Hollywood embracing information goods

Friday brought three major announcements in the long-promised transformation of entertainment products from physical discs to downloadable information goods.

The biggest announcement was that Warner Music is providing its catalog to the Amazon download store in the only format that it supports, which is unprotected MP3. With about 12% market share, Warner is the smallest and weakest of the Big Four recording companies and was taken private last spring in a $4.8 billion LBO after seven years of failing to get regulatory approval for a merger with the next smallest company, EMI (which holds the dominant position in music publishing).

EMI had embraced DRM-free publishing, helping Apple launch its iTunes Plus format in May — in effect, supporting Steve Jobs’ February call for the record industry to let it sell consumers the DRM-free music that they want. On the other hand, Warner had aggressively rejected this view. As reported by Jon Healey on the LA Times “Bit Player” blog, Seagrams liquor heir and current Warner Music CEO Edgar Bronfman Jr. angrily rejected Jobs’ suggestion to go DRM free:

The notion that music does not deserve the same protection as software, film, video games or other intellectual property, simply because there is an unprotected legacy product in the physical world, is completely without logic or merit.

On Friday, a Warner SVP said:

We believe that giving consumers the assurance that the music they purchase can be played on any device they own will only encourage more sales of music.

Of course, the decision by Warner to offer DRM-free music at Amazon but not the iTunes Store was seen as an effort to punish Jobs for asserting too much control over music pricing and distribution through its market leading store. Warner follows Universal, which declared war on Apple in August over pricing of NBC TV shows. While EMI is cooperating with both, only Sony BMG is refusing to sell its content without DRM.

This move helps cement the position of Amazon Unbox as iTunes’ main rival, less than six months after it was announced. However, it still has half the selection of the iTunes store and a fraction of the downloads to date.

However, competition from Unbox is already affecting Apple. I hadn’t noticed that in response to Amazon, in October Apple quietly dropped the premium it was charging for DRM-free content: Apple now charges 99¢/track for 256K AAC DRM-free music from EMI (and a few indies), and the same price for 128K AAC “FairPlay” encrypted songs from all the others. Because AAC is more compact (to my ear, a 128K AAC file is equivalent to a 160K MP3 file), Apple’s 256K AAC songs should be slightly higher quality than Amazon’s 256K MP3 files, but I can’t hear a difference past 192K so few people will probably care.

Warner using its market power to win favorable terms from distributors is just classic IO economics. However, Wired blogger Charlie Sorrel criticized Warner for not letting others sell DRM-free music:

Now all you need to do is realize that you can sell your music through many different outlets and make more money. Playing resellers off against each other has one pretty transparent purpose: Greedy price fixing.

If "[c]onsumers want flexibility" and you "want them to have that flexibility" as you say, why not sell via iTunes, or eMusic, or any number of stores wanting to push protection free music?

Sorrell, Healey and others expect that the end of DRM will encourage widespread adoption, as well as innovation and experimentation by music producers and distributors. Of course, there is also the likelihood that no post-Napster business model will be as lucrative as the peak of the 1990s, which means that Hollywood still has more painful consolidation and retrenchment ahead of it. (Or perhaps it will get government to tax hardware so that it receives a guaranteed revenue stream).

Friday’s news was also filled with rumors that Fox (and others) will be renting movies via Apple’s iTunes Store; naturally, a time-limited rental will be enforced by DRM. (There are also associated rumors that Disney will offer rentals, and that Apple will start licensing its FairPlay DRM, which it has long been pressured to do). Since the formal announcement is expected at Macworld Expo on January 14, I’ll just wait and see what rabbits Jobs pulls from his hat.

The final piece of download news was the most interesting to me: Wal-Mart’s admission that it had pulled the plug on its video download site a week earlier, leaving stranded all those who’d purchased movies in its format. Wal-Mart enjoyed key advantages: it was the first to get all six major Hollywood studios on board, and is the nation’s largest seller of DVDs.

This marks the second retreat by Wal-Mart from online entertainment — two years after it gave up on competing with Netflix in the movie rental business. Analysts were divided as to whether this marked a rejection of Wal-Mart’s particular approach (with Microsoft’s iPod-incompatible DRM) or the inferior user experience provided by today’s downloadable videos.

Back when I began teaching in 1998, clicks-and-mortar (e.g. BN.com) was seen to be superior to pure e-commerce (Amazon) and pure bricks-and-mortar (Borders). Today it’s clear that Wal-Mart’s advantages lie with physical distribution (and perhaps brand loyalty with its price-sensitive, downscale demographic) that doesn’t translate well to digital downloads of information goods by early adopters.

Internet analyst Henry Blodget trumpeted that Wal-Mart’s failure proved his point that general merchandisers are not doing well against entertainment-focused companies:

One e-commerce refrain we’ve heard since 1995 is that once the established real-world brand get their act together, the online pure-plays will be toast. We’re still waiting.

So what happens when Wal-Mart (or Target or Sears) eventually buys Amazon? Will they muck it up?