Here’s Why The Music Industry Needs To Dump Non-Discretionary Pricing

Spotify’s 2015 UK accounts painted a vibrant picture with both profits and above average Average Revenue Per User (ARPU). However, a little caution is required before assuming all the answers to the streaming market’s woes can be found here. Firstly, only a portion of Spotify’s costs are based in the UK. For example, much of the (more highly paid) exec team is in the US and much of the development team is based in Sweden. Such are the vagaries of financial reporting for multi-territory companies. More importantly though, is Spotify’s higher UK subscriber ARPU (€6.47 per month compared to €5.20 per month globally according to the ever insightful Music Business Worldwide). On the surface this is clear success (and indeed the UK may well have a higher paid-to-free ratio). However, the main reason for the ARPU difference is the music industry’s fixation with non-discretionary pricing. 9.99 is 9.99 in the US, the UK and the Euro zone, even though each of those currencies have very different values. Especially now post-Brexit referendum.

At current exchange rates, the Euro Zone €9.99 is equivalent $10.86 and the UK £9.99 price point is equivalent to $12.18. Thus Euro Zone subscribers are paying 9% more than US subscribers while UK subscribers are paying 22% more. What makes matters even worse is that US per capita GDP (a measure of relative wealth of the population) is 55% higher in the US than in the EU and 27% higher than in the UK. So in effect that means a combined pricing ‘swing’ of 63% for the US compared to the Euro Zone and 49% compared to the UK.

In short, European subscribers are getting doubly hit by the music industry’s insistence on non-discretionary pricing for music subscriptions. While there are a host of commercial factors that can be cited in favour of the approach (e.g. it helps mitigate against currency fluctuations) there is zero customer value, unless of course you happen to be a US resident consumer.

Regular readers will know I am a long term advocate of a more sophisticated approach to subscription pricing (e.g. mid tier products and super-premium options) but before we get there, a first step should be to ensure that European music fans get a fair deal compared to their US peers. Or of course, we could try the alternative: increasing US subscriptions by 63% which would mean a $16.32 price point. Sounds crazy right? Exactly…

The Music Format Bill of Rights

Today I have published the latest Music Industry Blog report:  ‘The Music Format Bill Of Rights: A Manifesto for the Next Generation of Music Products’.  The report is currently available free of charge to Music Industry Blog subscribers.  To subscribe to this blog and to receive a copy of the report simply add your email address to the ‘EMAIL SUBSCRIPTION’ box to left.

Here are a few highlights of the report:

Synopsis

The music industry is in dire need of a genuine successor to the CD, and the download is not it. The current debates over access versus ownership and of streaming services hurting download sales ring true because a stream is a decent like-for-like replacement for a download.  The premium product needs to be much more than a mere download.  It needs dramatically reinventing for the digital age, built around four fundamental and inalienable principles of being Dynamic, Interactive, Social and Curated (D.I.S.C.).  This is nothing less than an entire new music format that will enable the next generation of music products.  Products that will be radically different from their predecessors and that will crucially be artist-specific, not store or service specific.  Rights owners will have to overcome some major licensing and commercial issues, but the stakes are high enough to warrant the effort.  At risk is the entire future of premium music products.

D.I.S.C.: The Music Format Bill Of Rights

The opportunity for the next generation of music format is of the highest order but to fulfil that potential , lessons from the current digital music market must be learned and acted upon to ensure mistakes are not repeated.  The next generation of music format needs to be dictated by the objective of meeting consumer needs, not rights owner business affairs teams’ T&Cs.  It must be defined by consumer experiences not by business models.  This next generation of music format will in fact both increase rights owner revenue (at an unprecedented rate in the digital arena) and will fuel profitable businesses.  But to do so effectively, ‘the cart’ of commercial terms, rights complexities and stakeholder concerns must follow the ‘horse’ of user experience, not lead it. This coming wave of music format must also be grounded in a number of fundamental and inalienable principles.  And so, with no further ado, welcome to the Music Format Bill of Rights (see figure):

• Dynamic. In the physical era music formats had to be static, it was an inherent characteristic of the model.  But in the digital age in which consumers are perpetually online across a plethora of connected devices there is no such excuse for music format stasis.  The next generation of music format must leverage connectivity to the full, to ensure that relevant new content is dynamically pushed to the consumer, to make the product a living, breathing entity rather than the music experience dead-end that the download currently represents.
• Interactive. Similarly the uni-directional nature of physical music formats and radio was an unavoidable by-product of the broadcast and physical retail paradigms.  Consumers consumed. In the digital age they participate too.  Not only that, they make content experiences richer because of that participation, whether that be by helping drive recommendations and discovery or by creating cool mash-ups. Music products must place interactivity at their core, empowering the user to fully customize their experience.  We are in the age of Media Mass Customization, the lean-back paradigm of the analogue era has been superseded by the lean-forward mode of the digital age.  If music formats don’t embrace this basic principle they will find that no one embraces them.
• Social. Music has always been social, from the Neolithic campfire to the mixtape.  In the digital context music becomes massively social.  Spotify and Facebook’s partnering builds on the important foundations laid by the likes of Last.FM and MySpace.  Music services are learning to integrate social functionality, music products must have it in their core DNA.
• Curated. One of the costs of the digital age is clutter and confusion: there is so much choice that there is effectively no choice at all.  Consumers need guiding through the bewildering array of content, services and features.  High quality, convenient, curated and context aware experiences will be the secret sauce of the next generation of music formats. These quasi-ethereal elements provide the unique value that will differentiate paid from free, premium from ad supported, legal from illegal.  Digital piracy means that all content is available somewhere for free.  That fight is lost, we are inarguably in the post-content scarcity age.  But a music product that creates a uniquely programmed sequence of content, in a uniquely constructed framework of events and contexts will create a uniquely valuable experience that cannot be replicated simply by putting together the free pieces from illegal sources.  The sum will be much greater than its parts.

Table of Contents for the full 20 page report:

Setting The Scene

• Digital’s Failure To Drive a Format Replacement Cycle

Analysis

• Setting the Scene
• (Apparently) The Revolution Will Not Be Digitized
• The Music Consumption Landscape is Dangerously Out of Balance
• Tapping the Ownership Opportunity
• The Music Format Bill Of Rights
• Applying the Laws of Ecosystems to Music Formats
• Building the Future of Premium Music Products
• D.I.S.C. Products Will Be the Top Tier of Mainstream Music Products
• The Importance of a Multi-Channel Retail Strategy
• Learning Lessons from the Past and Present
• We Are In the Per-Person Age, Not the Per-Device Age

Next Steps

Conclusion

Is the Music Industry Going the Way of the Newspaper Industry?

The newspaper industry has had to grapple with a seismic shift in user behaviour over the last 15 years: people just aren’t buying newspapers in the numbers they used to and crucially newspaper buyers are getting older, to the extent that the long term prognosis is for the bulk of newspaper buyers to die off….literally.  The irony (in a cosmic irony Alanis Morissette-type usage of the word rather than literal irony) is that more people are consuming more news than ever before, and young people too.  But most of that consumption is online and free. What newspapers haven’t yet figured out is how to turn this into a business, and all the while (to mix my clichéd metaphors) watching their cash cow whither on the vine.  The reason for this potted history of the 21^st century newspaper industry is that it is looking increasingly the case that the music industry is arriving at a worryingly similar place.

Another year of digital stasis.  With 2011 sales figures beginning to come in, the scale of digital music’s recent underperformance is becoming increasingly clear.  In the UK overall music sales continued to decline with digital some way off yet from being able to pick up the slack.  The UK’s record label trade body the BPI reported that digital growth wasn’t enough to prevent a 5.4% decline in total album sales.  The picture was more positive in the US with Nielsen reporting that album sales actually grew for the first time since 2004, up 1.3% on last year.

But the US and UK numbers aren’t quite all they seem.  Both the BPI’s and Nielsen’s numbers are for unit sales.  One of the consumer benefits of the music industry meltdown has been aggressive discounting, with labels and retailers having to slash prices to persuade us to buy in numbers.  While this is great for music fans it means weaker profits for labels and that revenue sales trends are weaker than volume trends.  And that means that the UK revenue decline will likely be worse than 5.4% and that US revenues may well be down on 2011 despite the positive performance in units terms.  With a decade of digital sales already behind us this is the stage where digital sales growth should be rocketing and lifting the whole market with it.

The continued dominance of the CD. Albums are by far the most valuable component of music sales and despite positive digital growth the album remains largely unaffected by digital.  76% of album sales in UK are CDs and in the US the rate rises to a whopping 82%.  When the CD hurts the music industry hurts.   Nearly half of the growth in US albums sales came from increased CD sales.  Perhaps even more concerning is that three quarters of all US albums sales are offline.   Thus the music industry is depending on non-net-savvy consumers who don’t even buy online for the lion’s share of their income.  And CD buyers aren’t spring chickens either: nearly 40% of them are over 45.  On either count that is not exactly future-proofed revenue.  The echoes of the aging newspaper audience are depressingly obvious.

The CD: the Music Industry’s Heroin (and not in the female hero sense of the word).  Another similarity between the newspapers and record labels is their addiction to their respective dying formats. The direct consequence of poorly performing digital revenue strategies is that physical revenues become all the more important which in turn makes labels and newspapers less willing to pursue ambitious digital strategies that might hurt physical sales.  Which of course results in digital sales underperforming further and the whole thought process starts again.  This circular logic begets strategic paralysis.  Unless the record labels learn how to kick their CD habit they’re going to find themselves presiding over perennial long term decline.

The danger of ‘the Adele Effect’.  Both the UK and US sales numbers were dominated by Adele, with her landmark album ‘21’ topping charts in both markets and selling over 13 million copies (becoming the biggest selling album in a single year in the UK).  Uniquely well-performing albums like ‘21’ have a habit of creating reality distortion fields.  As I explained in a previous post Adele, along with Coldplay, is an increasingly rare breed: an album artist.  Adele and Coldplay both appeal to the older album buyer (which is exactly why Coldplay won’t let ‘Mylo Xyloto’ go on Spotify until sales have peaked).  The strong performance of both these artists’ albums in 2011 has helped boost albums sales, but more importantly they lend a veneer of vitality to the album market that is not accurate.  More typically 21^st century artists – the likes of Pitbull, Rihannna, Katy Perry and LMFAO – will be measuring their 2011 success in terms of singles sales, live sales, merchandize revenue, YouTube views and Facebook likes.

Rumours of the CDs’s demise are much exaggerated…perhaps. Of course the album is far from dead – after all, as we have seen, the CD remains the bedrock of music sales – but it is becoming just one, weakening, part of a broader mix of artist revenues.  In some ways artists are better protected from the music industry meltdown than record labels: they – along with their managers – are rapidly acquiring new skillsets and business acumen.  Record labels however are left having to put a positive spin on the album’s apparent longevity.  However the fundamental fact remains that the CD is a dying breed.  It may have a good few years left in it yet, but the long term prognosis is terminal.

Innovate, innovate, innovate! Newspapers and record labels are both at a crucial juncture: physical format revenues will continue to pay the bills for the coming years but paradoxically they must pursue radical format and product innovation strategies that will actually hasten the demise of those same physical revenues. If they don’t, record labels and newspapers will find themselves with the lose-lose scenario of depleted physical revenues and pitiful digital income.

Next week I’ll be publishing a free report that lays out the vision for exactly what that format and product innovation needs to look like.

Rara and the Bid for the Mass Market

Today Omnifone made the move from B2B2C music service provider to consumer facing brand with the launch of their streaming music service Rara, which is being operated as an entirely separate company utilising Omnifone’s technology infrastructure.  The knee jerk reaction would be that this is bandwagon jumping in an increasingly cluttered streaming market, joining the likes of Spotify, Deezer, We7 and Juke.  But the folks at Omnifone have been in this business long enough to not simply pursue a me-too strategy.  Indeed differentiation is at the heart of the Rara strategy.

Targeting the mass market

Regular readers of this blog will know I have long argued that the paid digital music market is stagnating because it hasn’t got the tools to reach beyond the tech savvy music aficionado base it has addressed so far (mainly through iTunes).  Spotify’s recent US-and-Facebook -spurred growth has been encouraging but we are still talking about single millions of premium subscribers globally, most of whom are the same aficionado segment all other services have been chasing for the last 10+ years.  If digital music is ever going to break out of the confines of the few per cent of consumers per market that will pay for those services a new go-to-market strategy is required, as is a new series of music products.

This is where Rara come in.  They’re not bringing the new product (it will be years before anyone gets the licenses for the required next generation products from the record labels) but they are bringing a new approach to customer acquisition and a new approach to user experience.

Two key differences in approach

Rara’s target is unashamedly the mass market, the consumers the digital music bandwagon is increasingly leaving behind.  Rara uses two key tactics to reach these customers:

• Changing the funnel.  Spotify (with whom most people will rightly or wrongly benchmark Rara) use their free ad supported tier as their customer acquisition funnel.  The losses associated with supporting free Spotify users is their customer acquisition cost.   Rara’s funnel though is a combination of traditional marketing tactics (which will be backed by substantial marketing spend) and an innovative pricing strategy.  Taking a leaf out of some magazine subscription models, Rara gives consumers an introductory 3 month price of 99p / 99c which automatically switches to the full rate at the end of the period.  If this approach works, it will enable Rara to separate the wheat from the chaff, with prospective valuable customers self-selecting by submitting their payment details to get access to the heavily discounted rate.  The conversion rate for these consumers should be much higher than for ad supported free users (many of whom sign up simply to get free music).
• Changing the experience.  Digital music services and players are notorious for looking more like accountancy software than they do music software.  The ‘music collection as excel spreadsheet’ is a paradigm we have all grown used to.  But there in lies the rub.  Most of you reading this will be savvy users who have grown to tolerate a series of  inherently poor user experiences.  For the digital hold outs this just serves as another reason not to go digital.  Rara takes a different approach, giving users a highly visual experience, with colourful graphics and mood-based playlists at the core of the service.  Of course you can still dive into the excel spreadsheets but you can quite easily never need to.

Rara’s approach is not a radical departure, rather a series of welcome innovations on the current model.  Critics will argue that it is ‘just another streaming service’.  But streaming is the delivery vehicle for the experience rather than the product itself.  Think of streaming like cable TV infrastructure, and services like Rara, Spotify and Deezer as the cable companies that package channels over them.

Rara isn’t *the* answer to the music industry’s woes.  No single service is.  But with a fair wind, it could well become an important part of the answer.  The music industry desperately needs the mass market brought into the digital fold.  It needs more fresh thinking like Rara’s to help achieve that.

 

Dear Lucian Grainge…

Dear Lucian Grainge and co,

Congratulations on your successful bid for EMI.  You are about to find yourself in charge of an unprecedentedly large share of the world’s music market.  Not so long ago, to have even imagined that regulators would countenance such a situation would have been fantasy.  But the world has changed, and I’m sure you’ll be glad that Prime Minister Monti will be too preoccupied with cleaning up Silvio Berlusconi’s mess to block another EMI acquisition (though time will soon tell whether Joaquín Almunia will be any more understanding, or indeed if he intends to carry on Neellie Kroes’s crusading).

For argument’s sake, let’s assume that the acquisition clears all regulatory hurdles and challenges.  You now control more than a third of the recorded music market.  And although some suggest that market share doesn’t matter anymore, I just don’t buy it.  In fact I think market share matters more than ever and I think you do to.  Of course, in pure business terms market share on its own means nothing.  Revenue pays the bills, not market share.  And yet, in the digital arena, market share takes on a whole new meaning. Because you and your label peers still exercise an effective monopoly of supply of content to digital services, whoever holds the largest market share holds the greatest degree of market control and can thus shape the market.

But you already know this because Universal was already the world’s largest label before the EMI acquisition and Universal exercised that dominant position to full effect.  I have to say, I think Universal has done so in a way which, on balance, has encouraged marketplace innovation.  Being the first to license to edgy services such as Spiral Frog, Comes With Music and – in principle at least – the stillborn Virgin Media unlimited MP3 service, saw Universal shoulder the risk of disruptive models.  You may have charged a premium in these situations for being the first major willing to take that risk, but you knew that your unique position as the world’s largest record label would – in most cases – led to the other majors coming on board.  (A fact that your licensee partners were banking on and were willing to pay that premium for.)

Now, as head of an even bigger ‘world’s biggest record label’ I’d love to watch you oversee a stepping-up of this approach.  And I’m not even too bothered about you charging a premium for being the first to license.  (Between you and I, that’s because I’m waiting for market dynamics to balance things out, for your bold licensing strategy to pull the rest of the marketplace with you, and to such an extent that all of the majors will be fighting to be the first to license to the next disruptive service.  So that nobody will be able to charge a premium for being first anymore.   I guess when it comes down to it, I’m hoping your exercising of seller-control will paradoxically create a buyers’ market.  But I can keep a secret if you can).

And while we’re talking, what I’d like to see less of, is using the justification of ‘risk mitigation’ as a means of stifling the market.  Yes, all majors demand big fat advances from digital services, and yes, it does a great job of separating the wheat from the chaff, of ensuring the market is driven by serious companies with serious scale.  But, as much as the prospect of the digital market evenly split between the Triple A of Apple, Amazon and Android may be more palatable to you than one in which Apple controls 75%+, you don’t really want that any more than I do. As pesky and unpredictable as those small disruptive start-ups can be, they are the ones which ultimately drive the quantum leaps in digital music progression.  If young start-ups have to commit the majority of their investment to label advances, that means that they will have so much less to spend on technology development and marketing.  Which of course means that you end up with safely secured digital income but no great new services driving the market forward.   Have you stopped to wonder why there has been a slowdown in licensed digital music services?  VCs are getting tired of financing non-starters.

Why am I firing this broadside at you when all of your major label peers are just as guilty?  Because now as head of the world’s biggest ever ‘world’s biggest record label’ I think it is only right that you start using your power to drive change across the entire market.  Your company has done so well in the digital arena by being bold, ambitious and, most importantly of all, by being innovative.  I’ve long held Universal up as the innovation standard for traditional media companies of all shapes and kinds.  But there comes a point at which that innovation must focus on providing the necessary conditions for driving innovation in the marketplace.

In short, I am asking you to continue to be a catalyst for innovation across the digital music marketplace, but also to resist succumbing to the conservatism and caution that your unprecedented market share will undoubtedly tempt you with.

Be bold, be brave, take risks (big risks) and most importantly of all, use your new power responsibly, don’t give the sceptics ammunition.  The digital music market needs Universal Music to continue to drive innovation not stagnation.

Good luck!

Kind regards

Mark Mulligan

Apple’s iCloud and What It Means to the Digital Music Market

Today Apple formally launched iCloud.  Back in June when Apple first announced iCloud I said I considered it a great start but just that.  After today’s announcement I’ll add that there is more meat on the bones but that Apple has still fallen short of its potential here.  Don’t get me wrong, iCloud and iTunes Match are great, elegantly implemented services.  But I still think Apple could have done more, much more.

A few months ago I wrote that Apple, Amazon and Android comprised Digital Music’s Triple A and that they all shared SPACE, that is Scale, Product, Ambition, Cash and Ecosystem.  This framework provides a useful lens with which to view Apple’s music related announcements today:

• Scale.  Apple is a truly global company with global reach.  Any service it launches needs to share as much of that reach as possible to deliver the benefit to device sales it exists for.  So it was a disappointment that Apple didn’t announce an international rollout for iCloud at launch (international markets will come later).  Launching in the UK will be crucial for Apple and will be where they can steal a march over the rest of the Tripple A. It is the most advanced digital market in Europe and Apple’s biggest market too.  Android and Amazon won’t find it so easy brining their locker services to the UK as Apple will though.  The UK does not yet have fair use legislation so the other 2 A’s (unlicensed) locker services that depend upon DMCA provisioned fair-use would not be legal in the UK.
• Product. Most of the attention is around the iPhone 4S and new iPods.  They are of course what Apple is all about. The seamless integration of iCloud significantly enhances the value proposition of these products.  We are in an age where consumer devices are defined by their surrounding ecosystem as much as by the hardware itself (see my Socially Integrated Web post for more on this). iCloud takes the Apple ecosystem to the next level. I’d still like to have seen better productizing of it though, such as pre-installed device bundles with a year of iCloud included as a standard pricing option alongside harddrive capacity.
• Ambition.  Here is where Apple fell a little short from a music perspective.  I’ve sensed a steady weakening of Apple’s music strategy ambition over the last few years and today’s announcements fit the trend.  It makes absolute sense of course.  When Apple first launched the iPod, music was the killer app for the small memory monochrome screen device.  In the days of the iPad, music just doesn’t show off the capabilities of the device like video, books and games do (regardless of whether that is the main activity people conduct on iPads or not).  iTunes has been hugely successful (16 billion downloads to date and 70%+ market share).  But Apple’s music strategy and consumer offering hasn’t changed dramatically since launching in 2003.  There have been some great evolutions (more catalogue – 20 million tracks, DRM-free, better editorial and programming etc) and some half hearted innovations (Ping, Genius) but it remains fundamentally the same product it was 8 years ago. Compare that to the evolution of the iPod.
• Cash.  Apples’ great advantage in digital music is that it can afford to loss lead if it so wishes as music is all about selling i-devices not direct revenue for them.  Yet Apple is ideologically a margin company and this is why they don’t ‘do a Kindle Fire’ and build a killer music subscription offering because they calculate they can get better ROI from more modest music innovation.
• Ecosystem.  Apple have just put clear blue water between their music ecosystem and those of the other 2 A’s of Digital Music.  The elephant in the room though is the new ecosystem in town: Facebook.  Apple was glaringly absent from the F8 announcements and there is no space for Facebook here.  Apple’s ecosystem is defined by devices, Facebook’s by user data and user convenuience.  Apple and Facebook will start banging into each other (see figure) and sooner or later the pair will start needing to build co-existence strategies.  In the meantime expect Android Music to start building strong links with Facebook.

So in conclusion,  I walked away from the Apple event with the familiar feeling that I wish there had been more.  But like I say, it is a familiar feeling.  I suspect that the music industry has missed its window of opportunity with Apple to drive truly transformational music industry innovation.  Maybe now they’ll start to regret having played hard ball with Apple in days gone by and start looking for someone else to pick up the baton.  They may be looking for some time.

BBM Music: First Take

Today Blackberry announced their anticipated BBM Music service, which it transpires is powered by white label cloud music stalwart Omnifone (who also power the likes of Sony and Vodafone).

In short the service offers:

• 50 tracks per month for a £/$ 5.99 fee
• Is available to Blackberry Messenger (BBM) users
• Users’ tracks are available for their BBM friends to listen to (so the more friends with the service the more music you have access to)
• It is launching in Beta in the UK, US and Canada today and will eventually roll out to 18 countries

Blackberry have done something with BBM Music that many other services haven’t: they have targeted a specific defined consumer segment. Which in turn is something that the majors, Universal in particular, are increasingly looking for in music services they license to.

Blackberry has weathered a lot of tough marketplace scrutiny over recent years with many questioning how RIM will deal with the iPhone threat.  Those concerns are valid ones but primarily relate to the email-focused business users and misses the massive importance of the youth segment to Blackberry adoption.  Blackberry’s youth appeal largely stems from BBM presenting a cost-free alternative to texting for text hungry youths.  Blackberry’s ability to successfully simultaneously target these two almost diametrically opposed segments with the same device portfolio has been little short of masterful.   This was well illustrated to me when a friend recently told me about when his teenage daughter saw him checking email on his Blackberry she asked him “what do you need a Blackberry for Dad?  Aren’t you too old for one?”!

So by targeting their youth centric installed base of 45 million BBM users with a cheap, inherently viral and social music service plays to one of Blackberry’s key strengths.  Of course direct comparisons with Rhapsody, MOG, rdio, iTunes, Spotify etc are unlikely to be unfavourable, but that’s simply not what BBM Music is about.  We’ve reached the stage of maturity in digital music where we shouldn’t be talking anymore about ‘an iTunes killer’ or a ‘Spotify killer’.  Instead the music industry needs targeted segmented offerings that grow the market by engaging with un-penetrated consumer segments.  In that context, BBM Music should be a valuable addition to a digital music marketplace that is in real need of new differentiated services.

Finally….the timing of the announcement, off the back of BBM’s new found infamy as the communication method of choice for London’s rioters is unfortunate but does open up some interesting potential marketing slogans, such as ‘download while you loot’ and ‘so cheap it’s a steal’….
And if you missed it, don’t forget to submit an email subscription to this blog to get a freecopy of my latest report: ‘Agile Music: Music Formats and Artist Creativity in the Age of Music Mass Customization’.  See here for more details.

Why Digital’s Next Steps Can’t Be Baby Steps

What follows are highlights from my speech at the Westminster Forum on the UK Music Industry 2011 and Beyond

I want to spend the next few minutes building the case that digital music is in a period of transition, a stage that presents us with a unique and ever narrowing window of opportunity to drive truly transformational change within the music industry.  The fact that this panel focuses on both retailing and licensing is emblematic of the convergence, nay collision, of product models and business models.  Collisions that help explain the current turmoil the music industry faces and in which the foundations for future growth lie.

So what exactly has gone wrong?

Firstly, digital retailing is looking increasingly unfit for purpose. It has failed in its key objectives, included in which is a failure to generate a format succession cycle.  With the cases of the cassette and the CD, these formats were firmly in the ascendency by the time their predecessors were in terminal decline, and they then went on to drive periods of unprecedented prosperity.   The same though patently does not apply to the paid download.  However if you swapped out paid downloads for MP3s then the line would be off the chart.  Consumer demand is not the problem.  Current digital retailing formats failing to meet consumer demand is.  And of course Apple’s closed iTunes ecosystem plays a massive role here too.

And if you look at the licensing side of the equation we have problems there too.  Rights owners and artists both feel they don’t get enough from Freemium cloud services, and yet the services themselves feel that they pay too much to those very same parties to be financially sustainable.  With cracks appearing right across the value chain it is looking increasingly like there are too few levers left to pull to fix the model.

Now as concerning as all this may be it doesn’t mean the end of the music industry, nothing like that in fact.  Instead it is simply the end of the beginning: the end of the first chapter in the digital music business.

What we have now are transition products that did a great job of starting us on the path out of the analogue era but their usefulness is drawing to a close.  The paid download is a sustaining innovation.  For those of you not familiar with Clayton Christensen’s ‘Innovator’s Dilemma’ this refers to the principle that companies essentially have two ways to innovate their products.  The first is that they can play the safe game where they tweak features and pricing to defend market share and revenue growth.  These are sustaining innovations.  Or they can take a gamble with disruptive innovations that have huge potential but also massive risk and can even shatter their existing business models.

Unsurprisingly most incumbent companies opt for the safe bet.  But the safe bet is often anything but safe, as it leaves an innovation vacuum which is swiftly filled by the competition, or in the case of music, by the illegal sector.  File sharing was the disruptive and transformational innovation of digital music, not the paid download. Added to this, innovation has been too heavily focused on business models and not enough on user experience. Now the music industry needs to create its own transformational innovation, putting user experience to the fore, before the informal sector does so….again.

So how do we get out of this situation?

Here’s my uber edited solution: two segments and three monetization models.  Forget for a moment the complex multi variant segmentation schemes you’ve painstakingly constructed. Think instead of consumers as those who will pay and those who won’t.  On the free side we have those consumers who are falling out of the habit of buying CDs and either haven’t discovered digital alternatives yet, or if they have they are perfectly happy with free services such as Pandora, Spotify, We7 and of course their killer app: YouTube.  Here also are all those pesky freeloading pirates – they’re not lost customers, but they’re probably not about to start paying 9.99 a month for Spotify Premium either.  And on the other side we have the highly engaged music aficionados.  This used to just be the ‘50 quid bloke‘ but sites like Pledge Music are creating a new generation of younger music fans who will pay good money for recorded music when they establish a direct relationship with artists.

The way to monetize these three groups is threefold: at the bottom of the hierarchy are ad supported free services for the passive majority and the freeloaders, where the contagion of free is legion; at the top there are premium services for the much smaller numbers of engaged aficionados (but they need an entire new generation of music products that are interactive, social and connected, a true successor to the CD – if all they have to chose from is 9.99 a month streaming rentals then this segment will dwindle to the few percentage points of consumers who actually pay those services); and in the middle we have the best balance of scale and ARPU, with subsidized services where third parties such as telcos and car manufacturers pick up some or all of the wholesale cost to make music feel-like-free or close-to-free for end users.  This is the monetization model which will pull in many of those who won’t pay and also those who are in danger of falling out of the habit of paying.

So there you have it: 2 segments + 3 monetization models = the foundation for a prosperous music industry in 2012 and beyond.

Spotify’s US Launch: First Take

Spotify finally today announced their excessively anticipated US launch. Protracted negotiations with the US labels turned this into one of digital music’s longest running sagas.  And although the $100 million of extra funding for label guarantees and advances seems to have successfully assuaged concerns, the labels weren’t just digging in their heels for the sake of it:  the US digital music market has a lot at risk in the face of Spotify’s arrrival and of course there are growing doubts about the Freemium model.

The label negotiations resulted in the last year in  limits being put on the free element of Spotify so that the full unlimited free offering that got Spotify off to such a great start in Europe will only be available to an initial swathe of invited users in the US.  Once the invite-user phase is over, free users will get 20 hours a month for 6 months, falling to 10 hours thereafter, along with a 5 plays-per-track limit.

When Unlimited Isn’t Actually Unlimited

The 10 hours / 5 plays mix is clearly intended to make people use Spotify as a complement to other services, not as a replacement.  Many listeners simply won’t bump into those restrictions.  Those that do though will be the more engaged music aficionados who will either have the will and means to pay for the unlimited premium offering, or will be young kids and those who can’t pay 9.99 a month and they will look elsewhere i.e. to YouTube and to illegal alternatives.

There is evidence to suggest that both might have happened in Europe: in March Spotify announced it had 1 million paying subscribers (something that no other premium services has yet achieved).  But they also announced that only 6.7 million of their total 10 million subscribers are active.  So a third of Spotify’s users either a) just got tired of the novelty of the service b) don’t use it much c) got fed up of the new restrictions and voted with their feet.  The likelihood is all three play a role.

This all matters because ‘just how free’ Spotify actually is will play a major role in deciding how similar an impact it will have in the US compared to Europe.

Spotify Will Be Net-Positive for the US Digital Music Market

My take is that Spotify will be successful and will also be disruptive but on balance will be net positive for the US digital music market (see figure).

Spotify has that priceless commodity: momentum.  More than that, they have mastered the art of maintaining momentum.  Most other services would have seen their momentum fizzle out in the face of a yearlong delay to a US launch.  Not Spotify. Instead they actually managed to use it to sustain momentum.  How?  Because of another of Spotify’s core strengths: scarcity.  Nothing drives demand like scarcity of supply.  Spotify built its European growth upon a perception of scarcity through its invite-only launch. It is set to do the same in the US, but with additional boon of massive pent up demand from US digital music fans who have had to deal with absolute scarcity this last year.

Can Spotify Afford to Be Successful in the US?

Until Spotify ramps up its US ad sales business every free user will be proportionately more costly than free European users.  But Spotify has learned a lot from its European experience.  It has learned which levers to pull to manage growth.  I expect Spotify to plan and manage US growth on a ratio-target basis, with free users never being allowed to exceed a certain share of total users.  E.g. the 50 million users target touted by an over-zealous Spotify ad sales exec would require 5 million paying subscribers to have signed up.  Spotify can’t afford to screw this up.  Getting the economics right will be crucial to a successful exit, which has surely got to be the next move.

What Do US Music Services Have to Lose?

If Spotify can be successful, to what extent will their gains come at the expense of the incumbent services?

• Rhapsody, Napster, MOG, Rdio et al: the incumbent premium subscription services are right to be nervous: some of them have had years to make the model work yet haven’t managed to reach the 1 million subscriber mark.  Rhapsody has announced that it just hit 800,000 paying subscribers, but despite being 150,000 up from the last tally it is only 25,000 more than Q4 2008 which equates to a net gain of just 833 new subscribers a month. Rhapsody’s position is reflective of the overall stagnant nature of the premium subscription sector in the US.  Prior to Spotify the European subscription market didn’t even get out of the starting blocks, let alone have the chance to become stagnant.  So the US subscription services have good reason to fear Spotify as a premium player.  With the restrictions on free plays I don’t anticipate them losing many subscribers to Spotify Free though.
• Pandora: whatever Pandora’s Tim Westergren says, Pandora will see some of its users defect to Spotify.  Yes it is a different value proposition and yes there are many users for whom Spotify will be no alternative.  But there will be those who simply tolerate not being able to listen to exactly what they want rather than perceiving it as part of the value proposition.  Those users, for whom free is the key driver, will be at risk.  Once again though, the limits on Spotify’s free tier should contain this threat to some degree.
• Apple, Amazon and Goole: none of the big three really have much to fear given their different positioning and products but will watch for new Spotify product features cautiously.  They may even feel the need to accelerate launch of free on-demand streaming in their locker services (i.e. not just of users’ existing music collections)

So it becomes clear that the record labels have a done a decent job of engineering Spotify’s licenses in such a way that the incumbent US services face minimum competitive risk.   One hopes that this doesn’t also mean that Spotify’s wings have been clipped so far that it won’t be able to truly shine in the US.  Because Spotify has done a huge amount in Europe: bringing digital music to the mainstream and freeing it from the chains of the iPod.

I actually hope that Pandora and Rhapsody et al do feel some serious competitive pressure, so that they can focus on what they need to do better and then lean on the labels to give them the licenses to do so.  Because the best way the labels can drive the market is by using licensing to empower services with more functionality rather than using it to restrict disruptive threats.

MOG to Launch in the UK: First Take

[Please note that this post first appeared on the Forrester Consumer Product Strategy blog.  Over the coming month or so I will be migrating all of my activity there.  I will soon be posting new information here for you to amend your feeds and subscriptions. Thanks]

[Posted by Mark Mulligan]

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US music subscription service MOG is set to launch in the UK by the end of the 2^ndquarter off the back of a 2^nd round of investment totaling $10
million.

As I posted earlier in the month, the music subscriptions space is going through an important period of transition.  It took much of the last decade to realize that the 9.99 premium rentals model was only ever going to appeal to a niche of music aficionados, and though global premium music subscribers total 8.25 million, we’re still no closer to mass market appeal for premium subscriptions.  And yet we have a host of new entrants including, MOG, Spotify Premium, We7 Premium, Sky Songs, Virgin Media etc etc.

So what’s changed? Well, both a little and a lot.

The niche audience is getting bigger. Firstly, the appeal for premium subscriptions is still a niche addressable audience of tech savvy music aficionados, but that audience is growing. It’s still far from mass market (and never will be) but it’s a more attractively scaled base now.  A few million per major music market perhaps. For a company like MOG that’s plenty enough addressable market. Also improvements in consumer technology and connectivity make it easier to deliver a high quality on-the-go cloud based experience, a crucial asset.

New routes to market. Perhaps the most important change though is that numerous new channel partners are emerging that can help shoulder the to-consumer cost.  ISPs, mobile operators, device manufacturers, even brands all are becoming realistic partners for subsidizing premium subscriptions, in turn reducing the price point to an extent where appeal is much broader.  The music industry is waking up to the fact
that a recurring household music purchasing relationship is much more valuable and secure than ad hoc individual spending and illegal downloading.

MOG has an additional crucial asset: the service is inherently social.  Regular readers will recall that I posted about the concept of ‘putting the crowd in the cloud’, that social interconnectivity in cloud based services will become a crucial component of music discovery and engagement. MOG joins those dots.

Those assets alone though may not be enough. If MOG is to steal serious market share in the UK it will do well to investigate the unique
range telco partnership opportunities that the UK presents due to the government’s strong(ish) stance on making telcos partners in tackling music piracy. A subsidized MOG service from BT, integrated into their IPTV boxes and xBoxes, for example, would be a really enticing prospect.

(And a sign of the times, MOG is being talked about as a potential ‘Spotify-killer’….whatever happened to being an ‘iTunes-killer’…they’re still the ones that own three quarters of the premium digital music business…)