A compulsory mechanical license is a license that the copyright owner has to issue. In the US, mechanical royalties earned under a compulsory license are paid to the copyright owner on the license at the so-called statutory rate - the rate set by the Copyright Board for these licenses. Statutory rate is currently 9.1 cents or 1.75 cents per minute of composition, whichever is greater, per unit. This rate was last reviewed on December 31, 2012.
Compulsory mechanical licenses can only be requested under certain, very specific circumstances. All of these circumstances must be met before a compulsory license will be issued. First, a compulsory license must be granted to anyone who wants to release an audio recording of your work (this audio recording is often called a "phonorecord" - it simply means that compulsory mechanical licenses are not issued for DVDs with images and so on). Second, a compulsory license can be issued if it will be used for a payment that is a legal obligation.
If one of those initial rules apply, there are other circumstances that must be met before a compulsory mechanical is granted. These are:
The recording in question must be non-dramatic. Although "non-dramatic" is a vague term, it is usually assumed to mean a recording associated with a dramatic performance, like a song used in a musical or an opera.
The song must have already been recorded and distributed by the copyright owner. Another way this is stated is that the copyright owner gets "first use" of their creation. Note that the copyright owner has to be the one who recorded it - if someone else steals their work and records it, that doesn't qualify as "previously recorded." Also, recording it is not enough - the copyright owner has to have made it available for public consumption.
Only audio recordings can be made. These audio recordings include physical phonorecords and digitally distributed copies of an audio recording.
No major changes can be made to the work. You are not allowed to changes the lyrics or make other substantial changes to the original song.
If ALL of these requirements are met, a compulsory mechanical license can be issued. Once a compulsory mechanical is in place, there are certain rules that have to be followed that differ from a standard, non-compulsory license. Under a compulsory mechanical, accounting to the copyright owner by the license holder is done once a month (an requirement that makes compulsory mechanicals extremely unattractive to many). With compulsory mechanicals, there is a limit on the reserves the license holder can withhold and these reserves must be sold and paid out on at certain intervals. Further, royalties are due on every copy made and distributed rather than made and sold - this means royalties are paid on promotional copies and other free stuff handed out by license holder.
With all of these rules in place, it may not surprise you to know that compulsory mechanical licenses don't come into play very often. Why? The administration of compulsory mechanicals are extremely time consuming. The work required just to prove you qualify for the license is difficult enough, but the monthly accounting requirement is what really makes these licensing unattractive. That being said, compulsory mechanicals are very important to understand because of the framework they lay out for standard mechanical licenses, particularly the statutory rate. The statutory rate becomes the de facto ceiling price for a mechanical license. No one will pay over the statutory rate, and in fact, many record labels pay less than the statutory rate to their artists.