Apple threatens to shut down the iTunes Store over royalty rate increase

An upcoming ruling by the Copyright Royalty Board could have a devastating effect on the digital music industry, according to a statement filed with the board by Apple Vice President Eddy Cue. The board is a three-judge panel that oversees, among over things, the setting of royalty rates for music sales. A decision in 1997 governed the sales of physical music products like CDs. The new decision, expected Thursday, will set royalty rates on digital music sales for the next five years.

The National Music Publishers' Association wants rates increased from 66 percent, from 9 cents to 15 cents per track. Digital music stores, represented by the Digital Media Association, wants the rate lowered to 4.8 cents per track. Apple pays an estimated 70 percent of digital music revenue to record companies, who pass on a percentage to artists. That percentage is what's being adjusted Thursday.

If the royalty rate is increased, someone -- either Apple, the record companies or the consumer -- will have to pay for it. Apple believes that an increase in price because of a rise in royalty fees "would lower total music purchases at the store." So, Apple doesn't want to increase the price and the record companies are highly unlikely to pick up the cost on their end. "If the [iTunes store] was forced to absorb any increase in the ... royalty rate, the result would be to significantly increase the likelihood of the store operating at a financial loss -- which is no alternative at all," said Cue. "Apple has repeatedly made it clear that it is in this business to make money, and most likely would not continue to operate [the store] if it were no longer possible to do so profitably."

It is highly unlikely that Apple would actually shut down the store given the iPod/iTunes/iPhone ecosystem it has developed, but it is a significant threat. Apple accounts for 85 percent of digital songs sold and it isn't likely that the recording industry wants to risk the loss of that many sales.

Music publishers are unconvinced. The National Music Publishers Association feels that they should get a higher royalty because everyone will ultimately prosper due to projected digital music market growth. "I think we established a case for an increase in the royalties," said David Israelite, president of the National Music Publishers Association. He continued, "Apple may want to sell songs cheaply to sell ipods. We don't make a penny on the sale of an iPod."

Even if Apple were to shut down the iTunes Music Store, existing songs would still work. Because the entire store wouldn't be shut down -- movies and TV shows would still be around -- it is simply unconscionable that Apple would screw their customers by disabling the DRM authentication servers.

We'll find out Thursday what is to become of iTunes and all the other digital music stores.

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