The Key To Making Free Music Services Work

In a previous post I explained how free music services such as Spotify were making premium rental services such as Rhapsody and Napster increasingly irrelevant.  Why pay $9.99 for unlimited on demand streaming music when you can get it for free? It seems that Warner Music’s chief executive Edgar Bronfman Jr. has had enough, stating that “free streaming services are clearly not net positive for the industry” and adding that WMG will no longer license to such services.

Such a stance is both understandable and also flawed. 

Services like Spotify and YouTube are crucial tools in helping the music industry transition from the 20th-century distribution business of selling units, to the 21st-century paradigm of monetizing consumption. On-demand, access-based services will be the foundation stone of the 21st-century music business. Added to that, the majority of consumers simply have no appetite for paying for digital music, certainly not on a subscription basis.  Free and subsidized services are quite simply part of the future.

But, and it’s a big “but,” these services and their associated business models still pose many as yet unanswered questions.

From the record labels’ perspective, on-demand free music services such as We7 and Spotify have yet to deliver the goods. They haven’t made a dent in illegal downloading and they haven’t converted enough new consumers to pay for digital music. (Spotify’s 250,000 paying subs is an encouraging start, but is just 3.6% of its 7 million total installed base.) And there is a very real threat that these services are educating mass- market consumers that music online is free.

It’s one thing having spotty teenagers downloading from BitTorrent casting nervous glances over their shoulders, but having their parents stop buying CDs in favor of streaming Spotify into their living rooms is another proposition entirely. And to top it off, all these services have yet to learn how to make ad-supported music pay. (Pandora is a notable exception, but it took many years to finally hit operational profitability in 2009 and it isn’t even fully on-demand, so has lower rights costs.)

The nightmare scenario for the record labels is that consumers in the tens of millions are wooed by free music, only for the services to go to the wall in couple of years time after having failed to build robust businesses. The free-music-vacuum would inevitably be filled by the grey market.

So how can these two opposed positions be balanced?

Free music services will get there, but only as a part of a three-tier monetization hierarchy:

1. Premium: the smallest in size but highest in ARPU (average revenue per unit) segment
2. Subsidized: the best balance of scale and ARPU, with telcos and device manufacturers hiding some or all of the cost to consumers
3. Ad supported: the largest segment but lowest ARPU

Free music services can work, and bring real value to the music industry. But only if they are clearly positioned in this market-level hierarchy and if sophisticated consumer lifecycle strategies are used to identify the right consumers to migrate up the chain at the right time.

It’s not the end of the line for Spofity et al, but the outlook at the start of 2010 is very different from a year ago. Expectations are more realistic and building audiences in a sustainable manner is paramount. It is probably no bad thing that Spotify wasn’t able to launch in the U.S. in late 2009. Spotify wouldn’t have been able to afford strong success (an extra 10 million or 20 million free customers to the bottom line could have been crippling) and the nascent digital status quo would have been disrupted. (However, different the value proposition Pandora may be, I wonder just how many PC-only users would remain loyal given the option of Spotify.)

The original Napster started the free-music race, but if the industry doesn’t enable the likes of Spotify to pick up the baton and run with it, BitTorrent et al will continue to do so regardless.

via paidcontent.org

Posted via web from TJ Chapman's Blog