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CRB rate increase: not necessarily 44% (a look at Pandora)

NOTE: This article is under continual revision as new information becomes available.

When RAIN News reached out to Pandora this morning for comments about the dramatic royalty rate increase for songwriters and publishers set by the Copyright Royalty Board (CRB), we were told that the company was analyzing the result and had no comment.

Since most of the publicity of the CRB ruling headlines the 44% raise in percentage-of-revenue rate over five years, you might not think there’s much room for analysis. It can look like a simple win for creators and a historic “ouch” moment for streaming music services.

But the ruling is more complex, as RAIN’s Anna Washenko details here. Alongside the percentage-of-revenue increases, there is an alternate rate structure calculated as a percentage of total content cost (TCC) — the dollars accounted to paying for music that is streamed. Here is the increase table for that rate:

  • 2018 – 22.0% of total content cost
  • 2019 – 23.1% of total content cost
  • 2020 – 24.1% of total content cost
  • 2021 – 25.2% of total content cost
  • 2022 – 26.2% of total content cost

The rate hike from 20% to 26.2% is an increase of 31%, not 44%.

Digging into Pandora’s public reports, we can imagine that the company’s analysis is geared to finding its best accounting path forward. Certainly, the cost of music is more expensive starting right now. The amount of added cost is unclear, but it is probably less than 44%.

Pandora’s Royalty Rate Structure

In Pandora’s 2017 Annual Report, the company explains that it uses the total content cost (TCC) method. “In 2015 and 2016, we signed new direct license agreements with PROs and thousands of music publishers that grant us the rights to stream musical works under their control on both our ad-supported and subscription services for a multi-year period. Prior to September 15, 2016, the combined effect of these licenses was that each copyright holder received its usage-based and ownership-based share of a royalty pool equal to 20% of the content acquisition costs paid by us for sound recordings on the respective tier of service.”

It’s worth mentioning here that the CRB ruling applies to on-demand streaming services, not radio-style non-interactive streaming. About 95% of Pandora’s auudience, and about 80% of its revenue comes from non-interactive streaming. (See David Oxenford’s blog post.)

Accordingly, Pandora explains that the 20% rate holds for its non-interactive, ad-supported radio service. “Subsequent to September 15, 2016, this calculation still applies to our ad-supported service, but content acquisition costs for the streaming of musical works on our subscription services are equal to the rates determined in accordance with the statutory license set forth in 17 U.S.C. §115.”

Indeed, according to David Oxenford’s Broadcast Law Blog, the CRB ruling does not apply to non-interactive ad-supported music services (like most of Pandora listening).

Pandora further explains that its directly negotiated deals with music copyright owners can supersede the CRB rates, which apply to non-negotiated blanket licensing. (“If we have not entered into a direct license agreement with the copyright owner of a particular musical work, or a PRO representing the copyright owner, then we stream that musical work pursuant to the Section 115 statutory license and pay the applicable rate.”)

What It Means

The broad upshot is that Pandora almost certainly will not suffer a 44% increase in its mechanical licensing cost. The TCC method Pandora uses represents a 31% hike over five years, not the 44% in the percentage-of-revenue method widely quoted in media reports. It is still substantial, of course.

Looking at Pandora’s Q3 earnings report, we see the cost of content in 2016 (the latest available full year) as $734-million. The worst case for Pandora would be if that entire number (actually the 2018 number, which would presumably have two years of revenue growth built in) were subject to the CRB rate increase (which is 10% in the first year). But the Annual Report quotes indicate that some portion of Pandora listening is governed by negotiated agreements.

Pandora’s negotiated deals with the Performance Rights organizations (PROs) and other stakeholders are important. Without them, Pandora’s entire content cost would be subject to a dramatically increasing royalty calculation. We don’t know how much of Pandora’s content cost is protected by superseding negotiated agreements. But any increase would still not be a 44% calculation over five years, because the TCC method represents a percentage increase of 31%.

Pandora uses the Annual Report to deliver the sort of worst-case gloom typical of such documents: “[A]ny any increase in the Section 115 rates would increase our content acquisition costs, which, if such increase were substantial, could materially harm our financial condition and hinder our ability to provide interactive features in our services, or cause one or more of our subscription services to not be economically viable.”

Could it really be so painful that Pandora would shut down Pandora Plus and/or Premium? Pandora further explains: “The Phonorecords III Proceedings [the CRB litigation and ruling process] are important to us because our direct licenses with music publishers reference the Section 115 rates.” We take this to mean either that Pandora’s licensing agreements are pinned to the CRB schedule, or that future licensing negotiations with PROs and other stakeholders could have a new ceiling determined by the CRB ruling.

Brad Hill

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