Napster Court Case Pits Label vs. Label

Two years after music industry lawyers pounded Napster Inc. into submission, the major record companies are pointing fingers at each other over the flourishing of online music piracy.

AOL Time Warner Inc.’s Universal Music Group, EMI Music and a cadre of publishers blame Bertelsmann, claiming the German media giant abetted copyright infringement by supporting Napster financially in 2000 and 2001. Bertelsmann says its accusers are at least partly responsible because they missed the chance to turn Napster’s song-stealing users into paying customers.

The companies are battling in federal court in New York, where record labels and publishers sued Bertelsmann this year, demanding compensation for the alleged assist the German company gave to copyright infringement. The case provides a rare look at the infighting spawned by the industry’s failure to find an effective response to the Internet song sharing that the labels hold responsible for declining CD sales.

Recent interviews with Bertelsmann lawyers reveal an aggressive twofold defense: First, Bertelsmann can’t be found liable because it didn’t control Napster, let alone its users. Second, Bertelsmann had the right idea strategically, while others’ refusal to license their music and otherwise support a legitimate version of Napster only drove the masses into the arms of ungovernable successors such as Kazaa.

Bertelsmann’s ultimate goal in loaning money to Napster “was to create a licensed service that would provide users with the functionality they enjoyed in the old Napster service,” said Bertelsmann attorney R. Bruce Rich. The company feared that consumers would flock to other free-music services if Napster didn’t lead them away from piracy, Rich said, and “history has proved this to be absolutely correct.”

Napster’s estimated 40 million users scattered quickly to a new generation of file-sharing networks after federal judges forced the company to start cracking down on copyright infringement in March 2001. Those networks now attract an estimated 80 million users, according to anti-piracy firm MediaDefender Inc.

The relentless increase in piracy has infuriated record executives, whose courtroom victories have returned a fraction of the billions of dollars they claim to have lost to song sharing.

Bertelsmann will file a formal response to the suits within the next few weeks. But it already seems clear that both prongs of its defense will face difficulties.

For one thing, court documents show Bertelsmann executives planned to keep the original version of Napster running in order to convert the maximum potential audience to a copyright-friendly version the Germans and Napster planned to launch. And U.S. District Judge Thomas P. Griesa, who is presiding over the lawsuits in New York, may be unwilling to hear as much of the blame-shifting argument as Bertelsmann would like. The failure by the other labels to license music is hard to construe, at least in legal terms, as contributing to piracy.

Rich said his side will seek documents to show that at a minimum, Bertelsmann’s rivals had contemplated striking deals with Napster before Bertelsmann beat them to the punch. The power of the Napster brand was evident last month when Universal and Sony acquired minority stakes in it. The companies sold their Pressplay music service to Roxio Inc. for Roxio stock. Roxio had bought Napster’s name and technology at a bankruptcy auction and is expected to revise Pressplay by next year -- and rename it Napster.

The original Napster, which launched in mid-1999, enabled users to copy songs for free from one another’s computers. The major record labels and music publishers sued the company for copyright infringement late that year, and U.S. District Judge Marilyn Hall Patel issued a preliminary injunction against the service the following July.

Patel’s order came as top Universal executive Edgar Bronfman Jr. was trying to negotiate a settlement with Napster that he said would have involved all the record companies taking an ownership percentage in the firm. Bertelsmann officials say Bronfman wanted Universal to have the biggest stake.

Those talks failed, and in October 2000 Bertelsmann announced a “strategic partnership” with Napster--essentially $60 million in loans to develop a new version of the service that would compensate labels and songwriters for their works. The old version lived on until July 2001, when Napster was so battered that it shut down.

The lawsuits by Universal and EMI, which have been aided by documents uncovered and depositions taken in connection with Napster’s bankruptcy last year, allege that Bertelsmann knew Napster users were breaking the law.

Then-Bertelsmann Chief Executive Thomas Middelhoff, in a memo to employees, conceded that copyrights were being violated by Napster users. According to Bertelsmann attorney Kenneth L. Steinthal, Middelhoff’s opinion wasn’t legally significant because at the time, a federal appeals court was still weighing whether Napster was, in fact, contributing to piracy.

The Universal and EMI suits also allege that Bertelsmann knew its money was paying for salaries, rent and equipment that enabled Napster to continue its infringing service. Bertelsmann could have called in the loan, the suits contend, although Bertelsmann’s attorneys dispute that point.

Rich said Bertelsmann didn’t decide how the money was spent and therefore didn’t have the control necessary for a finding of vicarious copyright infringement. “Simply providing the means for a company to stay in business through providing software or an investment isn’t enough,” he said.

Lawyers for the record labels counter that there is a different legal standard in a case of contributory infringement: The other parties suing Bertelsmann don’t have to show control, only that Bertelsmann knew about the wrongful behavior and contributed meaningfully to it.

Bertelsmann’s lawyers respond to that by stressing that their client had no influence over Napster users. That’s critical, they say, because courts have dismissed claims against people accused of contributing to piracy who weren’t directly linked to the infringers themselves.

“This is out right at the edge of where the law is,” said intellectual-property expert Bruce D. Sunstein, an attorney at Bromberg & Sunstein in Boston. If copyright holders prevail on this point, he said, it would force all investors “to first make sure that the company guarantees that it won’t be doing a bad thing by way of copyright infringement.”

Rich contends that Bertelsmann invested in Napster not out of a desire to profit from the infringement but because “Bertelsmann was fervent in its hope that they would get to that promised land that Thomas Middelhoff saw, hopefully joined by some of the other majors.”

That doesn’t constitute deliberate aid to the infringing masses, he said. “Without a central meeting of the minds to maintain the infringement, you don’t have contributory infringement.”

The other labels and publishers will argue that there was such a meeting of the minds, as captured by a task force of Bertelsmann executives who wrote that the old service needed to stay alive. “Those were just ruminations,” Steinthal said.

At the broadest level, Bertelsmann’s lawyers argue, the company put money into Napster to solve the music industry’s burgeoning piracy problems, not exacerbate them.

“Nobody could possibly allege that a central part of Bertelsmann’s business strategy was to facilitate the unlawful distribution of music,” Rich said. “The goal at the end of the day was undoubtedly to get everybody to buy into the new service.”

To buttress that argument, Bertelsmann may seek to force leaders of the other major entertainment companies to disclose their strategies for dealing with the Napster phenomenon. The point would be to show that Bertelsmann’s “pattern of thinking wasn’t so far from the pattern of thinking of others, whether or not they acted on it,” Rich said.

Again, the other labels say they are ready for the fight: They point out that they had tried for a global settlement and say they can prove that none of them intended to act as Bertelsmann did, investing in Napster and allowing violations to continue.

“They don’t have the right to anoint themselves the savior of the industry and then say, ‘We are going to use your works without your consent,’ ” said a lawyer for a major label who asked not to be identified.

As part of its defense, Bertelsmann hopes to explore why it and Napster couldn’t get the licenses needed for a legitimate and appealing version of the service.

“The whole purpose of the Bertelsmann loan was to get to Napster II,” Steinthal said. “And the functionality of Napster II had to be, in fact, like Napster I if you expected users to migrate.”

If Napster had won the licenses it needed for its new service, Bertelsmann would have been entitled to convert its loan into a controlling stake in the file-sharing company. A source close to the situation said that Middelhoff promised to split that stake with the other entertainment companies in exchange for their licenses, but he and Napster executives failed to get deals on terms that satisfied Bertelsmann’s board.

The source said that some rival executives, including AOL Time Warner’s Steve Case and Sony’s Nobuyuki Idei, supported Middelhoff’s idea of shifting to a high-volume, low-margin music business. Although all of the major record companies eventually agreed to license their music to Napster, not all would permit the same kind of portability and CD-recording capabilities that users enjoyed on Napster.