The International Federation of Phonographic Industry (IFPI) this week released its biannual Investing in Music report and the numbers raised quite a few eyebrows. According to the report, record labels worldwide invested U.S. $4.5 billion last year in A&R ($2.8 billion) and marketing, ($1.7 billion), representing 27 percent of their total revenue, more than the pharmaceutical, aerospace, or technology industry spends on R&D in percentage terms.
That represents an increase of 12 percent and 6 percent, respectively, over 2013.
Particularly eye-opening was the report’s claim that it costs a label anywhere from $500,00 to $2 million to “break” a new artist in a major market like the U.S. or U.K., factoring in the “upfront” costs of artist advances, recording, music video production, tour support, and marketing and promotion.
The report is clearly meant to bolster the case for the continued relevance of traditional record companies amid the simmering industry debate over whether artists still need a label deal, given the availability of cheap, DIY recording technology and the myriad independent distributors, aggregators, marketers and other service providers offering to help artists bring their music to market.
“Virtually every artist who reaches the charts has partnered with a record company,” the report insists. “They do so by choice, in a landscape that offers artists more ways to release their music than ever before. They choose this route for good reason: to gain the experience, expertise and significant investment that a record deal brings.”
But an equally urgent question, not addressed in the report, is whether all that investment is the best use of capital by the labels.
The music industry today is becoming nearly an all-digital affair, as sales of physical merchandise their slide toward rounding-error territory. More important, it’s an increasingly licensing-based, rather than sales-driven business, as sales of digital downloads follow the downward trajectory of physical sales.
That fact, more than any alleged “value-grab” by digital service providers (DSPs), is responsible for most of the decline in artists’ earnings from their recordings, given the disparate royalty treatment of sales and performance-licensing. But it has also brought a fundamental change to the record labels’ business model, which has changed — or at least ought to have changed — their investment posture.
A typical licensing deal between a label and a streaming service like Spotify and Apple Music, covers everything, or nearly everything in the label’s vault, which in the case of a major can run into the tens of millions of recordings. Quite unlike the CD and LP business of old, however, which was dominated by new releases, the streaming business is heavily weighted toward what could be classified as catalog product.
The label gets paid whether a user streams a new release or a golden oldie. But whatever A&R and initial marketing costs were sunk into the golden oldie are likely to have been recouped or written down long ago, if the label even incurred them in the first place.
As former SuveryMonkey founder, the late David Goldberg, noted in a memo to Sony Entertainment CEO Michael Linton released as part of the cache of leaked documents from the massive Sony hack of 2013, that makes licensing catalog product vastly more profitable for the label than licensing new release product:
Catalog provides 50% of the revenue and 200% of the profits of recorded music. This has generally been the case for the other recorded music companies when the analysis was correctly done. The correct analysis requires including reissues, live albums, greatest hits releases in catalog…In addition, streaming revenues tend to be more heavily weighted to catalog. Pandora and Spotify are probably 65% catalog under this definition. Licensing and synch revenue are mostly catalog as well. Therefore, if Sony Recorded Music (ex-Japan) is doing $250MM in EBITDA today, catalog is probably generating approximately $500 MM and the new release business, which is 98% of the headcount, is losing $250MM per year.
Another factor weighing against the return on A&R spending is changing musical tastes. Some of the most popular music being made today is electronic dance music (EDM) mixed by DJs, which is entirely derivative, and tracks that rely heavily on sampling, which are partly derivative. DJ mixes don’t need producers or fancy studios, and traditional A&R work is largely irrelevant to the EDM genre.
Much of that music, in fact, falls outside the label system altogether, given the difficulties of licensing mixes that might include 100 or more individual tracks.
Moreover, record labels no longer have the A&R field to themselves. Streaming services themselves have begun to edge their way into releasing original recordings, such as Spotify’s new Singles series.
Traditional A&R work produced returns by producing hit records and developing acts with legs. Hit records and popular acts not only paid for a lot of misses, but they gave a label leverage with retail and radio that could help sell still more records.
Hit records by popular artists are still important to maintaining the overall vibrancy of the business. But they’re no longer as instrumental to a label’s revenue as they once were. Today a streaming service’s ARPU has as much impact on a label’s bottom line as the number of records it has in the charts at any given moment.
The industry has continued to evolve since Goldberg wrote his memo. It is no longer in free fall, and according to the RIAA’s 2016 mid-year report has begun to grow again. But the dynamics of the streaming business, the rise of remix culture, and the proliferation of alternative avenues to market have simply left less room for the traditional label A&R function to have an impact in the market. That doesn’t mean artists can’t benefit from having a label deal. But whether the labels benefit equally from that $4.5 billion spent on A&R and marketing is another question.