Licensing or Royalty Income?

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This is Celia Hirschman with On the Beat for KCRW.

The legal battle to watch right now is the lawsuit against Universal Music Group by Eminem's former publishing company, FBT Productions. Enimem himself probably won't make an appearance in court but the outcome of the case could have monumental consequences on the record business. It could set a legal precedent that would change the playing field dramatically.

Eminem's guys claim that Universal owes the artist $1.6 million more for digital downloads. Their argument has to do with the way record companies used to sell physical CD's to retailers and the way they sell digital files to retailers now. Since handing over the music to on-line stores does not incur excess marketing costs, the prosecution is asserting that Universal has underpaid the rapper, masking agreements with third parties like iTunes in order to pay out lower royalties to him.

For decades, the standard breakdown of economics for royalties has been undisputed. The relationship between artist and label has, for the most part, been clearly defined by contracts that anticipate two different types of revenue. One kind of revenue is from CD sales. Traditionally, labels finance the recording, production, marketing, and distribution of an album.

Then, they look at all the expenses, like the cost of album packaging, artwork, advertising, tour support, or video production, and depending on the contract, issue royalties. Artists typically gets somewhere between 10-25% of the wholesale price. This kind of artist revenue is called a royalty. So long as physical CD's have been the primary retail product, royalties have had a clear-cut legal definition.

The second revenue is from licensing music, most often to film, television or advertising. Since typically this kind of license only involves using the music as intellectual property, there are little to no expenses to account for, and the standard cut for the artist is usually 50%. This revenue is called licensing income.

For the past eight years, record labels have considered the artists' share of the sale of music at digital stores like iTunes, eMusic and Rhapsody, subject to royalty formulas only. Universal Music is standing on the claim that downloading at stores still falls under retail sales, and still racks up production and advertising costs, since online shoppers continue to make choices based on Universal's marketing.

But Eminem's publishers argue that digital distribution is more like licensing as far as costs go. There's no packaging, no replicating, printing or shipping; they simply send a single file to the retailer.

And it doesn't help that Steve Jobs mentioned two years ago in his infamous “Thoughts on Music” memo to the record industry that he “licensed” music from labels.

As it stands, both Steve Jobs and Universal Music head Jimmy Iovine will be taking the stand, albeit via video. If Universal loses this case, the precedent for artists to sue labels for back licensing income will have been made. And in an industry struggling to survive, this is not good news.

Both sides have a compelling legal argument. While the this case will effect artists themselves, the eventual ruling is likely to have a hand in shaping what digital sales will look like in the future, for everyone involved.

This is Celia Hirschman with On the Beat for KCRW.