Apple Buying Dr. Dre's Beats for $3B to Compete in Music Streaming

Image: Apple is buying Beats for $3 billion.
Beats headphones are sold along side iPods in an Apple store in New York City. Apple is buying Beats for $3 billion. Andrew Burton / Getty Images file

Apple, which revolutionized the music industry over a decade ago with the iPod, is buying headphone maker Beats Electronics for $3 billion in a deal that will help it compete in the streaming music business.

The deal, the largest in Apple's history, is expected to close before the end of September. Apple said on Wednesday it will pay $2.6 billion in cash and another $400 million that will vest over time.

Apple is counting on the Beats acquisition to boost its cachet with teenagers and younger adults while trying to remain a leader in digital music — an industry that looks much different than when Apple reshaped the scene with the 2001 debut of the iPod.

Founded by rapper and producer Andre Young (aka Dr. Dre) and music mogul Jimmy Iovine, Beats Electronics is a key vendor in the premium headphone market. Apple reportedly began talks to buy the company in early May. Both Young and Iovine will join Apple as part of the deal.

"Iovine and Dre are kindred souls of Apple," Apple CEO Tim Cook told CNBC in an interview.

Beats' profit margins in the headphone market may be substantial. A pair of its high-end headphones retail for as much as $450, but production costs across the brand run only about $14 a pair, according to The New York Times. With $1.1 billion in revenue last year, Beats is already making money and will boost Apple's earnings once the new fiscal year begins in October, Apple said.

Beats also recently entered the streaming music business—placing it in head-to-head competition with much larger veteran rivals Pandora and Spotify.

Recently, some were speculating the music streaming business—around 100,000 subscribers to competitor Spotify's 10 million—actually knocked $200 million off Apple's initial offer.

The growing popularity of music streaming services has been reducing sales of songs and albums, a business that iTunes has dominated for the past decade. U.S. sales of downloaded songs slipped 1 percent last year to $2.8 billion while streaming music revenue surged 39 percent to $1.4 billion, according to the Recording Industry Association of America.

-- CNBC staff. The Associated Press contributed to this report