Satellite and Webcasting Royalty Payments at Issue in Copyrighted Music Case

On August 16, a lawsuit was filed for a case called SoundExchange, Inc. v. Sirius XM Radio Inc. Plaintiff SoundExchange's complaint alleges that Sirius XM underpaid royalties for public performance of copyrighted music recordings on its satellite digital audio radio service (SDARS). SoundExchange is a non-profit entity that collects digital performance royalties from statutory license users and distributes them to artists and copyright owners.  

Royalty rates are set by the Copyright Royalties Board (CRB). The CRB separately sets royalty fees for satellite radio and commercial webcasters under the statutory license. As explained in SoundExchange's complaint, regulations provide that "royalties for webcasting are calculated on a per-performance basis rather than as a percentage of gross revenues: the webcasting royalty is assessed for each transmission of a sound recording to a listener, while the SDARS royalty is assessed as a percentage of the revenues the service generates." 

SoundExchange alleges that Sirius XM improperly allocated excessive amounts of revenue to its webcasting service – which requires lower royalty payments – thereby reducing royalties payable for its satellite radio service. Additionally, SoundExchange alleges that an independent audit revealed Sirius XM underpaid royalties, and that regulations require that amount owed – as determined by the auditor – be paid. According to SoundExchange's complaint: "To date, Sirius XM already has unjustifiably withheld more than $150 million in royalties owed to artists and copyright owners under the SDARS statutory license."

The case is likely to be a one-off because Sirius XM is the only provider of SDARS and music webcasting services. But given that Sirius XM has approximately 34 million subscribers and generates significant public performance royalties – not to mention the $150 million in unpaid royalties figure alleged in the complaint – a legal resolution will be tremendously important for copyright owners. 

That said, copyrighted sound recordings are valuable property and it is the role of Congress -- and its delegated authorities at the Copyright Royalty Board -- to provide clear boundary rules defining the scope of exclusive rights and expectancy interests in copyrighted property. Clear rules are a necessary foundation for ensuring that copyright owners can maximize the value and returns for their labors and investment. If nothing else, the case may furnish occasion for more clearly specify for future purposes how revenues and royalties are allocated between SDARS and webcasting services. 

 

This blog post does not express a position on the correct prospective outcome in SoundExchange, Inc. v. Sirius XM Radio Inc. The case is only at its beginning in the U.S. District Court for the Eastern District of Virginia. Sirius XM has not yet filed any detailed pleadings in response to those SoundExchange allegations. Stay tuned. 

Congress Reintroduces a Market-Based Reform for Songwriter Copyright

Free markets are characterized by exchanges between willing buyers and willing sellers. But certain aspects of the market for copyrighted music are subject to restrictions making it less than free. Legislation recently introduced in Congress keys in one realistic reform that, if applied broadly, would move music copyright policy more in line with free market principles.

 The federal Copyright Act recognizes copyrights for songwriters and for owners of recordings. Under most circumstances, music copyright holders are subject to a compulsory licensing system in which licensees pay copyright holders royalties based on government-set rates. Copyright holders are often free to negotiate royalties with music service providers, but royalty rates provide the backstop when negotiating is especially burdensome or unsuccessful. In many instances, federal copyright policy sets rates using a standard that emphasizes protectionist concerns rather than consumer welfare and the rights of sound recording owners or songwriters.

On prior occasions, we have called attention to aspects of copyright law regarding public performances of sound recordings that need free market reform. Particularly troublesome is the Section 801(b) standard by which the Copyright Royalty Board is charged with setting royalty rates in several contexts, including cable and satellite video service providers. Section 801(b) includes a protectionist proviso that rates should “minimize any disruptive impact on the structure of the industries involved and on generally prevailing industry practices.”

This standard has it completely backwards. Disruption is a sign of market dynamism and ongoing transition to new generations of products and services. Consumers are much more likely to benefit from ongoing supplies of new types of products and services than from static markets lacking innovative impact. For those reasons and more, I previously warned against expanding the scope of Section 801(b) to webcasting services for digital music. As I argued: “Congress Should Make Way for a Free and Disruptive Digital Market.”

On the positive side, digital music webcasting services are currently subject to the more market-oriented “willing buyer/willing seller” standard. Under that standard, the Copyright Royalty Board determines what royalty rates “most clearly represent the rates and terms that would have been negotiated in the marketplace between a willing buyer and a willing seller.” If copyrighted music is to remain under rate regulation, the “willing buyer/willing seller” standard should always be preferred over the anti-disruptive Section 801(b) standard.

In fact, Congress should seriously consider making “willing buyer/willing seller” the uniform standard for all copyright royalty rates. Congress should likewise apply the “willing buyer/willing seller” rate to radio broadcasting. Under existing law, broadcast radio can play copyrighted music pursuant to the compulsory licensing system but enjoys a special exemption from having to pay any royalties.

On March 4, the “Songwriter Equity Act of 2015” was introduced in both the Senate and House of Representatives. For its part, the Songwriter Equity Act addresses regulatory constraints and inequities in the law’s treatment of songwriters.

Under existing law, when a copyrighted song is reproduced and distributed – via digital download, CD, or vinyl record, for instance – the songwriter is entitled to royalties via a “mechanical license.” The mechanical license royalty rate for songwriters is set by the Copyright Royalty Board. The current rate is 9.1 cents per song or 1.75 cents per composition minute – whichever is greater. Songwriters insisted this rate is far below market value.

Of course, Section 115 of the Copyright Act incorporates the Section 801(b) standard. That means the mechanical license is subject to protectionist proviso that royalty rates should “minimize any disruptive impact on the structure of the industries involved and on generally prevailing industry practices.”

The most praiseworthy part of the Songwriter Equity Act is its proposed replacement of the current protectionist standard for royalty rates with a “willing buyer/willing seller” standard that seeks to approximate the “fair market value” of the rights. By this standard:

“The Copyright Royalty Judges shall establish rates and terms that most clearly represent the rates and terms that would have been negotiated in the marketplace between a willing buyer and a willing seller. In establishing such rates and terms, the Copyright Royalty Judges shall base their decision on marketplace, economic, and use information presented by the participants. In establishing such rates and terms, the Copyright Royalty Judges may consider the rates and terms for comparable uses and comparable circumstances under voluntary license agreements.”

The point deserves to be reiterated: So long as copyrighted music remains subject to compulsory licensing and rate regulation, the “willing buyer/willing seller” standard should be preferred over the Section 801(b) standard. If rate regulation of copyright royalties is a fact of life, it should at least be governed by a standard that seeks to emulate market outcomes instead of one that seeks to produce protectionist outcomes.

The Songwriter Equity Act comprises one piece of a much larger music copyright reform project. By rolling back the Section 801(b) standard and expanding the “willing buyer/willing seller” standard for copyright royalty rates, Congress can bring music copyright policy closer to free market principles while protecting the rights of both sound recording owners and songwriters.

Music Royalty Rate Regulation Making a Mess of Things

There's a blizzard of news articles, op-eds, and commentaries webcasting service Pandora's acquisition of a radio broadcast station. The focus is on the impact of the purchase on Pandora's prospective payment of royalty fees to songwriters and composers.

This otherwise unusual purchase is explained by the compulsory licensed, rate-regulated context for music service. Pandora is hoping to gain a more favorable regulated royalty rate for itself by becoming a broadcaster.

Rate regulation regimes can be especially prone to manipulation, arbitrariness, or arbitrage. The problematic underpinnings of the current copyright law's forced-sharing and price-control approach as well as the need for long-term market-based reforms are things that I have touched on in an FSF Perspectives paper, "Putting Music Copyright Policy on a Free Market Footing," and in a blog post, "Unshackle Copyrighted Video and Music Content from Compulsory Licensing." It can be easy to get lost in the complexities of the current system of compulsory licensing and ratemaking system for music. But in sorting out the thicket, public policy should ultimately be aimed toward the restoration of a truly free market under the rule of law.

Unshackle Copyrighted Video and Music Content from Compulsory Licensing

Suppose you wanted to employ your creative talents through modern media art by making a video or composing music. As a creator, how would you like it if the government compelled you to make your copyrighted work available to others at prices set by the government? For some copyright holders, such a scenario is an all-too-real experience.

The ongoing dispute in WPIX v. ivi exhibits the problematic nature of current copyright policy's compulsory licensing and royalty fee scheme for retransmitting video. On March 18, the U.S. Supreme Court declined to review a federal appeals court's ruling that ivi's Internet-based streaming service is a "cable system" under the Copyright Act. As a result, ivi cannot invoke Section 111's compulsory licensing rights to retransmit copyrighted TV broadcasting content. Instead, ivi must negotiate for retransmission rights.

Aside from the merits of the Second Circuit's interpretation of Section 111, this dispute over definitions and their regulatory consequences is a reminder of current copyright policy's problematic forced access and price controls. These provisions are applied selectively depending on the underlying transmission service. Selectively-applied compulsory licensing and royalty rate standards are also imposed on copyrighted music. Market-based reforms to copyright policies for video and music should be a component of broader reforms to communications policy that are needed to comport with the realities of the digital age.

Compulsory licensing and government rate-setting for both video and music content need to be part of the public policy conversation concerning digital age reform. Either right away or in steps, public policy for copyrighted video and music content should be realigned more closely with rule of law and free market principles. Policy reform should ultimately seek to foster a truly free market in which video and music copyright holders can freely negotiate with potential licensees for retransmission or public performance rights. And those negotiations should take place under a system of impartial laws.

From a copyright standpoint, the question of whether ivi meets the definition of a "cable system" is a big deal. Significant market and financial consequences follow, depending on the answer. A "cable system" has a statute-based right to retransmit copyrighted live TV broadcast programming according to Copyright Act § 111’s compulsory licensing provision. In exchange for retransmission rights, a cable system is then obligated to pay copyright holders royalty rates set by the Copyright Royalty Board.

The Second Circuit's ruling means ivi cannot invoke statutory compulsory licensing rights to retransmit copyrighted TV broadcasting content live via the Internet. Nor can ivi claim compulsory licensing rights as an affirmative defense to copyright infringement claims by WPIX or other copyright holders. Should ivi seek to retransmit copyrighted live TV broadcast content, it must bargain at arm's length with copyright holders for licensing rights.

It's no wonder that services like ivi prefer the benefits of Section 111's compulsory licensing and royalty fee payment scheme as opposed to negotiating directly for retransmission rights in a free market. Forced access and government price controls typically present terms more favorable to potential copyright users than copyright holders. It is equally evident why copyright holding TV broadcasters would seek to avoid losing control over their content. Internet streaming services may fragment and reduce their TV viewing audiences, undermining their bargaining position with advertisers.

As a matter of principle, compulsory licensing and government rate-making run counter to a free market. Compulsory licenses are a forced access mandate that undermine copyright holders' control over their own work. Royalty fee schedules or rate standards established by statute constitute government price controls on exchange. What's more, compulsory licensing is typically administered in arbitrary ways. Different types of media services and platforms are treated differently, depending on their respective transmission technologies or business models.

I drove these points home with respect to current copyright policy for music content in my FSF Perspectives paper "Putting Music Copyright Policy on a Free Market Footing." When it comes to copyrighted music content, copyright holders who fail to negotiate terms with such media service providers must instead accept public performance royalty fees set by statutory formulas and applied by the Copyright Royalty Board. And different royalty rate standards apply to the same copyrighted music content, depending on the type of media service or platform involved. Music content royalty rate standards for cable and satellite services are subject to the § 801(b) standard, which by its terms seeks to "minimize any disruptive impact on the structure of the industries involved and on generally prevailing industry practices." Non-interactive subscription-based webcasting is subject to a "willing buyer/willing seller" that at least attempts in theory to replicate genuine market prices. And AM/FM commercial broadcasters enjoy compulsory licensing rights but are not required to pay copyright holders any royalties for over-the-air public performances.

Continuation of current policies, over time, may well undermine the incentives of creators and other copyright holders to produce video or music content. Incentives would also likely be undermined for establishing new service and delivery models and technologies to serve consumers in better ways.

Also bearing significantly on the need for reforming copyright policy for both video and music content is the transformative impact of the Internet. Both types of content are now being distributed through what the Second Circuit described in WPIX v. ivi as "'cloud-based systems,' or virtual platforms where content resides remotely on a distant server." Internet-based alternatives for distributing video and music content to consumers render even more unjustifiable arbitrary forced access mandates accompanied by price controls.

Since compulsory licensing and government-set royalty rates or fees are deeply problematic in principle, efforts to reform copyright policy ultimately should include both video and music content. And because of the transformative impact of the Internet and other digital communications platforms, copyright policy reforms for video and music should take place within the broader context of necessary reforms to communications policy, all of which should be guided by the same set of free market principles.

In the case of video copyright policy, there is a complex but especially close connection to communications policy. Cable and DBS providers must contend with an added layer of regulatory burdens imposed by the must-carry and retransmission consent regime. Those regulations are based on the Communications Act and enforced by the FCC. "Must-carry" regulations give local TV broadcast networks – who are not necessarily the copyright holders for programming content – the ability to require cable systems or direct broadcast satellite (DBS) providers to carry their programming on a basic tier channel. Alternatively, TV broadcasters can invoke statute-based retransmission consent rights, requiring cable or DBS providers to negotiate with certain local TV broadcasters. But other FCC rules – such as network non-duplication and syndication exclusivity rules – restrict the ability of cable and DBS providers to negotiate for retransmission of signals from non-local TV broadcasters.

I have previously called into question the problematic forced access implications of must-carry in previous blog posts. FSF President Randolph May has criticized the unduly restricted context for FCC-enforced retransmission consent negotiations in respective FSF Perspectives papers and blogs. And FSF Board of Academic Advisors member Bruce Owen has likewise written about the "The FCC and the Unfree Market for TV Program Rights."

In short, Copyright Act-related restrictions on video retransmission and Communications Act-related restrictions on video transmission should be reformed in accordance with fundamental free market principles that better reflect the realities of the broadband Internet age. Efforts to unshackle music content from compulsory licensing and rate-making previsions should also be considered with the same market principles in mind.

Eliminating compulsory licenses and rate-making is critical to restoring a free market environment that fosters creative new ideas in content, business models, and technology. And fostering a vibrant free market for copyrighted video and music content should be a critical element in overall digital era communications policy reform.  

Congress Should Make Way for a Free and Disruptive Digital Music Market

Free markets are driven by innovation. But regulation tends to discourage disruptive changes that bring about breakthrough products and services to consumers. The current clash over copyright licensing royalties for webcasting shows a stark contrast between the pro-market approach and the pro-regulatory approach to dynamic markets.

The variety of emerging technologies and platforms for providing digital music services suggests a marketplace environment that is innovative and competitive. Webcasting services like Pandora, Spotify, and iHeartRadio are the market's latest breakthroughs. Yet digital music content is currently subject to a regulatory regime of forced access mandates and price controls. Music copyright owners are compelled to license their content to music service providers, typically subject to different rates depending on the type of service involved.

When it comes to digital music content, federal policy has the effect of insulating the status quo from disruptive changes. But if anything deserves to be disrupted or changed, it's the current regime of regulatory controls. Transitioning to a free market framework for music copyright licensing royalties would best unleash the forces of innovative change, to the benefit of consumers.

On November 28, the House Subcommittee on Intellectual Property, Competition and the Internet held a hearing on webcasting of digital music and copyright licensing royalties. Testimony focused on rate-setting standards governing royalties that webcasting services should pay to copyright owners. The so-called "Internet Radio Fairness Act of 2012" (H.R. 6480/S.3609), which was under discussion at the House Subcommittee's hearing, would move webcasting from under the "willing buyer/seller" rate standard to the 801(b) standard that applies to certain other music services.

Federal law charges the Copyright Royalty Board to determine "reasonable terms and rates" for such royalties. The Board applies the "willing buyer/willing seller" standard to webcasting services. That is, the Board determines what royalty rates "most clearly represent the rates and terms that would have been negotiated in the marketplace between a willing buyer and a willing seller."

However, the Board applies the different Section 801(b)(1) rate standard to other services, such as cable and satellite providers. Under the so-called 801(b) standard, "reasonable terms and rates" are those calculated to: (A) maximize availability of creative works to the public; (B) afford copyright holders a fair return and copyright users a fair income under existing economic conditions; (C) reflect the roles of the copyright holders and users with respect to creative contribution, technological contribution, capital investment, cost, risk, and contribution to the opening of new markets; and (D) "minimize any disruptive impact on the structure of the industries involved and on generally prevailing industry practices."

This anti-disruption proviso epitomizes what is wrong with the existing regulatory regime controlling music copyright royalties. Indeed, this aspect of the Section 801(b) was the subject of intense debate in House Subcommittee hearing testimony.  And it should be a focal point for rolling back and eventually eliminating the compulsory licensing and rate-setting regime rather than expanding it.

New ideas and novel applications of knowledge are what sustain and drive free markets. That disruption enhances consumer welfare has become so widely recognized it has all but attained axiomatic status. Disruption is the result of successful investment and innovation. Unpredictable and rapid changes in technologies and business models lead to new products and services, overthrowing old industry patterns. This includes the dramatic rise of new entrants, creating new demand through supply and overthrowing complacent incumbents.

The critical role of disruption in modern markets has also been explained by a myriad of entrepreneurs and academics. Former Intel CEO Andrew Grove, for example, popularized the concept of "strategic inflection points" in describing when the fundamental rules of industry and business operations are dramatically altered by "10X changes" in competitive forces, technology, or consumer behavior. In his book, The Innovator's Dilemma, Harvard Business School's Clayton Christensen brought into sharp focus the role of disruptive innovation in markets, resulting from changes in business models and technology. For that matter, House Subcommittee hearing testimony by SoundExchange President Michael J. Huppe offered several other examples of leaders in technology markets, including music services, extolling the benefits of disruptive change in enhancing economic well-being.

Of course, no one should want regulatory standards to determine the future direction of market disruption. But neither should regulation seek to forestall or banish it. As economist Jeffrey Eisenach pointed out in his hearing testimony, 801(b)'s ratemaking provision grants to users "a de facto right to perpetual profitability based on their current business models."

The existing regulatory regime governing music copyright royalties supplants market freedom by controlling access to and prices for the primary input for many music services – that is, digital music content. These problematic aspects of price controls were the focus of my Perspectives from FSF Scholars paper, "Putting Music Copyright Policy on a Free Market Footing." Although the willing buyer/seller standard is intended to mimic market-based prices, like the 801(b) standard it still involves an onerous displacement of free market mechanisms of adjustment to changing circumstances. Section 801(b)(1)(D) takes regulatory intrusion a step further, however, by expressly seeking to impose stasis in pricing.

Moreover, the current compulsory licensing and ratemaking regulation for digital music content regulation tends to foster a market environment that is inhospitable to experimentation and to further waves of innovation. Government-prescribed rules constrain or even displace the risk-taking and knowledge-based decisions of diverse market providers. The difficulty is that when regulation prompts providers to forego promising innovations, the opportunity costs to consumer welfare are impossible to measure.

Forced access and rate regulations of digital music are particularly unjustifiable in light of today's market conditions. Long gone are the days when radio and cassette tapes were the only ways to access music. CDs and vinyl are still widely available for music aficionados, along with broadcast radio. But consumers now have ample choice among cable music services, satellite radio, online on-demand services, as well as webcasting services relying on ad-based or subscription models.

House subcommittee hearing testimony by Pandora Chairman and CEO Joseph J. Kennedy, raised understandable complaints about the "lack of a level playing field." After all, webcasting services are subjected to a different rate standard than other services, such as cable and satellite. (Commercial radio broadcasters, for that matter, are exempt from having to pay music copyright royalties at all.) But these fights regarding fairness and favoritism are an inevitable by-product of unnecessary over-regulation. In a dynamic market, such as the market for music content, such disputes are best left for the market to sort out.

In the end, the Internet Radio Fairness Act marks a move in the wrong direction. Rather than readjust rate standards for webcasting, Congress should seek to reduce regulation in this space for all music services. The ultimate aim of federal policy for digital music content and copyright licensing royalties should be a truly free market. That means eventual elimination of compulsory licensing and ratemaking.

In the New Year, FSF hopes to continue addressing some of the basic constitutional and free market principles that should guide any transition to a free market in digital music content.