This week: Music streaming business gets funky

Music subscription service Spotify last week hired Goldman Sachs to help it raise around $500 million at a valuation in the neighborhood of $7 billion. Private market analysts currently value the company at around $6 billion.

iphone-artistThe new fund raising round likely pushes back any plans the company had for an IPO, no doubt disappointing some investors. But it buys the company some time before it has to focus on IPO prep as it gets ready to face its first real competition. According to a report by the usually well-sourced 9to5Mac, Apple is gearing up to relaunch a Beats-branded music streaming service this summer.

Rather than simply dropping a Beats app onto Apple devices, the report says Apple has been working on a deep integration of Beats technology and functionality into iOS, iTunes and Apple TV:

Based heavily upon cloud streaming, Apple’s new service is centered around the user’s music library. A new search feature will be able to locate any song in the iTunes/Beats catalog, and users will be able to stream music from the catalog as well as add songs to their personal libraries. Users will be able to select specific tracks to store on their iOS devices and/or computers, or keep all songs solely in the cloud. Apple will also deeply integrate Beats Music’s Playlists, Activities, and Mixes features into the new service, letting users access a vast array of pre-made, human-curated playlists to fit various activities. Surprisingly, Apple is likely to also update Beats’ social networking features, allowing people to follow other users and artists as they did with the failed Ping social music network.

In other words, Apple is looking to make Beats the native streaming application within iTunes and iOS allowing users to managing their music downloading, streaming, play-listing, sharing and playback from within a single application, leaving little need for any other app. As I predicted at the time of the Beats acquisition, Apple is also developing an Android version of the service under the Beats brand, marking the first time Apple will offer an Android application fully developed in-house and reflecting the scale of its ambition for the new Beats.

Apple also seems, uncharacteristically, prepared to compete with Spotify on price, pushing the record labels to let it offer the service for $7.99 a month.

The new competition comes as Spotify faces growing pressure from the three major record groups, which collectively own about 15% of the company, to better monetize its user base. Spotify has about 60 million active monthly users worldwide, but only 15 million of those are paid subscribers. The rest listen free, with ads, which generates far lower revenue for the service and for the labels.

Spotify, which pays out about 70% of its revenue in royalties, says it generated $842 million in revenue in 2013 and had a net loss of $65 million. The company hasn’t released data on 2014, yet, but analysts estimate its revenue for the year at $1.3 billion, although it’s still expected to see a loss. New competition from Apple certainly won’t help its 2015.

While Spotify looks to raise its valuation with the new funding round, internet radio service Pandora lost nearly 20% of its market value this week after it posted fourth-quarter financial results that came in well below analysts expectations and offered lowered guidance for 2015. Unlike Spotify, Pandora generates nearly all of its revenue from advertising. It ended last year with 81.5 million active monthly listeners, of which fewer than 4 million pay the $4.99 a month fee to listen ad-free.

As much as Spotify and Pandora have struggled to reach profitability, both companies could be facing another major wild card in coming months. This week, the U.S. Copyright Office issued a 240-page report calling for major changes to how music is licensed for commercial use in the U.S.

Among the reports recommendations: modification of the 75-year old consent decrees governing the collective licensing of public performance rights for musical works. Specifically, the Copyright Office recommends allowing music publishers to withdraw digital performance rights for their catalogs from the blanket licenses offered by ASCAP and BMI to put publishers and songwriters on equally footing with the record labels in negotiation with music streaming services.

Currently, record companies are able to negotiate performance royalties for sound recordings directly with each commercial user. Under the prevailing consent decrees, however, ASCAP and BMI, which represent publishers’ interest in the underlying musical works, are required to make their entire catalog of works available to any licensee at a fixed royalty rate. Under the Copyright Office’s proposal, publishers would be able withhold digital rights from those blanket licenses and negotiate royalty rates directly with streaming services. The result would almost certainly be higher royalty costs for Spotify and Pandora.

Those consent decrees are currently under review by the Justice Department, although it’s unclear whether or when it might suggest changes. Unlike most of the other proposals in the Copyright Office report, however, which would require action by Congress to be implemented, changes to the consent decrees could be implemented by the Justice Department with approval by the court — in other words, much more quickly.

The Copyright Office also recommended federalizing copyrights in pre-1972 sound recordings, which are currently governed by a patchwork of state laws. Given their current ambiguous status under federal copyright law, streaming services have been able to use those recordings without paying royalties to the labels or performances. Federalizing those rights could also result in higher royalty payments for streaming services.

All in all, quite a week in the music streaming business. But we’re probably just getting started.