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Looney Zunes: What does UMG want from Microsoft?

Strangest deal of the year

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It's a historic deal - and the most talked-about tie-up in the music industry today. As Microsoft gets ready to launch its iPod-rival Zune next week, it's agreed to pay Universal Music Group a fee - believed to be a dollar per device - to compensate Universal artists. It's an unprecedented arrangement, for device manufacturers already pay a levy to rights holders on MP3-playing hardware.

(Microsoft declined to provide us with answers today).

But hey, this is the web, where blissful ignorance is no obstacle to venting when one is armed with a blog and a long lunch.

"It's a classic shakedown," blasted one DIY pundit, in a post entitled "Microsoft, Zune & The Music Mafia".

This begs several questions, however. A "Shake Down" involves coercion. But Universal has no leverage whatsoever over Microsoft. Nor is Microsoft a company to respond to pressure - even when the threat is dismemberment, as it was after the Antitrust verdict.

Facts of the deal are scant, which makes the speculation even more feverish. UMG is the world's biggest record label, and Microsoft has a $34bn cash pile to fuel its ambitions. So questions abound. What do Zune owners get from this? How is the pool going to be divided amongst rights holders? But even more intriguingly - why is the notoriously tight-fisted (or prudent, if you prefer) software giant volunteering to make a payment where no other manufacturer has before?

Why did Microsoft volunteer a payment when it didn't need to? Quite unlike the profligate Google or eBay, which poured $3bn worth of shareholder assets down drains marked "YouTube" and "Skype", respectively, Microsoft is parsimonious. While Redmond has sunk billions in attempts to secure a toe hold in new markets (cable, IPTV and games consoles), for acquisitions and partnerships - Microsoft never pays a penny more than it needs to. Especially not when this sets a costly precedent.

Now Sony BMG, Warners and EMI can make the trip to Redmond expecting to get their dollar too. And the indies. This adds significantly to the BoM (bill of materials) for a device: manufacturers will kill a feature to save 5 cents, rather than slap on $5 voluntarily.

Perhaps UMG wants to insure itself against the EU's likely repeal of the tax digital device manufacturers pay to rights holders, a tariff introduced in 2001. But, again, Microsoft is in the same position as Apple, and entitled to respond: "that's your problem."

Optimists wondered if the UMG deal entitled Zune owners to do more with their Universal songs - for example, exchange them more freely between Zune owners.

(Again, Microsoft's refusal "to comment on speculation" has only led to more speculation.)

Such a mechanism would create a permanent replacement for the government tariffs, and could possibly be expanded into a voluntary "bottom-up" blanket license for exchanging media, rather than a "top-down" blanket license, that the French parliament voted on (and narrowly rejected) earlier this year.

The advantage for UMG would be that it would set the terms for subsequent licensing deals with Microsoft, and squeeze out parallel initiatives currently being discussed by the indie labels, musicians representatives, and rights societies. Once UMG had established the industry standard for hardware-based royalty pools, it could control the royalty split. And as Peter Jenner, the former manager of The Clash, explained here, UMG wants to ensure it gives as little away to songwriters as possible, because almost all of the rest goes straight to the bottom line.

There are a few flaws in this masterplan, however. To our knowledge, Zune has no mechanism for counting file transfers, and that's mandatory information for dividing the pool of money later. And rather more importantly, even in the unlikely event that Zune becomes a smash hit, it's still not a lot of money to UMG.

If the music business wants to "shake down" anybody, it's the broadband operators. There are more than 100m monthly broadband subscribers in the US - compared to 60-odd million one-time iPod purchases worldwide. And the real prize is mobile phones: operators reap six times as much revenue from text messaging alone each year than the music industry nets in total. Both providers and users would barely notice the "shake".

And Microsoft? It's little more than a warning shot to Apple that it intends to spend deeply. There's clearly much more to this deal than meets the eye, and hopefully some of the questions will be answered on the 14th, when Zune is officially launched. ®

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