The details of the contract between Sony Music and Spotify

The Verge has obtained a contract between Sony Music Entertainment and Spotify giving the streaming service a license to utilize Sony Music’s catalog. The 42-page contract was signed in January 2011, a few months before Spotify launched in the US. Written by Sony Music, the two-year deal — with an optional third year that Sony Music could pick up — reveals how much Spotify must pay in yearly advances to Sony, the subscriber goals that Spotify must hit, and how streaming rates are calculated.More interestingly, the contract details how Sony Music uses a Most Favored Nation clause to keep its yearly advances from falling behind those of other music labels, how Spotify can keep up to 15 percent of revenues “off the top” from ad sales made by third parties, and the complex formula that determines how much labels get paid per stream.

This contract — like every other contract involving a music label and a streaming service — has been secret until now. Given the myriad ways Sony Music came out as the winner, it’s worth asking who really should shoulder the blame for the lackluster streaming payments that artists like Swift have been complaining about — the labels or the streaming service?

In section 4(a), Spotify agrees to pay a $25 million advance for the two years of the contract: $9 million the first year and $16 million the second, with a $17.5 million advance for the optional third year to Sony Music. The contract stipulates that the advance must be paid in installments every three months, but Spotify can recoup this money if it earns over that amount in the corresponding contract year.

But what the contract doesn’t stipulate is what Sony Music can and will do with the advance money. Does it go into a pot to be divided between Sony Music’s artists, or does the label keep it to itself? According to a music industry source, labels routinely keep advances for themselves.

“I’ve worked at the major labels, and I’ve worked at the indies, so I’ve seen both sides of the business,” says Rich Bengloff, president of the American Association of Independent Music. “A lot of the time, money that is paid outside of the direct usage doesn’t end up getting shared.”

Sony Music’s Most Favored Nation clause is the most intriguing piece of its contract with Spotify. Section 13 essentially makes every major aspect of the contract amendable if any other label has a better deal or interpretation of that aspect than Sony Music. Section 13(2) lists the provisions which can be amended in Sony Music’s contract if a better deal is obtained by another music label, including what constitutes an “active user,” the definition of gross revenue, and any improved security provisions. Sony Music can call on an independent auditor once a year to determine whether Spotify has struck a more agreeable deal with any other labels.

Having an MFN clause in a contract is standard for music licensing contracts, according to multiple sources. MFNs have garnered scrutiny in the past, and as part of its merger with EMI in 2012, Universal Music Group had to stop using the clauses in Europe for 10 years. But they remain legal in the US.

Where the MFN clause truly comes in handy for Sony Music is when it’s used in conjunction with section 5, the “annual true-up of advances” clause. This clause makes sure Sony Music’s yearly advances from Spotify are on par with the best deal negotiated by any other label based on the percentage of market share. That means if another music label is getting paid $1 million by Spotify for each percentage of market share it has, and Sony Music is getting $600,000 per market share percentage, Spotify must pay Sony Music the $400,000 difference — known as the adjusted contract period advance — at the end of each contract year.

Read the whole contract here:
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Source: The Verge