Music Advocacy Journal Issue #4: Technical Treatise on Record Piracy – Part 3, Stratification & Levies

Introduction

In Part 1 “Yin and Yang”, I laid out the critical questions surrounding music piracy and shared a true story that exhibited a polarized point of view on the topic. We talked about how MYnstrel approached the problem of music retail from a neutral position – concerning ourselves with all of the competing interests of different parties, and digging up the facts.

In Part 2 “Where Does Your CD Money Go?”, I shared some of our analysis that was generated in our music retail Business Process Engineering activities. The key question was simple:

  • Where does your money go when you purchase a CD?

It’s important to know where the money for a CD goes to understand how piracy impacts the workers responsible for getting the album from the artist’s mind and into your hands.

In Part 3, “Stratification & Levies”, we will continue answering the line of inquiry we began in Part 2. Who exactly is responsible for getting a great-sounding recorded piece of music in your hands? What do they get paid for their labor from that CD sale? This will eventually lead to what the Artist and Record Label makes off of your CD purchase.

These are just some of the questions our analysis will answer today. You will be able to use this Treatise over and over again as the most thorough reference material on the subject in print to date. Let’s get to it!

Your Money at the Front End: $16.83 per CD

We went over details in Part 2, but let’s quickly recap what you pay:

  • For the actual CD, you’re getting an average price of $12.99
  • For the subsidy the retailer (Best Buy, Walmart, etc.) manipulates (using the CD as a loss leader), you’re still paying another $3.05 – that’s going straight to the retailers pocket from another highly profitable item you buy from them at any other time
  • The Government is taking another $0.79 from average sales tax on $16.04
  • When all is said and done, $16.83 is coming out of your pocket and $14.58 is headed to the music business and artists

Your Money at the Back End: $14.58 per CD

Now that the sale is done, and the Government and retailer have taken their share, there is $14.58 from your pocket headed to the people responsible for getting that CD to you. Who are those people? What do they (or their organizations) actually do? In this article, we’ll address the Distributor, Manufacturer, Free Goods, and the Performing Artists. Picking up where we left off, we have the following cash flow:

MAJ 4 pic 1

Let’s summarize each major player.

The Distributor: $2.92

Distributors manage retailers ‘privilege’ to sell back albums that the retailers don’t want to try and sell anymore. Yes, that’s right. The retailers can sell back albums to Record Labels via the proxy – a distributor.

Distributors buy albums from the Record Labels right from manufacturing, and then sell them to the retailers, who sell them to you. They ship, warehouse, and manage the logistics of distribution. Often, they will give marketing and promotion support to retailers and record labels too.

Distributors have deals that range from 18% to 35%, but the median contractual rate is 20%. So for all of these services, you pay $2.92 per album. All of the mail/shipping workers, warehouse workers, logisticians, and marketers would like to thank you and the artists for putting bread on their tables!

Here’s a side note. In the digital age, when CDs are no longer an item – the cost doesn’t really go away. The job of the Distributor goes to Information Technology teams and maintenance of computer systems and networks. This is a topic for another time.

Hold the holds please

Because the Distributors are compelled to buy back the CDs that the retailers don’t want, there are some mind-boggling practices used for paying people based on the contracts. They can actually hold the payments for a period of time after the release of the CD to see how many CDs get returned by the retailer. There are all sorts of complexities, approximations, assumptions, and obscurities associated with that.

In the end – these obscure calculations related to holds are supposed to ensure that the money is paid only on CDs that actually were sold to a customer – not ones that were sold to a retailer and then returned to the Distributor.

Because we used the actual sales numbers in our model (units & total revenue) to derive our average wholesale price, we can completely avoid this mind-numbing maze of holds, because we’ve achieved the same net effect with the design of our analytical model.

Manufacture/Packaging: $3.65 hmmm…really?

It’s no mystery what the manufacturer does – they mass produce all those jewel cases, replicate the actual CDs, and print all those CD insert booklets. The packaging team is responsible also for buying the custom artwork, photography, and designing the concept of the visual imagery used in relation to the album.

One thing is well known – most recording contracts include this obscure 25% levy. We have a problem with this obscurity. We understand that all of these services cost significant money, but 25%? Anyone can get 1,000 CDs replicated for about $1.00 – $1.20 each. Even if you added a 16-page printed insert and only produced 500 CDs, it would only cost a total of $2.35 per CD.

That’s just the cost for print and manufacturing. What about the artist, marketing team that worked on the packaging, and photographer? At the majors, a sample budget for album art is $2,000.

Are you really paying the marketing team and artist/photographer the difference of $1.30 to $2.65 per CD? This isn’t working out. All of these costs seem to be highly volatile. It’s time to stop this track, and rewind a bit…

Intermission: how many CDs will an artist sell?

Because the artist/photographer/marketing team cost is fixed, we have to know how many CDs are going to sell in order to prorate an average cost per CD.

Well the numbers are staggering, so here are a few of them. We’ll divide albums into 3 tiers of sales – Low, Mid, and High:

  • Low Tier – About 69% of new releases will sell less than 1,000 CDs, and account for only 1.5% of sales with an average of 60 CDs sold per album in the release year
  • High Tier – About 0.4% will sell over 100,000 CDs and account for 56% of sales with an average of 368,000 CDs sold per album in the release year
  • Mid Tier – The rest of the 30.6% will sell somewhere between 1,000 and 100,000 CDs. Although there is great stratification within this tier, we will give them an average of 3,900 CDs sold per album

The stratification is even more disparate when you consider whether or not the album is a major label or indie label release – but we’ll just stick to industry-wide stats for now.

It’s important to note that the indies are working with a lot smaller numbers across the board in everything but inventory – they account for 82.6% of new releases every year. Their low sales numbers really drag the averages down, but it’s important to note that they also spend a lot less money to produce the albums. A future article will discuss this more.

Manufacturing & Packaging, Revisited: Real cost of $1.25, hidden levy of $2.40 by the Record Label

Well, if you’re doing the math in your head now, you see how utterly confusing this can be to pin down. There’s a fixed cost for the artwork & packaging. There’s a per-CD cost for manufacturing. I know that I have a broad audience here, but if you want to replicate MYnstrel’s in-depth analysis (not discussed publicly), you’ll have to know your way around COGS and P&L.

We will assert that after artwork, manufacturing, and design that the average cost to a major label per CD is about $1.25. This cost can be higher for an indie record, depending on how they cut costs to give you a less fancy package. The cost for an indie record is not likely to be less (because of volume discounts).

Free Goods: The contract says $2.19, but experience says it’s $1.17

This is the cost of discounted and free CDs for radio stations, record clubs, educational organizations, military bases, and distributors. In some contracts, the artist gets a reduced royalty for the discounted sales. The net effect of free goods is said to be 15% in most contracts.

It’s anyone’s guess as to the actual validity of this levy. If you take the record label at their word, they are handing out 3 out of 20 CDs for nothing, in the hopes of getting more sales. If you listen to the industry insiders who publish books on the music business, you might believe that the truth lies somewhere between 5% and 11% for an average of 8% of wholesale. We use the 8% figure.

I don’t like the obscurity. With modern computer systems, there are better ways of managing this factor of COGS (cost of goods sold) than pre-empting with a suppositious levy in a contract.

Performance Royalties: $0.87

Who is the artist/band that performed the music that was recorded in the studio? They are the ones that get performance royalties. Whatever percentage is stated in their contract is calculated only after removing the previously stated values for Free Goods and Manufacturing from the sale. There are many other sticking points, but overall, the artist that records the album in the studio can expect about 5.2% of what you actually paid.

Oh, and surprise, the artist has their own personal team to pay (lawyer, business manager/accountant, Artist Manager, mixer, producer). After all of those people are paid, the recording artist is only splitting $0.59 amongst themselves. And yes, unfortunately, unless the band has very good business administration, legal, accounting, and studio recording skills, it’s unlikely that they’ll cut many costs here. The expense is an important cost of doing business, and an overhead cost that artists share with all businesses, large and small. Unfortunately, as I continue to serve up this reality-sandwich, you realize that these overhead costs are about a third of the Artists’ royalties.

The Performing Artists’ cash flow looks like this:

MAJ 4 pic 2

Next time…

In Part 1 “Yin and Yang”, we laid out the concepts surrounding music piracy and exemplified the philosophies with an entertaining story.

In Part 2 “Where Does Your CD Money Go?”, we established a robust analytical model to determine where all of your money goes when you buy a single CD and elaborated the front-end transactions (Government & Retailer).

In this article, Part 3, we talked about what happens to your money after the retailer takes it. We defined Distributors, Manufacture/Packaging, Free Goods, and Performance Royalties (Recording Artists). We also showed you how much of your CD money goes to each!

In the next article, Part 4 “Writers & Hegemonies”, we will show you where the rest of your money goes. Here’s a teaser – it’s related to the people responsible for writing the song (the artist who performed the song on the record may not be the one who actually wrote the song) and the ones who take the big financial risk on the album recording and promotion.

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