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Consent Decrees and the Music Industry: An Antitrust and Copyright Explainer

· March 30, 2017

As DisCo has covered before, a major legal battle is being waged in the music industry. The battle concerns the intersection of music copyright and antitrust law, and it could dramatically change how consumers interact with music. On May 18, the Department of Justice (“DOJ”) is expected to file its opening brief in an appeal of a district court decision rejecting its interpretation of a consent decree entered into in 1941 (and amended since). The outcome of this appeal could have major and long lasting repercussions for Internet radio and music streaming.

How the Music Industry Historically Worked Out Its Issues

The music industry joins a handful of other industries, like major league sports, which have a unique relationship with antitrust laws. These industries all have very significant and unique problems that are solved through competitor coordination, but competitor coordination is normally illegal under the antitrust laws. These industries generally operate under some kind of exception to the antitrust laws, because the problems outweigh the competitive concerns in a limited coordination. In the case of the music industry, a complicated basket of rights extended across millions of songs would make it nearly impossible for music services to exist without some market intervention. Every recorded song is covered by two copyrights, one for the recording and one for the composition, and every copyright can have any number of owners. This leads to a counter-intuitive relationship between buyers and sellers where buyers want the smallest number of sellers possible, as long as those sellers are required to play fair. This leads to the lowest search cost and the easiest way for buyers and sellers to find each other.

Enter the performance rights organizations (“PROs”). These PROs gather many composition licenses together and offer them at a blanket rate to music buyers. This is, of course, called price fixing in antitrust terms. However, the DOJ recognized the benefits of PROs and negotiated a settlement that would allow the PROs to continue to operate unchallenged by antitrust laws as long as they were bound by certain rules that ensure the PROs played fair and didn’t abuse their immense power. This assessment of the PROs was later endorsed by the Supreme Court. The set of rules the PROs operate under is called the consent decrees, which cover the two largest PROs in the music industry – ASCAP and BMI. These consent decrees provide a floor of protections for music buyers.

Today, virtually all music services take blanket licenses from the major PROs. The PROs in turn gather composition rights primarily from large publishing houses like Sony and Universal Music Publishing Group.

How the Music Industry Created Its Own Problem

Thanks to a publicly litigated dispute between Pandora and ASCAP, we have some degree of insight into how the music industry developed an unhealthy and destructive obsession with the consent decrees. This obsession led to the music industry battling a monster of its own creation. Despite ASCAP and BMI reporting record revenue in 2016, the music industry has generally viewed Internet music service license prices as too low. Starting around 2011, the PROs ASCAP and BMI, as well as some of the largest music publishers, began to enact a fragmentation strategy to drive Internet music prices higher. The fragmentation strategy involved withdrawing what were called “new media” rights from the PROs to force Internet music services to deal directly with publishers while allowing the PROs to continue to license to all other types of music buyers. Judge Denise Cote explained this strategy in a legal opinion, stating that “Sony and UMPG justified their withdrawal of new media rights from ASCAP by promising to create higher benchmarks” that could then be used to push the rates charged by the PROs higher.

This strategy failed when the courts that oversee the ASCAP and BMI consent decrees found that the withdrawal strategy, called partial withdrawal, was barred under the consent decrees. These decisions set in motion the events that have led to the current appeal. The music industry cast the consent decrees as the problem, and major music industry players approached the DOJ to ask them to amend the consent decrees to allow music publishers to engage in partial withdrawal. The DOJ declined.

While the music industry has begrudgingly accepted the DOJ’s decision on partial withdrawal, the exercise forced the DOJ to comment on an aspect of the consent decrees that was somewhat unclear and largely irrelevant prior to the fragmentation strategy. Under default copyright law any copyright holder can license the full work and is required to distribute any profits amongst the other copyright owners. This rule promotes widespread access to works of art by making it easier for license buyers to acquire rights. Artists have privately contracted around this default rule by requiring each owner to license no more than their share of the work. This is called fractional licensing, and is perfectly legal. The problem is that fractional licensing greatly increases the power of any individual copyright owner, and thus ASCAP and BMI would reasonably be prevented from engaging in fractional licensing by consent decrees specifically targeted at preventing abuse of market power.

Fractional licensing was irrelevant as an issue because nearly all music buyers bought licenses from all the major PROs, which basically guaranteed that they were licensing from every copyright owner of every used work. Fragmentation would change that as blanket licenses from the PROs would no longer cover 100% of the works.

The music industry asked the DOJ to amend or clarify the consent decrees to state that fractional licensing was permitted under the consent decrees. The DOJ conducted an exhaustive investigation, and after looking at the language, history, Supreme Court precedent, and public comments the DOJ decided that fractional licensing was not permitted under the consent decrees.

The DOJ’s decision was challenged in the BMI rate court, which is considered to be more sympathetic to music licensors than the ASCAP rate court. Perhaps vindicating this strategic litigation decision, the BMI court overturned the DOJ’s decision in an order issued just after a pre-motion conference. The BMI court held that fractional licensing is permitted under the consent decree. Significantly, this means that BMI and ASCAP are now governed under different rules. The DOJ has appealed and is scheduled to submit its opening brief to the Second Circuit on May 18.

The Problem’s Nuances and How it Might be Resolved

In later posts we will tackle the larger problems of the BMI ruling and fractional licensing in depth. However, it is important to understand the stakes before we can get into outcomes. There are a number of problems that come from rewriting the rules in such a complex market such as music licensing:

  • The problem of buyers and sellers finding each other will return under fractional licensing. This problem is made worse by the fact that there is no dependable database of who owns what, making it hard for buyers to reliably assemble 100% of the rights to the songs they want to play.
  • If transaction costs get too high, then music buyers will begin losing interest in streaming large catalogues of music. This is critical in the Internet music market because most competition to date has been based on providing the widest access to songs consumers want to hear.
  • Music users may be subjected to statutory damages of up to $150,000 per infringement, meaning the error costs for not assembling 100% of a license on each song are huge.
  • Fractional licensing defeats the purpose of the PROs, which undermines most of the reasoning behind the PROs’ special treatment under antitrust laws. This could reopen settled case law and expose the industry to a new wave of antitrust litigation.
  • Most merger enforcement in the U.S. has been under the assumption that music buyers will be taking licenses primarily through large PROs bound by consent decrees. Music publishers today are powerful on their own, and there are mergers that may have been enforced differently if the rules are different.

The likely outcomes exist roughly on a spectrum. On one end, not much happens — either the music industry decides that fragmentation wasn’t a good idea after all or the DOJ wins its appeal. On the other end, the costs of Internet music services skyrocket due to increased search and error costs, as well as having a weakened bargaining position. Consumers will either see a significant regression in the services offered by Internet music companies, or the music industry will take over the streaming industry and incentive to innovate is stifled. This outcome is not good for either side of the industry, making an equilibrium closer to the status quo the more likely outcome. That does not mean, however, that the stakes are not high; there exist significant risks for setbacks in the Internet music industry.

Matthew Lane is a lawyer and policy advocate who has spent his career tackling the interesting issues that occur when competition and intellectual property law and policy collide.

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