Felix Oberholzer-Gee of Harvard Business and Koleman Strumpf of UNC recently noted that the music industry is wrong when it says file sharing is hurting the sales of physical media.
"Downloads have an effect on sales which is statistically indistinguishable from zero, despite rather precise estimates," write its authors, Felix Oberholzer-Gee of the Harvard Business School and Koleman S. Strumpf of the University of North Carolina at Chapel Hill.
The industry has reacted with the kind of flustered consternation that the White House might display if Richard A. Clarke showed up at a Rose Garden tea party. Last week, the Recording Industry Association of America sent out three versions of a six-page response to the study.
The problem with the industry view, Professors Oberholzer-Gee and Strumpf say, is that it is not supported by solid evidence. Previous studies have failed because they tend to depend on surveys, and the authors contend that surveys of illegal activity are not trustworthy. "Those who agree to have their Internet behavior discussed or monitored are unlikely to be representative of all Internet users," the authors wrote.
Instead, they analyzed the direct data of music downloaders over a 17-week period in the fall of 2002, and compared that activity with actual music purchases during that time. Using complex mathematical formulas, they determined that spikes in downloading had almost no discernible effect on sales. Even under their worst-case example, "it would take 5,000 downloads to reduce the sales of an album by one copy," they wrote. "After annualizing, this would imply a yearly sales loss of two million albums, which is virtually rounding error" given that 803 million records were sold in 2002. Sales dropped by 139 million albums from 2000 to 2002.
"While downloads occur on a vast scale, most users are likely individuals who would not have bought the album even in the absence of file sharing," the professors wrote.
In an interview, Professor Oberholzer-Gee said that previous research assumed that every download could be thought of as a lost sale. In fact, he said, most downloaders were drawn to free music and were unlikely to spend $18 on a CD.
"Say I offer you a free flight to Florida," he asks. "How likely is it that you will go to Florida? It is very likely, because the price is free." If there were no free ticket, that trip to Florida would be much less likely, he said. Similarly, free music might draw all kinds of people, but "it doesn't mean that these people would buy CD's at $18," he said.
The most popular albums bought are also the most popular downloads, so the researchers looked for anomalous rises in downloading activity that they might compare to sales activity. They found one such spike, Professor Oberholzer-Gee said, during a German school holiday that occurred during the time they studied. Germany is second to the United States in making files available for downloading, supplying about 15 percent of online music files, he said. During the vacation, students who were home with time on their hands flooded the Internet with new files, which in turn spurred new downloading activity. The researchers then looked for any possible impact in the subsequent weeks on sales of CD's.
My suspicion is the HP guys tried the Napster 2.0 service and compared it with iTMS. It doesn't take much to decide Napster 2.0 isn't well executed (or thought out for that matter).
The market penetration and sales figure claims are somewhat similar to mine and probably are from better data (I have been looking at site traffic and normalizing it with a few announced results) ... I would peg Napster hits at about 1/5 the iTMS rate, but they were probably 1/4 the size in the November timeframe ... things are getting worse for them.
They maintain the one thing Napster 2.0 has, its brand, will ultimately rescue them. My chats with people in primary music purchase stages (14 to 25) indicate the brand ranges from negative to, at best, neutral. Once powerful brand names can fade very quickly - particularly if they abandon what originally made them popular.
Oh - and there is this little matter about the lack of a cool player.
It is remarkable watching so many of the mostly failed digital online stores jump on the Apple/Pepsi bandwagon before the later produces any results.
Other companies are joining online music sellers in marketing deals — although on smaller scales. RealNetworks is hooking up with Heineken. Roxio's Napster is linking with Miller Brewing. BuyMusic.com. is associating with South Beach Beverage, maker of SoBe. Sony's Connect service this summer will work with United Airlines to use frequent-flier miles for free songs.
Many have been predicting such events (I have a talk, given in 1997 to several music majors, that suggest ed music as a promotion might be viable ... it certainly wasn't a unique idea at the time). It will be interesting to see if it becomes important and if that means recorded music has become marginalized.
This type of promotion seems to make sense at this time for Apple or the other players. A 99 cent track generally sees about 70 cents going to the music company (or even musician in the case of indies who have signed with iTunes). Presumably the online store is selling the promotion at a discount (the buzz is that Pepsi is paying around 90 cents a track) ... The stores see a jump in their volume, perhaps there is some brand loyalty created for the music store and the promotion parter and the largest single cost (apart from the licensing of the music) ... the credit card transaction ... goes away. At 90 cents a track this would be profitable for Apple where as a 99 cent track purchased normally is probably close to break-even.
It should be noted that the cost of buying single tracks by credit cards is very high ... Apple's gift cards and allowances are mechanisms to get the money upfront and limit the number of credit card transactions. One would expect to see much more of this -- perhaps discounts on bundles. (selling 10 tracks at 90 cents each with one credit card transaction may net more profit for a music store than 10 tracks at 99 cents each one at a time).
The initial reviews of Wal-Mart's online music service aren't exactly positive.
What Wal-Mart brings to the table is a huge customer base and the ability to squeeze suppliers to the point where they can no longer bleed (which is one of the reasons more than a few jobs in the US have gone overseas, but that is a different topic for a different blog)
No one is making money at 99 cents a track - much of that is due to weak demand (unless you are Apple) and about 70% of the charge going to the record company. Wal-Mart has a reputation of bullying the major record companies. It seems safe to assume that the majors are getting less than 70 cents from Wal-Mart.
This could be done in many ways. On the average, Wal-Mart appeals to a somewhat downscale group (a surprisingly large percentage of Wal-Mart customers don't have credit cards or Internet connections). The majors may be able to bulk up music that predominantly appeals to Wal-Mart customers. It is possible that a mutual agreement could actually produce more business for both parties. Of course both are somewhat evil, so it is an interesting game.
It does sound like Wal-Mart (actually their online partner -- Liquid) doesn't have the bugs worked out -- if these are features, rather than bugs, the service is dead before it leaves beta.
So will we end up with Wal-Mart and all of the other Windows Media Player services in a price war going after the high volume lower end customer with a bloody set of consolidations along the way? At the same time Apple is higher priced, but offers more interesting content, navigation, players, etc? It wouldn't be the first time something like that has happened...