How do record labels work?

Not too long ago, news of Universal Music Group’s (UMG) flotation on the stock market made headlines as one of the most successful IPOs in the entertainment industry. We’re sure you’ve already read our article on the flotations, but in case you haven’t you can catch up here. In the news of UMG’s market debut huge numbers are bandied around freely, such as their valuation (£40 billion) and revenue (£6 billion). Everyone is all too familiar with the big names in the industry (Universal, Warner and Sony, the ‘Big 3’) – but few people actually ask themselves what the companies do to turnover such vast sums.

‘Back in the day’ the answer would have been easy enough to come by – they helped artists record albums, helped advertise them, helped sell them, and then helped themselves to a (normally rather large) portion of the revenue from these sales. However, with hard copy record sales diminishing hugely over the last decade or two, the role of the record label becomes harder to identify.

Generally speaking, the role of the record label can be split up into three divisions; Production, Promotion & Distribution, and Catalogs & Licensing. It is more or less the same formula that is applied by each record label across the globe.  We’ve split up each category below to spell out exactly what it is that they do:

1. Production

Each record company will have a raft of labels under its umbrella (for example, EMI, Island Records, Decca and Def Jam are all under UMG). Each label operates in a specific region and is responsible for sourcing artists in their local region and persuading them to sign a contract with them, agreeing to produce X number of songs / albums etc. It’s at this stage that money is brought into the equation, as the label will usually offer the artist an advance (there will be a separate article written about this later – watch this space).

The label will (usually) help the artist with the production of their music, be it technical assistance, guidance or just providing as much free food and booze as possible.

2. Promotion and distribution

Once the artist has completed the songs / album / whatever was agreed to in the contract, the label goes on a marketing rampage, and will have whole offices of marketers / advertisers, to get the new music in front of as many faces (or ears) as possible. This is where the ‘old’ and the ‘new’ model start to diverge, as distribution channels have obviously evolved to cater to the modern audience. Where once the label was stacking as many CDs as they could onto HMV’s shelves (Google HMV if you’re not sure what this is), now labels will employ algorithms to promote the album on as many different streaming services as possible. Be it Spotify, Apple Music or Youtube, the label signs agreements with each of them to ensure not only that their artists can feature on the streaming services, but (more importantly) also that the label and the artist are compensated for each stream the song racks up. The contract that the artist signs with the label will stipulate how the streaming revenue is divided, with the artist usually only receiving their share once their advance has been recouped by the label.

When steps 1 + 2 are applied together, it’s referred to as an entire release cycle and is typical of a traditional record deal. The record label has to commit time, resources and money and as such wants to be sure that the artist will generate enough revenue for them to at least recoup their costs, and ideally surpass those costs multiple times over.

However labels can also enter into select parts of the release cycle, be it the production, promotion, or just the licensing of the music. The general principle throughout, however, remains the same, in that the label will take a portion of the earnings from the artists’ work.

3. Song Catalogs

Song catalogs can be seen as the long term, cash generative tool in the label’s toolbox. It is from the recurring revenue of song catalogs that the label can afford to take risks with new artists and pay (often) large sums in upfront cash advances.

In such a deal, a label will pay a fixed sum to the current owner of the ‘song’ (this being the rights to the song), be it the artist themselves or another label. Once the label owns the catalog of songs, and the licensing rights that go with it, they then earn the revenue directly when the music is streamed, used in adverts, TV or in the event that a physical disc is sold.

There have been several high profile stories of this recently from Bob Dylan’s catalog being acquired for a reported $300m+, or  Neil Young selling 50% of his for  an estimated $150m. Taylor Swift’s catalog was also sold (somewhat contentiously) for $300m by Scooter Braun’s holding company – but that story merits an entire article unto itself.

Interestingly there have also been a number of investment companies set up to acquire musician’s catalogs in order to reap the benefits of the royalties. ‘Hipgnosis Songs Fund Ltd’ is perhaps the foremost such fund in the UK and owns the rights (or a portion of the rights) to several well known song writers such as Mark Ronson, Benny Blanco, Giorgio Tuinfort and Sean Garrett. Jimmy Iovine, the US producer, sold his producing royalties to the fund earlier this year. The fund is currently valued at around £1.3 billion ($1.8bn) and has a net revenue of £100 million ($138 million). This serves as an example of how lucrative the licensing rights to a catalog can be, and gives some idea as to how the labels can therefore produce such high numbers at the end of each year.

Clearly, this is an oversimplification of what are usually very complicated arrangements between various parties, but serves to illustrate the basic principle of how a record company makes money. This should also highlight the importance of a good deal between an artist and a record label – watch this space for an article on what constitutes a ‘good’ deal and some common mistakes to look out for when considering a record deal.

Get in touch if you have any questions or if there is an area of the music industry you’d like us to cover in a similar article, drop us an email here.