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In Re Application of Thp Capstar Acquisition Corp. Now v. American Society of Composers

December 7, 2010

IN RE APPLICATION OF THP CAPSTAR ACQUISITION CORP. NOW KNOWN AS DMX, INC.
REDACTED RELATED TO UNITED STATES OF AMERICA, PLAINTIFF,
v.
AMERICAN SOCIETY OF COMPOSERS, AUTHORS, AND PUBLISHERS, DEFENDANT.



The opinion of the court was delivered by: Denise Cote, District Judge:

OPINION AND ORDER

Table of Contents INTRODUCTION................................................... 2 FINDINGS OF FACT............................................... 7

A. ASCAP ................................................... 7

B. DMX ..................................................... 8

C. ASCAP's Blanket Licenses with the Background/Foreground Music Industry ......................................... 12

1. The 1987 and 1994 Form License Agreements ............. 12

2. Post-1999 Litigation Over a Per-Segment License ....... 13

3. 2005 Muzak Agreement .................................. 16

4. 2010 Music Choice Agreement ........................... 19

5. 2009 PlayNetwork Agreement ............................ 22

6. 2009 Trusonic Memorandum of Understanding ............. 23

D. Competitive Environment in the Background/Foreground Music Services Industry ...................................... 25

E. DMX's Direct License Program ........................... 26

1. Key Terms of the MCCL ................................. 29

2. The MCCL Program from 2006 to 2010 .................... 35

3. Renewals of MCCLs ..................................... 37

4. Refusals to Renew MCCLs ............................... 37

5. DMX's Outreach to "Major" Publishers: The Sony MCCL .. 38

6. DMX's Negotiations with Other Major Music Publishers .. 42

F. DMX's Application for an ASCAP Blanket License ......... 43

G. DMX'S Application for a BMI Blanket License ............ 44 CONCLUSIONS OF LAW............................................ 46

A. The Governing Law ...................................... 47

B. ASCAP's Rate Proposals ................................. 52

1. ASCAP's First Proposal: A Flat Fee Blanket License ... 53

2. ASCAP's Alternative Proposal: A Blanket License with a Static Carve-Out ...................................... 59

C. DMX's Proposal ......................................... 73

1. The Unbundled Music Fee ............................... 75

2. The Floor Fee ......................................... 76

3. The Blanket Fee: Sum of the Floor Fee and the Unbundled Music Fee ............................................. 77

4. The Structure of the DMX Proposal is Reasonable and the Benchmarks that DMX Proposes are Appropriate .......... 77

CONCLUSION....................................................87

INTRODUCTION

DMX, Inc. (formerly known as THP Capstar Acquisition Corp.) ("DMX"), a leading background and foreground ("BG/FG") music service provider, has asked the American Society of Composers, Authors and Publishers ("ASCAP"), a membership organization representing almost half of American composers and music publishers in their negotiations of public performance rights, for a license. DMX seeks a through-to-the-audience blanket license adjusted to reflect the many licenses DMX has already obtained directly from music publishers and the many more it intends to obtain. The parties have been unable to reach agreement on the terms of such a license, and, pursuant to an antitrust consent judgment, ASCAP now requests that this Court set a rate for the license.

The parties agree that, at least in theory, such a license -- a blanket license with "carve-outs" for DMX's direct licensing program -- is permitted by the consent judgment under which ASCAP operates. They dispute, however, the extent to which such a license is "reasonable" and whether ASCAP may reasonably respond to a request for a blanket license with carve-outs with a proposal for a blanket license that does not account for a music user's direct license agreements with ASCAP publishers. Additionally, the parties' dispute what the appropriate benchmark agreements are for determining a reasonable license fee, and what rate is indicated by those past agreements.

On July 25, 2006, ASCAP applied to this Court to set a reasonable rate.*fn1 A bench trial was held from November 15 to 23, 2010, to determine a reasonable rate pursuant to DMX's application to ASCAP for a license and ASCAP's application to this Court. This Opinion constitutes the Court's findings of fact and conclusions of law following that trial. The factual findings are principally set forth in the first section of this Opinion, but appear as well in the final section.

With the parties' consent, the trial was conducted in accordance with the Court's Individual Practices. On September 10, the direct testimony of the witnesses was presented through affidavit and submitted with the joint pretrial order, along with the parties' trial exhibits and proposed findings of fact and conclusions of law.

ASCAP presented affidavits constituting the direct testimony of two of its employees and one expert. Its employee-witnesses were Vincent Candilora, Director of Licensing, and Dr. Peter M. Boyle, Chief Economist ("Boyle"). ASCAP's expert was Dr. William H. Greene ("Greene"),*fn2 an economist.

DMX presented affidavits constituting the direct testimony of three of its employees, a consultant, and two experts. The DMX employees were Timothy J. Seaton, Chief Operating Officer ("Seaton"), L. Barry Knittel, Senior Vice President of Business Affairs Worldwide ("Knittel"), and Shalonn Hilburn, Manager of Select Music Design. DMX's consultant was Ronald H. Gertz ("Gertz"), Chairman of Music Reports, Inc. ("MRI"). DMX's experts were Dr. Adam B. Jaffe,*fn3 an economist ("Jaffe"), and Dr. Amy Candell,*fn4 a consulting economist ("Candell"). All of the parties' witnesses appeared at trial and were available for cross-examination.

In addition, the parties designated deposition testimony from eleven witnesses. The additional witnesses for whom ASCAP offered deposition testimony were Edward Arrow, Vice President of Copyright at Universal Music Publishing Group ("Universal"); Helene Blue, President and sole full-time employee of Helene Blue Music; Philip Ciadella, Senior Vice President of Administration and Licensing at Cherry Lane Music Publishing ("Cherry Lane"); Alan Furst, Senior Vice President of Content for DMX; Benjamin Hanson, currently an attorney for Harden Healthcare Services and General Counsel for DMX Holdings, Inc. from June 2005 until September 2008; David Hirshland, President of Bug Music, Inc.; Jonas Kant, Senior Vice President of Business and Legal Affairs for Sony/ATV Music Publishing ("Sony"); Sindee Levin ("Levin"), music publisher and owner of the American Mechanical Rights Agency, Inc.; and Brian Roberts, Chief Financial Officer for Warner/Chappel Music Publishing ("Warner/Chappel"). The additional witnesses for whom DMX offered deposition testimony were John LoFrumento, ASCAP's Chief Executive Officer; Robert Candela, ASCAP's Chief Financial

Candell served as an expert on behalf of DMX in its rate court proceeding against BMI earlier this year.

Officer; and Richard Reimer, ASCAP's Senior Vice President of Legal Services.

FINDINGS OF FACT

A. ASCAP Created in 1914, ASCAP is an unincorporated membership and performing rights organization ("PRO") controlled by composers and music publishers. ASCAP currently has approximately 400,000 United States members. ASCAP members grant ASCAP a non-exclusive right to license the public performance right to their musical compositions. There are millions of musical compositions in ASCAP's unique repertory. ASCAP licenses its members' music to a wide variety of music users, including BG/FG music services.*fn5

ASCAP's ability to collectively license the performing rights to its members' compositions gives the organization market power when negotiating with music users. In an effort to police ASCAP's exercise of this power, the Department of Justice ("DOJ") sued ASCAP in 1941 for alleged violations of the Sherman Antitrust Act. This lawsuit resulted in a consent decree that has constrained ASCAP's operations. United States v. ASCAP, 1940-43 Trade Cas. (CCH) ¶ 56,104, § II(1) (S.D.N.Y. 1941). The ASCAP consent decree has been updated on two occasions. United States v. ASCAP, 1950 Trade Cas. (CCH), ¶ 62,595 (S.D.N.Y. 1950) ("Amended Final Judgment" or "AFJ"); United States v. ASCAP, 2001-2 Trade Cases (CCH) ¶ 73,474 (S.D.N.Y. 2001) ("AFJ2"). The most recent version of the decree --- AFJ2 -- took effect on June 11, 2001. AFJ2, 2001-2 Trade Cases (CCH) ¶ 73,474.

B. DMX

DMX is one of five leading competitors in the BG/FG music industry, each of which services more than 10,000 locations.*fn6

Generally, BG/FG music service businesses provide their clients with pre-programmed music for use in a variety of business establishments, from restaurants and hotels to offices and retail stores. The right to publicly perform musical works is a part of the service that BG/FG companies provide to clients.

DMX was formed June 3, 2005, when DMX Holdings, Inc. purchased assets out of the bankruptcy estate of Maxide Acquisition, Inc. and its subsidiaries. Approximately half of the customer locations serviced by DMX are associated with businesses that control more than 100 locations. DMX's customers vary in size, from national chains like Saks Fifth Avenue, Sheraton, and Olive Garden to single-location businesses. In 2005, DMX served approximately 84,000 locations.

This number had dropped to 70,000 locations by late 2009, but recently rose to approximately 95,000 after DMX entered into an agreement with DIRECTV, Inc. ("DIRECTV") to take over the audio channels that are provided as part of DIRECTV's commercial satellite television service.

In any given year, DMX delivers approximately 150,000 musical compositions to its customers. These works are owned or controlled by more than 14,000 different publishers. From 2005 to 2009, ASCAP works constituted approximately 48% of all of the musical works that DMX transmitted or delivered to its clients.

DMX provides music programming to its customers through either an "off-premise" or "on-premise" delivery mechanism. Off-premise delivery involves the transmission of music to customers via direct broadcast satellite ("DBS"). A satellite dish installed at each business establishment is connected to a proprietary DMX receiver that receives the broadcast signal and transmits it through the establishment's sound system. Businesses that subscribe to DMX through its "on-premise" delivery service are given a proprietary DMX playback device that is installed at the customer location. This device is updated either through the delivery of physical media, such as a CD or DVD, or through a network connection. DMX's customers are fairly evenly divided between DBS and on-premise delivery mechanisms.

On-premise and off-premise DMX customers have access to a large array of programming. The off-premise service consists of 111 different audio channels that vary in terms of genre and style. Approximately half of the 52,000 off-premise customers receive all of the available channels. The other half only receives 84 channels as part of DMX's delivery to commercial establishments through DIRECTV. A small number of customers receive packages of two, six, or ten channels. DMX does not track which channels its off-premise customers actually play,*fn7 but it does keep a list of every song that it broadcasts and the number of times that any given song is transmitted on each channel in any given period.

On-premise customers have access to 157 programs.*fn8 The on-premise and off-premise versions of the same program have between 90% and 95% of the tracks in common. But, because recorded music must be physically delivered to on-premise establishments, these customers are required to select a smaller number of programs -- usually ten -- for physical delivery. Customers receive updated playlists for their selected programs every thirty to ninety days. DMX tracks which songs are included on each program's playlist and the number of locations that request each program. It does not keep records of how often customers play any given program or how often they repeat a particular song.

DMX provides two categories of services to its customers: Select and Signature. Select customers receive all or some number of the various channels discussed above -- these channels are organized by category, i.e. by genre, era, or a particular "lifestyle." All Select customers are given the same playlist, either via DBS or some form of physical media. Signature customers, however, receive programs that are specifically designed for them by DMX personnel. These programs are delivered almost exclusively via on-premise media. In 2008, approximately 30% of DMX's customers received the Signature service, but this number has since declined.

C. ASCAP's Blanket Licenses with the Background/Foreground Music Industry

1. The 1987 and 1994 Form License Agreements Prior to 2000, ASCAP licensed the entire BG/FG music industry under two form licenses. From January 1, 1987 through December 31, 1991, ASCAP offered a form license (the "1987 Form License") to publicly perform ASCAP works by means of a BG/FG music service at the premise of the licensee's subscribers.

The 1987 Form License distinguished among three types of businesses that use BG/FG music services. The annual fee for a license to provide BG/FG music to retail businesses -- known as "5A" locations -- ranged from $38.50 per location in 1987 to $44.50 per location in 1991. Licenses for non-retail locations, such as offices, hospitals, or universities, ranged from 4.5% to 5% of the BG/FG music service's "gross billings" for these customers.*fn9 Finally, for establishments that use "commercial announcements" in addition to the BG/FG music service, the license went from an annual rate of $50.40 "per floor" in 1987 to $59.40 per floor in 1991. The latter two categories were known as "5B" and "5C" locations, respectively. After the 1987 Form Agreement expired on January 1, 1992, the major BG/FG music service providers continued to be licensed by ASCAP and paid, on an interim basis, the rate applicable to them in December 1991 under the 1987 Form Agreement.

From June 1, 1994 until May 31, 1999, ASCAP offered a second form agreement (the "1994 Form Agreement") to BG/FG music service providers. All major BG/FG music service providers signed this agreement, including the two companies that became modern-day DMX. This agreement paralleled the 1987 Form Agreement in structure, but provided for an increase in license rates: the annual rate for 5A retail establishments started at $46.25 per location in 1994 and rose to $49.50 per establishment by 1999; a license for 5B non-retail locations cost 5% of gross billings for each location; and, the annual cost of a license for a 5C establishment with "commercial announcements" began at $61.68 per floor in 1994 and climbed to $66.00 per floor in 1999. When the 1994 Form Agreement expired on June 1, 1999, all major BG/FG music service providers continued to operate under an ASCAP blanket license and paid interim fees at the rates that were applicable in May 1999.

2. Post-1999 Litigation Over a Per-Segment License Efforts to reach a third form license agreement with leading members of the BG/FG music industry failed. In early 2003, ASCAP filed an application with the rate court for a determination of a reasonable fee as to the predecessor in interest to DMX -- DMX Music, Inc. -- and one if its principal competitors, Muzak. United States v. ASCAP (In re Application of Muzak, LLC), 309 F. Supp. 2d 566, 570 (S.D.N.Y. 2004) ("Muzak I"). During that litigation, DMX Music, Inc. and Muzak indicated their desire to obtain a "per-segment" license from ASCAP, with each segment defined as a particular music publisher's catalog.*fn10 Id. They sought to have their payments to ASCAP measured by the "degree to which [they] rely on an ASCAP blanket license, as opposed to direct licensing arrangements with ASCAP members." Id. ASCAP refused to quote a fee for such a license, arguing that it was a form of license that it was not obligated to provide under AFJ2. Id. at 571.

In March 2004, the rate court held that a music catalog "does not involve the user's performance of music and therefore is not a 'segment' under the relevant clauses" of AFJ2. Id. at 572. Muzak I went on to hold, however, that "the 'per segment' licens[e] provision[]" of AFJ2 "do[es] not preclude the issuance of a blanket license with a fee structure that reflects applicants' previous direct licensing arrangements." Id. at 580. The Honorable William C. Conner, who previously served as the ASCAP rate court judge, concluded that the Second Circuit's decision in United States v. BMI (In re Application of AEI Music Network), 275 F.3d 168 (2d Cir. 2001) ("AEI"), which interpreted the consent decree under which ASCAP's principal competitor BMI operates, did not "preclude the issuance of blanket licenses with reasonable fees that reflect direct licensing arrangements previously entered into by applicants." Muzak I, 309 F. Supp. 2d at 578. Since the operative provisions in the BMI consent decree were identical to provisions in AFJ2, Judge Conner opined that the existence of . . . direct licensing arrangements may and will be considered by this Court in a rate court proceeding under AFJ2 section IX in determining whether ASCAP has met its burden of proving the reasonableness of the blanket license fee it seeks or, in the event that ASCAP fails to meet that burden, in the Court's calculation of a reasonable fee based on all the evidence.

Id. at 581 (emphasis supplied). None of the parties to the proceedings before Judge Conner appealed his decision.

A few months later, in July 2004, Judge Conner clarified that Muzak I did not "contemplate a blanket license fee mechanism that provides credits or discounts for direct licensing arrangements that applicants may enter." United States v. ASCAP (In re Application of Muzak, LLC), 323 F. Supp. 2d 588, 590 (S.D.N.Y. 2004) ("Muzak II"). Instead, the rate court was only required to consider those direct licenses that were "already in existence at the time of trial in determining a reasonable blanket licensing fee." Id.

In the aftermath of that rate court litigation, ASCAP and Muzak settled their disputes and entered into a licensing agreement. DMX Music, Inc. filed for bankruptcy. During the proceedings that produced the Muzak I and Muzak II decisions, ASCAP had signed letter agreements with two other major DMX competitors -- Music Choice and PlayNetwork --- in which the parties agreed to interim fees and ASCAP promised to offer them a license on the same terms ultimately given to Muzak and DMX Music, Inc.

3. 2005 Muzak Agreement ASCAP relies principally on its 2005 agreement with Muzak, concluded in the wake of the Muzak rate court proceedings, as the most appropriate benchmark for constructing a blanket license for DMX. Muzak, founded in 1934, is the largest BG/FG music service provider in the United States.

On January 14, 2005, ASCAP and Muzak entered into a blanket license for the period January 1, 2005 through December 31, 2009 (the "Muzak Agreement"). In exchange for this license, Muzak agreed to pay ASCAP a flat fee of [REDACTED] per year for each of the five years of the license term, regardless of whether the number of subscribers to the service decreased. As the agreement explains, "Muzak assume[d] all risks associated with the possibility of [a] declining subscriber count[]." The agreement indicates that as of October 31, 2004, Muzak had no more than [REDACTED] locations.*fn11 A public performance fee of [REDACTED] for [REDACTED] locations yields an effective rate of $41.21 per location -- roughly a 16% drop from the $49.50 rate that the BG/FG industry had paid for 5A locations since the final year of the 1994 Form Agreement.

The Muzak Agreement also regulated the fee in the event that Muzak increased its subscriber base. The parties agreed that the annual fee would not increase unless the number of Muzak locations increased at a rate exceeding 8% per year. Specifically, for each of the locations in excess of the number of locations that would have equaled 8% of the prior year's total number of locations, Muzak agreed to pay ASCAP an additional annual fee of $41 per location. If over the course of the license term Muzak increased its locations each year at a rate of just 8% per year, by the final year of the license term, the effective per location rate would have dropped as low as $28.05 per location. Under that same scenario, the average fee for the five year period would have been $32.52.

As the terms of the Muzak Agreement reflect, Muzak expected that it would continue to expand its business, as it had been doing during the first years of the new century. For its part, ASCAP also anticipated that Muzak's business would continue to grow.*fn12 When ASCAP entered the Muzak Agreement, it expected that it would become the template for final fees for the BG/FG music services industry, including for several large competitors of Muzak that ASCAP expected would grow significantly in the coming years. Consequently, as of early 2005, ASCAP agreed to a license that it expected to result in a declining per location rate for the five year period ending in 2009.

ASCAP and Muzak also addressed both the interim license fees that Muzak owed ASCAP from 1999 -- that is, the period that followed the expiration of the 1994 Form Agreement -- and an outstanding audit dispute between the parties. According to the Muzak Agreement, the interim fees that Muzak had already paid to ASCAP during this period were considered final. With respect to the audit dispute, Muzak agreed to pay ASCAP [REDACTED] to settle a [REDACTED] claim brought by ASCAP for the period beginning December 2002 and ending March 2004. This settlement amount was not allocated to any particular year within the settlement period. If these two settlements are considered part of a single transaction with the Muzak ...


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