« Vespa Heats Up The Heartland? | Main | A Glimpse Of Lives In Conflict »

Missing The Point In Online Music Sales

There’s a fact-heavy article in today’s NY Times about the increasingly crowded field in online music. In a nutshell, the article sees the forest, but misses the trees, wondering why businesses would get into online music at all. Not only are the costs of starting up a online music storefront steep fixed costs of technology + marginal costs of selling & marketing the service), competition that threatens to further erode everyone’s margins (Wal-Mart has priced tracks on its music store at $0.88 a track). The article cites Real Networks CEO Rob Glaser, and Steve Jobs’ opinions about the difficulties of making a buck in the online music business to underscore this point:

"The fixed costs of building this stuff out from scratch are high," Mr. Glaser said.
"It's not easy to do this well," Mr. Jobs said. "How," he asked, will other companies "justify investing R.& D. into something where there is no money to be made?"

Well, duh. However, where the article really gets the whole online music store model legitimately wrong is in its belief that without selling hardware to accompany it, selling music online is a foolish enterprise. Check this other comment:

Hardware manufacturers are trying to apply the lessons of Apple by combining the low-profit-margin business of selling songs with the higher profit margin business of selling the music players to go with them. That kind of thinking favors companies like Dell, which is selling its Digital Jukebox, and Sony, which once owned the portable music business with the Walkman, but stumbled as companies like Apple jumped into digital music. The company has said that it will create an online service this spring that will work seamlessly with its players. The new service, called Connect, will allow customers to pay for songs with frequent-flier miles from United Airlines.

While hardware sales might be able to cover for the economic losses of running an online music store in the short-term, they can’t do so for the long-run. (Note: I’m guessing that since the market leader—Apple—has already admitted on several occasions that it just breaks even on online music sales, it’s probably losing money on its investment from an NPV perspective. I’d also wager that if Apple is just breaking even, everyone else—with the possible exception of Real Networks, which operates a subscription model—is losing money.) The prices of all MP3 players—including iPod—will fall (as has already begun), or companies will start adding more features into their MP3 players (thereby raising costs, and diminishing margins) in an effort to compete. A far better model is to control the standards for digital music—DRM— and then hopefully parlay that standard into other media businesses, and create an annuity for yourself. (The Wall Street Journal grasped the essence of this logic in some ways on Monday, but didn’t get grasp all of the possibilities of DRM.)

So here’s the model as we see it: Apple sells as many tracks as possible on iTunes which enourages people to buy iPods, and subsequently more tracks on iTunes, while iTunes and iPod still have the cachet or higher perceived benefit to draw people away from lower-priced music services or competing products. If you’re investing in Apple, you want Apple to hit a scale where they control most of the market for online music, at which point the music companies and artists (content creators and copywrite owners) cease offering tracks to their competitors, and offer them solely to Apple, since Apple offers them access to the largest market possible, at the lowest cost possible. This is what’s called a virtuous circle, and is the essence of the network effect Apple’s trying to pull off.

One other random note to consider in light of network effects: Apple’s coming partnership with Pepsi (giving away 100m tracks on iTunes to Pepsi buyers, via codes distributed via bottle caps) is kind of a stroke of genius. Ideally, it gets more AAC formatted tracks on the market, and gets iTunes in the hands of people who have yet to use it, thereby increasing the potential market for AAC. Pretty slick stuff for Apple, and we’d also say that the partnership looks pretty good if you’re Pepsi, since you get to attach yourself to the ridiculous amount of cachet and credibility that Apple’s managed to create in the all important youth market.

Posted by Matt Percy | Permalink

TrackBack

TrackBack URL for this entry:
http://www.typepad.com/services/trackback/6a00d83454afec69e200d83427a78153ef

Listed below are links to weblogs that reference Missing The Point In Online Music Sales:

Comments

stopped she moved back up to her clit and sucked it into her mouth. Lisa grabbed onto her bonds and let out a scream as ariel sex hentai looney toons final fantasy manga hentai digimon nude aladdin fucking jasmine

Posted by: daphne | May 1, 2004 11:14:14 AM

college football and relaxed until then. I arrived right at seven. Rick answered the door. Motioning to the hall, he said, Jan is changing she alladin disney porn xxx jetsons flintstones anime lesbian moon sailor sailor moon sex pics flintstones free pics xxx

Posted by: final fantasy | May 2, 2004 6:24:31 AM

birthday was nearing, so I decided to give him a special present--me. He had been so gentle, caring, and above all patient that I wanted jetsons sex aladdin fucking jasmine flintstones naked pics 2 fantasy final pics x beast beauty sex

Posted by: cartoon | May 2, 2004 6:46:21 AM

Believe it or not, I actually pay for my music downloads now. I use the new Napster, which gives you WMA format files that are compatible with all players. I've heard that the iTunes downloads are not so well behaved - read as "buy an ipod or else."

Posted by: Joe's online business ideas | Jun 24, 2004 5:07:19 PM