whom gave away free CDs to drive awareness the playing
field has become more level.
TUNING IN
The role of music in modern civilization is hard to overstate. Music punctuates our daily life,
crosses cultural and national boundaries with ease and is unmatched in its ability to transform
our mood or transport us decades into the past. The idea that the category is losing value is
tragic, whatever the cause. Yet the decline, which began long before the emergence of adbased or subscription streaming models, doesnt need to be terminal. Services such as Spotify,
Pandora and Tidal have the opportunity to reverse 15 years of declining consumer spend and
B2B revenue. Their models will likely need to evolve, but most key metrics continue to
improve even as the major services have scaled their user bases. However, many musicians
especially those sitting atop the industry today will need to come to terms with the fact that
their music could be worth less than they believed and that theyll need to find new revenue
opportunities outside the recording studio. This outcome is far from unique its affecting
publishing, gaming, television and film. Most importantly, however, artists must recognize
that without new label agreements, their tide will never turn.
- Liam Boluk
Liam Boluk is a venture capitalist focusing on the digital video space and heads up Originals
at REDEF. He can found at @LiamBoluk or emailed at liamboluk@gmail.com.
REDEF creates interest remixes for curious minds.
Subscribe to our daily mixes in Media, Tech, Music, Sports and Fashion here.
The full catalogue of REDEF Originals can be found here. Pieces include:

7 Deadly Sins: Where Hollywood is Wrong about the Future of TV

How YouTube MCNs are Conquering Hollywood
The Digital Future of TV Networks & The Original Series Crunch
Why the Next Sports Empire will be Built on eSports
The State & Future of Netflix v. HBO in 2015

NOTES:

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[1] One could argue that news/journalism should hold this title. Which is largely fair, though
Id argue that news readers tend to be more distinguishing if music sounds good, most dont
worry about the composition, arrangement, style, biases, label, etc. Journalism is consumed a
little differently, though, ultimately, the relative rank isnt essential to my argument.
[2] Though this claim seems controversial, its actually rather absurd to assume that there
arent millions of artists making terrific music each year. The problem is discovery, not
talent.
[3] Notably, iHeart Media (ne Clear Channel), which generates 25% of total US broadcast
radio advertising, voluntarily entered deals with Warner Music Group and several
independent labels in 2013, whereby the company would also compensate performers for
radio spins. In general, this deal is understood as a desire to pre-empt or prevent seemingly
inevitable regulatory changes that would compel all radio stations to compensate performers.
In addition, iHeart Medias CEO Bob Pittman has claimed that the deals were essential to the
companys goal of building an industry-leading web radio platform (iHeart Radio)
[4] This paragraph was added following publication, as was the line preceeding reference [5]
[6] One could argue Spotify actually began producing versus purchasing exclusive music
earlier this year through its Spotify Running Partnership with Tiesto
[Graphics 1, 9 & 2] Excludes music video purchases
[Graphic 2] Based on Nielsen SoundScan definition where 10 tracks = 1 album
[Graphic 10] Exceeds $120 due to foreign exchange rates
[Graphic 11] Cyclicality of Q4/Holiday advertising typically results in a Q1 decline

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