The Death of Pandora and the Rebirth of Webcasting

The bell is tolling for Webcasting in the U.S. after the Copyright Review Board refused to alter the new proposed royalty rates, which represent an enormous hike in the money online radio stations must pay. The new rates take effect July 16, and a coalition of Webcasters led by the popular Pandora are pleading that their business will go away with these new payment obligations.

Many times, these outcries are public-relations strategies that exaggerate the impact to garner sympathy and, subsequently, lower rates. In this case, it’s not hyperbole. Net radio companies will go bankrupt if they continue to broadcast under these new rates, so expect many to go silent. But royalty rates don’t impact people’s desire to listen to music. John Gilmore is credited with saying “The Internet interprets censorship as damage and routes around it.” Oversized royalties create a type of censorship, and the resilient Internet and capitalism will route around this as well. Webcasting will be revitalized stronger than before, because this time it will have a viable long-term royalty structure.

On first glance the new Webcasting rates sound reasonable: 0.0011 per song play per listener and $500 per station. However, two factors make the total larger than you’d expect. First, many Webcasters offer individual stations tailored specifically to every individual’s taste. This personalized experience triggers a massive amount of “station” royalties. (I have four personalized Pandora stations.) Secondly, although the 0.0011 sounds small, it adds up quickly when someone clicks play and leaves a station playing for hours in the background. I did some math using the last publicly published numbers for three top Webcasters and arrived at some startling results. (These numbers are surely not precise, but give you a baseline.)

Webcaster Amount Owed 2007
AOL Music $23 Million
Live365 $53.6 Million
Pandora $9.07 Billion

And if those numbers aren’t bad enough, there are built-in rate increases for the next four years.

Year Rate Increase in Per-Song Royalty
2008 37.5%
2009 28%
2010 28%
2011 5.5%

Compounded, these numbers represent a growth of more than 100% from 2007 rates. It’s impossible to run a profitable online Webcasting business with the new royalty structure. Pandora (which I often use and really like) and all other legitimate U.S. Webcasters will go bankrupt or simply turn off the lights.

Some Webcasters have started a grass-roots lobbying effort and convinced some congressmen to introduce a bill that would make satellite, AM/FM and Webcasting radio all pay the same, much lower rates. Unfortunately, it’s relatively easy to get a bill introduced and, by design, hard to get it through the proper committee, agreed to by both houses of Congress and then signed by the president. Media companies are expert lobbyists, and it just takes one powerful senator to block a bill. And it’s not a quick process, so short-term relief seems highly unlikely.

However, net users’ thirst for music isn’t altered one note by a royalty decision. People will still crave music and the passive listening experience while sitting in front of the computer, where they spend an increasing portion of their life. A new generation of Webcasters will emerge to fill the vacuum created by this royalty-induced musical implosion.

This new generation of Webcasters will limit their stations to music from labels who will agree to a direct license at lower rates. Many were surprised when the Copyright Review Board’s rates did not offer a “percentage of revenue” option–a concept both sides advocated, albeit with greatly different numbers. Webcasters will willingly pay record labels a single-digit percentage of revenue, similar to the 3% they pay to ASCAP/BMI, which represents music publishers. Smaller labels will agree to this or a more modest per-song royalty, recognizing that they are receiving (besides the money) valuable promotion. As more labels agree, the holdout labels will feel competitive pressure to ensure Internet promotion for their artists and be compelled to agree. For sure, this transitional period for Webcasting means many of your favorite songs will not be heard on online radio, because the major labels who sell 80% or so of music will not immediately voluntarily agree to lower rates. (The record labels were the driving force in lobbying Congress for new laws under which Webcasters are now required to pay these royalties.)

The temporary absence of the major-label song library may not be as crippling to Webcasting as you might think. The constraints of odd-numbered stations on the limited AM/FM spectrum have consolidated consumer taste. But the Internet has unlimited capacity, which allows for a much greater diversity of music. An astonishing 55% of the songs played on Pandora are from independent labels. And since users can vote thumbs up or thumbs down on every song, this is likely an accurate representation that consumers desire a greater variety in their audio experience.

You have until July 15 to try Pandora before it dies. It’s a wonderfully simple interface, where you pick a song you’re in the mood for and a custom radio station is auto-constructed and begins playing in just seconds. From there you can use your Web browser to tailor your station to respond to your tastes even better. While the Pandora of today will go away midsummer, we hope the management of Pandora can find a way to continue operations and this time find a way to build their business on more solid financial terms.

Michael Robertson is the founder and former CEO of MP3.com as well as the founder of SIPphone, MP3tunes and other ventures.