The problem with Pandora and why it’s time to clean up the digital music mess

In a victory for Pandora(s p), a federal judge recently rebuffed attempts by music publishers to make the internet radio service pay more for streaming songs. The decision means Pandora will stay on nearly equal footing with other radio stations when it comes to paying songwriters, but in the bigger picture it will do little to fix a music royalty system that is buckling badly in the digital age. 

The decision, which dealt a loss to the American Society of Composers, Authors and Publishers (ASCAP), is likely to reignite a bitter debate over whether digital music services like Pandora are shortchanging musicians — or whether these services are simply a scapegoat for a troubled business  model. Such arguments, however, may overlook a bigger problem. Rather than blaming Pandora or the publishers, the biggest problem may be with the U.S. government, which created such an irrational and complicated royalty system in the first place.

Here’s an overview of what happened in the Pandora decision, and how the court case is just a symptom of a much larger problem.

The Pandora decision: big band era laws in a digital age

To understand the latest legal squabble between Pandora and ASCAP, you have to go all the way back to 1941. That’s the year the government imposed a consent decree to ensure that radio and TV stations could easily obtain popular music, and that songwriters and their publishers got paid.

The consent decree resulted in two giant middlemen, ASCAP and BMI, acting as collection agents for every big record company in the land — but with the proviso that they could not refuse to license their clients’ songs. Today, the decree, which is amended by the Justice Department from time to time, explains why ASCAP couldn’t simply tell Pandora to get lost, and why there was a court fight in the first place.

As Ben Sisario explained in the New York Times last month, the system that has been in place since “Chattanooga Choo Choo” was a hit has been breaking down in the era of digital music. This breakdown is what led Pandora to file a lawsuit against ASCAP in 2012 after the two sides couldn’t agree on a fair market rate for Pandora’s digital song streams.

Pandora Financials

Pandora had been paying 1.85 percent of its annual revenue to compensate songwriters and publishers through ASCAP — and that’s what the company will continue paying through 2015 as a result of the judge’s decision, which came out last week but was under seal until Wednesday. The 1.85 percent figure is a victory for Pandora, even though it had proposed a slightly lower rate of 1.7 percent. ASCAP, by contrast, had asked the judge to impose a future rate of 3 percent. These numbers may look small, but the difference amounts to millions of dollars in royalty payments.

The decision (you can read a full breakdown here) should also be read in connection with another major court ruling in December that held that music publishers like Sony(s SNE) can’t withhold only their digital rights from ASCAP while also licensing music to AM/FM and satellite stations. To use ASCAP as a service, Sony and the others have to be all in or all out.

Taken together, Pandora’s two court victories — the 1.85 percent ruling and the “all-in” decision — come as a consolation prize for the company after its recent failure to get Congress to pass the “Internet Fairness Act,” which would have made some of the royalty rates for digital music services equal to what AM/FM stations pay.

Overall, however, the Pandora rulings are just one small part of a complicated, chaotic payment system that appears to be failing both companies and musicians.

Unfair or just irrational?

ASCAP tried to spin the recent ruling by saying it is “pleased the court recognized the need for Pandora to pay a higher rate than traditional radio stations.” But since Pandora will be paying a rate that is only 0.15 percent higher than the 1.7 percent paid by AM/FM stations, that’s hardly a ringing affirmation. More broadly, though, the ruling raises questions about why digital and traditional radio services should be treated so differently in the first place.


Take a closer look at music industry royalty rules, and you’ll quickly discover that they make the federal tax code look downright simple in comparison.

Under the current royalty system, for instance, AM/FM radio stations have to pay nothing to performers, only to songwriters. By contrast, newer services like satellite and online radio do have to pay performer rights — but under completely different formulas. The result is that Sirius/XM pays out around eight percent of its revenue for royalties, while Pandora reportedly pays out around 60 percent. For so-called “interactive” services like Spotify and buzzy newcomer Beats Music, rules for royalties are different yet again and so are their opportunities to access songs.

Even though these rules force digital music services to pay far more than traditional or satellite radio, they have done little to quell the fury of songwriters who complain of paltry payouts from Pandora. The problem, however, appears not to be what Pandora is paying, but how what they do pay is apportioned. As Ben Sisario of the Times noted:

“[Publishers] point to the disparity in the way Pandora compensates the two sides of the music business: Last year, Pandora paid 49 percent of its revenue, or about $313 million, to record companies, but only 4 percent, or about $26 million, to publishers.”

The answer to some of the frustrations, then, might not be to demand more money from the likes of Pandora, but to reconsider how to better divide what digital companies pay already.

Nothing left to squeeze

There’s no doubt that it’s tough days for musicians — even for the famous ones: witness David Carr’s sad account of Lady Gaga’s Doritos-driven performance at the SXSW Music Festival. The situation is even worse for indie artists who for decades could at least hope that a record deal, and rich royalties from album sales, might deliver them from their day jobs. Today, those record deals have all but vanished, representing a gaping hole in the economics of the music industry.


That gaping hole, however, isn’t one that can be plugged by further squeezing companies like Pandora, which is already paying out so much in royalties that the company is not making any money in the first place. And even if the musicians could grab every last cent from Pandora and Spotify, that still won’t replace the missing money from the decline of CD sales.

That won’t stop ASCAP and music companies from trying anyway. Instead of exploring new business models that might provide a more direct revenue channel between musicians and their fans, the music industry’s collection agents are likely to remain fixated on squeezing digital music services — an effort that could just stunt or kill them instead. Ironically, as an insightful piece on Re/code suggests, the best bet in the long run may be to lower the royalty rates and broaden the customer base.

In a sign that the existing order may budge, the Copyright Office has announced a study to “to evaluate the effectiveness of existing methods of licensing music.” This could provide a rare opportunity to rewrite rules from the bottom up in a way that helps both musicians and new music technologies, and replaces the current cat’s cradle of royalty rules with something simple and consistent. But for this to happen, it will require Congress to muster the political will to force royalty societies and record companies to accept bold changes.

In response to comments below, this article was updated on March 23 to refer to music companies rather than record labels.

Feature image from Thinkstock/arcross