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September 2, 2008 / 4:05 AM / 10 years ago

Labels, game developers feud over fees

By Antony Bruno - Analysis

DENVER (Billboard) - When you contrast the financial struggles of the music industry with the skyrocketing success of the videogame market, it’s no surprise record labels are ready to play hardball on future music licensing.

The latest data from NPD Group find that U.S. videogame sales totaled more than $9.5 billion through the first seven months of 2008, a 35% jump from the same period last year. And in a recent report, UBS analyst Ben Schachter credits music games like “Rock Band” and “Guitar Hero III” as a critical factor in that success — responsible for 15% of game sales so far this year and 32% of the industry’s year-over-year growth.

As such, it’s hard to blame Warner Music Group chairman/CEO Edgar Bronfman Jr. for wanting a bigger slice of that pie. During a conference call with Wall Street analysts to discuss the label’s fiscal third-quarter operating results last month, Bronfman lambasted the “paltry” per-song licensing fees labels get when making their content available in music games and warned that Warner would stop licensing to them if the model did not change.

His comments were a tacit admission that the labels, like many others, completely underestimated the potential of the music games market, and as a result struck a bad deal. The industry settled for a standard soundtrack licensing approach that provides a royalty based on unit sales for any music included in the game at purchase and a percentage of each downloadable song bought afterward — which amounts to far less than the 70% split labels get from iTunes.

The massive success of these games and their financial impact has labels rethinking their approach. They now want a partnership more akin to how sports leagues like the NFL license their players’ likenesses and other assets to games like “Madden NFL,” which, depending on the deal, provides upwards of 30% of total revenue.

But it might be too late. Like iTunes before it, both music games have become too powerful to simply ignore. Bobby Kotick — CEO of Activision, which owns “Guitar Hero” publisher Red Octane — is already flexing his muscles, telling the Financial Times recently, “We’re going to favor those publishers that recognize and appreciate how much we can add value to their artists.”

By itself, the argument that the promotional benefits in some way trump the need to pay for music is a losing one from the start. But he’s got a strong case. In addition to being a new sales platform in its own right — in some cases selling more tracks via the game than iTunes — these games also have a measurable short-term effect on increasing the sales of featured songs on other platforms, from which the game makers see no return. According to Nielsen SoundScan, Aerosmith’s catalog sales jumped 40% after “Guitar Hero: Aerosmith” arrived.

What’s more, the developers of these games spend far more on the programming required to optimize each track for the respective title, resulting in development costs that a simple digital retailer doesn’t incur. In essence, game developers are doing exactly what the music industry wants: investing in the music itself to increase its value to consumers.

And then there’s the matter of risk vs. reward. The early versions of “Guitar Hero” contained mostly cover songs because many labels and artists didn’t want to license their masters, feeling it would somehow diminish their art by letting fans play along.

Activision and MTV, meanwhile, made the big bets — buying Red Octane for $100 million and Harmonix for $175 million, respectively — and are rightfully reaping the rewards. Hindsight is 20/20 of course, but if the music industry really wanted to make a splash with music games, a label would have bought one of them instead.

So now begins the process of jockeying for position, which won’t be easy for either side. Labels can play the various competitors — hungry for exclusives — off each other much more easily than they can in the digital retail space, where iTunes is dominant. But game developers can do the same with labels. It will be particularly interesting to see how Vivendi’s ownership of Activision and Universal Music Group comes into play.

How this is resolved ultimately will have major repercussions on the next anticipated evolution of the space: the incorporation of an iTunes-like store. Currently, music purchased through the games are accessible only in the game itself. All parties are interested in developing a process by which buying a song for the game would also deliver a copy to load onto a customer’s MP3 player as well.

“This is a real opportunity for us to figure out how people can buy music and get it across different formats,” Red Octane co-founder Kai Huang says. “That’s something we have to work out with the music industry. It could be one year. It could be 20 years. But it may never happen if the music industry doesn’t cooperate.”

But that cooperation goes both ways. It’s interesting that the same critics who gleefully point to the music industry’s mistakes for its current financial situation equally decry the moves taken to fix it. A $1 billion market leaves plenty of middle ground.

Reuters/Billboard

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