Walter McDonough is an entertainment/intellectual law attorney practicing in Boston, MA. This is part two of a continuing discussion with Walter about the legal and legislative maneuvering that’s underway surrounding digital download technology. Walter is also one of four founding members of the Future of Music Coalition, a lobby group that represents the interests of independent bands and labels in the digital age.

J = Jenny Toomey
W = Walter McDonough

J: Okay, tell me what specific legislation concerns you most?

W: Well, over the course of this year, the Congress together with the Copyright Tribunal is going to have to reexamine the Digital Millennium Copyright Act of 1998, or the DMCA. More specifically there is going to have to be some sort of rule-making as to what you actually have to pay in order to stream or digitally download music on the net. I think what is happening now is that ASCAP, SESAC, BMI and the major labels (through the RIAA) basically have decided to contract directly with the Internet companies to decide what the rates will be without waiting until the government makes its determination.

J: Give me an example of this because that has been happening this very week.

W: Right, well there are a couple of examples. The best one is what happened with MP3.com and Warner Brothers/BMG. Actually, I have it here… according to Digital Music Weekly, it’s going to cost MP3.com one and a half cents per song that they store on the MyPlay system and one third cent royalty each time someone streams a song.

I think when those kinds of rates get talked about it kind of puts things in perspective because, traditionally, mechanical royalties are seven and a half cents. Theoretically that’s what songwriters get paid every time a record is sold. So obviously there’s a significant difference between a seven and a half cent mechanical royalty and a third of a cent digital performance royalty. Obviously the very fact that there is such a substantial difference means something. I mean, artists would have to do a much larger volume of downloads in order to generate the same amount of profits that they would selling CDs.

Furthermore, right now those numbers are not ones that are being determined by the government as a uniform or universal formula. It’s something that has been agreed to contractually.

J: So basically, to make it very clear, the Copyright Tribunal in conjunction with Congress will be attempting to come up with a basic universal amount that digital download sites will have to pay to store or stream tracks. In the meantime, however, MP3.com and Time/Warner BMG have reached an independent contractual settlement. Instead of waiting for the Congressional royalty standard amounts to come through these companies are contracting directly with MP3.com in order to get paid right now.

W: Yeah.

J: And this is the settlement from the lawsuit?

W: Yeah, this is part of the settlement for the lawsuit. Maybe a better example is the way that BMI, SESAC and ASCAP make licenses with webcasters. I mean, some of the formulas they use, for example, suggest that licensees would pay for tracks by the number of page views they have or by the amount of ad revenue dollars generated by the licensee’s site. The RIAA has at one time or another even alluded to the fact that they may consider a strategy where they take a whole percentage of the gross revenues of somebody’s website. Yet when you look at the copyright code it doesn’t say anything about anyone’s right to take the gross revenue of a site.

Now I understand where that argument comes from legally because in the past there have been cases where, I believe, ASCAP has successfully sued people and judges have determined in damages that the defendant should pay a gross percentage of all their income as a penalty. But when you look to the actual history of the copyright law in the United States, it’s usually much different. There are usually standard determinations like, for example, the case of mechanical royalties, where a certain number amount is agreed to as the standard compensation per song per sale.

So my concern is that until the Copyright Tribunal has a rule-making proceeding and until Congress makes a law, the performing rights societies (BMI, ASCAP and SESAC), publishers and the RIAA are going to force internet companies like MP3.com to do this contractually. Unfortunately I believe they are going to err on the side of setting the rates as high as possible and I don’t think that’s good for the competitive development of these Internet business models.

I think there has to be some sort of acknowledgement that there’s a leverage problem here. Just look at what the webcasters have versus the incredible power of the big multinational corporations that own the copyrights. This isn’t a fair fight. Plus we also have to wonder if the independent record labels and the musicians have any kind of leverage at all to participate in the discussion.

J: Now that’s the next question that I wanted to ask you. Has there been any information released regarding the agreement between MP3.com and Time/Warner & BMG that assures us that these monies are going to be distributed amongst the artists and, if so, how?

W: Warner Brothers made a very obtuse statement that said something to the effect that the artists would be paid some sort of pro-rata money based upon their individual contracts. The problem with that is this: what happens if some artist signed a contract in 1991 or before there was any sort of understanding of what the web would bring? In the notion of fairness, it’s very difficult to try to distribute big pools of money through the operation of contracts that never foresaw that you would have these sorts of revenues in the first place.

J: Now, can you explain that very clearly. What, for example, is a “Blanket License” and what would be in these contracts that would disqualify certain musicians from participating in receiving revenues that were generated by their downloaded music?

W: Well, there are all different sorts of record contracts with all different sorts of languages. Some contracts do contain language that says that any sort of blanket licensing revenue that comes in goes to the label.

J: Now explain what a blanket license is.

W: It’s one of the more arcane aspects of a contract. A blanket license is a license where you pay someone a fixed amount of money for a fixed amount of music but you have all sorts of uses from it. It’s weird. If you give a record company a sum of money to play music from that label, in a lot of contracts that blanket license does not accrue to the artist at all, it only accrues to the label. This is very obtuse, arcane stuff but a lot of it has to do with the fact that in Europe, for example, if you perform a record publicly, the record label gets paid, whereas in the United States, that’s not the case. So I think a lot of times these licenses are an attempt to have all of that money that would have come in from the public performance of these records go directly to the labels and not to the artists. So I think that’s one of the reasons why those licenses are in contracts.

There are other reasons as well but you see this type of clause was something that really was on the margin and was a very unimportant thing. Lawyers didn’t see the need to fight over it and it became standard contract language but it was put into contracts at a time before people envisioned that Congress would create a new right called the “digital performance right to master recordings”. I mean, no one foresaw this change and, consequently, they agreed to things that now penalize the artist retroactively.

This isn’t a practice that’s uniform to the industry but it has been the practice at some labels, so not every artist has these clauses in their contracts. But there is the potential here that due to the digital performance right revision some artists who have blanket licenses could theoretically not receive a dime from downloaded music. In fact, Larry Kenswell at Universal made the remark that if this language exists in their contracts then their artists won’t get paid.

J: Or more specifically he said their right to payment wouldn’t be a legislative question, it would be a contractual question which means these artists may have had the right to get paid through this new legislation but they have signed away those rights in their contracts.

W: Right, well after Kenswell said that, Hillary Rosen of the RIAA retracted his remark the next day. So it’s really important that people pay attention to what is happening around these issues.

I mean, the worse case scenario is that for a long time to come the performing rights societies and the RIAA will try to get Internet companies to contractually enter into individual agreements rather than waiting for standardized royalty legislation.

J: Everybody’s working out separate deals.

W: Right, so if I am a multinational corporation or a huge Internet company my leverage in these negotiations is going to be very different than if I am a small label or a start up. So we really need to have as much standardization as possible, not just for the musicians but to make sure we don’t stunt the growth of the net. I also think that one the biggest problems is the fact that individual Congress members are not yet well informed on the issue.

J: Yeah, that was very clear to me at the testimony before the Small Business Committee (see our report of the hearings here). I’m very happy to see Congress taking an interest in these issues but I was amazed to watch the testimony begin with a demonstration of digital downloading and then to realize that for several of the members of the Small Business Committee this was the first time they’d seen a music file downloaded. I was even more frightened an hour later when I these same congressmen and women began to ask the witnesses what sorts of legislation they suggested be enacted. Which is terrifying. Luckily all the witnesses said, “No, don’t enact new legislation…use the laws that are on the books already until you figure out what’s going on.”

W: Well, there are a couple of things that are very interesting about this whole process. One is the fact that it doesn’t seem to be an issue that breaks along party lines. It also doesn’t seem to be dividing along ideological lines either. It really strikes me, from what I’ve observed, and from having conversations with people who work with the staff members in Congress is that some of the more pro-artist and pro-technology people are turning out to be conservative Republicans, and that surprises me. I suppose that’s my own personal bias but Orrin Hatch (R-UT) and Mary Bono (R-CA) are turning out to be two of the strongest supporters of artists in Congress.

As you look at this whole issue it’s going to be heard by a number of different committees all focusing on different aspects of the problem. Anyway it’s just good to know that we have people on both sides looking at the big picture and that it’s not going to be a fight that’s Democrat versus Republican.

The other thing that’s very interesting and encouraging is the fact that the Copyright Office of the Department of Commerce has requested written statements and feedback from people about the Digital Millennium Copyright Act. So there is an attempt now to look backwards and say, “Okay, now was the DMCA the right thing to do?”

Several of the professors at The Berkman Center including Charles Nesson, one of the great legal minds in our country, have pointed out that there are rights embedded in the DMCA that no one even knew were there. Some of them are coming out right now in the Universal case against some of the DVD people. So I think it’s very encouraging that Congress is soliciting comments on the DMCA so this thing can become more finely tuned to the real world and not just be something that is going to give massive power to copyright holders.

Not that I have anything against guarding the rights of copyright holders, but this legislation should not be too one sided. Hopefully opening up the discussion will lead to further awareness on the part of the political people in Washington. Then when it comes time to have a rulemaking procedure to establish rates there is going to be a greater understanding of what these issues are and who the players are and who the stakeholders are. Hopefully they will understand that this is a big picture with a lot of people in it and it’s not just the copyright holders on one side and everybody else on the other.

J: With that in mind can you discuss some of the things you plan to be doing as a board member of the Future of Music Coalition and where you plan to concentrate your efforts?

W: Well first I’m going to write a protest song and it’s going to be a kinda’ Phil Ochs thing… No, actually I want to concentrate on Brian Zisk’s suggestion that we submit DMCA comments. After that I think that it’s going to be important for us to contact the Library of Congress Copyright Tribunal in order to get a clarification of the last eight years of rulemaking with regards to the Audio Home Recording Act of 1992. In many ways that act sort of preceded a lot of this talk about the Internet, and as a citizen and a concerned group of individuals we need to ask for a clarification of the rulemaking procedures. We need to understand who the players were and how they came up with certain determinations. What formulas were put in place to pay people particularly in the AHRA and why?

Some people have suggested that the AHRA will be a model for how digital download royalties will be collected and distributed in the future. If that’s going to be the model we should be clear we understand how it breaks down and how well it functions. I think the more everyone knows about how these things work the better off we all will be. Particularly if the government is out there collecting money.

J: Well let’s talk about that a little bit. One of the things that I would like our organization to focus on is the fact that as a group we don’t believe that the RIAA should be in a position to collect and distribute revenues generated through digital downloads. We feel that there is a clear conflict of interest demonstrated by their recent support of the “work for hire” legislation and, furthermore, they do not represent the copyrights of the majority of independent musicians. Can you explain a little bit about the AHRA precedent?

W: Absolutely. The AHRA was created in response to concerns generated around the development of DAT technology and its ability to reproduce perfect copies. I believe it is a 2 percent tax that goes onto all the DAT machines sales and that tax is collected into a pool and then people can apply to the fund for money.

Obviously there is a formula in there about how the money is distributed, but what’s happened is — and again, nobody is talking about this stuff — but one of the great concepts of the music industry is “the black box”. The black box pretty much describes what goes on in Europe where the government collects all the copyright money and artists and labels then have to apply directly to the government for that money. At the end of the year if the artists and labels haven’t applied for your money it then it goes into the black box and that money is redistributed to everybody who applied for the money on a percentage basis. So basically if you don’t apply for the money somebody else gets it, and that’s what I’m afraid is going on here because the AHRA money is becoming the black box of America because not everyone who is eligible is applying for it.

You may have some guy who has a very successful polka label in Detroit and let’s say he sells 30-40,000 records that never get SoundScanned because they are getting sold at gigs or they don’t have barcodes or whatever. Well, theoretically, this guy should be getting his percentage but he’s not applying for it because he doesn’t know about it or because if the AHRA is using SoundScan as the measure then there is no way to measure his sales. In effect this has become a “black box”.

I think there is potential for the same thing to develop on the Internet if they have a similar type of formula where the use SoundScan or some other flawed formula to determine which artists should be paid for downloads and how much. That could be a problem. So we need to communicate with the Copyright Office and the Library of Congress in order to make sure that we understand what the formulas have been and what the rulemaking has been so we can better inform musicians as to how they can participate. This way we can generate public discourse and we can have a better sense that the people who should get paid the money will get paid the money and when they have new rulemaking in the future to determine how these monies will be paid out we can learn from the mistakes of the past and make a better system for the future.

More About Walter McDonough

J: What made you decide to join the Future of Music Coalition?

W: Well, I’m really concerned about how royalties are going to be paid on the web. Not just in terms of what the webcasters or people who distribute the music are going to have to pay, but also how the artists are going to be compensated out of those monies, because it’s a two-way street.

Right now it’s unclear whether or not a lot of the revenue that’s being received by the major record labels is actually going to find their way to the artists. Whether we are talking about money from the MP3.com settlement or from any sort of prospective licensing on the net, we need to be sure that the artists are going to be compensated. That’s problem number one.

I think problem number two concerns how the independent labels are going to be represented and compensated as well. That’s very important.

Then on the other side I think it’s very important that there is a fair royalty system put into place. I worry that if these fees become exorbitant, and apparently one can make the argument that the royalties that MP3.com decided to pay in the last few days are exorbitant, well then that could definitely slow down the growth of digital music in general. So that concerns me as well, because if royalties or licensing fees become so expensive that it’s practically a tariff, obviously it will slow down economic activity and it’s going to stop the growth of music on the net. I don’t think that’s in anybody’s interest.

Of course I think there are other questions factoring into this as well. For example, are there models out there besides Gnutella or Napster that are not only taking care of the consumer needs but ones that will make sure the artist is going to get paid?

On one hand you have the Napster people and the copyright minimalists, and on other hand you have the RIAA and the copyright maximalists, but in the middle you have a whole lot of other people who are not on the record. To me that’s the majority of the people — the webcasters, the independent musicians, the indie labels, the independent publishers, the entrepreneurial class and the creative class — and they are not being heard at all in this debate and it’s just unfortunate. There has to be some attempt to raise consciousness about their concerns because these are the people who either create the art or create the websites to distribute it and they should be heard.