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Memo

To: Professor William Fox

From: Christopher S. Lee

Date: May 25, 2001

Re: Virgin Yahoo

Enclosed, you will find two legal documents. The first is a draft Joint Venture Agreement between our client, Yahoo! Inc. (“Yahoo”) and the Joint Venture partner, Virgin Group International, Ltd (“Virgin”). The joint venture is to be named “Virgin Yahoo.” The second document is tie Virgin Yahoo Licensing Agreement. Yahoo is the leading Internet search engine and World Wide Web portal in the world. Virgin is a multinational conglomeration of companies, which include Virgin Music and Virgin Records.

Virgin Yahoo’s goal is to develop an online music distribution service, similar to Napster. Virgin, through its subsidiaries Virgin Records and Virgin Music, will provide the musical content and marketing management. Yahoo will provide technical expertise and 120 million potential subscribers through its existing customer base.

[Author’s note: On April 5, 2001, Yahoo entered into a non-exclusive pact with the Duet, the joint venture between Sony Music Entertainment and Vivendi’s Universal Music Group. This announcement follows news of AOL Time Warner Inc.'s Warner Music Group, Bertelsmann AG’s BMG Entertainment and EMI Group PLC entering into a joint venture. Other companies scrambling to enter the online music distribution market include Microsoft, RealNetworks, and Viacom’s MTV unit. The success of Napster demonstrates that there is an active online community eager to download music files. Whether the online community is willing to pay subscription and download fees remains to be seen.]

The Internet marketplace is evolving at an exponential pace. Just two years ago, billions of venture capital dollars were invested in “dot coms,” Internet startup companies. Today, hundreds of those companies have become “dot bombs” – failed Internet startups.

In order to avoid being another dot bomb, Virgin Yahoo has an aggressive ramp up and entry to market business plan. In the first ninety-day period, a five-member Board of Directors will be appointed. The board will then hire the initial staff that includes a core group of programmers. The programmers will write the music distribution software that will be released in a “beta” (draft) format to the public by the end of the first ninety days. During the second ninety-day period, Virgin Yahoo will revise the music distribution software for final release. Virgin Yahoo will also conduct an aggressive marketing campaign, making the Internet market aware of the new service.

In the third ninety-day period, Virgin Yahoo will aggressively pursue sales for the Christmas holiday market, followed by other events such as New Year’s and Valentine’s Day holidays. The service will provide one of two options: 1) Users may download music for a fee, and then “rip” (produce) their own CDs. The CDs can then be used for personal consumption or given to a friend or relative as a gift; or 2) Users can select a series of musical pieces from an online menu, from which Virgin Yahoo will burn, package, and ship the CD with an appropriate greeting card. This value-added option number 2 is expected to be the preferred method of Internet users who have slow Internet connections and are unable to download music files in reasonably short periods of time.

The third ninety-day period is the critical, success or failure period. If the market does not take advantage of the Virgin Yahoo music distribution service, the joint venture will fail. Market research indicates there is a strong demand for downloading and creating customized CDs. The question that remains to be answered is “are Internet users willing to pay for the service?” Internet users are notoriously thrifty. But Virgin and Yahoo feel that if the price is right and the service and options are worthwhile, a vast market awaits to be tapped.

Yahoo will license the search engine software and user database to the Virgin Yahoo, the joint venture entity. In a separate licensing agreement, Virgin, the other joint venture parent, will license the copyrighted music rights to Virgin Yahoo. The initial plan was to have the Yahoo legal team draft both licensing agreements. As Yahoo’s legal team is most familiar with technology licensing and Virgin’s legal team is most familiar with music copyright licensing, the more logical approach is to have each joint venture partner draft agreements covering their areas of expertise. Then all parties will meet, jointly review the agreements, and resolve any differences.

The Virgin Yahoo joint venture will be headquartered in Sunnyvale, California. The venture is initially expected to market to the United States and Canada. As the joint venture is based in the United States, the Agreements call for United States Ninth Circuit (Northern District of California) as the choice of law venue. Furthermore, an arbitration clauses in the legal documents call for the American Arbitration Association to settle any disputes arising between the joint venture parties.

If the venture is successful, subsidiaries may be established in the United Kingdom, Germany, France, Japan, and Australia. As those subsidiaries are established, the choice of laws venue will be the respective host country, with arbitration as the preferred method of resolving disputes.

Initial research indicated that copyright law would be the likely problem area for the joint venture. Contributory copyright infringement is the primary focus of the Napster case. Napster is accused of helping to distribute copyrighted music, without license or permission of copyright owners. The Ninth Circuit Court of Appeals found Napster in violation of copyright laws. Napster has been instructed by the court to discontinue the distribution of copyrighted music.

Copyright and license infringement will not be a major issue in this joint venture. Virgin Music and Virgin Records, the lawful copyright holders (and or agents) will license the music to the joint venture company. Therefore, no copyright violation issues exist in this situation.

The potential legal issues that may be faced by the joint venture are contractual in nature. These issues may include: license and royalty fees, termination fees, buyout fees, and dispute resolution fees. Both Yahoo and Virgin recognize that any legal differences need to be resolved quickly and efficiently. The dispute resolution clause calls for a renegotiation of the licensing agreement or joint venture if the Managing Director and two other directors are at a contractual impasse. If there is a failure to renegotiate the agreement, the parties will fall back on binding arbitration. Finally, if arbitration fails, the parties will seek relief in the Ninth Circuit.

Any delays in resolving problems have the potential to derail the entire joint venture. And potential legal battles may have the adverse effect of harming the favorable customer satisfaction ratings enjoyed by both companies. Therefore, it is anticipated that any differences that may arise will be resolved either by corporate management or through arbitration. There is an extremely small possibility that Yahoo may be haled into court in the United Kingdom. Fortunately, U.K contract law and copyright and licensing laws are similar to U.S. law. The outcome of courtroom litigation in either country is likely to be the same.

The force majeure clause contains language specific to the concerns of digital intellectual property. Certain regions in the state of California have experienced rolling power outages over the last few months. If the power supply to the music distribution servers fails, the entire operation would come to a standstill. Similarly, if the Internet data connections are severed or accidentally disconnected, operations would cease, as well. The force majeure clause notes these concerns, and permits both parties leeway in resolving potential problems.

The next step in this process is to meet with Virgin, our joint venture partners, and negotiate the final agreement. At the meeting, we will review each other’s proposed Licensing Agreements, as well as the Joint Venture Agreement. While the Licensing and Joint Venture contract language will be carefully examined, the primary objective is to come to a reasonable agreement beneficial to both parties, and then launch the venture. Any disagreement that may arise in the future can be successfully resolved by either renegotiating the term of the contract in question or through binding arbitration. The goal is to capture as much of the potential market as possible by launching the Joint Venture as soon as possible (and not permitting small details to derail the process). The fine points of the Agreements should not delay tapping into a potentially monumental market.

Useful Web Sites:

FindLaw Technology Deals, Contracts and Agreements

Yale University Library LIBLICENSE: Licensing Digital Information