updated 10/16/2007 4:43:14 PM ET 2007-10-16T20:43:14

It has been a rough month of breakups for the Big Four record companies. First, British rock group Radiohead decided to release its new record as a pay-what-you-wish digital download on Oct. 10, making it clear the quintet intends to avoid any new major record deal. A week later, industrial band Nine Inch Nails declared its emancipation from its former label, Interscope Records. NIN's announcement came less than a month after front man Trent Reznor exhorted fans at a Sydney show to "steal" music to protest high CD prices.

"I have been under recording contracts for 18 years and have watched the business radically mutate from one thing to something inherently very different, and it gives me great pleasure to be able to finally have a direct relationship with the audience as I see fit and appropriate," Reznor wrote on the band's Web site on Oct. 8. "Exciting times, indeed."

Not if you're a record company executive watching sales plummet. Last year, CD sales dropped 13%, to $9.2 billion, according to figures from the Recording Industry Association of America. The slump mirrors overall revenues for the Big Four — Sony/BMG, Universal, Warner, and EMI Group — which have been flat or declining for more than two years.

The Internet has wreaked all sorts of havoc on the traditional recorded-music model. For decades labels have been signing bands, paying for their first record and video, moving the music to radio and retailers, organizing concert tours, and helping to peddle merchandise. But for many fans and artists, that model has become grossly anachronistic. If the music is flowing digitally, why allow a corporation to get between an artist and the audience? "It's a new world now, and people are thinking of new ways to reach the people, and that's always been my aim," said Paul McCartney in March, 2007, when he joined Starbucks' new music label, HearMusic, ditching his longtime home at EMI.

It doesn't help that the same companies have been antagonizing music consumers for years with pricey CDs, rights-management restrictions, and file-sharing lawsuits. "They can't even make a product you can open," says Brandon Kessler, founder of Messenger Records, a small New York City label. "Can you imagine going to the store and buying a carton of milk you can't get open? It's infuriating. There's such a lack of knowledge of their customer."

Record executives finally recognize the shift and are no longer betting on a revival of CD sales. "Almost every core operating principle in the recorded-music business has been shaken or challenged," said Warner Music Chairman and Chief Executive Edgar Bronfman Jr. in a Sept. 17 speech at a technology conference.

One of the casualties is the industry's fundamental economics. A record label used to play an important financial role because it fronted the money to record an album, which could cost tens of thousands or even hundreds of thousands of dollars. Now any 14-year-old can pick up a copy of Apple's  Logic Studio for $499 and make respectable recordings. All that's needed are generous parents or a babysitting gig.

Digital is the new paradigm. Who needs a record label to handle marketing and public relations anymore? Musicians can just set up a MySpace page and talk directly with their fans. Record labels used to help court radio stations, too, to get music on the air. Now you can zip MP3 copies of your first single via e-mail to anyone in the world.

Despite the challenges, record labels still perform some tasks extremely well. The Big Four turn out recordings that are technically pristine, meeting the exacting standards of radio, television, and film that are out of reach for most kids with computers. The labels also can transport these CDs worldwide, stock them at retailers, market them reasonably effectively, organize concert tours, and manage various business functions for artists under contract. "They're very good at selling a Bruce Springsteen album and getting it everywhere at once," says Dale Anderson, a Buffalo, N.Y. journalist who produced independent folk singer Ani DiFranco's first two records.

Record labels are experimenting with new approaches, too. Part of Bronfman's new strategy will be to expand revenue sources with musicians so that record sales are but one part of a pie incorporating more frequent releases, touring, licensing, merchandising, endorsements, and sponsorships. Others envision a time when music — a market still showing respectable growth — becomes more of a product, like mobile-phone service or cable television, that flows into your home or telephone at various rate plans. Others argue that music will become free, with record companies and musicians making money from concerts, merchandise, and licensing.

What's hard to see, though, is how the Big Four can boost their sales and income much in this new era. Manufacturing and distribution costs stand to fall in the digital transition, and record companies will handle numerous business and administrative functions for artists. But the profit bonanza of an $18 CD? Those days are gone forever. Record companies are likely to become geared more toward the commercial aspects of the business and away from the creative side. "They'll still play an important role. The question is whether they'll get paid for it," says Kessler. "They'll either go out of business or wake up."

There's talk of further industry consolidation — EMI was acquired this summer by private equity firm Terra Firma Capital Partners for $4.8 billion. Some analysts have said the industry's conversion from CD to digital music may be a job best overseen by private owners.

Mix and match
Not that CDs will become rare anytime soon. For all its online experimentation, Radiohead is expected to put the new record out on CD next year, shortly after the band ships an $82 "discbox" of album art, vinyl LPs, and eight bonus tracks. Another group, the Charlatans UK, will give fans its new record for free in 2008, with the first single coming Oct. 22 as a digital download.

British music journal Record of the Day collected some 3,000 responses in its online poll of what consumers paid for Radiohead's In Rainbows, finding that about half offering the band nothing. The rest said they'd given £5 or £10, or $10.20 to $20.40. Others said they'd paid what they assume an artist receives from a typical CD — 10% to 20% of the retail price — Record of the Day Managing Director Paul Scaife said in an e-mail. "First time I've paid for an album in years," posted a purchaser from Britain, who said he'd paid £5. "I'm paying in part because I love this kind of original thinking — though I don't see it as a solution to the music industry's woes."

In his speech, Bronfman detailed the company's 2006 experience with South Korean pop star Baek Ji Young as a possible template for future releases. In the traditional model a pop act had the record and several singles to sell. For Baek's record, the company had 416 distinct digital products, including song tracks, ringtones, videos, and album art. "And all without the need for physical inventory," said Bronfman. Just the sort of revenue scheme that could comfort a record executive lamenting the loss of his CD collection.

Copyright © 2012 Bloomberg L.P.All rights reserved.


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