Why Labels Are Sitting on a Time-Bomb of YouTube Lawsuits…

A warning to labels: Based on the way your artist contracts likely read, you may be setting yourselves up to be sued by your artists over YouTube money.

The issue: distributors issuing YouTube synchronization licenses and collecting YouTube synchronization money on behalf of labels are mixing two distinct and separate types of income streams together; distribution money and synchronization money. The distributor is then applying the label/distributor contractual distribution terms, deductions and payments as opposed to the label/artist synchronization contractual terms, deductions and payments.

As labels cannot use the distributor-provided royalty calculation for synchronization money, it creates two big problems.

1) The label must pull apart and redo the entire distributor statement to accurately calculate the synchronization royalty for the artist.

2) If synchronization money is owed to the artist (i.e. the artist has recouped their advance) the label needs to come up with the money as the distributor is withholding the label’s money.

These two problems are occurring as the right of “distribution” and the right of “synchronization” fall under different contractual legal provisions and copyright uses:

• The right of Distribution for the sound recording

• The right of Distribution and Reproduction for a license to synchronize a sound recording with a moving image

Understanding the Issue: The Royalty Rate From The Sale of Pre-Recorded Music Vs. The Royalty Rate from Synchronization Licensing

In most traditional label recording contracts there are two royalty rates for the artist:

1) A royalty from the money made from the sale of pre-recorded music; for example, the sale of a CD or a download.

2) A royalty from the money made from the synchronization license of the music to a third party; for example, the license of a master recording allowing it to be “synchronized” with a moving image like a movie, TV show, commercial, YouTube video etc.

The percentages that are paid out to the artist by the label for these two different royalties are dramatically different.

For the sale of the music on a CD or a download, artists typically receive 12% to 18% of the list price.

For the license of a master recording allowing it to be “synchronized” with a moving image like a movie, TV show, commercial, YouTube video etc., the artist typically receives 50% of the payment.

In both cases, the money gets paid to the artist only if the artist has recouped any advances paid to the artist by the label.

The Royalty Rate From The Sale of Pre-Recorded Music

Money calculated and paid to the artist by the label from the sale of pre-recorded music works as follows, and applies only to the sale of pre-recorded music — not to synchronization income.

The artist signs a deal with a label stating the label will pay (on average) between 12% to 18% of the list price of the pre-recorded music.

The label signs a contract with a distributor to have the distributor place the label’s music onto the shelves of the digital and physical music stores.

In the physical world (yes, it still exists), the stores order CDs from the distributor at a wholesale price, mark the CDs up and pay the distributor the wholesale price for the CDs they sell.

In the digital world, a song is downloaded and the distributor collects the money from the download.

In return for this service the distributor takes a percentage of the money it collects. This percentage is called a “Distribution Fee” and is usually somewhere between 17% to 30% of what is paid to the distributor.

In addition, every CD shipped out by the distributor to a store can be returned by the store to the distributor for a credit against future purchases (Returns are a moot point in the digital world). Because of the returns, there is a provision in the label/distributor agreement called a “Return Reserve”.

The “Return Reserve” allows the distributor to take its “Distribution Fee” and then pay the record label 70% to 80% of the money it collects. The other 20% to 30% of the money is paid to the label in equal parts every 90 days over the next 12 months. This “reserve” protects the distributor from overpaying the label for CDs that are returned to the distributor for a credit. (This obviously does not happen with digital download sales).

The Royalty Rate from Synchronization Licensing

Money paid to the artist by the label from the license of pre-recorded music to be synchronized with a moving image usually works as follows.

Traditionally, the entity that wants to license the music to “synchronize” with a moving image (like a TV show, film etc) pays a flat up front fee directly to the label. This fee is usually split 50% for the artist and 50% for the label. The artist only gets paid their 50% if the they have recouped any label advances.

That’s it. No return reserves etc.

YouTube Money is Synchronization Licensing Money, NOT Pre-Recorded Physical, Digital or Stream Money

In order for music to be legally used in a YouTube video, there must be a synchronization license granted from the label to YouTube as the music is being “synchronized” with a moving image, in this case a YouTube video. This even applies if it’s just a static image of an album cover.

The problem is that some distributors are issuing synchronization licenses on behalf of labels and collecting the synchronization money from YouTube. The distributors treat the synchronization income as distribution income and apply the distribution expenses and deductions to the synchronization income described above. This is not the right approach. For instance, if the TV show Mad Men wants to license a song, it calls, negotiates and pays the record label (and music publisher). The distributor is not involved nor does it receive or touch any of this money.

In the same way a label does not let a distributor take any revenue or make deductions from a Mad Men synchronization license, the label cannot let the distributor do so with revenue from a YouTube income either. Thus the problem.

The Legal Liability Distributors May Be Creating for Labels

Because labels are not contractually allowed to deduct distribution fees, returns and other expenses from the artist’s synchronization money, the label must go through the extremely difficult task of reformatting and recalculating the entire monthly statement received from the distributor in regards to YouTube revenue. (For those of you who have not see a YouTube statement, they literally can go on for millions of lines each month at a song level. Now add this on top of all the other itemized sales information from the distributor for downloads, streams and physical sales as well as the itemized expenses across all releases by a label)

To redo the statements each month, the label must:

1) Manually identify and separate the YouTube synchronization money from all the other money and expenses

2) Add back in the “Distribution Fee”

3) Calculate and add back in the “Return Reserve” (with no distribution fee)

4) Isolate and remove all the other non-related expenses the distributor fronted and deducted (manufacturing, advertising, returns, return processing, shipping, etc.)

Once the royalty is accurately calculated it, if the artist is owed money, the label has to come up with the cash as the distributor did not pay all the synchronization money to the label.

This creates the legal liability as the artist can sue the label if the label does not:

• Accurately calculate royalties

• Credit and/or pay the artist (if they are recouped) what they are owed.

This is exactly what caused Eminem to sue Universal and a recent artist class action lawsuit against Warner Music, which Warner has just offered to settle. Although these cases were not exactly the same scenario as the topic of this article, they are absolutely about the label not calculating the appropriate royalty rate on digital licensing income, and are thus worth noting.

The Solution:

First, labels should check their existing distribution agreements to learn if they granted the explicit and specific right to synchronization to the distributor for YouTube. If not, the label is within its right to demand 100% of any YouTube money the distributor may have collected along with the YouTube provided accounting.

Next, the easiest and most obvious solution is to isolate the two income streams so that distribution expenses and delays in payment are not applied to synchronization money. Labels can do this by entering into their own direct licensing agreement with YouTube or using a company like Audiam.

In both cases, the label will get clear and accurate accounting for their YouTube synchronization money, and thereby allow it to calculate the right royalties for its artists. In addition, no portion of the money will be subject to distribution fees, return reserves or expenses from other artist releases. This means a label does not need to find a way to fill the financial gap to pay its artists (Full disclosure: Audiam, like SoundExchange (an entity that also works for labels) takes an “administration” fee for its service. Contractually, an administration fee is different than a “distribution fee.”)

If a distributor would like to expand its services into synchronization licensing, it should make certain the label understands the rights grant it is granting to them. In addition, the distributor should provide separate accounting for the synchronization money that is not mixed with inappropriate distribution deductions and expenses.

If not, the distributor could be setting up the label to get sued by the artists that feed them both.

Source: Digital Music News