Apple faces a rebellion over iTunes

The Universal Music Group of Vivendi, the world's biggest music corporation, last week notified Apple that it will not renew its annual contract to sell music through iTunes, according to executives briefed on the issue who asked for anonymity because negotiations between the companies are confidential.

Instead, Universal said that it would market music to Apple at will, a move that could allow Universal to remove its songs from the iTunes service on short notice if the two sides do not agree on pricing or other terms in the future, these executives said.

Universal's roster of artists includes stars like U2, Akon and Amy Winehouse.

Representatives for Universal and Apple declined to comment. The move, which comes after a standoff in negotiations, is likely to be regarded in the music industry as a boiling over of the long-simmering tensions between Jobs and the major record labels.

With the shift, Universal appears to be aiming to regain a bit of leverage--although at the risk of provoking a showdown with Jobs.

In the four years since iTunes popularized the sale of music online, many in the music business have become discouraged by what they consider to be the near-monopoly that Jobs has held in the digital sector--the one part of the music business that is showing significant growth. In particular, Jobs' stance on song pricing and the iPod's lack of compatibility with music services other than iTunes have become points of contention.

By refusing to enter a long-term deal, Universal may continue to press for more favorable terms from Apple or even explore deals to sell its catalog exclusively through other channels. If Universal were to pull its catalog from iTunes, Jobs would lose access to record labels that collectively account for one out of every three new releases sold in the United States, according to Nielsen SoundScan data.

But if Apple were to decide not to carry Universal's recordings, the music company would likely sustain a serious blow: sales of digital music through iTunes and other sources accounted for more than 15 percent of Universal's worldwide revenue in the first quarter, or more than $200 million. (Vivendi does not break out revenue from Apple alone).

If push came to shove and Universal decided to remove its catalog from iTunes, it might not necessarily instigate a broader insurrection against Apple. The second-biggest corporation, Sony BMG Music Entertainment, recently decided to sign a new one-year contract making its catalog available to iTunes, according to executives briefed on the deal. A spokeswoman for the company, a joint venture of Sony and Bertelsmann, declined to comment.

Some industry observers have cautioned against taking on Jobs directly. "When your customers are iPod addicts, who are you striking back against?," said Ken Hertz, an entertainment lawyer who represents artists like Beyonc? and the Black Eyed Peas. "The record companies now have to figure out how to stimulate competition without alienating Steve Jobs, and they need to do that while Steve Jobs still has an incentive to keep them at the table."

But other music industry executives say the major labels must take a harder line with Apple at some point if they are to recalibrate the relationship. In particular, they say, it is unfair for Jobs to exert tight control over prices and other terms while profiting from the iPod. Jobs, in February, noted that less than 3 percent of the music on the average iPod was bought from iTunes, leading music executives to speculate that the devices in many instances are used to store pirated songs. (Of course, users can also fill their players with songs copied from their own CD collections.)

Apple has now sold more than 100 million iPods, and the device's ties to iTunes have helped make Apple the leading seller of digital music by a wide margin. The iTunes service accounts for 76 percent of digital music sales, and the contract talks come as it is on the rise--Apple recently surpassed Amazon.com to become the third-biggest seller of music over all, behind Wal-Mart and Best Buy, according to data from the market research firm NPD.

All of that has transformed Apple into a prominent gatekeeper, wielding influence as a tastemaker by highlighting selected artists on iTunes storefront, and as an architect of the underlying business dynamics.

Apple has stuck to a pricing system that charges a flat 99 cents for a song since iTunes started four years ago (except for the recent introduction of songs without copy protection, which carry a higher price). Jobs has long argued that a uniform system and low prices will invite new consumers and reduce piracy.

But some music executives have been chafing at the flat rate that Apple has insisted upon in its contracts with the big record labels, and they have been pressing publicly or privately for the right to charge Apple more for popular songs to capitalize on demand or, in the event of special promotions, to charge less. Edgar Bronfman Jr., the chairman of Warner Music Group, reinforced that idea at a recent investor conference, saying "we believe that not every song, not every artist, not every album, is created equal."

In the backdrop of the pricing dispute is an investigation by European regulators who are studying the roles of the music companies and Apple in setting prices in certain international markets.

At the same time, Jobs has refused the industry's calls for Apple to license its proprietary copy restriction software to other manufacturers. Music executives want the software to be shared so that services other than iTunes can sell music that can be played on the iPod, and so that other devices can play songs bought from iTunes.

Jobs has argued that sharing the software with other companies would increase the likelihood that its protections would be cracked by hackers, among other problems. Instead, he asked the music companies to drop their insistence on copy protection altogether. So far, only one of the four music companies, EMI, has made a deal to sell unrestricted music through iTunes.

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