Digital Media

Weeks after writing off its Imeem investment, Warner Music Group has once again thrown in with the video- and music-focused social network, a source confirmed on Monday.

Only this time, Warner doesn't have to dip into its wallet to acquire an even larger interest in the start-up, according to a story by Peter Kafka at All Things Digital, who broke the news.

What the third largest recording company has agreed to give up for the stake is to rip up the old licensing contract and create a new one that asks for less money each quarter, according to Kafka. My source, who is familiar with the deal, confirmed this.

Warner didn't appear happy last month about having to write down $33 million, most of it from investments made in music site Lala and Imeem.

Warner Music's writedown--$16 million in Imeem and about $11 million in Lala--is a reflection of the company's valuations during the economic downturn, said Edgar Bronfman Jr., Warner Music's CEO at the time.

The top four music labels--Universal Music Group, Sony Music Entertainment, Warner, and EMI--have all been relaxing the financial terms they require from start-ups.

Too bad SpiralFrog and Ruckus couldn't have held out a few more months, perhaps the music services that went bust earlier this year might have negotiated better terms.

Investments made in Web music services Lala, Imeem, and MySpace Music haven't paid off for Warner Music Group, at least not yet.

The third largest of the four biggest recording companies said Thursday it would write down $33 million, most of it from investments made in Lala and Imeem. Edgar Bronfman Jr., Warner Music's CEO, also said after the company issued quarterly earnings report that MySpace Music's performance has so far "disappointed."

Warner Music's write down--$16 million in Imeem and about $11 million in Lala--is a reflection of the company's valuations during the economic downturn, Bronfman said.

Ad supported music services are being hit hard by the ailing economy and the hobbled online ad market. As ad revenues disappear, these companies are trying to charge for some of services, but they haven't gained much traction yet. No one in the sector, not even YouTube, has reported profits. Apple, which sells downloads and doesn't rely on advertising, continues to be the only significant music service making money from the sale of music downloads.

The big question is whether Warner Music's recent moves--the write down, the label's acrimonious departure from YouTube, and decision not to invest more money in Imem--is a reflection of a larger pullback from the tech sector by the music industry.

Imeem, a social-networking site, was teetering on collapse recently, but sources told CNET News that it had received new investment that will keep the site operating for much of the year.

Lala has gone through several business models, but the latest iteration has encouraged some of the music labels with the amount of revenue it has reported generating, music industry sources said several months ago.

MySpace Music is the joint venture founded by News Corp., and the music labels. On Wednesday, CNET reported that some of the labels were dissatisfied with the revenue generated by the 8-month-old music service.

In a conference call with reporters to discuss Warner Music's financial performance, Bronfman said of MySpace: "We continue to hold out a good deal of hope...but, you know, without putting too fine a point on it, (MySpace Music) has disappointed us so far.

"We feel MySpace Music has been slow to create monetization tools," he said, "and to be able to impact in a revenue-generating way, the massive audience that they have been able to attract."

Peter Kafka at All Things Digital was first to report Warner Music's write-down.

Neil Young wants YouTube to cut deals with the four big labels that would compensate artists equally.

(Credit: Neilyoung.com)

Update 9:20 p.m. PT: To include YouTube's response.

Neil Young wants to remind YouTube that Rockin' in the Free World isn't free.

The iconic musician, whose hits include "Harvest Moon," "Cinnamon Girl," and "Rockin' in the Free World," says in a blog post that YouTube doesn't fairly compensate acts represented by Warner Music Group.

Young is referring to the spat that erupted in January between Warner Music and YouTube. The two companies couldn't come to terms on a new licensing agreement and Warner Music's content was pulled from YouTube.

"YouTube has a responsibility to respect the artists it facilitates and resist punishing them to make a business point," Young wrote at his site, Neilyoung.com.

YouTube responded to Young's criticism Monday evening by noting the company "connects music, musicians, and fans. We have deals with all of the other major record labels...It is the record labels' responsibility to represent and pay their artists."

Representatives from Warner Music could not reached for comment.

In the past, YouTube has struck separate licensing agreements with each of the top four record labels. The Google-owned company is amid renegotiating those deals. In 2006, Warner was first among the labels to partner with YouTube. The other labels signed later but negotiated better terms, according to numerous industry sources.

Now, Warner wants what competitors received. Presumably, YouTube isn't offering all of them.

"It is time for industry-wide standards of artist's compensation on the Web," Young wrote. "Warner Bros. artists deserve what artists from other labels are getting."

Corey Vidal is no pirate, but he's been branded one as a result of the licensing spat between Warner Music Group and YouTube.

On YouTube, Vidal posted a humorous video tribute to John Williams, the man who scored the soundtracks for such blockbuster films as Indiana Jones, and Star Wars. In his clip he included some of Williams' music. By now, everybody knows that YouTube removes videos that violate copyright law. What's different about Vidal's work getting pulled is that when he posted it in October, he was permitted to use Warner's music.

Until last month, YouTube had an agreement with Warner Music--one of the four largest recording companies--that allowed video creators to include the label's content in their clips. Last month, talks to renew the deal broke down and that means YouTube and its users no longer have access to Warner's library. For this reason, the case is much different than YouTube's high-profile fight with Viacom or run-of-the-mill piracy that once flourished on the site.

In 2007, Viacom and YouTube failed to come to terms on a licensing deal and Viacom requested that YouTube pull its content. In that case, there was no prior agreement. Most of the people who posted Viacom's films or TV shows to YouTube did so without authorization. In this situation, YouTube fans used Warner Music's songs for two years with the label's blessing. Now, through no fault of their own, the videos that YouTube users made in good faith are being yanked.

"I don't understand who I'm harming," said Frank Stallone, a 41-year-old former DJ who is quick to point out that he is not the less-famous brother of the box office draw. Stallone's video was removed for using 45 seconds from "Forget Me Nots," a 1982 song from Patrice Rushen. "If anything, people are hearing the 45-second tease they haven't heard in a while and they'll want to go out and buy the song," he said.

Warner Music declined to comment, but YouTube had this to say: "While we work with music labels and publishers to keep music on the site, sometimes our negotiations don't pan out," said a spokesman for the company. "In those cases, we try to give people options when they receive a copyright claim. Instead of automatically blocking videos, we give uploaders the choice to dispute the claim (in the case of Fair Use, for example), use our AudioSwap tool to replace the track with one from our library of pre-cleared music, or to replace the video with a new version with no sound."

If nothing else, the situation serves as a warning to those who think that because YouTube obtains rights to music or films one day, the agreements will last forever. That's just not how these deals work.

One of Corey Vidal's fans has reposted the video that was removed at Warner Music's request.

(Credit: YouTube)

That hasn't stopped some YouTube's fans from posting angry videos denouncing the situation at YouTube. Most of the protest videos take aim at Warner and the other three top recording companies. While all four of the big labels are in discussions about renewing licensing agreements, Warner is the only one scuffling publicly with YouTube.

In fact, sources close to the situation say YouTube is close to finalizing a new agreement with one of Warner's chief rivals: Sony Music.

The situation illustrates how Web services and entertainment companies are learning hard lessons as they cover uncharted ground. It's doubtful that Warner Music or YouTube intended to alienate their customers. Presumably Warner Music wants more concessions from YouTube and the Web's No. 1 video site wants to pay less. What they likely didn't consider when they penned their initial contract was what would happen to users if they failed to agree on a new deal.

Vidal, a 22-year-old from the Canadian province of Ontario, is more than happy to help them understand.

Vidal makes his living by creating YouTube videos. He's a member of the company's YouTube Partners program. This allows him to sell some of the advertisements that accompany his clips and pocket the money. He says that his videos see about 3.4 million to 4 million views per month and YouTube is his only source of income. As for how much he makes, Vidal only will say it's enough for him to live comfortably.

Vidal hit the jackpot with his tribute to Williams. YouTube featured it on the site's front door. He says for a time the clip was generating a million views each day and was nominated for a "People's Choice Award" at CBS, parent company of CNET News.

But on January 18, Vidal's cash cow went down.

YouTube sent him a notice that said Warner Music had claimed his video had infringed on the label's copyright. Vidal doesn't dispute that the label owns the rights to the music he used. "I'll share the money I made with them but I just want my video back up."

But he has so many questions about whether his video truly violates copyright law and if so, what part of the video infringes? That's the other problem raised by the quarrel between Warner Music and YouTube. When users are dragged into it, there's few places to get answers. Vidal said he called Warner Music and talked to about half a dozen people in the eight days since his video was removed. He has yet to hear back why exactly the video was pulled down or whether he and the record company can strike a separate deal.

To its credit, Viacom set up a support hot line to help answer questions and address disputes when it began pulling content from YouTube.

That's what Stallone, the former DJ, says he needs. He says he doesn't think using 45 seconds of a song is breaking any law, but he doesn't have anywhere to go to get legal help. Also, he said he was discouraged by some of the language in the takedown notice YouTube sent him. Specifically, this passage: "There are very few valid reasons for disputing a claim," YouTube wrote in the notice. "Submitting an invalid dispute can result in penalties against your account."

Stallone wants to know how he's supposed to determine what an invalid dispute is?

YouTube users should not assume copyright holders are always correct when they accuse someone of a violation, according to Fred von Lohmann, senior attorney for the Electronic Frontier Foundation, a watchdog group that advocates for the rights of Internet users. In the Viacom case, for instance, the company acknowledged erring in a small number of cases.

In another case, a Pennsylvania woman is suing rocker Prince and Universal Music for accusing her of copyright violation for including a brief snippet of Prince's music in a video of her baby. Universal and Prince dropped their copyright claims against the woman and her video has returned to YouTube.

I'm no lawyer, but Stallone's case sounds very similar.

Warner Music Group has been saying since Saturday that it was the one who asked that the label's videos be removed from YouTube after talks to renegotiate its licensing deal with Google's video site stalled.

That's not what happened, say two high-level sources with knowledge of the negotiations.

YouTube began removing videos from its site after Warner came to YouTube with an "11th-hour demand" for better financial terms, according to the sources. All four of the top recording companies are renegotiating their contracts with YouTube for music and music videos.

Managers at the Web's largest video site considered Warner's demand. The label received its answer when YouTube began pulling videos. YouTube also beat Warner to the punch by firing the first public relations volley when it notified the public of the split by posting a note to the company's blog. Ever since, Warner's PR people have been busy trying to get their side of the story out.

Perhaps that's why headlines have resurfaced about how all four of the top labels are interested in building their own YouTube competitor, and how YouTube isn't driving much money to the record companies, and how Warner's departure may be a bad signal for YouTube.

None of that is accurate. Here's what my music industry sources said: the labels have not made any serious plans to build their own music-video site, at least not those that have tallied big returns from video streaming and YouTube. I reported earlier this year that Universal had considered a video site, but the plan hasn't gone anywhere since.

As for the kind of revenue YouTube is delivering to the labels, Silicon Alley Insider reported that Universal Music Group is making as little as $25,000 a month on ad revenue fees. That is flat out wrong, my sources said.

An executive with Universal Music Group told me on the record last week that YouTube has made the No. 1 music company "tens of millions" of dollars this year. I reported, as did Peter Kafka at All Things Digital, that Universal is on track to book nearly $100 million in video-streaming revenue this year. Some of that money comes from other services, but the source said 80 percent is from YouTube.

By all indications, Warner overplayed its hand. YouTube can afford to let Warner walk. The vast majority of music listened to at YouTube comes from the two largest recording companies: Universal and Sony BMG. Universal, the label that represents U2, Kanye West, and The Rolling Stones, is the most-viewed YouTube channel all time with more than 3 billion views. Sony BMG is a distant second with 491 million views.

Warner isn't even in the top 10. The record company's 278 million views is good enough only for 11th place.

So it appears that some labels are happy with YouTube money and Warner is not. According to my sources, some of Warner's problems with the Web's No. 1 video site are of its own making.

Negotiations between Warner Music Group and YouTube over renewing the licensing agreement for the record label's music videos broke down Friday. Early Saturday, Warner, the third largest record label, removed videos from the Google-owned video site.

The impasse comes at a time when all four major labels, including Universal Music Group, Sony Music, and EMI, are renegotiating their licensing deals with YouTube.

"We are working actively to find a resolution with YouTube that would enable the return of our artists' content to the site," Warner said in a statement. "Until then, we simply cannot accept terms that fail to appropriately and fairly compensate recording artists, songwriters, labels and publishers for the value they provide."

YouTube has become an important revenue stream for at least one of the top labels. This week, Rio Caraeff, Universal Music's digital chief, told CNET News that YouTube has generated "tens of millions" of dollars for the recording company this year, up 80 percent from last year.

Caraeff said that Universal and YouTube enjoy a strong relationship and that the companies are trying to expand their relationship beyond music videos. A source close to Universal said that the label will likely book nearly $100 million in video-streaming revenue--most of it from YouTube.

The blog All Things Digital reported this week that while the labels are starting to make money from the deal with YouTube, the video site is not. YouTube has to pay the labels each time someone views a clip, regardless of whether it's generating any revenue, according to the blog.

By pulling out of the deal with YouTube, Warner loses access to the Web's No. 1 video site, which topped 100 million visitors in October. The site has increasingly become one of the Internet's favorite ad-supported jukeboxes. Of the top 10 YouTube channels, 7 are music related. Warner Bros. Records is the 11th largest channel.

"If we can't reach acceptable business terms, we must part ways with successful partners," Google said Friday on its blog. "For example, you may notice videos that contain music owned by Warner Music Group being blocked from the site.

But YouTube's growing prominence in music could change if the site were void of music.

Some of Warner's most popular artists, who will no longer be available on YouTube, include Led Zeppelin, Madonna, TI, Eric Clapton, REM, Red Hot Chili Peppers, and the Grateful Dead.

Warner Music Group, the label that represents such acts as REM and Green Day, is the second major recording company to report healthy growth in digital sales during the past quarter.

On Tuesday, Warner reported that digital sales in the quarter ended September 30 grew 27 percent to $167 million, up from $131 million during the same period last year.

Warner also beat Wall Street expectations by reporting earnings of $6 million or 4 cents per share on revenue of $854 million. Analysts had expected to a loss of 2 cents per share on $837 million in revenue.

Two weeks ago, Universal Music Group, the largest of the four top labels, said digital music sales were up 33 percent for the first nine months of 2008. According to parent company Vivendi, this "more than offset lower physical sales."

Ever since the onset of digital music and the creation of file-sharing sites, such as Napster, the major music companies have slowly been forced to shift from physical CD sales to digital downloads. It appears now that digital revenue is making up for some of the losses in disc sales.

One big question is how much will it make up?

A flood of red ink continues to threaten to swamp most of the major recording companies. The exception appears to be Universal Music Group, the largest of the majors.

Last week, UMG said that revenue grew by 3.5 percent in the first nine months of 2008 on a constant currency basis to $3.97 billion. Compare this with some of UMG's rivals. Warner Music Group reported a $9 million net loss for the third quarter. At EMI, in the first year with new owner Terra Firma guiding the label, it has lost more than $1 billion.

So what's UMG's secret? The Vivendi-owned company saw big growth in music publishing and merchandising. CD sales, the workhorse of the industry, continue to ail, but digital music sales are starting to make up losses. At UMG, digital sales were up 33 percent and according to Vivendi, this "more than offset lower physical sales."

Warner also saw big gains in digital, reporting a 39 percent increase in sales from the third quarter the prior year.

According to my sources, some of UMG's digital success can be traced to CEO Doug Morris' negotiating skills. Morris, a former songwriter, is the king of "per-play minimum" deals said one source. Per-play minimums describe licensing deals that require companies to pay UMG every time one of the label's songs is played.

Morris was also one of the label chiefs who insist on taking an ownership stake from some services, such as MySpace Music.

Critics of these deals, such as Mp3tunes.com founder Michael Robertson, argue there is no way music services can make money paying the pay-per-play minimums. UMG has always said that it won't allow a repeat of what happened with Apple, which sold songs cheaply while reaping huge profits on iPod sales.

"If a music service is going to use music to draw lots of traffic and make lots of money, UMG is going to take its share," said the source.

UPDATE 5:15 p.m. In a move that underscores the waning significance of CDs, the EMI Group has spoken to the other three major music labels about taking over the company's U.S. music distribution, according to two industry sources.

EMI, which represents artists such as The Beatles and Coldplay and makes up about 8.2 percent of U.S. album sales, is looking to outsource distribution to one of its three larger competitors: Universal Music Group, Sony Music, or Warner Music Group, according to two sources familiar with the talks. EMI's representatives met with one of the labels as recently as this week.

The two sources disagreed on whether EMI is considering whether to give up digital distribution. One of the sources said that it's not unusual in the current economic climate for all the top labels to discuss outsourcing the "non-core" part of their businesses. According to this source, EMI is discussing only the physical "pick, pack, and ship" part of its distribution and the plan doesn't include sales or marketing functions.

A spokeswoman for EMI declined to comment.

That EMI is even considering a plan to turn over U.S. distribution to its main rivals is likely a result of the label's precarious financial situation and also an indication of how physical distribution is losing significance in the digital age.

EMI reported last week that the company's losses more than doubled in the year since Terra Firma, a European private equity firm, acquired the U.K.-based music label. The company also badly missed its targets for digital revenues. It forecast 51 percent growth but achieved only 29 percent.

Doing away with U.S. distribution could mean huge savings for EMI, said one source. It also could mean a loss of prestige as well as control.

Music distribution is a broad term and means everything from trucking CDs to retailers to deciding which acts to feature in advertisements at Wal-Mart. Historically, each of the majors has paid big sales and marketing staffs to help with these chores.

Most revenue generated by the top labels still comes from CD sales but they've been in decline for years, ever since the digital revolution began going mainstream. With CD sales in decline and with record stores disappearing around the country, the big music companies may be questioning the efficiency of operating their own distribution units.

All four majors have outsourced some parts of their businesses in recent years. For example, each has stopped pressing its own CDs.

But operating a U.S. distribution system is what major labels do. This is one of their main links to retailers, and by extension, to the public. It plays a part in how music is showcased in stores. Does EMI--should it give up its U.S. music distribution--become in effect just a large independent label?