Apple Inc. (AAPL) wants a reset.
Apple is negotiating lower licensing fees with the country’s three major labels as part of a wider royalty agreement covering its streaming service, Apple Music, and its download platform, iTunes, according to a person familiar with the talks. Its existing contracts are due to lapse at the end of June.
Apple struck deals with the three major labels — Universal Music Group, Warner Music Group Corp. and Sony Music Entertainment — as well as scores of independent imprints just before launching Apple Music in June 2015. Yet because of a lack of clarity about how artists and songwriters would be paid during a three-month trial period for Apple Music, the company agreed to pay labels a premium, in part to assuage the vocal misgivings of artists such as Taylor Swift.
The premium was also a product of Apple’s eagerness to get along with an industry that has sometimes blamed it for accelerating the downfall of CD sales, once the industry’s largest source of revenue.
But the days of iTunes decimating the CD are long gone. Streaming has given the music industry new life, even fueling talk that Vivendi SA’s Universal Music, the largest label, may soon hold an initial public offering. Universal declined to comment on such speculation.
The labels, artists and songwriters, meanwhile, are eager to help Apple and Spotify Ltd., the largest subscription-based music streaming service, to add subscribers. Apple declined to comment about its relationship with the labels.
For the first time, streaming music services accounted for more than 50% of all U.S. music industry revenue in 2016, according to the Recording Industry Association of America. That’s very good news for the industry. To appreciate the rapid growth of paid and ad-supported streaming (i.e., Pandora Media Inc. (P) ), consider that together they were responsible for 51% of music revenue in 2016, or $3.9 billion, compared with 34% in 2015.
At present, Spotify has more than 47 million streaming subscribers paying $10 per month, while Apple’s total is over 27 million. Two years ago when Apple launched its streaming service, Spotify said it had more than 20 million subscribers. And Apple being Apple, it was confident it could close that gap. Well, it hasn’t.
Nearly three months ago, Spotify and Universal Music announced a multiyear licensing agreement. Since then, Access Industries Inc.’s Warner Music and Sony Corp.’s (SNE) Sony Music have remained in talks with the Swedish-born streaming service, though Warner is said to be closer to an agreement than Sony.
Integral to its agreement with Universal were a set of performance targets that Spotify must reach to secure lower fees. Those targets are said to be reasonable rather than unreachable.
Apple would like a similar arrangement. Of course, Apple is a very different company than Spotify, which remains in the red despite meteoric growth. And Apple makes most of its money selling hardware. Services like the iTunes store and Music streaming have existed in large part to keep users tied to Apple devices.
But CEO Tim Cook would prefer not to lose money in the process.
“Apple’s history in digital music has been loss-leading to sell hardware,” Mark Mulligan of MIDiA Research, media and technology firm, said in an e-mail. “Now though, its services business is becoming more important and it needs to do a better job of improving margins across its content and services offerings in order to help improve the overall commercial metrics of this growing part of its business.”
Apple is negotiating a reduction in royalty fees it pays the labels “from the high 50s% to low 50s%, Mulligan added.
Part of the reason for seeking lower fees is that music downloads sales have been steadily dropping for more than five years and have reached a tipping point where sales are falling even faster. Not only at iTunes but across all digital platforms. For the labels, a licensing deal with Apple is different, and even a bit more complicated than a licensing deal because the labels don’t want streaming to decimate downloads.
The labels want to incentivize Apple to keep iTunes vibrant in parts of the world, and parts of the U.S., where downloads remains most popular. Those places are usually where wireless broadband service isn’t especially strong. The labels would like Apple to do all it can to keep downloads alive, so the parties are negotiating performance targets around the download business.
In short, Apple wants to stop paying premium licensing fees. It’s looking for a similar deal afforded Spotify. Stay tuned.
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