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Less than a penny. That’s how far apart the parties are in a colossal, six-month proceeding now unfolding at the U.S. Copyright Office. But that fraction of a cent has major implications for the future of music on the Internet. At stake is how much artists and record companies will be paid in royalties for each song heard by each listener via Internet radio — a new rate that has to be formulated from scratch. The proceeding, known as the Copyright Arbitration Royalty Panel, or CARP, pits copyright owners — record labels and artists who are pushing for a relatively substantial royalty rate of four-tenths of a cent per listener per song — against broadcasters, who argue the rate should be about 30 times less, or about .015 of a cent. “This will set the precedent,” says Arnold & Porter partner Robert Garrett in Washington, D.C., who represents the copyright owners and the Recording Industry Association of America (RIAA). “It’s an extremely important proceeding. A lot of people feel the future of music lies on the Internet.” On the other side of the aisle, Kenneth Steinthal, a Weil, Gotshal & Manges partner who represents the broadcasters, agrees the outcome is crucial. “The difference in one-tenth of a cent per performance, when you’re talking about billions of performances, changes the economics of the entire industry,” he says, adding, “It would make the cost of Webcasting so prohibitive it wouldn’t exist.” To date, Webcasting remains a small but growing segment of the radio business, especially among young people. The digital research firm Webnoize polled 13,000 college students and found 86 percent of them listen to Internet radio. Overall, the total U.S. audience is estimated at 75.5 million. For listeners, the appeal of Net radio is being able to pick for free from hundreds of genre-specific channels. Under the heading of “modern rock,” for example, one could opt for Brit pop or Gothic or indie rock or dozens of other niche sounds. The royalty rates now being set will be applied retroactively to 1998, when the Digital Millennium Copyright Act was passed. The rates will run through 2002, as well as serve as the basis for future adjustments. It will be the first time broadcasters will shell out royalty payments to artists and record labels: Under a long-standing exemption, conventional AM/FM radio stations pay no royalties for their over-the-air broadcasts. In a cramped, windowless room on the fourth floor of the Library of Congress, a trio of private arbitrators is presiding over the hearing, which involves more than a dozen lawyers and some 60 witnesses from the music industry, ranging from RIAA head Hilary Rosen to Infinity Broadcasting Corp. President Dan Mason to singer Alanis Morissette. BOTH SIDES NOW AOL Time Warner has also jumped into the fray, but in an unusual and not entirely rational move, the company has executives from two different divisions arguing both sides of the issue. Last week, Paul Vidich, an executive vice president for Warner Bros. Records, urged the panel to adopt the higher royalty rate. Still to come in the next four weeks of hearings is Fred McIntyre, executive director of business development at AOL Music/Spinner.com. He will push for the lower amount. AOL Time Warner spokeswoman Kathy McKiernan notes that the company as a whole has not taken a position on the proceedings. As for the two divisions on opposite sides of the fence, well, “their points of view come from the industries they participate in,” she says. “Spinner and Warner both agree [record] labels should be compensated. It’s just a matter of the amount.” The copyright holders arrived at their four-tenths of a cent royalty rate (or, alternatively, 15 percent of an Internet broadcaster’s revenue, whichever is less) based on existing deals struck with 26 different Webcasters. “Overall, a review of these 26 proposals would find that they reflect our .4�/15 percent gross revenue proposal,” says RIAA Communications Director Jano Cabrera. Further, RIAA emphasizes that the relevant statute, 17 U.S.C. Section 114, directs the arbitration panel to set royalties at a level that will “most clearly represent the rates and terms that would have been negotiated in the marketplace between a willing buyer and a willing seller.” In testimony last week, Gregory Hessinger, national executive director of the American Federation of Television and Radio Artists, urged the panel to keep that standard in mind. “The place to look is the fair market. … There has been a marketplace, and there have been willing buyers and willing sellers,” he said. But Steinthal, who represents the interests of broadcasters, counters that the Webcasters overpaid. “Evidence will show that looking at the circumstances of the companies that did these deals, there was always a unique explanation,” he says. Many of the companies never launched or have gone out of business, and others were threatened with copyright infringement lawsuits, he says. He also notes that these 26 Webcasters represent a tiny portion of the 2,000 companies that have applied for the statutory copyright license — a blanket arrangement that frees Net radio stations from having to negotiate royalties with individual copyright holders. However, interactive Web sites, where users pick the songs they want to hear and opportunities for piracy abound, are not eligible for the license and must make their own royalty arrangements with copyright owners. “This is not about us trying to chisel artists and record companies out of their royalties,” says Steinthal. “But RIAA’s proposal would make uneconomical the whole business of Webcasting.” Perhaps the biggest potential winners in the proceedings are the artists. As Hessinger explained, artists with royalty provisions in their contracts make between $1.00 and $2.40 per CD sold. But they also have to pay for production and split promotional and video costs. The studio will front them the money — say $250,000 — and then keep all royalties until the debt is paid. Since most artists don’t sell 250,000 albums, most never see any money. But in the Digital Millennium Copyright Act, Congress specified that Webcasters had to pay royalties — royalties that cannot be confiscated by the record labels. “This is real money in the pocket of the performers,” says Hessinger. To him, the higher royalty rate is justified since “a new revenue stream is being created where, literally, the entire business is being built on nothing other than the work product of performers.” In related litigation, conventional radio stations that stream their airwave broadcasts over the Internet had argued they shouldn’t have to pay Web royalties and sued the Copyright Office for ruling otherwise. But on Aug. 1, a Philadelphia federal judge unequivocally rejected their position and backed the Copyright Office. “While it is true that broadcasters traditionally have not been subject to any public performance right for using a recording in an AM/FM broadcast,” wrote Judge Berle Schiller of the U.S. District Court for the Eastern District of Pennsylvania in Bonneville International Corp. v. Peters, “the streaming of broadcasts over the Internet is not part of the traditional practices of AM/FM broadcasters which form the basis of their traditional relationship with the recording industry.” The decision, which may still be appealed, means that some 1,500 AM/FM radio stations will be bound by the CARP proceeding royalty rates. The arbitrators — former D.C. Superior Court Judge Curtis von Kann, Massachusetts lawyer Eric Van Loon, and ex-Maryland Administrative Law Judge Jeffrey Gulin — are being paid by the parties on both sides and have until Jan. 28, 2002, to make their final ruling, subject to approval by the Librarian of Congress.

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