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Hear that? Pandora and artists finally reach sweet harmony

Pandora's first ever direct deal with labels marks a new age for artist relations at the No. 1 streaming-music service and may usher Pandora into a world of long-term opportunity.

Joan E. Solsman/CNET

After years of hitting sour notes with artists, Pandora seems to have struck the right chord at last.

The Internet's biggest streaming-music service, Pandora unveiled its first hand-in-hand partnership with music creators and distributors on Wednesday through Merlin, a group representing more than 20,000 independent labels worldwide. Pandora will use its recommendation engine to match Merlin members' musicians to the right listeners and will turn over metadata about that listening directly to artists for the first time, as well as set up customized channels for acts to communicate with fans.

The partnership augurs a new age of harmony with artists for Pandora just two years after 125 top artists accused Pandora of trying to "gut" artist payouts and a year after Pink Floyd lambasted it with claims of trickery to cut royalties. The deal also clears the brush away to show a possible route for the Oakland-based company to expand overseas further down the line, coming at a time when investors skittish about the company's growth prospects have pushed shares 38 percent off its all-time high in March.

Pandora Chief Executive Brian McAndrews said in an interview that Pandora, which plays 125,000 artists a year versus the few thousand that make it on traditional radio, is already bringing to the surface artists who would have never gotten exposure to listeners otherwise. "We think this deal will only accelerate that," he said.

The real music to artists' ears? Merlin CEO Charles Caldas said he expects to see "royalty payments increase significantly."

A direct-to-label first

Pandora differs from its main online competitors like Spotify and Apple's iTunes Radio by forsaking direct licensing pacts with music rights holders like labels for what's known as a statutory license. It was a structure set up by U.S. Congress that allows Pandora and other Webcasters to play songs and pay fees at a set rate, without having to secure artist or label go-ahead first.

The set-up allowed Pandora to launch its radio service with a large catalog of music, helping it to eventually grow to more than 76.4 million active users and a 8.9 percent of total radio listening, as of June. But this limited what listeners could hear -- it's the reason you run out of song skips on Pandora and can't listen to the exact song you want -- and the set-up curried no favor with artists when Pandora advocated legislation to cut royalty rates.

But the partnership with Merlin is Pandora's first direct deal with labels, which both companies promise will reap rewards for everyone involved.

Merlin is the music licensing rights agency representing independent labels around the world, essentially the closest things that indies come to being a major label. Most of the recorded music industry is made up of three major players: Universal -- the biggest, Sony, and Warner. Independent companies comprise the remaining slice, and indies under Merlin's umbrella account for more than 10 percent of the US digital music market, according to the group, the biggest share outside of the big three.

Financial terms of the deal were confidential, but McAndrews said cutting costs for Pandora, where content payments routinely gobble up more than half the company's revenue, wasn't the point. "Cost issues on our side were not the major driving factor for this deal," he said.

Booths at Pandora's headquarters in Oakland, Calif., are illuminated by lights spelling out "radio." Joan E. Solsman/CNET

Repairing artist relations

Caldas said Merlin artists stood only to gain. "Nobody is going to be worse off under this deal," he said. "Merlin is not going to do any deals that would diminish the value of our artists."

The deal has the immediate effect of burnishing Pandora's reputation as a friend to artist rather than foe.

In 2012, Pandora's advocacy of a bill that would reduce royalties paid out by Webcasters rallied artists and other members of the music industry against it, with accusations Pandora was seeking to cut already meager payments to musicians by 85 percent. Pandora's attempt at renewed outreach to artists the following year sparked Pink Floyd's scolding.

But music insiders' reaction to the Merlin partnership is in a much more upbeat key.

Martin Mills -- chairman of Merlin and of the independent label Beggars Group, which represents bands The National and Vampire Weekend -- called it a win-win. Dave Hansen, the general manager for label Epitaph that represents Tom Waits and Wilco, said the deal is a "great opportunity for Merlin's coalition of independent labels, along with the artists we are proud to represent, to gain additional exposure, increase revenue, and communicate directly to fans."

International routes

That goodwill is more than just improved PR; it could affect Pandora's ability to tap markets overseas down the line. The partnership with Merlin applies only to Pandora's US business. But by setting up direct deals with labels for the first time and doing so with an organization that represents 20,000 labels around the world, Pandora has opened the door to international expansion that has long been out of reach. The question is whether -- and if so, when -- Pandora will step across the threshold.

Joan E. Solsman/CNET

Pandora's primary business is in the US. It has fledgling operations in Australia and New Zealand, but the 2 million registered users it crossed there in July are dwarfed by the more than 250 million registered users Pandora has when the US is included.

Pandora's model, built upon a statutory framework specific to the US, has crimped its ability to spread overseas. To move abroad, it needs direct deals with rights holders, and until now, rights holders haven't been warm to the service.

Though the Merlin deal only applies to Pandora's business in the US, McAndrews said fostering relationships through the group can open up international possibilities long term. "The direct deals bring on opportunities for conversations that go beyond the statutory framework," he said.

The partnership also comes as investors are questioning how well Pandora can continue to grow while giants like Apple, Amazon, and Google add streaming rivals to a field of upstarts like Spotify globally, with Pandora's licensing model keeping it planted in the US. Though Pandora continues to add active listeners, the rate of growth appears to be dribbling lower. Last month, Pandora reported active listeners were up 7.5 percent at the end of the quarter, after rising 8 percent at the end of April and 9 percent at the end of May. That slowing rate spooked investors, contributing to a 10 percent sell-off in Pandora shares the following day.

Staying the Pandora you know

Though setting up its first direct deals with labels could also open the door to Pandora morphing from a radio-like service with limited listener controls to more of an on-demand service like Spotify or Apple's Beats Music, McAndrews said that's not in the offing.

An on-demand service in which you can pick the specific song you want to listen to, is not part of this deal, he said. "Anything is possible but this was really about using our current model and enhancing it," he said.

For the first time in a long time, it looks like enhancing Pandora's business may enhance its relationship with the music community at large.