Does ease of use matter? Amazon hopes not

During the peak of the Steve Jobs era, Apple’s competitive advantage was a unique combination of three factors:

• creating or re-inventing product categories, whether the GUI PC, MP3 player, smartphone or tablet
• elegant industrial design; and
• superior ease of use.

The goal, of course, has been to sustain the obscene gross margins that have been part of the company’s DNA for 30+ years, enabling it to plow back money into R&D to create the next great thing.

Of course, neither its competitors nor customers are content to let it enjoy those margins in perpetuity. Windows 95 was demonstrably inferior to Mac OS, but it was good enough and ran on cheaper hardware available in a wide range of models from dozens of companies. The "good enough" knock-off nearly killed Apple until the late great Steve Jobs came back and saved the company.

The company still loses its way now and again, as when I try to get its buggy mail client or crash-prone web browser to work in the real world. (The company is best when it controls the end-to-end experience and worst in the wild-and-woolly world of semi-open semi-standards.)

Still, I get reminded now and again how terrible its competitors are. Last year, I spent a week as an Android user before giving up, while my teenager still has a love-hate relationship with her Android phone (to the point that she uses her aged iPod Touch more than the newer and nominally more capable phone).

And then there’s my awful experience with Amazon today and their special Xmas Eve sale on a slew of MP3 albums — $1-2 each for album downloads by Legend, Red, greatest hits by Abba, Carpenters, Johnny Cash, Hall & Oates, Bob Marley, Simon & Garfunkel, Taylor Swift.

I’ve been buying (or at least downloading) Amazon MP3 files for four years, and the experience on the Mac has always had its quirks. The initial model was pretty simple: click and download an MP3 file (like you’d download an installer or PDF). But for multi-songs, they made you install their downloader to parse .amz files, which generally worked well once you had it — at least until today.

Then I spent my $3.98 for two albums (Johnny Cash and Simon & Garfunkel) and still have no songs to show for it. The web client insisted that I install their super-duper special downloader, even though the downloader was currently running on my machine.

In the old Amazon model, tech support would show you a hidden back door to re-download your songs. Now, all your songs become part of the “Amazon cloud player” and you have to manually select each song (not an album) and then apparently register any device to download the songs. As I write this, I’m still waiting to hear from Amazon tech support as to how to get my songs — it’s a busy day for digital downloads, so I may not get an answer before I leave home to start our family celebration.

As with most users, I don’t care whether I get my songs (if I can get them) between Amazon or Apple: it's the same content either way, just delivered in a different format via a different channel. So that leaves price and (at the margins) ease of use.

Apple still has a superior experience for music downloads, although their commanding lead for US music downloads probably has more to do with their head start and dominant MP3 market share. Conversely, Amazon’s dominance in book downloads is more likely due to its readers than a superior product or ease of use.

So Apple’s opportunity is to keep (or gain) market share based on ease of use. Amazon got me to try their MP3 service by offering free songs, and I will continue to take their free songs (as with the dozen free Xmas song I downloaded in the last hour). But if the price is the same, I’ll go with ease of use, and for downloading songs Apple still has Amazon beat.

Is Pandora boxed in by supplier pricing power?

The 1990s brought numerous dot-com companies that never turned a profit, but had a “business model” of selling themselves to the greater fool, whether it be public shareholders or acquisition by a large firm. (This trend confused my students, who after several years of bad examples thought flipping a money-losing company counted as creating a business model).

Most of those companies are long gone. Instead, we have Pandora, which has yet to show a profit since its June 2011 IPO, but has a market cap of $1.7 billion.

To be fair, it has survived predictions of failure from four years ago. In a difficult market segment where firms have little control over costs (i.e. royalties), Pandora remains the most successful Internet radio service of all time, with Last.FM swallowed up (and largely forgotten) within the bowels of CBS, Live365 remaining privately held and most of the other firms now defunct.

The recent interest (and speculation) in Pandora centers on Apple’s rumored plans to create its own music streaming service. (More recent accounts say Apple’s plans have been delayed by the greed of the same record companies that make it impossible for Pandora to turn a profit.) The speculation knocked Pandora’s stock off its highest price since March, but other than that temporary blip, the stock has been trading in a range of $10-11 per share for nearly five months — although below its $16 offering, that would be a raging success by Facebook standards.

Now some (including Business Week) speculate that Apple’s interest will prompt Apple’s major rivals to buy Pandora to compete. Google competes with Apple on cellphone platforms, while Amazon is its major competitor in music streaming.

This comes despite analyst predictions of 2012 Pandora losses nearly doubling to $30 million. As with three years ago, Pandora is losing money on every sale but making it up on volume. (Thanks to the IPO, the company’s balance sheet is solid enough weather several years of such losses, even without any secondary offering).

Business Week even speculates that Clear Channel might be interested in supplementing its online service with Pandora (much as CBS bought Last.FM). This seems the least plausible, given all Clear Channel has spent on iHeartRadio, the mobile clients and even live concerts to promote the brand.
So as in the dot-com era, we have the hope that losses will be redeemed by a beneficent acquisition before the company runs out of money. But where is the business model? If it’s not possible to make money with current pricing (and cost structure), will volume solve the problem?

From following the cost structure of Internet radio for more than a decade, I see no cause for optimism. Facing a collapse in their core business, Hollywood labels hope extract every penny from newer (and smaller) channels, including Internet streaming. The bigger and more successful Pandroa gets, the more money record companies will seek to extract. Like a Dumas musical, it’s unlikely to turn out well for the protagonist.

Sorry, Steve

Steve Jobs made a few announcements yesterday, and as usual, probably every man woman and child on the planet has heard the news about new and improved iPods etc. Heck, you can even find a few hundred articles that talk about his decision to ditch the mock turtleneck.

Most of it was the expected better, faster, cheaper. The Nano I bought last month (on a special promo) is now smaller and has a clip. The youngest member of our household is hoping that the iPod Touch will be drop-shipped from the North Pole in late December. (Steve finally admits that the iPT is just an iPhone Lite). The AppleTV is no longer a hackable Unix-based stripped-down Mac, but (if rumors about its use of iPhone OS are to be believed) an iPT without a screen.

However, I think the new iTunes movie policy is crazy: no sales, $1 for renting a TV episode, and $5 for renting a movie. Maybe he’s just greedy or not serious; I don’t know.

Maybe it’s because the studios are fighting him and demanding ridiculous royalties; certainly the decision of CBS and NBC to boycott the effort suggests the studios are not cooperating, although the NBC recalcitrance (even pre-Comcast) is déjà vu all over again.

Movie rentals are a commodity. Right now I rent my movies for $1 from a kiosk at my grocery store. In other cases, I pay $0 to rent movies or TV episodes from the library, or $0 to watch TV episodes on a website.

Meanwhile, Netflix will gladly rent me movies and some downloadable content for $9/month. That includes downloads to a Wii, PS3, Xbox360, iPad or AppleTV.

Why would I want to pay $5 for a single movie rental? If the studios conspire to embargo movies from the discounters for 60 days — and somehow avoid antitrust scrutiny — then it might be possible to charge a premium for hot new releases. Otherwise, it’s hard to see how anyone — save perhaps rich Silicon Valley elites who have more dollars than sense — would pay more than $2-3 for a download that’s available in so many other ways for a heck of a lot cheaper.

Deceptively viral Nano

The conventional wisdom is that the iPod is on its way out. Units sales in Apple’s 4th quarter were down 8% YoY, and the fall iPod refresh was disappointing. One could easily conclude that Apple has given up on the product line and was milking it until end of life.

This is certainly evident at both ends of the product family. The classic iPod — hard disk based — is a tiny niche that is going away. The Shuffle is already about as small as it’s going to get, and there are limits as to how many people want a player that offers no control over what you hear.

The iPod Touch is deliberately crippled — if it’s too attractive, it will cannibalize iPhone sales. Perhaps that is why Apple didn’t update the iPT this year — except for larger memory sizes — despite pent up demand for a new model. It could also be (as rumored) there were production delays on a planned new model.

From a strategic standpoint, however, I think the iPT is in a decline. My interpretation is that the main goal of the iPT is to expand the platform installed base to include people who won’t sign up for a carrier (such as AT&T) or won’t switch carriers. (Since almost every sentient human being in the developed world has a cellphone, the latter is a larger category.)

However, Apple now has multiple carriers in Europe and Latin America. This leaves mainly the US as the market for the iPT for the majority of the market that doesn’t or won’t use AT&T. (Apple also has single carriers in Japan and China, but the lukewarm reception for the iPhone does not suggest a lot of pent up demand to shunt to the iPT). So I think over time the pool of people who want the iPhone but won’t/can’t buy them is continuing to shrink.

For the iPod product line, that leaves the iPod Nano. I must admit, I underestimated the potential for the iPod Nano 5G, which seems like an overpriced Shuffle with a screen. In particular, the video camera seems like it offers a ubiquitous recording device for those carrying a music player but not a cellphone.

In short, the product is well-targeted to tweens and young teens from families that will spoil them with a one-time $150 purchase but not an $800/year iPhone service plan that doesn’t even include many text messages. Enough Nanos are out there that (affluent) kids know about it and how fun it is. I’m getting pressure at my house from a 6th grader, pressure we hope to resist.

An additional push is coming from the world’s largest retailer. Starting today, Wal-Mart is selling the $150 Nano for $145 with a $50 iTunes gift card. (The same Nano is $134 at Amazon without a gift card). I can’t tell if this is an aggressive effort to build traffic — and Apple to support iPod sales — or it’s Apple dumping inventory that otherwise wouldn’t be selling.

Given this, I expect most of the iPod sales reported in quarter ending Dec. 26 to be the Nano. Will iPod sales be as good as last year? Certainly not in dollar terms — when more iPod Touch models were sold — and I’m guessing not even matching the 22.7 million iPods sold last Christmas.

Still, as a starter iPod (gateway drug), the iPod Nano will add new young customers to the iTunes Store and iPhone/iPod ecosystem. Building brand and product loyalty among pre-teens is clearly crucial for Apple as iPhone challengers continue to flood the market.

Ganging up on iTMS

Microsoft is running a new TV ad with “Certified Financial Planner” Wes Moss, promoting the $15/month Zune Pass as being cheaper than buying thousands of songs at $1/each from the iTunes Store.

As Ars Technica writes:

Moss compares $30,000 for iTunes to $15 for the Zune Pass. So where does Microsoft get the $30,000 number? Well, seeing as the 120GB iPod appears in the ad, I'm thinking the company is estimating each song at about 4MB, which really isn't much of an exaggeration. Of course, it's not exactly $15 versus $30,000. The $15 is a monthly fee, so you're likely going to be paying more if you plan on playing music for more than a month. That said, it would take you 166 years and 8 months to shell out $30,000 for the Zune Pass; many of us won't be living that long.

As of November 2008, the Zune Pass allows its users to keep any 10 songs per month. In other words, if you wanted 30,000 songs for keeps, just like the iTunes Store, you would have to wait 250 years. The cost would be a whopping $45,000, however. In other words, it's only really worth it if you're OK with the fact that you have to keep paying the monthly fee to keep access to the songs that you don't yet own. Otherwise, iTunes (or any other à la carte model) is the way to go.

Good Morning Silicon Valley (the Merc) observes:

The commercial doesn’t even mention the Zune itself; a non-techie viewer could be forgiven for thinking that the Zune Pass was an alternative service for iPod users. But going head to head on hardware probably isn’t the best play for the Zune anyway. The first step is to try to introduce doubt about committing to the Apple ecosystem by arguing the benefits of subscription over ownership. It’s a legitimate argument, depending on your needs, but one that hasn’t helped other subscription services like Real’s Rhapsody slow down the iTunes juggernaut. There’s no particular reason to think that Microsoft’s attempt to make the case will fare any better.

Whether I agree with their conclusions or slant, Microsoft is making legitimate comparisons between its offerings and Apple’s. That’s competition, and if it starts to have an impact, Apple will have to stop acting like a music monopolist.

What I found remarkable is that the Beast of Redmond is being more honest in its attack on Apple than is Sony.

In an interview posted this month by Nikkei Electronics Asia, Sony CEO Howard Stringer has suddenly become a convert to open standards. Stringer laments the failure of Sony’s late proprietary efforts to control consumer music libraries:

Q: In your keynote speech at the 2009 International Consumer Electronics Show (CES), you said that open technology is important today. Is that feeling based on the needs of customers?

A: That's right. Customers will refuse to accept it unless the technology is open. Youth in particular really dislikes closed technologies, closed systems and the like. …

Sony hasn't taken open technology very seriously in the past. Its CONNECT music download service was a failure. It was based on OpenMG, a proprietary digital rights management (DRM) technology. At the time, we thought we would make more money that way than with open technology, because we could manage the customers and their downloads.

This approach, however, created a problem: customers couldn't download music from any Websites except those that contracted with Sony. If we had gone with open technology from the start, I think we probably would have beaten Apple Inc of the US.

There was a time when it made sense to divide the market with closed technology, and monopolize a divided market, but that's just not an effective strategy any more. In the Internet universe, there are millions of stars - millions of options that have been created through open technology.

Every CEO is entitled to his woulda, coulda, shouldas. However, after years of being Sony going its own way on proprietary standards, I will believe Stringer’s deathbed conversion to open standards when the Memory Stick in every Sony camera is replaced by the de facto industry standard, Secure Digital.

However, Stringer was flat out lying seriously misinformed in his next paragraph:

Apple's iTunes Store uses its own proprietary DRM called FairPlay. I think this gives Sony a chance to provide something that Apple can't. And we have to move ahead and grab that opportunity before Apple begins to provide support for other hardware and blocks us out.

Apple announced four months ago that it was going DRM-free. Today, the FAQs on the iTunes Store are very clear:

iTunes Plus Frequently Asked Questions

What is iTunes Plus?
Now all songs on the iTunes Store are iTunes Plus songs. That means every song is available in our highest-quality 256 kbps AAC encoding (twice the former bit rate of 128 kbps), making for a sound that's virtually distinguishable from the original recordings. Plus, All music on iTunes is available without digital rights management (DRM). There are no burn limits and iTunes Plus music will play on all iPods, Mac or Windows computers, Apple TVs and many other digital music players.
…
Can I still buy music encoded at 128 Kbps with Digital Rights Management (DRM)?
All songs on the Store are now available in iTunes Plus, so tracks are no longer available as 128 kbps and with DRM.

Steve Ballmer, the honest competitor? I guess that goes with him being the nice one too.

Graphic credit: Joy of Tech.

Amazon gains on iTunes

By leading the way on DRM-free downloads, and on the strength of a joint promotion with Pepsi, Amazon is apparently gaining share on Apple’s iTunes store.

CNET quotes NPD as saying that in 2008, 87% of US digital music buyers used iTunes and 16% use Amazon (I would have expected more overlap).

Some 18 months after launching, Amazon is now in a credible 2nd place, at least in the US market. It appears — as the Big Four labels intended — that Amazon is having more impact on Apple than I had assumed.

Both Apple and now Amazon and Wal-Mart will be charging more (as labels long demanded) for current, more popular titles.

However, PaidContent (great site) has some news that has to be worrying for Apple’s rivals. Citing a Piper Jaffray report, Joseph Tartakoff writes:

…a new report from Piper Jaffray says that iTunes is now essentially the only option teens consider. Forty percent of high school students in the investment research firm’s bi-annual teen survey legally purchased music online. Of those, 97 percent said they used iTunes, up from 81 percent a year ago. Piper Jaffray attributes the growth in large part to slowing momentum from newer competitors, like Rhapsody, eMusic and Amazon MP3.

The way I read this:

• Amazon is cross-selling MP3 files to its core customer base — people in their 30s and 40s who saw Amazon as breakthrough technology when it came out during the dot-com era.
• Apple has a lock on selling trendy iPods to the affluent teen market where parents out of guilt pay for their kids’ legal downloads.
• Kids whose parents won’t pay for downloads are using second-tier players and bootlegging music.

This is a really odd business relationship. On the one hand, Apple gives the labels exactly what they want: creating a new market that gives people a chance to buy legal downloads, and perhaps prevent an entire generation (just most of it) from thinking digital music is free music. The labels repay it by encouraging rivals like Amazon to Apple to put pressure on it.

In turn, Apple complains bitterly to the public and regulators that the big bad labels made it use DRM. When the labels help Apple’s rivals go DRM free, then it uses that precedent to ditch DRM too, enabling the same music copying problems the labels vowed to prevent.

I would say that’s just business, but this is a particularly thorny problem for which there is no good answer. Or perhaps we just have a test of wills between the one and only Steve Jobs-sized ego against Hollywood-sized egos (which are pretty big too).

Even iTunes has competition

As predicted, the Apple announcements in the Phil Schiller keynote this morning at Macworld Expo were mostly minor, although it sounds like Schiller did a demo to the same standards as his boss would have.

The biggest news was that the iTunes Store is going DRM-free, with 256K files available from all four major labels (not just EMI) by the “end of the quarter.” Is this because of pressure from Amazon? Somehow I doubt it. Instead, I believe this is because Apple has concluded the long and difficult negotiations with the remaining labels to release music DRM free, as it claims to have wanted to do for years (or at least since it got into antitrust problems in Europe).

However, I do think Amazon played a role in the price drop to 69¢ for some (most?) back catalog songs. It could be that Apple won the same pricing terms that Amazon was already using to offer such prices, or perhaps it matched some improvement in operational efficiencies (or scale) that Amazon also has been enjoying.

More interestingly, the price cut and the DRM free songs seem intended by both Apple and the labels to boost lagging iTunes sales. Schiller announced that Apple had sold 6 billion songs, lower than what I’d expected. This could be because all the honest people have bought the missing back-catalog songs that they want, or it could be due to competition from Amazon (or others), or because during a slow economy, digital downloads are a luxury.

Still, the iTunes news was the highlight of an otherwise uneventful keynote. The other announcements were hardly exciting:

• Incremental improvements to its (now web-enabled) application suites, iWork and iHome.
• A bundle of the apps with 10.5 to get people to switch over
• An updated 17" laptop, the most expensive (and thus least popular) model in the line.

Of these, the most intriguing updates were for iPhoto which promises to do automatic face detection to sort pictures of the same person together, as well as better integration of geotagging.

What I most regret about not seeing the keynote was missing the live Tony Bennet performance, singing (of course) “I left my heart in San Francisco.” If it shows up on YouTube or a TV station, I’ll post a link.

Amazon and Pepsi: Thanks for the memories

When others were readying to ring in the new year, I spent more than an hour scrambling to use up my last 94 points from the Pepsi Stuff promotion. As promised, the website and Amazon’s page disappeared on Jan. 1, even if the Facebook page remains live.

I think the promotion was well designed and well executed. Announced in January and launched with a Super Bowl ad, the promotion began Feb. 1 and ran for 11 months.

This was Pepsi’s second effort to seed digital downloads, following its earlier cooperation with Apple’s iTunes Music Store. With its 2003 press release and a 2004 Super Bowl ad, Apple and Pepsi announced plans to give away 100 million songs, but only about 5 million were redeemed. A second promotion (twice as big) ran in 2005, although both the first and second contest allowed cheating.

Both the original Pepsi promotion and the 2008 successor were effective with me. In the most recent case, I signed up with Amazon, installed its downloading application, and bookmarked its webpage for weekly “MP3 Deals”.

Mainly through my wife’s (two case/week) Diet Pepsi habit, at one point per sixpack I accumulated 259 points: 180 for songs (36 songs), 75 for a t-shirt, and 4 that went unused. I downloaded 36 songs with Pepsi Points — 18 in the final four hours of the promotion. 21 songs were classical albums (one song at a time), most of the rest were singles from groups where I didn’t want the albums.

But the promotion was also effective at shifting my attention during this period from iTunes to Amazon. In some cases, the cost per song on the MP3 Deals was too good to pass up: I bought five albums (with 9-21 songs each, most at $5): two classic rock albums, one classical album and a Xmas album each for my wife and daughter. I bought five singles, three of those Xmas songs.

I originally thought the UI was clunky compared to iTunes, and there were serious problems due to the web page metaphor. On multiple occasions, I unintentionally interrupted the download (but not the purchase) by backing up in the browser, leaving me with no song; tech support had to manually make the song available. This is something that would be easily fixed if every purchase opened a new page.

Because Amazon requires one click purchase for songs — something I otherwise disable on my Amazon account — I also accidentally bought one song I had no intention of buying because I clicked on the wrong part of the UI. (Given we’re in America, this seems like a lawsuit waiting to happen when someone with poor vision or motor skills claims fraud due Amazon’s policy.)

On the other hand, I thought the Amazon merchandising was much more clever and aggressive than Apple’s staid and dated site. Apple offers one free song a week, which (I expect) will always be something oriented at its teen demographic. Amazon offers dozens of free songs, which caused me to linger longer at the site; the $5 albums certainly caused me to keep coming back every week, particularly since one was usually a classic rock album aimed at my demographic (such as “Dark Side of the Moon,” which I once owned in college but never acquired as a CD).

Both sites have restrictions on downloads, many of them obviously imposed by the labels. The premium classical brand, Deutsche Grammophon (one of four classical music subsidiaries of Universal Music Group), marks at least one song of every piece (e.g. symphony) as “album only,” forcing customers to buy the entire album. On the other hand, Amazon’s variable song pricing makes sense for longer cuts (such as a 15-minute movement from a classical piece) than the standard 3-5 minute single on a pop album.

Amazon also has DRM-free, while Apple’s efforts to shift to DRM-free have stalled after only EMI decided to cooperate. The iTunes DRM system works reasonably well, but every so often is intrusive to the point of being irritating.

Apple is still the market leader in music downloads, with five billion songs as of last June and perhaps an official announcement of a new total (seven? eight? billion) next week at Macworld. As with the Kindle, Amazon is not saying how many songs it has provided, only the number of songs available.

Overall, I think Amazon managed this promotion very effectively, using it to reach second place in the (U.S.) download market. Still, it’s not clear whether I’ll be back to the Amazon store now that I no longer have Pepsi Points to spend.

Digital music files are a commodity for me: it doesn’t matter whether I download them from Amazon, from iTunes, or buy a used CD and convert it: the main driver is price. The CD is usually cheapest if I want an album, while the downloads are cheapest if I only want one song (assuming the publisher allows it to be sold ala carte). It’s easier to compare prices between Amazon and iTunes (or between Amazon and its used CD sellers) than it is to go to a physical Wal-Mart and Target, and anything that makes price-shopping easier fuels commoditization.

The record labels have done everything they can to enable Amazon’s entry to fuel competition to Apple and reduce its channel power. To the UCLA and USC MBAs running the record labels, this must have seemed like a no-brainer application of the “supplier power” concept of Porter’s Five Forces.

However, lacking a quality or easy of use advantage — or any sort of differentiation other than DRM-free and integration with the Amazon catalog/buying system — Amazon has been aggressively using price to gain market share: free songs, bargain albums, songs at 89¢ or 79¢ each. This further encourages shoppers to price shop, reducing the perceived value of digital downloads and increasing commoditization.

Between pirated content and distribution alternatives, the music industry is further along the commodization path than is its video counterparts. I can’t see a scenario (even in the short run) where the labels can push through a price increase (as does the movie industry) to Amazon and iTunes, and with commoditization I’d expect music publishers’ average per unit revenue in real dollars (not to mention unit sales) to be lower a decade from now than it is today.

Television disintermediation

Driving home from work (a Saturday class), I happened to flip to a Sacramento radio station that was running a syndicated computer radio show by Kim Komando. It’s not sexist to say that — although I didn’t know this while driving — Kim is far prettier than her major rivals (Leo Laporte and Larry Magid). What caught my attention on first listen was that she struck the right balance of knowledgeability without either being obvious or condescending. I’ll certainly look for it next time I’m driving alone on a Saturday between 12-3.

Kim pointed out an article that I had yet to read from Friday’s Wall Street Journal, which spells out how the Internet is increasingly a flexible and cost-effective substitute to cable TV:

Turn On, Tune Out, Click Here
TV Viewers Cut Cable's Cord; Here's What They're Watching Online Instead
by Nick Wingfield

Kim was right to identify the importance of this article identifying an important trend for television distribution. Nowadays, most broadcast TV episodes and an increasing proportion on cable TV shows are available online via iTunes, Hulu, YouTube or the network’s website, as with the recent Sarah Palin satire on Saturday Night Live.

Cable was the ultimate IT monopoly — either you paid your local provider, or had to settle for broadcast. Then VSATs made possible DirecTV and Dish Network, so that cable had some viable substitutes. Today the two surviving Baby Bells, Verizon and SBC, are offering fiber-to-the-home based competitors under the FiOS and U-verse brands.

The Internet offers the prospect of disintermediating these pipes for distributing this television content to the home. (Let’s leave aside for now the minor problem that except for WiMax, all those Internet connections are provided by these same companies).

While some of these solutions are obviously inferior in terms of resolution and other performance metrics, the rise of the Internet as an alternative has arrived much quicker than I would have anticipated even 18 months ago when one of my students was proposing to make a video download box. There’s been an obvious boost from AppleTV, the Netflix Player (from Roku), and the various Slingbox and SlingCatcher products.

When I first used Amazon.com more than a decade ago, I underestimated how quickly it was going to change both my personal habits and retailing in general, including contributing to the death of America’s greatest record chain. Given that, I think Cox, Time Warner and especially Comcast have a grim future. Unlike The Phone Companies, they have few options for diversification and vertical integration, even if they are doing their darnedest to surpass TPCs’ (admittedly low bar for) customer service and customer satisfaction.

5 billion served

Apple announced Thursday it has surpassed the 5 billion milestone on songs downloaded from the iTunes Store. I wanted to say it was reminiscent of the old McDonalds signs, but apparently that number was “over 3 billion served” — and thus more appropriate for the milestone Apple passed last summer. (Note: they didn't say how many movies they have sold to date).

This cements Apple’s position as the number one desktop-based music service. In a distant second in the US is AmazonMP3. Amazon’s success seems to be growing the market, not stealing share from Apple.

As it turns out, I finally got around to trying AmazonMP3 this week. As with the two earlier Pepsi/iTunes promotions, my tracks came from my wife’s two-case/week Diet Pepsi habit. This time around, with the Pepsi-Amazon promotion, 2½ cases = 5 Pepsi Points = 1 Amazon MP3. (But unlike the iTunes promotion, the points can be used for other products, like her Pepsi T-shirt that arrived this week.)

I decided months ago to use the free (Pepsi) downloads on Amazon to fill in the gaps in my Linda Ronstadt collection (just as I used the free iTunes downloads to fill gaps in my Jackson Browne collection). I once had a complete collection on tape of all her albums from 1967 to 1978, but on CDs only bought the good stuff from 1973 to 1976: Don’t Cry Now, Heart Like a Wheel, Prisoner in Disguise and Hasten Down the Wind.

The Amazon collection of Ronstadt tracks was pretty complete: 321 songs, counting remixes and other variants. I was able to find the Linda’s 1970 version of the Jackson Browne hit “Rock Me on the Water”, as well as her 1977 cover of the Elvis Costello song “Alison”. I had less luck with one of the songs from her earlier band Stone Poneys — perhaps because the band disappeared 40 years ago and isn’t around to negotiate download rights.

The songs downloaded easily, and once installed, they played great; the lack of DRM makes the songs much more convenient to use than Apple’s original DRM’d downloads. DRM-free MP3 files for 89¢ is about as close to a commodity as you get. The only problem was, the UI was terrible — hard to find songs, even harder to browse. (321 songs, not browsable by album? Gimme a break).

So Amazon will continue to commoditize the DRM-free download business. Perhaps it will help persuade more kids to buy rather than steal music, but somehow I doubt it: Apple seems to have the hearts and minds of the teen set (and gift cards from their parents), so if any one will get them to pay for music, it’s Apple. I certainly don’t see how Amazon will dislodge iTunes; perhaps a rival in CJK (China, Japan or Korea) will pull it off, but Amazon plays to the same audience that Apple does.

Mobile phones are another story: this market has yet to take off. At least in the US, Apple’s lead on paid desktop downloads give it a leg up on the sideload market. Real is still hoping to establish its PC-based subscription model (with sideloading), while both Nokia (with “Comes with Music”) and France’s Orange (with “Musique Max”) have proposed mobile-based subscriptions. (Some details of the business model are still being worked out).

I have about 15gb of legal MP3s on my laptop and various backup hard disks, and thus I’m pretty sure that any song I buy will go there, and sideloaded to my iPod or phone. We’ll see what my daughter does in a few years when she gets her first mobile phone, but right now she’s pretty PC (actually Mac) centric.

Hulu, GooTube and iTMS

In the battle of free online video, GooTube has been the preferred destination by far for user-contributed videos — some legal, some not. However, some firms have also cooperated by posting their own videos, as with my favorite band, the Eagles, whose publisher has posted official copies (of ten) current and classic Eagles music videos.

The iTunes Store (née iTunes Music Store) tried to get into the business of selling TV episodes, but got into a pissing match with NBC over price discrimination. (A principle iTMS was willing to compromise recently to get hit HBO shows).

Viacom (owner of CBS) is trying to help NBC break the Google/Apple stranglehold, by posting “The Daily Show” and “The Colbert Report” to Hulu. Of course, Viacom sued YouTube over the unauthorized reproduction of its shows, including these two topical shows from Comedy Central.

It makes sense that Viacom and others will band together to try to increase their power over the distribution channel and reduce Apple’s and Google’s. As long as they don’t offer more favorable terms to related entities — or conspire to put Hulu competitors out of business — this is a pro-competitive effort that sustains multiple distribution channels and more choice.

I think the HBO and Comedy Central have something else in mind. Half(?) of the US doesn’t take premium cable channels, or at least these channels. So this is a way to have influence and monetize revenues out of this remainder. Assuming, of course, that the reason we don’t subscribe to pay cable is because there’s nothing there worth watching.

Another iTunes victory

Apple this week announced same-day download movie sales from 20th Century Fox, Disney, Warner, Paramount and a few other studios. (It’s also possible to buy movies directly from AppleTV, for the few people who own one). The movies cost $15 each. This even includes cooperation from its recent nemesis Universal.
Some speculate that it will help digital downloads by others like Amazon and Netflix. I’m not sure I buy it — should Apple not try to grab market share and create switching costs, for fear it would grow the market and help its competitors. But analysts have to write about something.

The iTunes Store is not invincible: nothing is. But attempts by suppliers to reduce Apple’s buyer power keep failing.

No taxes on iTunes ... for now

Attempts by the California government tax iTunes downloads have failed, if only temporarily.

To avoid painful cuts, state legislators are looking everywhere for new sources of revenue. Democrat Charles Calderon introduced AB 1956 to tax digital downloads, but to avoid the Proposition 13 requirement (for a 2/3 vote on new taxes), tries to impose the tax through a reclassification.

The bill stalled (died?) in the Assembly Revenue and Taxation committee Monday. The only publication to report on the story was the Merc, who said the bill got only 4 votes (one Democrat voting no, one abstaining) and needed five. Since the committee had 6 Democrats and 3 Republicans, presumably this meant a vote of 4-4-1, with all Republicans opposed (but the Merc doesn’t say). There is no official vote in the legislative record, presumably because Calderon has asked for reconsideration to twist more arms to get his fifth vote.

A story last week about the tax plan explained the revenue goals as follows:

The Board of Equalization believes state and local revenues would increase by about $114 million a year, but Calderon's estimate, which he said includes pornography downloads, is about $500 million.

Some (including Board members in charge of collecting the tax) say that the tax increase will encourage a shift to illegal downloads. One thing it will clearly do is give Apple’s out-of-state competitors (such as Amazon) a price advantage, since from a practical standpoint they cannot be compelled to collect the tax.

Pro-tax politicians consistently underestimate the impact that taxes have upon people’s behaviors — i.e., the steps they will go to to avoid paying the tax. (Remember the “luxury” tax). So even if Apple is a sitting duck for $100 million in download taxes (less whatever market share it loses to Amazon), the expectation value for porn downloads should be zilch. Nada. Zip. If ever there was an industry that will flee state jurisdiction to avoid taxes, this is it.

Perhaps Calderon is being paid off by Las Vegas real estate interests, who need the porn industry to relocate 270 miles northeast to prop up commercial real estate rents. That — or support from Apple’s competitors — is the only logical reason why the state would want to pass such legislation.

MySpace music is no iTunes killer

Apple is now (semi-officially) the America’s largest music retailer, a position that many other entertainment, e-commerce, IT and other companies covet.

One of them might succeed in displacing Apple. Dell knocked off Compaq, and the Japanese have helped Detroit in its CFIT. But generally I’m skeptical of the wannabes, since nearly all (or maybe all) will fail: a late “me too” strategy is a guarantee of that.

That’s why I took notice of today’s MySpace deal to distribute songs (and other products) for three of the big four labels. It is not “the latest iTunes killer,” because it’s something more: similar functionality but delivered in a significantly different way. And building on a website that’s already the top social networking site in the US, which has some opportunities to deliver value in a way that the iTunes Store does not.

The one problem I see is that because the site (unlike Amazon’s) is continuing to push DRM-infested tracks long after consumers and industry have spoken, that implies that a) the record labels are calling the shots and b) they still are in denial.

Amazon, Audible and Apple

Amazon is buying Audible, maker of audio books, for $300 million. Chump change for an e-commerce transaction, but of course I’d love to have founders shares on such a deal.

I happened to see the story by Brad Stone in the dead tree edition of the NYT, and he raised some interesting points.

Stone noted that Audible was a dot-com (1999 IPO) that went dot-bomb with everyone else. Reading between the lines, the investments by Random House, Bertelsmann and Amazon in 2000 kept the company alive until its market ripened at it was swooped up by Amazon.

IMHO, like so many other companies spawned by the technology push optimism of the 1990s, this was a company years before its time (like eBooks). Its business model didn’t make sense until people had iPods (instead of laptops) to listen to their Alive to be bought by Amazon.

The other point that Stone (and I’m sure others) makes is that Audible has succeeded through distribution by the iTunes store to all those iPods. No word as to how Apple will feel about the deal, but I’m guessing Amazon is hoping Apple will say “bye” and it can try to switch all those Audible customers over to the Amazon MP3 store. The other possible outcome of a Audible-Apple divorce is that Apple makes some other company the next Audible.

Razors and razor blades

An anonymous commenter on last week’s iPhone posting mentioned Apple’s aggressive price cuts earlier this month on AppleTV, citing an article posted tonight on Gizmodo.

If you allow for distribution margin, Apple can’t be making anything on the 40gb AppleTV sold for $229, if iSuppli’s BOM estimate of $208 is accurate.

There’s nothing wrong with a razor- and razor blade cross subsidy. After all, that’s what videogame console makers have done for years — giving away consoles to make it up with royalties on the game. Once upon a time, you could get an actual razor blade handle free, too.

The problem, of course, is that Apple’s subsidy has historically gone the other way — iPods make money and the iTunes Store does not. So a subsidized AppleTV and break-even store is going to wipe out margins.

I’m guessing that this is a fight to the death for control of the living room: Xbox 360, Sony PS3, Amazon Unbox, the various TV network sites, plus substitution effects for short clips by GooTube. So, like a good Japanese company, Apple is buying long-term market share at the expense of short-term profits.

Nobody’s buying AppleTVs, so it’s not like the subsidy will have a material impact on the bottom line. On the other hand, the old AppleTV made a cheap OS X 10.4 server. Someday they’ll update the hacks so that they can turn the 2008 AppleTV into a cheap 10.5 box.

The new product allows movies, TV shows, YouTube, music and podcasts. I guess I’ll have to buy one to see if it supports the radio stations preloaded in iTunes — like my “hometown” favorite, KSBR. Or I could install the Streamer MP3 radio station hack.

Still, I don’t get the business model. The product still doesn’t do timeshifting, which is the number one usage of a digital settop box.

No permanent allies

One of Steve Jobs’ announcements Tuesday was for a movie rental business, in which customers can

• download a movie
• play it within 30 days
• play it as often as desired (on a PC, iPod or AppleTV) during the next 24 hours

The price is $4 ($3 for backlist), plus a $1 premium for HD content.

Obviously this requires DRM (and new iTunes software), thus bucking the DRM-free trend in music. The iTunes website also seems to have dropped all mention of Apple’s experiment selling movie downloads (with only Disney cooperating fully), suggesting that Wal-Mart’s retreat was no fluke.

The coverage today of the announcement made it sound like Steve Jobs had won a great victory with Hollywood after a string of defeats. For example, the Hollywood Reporter reported

Steve Jobs' eagerly anticipated Macworld keynote lived up to the hype Tuesday as the Apple co-founder, chairman and CEO announced that movies from every major studio would now be available for rental on iTunes.

During his annual speech in San Francisco, Jobs revealed that his company had reached agreements with 20th Century Fox, Disney, Warner Bros., Paramount, Universal, Sony, MGM, Lionsgate and New Line to make movies available to rent through Apple.

But I think Forbes has it closer to the truth:

Hollywood's interest in protecting lucrative DVD sales and rentals, as well as revenues from on-demand cable movies, made some studios reluctant to embrace permanent downloads at iTunes. And with DVD sales holding up much better than sales of compact discs, they had far less incentive to play ball with Jobs than the deeply troubled music industry.

Online movie rentals — that is, downloads that become unplayable after a specified period of time — will help bridge the interests of Apple, which badly wants to offer a full menu of movie downloads, and the studios, which are interested in new revenue streams that won't cannibalize existing ones.

Forbes quotes an analyst noting that, in effect, Apple is still king of the handheld playback device — a market that so far has not been penetrated by any system. Thus iTunes revenues here are incremental to existing revenues, and do not entail sharing existing revenues (which Hollywood is loathe to do) with anyone. Similarly, TV shows still are available for sale. on the iTunes store, because these are revenues the studios weren’t getting before.

This time Hollywood and Apple have their interests aligned, but that’s no sign that Steve will have an easier task getting cooperation next time.

As Lord Palmerston (oft-quoted by other English statesmen) said: “Nations have no permanent friends or allies, they only have permanent interests.” The permanent interests of movie studios are to find new growth markets, control their IP, and fight like heck to avoid being Napster-ized.

Rabbits I'd like to see in Steve's hat

Steve Jobs is doing is annual “rabbit from a hat” act at Macworld Expo on Tuesday. I don’t know what he’s going to say, but here’s what I’d like to hear:

• long-rumored diskless (flash RAM) compact laptop that I have been waiting to buy for 18 months.
• an announcement of 3rd party applications for the iPhone, addresing the two most glaring omissions: Flash, and some sort of IM client (such as the deliberately omitted adaptation of iChat)
  
• more details on the iPhone SDK due in February
• a decision finally by Universal and Warner to provide DRM-free music not only to Amazon, but also (like EMI) for the iTunes Store,
  
• more transparency on the iPhone revenue numbers for Q1 of FY2008 (Oct-Dec), as well as for iTunes music and video downloads.

Some things that are possible but I don’t really care about:

• iTunes movie rentals
• a 3G iPhone (I won’t switch to AT&T), although a better iPod Touch would be nice
• the laptop docking station — not because I wouldn’t use one (I once owned all three types of Duo docks) but because I’m too cheap to throw out my existing monitor.

Jobs always saves the most anticipated or most surprising announcements for last: if he doesn’t mention the iTunes Store in the first half, this suggests that he has yet to win over some of his critics in Hollywood.

Dissin’ Apple may be good for egos (and improving negotiating positions) but in the long run ignoring the world’s most popular legal music download site is bad for business. Even Edgar Bronfman (Jr.), the former Universal Music owner and now CEO of Warner Music, admitted two months ago that Jobs had been right all along on music download pricing.

Tomorrow I have to work (everybody has to sometime), but Wednesday I’ll go up to the Expo to see what’s going on.

Jobs solves one EU problem

As I’ve noted, French EU industrial policy is about picking on winners and cutting them down to size, so Apple’s iTunes Store was naturally in their sights.

Last year, Apple’s most visible EU regulatory problem was the switching costs created by its end-to-end control of the FairPlay DRM, and regulators’ attempts to force it to waive the competitive advantage to help latecomers. But the shift by Apple (and others) to DRM-free seems to be solving that problem.

Today Apple settled an older problem, about different prices within the EU between the Eurozone and not. Specifically, the gap is £0.79 UK and €0.99 in most of Europe, which at current exchange rates (€100 = £74.9) penalizes Britons by about £0.05. The AP claims it’s £0.09 but reporters are rarely good at math — this is probably an obsolete exchange rate.

Here’s what Apple said:

LONDON—January 9, 2008—Apple® today announced that within six months it will lower the prices it charges for music on its UK iTunes® Store to match the already standardized pricing on iTunes across Europe in Austria, Belgium, Denmark, Germany, Finland, France, Greece, Ireland, Italy, Luxembourg, Netherlands, Norway, Portugal, Sweden, Switzerland and Spain. Apple currently must pay some record labels more to distribute their music in the UK than it pays them to distribute the same music elsewhere in Europe. Apple will reconsider its continuing relationship in the UK with any record label that does not lower its wholesale prices in the UK to the pan-European level within six months.

“This is an important step towards a pan-European marketplace for music,” said Steve Jobs, Apple’s CEO. “We hope every major record label will take a pan-European view of pricing.”

The complaints of course came from British consumers who felt cheated. If the pound fell and Britons got better prices, would they complain too? Information goods lend themselves more to cross-border arbitrage of exchange rates than do cars or houses.

In addition to reducing intra-European transaction costs, a major goal of the Euro was to encourage crossborder price competition. I don’t quite get why Britons (who chose to keep another currency) are entitled to price parity with the Eurozone.

However, the fragmented nature of IP rights across Europe — with different copyrights, licensors, terms, etc. aligned to national boundaries — still remains. My news archives show concerns about this being the subject of a WSJ story back on Nov. 10, 2003. And the EC today acknowledged there are problems that remain beyond its ability to pressure Apple:

The Commission’s antitrust proceedings further allowed the Commission to clarify that there is no agreement between Apple and the major record companies regarding how the iTunes store is organised in Europe. Rather, the structure of the iTunes store is chosen by Apple to take into account the country-specific aspects of copyright laws.

The Commission is very much in favour of solutions which would allow consumers to buy off the iTunes' online store without restrictions, but it is aware that some record companies, publishers and collecting societies still apply licensing practices which can make it difficult for iTunes to operate stores accessible for a European consumer anywhere in the EU.

Frankly, (nominally) cheating British consumers 4p a song is small potatoes in both the context of the industry and EU industrial policy. The bigger unanswered issue is what will the recording industry’s business model be a decade from now? Particularly since the legal download business is anemic in Europe compared to the US.

Last mogul cries uncle!

Business Week reports rumors that Sony BMG will finally face the inevitable, joining its three major competitors in offering DRM-free music. In case we might have forgotten, the BW report also reminds us of Sony’s sorry history of auto-installing stealth software back in 2005.

This marks the end of what most (all but the vendors) would consider an unfortunate experiment in copy protection and restricting the actions of the most honest customers.

However, just being a rumor, the report doesn’t say whether Sony BMG will eventually be going with iTunes Store or trying to punish Apple (for enforcing its own vision for industry downloads). BW implies the Sony announcement will come with the Pepsi/Amazon free (billion song) download promotion that begins with the Super Bowl on Feb. 3. (By comparison, Apple hit 3 billion downloads last summer, and presumably is already past 4 billion.)

Giving away a billion songs free will certainly increase the installed base for Amazon’s MP3 service. This is a big bet by the labels — presumably hundreds of millions of dollars in foregone profits — all to establish a single credible rival to Apple, while not helping any of the other Apple rivals.

There’s one thing I don’t quite get, however. The original dispute between Apple and the record labels was over price — the labels wanted to charge more than Apple’s flat 99¢ for some tunes, specifically hot new tunes from the most popular artists. But Amazon also charges 99¢ for its tunes, except for the hottest 100 new tunes where it charges less (i.e. 89¢).

This plan only makes sense if the labels will make more from Amazon in the long run. Is Amazon paying more than Apple today? Given that Apple makes almost no money off downloads, this seems unlikely. Will Amazon charge more down the road? That would be my suspicion, but as long as Apple is the dominant player Amazon would be unable to charge higher prices than Apple (and in fact is forced to charge lower prices).

So my guess is that the only reason for building up Amazon is to have the credible threat (exercised or not) to cut off Apple unless it renegotiates its contracts. Realistically, I think the industry is wasting their time unless the industry can fragment digital downloads into at least three major player — all with between 20% (enough to be credible) and less than 40% (not enough to be dominant). If I were an executive on Hollywood Boulevard, I would concentrate my efforts on making sure iTunes alternatives catch on in other countries.

Photo credit: iconic Capitol Records building in Hollywood, from Wikipedia.