Product: Investing in the Music Business Part III

Posted by Pinky on Jun 23, 2010 in Blog | 2 comments

Welcome to part three of a series about entrepreneurship in the music industry.  Click here for part one and part two.

In the first two posts I covered the basic functions of a record label: Artist discovery, marketing and funding.  Funding is the tricky part because, unlike a venture capitalist investing in a promising startup, record labels have much less chance of success and therefore require far more return from those that do succeed.  Their terms have never been fair, but they have historically owned just one piece of the overall artist pie.  (Mmmm… Artist Pie.)  Thanks to plummeting CD sales however, they are now sharing in all kinds of revenue streams, so while it’s fair for them to ask for anything they want in exchange for a shot at superstardom, I believe there is a better business model in the making.  And that’s what this series is all about.

So back to business…

Speaking of which – who’s business are we talking about here?  If record labels are investing in artists, it would follow that the artists are the businesses being funded.  But is that really case?

When an entrepreneur makes a pitch to a venture capitalist for money in exchange for a piece of his or her business, the investor looks at three very important factors:

• The management team
• The viability of the business model itself
• The valuation (or how much of the company they’ll get in exchange for the investment.)

All three are very important, but it’s the first one to which so many pages in self-help business guides are dedicated.  The prevailing wisdom is that a brilliant team can sell just about anything to anyone, so your chances of success are far better with a great team than they would be otherwise.

With a record label, they too are looking for the viability of the business “model.”  i.e. Is the artist young enough, hot enough and talented enough to win the hearts and minds of teenagers everywhere.  But the other two points, valuation and the management team, are far less important to them.  For one thing, they set the terms, therefore they set the valuation.  And for another, they ARE the management team.  Problem solved.

Now before my music industry pals jump all over me for excluding the personal artist manager here, let alone the agent, publicist, promoter, psychiatrist and so on, let me explain something…

A record label is not a bank.  They are not even a venture capital fund.  They are not sitting behind a desk all day, reading business plans presented by Harvard MBA’s with a solid understanding of how business works.  In fact, for the last 50 years or so, they have been able to take the entire business model for granted.  It looks something like this:

Sign artist > Record artist > Send first song to radio > Release album > Artist tours to promote the album > Send more songs to radio > Sell more albums > Play more shows > Rinse and repeat.

If it works, everyone makes a bunch of money and the artist gets paid in every way other than on the sales of their albums, more or less.  Endorsements, publishing, etc. can all be very lucrative.  If the songs don’t get played by the radio stations however, the system breaks.  No one hears about the artist.  No one buys the albums or tickets to the shows, and the artist will probably be “dropped,” or released from their contract.

So what does that make the artist in this whole equation?

The Product.

The artist is not THE business.  The artist is the product.  Their personal manager is really just a brand manager – one of many the label doesn’t even have to pay to support their acts because they are paid from the artist’s share.  The manager has no stake in the record label, no financial risk of their own (outside of the inherent risk of working with artists in general), and can be fired by the artist at any time.  Some contracts make that more expensive than others, but point being, an artist has the right to fire their manager if they want to.  However, they can never leave their record deal unless the label allows it.  Period.

Compare this to Procter and Gamble, one of the biggest businesses on the planet.  They own all kinds of brands, from Swiffer to Tide, Crest, Duracell, and the list goes on and on.  Every one of those products has its own team.  Its own promoters.  Its own budget, customers and projections, but all of those are just products.  Procter and Gamble is the company.  If people stop buying Tide, they just hope to sell more Ivory Soap and go along their merry way.

If you’re an artist though, you’re the only product you can be.  Even in a best-case scenario, you will be one of many brands on a big label.  They want you to succeed because they’ll make money if you do, but if you don’t, they’ll write it off and move on to the next young starlet stepping off the bus.  And believe me, there’s 100 where she came from.

So what does all of this mean?

Three Choices

An artist really has three choices in this business:

1. Become a product for someone else’s company.
2. Build your own business.
3. Play music for the love of playing music and don’t quit your day job.

There’s nothing wrong with any of these but they are each very different paths with very different levels of risk and reward.  If we’re going to build a new investment model though, we’re going to stick with the first two.  Over the next several posts I’ll highlight both mainstream and DIY channels for building the new business model – and tech entrepreneurs, I’ll have a whole chapter just for you.  Wondering if you can survive with a music biz startup?  Stay tuned to find out!