iTunes Radio does not justify Pandora rate hike, judge says in major royalty decision

A federal judge sided with internet radio service Pandora(s p) over the music industry in a bitter fight over songwriting royalties Wednesday, after concluding that Pandora is more akin to regular radio than other music services like iTunes Radio and Spotify.

In a decision published Wednesday in New York, U.S. District Judge Denise Cote concluded that Pandora should continue paying a royalty rate of 1.85 percent of its annual revenues, and that the 3 percent music publishers had sought was not “reasonable.”

While the parties announced the numbers on Friday, the judge only published her 136-page decision this week after Pandora, Apple(s aapl) and others had an opportunity to redact confidential information.

Pandora is radio

The lawsuit began in late 2012 after Pandora sued the American Society of Composers, Authors and Publishers (ASCAP), which licenses music on behalf of songwriters and publishers, after the two sides were unable to agree on a reasonable royalty rate.

Pandora filed the complaint after Sony and others tried to partially pull out of ASCAP in order to deny their digital catalogue to Pandora — a move that would have severely depleted Pandora’s music selection. In a December decision, however, another court ruled that Sony and others had to be “all in or all out” when it came to using ASCAP which, along with BMI, operates under a Justice Department consent decree that requires them to issue licenses to all radio providers.

Unable to withdraw their digital collections, the music companies then pinned their hopes on persuading Judge Cote that Pandora should pay a much higher rate than the 1.7 percent paid by other radio services like AM/FM stations or Clear Channel’s iHeartRadio internet service. The judge disagreed:

Pandora is a radio service, albeit a customized radio service. Unlike traditional broadcast AM/FM radio, in which one program is played for many listeners, Pandora’s digital radio service provides the opportunity to have a unique program created for the enjoyment of each listener. This distinction between programmed and customized radio has been referred to as the one to many, versus the one to one distinction. But, despite that differentiation, made possible by digital technology, Pandora is radio.

The judge also pointed to “iHeartRadio’s customized radio Create Station feature, which competes head on with Pandora.”

Even though it falls short of the 1.7 percent Pandora had requested, the company is likely pleased with the 1.85 percent figure; that is what it currently pays, and the decision lifts a cloud of uncertainty at a time when Pandora is struggling to become profitable.

The decision also describes the bitter negotiation tactics that took place prior to Pandora’s decision to sue. These tactics include apparent collusion by the big music companies, and an attempt to squeeze Pandora through 11th hour threats and leaking sensitive agreements to the press.

Not like iTunes Radio or Spotify

The massive Pandora decision also reflects the staggering complexities of the music royalty system, which makes stark distinctions between different types of music services.

According to the court, the fair rate for Pandora should not be determined by referring to what interactive music service, Spotify, pays to license songs from ASCAP. The reason is that: “on-demand streaming services like Spotify are widely considered cannibalistic and are licensed at a higher rate accordingly.”

The court also rejected the music companies attempt to use Apple, which launched a radio service of its own late last year, as a royalty model. While Apple is rumored to be paying ASCAP a 10 percent royalty rate, Judge Cote ruled that this amounts to an apples-to-oranges comparison, in part because the service is new and because Apple is using it promote its hardware products:

Because iTunes Radio launched only a short time before trial, data about the service is scarce. Moreover, the differences in the revenue bases; the use of iTunes Radio to promote sales of Apple products, which has no equivalent for Pandora; and the absence any means of capturing imputed revenue for the advertising of Apple’s music products, all add to the difficulty of the task.

Angry songwriters

The ruling in favor of Pandora may further embitter certain songwriters who blame digital musical services for undercutting artists’ ability to make a living.

While musician David Lowery created a stir by pointing to royalty statements that suggest he earns only $16 when his song is played 1 million times on Pandora, the issue is not so cut and dried.

Under the complicated royalty system, services like Pandora and Spotify must pay huge amounts to record companies for a whole other category of royalty called performance rights — a category that other services barely pay at all. As the judge explains:

Broadcast radio pays no royalties for terrestrial broadcasts of sound recordings; satellite radio pays 9% of revenue for satellite transmission of sound recordings; and Pandora paid 55.9% of its revenue for internet transmission of sound recordings in 2012

The bottom line is that the ruling puts Pandora on about equal footing with other radio stations when it comes to paying ASCAP, but the music royalty system still appears deeply distressed and uneven. Here’s the decision with some of the key passages underlined:

Pandora Ruling

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