New rate increases could make service unprofitable, put America's largest music retailer out of business

The music industry is a complex business.  At its head are the major labels, which control the distribution of the most popular tunes online and off.  Their never-ending hunger for a bigger slice of the revenue pie has taken many forms, from representative organization RIAA's ceaseless lawsuits, to the labels' demand of increased royalties.

The labels' dreams may come true when the Copyright Royalties Board (CRB) meets today.  The CRB is the U.S. judicial entity which was created by the Copyright Royalty and Distribution Reform Act of 2004 and governs everything from webcaster fees to the cuts labels receive on online music track sales.  The CRB already has gained a controversial reputation for enacting rate increases which may put small webcasters out of business.

Now as the CRB reconvenes to possibly enact increases to online track royalties, a threat from Apple has emerged -- raise rates, and Apple may pull the plug on iTunes.

In the recently released testimony by Apple vice president Eddy Cue to the Board at the Library of Congress in April 2007, Mr. Cue tersely stated, "If iTS (iTunes Store) were forced to absorb any increase in the mechanical royalty rates, the result would be to significantly increase the likelihood of the store operating at a financial loss - which is no alternative at all.  Apple has repeatedly made clear that it is in this business to make money, and would most likely not continue to operate iTS if it were no longer possible to do so profitably."

The news that Apple would consider shutting down iTunes upon a rate increase is a shocking one for the business world.  ITunes is currently the largest music retailer in the U.S. and its death would leave a major gap in the music business and likely sink sales in the short term.

If the major labels get their way, and Apple loses, the CRB will pass a 66 percent royalty increase, which will tack on an additional 9 to 15 cents per track.  The higher rate would have to paid by Apple, the record company, or the consumer.  Apple is unwilling to raise its 99 cent track price, nor is it willing to take a loss itself.  And the record labels, suffering from 20 percent lower cd sales in 2007, are likely equally unwilling to swallow the loss.

The National Music Publishers' Association, however, argues that the royalty increase will help everyone and will not hurt online music growth.  David Israelite, president of the NMPA, the organization which is requesting the increase, stated, "I think we established a case for an increase in the royalties.  Apple may want to sell songs cheaply to sell iPods. We don't make a penny on the sale of an iPod."

The Recording Industry Association of America, who works closely with the NMPA cited that digital sales rose 46% last year to $1.2B USD.

Apple already pays approximately 70 percent of its track revenue to music labels.  The meeting today will likely change that rate, and will stay in effect for five years.  The Digital Media Association, which represents Apple, RealNetworks, and other online music retailers has asked the Board to pass lower rate increases of around 4.8 cents a track.

CNET's Greg Sandoval commented on the document's curiously timed appearance on the eve of  the rate increase decision, stating, "When it comes down to mass appeal, Apple holds all the cards. If word gets out that music publishers are trying to stick it to consumers, and Apple is fighting to keep prices down on their behalf, well, there's liable to be public backlash against the labels. If this thing follows the normal course, there would be calls for boycotts, protests and so on."

Apple current controls 85 percent of the online music market and is set to sell 2.4 billion tracks this year, according to Piper Jaffray.  With the current pro-copyright holder sentiment among many in the U.S. government, it certainly seems possible that the NMPA will get its desired rate increases -- but at what cost?

"A lot of people pay zero for the cellphone ... That's what it's worth." -- Apple Chief Operating Officer Timothy Cook

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