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Friday, August 10, 2007

Content is King II

Universal Music Group announced yesterday that it would experiment with DRM-free music sales for the next four months. The music will be available through RealNetworks, Amazon, and Wal-Mart. This announcement is surprising considering the music publishing group's tenacious hold on its content, but makes perfect sense as the publisher attempts to move away from Apple's iTunes stranglehold. This idea has been incubating within Universal for some time, as shown by their refusal to renew their exclusive content partnership with iTunes. This conflict over content partnering and DRM-free music underscores a highly volatile paradigm shift occurring between content creators, distributors, and consumers.

With wider distribution networks (think the Web, music/video on demand infrastructure), the value of high quality content has increased dramatically. The explosion in web mashups demonstrates the value of reliable and high-quality content. Great mashups simply cannot be created with poor data—content is king. Ultimately, the future will show that owners of high-quality content will reap outsized returns as distribution networks grow with the expansion of the web and ways to use data. The distributors of content, however, will be pressured by razor-thin profit margins, as they provide little additional value, face several competitors, and offer identical services. While the Web 2.0 revolution has created thousands of useful applications of data and social connectors, it has distracted us from the common-sense fundamental that content is king. I can't think of a greater torture than sifting through YouTube videos in search of something worthwhile. At the end of the day, he who holds the gold makes the rules, and that is the content owners.

Universal is characteristic of many companies stuck in the world of old-media and currently ignoring the distribution possibilities of the web. The company has been paralyzed by ineffective management, lack of foresight, and a hostility toward technological change. The appearance of peer-to-peer (P2P) (e.g. Napster) networks in the 1990s as a distribution model shocked the content publishing industry, as it turned their business model upside down. While P2P was seen as a threat, it represented a tremendous opportunity for content publishers. Unfortunately for them, Apple had the foresight and the technological chutzpah to engineer iTunes, a hugely successful media distribution platform which become the third largest music retailer in a short few years. Sales have been growing at around a 80% clip, with music sales topping 3 billion songs and surpassing Amazon and Target in unit sales. What's wrong with this picture? The era of retailing is over for goods which exist in the ether and are produced at a marginal cost of zero. With the web, content producers and consumers have moved closer together, wringing out inefficiencies created by distributors, retailers, and partners. The web makes communicating with your customers a personal one-on-one experience.

A content provider adopting the direct producer-to-consumer model will achieve results in two distinct ways. By eliminating the third party distributors, the creator collects the full retail value of sales, boosting profit margins and generating more cash for growth.

Secondly, consumers can also benefit from lower prices. This is a critical-mass market-share game, with a tremendous first-mover advantage. The ability to charge lower prices on the consumer end, while maintaining decent profit margins at the firm, allow the consumer to reap the benefits of competition. Both producers and consumers win.

Case in Point: I can't demonstrate this idea without mentioning Rupert Murdoch and his successful $5 billion bid for Dow Jones. How can NewsCorp justify paying a nearly 60% premium for Dow Jones? Great content, for which the Wall Street Journal is renowned, wasn't being maximized in terms of economic value under the Bancroft ownership. Distribution was average, and with his vertically-integrated media empire, Murdoch will control the content and distribution, eliminating unnecessary payouts to third party distributors (think of this as the despised traffic-acquisition costs that plague internet infrastructure companies such as Google and media companies such as Yahoo!). By leveraging WSJ content across all NewsCorp properties, the value of that content increases dramatically.

So what? This isn't academic banter or a mere thought-experiment. I will recommend two chief strategies for Universal to pursue to collect the golden eggs that their goose laid.

Distribution Platform. Universal needs to dethrone the iTunes hegemony and create a device-neutral web-based application to manage and distribute their content. The high cost of iPods has limited the market for portable music downloads. There are several alternative devices offered at less than half the cost, whose adoption could spur online music sales. This distribution platform could be funded by advertising or relevant product promotion in addition to content fees.

Integrated Advertising. With new consumer technologies people are increasingly able to filter out advertising on television, radio, and even on the web. By incorporating advertising into the actual product, publishing groups can establish a new revenue stream, benefiting artists and firms. This is of course product placement, but taken to a much more sophisticated level using an auction interface linking similar taste in products and artists.

Comments welcome.