Pyrrhic victory

Although Sony won the Blu-ray standards war, the FT reports that it’s failing to help the bottom line:

Hollywood's expensive bet on Blu-ray technology has failed to prevent a sharp decline in home entertainment sales, dealing a blow to the film industry as it grapples with the global economic downturn.

Home entertainment revenues across the industry fell more than $2.6bn in 2008 as sales of standard DVDs tumbled, according to a new report from Screen Digest, a research company.

There are a variety of explanations for falling DVD sales. Some say piracy, some say rentals, some say downloads. I personally think the issue is the declining marginal utility of additional DVDs: in 1998 it was novel to own a random-access (semi) durable movie, but eventually everyone had video pacifiers for their kids and more movies than they ever watch.

Meanwhile, the lack of demand for Blu-ray has been noted for some time. Again, I wonder whether the marginal value of the increased quality (and slight manufacturing cost increase) justifies the 50% price premium.

Whatever the reason behind declining DVD sales or the failure of the next generation to catch on, this is a reminder that it’s impossible to accurately estimate a priori the value of winning a standards war. The Blu-ray circumstances may be unique, but as David Wood reminds us, it’s hard to predict the future.

Does Blu-ray have a future?

Matt Richtel and Brad Stone had a great article earlier this week in the NYT about Blu-ray, timed to the opening of CES in Las Vegas. It could have been titled: “After crushing HD DVD, why aren’t Blu-ray sales booming?” After all, people said “confusion” prevented adoption of HD pre-recorded video, and there’s no confusion any more.

The reporters wrote about how digital downloads are looming if not already here, and how manufacturers used price cuts on players during the Xmas season to stimulate demand. They really summed it up nicely:

Andy Parsons, the chairman of the Blu-ray Disc Association, a consortium of the format’s backers [said] “We think this year we’ll start to see the format really take off into the mass market.”

But evidence exists that many people either do not know enough about Blu-ray to buy or do not think the more expensive players and discs are worth the extra investment.

Going from the whirring VCRs of yore to a DVD player was a big leap in picture quality and convenience, while the jump from DVD to Blu-ray is subtler, at least for those who do not have the latest and largest high-definition televisions.

The question I want to know is: why is there such a price premium for the discs, as much as $10 a disc? (Or, as the article says, $1/month for Netflix?) If people really wanted Blu-ray adoption, they’d lower the price of the media, which quickly adds up to more than the player cost.

Most of the cost of the disk is the IP, the materials, the packaging and the distribution. Yes the manufacturing cost is a little higher: by one estimate two years ago, about 80¢ a disc ($1.30 vs. $0.50). That gap will only narrow over time — unless of course the studios get too greedy at trying to extract a premium for the HD content. (The actual cost story for digital downloads is more convincing: 1080i is 6.5x as many bits as NTSC, while 1080p is 2x more than that).

Yes, I know the difference between value and cost based pricing. DVDs are a commodity and Blu-ray are the (relatively) new and cool thing. But as the NYT article reminds us, adoption of expensive HD gear is going to be slower than expected due to economic troubles — sales of electronic and electrical goods were down 21% for Xmas 2008 over 2007.

In the race between discs and downloads, the movie studios don’t care what format people buy (as long as they buy). Netflix would love to run a proprietary video download store that’s as successful as Apple’s music store. So an early shift from discs to bits would most hurt the disc stampers (who have little influence over the retail price) and the player manufacturers (who have none). I think Wal-Mart and Target would also like to keep the discs alive if they can, because they are likely to play a minor role in digital downloads going forward.

The choice of extracting rents from price insensitive early adopters vs. priming the pump for mass market adoption is always a dilemma. But in this case, the threat of digitization means that the window will be closed if they wait too long to offer mass market prices.

Toshiba surrenders

As speculated for nearly a year, and specifically rumored for the past week, Toshiba officially threw in the towel this morning, pulling the plug on HD DVD. The proximate cause was Warner’s decision in early January to abandon HD DVD to exclusively support Blu-ray.

The HD DVD lifetime sales figures were reported by Engadget from the Toshiba press conference:

600,000 players in the US and 300,000 Xbox 360 HD DVD drives. 100,000 units were sold in Europe. And about 10,000 players and 20,000 recorders in Japan. So about 1,030,000 units worldwide.

Toshiba’s president was also asked by lawsuits from angry orphans, but Toshiba’s president (correctly) noted “there will be always be a risk in buying.”

In addition to kits coverage, Engadget also kindly offers a Top 10 list of things to do with your defunct player.

Sony — which lost the original Betamax battle — is officially the winner with Blu-ray. It appears its gamble of bundling Blu-ray with PS3 has paid off — at least for Blu-ray, if not for PS3. (BTW, the WSJ reports the 6.3 million Blu-ray players sold worldwide includes PS3 devices, but Wikipedia reports 10.5 million PS3 sold and that all have Blu-ray)

Today people are assuming that the format war was causing consumer confusion and hesitation, and thus sales will take off now that it’s over. But I can think of two other explanations for the slow uptake of Blu-ray. One is that it (the player and/or discs) is too expensive: the HD DVD price war last Christmas made prices more acceptable and spurred demand, but now that Sony has won, will it be so aggressive on pricing?

The other possibility is that the need for HD discs isn’t all that strong yet. We all have lots and lots of DVDs on our shelves, and buying a new player does nothing for those. Also, HD penetration is still (I suspect) less than 50% of households, so lots of people will see little or no benefit from an HD player.

Sony will need to aggressively price cut next Christmas to get players into people’s hands. Will that work, or will it need a final push from the March 2009 changeover to digital TVs?

Or will there still be skinflints like me that object to Hollywood charging $40 for the HD version of a $15 DVD? (It’s not like they have to pay their actors or writers by the pixel).

HD DVD says “I’m not dead yet!”

While I was never a huge Monty Python fan, I still enjoyed the British comedy troupe in small doses. After all, who could forget the infamous exchange from Monty Python and the Holy Grail: “Bring out your dead” and repost: “I’m not dead!”†

This week my MBA students are picking term projects and several have suggested the next-generation video format war, which pits Blu-ray (Sony, Panasonic, Samsung) vs. HD DVD (Toshiba, Microsoft). As a standards researcher, there’s nothing I like better than a good standards fight, but since Blockbuster dumped HD DVD two months ago, it looked like things were tipping to Blu-ray and the battle was all but over.

Now HD DVD has proven “I’m not dead yet!” It shows that when you’re behind in a standards war, there’s always something you can do. In this case, Toshiba and/or Microsoft bribed two major studios to switch sides. Here’s the new lineup:

• HD DVD: Universal, Paramount, Dreamworks Animation
• Blu-ray: Sony, Disney, Fox
• Both: Time Warner, Paramount

The story is a little messy, because Dreamworks Animation is a public company still controlled by two of its billionaire founders (Katzenberg, and Geffen), but in 2005 they sold Dreamworks Pictures to Paramount. Also, pictures directed by Steven Spielberg (the “S” in SKG) are not exclusive to either format. Still, the announcement means that November’s release of the popular Shrek the Third will be exclusive to HD DVD (plus plain old DVD).

Of course, when you’re behind in a standards war, you have to do something or you’ll get wiped out. The NY Times quoted anonymous executives of Viacom (parent of Paramount) as saying that the HD DVD group was paying $150 million for the switch. It’s not a huge risk, because that the exclusive was promised only for 18 months (according to the NY Times), just long enough for two Christmas seasons.

Uncertainty is bad for Hollywood, which has long memories of VHS vs. Beta. However, the HD DVD camp is pushing down prices of players — at $150-200 less than Blu-ray — which is likely to fuel adoption. The stakes are more than just players. Sony is pushing Blu-ray in its PS3, while Microsoft’s Xbox 360 includes a HD DVD player. One estimate said 90% of the Blu-ray movies are being played on the PS3.

HD DVD buyers still have the legitimate fear of becoming (as economist Paul David put it in a 1987 paper) an “angry orphan.” Given this, consumers may be willing to risk $200 on a player but not more money on a large library of content — ideal for the rental market, except that Blockbuster is exclusively Blu-Ray. Netflix is quietly supporting both HD DVD and Blu-ray, but it’s not like they’re promoting either one. Would winning over Hollywood Video be enough to matter? If I were Microsoft (or Toshiba), I’d offer a joint promotion with Hollywood Video to mail introductory coupons to affluent neighborhoods near any Hollywood store that carries HD DVD.

† For the past 30 years, I’ve heard it quoted as “I’m not dead yet!” but the “yet” is clearly missing from the original.

Technorati Tags: Blu-ray, HD DVD, movie industry, standards

Sony 2, Toshiba 0

3rd in a series of insomniac blogging.

Monday brought the news that the leading US video rental chain, Blockbuster, is rolling out Blu-ray nationwide and dropping HD DVD. Endgadget seems to think it’s game over in the next-generation DVD format war between Toshiba and Sony.

I’m more inclined to agree with Forbes that Blu-ray is pulling ahead. The interesting thing is that Blockbuster’s decision after a 250-store trial reflects consumer demand rather than that Blockbuster (a shell of its former self) has the power to sway markets.

Of course, Sony already won the important first round: five of the big six Hollywood studios back Blu-ray, with only Universal in the HD DVD camp. So it’s not surprising that consumers would want to rent Pixar or Paramount movies instead of limiting themselves to one studio. (This raises the question of why Toshiba launched HD DVD without broader backing).

If Sony does win, this would also influence the Microsoft vs. Sony video game war, since Xbox 360 has HD DVD and the PS3 (natch) has Blu-ray. (Neither format will have any impact on Wii, which is what American consumers really want for a videogame console).

Competition is messy, but competition is good. There was some talk of merging the two standards (as happened with DVDs), but that likely would have doubled the patent royalties paid by every manufacturer of disc players.

The final round will come on the store shelves. Will Best Buy and Wal-Mart stop shelving HD DVD players? I remember how hard it was to find a Beta VCR back in 1990 after ours was stolen in a burglary. At that point, there were only two manufacturers left for what had long since become a declining market: Sony and Toshiba.

Technorati Tags: Blu-ray, HD DVD, standards