Blockchain Promise for Music Industry (Industry Background)

What will blockchain enable in the long term?

From my subjective point of view, blockchain has the potential to re-imagine many industries in the same way that the Internet has been reshaping almost every industry for the past 25 years. Today, we are on day #1 of the blockchain paradigm shift. Adoption is almost non-existent.

In my view, it’s likely that we are living through the same tech adoption phase as Internet adoption circa the early 1990s. Future mainstream use cases are hard to predict, just as nobody in the early 1990s assumed that broadband would become cheap enough to enable movie streaming, a.k.a., Netflix. Despite the uncertainties, I want to walk through a number of industries which could be re-imagined with the blockchain long term.

This blog post will cover music industry dynamics, and what we might see emerging with blockchain. To keep the article relatively short, I embedded multiple links that provide much more detailed industry background.

Blog Post Summary:

Music industry over time evolved into an industry that has a middleman in music label, with three players earning the majority of revenue: UMG, Sony Music, WMG. Music Labels make astonishing ~$800,000 per employee in revenue, while musicians are making on average below $40,000 per year.

Music labels historically covered two functions: music production and distribution. The cost of music production and distribution decreased significantly over time, while the music discovery became the most challenging hurdle for musicians wanting to build the listener audience.

Digital music distributors, such as Napster, iTunes, Pandora, and Spotify over time offered new ways to distribute and discover music, slowly transitioning the power away from labels to music distributors, although with limited success.

Blockchain technology can enable several advantages, for both music listeners and musicians.

Music listeners will use blockchain to store digital rights to music and thus have the ability to port their owned content to various service providers (i.e. Spotify, Amazon, etc.). Because music song licenses will be stored in an immutable public ledger, it will become possible to exercise end-user rights, i.e. listen to owned music across platforms.

Musicians will be able to raise funds directly from early listeners by giving out song tokens in exchange for fiat money, thus bypassing music label. In addition to capital, it will create incentives for bootstrapping early audience. Since the supply of song tokens will be limited, early token holders will be interested in spreading the word about the band. Tokenization will create market liquidity which is beneficial for creators and supporters and shifts the value away from the current middleman.

Now, let’s dive into this in more detail.

The rise of the middleman

Over time, the music industry has consolidated power around organizations providing funding, publishing, and network for musicians: music labels. We will skip going into many aspects of the music industry history, and use this section to show how music distributors paid various royalties to music labels relative to how much power music labels had throughout the various eras.

In the 1930s, the music labels didn’t have enough centralized power to exert influence, and the music distributors of that era (terrestrial radio) didn’t need to pay royalties to the music label. They only needed to pay royalties to musicians and writers instead. In other words, the music industry had a fairly decentralized value chain.

The 1970s and 1980s saw the creation of six major record labels, known as the Big Six: Warner Music, EMI, Sony Music, BMG, Universal, and Polygram.

As a result, by the 1990s, when satellite radio became a mainstream way to distribute music, the royalties required to be paid out included the royalties to publishers, in addition to royalties to writers and musicians. SiriusXM pays something around 15.5% of its revenue in royalties (source). In contrast to 1930, music labels started to consolidate power, and, as a result, started to collect large payouts.

To further exacerbate the situation, the music label industry saw further consolidation: Polygram merged with Universal, Sony merged with BMG, leading to a situation where the majority of the power is controlled by three major corporate labels: the French-owned Universal Music Group, the Japanese-owned Sony Music Entertainment, and the US-owned Warner Music Group (revenue data).

Fast forward to 2000, the year Pandora started. As a consequence of power organized essentially in three hands (UMG, Sony Music, WMG), Pandora was required to pay different kinds of royalties, vastly different from terrestrial radio broadcasters and from satellite radio.

Digital Performance Right in Sound Recordings Act (DPRA) was enacted by Congress in 1996 and later appended by the Digital Millennium Copyright Act (DMCA) in 1998. It included new categories of licensees, which then led to a new entrant, such as Pandora, to comply under a completely different set of royalties. As a result, Pandora was forced to pay for streams on “pay-for-play” basis, which is eating up to 50% of Pandora revenue. As a result, Pandora became a poster child for music business fight over royalties (more on this here).

In conclusion, we observed the ways the royalty payouts changed due to relative power dynamics of the industry in every era: relatively distributed model with terrestrial radios in the 1930s, more centralized payout model with satellite radio in 1990s, and completely centralized value chain in which Pandora operated.

Music industry value chain fairness is covered in a lot more detail here.

Economics of Major Label & Musician’s Options

Now that we’ve briefly covered the industry evolution through the prism of royalty payouts to music labels, let’s take a look at one of the major labels, Warner Music.

Warner Music made ~$3.6 billion in revenue in 2017 and employed ~4,500 people in its organization. That’s on average ~$800,000 in revenue per employee. For comparison, Warner Music’s revenue per employee is 16x higher than McDonald’s revenue per employee (source).

On other hand, musicians on average make $39,328 per year (data). As a musician, you can work with a major label, work with independent labels, or go DIY.

Under the major label model, you will significantly reduce your fraction of payouts, but at the same time de-risk your success by outsourcing the high-quality production and distribution (network) to a reputable label. You will get money for video production, studio recording, and touring support, in addition to an up-front cash advance.

By going with indie label, you will get a smaller cash infusion, and the music distribution might end up being outsourced to larger labels since indies don’t have as much staff working for them.

As DIY musician, you will hope to build an organic music base via using social media, Spotify and YouTube. There are also emerging services, such as Bandcamp and Patreon. You can post your recording on Spotify, and Spotify will pay you anywhere from $0.006 to $0.0084 per stream (data). That’s $6 for every thousand listens, or $6,000 for every million listens.

Decreasing Music Production Cost & Challenges of Music Discovery

Over the years, the cost of music production decreased significantly: you can record an album with just $10,000, even though it took ~$2M to record albums, such as Rolling Stones’s “Exile on Main Street” some 40 years ago (data).

Prior to digital music and digital content purchasing, the choice was limited by shelf space, whereas Internet expanded the choice, thus making the discovery of music a challenge.

In this regard, digital content presents challenges for the musician looking to get discovered. On one hand, you can use essentially free global distribution. On another hand, so can everyone else, making it close to impossible to be uncovered.

As a musician now, you need to get exposure via ads and concert tours. Through these two types of exposures, you will get discovered and build followers in the long term. The problem is that both approaches aren’t sustainable. Ads aren’t cheap with Google and Facebook controlling the publishing business. Touring across the country has its own middleman since Ticketmaster merged with LiveNation with a combined entity representing a choke point on live music space (more on this here).

In conclusion, even though the cost of music production went down substantially, music discovery presents many challenges in a world of abundant content. As a result, it becomes extremely hard for a musician to stand out and sustain their living as a musician.

Digital Music Distribution Models

Napster was a first striking example of being able to download music in a peer-to-peer manner and discover music via the platform. Some 80M users were blocked from using it as a result of music publishing industry shutting down the website (source).

iTunes was born out of Napster’s ashes when Steve Jobs saw the demand for music downloads (more on backstory is written here). iTunes was able to unbundle the CD concept, allowing consumers to purchase a single song for 99 cents. Music labels at the time needed to counteract the problem of piracy of downloaded music, and iTunes presented a way to legalize some of the downloads.

Then the consumer trend evolved from digital content downloads into streaming. In 2008, Spotify launched and focused on an emerging trend: the ability to stream music instead of downloading it. Spotify was forced to pay much higher royalties than even mentioned above Pandora, but new consumer behavior (streaming) took off.

Spotify has its own long-term challenges. Without building original content, Spotify is merely passing through content and giving large royalties (~70%) to content publishers. In order to move the power away from music labels, Spotify needed to do what Netflix did, aggressively move into original content, to be able to dictate the terms when it comes to sitting down at the negotiation table with labels. It’s an open question whether the power will shift to music distributor, or whether the value will continue flowing to owners of the music catalog.

Additionally, a consortium of digital music (YouTube, Apple, Spotify) distributors is also proposing new blanketed licenses which might change the power dynamics a bit, but this is out of the scope of the current article. More detail can be found here.

Blockchain As a Tool for Capital Formation and Incentive for Music Distribution

The introduction of tokens can change the existing model. The middleman could be decentralized by using token incentives. There are multiple ways for how tokens can be used for that.

The role of capital formation will be replaced from a music label to music listeners. The general idea is to get access to liquidity pools from selling tokens, thus replacing the music label with music fans as the main source of capital for the band.

The music will still have a fiat price associated with songs, but the bands will be able to exchange limited supply of song tokens to early listener base, who now will be incentivized to spread the word about the music.

Similar to how Spotify used the capital to purchase content to bootstrap marketplace, crypto incentives will draw people and allow for new content creation. Over time, more users will switch to distributed platforms giving it more leverage, weakening the original middleman.

Blockchain as a System of Record for Digital Rights Management

From the listener perspective, the powerful use case for blockchain is to use an immutable distributed ledger to keep the records of ownership. This will allow end users to use services like Amazon Music, iTunes, and Spotify interchangeably because now you will be able to verify ownership of the music asset without needing to keep it on a single platform.

In effect, there is an opportunity for Napster 2.0: fully legal this time. We will cover this use case in detail in the next blog post on the music industry.

Early Startup Examples

There are a number of early startups tackling the space from various angles.

For instance, Tune Token and Ujo Music focus on digital songwriter rights and royalty transparency, while SingularDTV focuses on music peer-to-peer fundraising and decentralized distribution. Finally, Vibrate focuses squarely on music discovery.

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