Inside the Recording Cycle: A Hard Look at Record Deals, Splits, Royalties, and the Label Business Model
The recording industry is, perhaps, the most volatile sub-section of the music business. Just take a look at the recording market in the last 20 years or so. First, labels got pummeled by digital piracy for a decade. Then, in part as a response to the piracy problem, both supply and demand sides of the recording value chain were disrupted by the streaming economy and music production software alike.
Nowadays, anyone with a laptop and a TuneCore account can both produce an album and distribute it across the globe. The record labels had to adapt, trying to find their place in this new music value chain — in fact, some would say that this process is still well underway.
So, what is the role of the recording company of today? The growing sentiment across the music industry would suggest that there’s no need for the labels anymore. The artist management company can run all things marketing and promotion, and the distributor will deal with distribution and trade marketing.
However, labels are still around. In fact, there’s a good chance they’re not going anywhere any time soon. But why? Why are labels still at the center of the music business? We’ve decided to try and get to the bottom of it — and follow the money. So, we’ve built a model. We love building models.
Essentially, we’ve created a tool that allows us to simulate a recording cycle and build an approximate projection of the cycle’s profits and losses, split between artists, labels, and distributors.
How Does Our Model Work?
Maybe you’ve seen recording streaming royalties calculators around the web. Well, our model is something alike. However, instead of multiplying a given number of streams by the average per-stream payout, our model factors a couple of dozens of inputs: marketing and promotion investments, artist advances, deal types and splits, physical sales, sync licensing, and everything in between.
It is still an imperfect representation of reality — but do let us know if you’d like to get firsthand access and play with the model yourself. Just leave your email here, and, if we get enough requests, we’ll figure out a way to share it with our community. But before we jump into the analysis, there is a couple of things we need to get through.
First and foremost, the model we used only takes into consideration the short term revenues of a given release cycle. In reality, the album will make money for a long time. If we’re talking about an artist deal — more about artists vs. licensing deals here — the label will likely retain the master rights for 35 years and beyond. In the case of a licensing agreement, the duration of rights will depend on the contract in place, falling within the range from 5 to 20 years for most deals.
In any case, we won’t make such long-term revenue projections, focusing on the cycle of active release promotion and monetization instead. Usually, a record label will actively work a full-length album for about three years — and based on our experience, 36 months is the pre-release projection horizon that most record labels use. So, we’ll go with that.
Key Record Deals Terms
There is a couple of common recording deal terms that we will use A LOT throughout our analysis. To make sure that everyone is on the same page, here’s a short glossary of the recording vocabulary you’ll need to know:
Artist Advance
Advance is an upfront payment, provided by a label to an artist against the future contractual cash flows. You can think of an advance as a pre-payment on the artist’s master royalties. In practice, that means that the artist will start earning additional royalties above the advance only once the artist’s share of royalties will exceed this initial pre-payment.
Recoupable Costs
Recoupable costs is a standard term you’ll find most recording contracts, applied to some of the initial investments made by the label. Until the label gets back the recoupable, 100% of the recording royalties will go towards making up for these expenses. In other words, if the label invested $1000 into recording an album and recording costs are recoupable, the artists will start making their share of the revenue only when $1000 worth of recording is sold/streamed.
Depending on the deal type and the contract itself, various costs can be established as either recoupable or non-recoupable. Under the traditional recording deal, only recording costs are recoupable (and even that is not always the case). Under the net profit deal, marketing, promotion, tour support, recording costs, and corporate costs are all recoupable. Sometimes, the label will also include “overhead fees”, calculated as a percentage of the label’s gross revenue, as recoupable expenses (more on this later)
Release Commitment
Release commitment is a fixed sum investment into recording, promotion, and marketing, that the label is contractually obligated to put forward throughout the release cycle. Commitment only sets the lower band of the actual investment, which means that the label’s actual spend will often surpass the initial commitment.
To account for that in our model, we also apply a flexible cost rate. Generally speaking, that is something that most labels will do when building cycle projections. These flexible rates are calculated as a percentage of the label’s gross revenue — based on our industry experience, we use a 14% rate for marketing and a 10% rate for promotion. These flexible rates apply only if the resulting sum exceeds initial commitment.
With that out of the way, let’s dissect the recording cycle P&L, and taking a look at some of the most common scenarios in the music business.
Exhibit A: Standard or Traditional Record Deal
Deal Type: Standard Deal
Songs Released: 16
Cycle Length: 36 months
Distributor/Label Split: 10/90
Artist/Label Split, Streaming: 15/85
Artist/Label Split: Sync Licensing: 33,33/66,66
Artist Advance: $150 000
Marketing Investment: $150 000 commitment, 14% reinvestment rate
Promotion Investment: $80 000 commitment, 10% reinvestment rate
Recording/Mixing/Mastering Costs per Track: $8 000
Production Costs per Music Video: $50 000 (One Video per 6 Songs on Average)
Cover Art Costs per Track: $1 000
Recoupable costs: Recording
First, let’s take a look at the standard deal (the funny thing about it is that it’s not so standard anymore, at least in the US). In any case, the nature of the deal is pretty straightforward. The label commits a sizable budget towards marketing and promotion, taking a massive stake in the cycle’s revenues. When it comes to the traditional deals, the label’s share will rarely go below 80% — in the simulation above, we use 15/85 splits for record sales and streaming and 33/66 for sync revenue.
The label will also put forward a hefty advance against the projected royalties, and (sometimes) establish recording costs as recoupable expenses. That means that first, the label will make back the entirety of recording investment. Then, the artist will start earning their share, which will go to making up the artist advance. Only once the advance is made full, the artist will see the first recording royalties come in.
The scenario above is roughly based on the budget breakdown provided by IFPA for the average major label’s investment into a newly signed artist. Of course, the actual real-life contracts will fluctuate from this averaged simulation — yet, it can give us a pretty good idea of how the label system makes a profit (when it comes to newly signed artists).
Now, let’s consider the splits at some of the key points of the release success:
*RIAA Gold Status is reached when the album sells 500,000 copies in the US, with 1,500 streams = 1 album sale ratio applied. Thus, under our model, a record would receive a Gold status at about 700,000,000 streams (+ physical sales, modeled based on the stream count). However, the RIAA only counts the US-based sales, which means that the global stream count will be higher than that. So, for the purposes of this simulation, we’ve used 1,500,000,000 streams for gold status
It’s hard to find an estimate for how many streams an average debut album generates — but be sure that a rare LP reaches Certified Gold status. Throughout 2019, there were just 198 releases (counting both albums and singles) that got Gold Certified by RIAA. That is, of course, a very US-centric view on things — the record might generate billions of streams around the world without ever reaching RIAA Gold status. But even if this figure is an understatement, the point is that major labels have a shallow success rate when signing new talent. While there are no official statistics to back up our words, trust me, it’s safe to assume that for every successful debut album, there are five releases that stay in the red.
Even with a modest (by major label standards) release commitment, the label needs around 174 million streams just to break even — and well, a lot of releases won’t reach that mark. And mind you, we’re talking about label getting 85% of the royalties here.
If you follow the music industry publications, you’ve likely seen more and more parallels drawn between the recording industry and the startup economy. This is precisely why — just like VC funds, labels have to make a lot of risky bets, likely to lose money on most of their newly signed projects.
However, their extensive catalog allows the labels to keep on investing in finding those few artists that do break out. The back catalog is the single most valuable resource in the hands of the major labels — the Beatles discography will keep on making money (until the copyright runs out) regardless of Universal’s investment.
To follow through with our comparison, the label’s back catalog is like a mature section of VC investment portfolio, a startup going through IPO and guaranteeing returns to its early investors. This cash printing machine is one of the main reasons labels can afford to take these risky bets on newly signed talent.
The “lose small to win big” pattern is not unique to the major labels. The same logic, though on a much lesser scale, can be applied to most of the indie labels. The release commitments are lower in the indie deals, so are the advances and recording costs. Accordingly, the label will break-even much earlier — but the average stream counts will also be lower. The entire label system has to operate on this financial model — lose $1 ten times to make $11 once. But what’s in it for the artist?
Exhibit B: Distribution-Only, Indie Record Deal
Well, let’s take a look at the alternative: what if the artist doesn’t sign with a label? What if they break away from the label system and go “distribution-only”? Let’s compare the artist’s P&L in both scenarios. Of course, 99,99% of the time, the artist going DIY way won’t be able to pull the same promotion, marketing and recording budget — but for clarity’s sake, let’s imagine a DIY artist who invests just like a label would:
Since there’s no artist advance in the mix, the independent artist breaks even a much earlier than a label would, at around 125 million. But strictly speaking, distribution-only deal only makes economic sense once the return is higher than 250k of artist advance — or at 174 million streams.
Basically, a fully-independent artist has to take the same chances as a label would. That is the risk vs. reward formula typical to the music business. By going “no label”, the artist takes all the risks of the release cycle upon themselves, betting that they can go independent way and match the label’s break-even point. Of course, the returns in a case of success are huge — but should artists bet their livelihood on the monetary success of their art?
There are initial investments to consider — in the independent scenario, there won’t be any advance, ensuring that the artist can sustain themselves throughout the release cycle (which is the whole point of artist advance). Then, the artist will have to produce a lump sum to finance the release marketing and promotion, a lot of which has to be committed way before the first payments start coming — and a rare aspiring act will be able to match the label’s investment here.
Besides, it’s not only about the budget. It’s also about the know-how that the label brings to the table. Pulling a talented, internationally connected team together is no small feat. On paper, it can be done by the artist’s management team, but the fact is that the label’s expertise and network are often as important as the budget it brings.
But that is, of course, the whole point of DIY. You don’t need to invest. You don’t need the team. You can do it yourself — at least until you can make enough to become “your own label”. But let’s face it — this is hardly the path that can become an industry standard on the wide, mainstream scale. While the label system is not without its flaws, the fact is that most artists will always need a partner that would act as a “music bank”, financing the marketing efforts that allow artists to stand out in a crowded industry.
It doesn’t necessarily have to be called a label — it can be a distributor, a music management agency, a streaming platform, or even the artist’s fan community. But as long as music marketing means investment, artists (or, at least, most of the artists) will need someone to bear the costs (given they have to troubles assembling the team).
That is the very reason why viral success stories of 2019, from Old Town Road to Stupid and La La La turned the heads across the industry. Viral marketing channels — TikTok being the prime example — allow artists to grab the audience’s attention with next to no marketing budget, thus bypassing the label system. Don’t get me wrong — there’s a huge difference between a viral hit and a long-term, sustainable career. That said, the viral marketing techniques question the very idea of “you need to invest to make it big”, challenging the established order of things. Then, of course, the same viral hits got licensed to (read: brought up by) the majors, feeding back into the label system — but those dynamics are a topic for an article of its own.
The point is, labels were, are, and probably always will be an integral component of the music ecosystem, providing artists with financial safety of the up-front advance and taking upon themselves the risks (and rewards) of the release cycle. However, as we’ve said before, the standard deal is not the only option on the table. In fact, in recent years, there’s a good chance that the artist will be offered a “net profit” deal instead.
Exhibit C: Net Profit Record Deal
Put simply, the point of the net profit deal is to allow record labels to break-even quickly while making sure that the artist gets a better split if the album is a success. Under the net profit deal, both the recording costs AND and the promotion/marketing costs are recoupable. In other words, the label will keep 100% of the royalties until the net of the cycle is zero, and the contractual splits will only apply to the net profits of the release — hence the name. In return, once the cycle breaks even, the artist will get a significantly higher share of royalties, compared to the traditional deal — usually, the label and artist will split the profits 50/50 in net profit agreements.
Let’s use the same inputs to simulate the P&L of the net profit deal:
Deal Type: Net Profit
Songs Released: 16
Cycle Length: 36 months
Distributor/Label Split: 10/90
Artist/Label Split, Streaming: 50/50
Artist/Label Split: Sync Licensing: 50/50
Artist Advance: $250 000
Marketing Investment: $150 000 commitment, 14% reinvestment rate
Promotion Investment: $80 000 commitment, 10% reinvestment rate
Recording/Mixing/Mastering Costs per Track: $8 000
Production Costs per Video: $50 000
Cover Art Costs per Track: $1 000
Recoupable costs: Recording, Promotion and Marketing
In its core, the net profit deal is a response of the label’s system to the growing power of the artist — and a way to offer a better revenue split, given the label makes up for its initial investment. The section of the P&L up until the label break-even point will exactly mirror the standard deal, even though the artist now makes 50% of the revenue instead of 15%. From that point on, however, the artist recoups much faster — and as soon as the label makes its $250,000 (the artist advance), the artist’s 50% starts flowing in.
Comparing the three scenarios from the artist’s standpoint, you can clearly see the difference for yourself. The net profit deal seems like a perfect solution — providing the artist with the safety of advance, allowing the label to recoup the investments quickly, and ensuring that, if the album is a success, the artist gets a fair share of the pipe. Sign me up, right?
Well, the reality is not that simple. There are a few downsides to the net profit deals every artist should be aware of. First and foremost, some of the net profit contracts include additional clauses that tend to skew the actual revenue splits in the label’s favor. Such contractual nuances are the very reason why even the established artists sometimes don’t see a single penny of their royalties, even though their label is long in the black.
Exhibit D.1: Overhead Fees in Net Profit Deals
First and foremost, this is related to overhead fees. Overhead fees are often included in the net profit contracts as additional recoupable expenses, designed to compensate the label’s administrative and corporate costs — from office rent to salaries and logistics. Calculated as a percentage of the record sales, overhead fees can range from 3% to 10% cycle’s gross.
Essentially, overhead fees are treated the same way as the marketing expenses — until the costs are recouped, the label makes 100% of the royalties. However, since overhead fees are a function of the gross sales, a 10% fee means that the artist has to deduct one-tenth of their royalties and pass it over to the label. So, 10% in overhead fees effectively turn a 50/50 deal into a 40/60 deal.
To showcase how the overhead fees impact the effective splits, let’s take a bit more exciting scenario, and look at a triple-A release. When it comes to the powers that be and top-tier, international releases, all the initial label costs can skyrocket. According to the industry sources, Drake can easily secure up to $20 million in advance — which means that the release needs to generate close to 3 billion streams just to make up for the advance. The skates are huge — and obviously, the label will have to bring major release commitments to support the cycle.
However, let’s not go to the extremes, and review a more modest scenario with a $3,5 million advance, $2,5 million in marketing and $1 million in promotion commitments:
Deal Type:
Net Profit
Songs Released: 16
Cycle Length: 36 months
Distributor/Label Split: 10/90
Artist/Label Split, Streaming: 50/50
Artist/Label Split: Sync Licensing: 50/50
Artist Advance: $3 500 000
Marketing Investment: $2 500 000 commitment, 14% reinvestment rate
Promotion Investment: $1 000 000 commitment, 10% reinvestment rate
Recording/Mixing/Mastering Costs per Track: $100 000
Production Costs per Video: $250 000
Cover Art Costs per Track: $5 000
Recoupable costs: Recording, Promotion and Marketing
Overhead fees: 10%
Outside of swinging the effective royalty split in the label’s favor, the overhead fees also have a secondary effect on the artist’s position. Since overheads are recoupable costs, they also tend to inflate the artist’s recoupment deficit — the amount of money the artist has yet to recoup (highlighted in purple on the graph above).
Now, if we’re talking a one-album deal, the recoupment deficit doesn’t really matter that much. Even if the artist never recoups, the deficit won’t turn into debt — the whole point of recoupment is that they can only be deducted from contractual cash flows. So, if the deal has run out, the recoupment deficit will simply go away with it.
However, that’s not always the case. If we’re talking multi-album, subsequent deals, there’s cross-collateralization to consider.
Exhibit D.2: Cross-Collateralization in Multi-Album Net Profit Deals
Cross Collateralization is a clause that is often included in multi-rights recording deals that allows the label to recoup the outstanding deficit with the revenues that are not necessarily connected to the release cycle in question. Let’s imagine that the album in the simulation above ends up with mediocre sales (by triple-A standards), and only gets up to 1,5 billion streams. In that case, the artist never recoups, but still gets his $3,5 million of advance. The label receives around $500k — so, everyone is still happy, right?
Now, due to the exposure to overhead fees, the artist has $2 million to recoup at that point. Well, if we’re talking cross-collateralization multi-album deal, those $2 million will transition to the next cycle as extra recoupable costs — kinda like an additional artist advance that the artist never actually receives.
Accordingly, in the next release cycle, the revenue gap between the artist and the label will grow even further. If we repeat the “1,5 billion streams” calculation, the recoupment deficit will increase to $4 million, and so forth.
That is how the artist can often find themselves in a paradoxical situation: the net profit splits are (technically) 50/50, the label is making $10 million in profits, and the artist has yet to see the first royalties come in (outside of the advance).
Reflection on the Record Deals and the Future of the Recording Industry
That said, there are no good or bad deal types in the music business. Every career is unique, and different setups work well for different artists. For some artists, streaming is the primary revenue stream, which means that a favorable recording split is key to monetizing their music. Others have to consider the value of their release outside of the recording revenues, which means that the worst (in terms of revenue splits) deal with one label can be better than the best deal with another — it’s all about the impact of the label’s involvement on the artist’s career as a whole.
A vast majority of artists can’t make a living out of record sales, having to rely on other sources of revenue — and so the album is often not the end-goal, but a means to an end. That is neither good nor bad. That is just where things are right now. It’s up to music professionals to try and extract better value out of recordings, but until $9,99/month is a cost of the entire recording industry, most of the artists will have to look elsewhere for revenue.
But what about the labels? The music industry will always need someone to fill their VC-like role, but there’s only so many releases a label can get behind — all while the sheer volume of music produced continues to grow exponentially. The shift from artist deals to licensing has allowed labels to bet later and optimize their investment portfolio, and bet on an existing album instead of getting behind the artist who has yet to make his commercial debut. But even that shift hasn’t changed the 10% success rate nature of the recording business.
Ultimately, the only way for labels to break away from the “lose ten times, win once” operation is to increase the average cycle value — but there is still a limited number of streams to go around. Sure, the streaming revenues are on the rise, but that growth won’t last forever.
So, will the labels find new monetization techniques that would allow them to build a more sustainable recording ecosystem? Or, will the new type of VC-like bodies, better aligned with the “promote the recording, monetize elsewhere” mentality take their place? We’ve already seen all sorts of composite music companies making a move into the recording space and offer their take on what the label of the future looks like — from music funds to integrated artist services companies and distribution-first marketing solutions.
For now, there’s no defined answer to those questions. Considering how fast things have changed in the last couple of years, it’s anyone’s bet as for how the recording industry will look like 36 months (or one recording cycle) from now. But one thing we know is that an understanding of how the label system works and how it turns in a profit is crucial to anyone — artists and music professionals alike — who want to position themselves for the coming shift.
