A New Business Model for Music Industry

I would like to get the Forum's reaction to a new idea I have for the music business that certainly will not happen overnight but could prove valuable: I just brainstormed out a new business model for the music industry.

I have worked as a recording engineer and been involved up and down the chain of command in the high end audio and music business. Recently, I am working as a software company owner. I got to thinking yesterday after an inspiring trip to a technology discussion via satellite with MIT about how technology firms may offer insights into better practices for the music business. I have been concerned about this for a decade as I have watched things in the music business get more mismanaged from a business standpoint and less fun from a musical content standpoint.

Imagine this... [cue dream time music from Wayne's World]

In the future there are no major record labels.

[Add doomsday scenario from your favorite science fiction movie]

In the future, artists must attract a new form of backing: venture capitalist that works solely in music.

The "Music VC" looks for new talent and then signs them up by agreeing to pay for the first record album or single. In exchange the Music VC gets a percentage claim on all record royalties.

The Music VC takes the artists over to his office where he has a staff of graphic artists, retired musicians and arrangers, lyricists, recording engineers and creates a master tape and full art work for the initial CD (SACD?).

Recording engineers may even form an artists’ collective as could any other specialty like art designers, lyricists, etc.

The Music VC takes the artist over to the local JVC pressing plant manager who gets paid upfront the cost of replicating the discs.

The Music VC can lower risk by initially releasing single or several songs on MP3 site (low compression please!). Many Music VCs may band together to create highly efficient and legal download sites as agreed to previously by artist – a condition of their funding.

In some as yet undetermined split, the artist collects a portion of the sales revenue minus all production costs put together by Music VC.

Production costs include session fees (engineering, tapes, mics, labor), back office financial keeping, any fan base management, art work generation, modest amount of A&R work, etc.

Music VC essentially owns equity musician’s catalog. Maybe 20-50% of first album and lower percentages of latter releases accrue to Music VC for his willingness to take a risk.

Better Music VCs develop relationships with certain entertainment outlets like Radio, Entertainment Tonight, CNN, Fox News, HBO, etc.

At the end of the day, the musician owns direct equity in his own content.

There are no loans made up front in cash that have to be paid back, so the personal finances of the artists are more conservatively managed.

Really high quality talent can attract more Music VCs so they get better terms and better distribution which may mean more traditional outlets.

Tower and other retailers contract directly with Music VC who manages distribution.

Since entire business model is run as private equity function, Music VCs can attract funds for investment from Wall Street, bypassing current system of shareholders providing capital to highly inefficient entertainment conglomerates that earn low returns.

Music VCs can raise capital on Nasdaq once big enough.

Artists can raise capital on Nasdaq once big enough.

[I also am tempted to say we can short the artists we think are fads or outright suck. ]

SUMMARY OF PROS AND CONS:

Upside
Good talent (and bad) gets rewarded based on subjective merit.
Everyone can get funded.
Lower costs in production system due to specialization.
Movement away from “star system” where only million unit sellers are rewarded.
Ability for the Music VC to take chances that major record labels shy away from.
Music VCs have role of financier and producer. They aggregate all the right people to launch first CD and subsequent releases.
Ability to specialize in genres where expertise can be developed. This should prove better than major labels myriad mix of niche labels and mimic the best of independent producers. Maybe Chad Kassem of Acoustic Sounds is the first Music VC based on his superb work in Blues genre.

Downside
Less synergies with large interests in multiple entertainment media (cross-promotion)
Music VCs may take time to develop their own sources of capital like early technology VCs.
Requires risk-reward mindset not currently ingrained in today’s business.

The one thing this model does is it lowers the barrier to success for the artist:

1. They no longer have to be predestined to sell 1 million records. If they sell 50,000 and are in the jazz genre, for instance, they may be fine if they have a local Manhattan following. Maybe word of mouth spreads and they go big later. But the first step is small and cost-efficient.

2. It lowers producing costs, because maybe one just needs to produce a single for thousands of dollars in total studio time instead of tens or hundreds of thousands.

3. It creates "positive portfolio effects" for the Artist and Music VC. By this I mean that a Music VC may really like a new musician but be unsure of their commercial potential. If he has ten musicians, then he can take a flyer on one or two. These might otherwise fall through the cracks at bigger firms.

4. Flexibility. Music VC tastes can evolve and change overnight. Spotting popular trends becomes easier. Creating local sensations that reflect local community tastes become easier.

What do you think?

Isn't this a better world for artist, Music VC (producer), and, most importantly, consumer?

 

I like it but also see the inevitabile of the return of the old business model. It's too easy to slip back into it. All it takes is a few Music VC's forming a corporation and a couple of breakout hits.

Maybe i'm missing something...

 

>>>>>One problem.

No more Cds...no more "pressing". The musics gotta be "download only" to truly be a "new" business model.
Then you'ld have something.

Any model where cds are still being pressed and sold will too easily slip back into the old model..the second things start to not work out, they will scream that they need a distributor to "move these turkeys".

Download all the way...who needs rec companies ad pressing plants?

 

But, many a consumer likes packaged product too. I personally feel that downloading "cheapens" the value of the music for most people. Yes, I treasure the music I have downloaded but I also don't feel it is as valuble as if it were on a manufactured CD. Perhaps it is the perception that CD-R is so disposable, perhaps more so than cassette tape. So, the more disposable the medium, the more disposal the music on it. Again, that's for most people.

 

How is your idea different than an independent record company with no distribution and no promotion? You put up the money for creating the product, but the artist has to pay you back. You are offering no money for the artist to live on while recording. This sounds like a bad deal for the artist, other than offering some ownership in the masters and a promise to be conservative when spending the artists money to make the product.

 

No more Cds...no more "pressing". The musics gotta be "download only" to truly be a "new" business model.

I am not so sure Mikey. I am trying to raise the possibility for more low volume CDs. If successful I think it would be hard for independent-minded artists to want to go back to the old big machine that is today's industry.

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You are offering no money for the artist to live on while recording. This sounds like a bad deal for the artist, other than offering some ownership in the masters and a promise to be conservative when spending the artists money to make the product.
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No, not really Mike.

1. No the artist does not have to pay the VC back except for covering his per unit costs. Very fair.

2. We are giving the artist something new in having Direct Equity in his future recordings.

3. We are not saying the artist would not be supported by the VC. Most VCs extend capital right away before a product comes to market.

4. The artist has more control of the relationship since there is a vote of all equity holders in any artist decision. In fact, this could be very interesting for the artist since he may bring in family members or other trusted musicians as advisors. He could offer equity in the deal as an incentive.

 

Let me play devil's advocate as the artist and maybe this will help you flesh out your idea.

1. I (the artist) have to pay production costs. This is the same as a record contract.

2. By "Direct Equity" I assume you mean ownership of the masters. This is something new, but some independent record companies are already starting to do it.

3. You did say, "There are no loans made up front in cash that have to be paid back, so the personal finances of the artists are more conservatively managed." That sounded to me like you would pay for production costs, but not for living costs. What are you saying? You would give me less money to live on that the big record companies?

4. When you say I have "more control" in any "artist decision" what does that mean? I decide how the money is spent? I have to agree with the VC on the decision? When push comes to shove and we don't agree, what happens?

 

By "Direct Equity" I assume you mean ownership of the masters. This is something new, but some independent record companies are already starting to do it.

Not exactly. I mean that all revenue from the artist's output is owned by the artists and Music VC - for example, all future cash flow is split between the artist and any production people and advisors he brings in and the Music VC.

When you say I have "more control" in any "artist decision" what does that mean? I decide how the money is spent? I have to agree with the VC on the decision? When push comes to shove and we don't agree, what happens?

It's run just like a small startup. The decisions are made and voted on based on pure equity ownership percentages. If the artist has over 50% of the equity, he controls the whole thing. This works very well in the technology world.

This gives the artist much more control. They also have a direct claim on their own output. Right now it goes through a big filter and the get a claim on just a few cash flow streams. Here we are talking the whole enchilada. It's just more fair: you get what you produce. A very capitalist system that favors the artist.

What are you saying? You would give me less money to live on that the big record companies?

In some cases, we would pay less, some more. The very big stars in the music business get too much money that often creates a liability for them if subsequent albums do not do well. In this new world, the size of the advance would be scaled more realistically to the actual projected cash flow from the future album sales.

I've talked to some producers about this and they like it.

They feel it gets back to the good old days in the 50s and 60s where there were more high quality, independent labels. Less aggregation into inflexible companies like Universal, etc.

Look at the quality work that a company like Chesky Records or Dorian can do with limited resources.

 

Anything I could say about this would be impolite.

 

Does not seem like any artists will be mega sellers anymore. It takes lots of money, push, corporate power, influence to create a "hit". Where would Britney be today without it?

Gary, I guess that's a fair critique but would there not be a lot of advantages to having more diverse talent offered instead of the current "winner take all" approach?

Of course, Music VCs after a few years would become wealthy and be able to take bigger bets like Kleiner Perkins does with massive startups. They could then offer all of the current megastar promotion, distribution, touring that megastars receive today. In fact, it might be better because several Music VCs could participate thereby limiting the individual risk in any one artist.

Radio stations would have to adapt by forming relationships with the Music VCs. They may like this as I understand their current promotion deals are not very good. Maybe they could get a better, fairer deal in the new world.

Music VCs would be able to sign lyricists, composer, what have you. I thought of this coming from a jazz and classical background.

I will give you a specific example: I once was an engineer on a Chesky CD that involved the incredibly talented Carlos Franzetti, a well-respected tango and Piazolla composer. People like Carlos would benefit immensely because he would have to spend less time chasing commercial projects (he once did some AT&T commercials for profit reasons) to fund his specific composing interests. To be clearer, he could create lower hurdle (in terms of volume) classical works that Piazolla fans would seek out and he would recoup higher dollar volume by having a higher % of the sale profits. I don't know how many Piazolla fans there are (plenty in S. America I'm sure) but the Music VC would at least lower the barriers for putting out a CD.

 

In some ways this presuposes the entry of a new range of investors into the music market - IMO the organisations most likely to invest are the current big 5. I would see a more likely scenario as the incease in salaried session musicians "tied" to the labels (guaranteed long term incomes at improved levels) and a migration towards recordings being "works for hire".

In an environment split between VC back artists and Cororate backed artists the VC artist would require some other defendable value proposition of differentiator to enable them to overcome the Corporates current relationship and publicity advantages.

Just my thoughts - Andrew

 

I would see a more likely scenario as the incease in salaried session musicians "tied" to the labels (guaranteed long term incomes at improved levels) and a migration towards recordings being "works for hire".

I think Music VCs may offer session players a contract for several gigs so when say a new jazz vocal client is discovered, the talent comes together fast. Tying the session guys to labels won't work very easy as some of my friends who are session players tell me since they like to have freedom to play for several labels.

In an environment split between VC back artists and Cororate backed artists the VC artist would require some other defendable value proposition of differentiator to enable them to overcome the Corporates current relationship and publicity advantages.

Andrew,

I'm not sure what you mean here exactly. I think some better Music VCs will get big enough to be backed possibly by corporates but they will still be smallish independent companies. Artists will flock to Music VCs over corporates since they the VCs offer real equity in their own output. The current labels don't do that. And moreover, many musicians that I speak with are upset by all the costs they subsidize with the label. We would definitely have to create a win-win situation for everyone.

Thanks for your comments.

 

Hi Lee

I think the line that I was trying (poorly) to put across was that in my experience an attractive concept based on sound principle often fails when faced with highly funded commercial vested interests unless it presents an overwhelming financial case to investors.
My hypothesis is derived taking into account a couple of points

(a) The simplest defense for one of the existing labels/multinational music corporations is to undertake the role of VC - if it continues with both its traditional model and the new VC model it is likely to increase its control within the music industry.

(b) Artists if not acting out of altruism or interest in pure creativity are likely to adopt the route to market that provides greatest exposure - exposure depends on publicity,marketing and relationship and this is likely to continue to be dominated by the existing industy players.

(c) Equity in a product is only of value if it can be converted into a $$$ value. The scenario for disengaging from a VC and taking your equity means the relationship has failed - To convert your asset into a marketable commodity either you go to another VC and dilute your existing asset investing in a new relationship or take it to a traditional label. If ithe artists holding is ever less than a controlling share this would potentially pose a problem and from experience a lot of VCs like to be in control.

I can undertand and sympathise with the artists concern over the costs they are exposed to - but the maths needs to be done on this - have you constructed a model with different scenarios to look at market penetrations and cost/reward distribution ?

All the best - Andrew

 

(a) The simplest defense for one of the existing labels/multinational music corporations is to undertake the role of VC - if it continues with both its traditional model and the new VC model it is likely to increase its control within the music industry.

1. Maybe the majors won't choose to defend against this if they think a better use of shareholder money is to break the music unit up into more efficient, more flexible pieces. We seem to be approaching a breaking point. They may feel that investing in Music VCs is a better use of shareholder money.

2. Maybe Music VCs over time will chip away at market share because this model allows artists to gain more control and has many other benefits as described above.

(b) Artists if not acting out of altruism or interest in pure creativity are likely to adopt the route to market that provides greatest exposure - exposure depends on publicity,marketing and relationship and this is likely to continue to be dominated by the existing industy players.

Then maybe initially they decide to give up control in exchange for more exposure. But this would be a Faustian bargain no?!

Maybe we only get the feet wet with jazz and classical musicians where creative control is a much bigger deal. Then as a track record of success is built, more mainstream artists come along.

(c) Equity in a product is only of value if it can be converted into a $$$ value. The scenario for disengaging from a VC and taking your equity means the relationship has failed - To convert your asset into a marketable commodity either you go to another VC and dilute your existing asset investing in a new relationship or take it to a traditional label. If ithe artists holding is ever less than a controlling share this would potentially pose a problem and from experience a lot of VCs like to be in control.

I purposefully wanted to stay away from the actual deal structure due to complexity that can arise. But I am saying the equity will be cash flow based for the most part and the artist will also own a certain percentage of the catalog. The company would not have to fail for anyone to create $$$, the ownership claim is on profits.

So if Artist A has 60%, they keep 60% of resulting profits and the VC 40%. Profits, to be fair, would be minus standard production costs. This arrangement could be revised periodically as musicians want to increase or decrease services provided by the Music VC. There might be good reasons to give a Music VC controlling interest is the track record is strong and exposure is greater or session players are higher quality, etc.

I envision that better artists will be able to get controlling equity. The Music VC still would do far better than running a small label in percentage terms.

I can undertand and sympathise with the artists concern over the costs they are exposed to - but the maths needs to be done on this - have you constructed a model with different scenarios to look at market penetrations and cost/reward distribution ?

No but I am sure it can be done very easily. This is a thought exercise, I am already pushing an innovative business model in my current job.