Pandora’s Harrison may soon be asking “Brother can you spare a trillion?”
Did Pandora’s legal eagle Chris Harrison create a trillion dollar hole in Pandora’s balance sheet?
Last month’s earnings report by Pandora was interesting in many ways. But the most interesting thing about it was what was not mentioned. The stunning omission of potential liabilities associated with Pandora’s refusal to pay royalties on pre-1972 sound recordings.
Under the leadership of Chris Harrison, Pandora’s legal team has adopted a bizarre interpretation of federal copyright law that in essence argues that statutory royalties for pre-1972 sound recordings were not federalized. As a result Pandora is not paying royalties to performers on recordings made before 1972. This is potentially a significant amount of revenue for the money losing company. (Pandora trumpets Non-GAAP “profits”, or “Non Generally Accepted Accounting Principals” calculations of profit. Or as prefer here at the Trichordist “Unicorn Dollars”).
While Sirius and Clear Channel have adopted this funky legal rationale as well, it should be noted that more sober firms like Apple and Microsoft have not.
The problem with this legal strategy is that if this goes to court, win or lose, Pandora has created huge liabilities either way.
Let’s give Harrison the benefit of the doubt. Let’s say that the federal copyright act in fact did not federalize performance royalties for sound recording copyrights pre-1972. The only logical conclusion is that the State laws that protected sound recordings in 1972 still cover those recordings.
Wow. Time to dust off the bell bottoms and dig into some vintage state laws.
There are 50 states, Washington DC, and several US Territories that could now be potentially brought into the dispute.(There are pre-1972 performers and rights holders in every single US state and surely most territories). It’s highly likely that at least some of those state protections would kick in again. All it would take is one performer or rightsholder from one state to successfully assert their rights and all digital broadcasters would be screwed. This is not such a remote or theoretical possibility. I’m told that The Turtles’ lawsuit against Sirius for $100 million dollars already anticipates this. (The Turtles have sued Sirius in NY, Florida and California so if The Turtles beat Sirius…Pandora could be next. In NY, Florida and California for starters.)
But more troubling, is the fact that if there is no federal copyright protection for these recordings, then Pandora lacks a clear compulsory license–or any license–to play or reproduce any of these recordings. Compulsory licenses are what allows the company to play the recordings without negotiating directly with the rights holders. All webcasters rely on these compulsory licenses so they don’t have to go around and license each and every single song.
This would be a clusterjam™ of epic proportions. I don’t’ think it is possible to effectively quantify the downsides of this outcome. Uncharted territory. Total uncertainty. It would effectively throw not just Pandora but the entire broadcast, webcasting and web industry into chaos. (NAB are you guys paying attention to this shit? You might soon have a very big problem on your hands.)
Pandora can’t possibly want to really win this one right?
Alternately it’s equally bad if Pandora loses. Suppose a legacy artist like The Turtles sues Pandora and federal courts determine that performance royalties for Pre-1972 recordings are in fact covered by the federal copyright act. First Pandora would presumably have to pay for years of royalties owed on ALL those pre 1972 recordings. (Do they have reserves for this? A cursory glance at their financials did not show this.) But the real problem for Pandora is that they could be liable for huge penalties for copyright infringement. And I mean GDP scale liabilities.
Pandora CEO McAndrews noted in 1st quarter 2014 earnings that pre 1972 recordings represented about 5% of the spins on pandora. So 5% of all of Pandora’s spins would then be infringing. McAndrew in that same report noted listening hours of 4.6 billion for the quarter. So conservatively ten songs an hour that means 46 billion streams a quarter or 184 billion streams a year. Now by McAndrews own reckoning 5% or 9.2 billion of those streams are infringing each year. What are the penalties for willful copyright infringement?
$200-$150,000 per infringement. So on the low end that’s 1.84 trillion dollars.
Now obviously Pandora is not gonna get fined a trillion dollars. But if they lose a class action suit because of this? The damages will be substantial. Will it be $100 million? $250 million? $1 billion? If the Turtles are asking $100 million from Sirius, BILLIONS is not an implausible number. Obviously it’s a substantial risk (even if the relatively short 3 year federal copyright infringement statute of limitations applies–which Pandora says it doesn’t).
I’ve had some people suggest that Pandora could settle bit by bit with each major record label which have aggregated most of these recordings and hence limit their liabilities. But this seems unlikely to me as:
1) Record labels no longer need Pandora as they have substantial interest in Spotify and Beats.
2) Pandora’s scorched earth policy towards rightsholder has left it NO friends in the music community . Zero. Zilch. Like, “I wouldn’t even piss on you if you were on fire.’ That kind of “no friends.”
Further these missing royalties are not only due to record labels, federal laws require 45% of these revenues go to the performers. Pandora would have to buy off all the performers as well.
McAndrews and Harrison’s best hope is that they can keep kicking the can down the road for a few more years. Just enough time for all those options to vest and leave some sucker holding the bag.