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Royalties
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Royalties (sometimes, running royalties) are usage-based payments made by one party (the "licensee") to another (the "licensor") for ongoing use of an asset, sometimes an intellectual property (IP) right.
Royalties can be determined as a percentage of gross or net sales derived from use of the asset or a fixed price per unit sold. but there are also other modes and metrics of compensation. A royalty interest is the right to collect a stream of future royalty payments, often used in the oil industry and music industry to describe a percentage ownership of future production or revenues from a given leasehold, which may be divested from the original owner of the asset.
License agreements A license agreement defines the terms under which a resource or property such as petroleum, minerals, patents, trademarks, and copyrights are licensed by one party to another, either without restriction or subject to a limitation on term, business or geographic territory, type of product, etc. License agreements can be regulated, particularly where a government is the resource owner, or they can be private contracts that follow a general structure. However, certain types of franchise agreements have comparable provisions.
Non-renewable resource royalties The owner of petroleum and mineral resources may licence a party to extract those resources, paying a resource rent, or a royalty on the value or the resultant profits. Where a government is the owner of the resource the terms of the licence and the royalty rate are typically legislated or regulated. An example from Canada's North is the federal frontier lands petroleum royalty regime. The royalty rate is determined as an incremental rate from 1-5% of gross revenues until costs have been recovered, at which point the royalty rate increases to 30% of net revenues or 5% of gross revenues. In this manner risks and profits are shared between the Government of Canada as resource owner and the petroleum developer. This attractive royalty rate is intended to encourage oil and gas exploration in the remote Canadian frontier lands where costs and risks are higher than other locations.
Patent royalties A patent gives the owner an exclusive right to prevent others from practicing the patented technology in the country issuing the patent for the term of the patent. The right may be enforced in a lawsuit for monetary damages or to prohibit use of the patent. In a patent license, royalties are paid to the patent owner in exchange for a license to practice one or more of the four basic patent rights: to manufacture, use, sale, or advertise for sale, a patented technology.
Patent rights may be divided and licensed out in various ways, on an exclusive or nonexclusive basis. The license may be subject to limitations as to time or territory. A license may encompass an entire technology or it may involve a mere component or improvement on a technology. In the United States, "reasonable" royalties may be imposed, both after-the-fact and prospectively, by a court as a remedy for infringement.
Know-how royaltiesIn addition to licensing the applicable patents, a company may need to learn how to manufacture a product. This knowledge, standing alone or together with a patent license, may be obtained through a know-how license. Know-how is trade secret information in combination with data, techniques, or human and intellectual expertise, that helps a company exploit a licensed technology. Know-how may help a company achieve better operational efficiency, manufacturing productivity, or product/system quality. Know-how royalties may be stated as distinct from patent royalties since their periods of validity vary. The rates vary widely.
Trademark royaltiesTrademarks are words, logos, slogans, sounds, or other distinctive expressions that distinguish the source, origin, or sponsorship of a good or service (in which they are generally known as service marks). Trademarks offer the public a means of identifying and assuring themselves of the quality of the good or service. They may bring consumers a sense of security, integrity, belonging, and a variety of intangible appeals. The value that inures to a trademark in terms of public recognition and acceptance is known as goodwill.
A trademark right is an exclusive right to sell or market under that mark within a geographic territory. The rights may be licensed to allow a company other than the owner to sell goods or services under the mark. A company may seek to license a trademark it did not create in order to achieve instant name recognition rather than accepting the cost and risk of entering the market under its own brand that the public does not necessarily know or accept. Licensing a trademark allows the company to take advantage of already-established goodwill and brand identification.
Like patent royalties, trademark royalties may be assessed and divided in a variety of different ways, and are expressed as a percentage of sales volume or income, or a fixed fee per unit sold. When negotiating rates, one way companies value a trademark is to assess the additional profit they will make from increased sales and higher prices (sometimes known as the "relief from royalty") method.
Trademark rights and royalties are often tied up in a variety of other arrangements. Trademarks are often applied to an entire brand of products and not just a single one. Because trademark law has as a public interest goal the protection of a consumer, in terms of getting what they are paying for, trademark licenses are only effective if the company owning the trademark also obtains some assurance in return that the goods will meet its quality standards. When the rights of trademark are licensed along with a know-how, supplies, pooled advertising, etc., the result is often a franchise relationship. Franchise relationships may not specifically assign royalty payments to the trademark license, but may involve monthly fees and percentages of sales, among other payments.
Copyright royalties Copyright law gives the owner the right to prevent others from copying, creating derivative works, or publicly performing their works. Copyrights, like patent rights, can be divided in many different ways, by the right implicated, by specific geographic or market territories, or by more specific criteria. Each may be the subject of a separate license and royalty arrangements.
Copyright royalties are often very specific to the nature of work and field of endeavor. With respect to music, royalties for performance rights in the United States are set by the Library of Congress' Copyright Royalty Board. Mechanical rights to recordings of a performance are usually managed by one of several performance rights organizations. Payments from these organizations to performing artists are known as residuals. Royalty free music provides more direct compensation to the artists. In 1999, recording artists formed the Recording Artists' Coalition to repeal supposedly "technical revisions" to American copyright statutes which would have classified all "sound recordings" as "works for hire," effectively assigning artists' copyrights to record labels.
Book authors may sell their copyright to the publisher. Alternately, they might receive as a royalty a certain amount per book sold.
Some photographers and musicians may choose to publish their works for a one-time payment. This is known as a royalty-free license.
Other royalty arrangements The term 'royalty' also covers areas outside of IP and technology licensing, such as oil, gas, and mineral royalties paid to the owner of a property by a resources development company in exchange for the right to exploit the resource. In a business project the promoter, financier, LHS enabled the transaction but are no longer actively interested may have a royalty right to a portion of the income, or profits, of the business. This sort of royalty is often expressed as a contract right to receive money based on a royalty formula, rather than an actual ownership interest in the business. In some businesses this sort of royalty is sometimes called an override.
Other compensation modes Royalties are only one among many ways of compensating owners for use of an asset. Others include:
In discussing the licensing of IP, the terms valuation and evaluation need to be appreciated.
Evaluation is the process of assessing a license in terms of the specific metrics of a particular negotiation, which may include its circumstances, the geographical spread of licensed rights, product range, market width, licensee competitiveness, growth prospects, etc.
On the other hand, valuation is the fair market value (FMV)of the asset - trademark, patent or know-how - at which it can be sold between a willing buyer and willing seller in the context of best awareness of circumstances. The FMV of the IP, where assessable, may itself be a metric for evaluation.
If an emerging company is listed on the stock market, the market value of its intellectual property can be estimated from the data of the balance sheet using the equivalence:
Market Capitalization = Net Working Capital + Net Fixed Assets + Routine Intangible Assets + IP
where the IP is the residual after deducting the other components from the market valuation of the stock. One of the most significant intangibles may be the work-force.
The method may be quite useful for valuing trademarks of a listed company if it is mainly or the only IP in play (franchising companies).
Approaches to Royalty Rate: Intellectual Property The rate of royalty applied in a given case is determined by various factors, the most notable of which are:
- market drivers and demand structure
- territorial extent of rights
- exclusivity of rights
- level of innovation and stage of development (see The Technology Life Cycle)
- sustainability of the technology
- degree and competitive availability of other technologies
- inherent risk
- strategic need
- the portfolio of rights negotiated
- fundability
- deal-reward structure (negotiation strength)
To correctly gauge royalty rates, the following criteria must be taken into consideration:
- * the transaction is at "arms-length"
- * there is a willing buyer and a willing seller
- * the transaction is not under compulsion
Approaches to Royalty Rate Determination and Illustrative RoyaltiesThere are three general approaches to assess the applicable royalty rate in the licensing of intellectual property. They are:
1. The Cost Approach
2. The Comparable Market Approach
3. The Income Approach
For a fair evaluation of the royalty rate, the relationship of the parties to the contract should:
- be at 'arms-length' (related parties such as the subsidiary and the parent
company need to transact as though they were independent parties)
- be viewed as acting free and without compulsion
The Cost ApproachThe Cost Approach considers all the elements of cost that have been employed to create the intellectual property and to seek a royalty rate that will recapture the expense of its development and obtain a return that is commensurate with its expected life. Costs considered could include R&D expenditures, pilot-plant and test-marketing costs, technology upgrading expenses, patent application expenditure and the like.
The method has limited utility since the technology is not priced competitively on 'what the market can bear' principles or in the context of the price of similar technologies. More importantly, by lacking optimization (through additional expense), it may earn below its potential.
However, the method may be appropriate when a technology is licensed out during its R&D phase as happens with venture capital investments or it is licensed out during one of the stages of clinical trials of a pharmaceutical.
In the former case, the venture capitalist obtains an equity position in the company (developing the technology) in exchange for financing a part of the development cost (recovering it, and obtaining an appropriate margin, when the company gets acquired or it goes public through the IPO route).
Recovery of costs, with opportunity of gain, is also feasible when development can be followed stage-wise as shown below for a pharmaceutical undergoing clinical trials (the licensee pays higher royalties for the product as it moves through the normal stages of its development):
Success State of development Royalty rates,% Nature
------------------------------------------- ----------------------
Pre-clinical success 0-5 in-vitro
Phase I (safety) 5-10100 healthy people
Phase II (efficacy) 8-15300 subjects
Phase III (effectiveness) 10-20several thousand patients
Launched product 20+ regulatory body approval
A similar approach is used when custom software is licensed (an in-license). The product is accepted on a royalty schedule depending on the software meeting set stage-wise specifications with acceptable error levels in performance tests.
The Comparable Market ApproachHere the cost and the risk of development are disregarded. The royalty rate is determined from comparing competing or similar technologies in an industry, modified by considerations of useful 'remaining life' of the technology in that industry and contracting elements such as exclusivity provisions, front-end royalties, field of use restrictions, geographic limitations and the 'technology bundle' (the mix of patents, know-how, trade-mark rights, etc.) accompanying it.
Although widely used, the prime difficulty with this method is obtaining access to data on comparable technologies and the terms of the agreements that incorporate them. Fortunately, there are several recognized organizations, among them, RoyaltySource, Royaltystat, Knowledge Express, etc (see 'Royalty Rate Websites' listed at the end of this article) who have comprehensive information on both royalty rates and the principal terms of the agreements of which they are a part. There are also IP-related organizations, such as the Licensing Executives Society, which enable its members to access and share privately assembled data.
The two tables shown below are drawn, selectively, from information that is available with an IP-related organization and on-line. The first depicts the range and distribution of royalty rates in agreements. The second shows the royalty rate ranges in select technology sectors (latter data sourced from: Dan McGavock of IPC Group, Chicago, USA).
Royalty Distribution Analysis in Industry |
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| Industry | Licenses (nos.) | Min. Royalty,% | Max. Royalty,% | Average,% | Median,% |
|---|
| Automotive | 35 | 1.0 | 15.0 | 4.7 | 4.0 | | Computers | 68 | 0.2 | 15.0 | 5.2 | 4.0 | | Consumer Gds | 90 | 0.0 | 17.0 | 5.5 | 5.0 | | Electronics | 132 | 0.5 | 15.0 | 4.3 | 4.0 | | Healthcare | 280 | 0.1 | 77.0 | 5.8 | 4.8 | | Internet | 47 | 0.3 | 40.0 | 11.7 | 7.5 | | Mach.Tools. | 84 | 0.5 | 26 | 5.2 | 4.6 | | Pharma/Bio | 328 | 0.1 | 40.0 | 7.0 | 5.1 | | Software | 119 | 0.0 | 70.0 | 10.5 | 6.8 | |
Royalty Rate Segmentation in Some Technology Sectors |
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| Industry | 2-2% | 2-5% | 5-10% | 10-15% | 15-20% | 20-25% |
|---|
| Aerospace | 50% | 50% | | | | | | Chemical | 16.5% | 58.1% | 24.3% | 0.8% | 0.4% | | | Computer | 62.5% | 31.3% | 6.3% | | | | | Electronics | | 50.0% | 25.0% | 25.0% | | | | Healthcare | 3.3% | 51.7% | 45.0% | | | | | Pharmaceuticals | 23.6% | 32.1% | 29.3% | 12.5% | 1.1% | 0.7% | | Telecom | 40.0% | 37.3% | 23.6% | | | | |
Commercial sources also provide information that is invaluable for making comparisons. The following table provides typical information that is obtainable, for instance, from Royaltystat:
- Sample License Parameters
Reference: 7787 Effective Date: 10/01/1998
SIC Code: 2870 SEC Filed Date: 07/26/2005
SEC Filer: Eden Bioscience Corp Royalty Rate: 2.000 (%)
SEC Filing: 10-Q Royalty Base: Net Sales
Agreement Type: Patent Exclusive: Yes
Licensor: Cornell Research Foundation, Inc.
Licensee: Eden Bioscience Corp.
Lump-Sum Pay: Research support is $150,000 for 1 year.
Duration: 17 year(s)
Territory: Worldwide
Coverage : Exclusive patent license to make, have made, use and sell products incorporating biological materials, including genes, proteins and peptide fragments, expression systems, cells, and antibodies, for the field of plant disease
The comparability between transactions requires a comparison of the significant economic conditions that may affect the contracting parties:
- similarity of geographies
- relevant date
- same industry
- market size and its economic development;
contracting or expanding markets
- market activity: whether wholesale, retail, other
- relative market shares of contracting entities
- location-specific costs of production and distribution
- competitive environment in each geography
- fair alternatives to contracting parties
The Income Approach The Income approach focuses on Todd the licensor estimating the profits generated by the licensee and obtaining an appropriate share of the generated profit. It is unrelated to costs of technology development or the costs of competing technologies.
The approach requires the licensee (or licensor): (a) to generate a cash-flow projection of incomes and expenses over the life-span of the license under an agreed scenario of incomes and costs (b) determining the Net Present Value, NPV of the profit stream, based on a selected discount factor, and c) negotiating the division of such profit between the licensor and the licensee.
The NPV of a future income is always lower than its current value because an income in the future is attended by risk. In other words, an income in the future needs to be discounted, in some manner, to obtain its present equivalent. The factor by which a future income is reduced is known as the 'discount rate'. Thus, $1.00 received a year from now is worth $0.9091 at a 10% discount rate, and its discounted value will be still lower two years down the line.
The actual discount factor used depends on the risk assumed by the principal gainer in the transaction. For instance, a mature technology worked in different geographies, will carry a lower risk of non-performance (thus, a lower discount rate) than a technology being applied for the first time. A similar situation arises when there is the option of working the technology in one of two different regions; the risk elements in each region would be different.
The method is treated in greater detail, using illustrative data, in Royalty Assessment.
The licensor's share of the income is usually set by the '25% rule of thumb', which is said to be even used by tax authorities in the US and Europe for arms-length transactions. The share is on the operating profit of the licensee firm. Even where such division is held contentious, the rule can still be the starting point of negotiations.
Three aspects to the profit of the enterprise must be noted:
the profit that accrues to the licensee may not arise solely through the engine of the technology. There are returns from the mix of assets it employs such as fixed and working capital and the returns from intangible assets such as distribution systems, trained workforce, etc. Allowances need to be made for them.
- (b) profits are also generated by thrusts in the general economy, gains from infrastructure, and the basket of licensed rights - patents, trademark, know-how. A lower royalty rate may apply in an advanced country where large market volumes can be commanded, or where protection to the technology is more secure than in an emerging economy (or perhaps, for other reasons, the inverse).
the royalty rate is only one aspect of the negotiation. Contractual provisions such as an exclusive license, rights to sub-license, warranties on the performance of technology etc may enhance the advantages to the licensee, which is not compensated by the 25% metric.
The basic advantage of this approach, which is perhaps the most widely applied, is that the royalty rate can be negotiated without comparative data on how other agreements have been transacted. In fact, it is almost ideal for a case where precedent does not exist.
It is, perhaps, relevant to note that the IRS also uses these three methods, in modified form, to assess the attributable income, or division of income, from a royalty-based transaction between a US company and its foreign subsidiary. (since US law requires that a foreign subsidiary pay an appropriate royalty to the parent company).
Patent royalty ratesPatent royalty rates are influenced by the importance of the patent and its value to the products. Some realms of business have conventions regarding royalty rates and other license terms. Royalties are often computed as a percentage of the value of the finished product made by using the patent. To illustrate, the following are prevalent rates within the United States pharmaceutical industry:
- a pending patent on a strong business plan, royalties of the order of 1%
- issued patent, 1%+ to 2%
- the pharmaceutical with pre-clinical testing, 2-3%
- with clinical trials, 3-4%
- proven drug with US FDA approval, 5-7%
- drug with market share, 8-10%
Royalty rates may also be affected by whether a patent is strong (i.e. broadly written, seemingly valid) or weak; whether it is a fundamental patent or merely a slight improvement on a known technology; whether substitute technologies are available or an ability to work around the patent; the extent of the contribution of the patented technology to the value of the final product and whether there are other patents that must also be licensed (in which case there is a practical limit on how much royalty can be paid to license each).
With regards to the actual rates of royalty payments in the industry, the Licensing Economics Review , , reported in 2002 that in a review of 458 license agreements, over a 16-year period, it found that an average royalty rate of 7.0%. However, the range extended from zero percent to 50 percent. All of these agreements may not have been at 'arms length'.
Trademark royalty ratesIn a long-running dispute involving the valuation of the DHL trademark of DHL Corporation, it was reported that experts employed by the IRS surveyed a wide range of businesses and found a broad range of royalties for trademark use from a low of 0.7% to a high of 15%.
Music Royalties Unlike other forms of intellectual property, music royalties have a strong linkage to individuals - composers (score), songwriters (lyrics) and writers of musical plays - in that they can own the exclusive copyright to created music and can license it for performance independent of corporates. Recording companies and the performing artists that create a 'sound recording' of the music enjoy a separate set of royalties from the sale of recordings and from their digital transmission (depending on national laws).
With the advent of pop music and major innovations in technology in the communication and presentations of media, the subject of music royalties has become a complex field with considerable change in the making.
A musical composition obtains protection in copyright law immediate to its reduction to tangible form - a score on paper or a taping; but it is not protected from infringed use unless registered with the copyright authority; for instance, the Copyright Office in the United States, administered by the Library of Congress. No person or entity, other than the copyright owner, can use or employ the music for gain without obtaining a license from the composer/songwriter.
Inherently, as copyright, it confers on its owner, a distinctive 'bundle' of five exclusive rights:
(a) to make copies of the songs through print or recordings
(b) to distribute them to the public for profit
(c) to the 'public performance right'; live or through a recording
(d) to create a derivative work to include elements of the original music; and
(e) to 'display' it (not very relevant in context).
Where the score and the lyric of a composition are contributions of different persons, each of them is an equal owner of such rights.
These exclusivities have led to the evolution of distinct commercial terminology used in the music industry.
They take four forms:
- (1) royalties from 'print rights'
- (2) mechanical royalties from the recording of composed music on, CDs and tape
- (3) performance royalties from the performance of the compositions/songs on stage or television through artists and bands, and
- (4) synch (for synchronization) royalties from using or adapting the musical score in the movies, television advertisements, etc. and
With the advent of the internet, an additional set of royalties has come into play : the digital rights from simulcasting, webcasting, streaming, downloading, and online "on-demand service".
In the following the terms 'composer' and 'songwriter' (either lyric or score) are synonymous.
Mechanical RoyaltiesThe term 'mechanical' and mechanical license has its origins in the 'piano rolls' on which music was recorded in the early part of the 20th Century. Although its concept is now primarily oriented to royalty income from sale of CDs, its scope is wider and covers any copyrighted audio composition that is rendered mechanically, i.e. without human performers:
*tape recordings
*music videos
*ringtones
*MIDI files
*downloaded tracks
*DVDs, VHS, UMDs
*computer games
*musical toys etc.
The United States treatment of mechanical royalties is in sharp contrast to international practice.
In the United States, while the right to use copyrighted music for making records for public distribution (for private use) is an exclusive right of the composer, the Copyright Act provides that once the music is so recorded, anyone else can record the composition/song without a negotiated license but on the payment of the statutory compulsory royalty. Thus, its use by different artists could lead to several separately-owned copyrighted 'sound recordings'.
The following is a partial segment of the compulsory rates as they have applied from 1998 to 2007 in the United States . The royalty rates in the table comprise of two elements: (i) a minimum rate applies for a duration equivalent to 5 minutes, or less, of a musical composition/song and (ii) a per-minute rate if the composition exceeds it, whichever is greater.
Compulsory Mechanical Royalty Rates - United States| Period | Royalty Rate | | 01-01-1998 - 12-31-1999 | 7.10 cents or 1.35 cents/min | | 01-01-2000 - 12-31-2001 | 7.55 cents or 1.43 cents/min | | 01-01-2002 - 12-31-2003 | 8.00 cents or 1.55 cents/min | | 01-01-2004 - 12-31-2005 | 8.50 cents or 1.65 cents/min | | 01-01-2006 - 12-31-2007 | 9.10 cents or 1.75 cents/min | |
In the predominant case, the composer assigns the song copyright to a publishing company under a 'co-publishing agreement' which makes the publisher a co-owner of the composition (the composer may also be the publisher). The publisher's role is to promote the music by extending the written music to recordings of vocal, instrumental and orchestral arrangements and to administer the collection of royalties (which, as will shortly be seen, is in reality done by specialized companies). The publisher also licenses 'subpublishers' in other countries to similarly promote the music and administer the collection of royalties.
Normally, of every 100 units of currency that flows to the publisher gets divided as follows: 50 units go to the songwriter and 50 units to the publisher. However, the music writer obtains a further 25 units from the publisher's share (as a co-publisher). In effect, the co-publishing agreement is a 75/25 share of royalties in favor of the songwriter if administrative costs of publishing are disregarded. This is near international practice.
When a company (recording label) records the composed music, say, on a CD master, it obtains a distinctly separate copyright to the sound recording, with all the exclusivities that flow to such copyright. The main obligation of the recording label to the songwriter and her publisher is to pay the contracted royalties on the license received.
While the compulsory rates remain unaffected, recording companies, in the US, will, typically, negotiate to pay not more than 75% of the compulsory rate where the songwriter is also the recording artist . and will further (in the US) extend that to a maximum of 10 songs, even though the marketed recording may carry more than that number. This 'reduced rate' results from the incorporation of a "controlled composition" clause in the licensing contract since the composer as recording artist is seen to control the content of the recording.
Mechanical royalties for music produced outside of the United States are negotiated - there being no compulsory licensing - and royalty payments to the composer and her publisher for recordings are based on the wholesale, retail, or 'suggested retail value' of the marketed CDs.
Recording artists earn royalties only from the sale of CDs and tapes and, as will be seen later, from sales arising from digital rights. Where the song-writer is also the recording artist, royalties from CD sales add to those from the recording contract.
In the US, recording artists earn royalties amounting to 10%-25% (of the suggested retail price of the recording (http://www.ascap.com/musicbiz/money-recording.html) depending on their popularity but such is before deductions for 'packaging', 'breakage','promotion sales' and holdback for 'returns', which act to significantly reduce net royalty incomes.
In the US, the Harry Fox Agency, HFA, is the predominant licensor, collector and distributor for mechanical royalties, although there are several small competing organizations. For its operations, it charges about 6% as commission. HFA, like its counterparts in other countries, is a state-approved quasi-monopoly and is expected to act in the interests of the composers/song-writers - and thus obtains the right to audit record company sales.
In the U.K. the Mechanical-Copyright Protection Society, MCPS (now in alliance with PRS), acts to collect (and distribute) royalties to composers, songwriters and publishers for CDs and for digital formats. It is a not-for-profit organization which funds its work through a commissions on aggregate revenues. The royalty rate for licensing tracks is 6.5 per cent of retail price (or 8.5 per cent of the published wholesale price.
In Europe, the major licensing and mechanical royalty collection societies are:
- SACEM in France (http://www.sacem.fr/portailSacem/jsp/ep/home.do?tabId=0)
- GEMA (http://www.gema.de/) in Germany, and
- SFA in Italy (http://www.scfitalia.it/webnew/).
SACEM acts collectively for 'francophone' countries in Africa. The UK society also has strong links with English-speaking African countries.
Mechanical societies for other countries can be found at:
- http://www.bemuso.com/musicbiz/collectionsocieties.html#themainnationalcollectionsocieties
The mechanical royalty rate paid to the publisher in Europe is about 6.5% on the PPD (Published Price to Dealers.
Record companies are responsible for paying royalties to those artists who have performed for a recording based on for the sale of CDs sold through stores and on-line.
Performance Royalties‘Performance’ in the music industry can include any of the following:
- *a performance of a song or composition — live, recorded or broadcast
- *a live performance by any musician
- *a performance by any musician through a recording on physical media
- *performance through the playing of recorded music
- *music performed through the web (digital transmissions)
It is useful to treat these royalties under two classifications:
those associated with conventional forms of music distribution which have prevailed for most part of the 20th Century, and
those from emerging 'digital rights' associated with newer forms of communication, entertainment and media technologies (from 'ring tones' to 'downloads' to 'live internet streaming'.
Conventional Forms of Royalty PaymentIn the conventional context, royalties are paid to composers and publishers and record labels for public performances of their music on vehicles such as the jukebox, stage, radio or TV. Users of music need to obtain a ‘performing rights license’ from music societies - as will be explained shortly - to use the music. Performing rights extend both to live and recorded music played in such diverse areas as cafés, skating rinks, etc.
Licensing is generally done by music societies called ‘Performing Rights Organizations’ (PROs), some of which are government-approved or government-owned, to which the composer, the publisher, performer (in some cases) or the record label have subscribed.
The diagram on the right titled 'The Performance Rights Complex' (Courtesy http://www.bemuso.com) shows the general sequences by which a song or a composition gets to be titled a 'performance' and which brings royalties to song-writers/publishers, performing artists and record labels. How, and to whom, royalties are paid is different in the United States from what it is, for example, in the UK. Most countries have practices more in common with the UK than the US.
In the United Kingdom there are three principal organizations:
PPL (for Phonographic Performance Ltd)
PRS (for Performing Rights Society), and
MCPS (for Mechanical Copyright Protection Society)
who license music (to music-users) and act as royalty collection and distribution agencies for their members.
PPL(http://www.ppluk.com/) - claimed to be the largest in the world - issues performance licenses to all UK radio, TV and broadcast stations, as also to such diverse users as clubs and bars who employ sound recordings (tapes, CDs), in entertaining the public and collects and distributes royalties to the record label for the sound recording and to featured UK performers in the recording. Performers do not earn from sound recordings on video and film.
PRS, which is now in alliance with MCPS, (http://www.mcps-prs-alliance.co.uk/Pages/default.aspx) collects royalties from music-users and distributes them directly to song-writers and publishers whose works are performed live, radio or on TV on a 50:50 basis. MCPS licenses music for broadcast in the range 3– 5.25% of net advertising revenues
MCPS also collects and disburses mechanical royalties to writers and publishers in a manner similar to PRS. Although allied, they serve, for now, as separate organizations for membership.
The next diagram (Courtesy: http://www.bemuso.com) shows the sequences in the licensing of performances and the royalty collection and distribution process in the UK. Every song or recording has a unique identity by which they are licensed and tracked. Details of songs or recordings are notified to the PROs directly, or through Catco, an electronic tracking system. It needs to be clarified that while blanket licenses are commonly issued to music-users, the latter are responsible for 'usage returns' - the actual frequency of performances under the license - which then becomes the basis for the PRO to apportion royalties to writers, publishers and record labels.(DIY 'indies' are 'do-it-yourself' independent song-writers (and, often, the performers as well) who record and publish under their own labels).
In the UK., music is licensed (and royalties 'paid on it) at the track level.
There is also a separate organization, VPL (http://www.vpluk.com), in the UK, which is the collecting society set up by the record industry in 1984 to grant licences to users of music videos, e.g. broadcasters, program-makers, video jukebox system suppliers. The licensing income collected from users is paid out to the society's members after deduction of administrative costs.
There are different models for royalty collection in the European countries. In some of them, mechanical and performing rights are administered jointly. SACEM (France), SABAM (Belgium), GEMA (Germany) and JASRAC (Japan) work that way.
In the United States, on the other hand, the ASCAP, BMI (Broadcast Music, Inc) and SESAC (Society of European Stage Authors & Composers) are the three principal Performance Rights Organizations (PROs), although smaller societies exist. The royalty that is paid to the composer and publisher is determined by the method of assessment used by the PRO to gage the utilization of the music, there being no external metrics as in mechanical royalties or the reporting system used in the UK. Very basically, a PRO aggregates the royalties that are due to all of the composers/songwriters who are its members and each composer and publisher is paid royalties based on the assessed frequency of the music’s performance, post deductions of charges (which are many). The PROs are audited agencies. They directly pay the songwriter and the publisher their respective shares. (If part of the publisher's share is retained by the songwriter, the publisher pays the songwriter that part of the publisher's share).
Typically, the PRO negotiates blanket licenses with radio stations, television networks and other ‘music users', each of whom receives the right to perform any of the music in the repertoire of the PRO for a set sum of money.
PROs use different types of surveys to determine the frequency of usage of a composition/song. ASCAP uses random sampling, SESAC utilizes cue sheets for TV performances and ‘digital pattern recognition’ for radio performances while BMI employs more scientific methods.
It is to noted that in the United States only the composer and the publisher are paid performance royalties and not performing artists (digital rights being a different matter). Likewise, the record label, whose music is used in a performance, is not entitled to royalties in the US on the premise that performances lead sales of records.
Where a performance has co-writers along with the composer/songwriter - as in a musical play - they will share the royalty.
UK LegislationThe United Kingdom adopted the European Copyright Directive EUCD in 2003 and the meaning of broadcast performance was broadened to cover “communicating to the public”. This then included music distribution through the internet and the transmission of ringtones to mobiles. Thus a music download was a copy of proprietary music and hence required to be licensed.
After a prolonged battle on royalties between online music companies such as AOL, Napster and the recording companies (but not all of them), represented by the British Phonographic Industry, and organizations representing the interests of songwriters (MCPS and PRS) a compromise was reached, leading to a subsequent 3-year interim legislation (2007) adopted by the UK Copyright Tribunal under the Copyright, Designs and Patents Act, . The legislation, referring to a new JOL (Joint Online License), applies only to music purchased within UK.
The applicable royalties are given in the Table below which, interestingly, also includes music downloads and music services through mobile devices. This path-breaking legislation is expected to become the model for EU (which is yet to develop comprehensive legislation), and perhaps even extend to the US.
Note that the new legislation includes the distinction between downloads of musical tracks from iTunes and other stores, which were considered 'sales' and the webcasts considered 'performances'.
In brief, the compromise reached is that songwriters will receive 8% of gross revenues (definition follows), less VAT, as royalty for each track downloaded bridging the demand of the artists demanding a 12% royalty rate (what was, otherwise, the norm for a CD) and music companies holding out for 6.5%, slightly higher than the 5.7% paid for a 79p track sold by iTunes . A minimum of four pence will be paid, in the new legislation, if tracks are discounted.
The terms used in the legislated Table are explained following it.
Digital Royalties - Interim Settlement, United Kingdom - 2007 | Service | Royalty Rate | Minimum |
|---|
| Permanent Download | 8% | £0.04 per download - reducing by degrees for larger bundles of tracks, or certain older tracks, to £0.02 (in respect of a bundle 0f 30 tracks+) | | Limited Download or On Demand Service | 8% | Mobile subscription: £0.60/subscriber/month
PC subscription: £0.40/subscriber/month
Limited Subscription: £0.20/subscriber/month
All others: £0.0022 per musical work communicated to the public | Special Webcasting
(premium or interactive
service where 50%+ of
content is by single
band/artist) | 8% | Subscription: £0.0022 per musical work (if not subscription);
if the service is subscription, minimum to be negotiated | | Premium or interactive webcasting | 6.5% | Subscription: £0.22/subscriber/month;otherwise, £0.00085 per musical work communicated to the public | | Pure webcasting | 6.5% | Subscription £0.22/subscriber/month; otherwise 0.0006/musical work communicated to the public | |
| Service | Royalty Rate and Minimum |
|---|
| Mobile or Permanent downloads and other mobile services | Rates and minima as per services above, except that: For mobile Permanent Downloads, revenue is reduced by 15%
For all other Mobile services revenue is reduced by 7.5%
The above reductions to apply until prices converge with non-mobile services. | |
It should be noted that not all music providers in the UK were part of the compromise that led to the legislation. For those not participating - principally, AOL, Yahoo and RealNetworks - the Tribunal set the royalty rate for pure webcasting at 5.75%.
UK legislation recognizes the term online as referring to downloading digital files from the internet and mobile network operators. Offline is the term used for the delivery of music through physical media such as a CD or a DVD,
A stream is a file of continuous music listened to through a consumer’s receiving device with no playable copy of the music remaining.
Permanent Downloads are transfers (sale) of music from a website to a computer or mobile telephone for permanent retention and use whenever the purchaser wishes, analogous to the purchase of a CD.
A Limited Download is similar to a permanent
download but differs from it in that the consumer’s use of the copy is in some
way restricted by associated technology; for instance, becomes unusable when the subscription ends ( say, through an encoding , such as DRM, of the downloaded music).
On demand streaming is music streamed to the listener on the computer or mobile to enable her to listen to the music once, twice or a number of times during the period of subscription to the service.
Pure Webcasting is where the user receives a stream of pre-programmed music chosen by the music service provider. It is non-interactive to the extent that even pausing or skipping of tracks is not possible.
Premium and Interactive Webcasting are personalized subscription services intermediate between pure webcasting and downloading.
Special webcasting is a service where the user can choose a stream of music, the majority of which comprises works from one source – an artist, group or particular concert.
Simulcasting, although not in the Table above, is the simultaneous re-transmission by a licensed transmission of the program of a radio or TV station over the internet of an otherwise traditional broadcast. The person receiving the simulcast normally makes no permanent copy of it. It is defined in the legislation as an offline service.
’Gross Revenue’, which is comprehensively defined in the legislation, summarized here, means, all revenue received (or receivable) by the licensee from Users, all revenue received through advertisements associated with the music service, sponsorship fees,commissions from third parties and revenue arising from barter or contra deals. No deductions are permitted except for refunds of unused music due to technical faults.
The advertising revenue which is shared between the artist and music provider is defined as:
- when the advertising is in-stream;
- when the music offered forms the only content of a page featuring advertising (excluding the advert itself); and
- when the music offered forms more than 75% of a page featuring advertising (excluding the advert itself).
Synchronization RoyaltiesThe term synchronization comes from the early days of the talkies when music was first synchronized with film. The terminology originated in US industry but has now spread worldwide.
Because it would be impractical to join music to film or images without making a “copy” of the music, it is clear that some sort of license is needed – but the legal argument is difficult to construct. In the UK and elsewhere, with the exception of the US,, there is apparently no legal prohibition to the combination of audio and visual images and no explicit statutory right for the collection of synch royalties. In the US, however, the Copyright Act defines the audiovisual format as that of combining images with music for use in machines but there is no explicit rate set such as the ‘compulsory royalty rate’ for copying music but there are instances of courts implying the synchronization right (http://www.clintons.co.uk/?news_id=38,fuller version at http://www.ca9.uscourts.gov/ca9/newopinions.nsf/6128717C16DB42D8882573C400597DC7/$file/0655102.pdf?openelement) but even so it is an amorphous colloquial commercial term of acceptance.
Synchronization royalties('synch licenses') are paid
for the use of copyrighted music in (largely) audiovisual productions, such as in DVDs, movies, and advertisements. Music used in news tracks are also synch licenses. Synchronization can extend to live media performances, such as plays and live theatre. They become extremely important for new media - the usage of music in the form of mp3, wav, flac files and for usage in webcasts, embedded media in microchips (e.g. karaoke), etc but the legal conventions are yet to be drawn.
Synchronization royalties are due to the composer/song-writer or her publisher. They are strictly contractual in nature and vary greatly in amount depending on the subjective importance of the music, the mode of production and the media used. The royalty payable is that of mutual acceptance but is conditioned by industry practice.
It is useful to note in this connection the concept of the ‘needle drop’ (now laser drop) in that the synch royalty becomes payable every time the needle drops 'on the record player' in a public performance! All openings and closings, every cut to advertisements, every cut back from ads, all re-runs shown by every TV company, in every country in the world generates a 'synchro', although a single payment may be renegotiable in advance.
A sample of a UK synchro contract can be seen at http://i.current.com/pdf/music_sync_uk.pdf
It might be noted that there is a category of royalty-free music in the field of synchronization. This refers to the use of music in a ‘library’ for which a one-time royalty has been negotiated. It is an alternative to needle-drop negotiation.
In terms of numbers, royalties can range from, say. $500-2000 for a "festival-use license" to $250,000 or more for a movie film score. For low budget films, which are deemed less than $2 million, the royalties range from 3%-6% (http://www.musesmuse.com/pubart.html) or it could be per song per usage.
See also
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