Long criticized for failing to "get" the Net, major record companies this year have begun to experiment with digital distribution. Just this week, for example, Universal Music Group joined other "Big Five" labels offering music downloads for sale over the Internet.
Such efforts have been enormously influenced by Napster, according to analysts and music executives, who point to the service as the benchmark for the online music business. That credit comes despite the recording industry's lawsuit against Napster alleging massive copyright violations, which led a judge last week to order the start-up to essentially shut down pending a trial. The ruling is on appeal.
"Whether Napster wins or loses is highly irrelevant," said Mark Mooradian, an analyst with Jupiter Communications. "What everybody should be looking at is who's going to be smart enough to create a business model based on this service."
One reason people love Napster is that they can use it to get free music, something the record labels have no interest in mimicking. But on many other points, analysts say that the music-swapping service--for now the record industry's public enemy No. 1--is also its top mentor.
Though the start-up does not make a dime in revenues, the service has put its finger on precisely what online music consumers want: fast access to a comprehensive library of songs to download.
Before such a model can work with online music sales, record labels have to learn from Napster, analysts said. The labels will need to license their closely held music libraries to third parties to match Napster's broad offerings. In addition, they must find an interface that "a moron could use," as one industry insider put it, referring to the start-up's ease of use.
Record companies still have a long way to go on these fronts, analysts and music executives said, as most continue to keep tight control over their catalogs of copyrighted works. Though the companies offer some music downloads over the Internet, consumers still have no place to go legitimately to find the breadth of Napster's collection.
Analysts say that until labels relax their control, there is little chance of creating a viable online marketplace for legitimate music, because music consumers do not care, or even know, about which labels distribute their favorite artists. Offering a service that lets people access songs only from one label's enormous library remains a limitation, not a liberation, they say.
The labels "don't have the ability to aggregate an offering like a third party can," said Marc Geiger, CEO of Artistdirect, a network of Web sites for popular musicians. "You never achieve a complete product offering for a consumer."
Where to find the libraries
Given the advantages of one-stop-shopping, labels will pursue licensing deals with third parties to push their content online, analysts predict.
Already, some record labels have begun striking licensing deals as one powerful way to jump-start digital distribution efforts. The deals are potentially lucrative given the high price that Web sites must pay for access to the labels' prized libraries. As a result, record companies can reap cash while slowly opening their vaults to music lovers.
Two examples of licensing deals have recently been hashed out. Since June, online music site MP3.com has settled its copyright infringement lawsuit with the three of the Big Five record companies: EMI Recorded Music, Warner Music Group and BMG Entertainment. Included in the settlements were nonexclusive licensing deals that allow the company's My.MP3.com service to stream songs from recently purchased CDs.
Although financial details were not disclosed, the settlements and licensing fees would total millions of dollars in payments.
Meanwhile, start-up Musicbank, which has created a music storage service similar to My.MP3.com, has licensed catalogs from BMG and Universal. Although the company has not disclosed the terms of the deals, one source familiar with record label licensing terms said the pacts were based on a per-play basis, as well as on up-front sums.
From the record companies' perspective, all of these deals have the added benefit of tying CD retail sales into the service. People who shop at select music stores can access their newly purchased albums on the services. The songs are then available to be streamed over the Web and onto a consumer's computer.
Another bonus is the elimination of any downloads. Both My.MP3.com and Musicbank stream songs to their customers. That prevents people from distributing downloads to friends, or worse, sharing the files on Napster.
"The great thing for labels is they're not losing control of the products if they're streaming it," said Jupiter's Mooradian.
Shake your money maker
Despite the revenue windfall from these deals, licensing remains a temporary solution.
"Taking $20 million of advances today from a variety of licenses is certainly interesting," said Andrew Lipsher, senior vice president of worldwide corporate development at BMG. "But over the long term, is that going to help you to build and grow the music market? I think as an industry we have to get more creative in ways of licensing products."
While embracing licensing revenues, Lipsher said BMG is also interested in taking stakes in new Internet companies. This gives the label a stake in the start-up should it become the next online success story.
"My belief is the third parties will have a greater degree of likelihood to succeed than the major record companies doing it on their own," Lipsher said.
Although traditional labels and online start-ups are beginning to see eye-to-eye, labels are still wary of the Net's potential threats to their businesses. Often, licensing deals are struck with go-for-broke fees that only a few well-financed start-ups can afford.
"The structures that I've seen are ones that are generally done without any risk to the label," said David Pakman, founder of Net music locker Myplay. "The Internet start-up...bears all the risk."
In short, the record labels want in, but only on terms that strictly protect their copyrights.
Building the next Napster
In the meantime, the shadow of Napster looms large over the industry. Record labels and online music companies agree that Napster has opened many eyes to what works on the Internet. The push is toward developing a service that's easy to use and--most importantly--that protects the copyrights of artists signed with the record companies.
The hard part, of course, is building it. A Net start-up would have to spend millions just to license libraries from all five major labels. Even if the deals go through, it would take a lot of sweat and dollars to convince fans to pay for songs rather than access them for free on any file-sharing service, such as Napster, Gnutella or Freenet.
Myplay's Pakman said the pieces for a legitimate file-sharing service are there, but they have yet to be stitched together.
"There's been nothing competitive with Napster from a consumer perspective," he said. "Combine (the five major labels), Listen.com, EMusic, Myplay and Liquid Audio, and you get a very compelling Napster alternative that protects the labels' interests and rights."