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The digital entertainment industry has seen revolutionary changes since the introduction of the first mainstream digital medium -- the compact disc -- a quarter-century ago. Back then, the real power of digital media had not yet been realized. The average consumer did not have a computer with which (s)he could import files from a compact disc and send them instantly to his friend on the other side of the planet.

Perhaps more significant than the physical medium is the advancement of our ability to share content. Anyone wise to the principles of modern marketing understands the importance of peer-to-peer content sharing and the resulting virality of digital entertainment media. As a result, the value of this media is largely determined by the number of people who choose to consume it and often pay for it with nothing other than their attention, albeit fleeting in most cases. Consumer behavior is apparently so heavily influenced by advertising, that corporations invest obscene sums of money in the sponsorship of digital entertainment. Consumers are becoming increasingly aware of this type of sponsorship and accept corporate branding in exchange for free entertainment as a fair trade.

The future of digital entertainment therefore lies in its delivery. The Internet allows consumers to access just about any content at any time. Hardware manufacturers and software designers will continue to come up with novel ways for consumers to get the content they want. Marketers will follow these developments closely in order to remain at the cutting edge of new technology because that's where the consumers will go. Novelty is where buzz lives. So if I were CEO of a hardware manufacturer, I would be focusing on finding cool new ways to deliver entertainment media (see: iPhone). If I were CEO of a distribution network, I would be sure to stay on top of what the manufacturers are doing, then adopt it and sell best-of-breed sponsorship packages to advertisers (see: Pandora.com and their mobile product). If I were CEO of a network access provider I would be working on more efficient ways to deliver content across my network (see: Verizon's FiOS). If I were a content producer, I would stop charging consumers for my content and focus on sponsorship opportunities.

OK, no more hypothetical situations. I am Director of Marketing for a (mobile-)web-based content aggregator called Survol Interactive Technologies. At Survol we are focused on providing consumers with useful tools for efficient content consumption at no cost, while building relationships with advertising networks for monetization. If you're curious, check out our mobile RSS feed aggregator called FeedLion. It's free!

Forecasting Trends in Digital Entertainment

There are a lot of apparent trends in Digital Entertainment. There are compelling issues right now facing the delivery and consumption of digital content. The needs of the producers of content to protect works and the user’s ability to use those works anywhere are the biggest issue of the day. Inroads have been made to the thinking of DRM, and it viability as a technology of the future is a serious question. Users are changing and demanding a better experience more integrated with their lifestyles. The company that works out this kind of process first wins the major round of what’s next in digital entertainment. While the focus of this is on music, these issues also apply to movies; there is no reason to think that the ideas below will not work for music only. As with all forecasts on what will and will not be possible or feasible should be taken with a grain of salt.

Relevance of the big labels – with the defection of Harvey Danger, Radio Head and Nine Inch Nails as well as other smaller name acts, the relevancy of the big media labels may end up being nothing more than PR and tour arranging for bands. The issue of from band to customer is enabled via the internet, meaning many middle people can be pulled out of the tier. On price break down, Apple ITunes gets a small percent of the transaction, the labels get the majority and the artist gets a small percentage. By removing the labels, a better deal can be cut with the artists directly, meaning more money for the artist and the service provider. Many forms of payment can be made to the band, and deals can be cut with each band individually so that bands can survive longer and profit from their work longer.

Economic Impact: Big bands who defect from the major labels are showing that money can still be made from music in any number of ways. This brings into question the whole relevancy of labels, but not for bands, and not for people who provide support services from bands. The group that can capitalize on this process is the one who wins in the longer run. However, this must be based on trust, bands have to trust what is happening next, to not rip them off.

Revenue – Revenue is going to be interesting as there are ways to commercialize the three primary revenue streams. The music itself can be bought and sold, but with the web space, bands could also sell advertising or sponsorships, as well as rock videos can be branded using Google’s new video units. The ability to commercialize the product is viable, as most consumers are used to advertising on web sites, used to seeing sponsors, buying and selling on line, they will get used to Google Ads wrapped up with music videos.

Economic Impact: More avenues for bands and providers of band communities to make money off product. While the service provider or community provider should not be tempted to shove 16 to 20 ads in a video, or a web page, there is a reasonable density of advertising that maximizes return without annoying users. This is a page views number, and by limiting advertising space, the community provider can ask for higher levels of revenue, and provide a better user experience.

Technical Sophistication of end users – the product is music; it is the creative output of a loose coalition of “band members” with various levels of technical sophistication. The system designed for the next generation music delivery system must take that into account. They will not be dealing with various levels of technological sophistication. MySpace provides a prime example of that, bands have adopted the interface for two reasons, the customers are there, and the upload sequence is stupid simple. The next generation of this should be equally if not better and easier than the MySpace interface.

Economic Impact: End users are getting smarter all the time, and as they get smarter, technical support for them should decrease reducing costs. The easier the interface from the start, means less cost for the service provider.

Commoditization – the world is quickly becoming commoditized in regards to computing systems on the internet. The cost of storage and delivery continue to decrease, while delivery and user satisfaction increases. The cost of starting a new company continue to decrease meaning more people are able to startup, fund, and see gains from companies that they have started on the internet. The delivery of music is no different, as back end systems become cheaper and supported by someone else, bands that have no money, and no technological experience will be able to set up a web site and deliver music to their customers. The ability to build upon a commoditized system overall should decrease costs, both operational, startup as well as provide a quicker pipe to the customer.

Economic Impact: this is probably the most intriguing process underway right now. As companies continue to drive the price down of cloud computing, storage systems, and the price per storage plummets, more and more things can be done with less money. The initial outlay for using these kinds of systems reduces operational costs across the board, while freeing money up for the important user experience, user interface, and community building. More money can be spent on what matters, and money can be saved on operational costs.

Delivery – delivery of music on line will end up cloud based, meaning that the songs will be stored over the internet. While P2P delivery systems can be slow, and subject to interception, falsification, monitoring and other countermeasures. A system like Akami, or Amazon S3 with a direct FTP style download will reduce costs, reduce dependencies on slow connections, and improve satisfaction from the customer base with broadband or DSL connections. Speeds for people in metropolitan areas will increase and get faster, while the rural markets will continue to see slow penetration. Delivery though has two problems:

1. Bandwidth in rural areas has not reached a decent level of penetration. Although Google, Microsoft, Amazon and other data centers in rural environments will have a good influence on that issue

2. End user experience, with cable companies shaping bandwidth, customers stand to lose if the telecom or ISP service starts shaping bandwidth and reducing customer experience. Comcast has essentially admitted that they shape bandwidth on the P2P protocols and that influences how Joost and other P2P systems operate.

Economic Impact: This is the one thing that directly influences users and the company that is outside their control. While network neutrality is still being heavily debated, penetration of bandwidth into rural areas is going very slow. This will change, but it will be years before benefits are realized without additional investment in infrastructure. There are also ways to negotiate with the ISP’s about bandwidth and bandwidth use. While disagreeable to a majority of people, the ISP’s can be paid to leave a protocol alone and not drop heavy users.

Community – the success of MySpace and Garage Band cannot be understated, with efforts on facebook to also provide a way for fans to share the bands they think are the coolest. The idea of community, bands, and fandom cannot be underestimated. When someone likes something they want to share it, and they want to share it with as many people as possible. Napster pointed out one way by the collection of music that people downloaded, and one was of the first indications on line that a community could be built around digital music. Amazon points out another way with Listmania. User generated lists work; they are also read and tend to be believed. Building a community around each band will have to be better than the clumsiness of MySpace and garage band. The long term influences of being able to build a viable community around music have already been proved, the top facebook application before it was pulled down was some that allowed people to share music of importance.

Community can also be extended into not just social frameworks like MySpace and Facebook; it would also be beneficial to include an RDF (Resource Description Framework) in the system so that I can see how my friends voted against those people who are not my friends. My list buddies, my friends carry more weight in recommending I listen to something than a stranger on the street. Leap frogging into Web 3.0 and allow people to assign a level of trustworthiness to the way that people recommend things would be a killer, no one does this yet, but the technology is already available. Word press does this to a limited extend with their blogroll framework. There are approaches to making a well organized well run community, with a lot of interaction about the band.

Economic Impact: the economic impact by fixing the issues with MySpace and others, delivering a more consistent not obviously greedy interface for users will engender trust on the part of users. Word of mouth, community sponsorship, and using a system like RDF within the framework are all leading technologies, new, and barely implemented in other sites. The way to win with community is to leap frog, and ensure that the bands and fans have the opportunity to do the things they want to do. If they love the Rain City Schwillers, they should be able to put up a fan page about the Rain City Schwillers, they should have a group, a forum to share information about the band, as well as the official Rain City Schwillers band web page that points automatically to their fans pages. This would also go a long way in increasing a good relevance from Google page ranking systems and trust systems as the site rolls out. No one does these yet, so the economics of this can only be compared to Facebook or MySpace in terms of developing a community.

Work anywhere – the MP3 format is king, and will most likely remain that way as the majority of players will play MP3’s. ITunes is the only company that has rolled a new closed format, a software support ecosystem, and device support into one customer experience. Rather than taking ITunes on directly, leapfrogging them is going to be the better tactic. By offering a write once read anywhere on any device from cell phone to MP3 player to PC, with the ability to automatically synch all devices once logged in will be an iTunes killer. Today customers have music and not necessarily the same music across multiple devices, with little to no hope of synching play lists and their most popular songs across multiple devices. Adding this functionality is something that no one else does, and is a leap frog over the current state of technology. MP3 players like Zune can allow Synch over the air; Cell phones can synch over the wireless network, and play lists can be synched between devices and computers based on user account, with the back end system maintaining the list.

An added benefit from Work Anywhere is letting the user know that devices are not synched and asking if they want to have their play lists and tunes synched over the air on login, or some sort of user preference. Unfortunately the end devices like cell phones and MP3 players may be storage constrained today, but with the cheapness, size and density of memory, this should not be a problem in 2 to 4 years in the future.

Economic Impact: This is another of those things that no one does yet, but would make the web site compelling, all the users stuff in one spot, access anywhere, share anywhere. It would be a definite plus in making a compelling user experience and community experience. Since no one does this, the fall back in terms of economics would again be MySpace.

There is an exciting time ahead for people who can leap frog the current technology set and start working in a Web 3.0 framework. Everyone will profit, and many things that have not been done yet, but show promise also stand a better chance of getting funding by a Venture Capitalist. The web 2.0 market is saturated, with too much money chasing too few ideas. Taking the entire process one step beyond web 2.0 not only is progressive, but stands a better chance of surviving any downturn in the technology industry. New and shiny usually appeals and the economic impacts of new and shiny can be visibly demonstrated by the migration of MySpace users to Facebook. There would be a lot of blog buzz for a truly egalitarian system that met web 2.0 standards, and implemented the semantic web.

To start with one major, but obvious trend: Globalization. The impact of this is not finished yet by any means - manga have become more popular than indigenous comic books in many countries. But at the same time, entertainment does not automatically bridge cultures just because you translate the language. Nor is it possible to limit a market by geography. If you split the world in Europe, Japan, and US, and launch the neat products in one place only - people will either buy and bring the products to their homes, or they will create a competing service in their location, since you proved it worked. Or, by being big, made it credible that it could work.

There is only one reasonable response to globalization: Embrace it.

The impact in terms of money is huge. Already, companies like RCA and Grundig have felt its bite. It is litteraly do nothing and die, or embrace it - that is how big impact it has.

 This points to a second trend: Openness. Information can not be kept closed in any more, anywhere. And everything is information, with the possible exception of the cardboard boxes around the goods. Any consumer electronics product can be emulated in a PC today, even if emulated washing machines and ovens may not provide the same physical services. But when it comes to entertainment, a reasonably smart programmer can make a computer do the same as any electronic device anyone can sell.

There is only one thing you can do about openness too: Embrace it, but only when you are ready. Once something is out of the bottle (i.e. released from your company), there is no stopping it. Prepare to roll the snowball, and push it.

The economic impact on existing companies is more subtle than globalization, but in the IT industry, many will agree that openness is huge. Some companies  which are fairly big are built on it (think Red Hat), and all the major players have embraced it in some way or other. It will hit entertainment and consumer electronics as well. By the way, if you can grow by embracing openness, the converse is also true: You can shrink by trying to stop it. Which is why DRM is such a bad idea.

 Which goes to a third major driver: Users want convenience - they want to be able to use things easily. The reason people carry iPods and not Macintoshes is not that the iPod is better for playing music or videos (it actually is not), it is that it is smaller and that the batteries last longer. So it is more convenient to carry. Convenience is king, not anything else.

Handling convenience is more subtle. You really have to understand what users want, not what they say they want or what engineers believe they want. Designing customer trials which tell you this, instead of customer trials which tell you that your preconcieved ideas were wrong but not what the customer wanted instead, is an art. Learn it, or make your people learn.

The economic impact is also potentially huge, and it lasts. Look at the Walkman, and the iPod. If you get it right, that is.

Another trend is social networking. Facebook was just the starting point. Users want to communicate, and this could potentially be much bigger than any of the trends today. When people start forming communities around the music they listen to (hello, Apple?), around the devices they carry - even the glasses they are wearing, then social networks will have become as pervasive as the web - and no single platform will be enough to manage them.

The way to handle this is to be proactive, and start a dialogue with users - which they are in control of. And (viz. openness) it is not sure that the community your users want to belong to is the community you want them to belong to. If they are router users, they may want to belong to the "midsize router manager community" instead of the "Cisco community". Let users define their own communities.

The economic impact of this is potentially smaller than that of convenience, because a sense of belonging (which is the root of social networks) does not generate hit products. It generates recurring customers. It will not sell millions of walkmans, but it will sell an iPod to the user when she drops the one she has in the water. Or when it is available in pink. Recurring business is an expression of community.

Other trends which will affect digital entertainment is the movement to HDTV and online games. These combine to create two requirements: More bandwidth and lower latency. Being always connected is useless if the messages are delayed for several seconds when you are being ambushed by a pack of orchs. Being connected everywhere is going to  ;impact devices, networks, and services - because& nbsp;the service can not be the same on  a mobile as on a fixed connection (the d ifference being the screen and interaction method) . 
High resolution is also going to change things, and it is going to happen in games first. Which is why games machines will become TV receivers - Sony and Microsoft is already there, and Wii will feel left out if this takes off. But the important thing about TV in a box like this is that you have interactivity. Settop boxes will go that way. And I do not mean interactive TV, I mean true, internet-style interactivity. Which will, primarily, result in user-generated content. If you think about it, todays online poker sites are really about user-created content, since the sites would not even exist if users did not want to play.

I am sure I do not need to explain how potentially valuable user-created content is. It ties back into the community issue - but it can be much more valuable in itself, since it generates the whole business of some companies.

As for what to do about it - if it can be encouraged in a managed way, do it. But be careful: Users are sensitive to the brand they are using. While Star Trek has an extremely active fan litterature, it sometimes results in texts that bend the meme out of shape. The user wants the brand, not what other users may think the brand is. Having an active editor is important, but it is equally important to encourage users as to steer them.

Of course, the editor role works fine in textual or drama formats (which can easily be described as text). It will be harder in others, like games. And to find the one single comic strip which becomes the next Dilbert, you have to sort through tons of dross. The business model must make this work, and I am not sure what it is. Or maybe I am and will start the next big social networking site.

Hope this helps

//Johan

HD DVD versus Blu-Ray, DRM goes away

 The first company to figure out that DRM is a mistake and to sell all of their media DRM-free will profit to a great degree.  The problem with DRM is that it is a forced solution to a bad mistake: if these companies don't want consumers to make illegal copies, they should not be providing a digital physical medium to copy from.  For example, it is impossible to make a copy of a movie shown in a theater and yield the same quality as copying a DVD.  Movie theaters are already selling licenses to view only, and that model is very successful.  The reality now is that DVD's are simply far too easy to copy, DRM or not, and so they must be viewed as requiring a different type of marketing and sales model.

Aside from the DRM issues, whichever device wins out between HD DVD or Blu-Ray will be an incredibly profitable decision as well.  If companies look at the rate of adoption between various organizations based on advertising, it becomes clear that blu-ray is edging out HD DVD at this point.  I would suspect that a full-scale commitment to a dual Blu-ray/DVD player all-in-one device would prove to be incredibly profitable.   

Disclaimer: I work for Techdirt and therefore am ineligible to win the award money. However the topic was interesting, so I wanted to contribute my thoughts.

The Key Economic Factors At Play:

The Digital Entertainment industry is definitely facing quite a bit of upheaval these days, and it may not seem entirely clear where things are going to end up. However, looking at both history and some basic economic trends, the picture gets a lot clearer, and the winners and losers as well as the opportunities and threats become a lot clearer.

We could spend a lot of time going through the economics at play here, but the simplest way of thinking about is in understanding the difference between what's abundant and what's scarce. Whenever there is an abundant good, the price is going to get pushed down towards zero. This is the simple nature of the supply and demand curve. With much greater supply price gets pushed down -- and, given a competitive market where price will get pushed to marginal cost, the cost of content again will be pressured towards zero (the effective marginal cost to reproduce any digital content).

The has unfortunately led some to believe that the digital entertainment market is a risky one. Prices are falling, competition is great, and there's the ever-present threat of "piracy" as it's often very, very easy for others (not the producer) to copy the content at no cost. This, unfortunately, is the wrong way of looking at things. It's only looking at the content as the final product, rather than a piece of a much larger puzzle. Instead, the goal should be to look at the overall benefit received by a customer, and to recognize the right bundles of both abundant and scarce goods to satisfy their needs. No matter what people thing, every need that results in a buying transaction is really a combination of both abundant and scarce goods.

The trick is simply in figuring out which components of the need are fulfilled by abundant components and which by scarce components. If the component is abundant, then it will come under competitive pressure to be priced at zero. Even if it is not currently priced at zero, eventually business models will shift to price that good at zero, and trying to price it higher is likely a dangerous plan. If the component is scarce, however, you can still charge for it. The real trick to thrive in the industry is to take the abundant component and link it to the scarce component in a way that makes the scarce component even more valuable so that you can charge even more for it.

Seeing The Economic Results In Practice:

Let's take an easy example: Apple's iPod. In that case, what Apple is really doing is delivering a method for enjoying music portably. That's the need, and it's solved by a combination of both abundant and scarce goods. The mechanism of the iPod itself is scarce. However, the music is abundant. The marginal cost to copy an existing song is $0 -- and over time the pricing pressure will be to push this to zero, whether through legal or illegal means. Yet, the more music that is available (either paid or not), the more valuable the iPod has become. That's because Apple realized that the abundant good made the scarce good much more valuable, and they took advantage of that.

Here's a slightly more complicated example: Google. There are many different abundant and scarce components here, so let's just take a few to make the example clear. For Google, there are two key abundant factors. The first is information, which is wildly abundant online. The second is the Google algorithm, which is abundantly available for anyone to use with almost no additional cost to Google. Notice, again, that Google is offering those things for free. What is scarce is people's attention. Google is selling that attention in the form of advertisements. Once again, they've taken what's abundant (their ability to find good information) to make a scarce good (people's attention) worth more to advertisers.

How These Trends Impact The Major Players:

While this is simplified, taken to the next level, strategies become much clearer for almost everyone within the digital entertainment space, though we'll take the easy ones first before moving to the more complicated ones. With the device manufacturers, their goal should be to create incentives for more "content" to be out there, and for that content to be as widely available as possible. Apple is doing this to some extent, though figuring out ways to offer (authorized!) music at lower prices (or even free) should be a goal. It had done this somewhat in the past with its "Rip, Mix, Burn" campaign, but has needed to move away from that to avoid upsetting content partners for the time being. Don't be surprised if Apple eventually pushes further into free music, however. Nokia should do a lot more on this front itself.

Service providers are still in good shape here as well, as an ongoing service is a scarce product. People will pay to continue to receive good service going forward. Like the device manufacturers, service providers only benefit from more content, more applications and more offerings being available online. They should also do more things to encourage greater content and more useful applications online. Where things get a little tricky is that service providers need to be more careful about their business models. Without investing in the right infrastructure, such a plan can backfire, as the pricing may not be enough to support the infrastructure needed on the backend.

Content aggregators are also in good shape. As we discussed with Google above, they are simply in the business of selling people's scarce attention, and they get more and more of it, the more information they make available and the better they organize it for people. So the better they can do those things, the better off they are.

The media/tech conglomerates already intrinsically should understand the value of using parts of their business to make other parts more valuable -- though that's rarely seen in practice. Sony, of all companies, should absolutely be using the abundant content (in both music and movies) and freeing it up to help sell more technology. It should be working hard to make it easier and easier to get, view and share content on its devices. Unfortunately, the company has repeatedly done the opposite, as the people from the media side have kept too much influence. This has resulted in the failures of Sony to successfully extend its "Walkman" brand into the MP3 age as well as the failure of other devices, and debacles like the "rootkit" found on certain Sony BMG CDs. Sony spent a lot of effort trying to create proprietary media formats and copy protection, all of which drove people to competitors. In other words, rather than using the abundant goods to make scarce goods more valuable, Sony did the opposite. It made the abundant goods more scarce, making their already scarce goods less valuable. It's a mistake of nearly epic proportions.

Microsoft faces a different challenge. While it has, at times, figured out how to use something abundant to make other things more valuable (for example, giving away Internet Explorer and Windows Media Player free to make Windows more valuable), it has always been focused on selling abundant products in software. The real trick (which IBM successfully pulled off, but will be trickier for Microsoft) is to move the business away from one that's focused on selling software, and to one that's focused on selling a service. As we discussed above, services are scarce goods, because they have no been delivered yet, and people are paying for future performance. Ray Ozzie is trying to get Microsoft to make this shift, but there has been tremendous internal resistance. Whether or not Microsoft remains at the top of the mountain into the next decade will depend on whether or not Ozzie can succeed in turning Microsoft into just such a services company.

The other areas listed are a bit more complicated. The content producers and distribution networks face bigger challenges, because traditionally they've viewed themselves as selling content -- which is an abundant good. The most important thing for both to realize is that they are not selling content at all, and from there, the choices start to become easier. For distribution networks the focus should be on distribution itself. That is, taking content and getting it out there as far and wide as possible. That means less focus on trying to get money for every use, and more focus on getting the content providers to pay them to manage widespread distribution and marketing of digital entertainment content. For companies like CBS and XM that should mean getting content as widely and as easily available as possible, subsidizing that content with advertisements. They can also offer premium services, that either involve customization, special content, additional information or even a lack of advertisements. Google should be an example here, and the idea of a distribution network and a content aggregator are going to blend more and more as time goes on.

Pure content producers face the largest direct challenge here. What they need to do is figure out scarce goods that are a part of what they offer and learn to charge for that. They need to look for ways to take the content they have and provide that for free in a way that then enhances the value of the scarce goods. There are a number of ways this can be done, but it often will depend on a variety of factors including what kind of content, how established the content producer is and what factors are involved in making the content.

So, for example, music providers should focus on the scarce parts of their business: concerts, merchandise, access and the creation of new content. Lots of people are talking about concerts and merchandise as the new business models for music, so there's no need to go into details on those. But access and the creation of new content are both important as well. Since band members have limited time, access to those band members is a scarce good that can be sold. You can charge money for a "fan club" that involves the opportunity to chat personally with band members, or perhaps gives them early access to concert tickets or even backstage passes. The creation of new music may seem confusing at first since music itself is abundant. However, the creation of new content is not abundant. So, bands should look for others to pay them to create new music. This could be as simple as a patronage model, or more involved such as a sponsorship model. Britney Spears once wrote a song for Pepsi, for example. Prince recently showed another example of this at work. A British newspaper paid him to create a new album, which that newspaper then distributed for free to those who subscribed to the paper copy of the newspaper (this is a wonderful example of two separate industries leveraging abundance to make scarcity more valuable).

For movie creators, the focus should again be on the scarcity that can be created. Going out to the movies is still a valuable product. People who go out to the movies don't just go for the content, but for the social experience. Companies that are making movies should focus on improving the movie-going experience, making it more worthwhile for people to shell out $10 to sit in comfy seats, see a huge screen with a great soundsystem surrounded by many other people (hopefully including friends and family). That doesn't mean that things like the DVD are dead, either. But the focus should be on added value. This could mean things like offering those who attend a movie the option of immediately buying the DVD as they leave the theater. If the DVD contains numerous extras, those who liked the movie are likely to be interested.

For video game makers, it again depends on a few factors, but there are two core ideas that could make sense. The first is raising the advertising bar within games. It may depend on the game itself, but many more games these days are getting support from advertisers. A second option is to make games more of a service. There has been tremendous success in this field with things like World of Warcraft.

Finally, there are larger strategies combining some of the strategies above that could make sense. Google could, theoretically, spend a ton of money to buy up content creators and then simply free that content to get more attention so it could sell even more advertising. The same could be true of the network access providers. Also, the content aggregators, or network access providers could buy or become device manufacturers as well (basically turning them into tech/media conglomerates. As long as they don't follow Sony's path and instead focus on using abundant goods to make the scarce goods more valuable they should be able to succeed.

Summary and Conclusion:

One important thing to realize here is that there really are strategies where all of these players can do quite well in terms of embracing the changes in the digital entertainment industry. If done right, it's possible to take any firm in this space and increase their market valuation. However, any action that is focused on limiting an abundant good, limiting customer choice or fighting convenience is likely to cause a firm to correspondingly limit both its market size and market valuation.

The key, though, is in the following steps:

1. Figure out the key benefits being delivered (not the product, but the benefits)
2. Break those benefits down into scarce components and abundant components
   
3. Figure out ways to make the abundant components make the scarce components more valuable
4. Make the abundant components more available
5. Make more money from selling the scarce components that are now more valuable thanks to the more readily available abundant components

In order to understand the trends shaping the Digital Entertainment Industry, one first needs to understand the components of the value chain - which components have greater value and which are of secondary importance.

Content creation: this includes writers, artists, filmmakers, and investors in these endeavors (such as producers). The value of the content depends primarily on quality and reputation of the creator

Content Distribution: this includes portals such as Yahoo or Myspace, television networks, radio stations. The value comes from a combination of quantity, quality and accessibility

Content Communication: This is the value of the "pipe." There is value in bandwidth as well as geographic spread. In particular, this is the "last mile" problem - the astronomical cost of building a network capable of reaching many individuals' homes. Currently, the two types of companies with their own last-mile solution are telecom companies (Local Exchange Carriers) and cable companies (MSOs). Satellite companies generally don't have uplink ability. Next-generation technologies such as WiMAX may avoid the cost of laying wire, but have yet to emerge as a dominant force.

Content Display: the consumer devices required to decode and display the content. This includes ipods, televisions, DVRs, and radios. Value comes from form, functionality, and integration with other devices and services.

Based on the above value chain, one can see how a few of the current trends will continue to play out over the next few years:

1) The "long tail" of content creation: user-generated content is essentially the lengthening of the tail within content creation. As more independent artists/authors are able to distribute their work, we will see demand for the top performers weakening. As competition within the Content Creation category increases, the next leg of the chain - Distribution - will have increasing influence and be able to capture more value (and revenue).

2) There are two countervailing trends in the Communication sector: first, alternative "last-mile" access are becoming available. For home use this includes, triple-play products from cable-cos and telcos, and next-generation fixed wireless solutions. For mobile communications wifi will continue to evolve, and compete against EVDO/WCDMA 3G networks, and WiMax 4G networks. The second trend is in the increasing need for speed. People will pay more for faster, better, more ubiquitous. DSL isn't fast enough - so upgrade to HDSL. EVDO isn't fast enough - so upgrade to WiMax.

3) The age of the standalone gadget is over. As hardware capabilities become increasingly commoditized, the value will shift to integration with content distribution services.

The largest opportunities in the next 3-7 years are among services that seamlessly connect the elements of the value chain: content creation with communication; content distribution with device. The incumbent distribution networks aren't equipped to manage user-generated content; nor are the communication companies capable of integrating hardware display with distribution services. Third parties will emerge to perform these enabling roles.

A key trend currently and for the 3-7 year time frame will be the increasing significance of how the various players approach and succeed in their approaches to *content monetization*. Google's spectacular success in this arena has made them the player to watch in terms of innovation and change, but also makes them the most vulnerable to sweeping changes in online advertising (unlikely) and to better adoption of Google's innovative approaches in this area (likely).

Google's key innovation was not great search, rather it was the ability to offer highly targeted advertising that was inoffensive to users. This killer combination remains a holy grail for all players in the industry and is likely to remain the holy grail for the 3-7 year time frame of this analysis.

Although Microsoft has failed dramatically in their efforts to monetize (or even provide) online search, the XBOX 360 may be the best example of using a superior device and powerful global brand to monetize entertainment content in the form of video games like the recent spectacularly successful release of Halo 3. Unfortunately Microsoft's past huge losses on the XBOX 360 make it very hard to analyze how effective their very long term strategy will be with the XBOX - a strategy that anticipated huge losses for many years as they sought to capture an elusive, primarily teen male market.

My guess is that in 5 years, after all the dust has settled from XBOX 360 development, marketing, losses and gains, Microsoft will be only "slightly better off" as a company than if they'd simply ceded control of this market to Sony or Nintendo. Technologically the WII is in many ways inferior to the XBOX 360, but the WII appears likely to monetize better over the long haul. Compelling gameplay and clever, demographically targeted marketing seems likely to trump compelling technological achievements - a lesson Microsoft seems destined to relearn with each new deployment.

Other trends are probably not as sweeping in significance as those related to optimizing content monetization. I'm describing them below next to the relevant players:

Device Manufacturers: Key trends will relate to customer aquisition and retention and mobile advertising. Branding and customer loyalty are now trumped by cost and convenience and this will continue with the conspicuous exception of the iPhone which is likely to garner good to great customer loyalty. The Google Phone or mobile software may revolutionize this market because it appears likely Google will use targeted advertising in innovative ways to keep phone costs down. Prediction: Google will offer software that is broadly compatible with many new iPhone style devices, and will offer cost cutting using advertising. The effort will succeed though it will add relatively little to Google's bottom line for some time. It will seriously threaten the ability of struggling carriers like Sprint to stay viable in this market, but they will copy the innovative revenue approaches of Google and may even wind up providing Google software on their own phones. Historically Google likes to see key players thrive using Google innovations rather than displace them (e.g. adsense advertising for other websites).  Treo and Palm in trouble - Centro is too little, too late.   CEO Advice: Partner, customer centricism, mobile advertising innovations. 

Distribution Networks: As distribution of digital entertainment and content converges, and online distribution mechanisms gain market share and technological traction, legacy companies must evolve or risk being seriously crippled by online players like Google YouTube and Yahoo Video. Again however it appears that the online players are more interested in partnerships than in global distribution domination, so we are likely to see an era of big brand partners across the board with all media types. CEO Advice: Partner, partner, partner.

Content Producers: This is the most threatened group thanks to the rise of social networking, user generated content, and superb free online software. Content producers should seek whenever possible to leverage user generated and legacy content to keep production costs to a minimum. They should anticipate the fatigue people may experience with low quality online video clips and seek to jump into that space with quality legacy or cheap original content.

Web based content aggregators: Google and Facebook are the players to watch as they are currently driving the innovation and Google is driving monetization in the key online content spaces of search, social networking, and video.    Look for search revenues to continue massively upward as advertisers increasingly become aware that offline advertising is generally less effective, often with negative ROIs.    Online advertising often has negative ROI as well but the measurability and superiority of online targeted pay per click and pay per action models will continue to shape the market and drive advertising online.  Short term gains for Google, long term gains for all content aggregators.   However, Facebook's trumpeted 10 billion+ valuations are misguided and premature.   Look for video and social networking to monetize poorly - even worse than generally expected.   Fixing this will be difficult and may not be possible.   Search advertising will continue to be the key monetizer in the online space.    CEO advice:  No vacations.   Copy Google.  Leverage existing customer bases (MS and Yahoo and Google) to populate new efforts in social networking.   Do not buy Facebook.  Myspace will continue to thrive but gradually lose ground to Facebook as user sophistication increases.   This will lead to more "openness" at Myspace and an approximate consolidation of current market share while Facebook and many other social networks will grow faster, and potentially explosively.  Look for the "killer social networking application" in this market, and buy it early.

Multi-business tech/media conglomerates:   Momentum matters, and Sony and Microsoft are such enormous revenue and profit powerhouses that they keep moving the market as needed to give them control that is in many ways simply in proportion to their size.   However, especially in the 7 year outlook Microsoft faces a huge threat from online office suites and services that are free, good, and gaining rapid use.   Look for the enterprise markets to dry up - slowy - in favor of cheap open source and online solutions.   Look for Microsoft to continue failing in the online space.  They simply do not seem to understand or simply don't want to negotiate the new open landscape where leaders, followers, market movers and market shakers all mingle comfortably in the interest of optimizing the big game.   Google understands this principle brilliantly as does Yahoo, though neither appear to have a keen interest in diversifying to the extent that would be needed to assume Microsoft or Sony's role in the entertainment industry.

Sony will fare better due to their current and continuing key market positions in movies and gaming.  Unlike Microsoft they are not threatened as much by online changes and the direct, hostile competition to MSN that is coming from Google. 

CEO advice:   Sony keep on doing what you do so well.   MS buy Yahoo and adopt it's online sensibilities.   Seek substitute products for the declining enterprise markets.

Summary: 

The pace of innovation and technological change in the entertainment industry will not subside, and may even continue to increase.   The key force of content monetization  will drive the entire industry and online search will be the most explosive ongoing revenue source.   Reducing the cost of content production will be a key challenge.  Producers and distributors should leverage social networks with their user generated content and cheap archival legacy content as much as possible.

What the Digital Entertainment Industry Holds in Store

Some time ago, experts/visionaries predicted the astronomical rise of a digital enabled lifestyle that would radically transform traditional forms of commerce and create new digitized forms of communication and marketplaces. However, before such a far-reaching, widespread vision of the future is even conceivable, several stages of progress must occur. The entertainment industry has been the first to feel the effects of this digital evolution. Internet connectivity has given rise to a whole host of a whole new wave of “…digital content and devices intended to entertain end users through media consumption.” While the industry surrounding digital entertainment continues to blossom the nature of its governing dynamics is illustrative of its future composition. The five major trends which will shape that outlook are as follows:

Trend #1 – Digital entertainment puts pressure on the overall digital marketplace
The digital marketplace is becoming the source of significant growth that actually outpaces the overall economy. IDC’s Internet Commerce Market Model (ICMM) predicts that the total volume of ecommerce will grow by another 25% this year to $2.4 trillion. Where the digital marketplace is defined as a superset of the digital entertainment industry consisting of all Internet enabled commerce. According to ICMM, more than 1.9 trillion dollars in goods and services changed hands in 2006 (approximately 14% of the United States’ gross domestic product. This means there will be an expanding set of opportunities for the creation, distribution and monetization of digital content and devices. With online retail sales having grown at a 20 – 30% rate for several years there is significant room for players in the digital entertainment industry to experience notable levels of growth.

These facts will undoubtedly affect the top two online commerce players, Amazon and eBay. While Amazon sports a 2006 revenue figure of $10.6 billion and is the Internet’s biggest shopping spot, it is under pressure to become more profitable. eBay, with annual revenue of $6.4 billion in 2006, must resolve issues with the integration and monetization of its PayPal and Skype acquisitions. As more diverse forms of digital entertainment emerge, the nature of running and growing publicly-traded corporations associated with B-to-C transactions and online auctions are also changing. Both companies must remain attuned to exactly how the availability of and demand for digital content is affecting the overall consumer digital marketplace, even if they don’t face threats from a direct competitor. If not they can potentially lose market cap to other companies looking to diversify across different channels.

In response Amazon has bet heavily on its Unbox video download service that allows users to purchase and download TV shows and other videos. The company has gushed about Unbox’s popularity but it has yet to translate into customers spending a noteworthy amount of money. Thus far, Wall Street has shown patience while Amazon has rushed to increase revenue and profit margins but it is only a matter of time before sustained results will become mandatory. The company must optimize Unbox and other digital entertainment focused offerings towards acquiring new customers. Amazon acquired 2 million new customers in 4Q06, a full 38% lower than the figure in 3Q06.

Despite the fact that eBay’s 4Q06 revenue stood at $1.72 billion, a 29% rise over 4Q05 ($1.34 billion) and profits rose from $279.4 million in 4Q05 to $346.5 million 4Q06, it only generates half as much revenue as Amazon. The company must find innovative ways to integrate the growing demand for digital entertainment into its other two businesses, Skype and PayPal. Skype has underachieved since its acquisition contributing just $66 million to eBay’s overall revenue in 4Q06, yet the opportunities to integrate digital content with voice over IP remain nearly limitless. As a result the company must begin to better position this overlap towards recouping the $2.6 billion paid for Skype in September 2005. Additionally, eBay has not found a strategic sweet spot for PayPal which sports a user base of 133 million and contributed $417 million worth of revenue in 4Q06. However, expect that PayPal will play a critical role as a trusted exchange/payment mechanism within various digital entertainment ecosystems, positively affecting eBay’s bottom line over the long term.

Trend #2 – Virtual worlds as a factor
The focus on Second Life story has brought the topic of virtual worlds out of techie/geek circles and into mainstream discussion and thought. Virtual worlds will play an enormous role in shaping the character of the digital entertainment industry over the next seven years. Some of the reasons are as follows:

• Represents a highly valuable niche activity. Tapping into the vein of a small group of “creators” who drive virtual worlds stands as a very profitable activity. Currently, these worlds are almost entirely populated by such creators, who represent the influencers within peer groups. If carefully wooed, the opportunities from utilizing them as growth channels are appealing.
• No winner has yet to emerge. This is a wide open market with only a few headliners such as Blizzard Entertainment and Linden Labs.
• Lowered barriers to involvement. Building a virtual world is no longer an arduous task for enthusiasts. Companies like WorldForge, MyDreamRPG and Multiverse are making it realistic to get started.

The concept of virtual worlds as a generator of a new generation of user-generated content is one that can bring a whole host of opportunities to the forefront of digital entertainment. Potentially, virtual worlds might serve as a medium through which users can consume digital media free of cost as well as at a price. Obviously, the infrastructure surrounding and business models surrounding virtual worlds are by no means established but the opportunity to innovate is tremendous. It is only logical that the digital entertainment industry will be shaped by its maturation over the short and long term.

Most likely virtual worlds will present the biggest set of opportunities to the various multi-business tech/media conglomerates that can afford to invest at the ground level in anticipation of a larger, long term return. Content aggregators will be afforded the prospect of a small amount of growth in the next couple years surrounding the materialization of the aforementioned UGC. However, this will disproportionately accrue to leaders Google and Yahoo! with a miniscule fraction going elsewhere.

Trend #3 – Microsoft OSB as a declining force
Microsoft Online Services Business (OSB) consists of the former MSN and the Live products and services portfolio. A division of the Redmond, WA based company, OSB accounted for 5% of Microsoft’s total revenue. With a revenue of $624 million, it is only one-fifth of Google’s revenue ($3.2 billion) and one-third of both AOL’s ($1.86 billion) and Yahoo!’s ($1.70 billion). In the burgeoning digital entertainment industry an undersized presence by Microsoft is indeed notable. Any opportunities for expanding its presence surrounding digital content will be handicapped by decreasing search traffic on MSN (only 1/10 of all queries in late 2006 were placed through MSN, down from nearly 1/7 in mid-2005. Over the same time period, Google saw its share of search traffic jump from approximately 1/3 to nearly ½).

Additionally, Microsoft proceeded with caution in regards to Rich Internet Applications (RIA), the type of application that will continue to categorize how users interact with digital media and entertainment services over the next three to five years. The company is reluctant to strangle its highly profitable operating system and application software businesses by throwing too much support behind web applications that perform like their desktop equivalents. The company will have to find a way to recover the investments made into OSB in the process of competing with the likes of Google and Yahoo. In order to thrive, Microsoft will have to augment the advertising revenue of its OSB unit by improving the search capabilities as it relates to digital content in order to keep pace with the demand for digital entertainment. This will provide the option of tapping into the market for search ads that compose a large chunk of online advertising spend.

With Microsoft unable to exert a force reflective of its overall market share, the door is left open for companies like Sony to step in and gain ground as a fellow tech/media conglomerate. However, members of the content producer category would benefit from Microsoft being able to successfully turn OSB around as more channels through which to push digital content will result in lower-than premium prices. If OSB remains a fringe player then expect Microsoft to bring its content and access business components closer to the Live products and services that are better aligned with the Web as a platform and Software-as-a-Service paradigms.

Trend #4 – US digital entertainment at home as a key determinant
The following facts are taken from the 2006 US Digital Home Entertainment Survey by the Yankee Group. The survey attempted to portray how non-linear video and broadband-delivered media will shape traditional media consumption and related business models. An analysis of consumer adoption of digital entertainment devices and services provides a coherent view of the average home and its tendencies. When attempting to grasp the current and future state of digital entertainment the following facts are critical:

• Fact: Portable audio players have relatively low penetration (32%) when compared to the saturated PC (96%) and cell phone (88%) markets.
• Fact: The PC is the main network connected device while only 9% of users connect with a TV.
• Fact: Cable companies have a stronghold on the HD market with 41% of respondents receiving HD channels through a cable set-top box. Only 14% receive HD signals via off-air antenna and 12% receive it from a satellite provider.
• Fact: A large majority of consumers are indisposed to accepting digital distribution methods of media delivery. Just 12 % responding as very/somewhat interested.
• Fact: Younger audiences respond better to user-generated content at the edge. Almost half (44%) of 18-to-24 year olds watch such content coupled with 39% of 25-to-34 year olds.
• Fact: Broadband TV can reach consumers who have been alienated by the traditional TV viewing experience with 31% of respondents stating that they want to view broadband-delivered content on their TV.
• Fact: Older audiences prefer ad-supported content less than their younger counterparts. Fifty-seven percent of 18-to-24 year olds, 54% of 25-to-34 year olds, 42% of 35-to-49 year olds, 38% of 50-to-64 year olds and 31% 65 years or older.

Trend #5 – Applications are driving device sales
Nokia and Apple, the world’s biggest cellular handset vendor and the largest vendor of digital music devices and online music, respectively, have shown their support of a strategy that uses applications to drive device sales. This is important because mobile music is a critical battlefield field within the digital entertainment industry. The companies that are most successful in leveraging mobile music will find themselves at the head of the class and vice-versa. And rightfully so, as mobile music is the gateway to establishing a dominant mobile platform for the consumer market that connects multi-function mobile devices to applications and content designed for those on the run.

Currently, Nokia has a market capitalization of approximately $99 billion with Apple’s market cap sitting at $78 billion. Other device manufacturers will do well to take heed to the success of using applications as a selling point for devices as these two highly successful brands have already done. Apple has turned the music industry on its ear with the iPod and iTunes plus the recently released iPhone. So it is important to realize that devices are becoming a springboard for services which plays on the trend of more device vendors resembling service providers. Apple, Nokia and even Microsoft, with its Xbox Live gaming service, also have set their sights on altering the distribution methods for content and applications. In this area, it is likely that several vendors will strike with their own application portfolios in an attempt to establish the type of brand ecosystems that breed loyalty.

Increasingly digital music will loom large over the next 12 to 18 months. This is demonstrated by the positioning of vendors such as Motorola (Motomusic), Samsung (its own online music store) and Sony Ericsson (Walkman). However, these vendors must be careful not to ignore the role that user-generated content will play in the picture. Facebook and News Corp.’s MySpace, part of Fox Interactive Media (FIM) unit, which has yet to match its buzz with an equally potent business model (FIM revenue in its fiscal 2Q07, ending December 31, 2006 was only $125 million) fits quite snugly into the equation as a means of users pulling together content through social networking mediums. Both sport an Application Programming Interface (API) that allows developers to interact with each platform. Device vendors will do well to embrace these open mechanisms as a manner of enabling the creation of innovative applications that will in turn result in more device sales. For example, the next killer mobile application might come about as a result of iPhone developers attaching to the MySpace ecosystem through the API.

CEO Responses
The recommended responses listed below are not meant to directly correspond to the identically numbered trend detailed above.

CEO response #1 – Humanize the digital entertainment experience!!!
It is important to remember that digital channels serve as a demographic broad stroke across age, ethnic groups, gender and income brackets. However, core human preferences and expectations should be the key drivers for defining the composition of the entire experience. As a result:

• Explosive relevancy matters. Explosive relevancy is a dynamic that measures how quickly an experience is relevant to the majority within a target group. The easier it is for forms of digital entertainment to find applicability across larger supersets of people, the better.
• Privacy is crucial. When considering permission-based marketing and online payments privacy guarantees should stand out first and foremost.
• If it’s not intuitive, then it’s not working. Low levels of usability and inefficient task flows will kill any chances to monetize the activities surrounding digital content. Ease of use is the foundation of digital entertainment champions.

CEO response #2 – Picture DRM on the way out
In February 2007 Apple’s Steve Jobs posted an open letter to the music industry calling for the end of digital rights management (DRM) technology. It is important for CEO’s to recognize the validity of Jobs’ perspective, namely that the end of music DRM would stimulate a brand of consumer-healthy competition, strengthen the market for music sellers, music labels and fans. Currently, only Microsoft stands to benefit from the continued run for music DRM.

Unfortunately, DRM inhibits legit commerce without restricting piracy. Jobs asserts that online music doesn’t need to be unnecessarily protected since store bought CD’s are sold protection-less. There is gathering sentiment that with DRM out of the picture, there would be an increase in online sellers as well as the opportunity for more parties to contribute better forms of music search and retrieval. Consumers would benefit from the choice and flexibility while being able to depend on the fact that a purchased device or track will be compatible with future purchases. Without DRM, the need for a proprietary Microsoft standard disappears and with it, the company’s lock-in driven system.

CEO response #3 – Gain an understanding of Internet-delivered TV
The explosion of digital media available online in the form of video, television executives are already pondering the future of TV programming delivered over the Internet, a.k.a. “over-the-top TV.” It is important to grasp the potential and the obstacles of this medium since its projection will affect the digital entertainment industry monumentally over the next five years. Companies like AT&T, Cisco Systems, HP, Microsoft, Verizon and Comcast all stand to be affected by the delivery of over-the-top TV.

At the moment, NBC has free episodes of Studio 60 on the Sunset Strip on www.nbc.com. ABC delivers episodes of Desperate Housewives and Lost through iTunes for $1.99 each. Cable channels are working with portals like AOL and Google Video to deliver programs online instead of developing and promoting homegrown portals.

One of the main promises of over-the-top TV is that of subverting traditional cable and satellite distribution methods. This is especially appealing to distribution networks such as Fox, and of concern to network access providers such as Comcast, that all want to know if television might one day end up competing with content delivered through broadband? The answer lies in the analysis of several realities of over-the-top TV:

• Adding a net connection to existing TV devices is the most realistic option. It is going to take time before Internet enabled TV devices become commonplace. Much the same way it has taken HD enabled TV to reach the mainstream.
• Video quality is an issue. PC screens are a different story from a full TV picture. Most online video is optimized to be delivered to the former and don’t have the 640 by 480 pixel resolution needed for TV.
• Navigation looms large. The navigation tools for TV sets are too crude to interface with unstructured catalogs of online videos. Better forms of pointing devices and tagging are required to move forward in this arena.

Strategies that map out roadmaps from now until 2011 when over-the-top TV will most likely be viable must be developed now. The maturing market for digital entertainment is set to power a surge in niche videos that will support not-yet-conceptualized advertising models. It will be important for CEO’s of larger networks to consider diversification across the spectrum of amateur produced content. While content aggregators will have to consider how they can position themselves as top-notch over-the-top aggregators.

Forecasting Trends in Digital Entertainment
by Nick Dynice
10/22/2007

Introduction
In this insight, entertainment will be referred to as media, since they are closely related. Due to the vasts amounts of media available, information consumption has become a form of entertainment. Each player in the media world is dealing with these five points, and the future requires that they carefully consider each of these points when developing strategies in their respective areas.

1. Declining Attention Share of Each Legacy Content Mediums
2. Legal Landgrabs
3. Bundling/We Can Do it Better/Not Invented Here Mentality
4. Free and Open Platforms
5. Edge Monetization

Declining Attention Share of Each Legacy Content Mediums
The new digital landscape offers ever increasing options for consumers attention. This means that consumers will spend less time consuming traditional mediums, and this could result in declining market/attention share in these mediums [1]. Companies should be both careful not to fault them, complain about them, and then do nothing innovative in response to these externalities. They should prepare to innovate and grow offerings in new areas or accept a downsizing of their market share. Here to compete with television, radio, CDs, movies, books, newspapers, the phone, outdoor activities [2], and socializing in person are:

• Internet community interaction
• Online learning and research
• Internet TV and video sharing sites
• VOIP
• mobile phone applications and games
• social networking web apps
• creating peer content (user generated content)
• video games
• online news consumption and interaction
• satellite radio, Internet radio, and podcasts

Almost all of the old pastimes have a staring point and and ending point, but almost all of the new pastimes can go on infinitely. This is partly because they have deeper engagement built-in. The smart CEO will recognize this shift and learn to adapt to it and go to where the consumer attention goes. For content that does have an ending, users will want to make recommendations to friends when the experience is a good one. Rights-holders, distribution networks, and the content producers, and device manufactures should allow this to become second nature to these users.

Caveat
The Long Tail [3] of with the help of the Internet allows more users to find content that is increasingly relevant to themselves. While a traditional content medium such as a book might be competing with video games, the long tail of content allows users to find books that are worth more attention than new mediums such as video games.

Legal Landgrabs
The shifting digital landscape has allowed for new interpretations of existing law. There are also a lot of sue-happy incumbent market leaders. Given these two factors, unless there are some major reforms in patent, copyright, and trademark litigation, some CEOs are going to let (or maybe be forced to by uniformed shareholder) their lawyers litigate whenever the law allows. Lawyers are not marketing strategists. Since legal strong-arming is perceived as being more important than any strategic marketing values (such as the legal case to protect trademarks), many incumbents will continue to shoot themselves in the foot by suing customers and sending cease-and-desists letters to innovators. The spirit of protecting intellectual property has been hijacked and is being used to protect obsolete business models and any vague threat of IP infringement (in some cases, one is used to protect the other). Many content publishers are ignoring fair use, going after consumers, and causing ill will in the marketplace. The smart CEO will recognize the difference between fair use and the attempt of a third party to resell or profit outright from content. Legal departments should learn to ignore what I will call incidental monetization. This is when a third party happens to make money from a content provider while still allowing the content provider to keep their own business model intact, while also not being in the same core business as the third party. An example of this is Google AdSense. Ads might show up next to a high ranking search result, but the business model of the company that occupies the top search result is not fundamentally affected by the ad's placement. Another example is the use of copy written music in a consumer’s YouTube video. In these situations there is no licensing deal for the consumer to enter into in the first place, and the video will not serve as a substitute for purchasing music (some will even argue that it is free promotion for the music [4]). The video is not purporting to be posted by the artists or label, so the rights holders fundamental business model is not jeopardized by the consumers use of the music. A great practitioner of this is George Lucas. Lucas allows Star Wars fan sites and even remixing of his content [5] to exists since they do not fundamentally interfere with his licensing of the Star Wars franchise to commercial licensees. The fan site’s authors are usually not trying to sell fake Star Wars merchandise or pirate Star Wars movies (both of which would interfere with Lucas's two core business), just wanting to celebrate the Star Wars culture.


Bundling/We Can Do it Better/Not Invented Here Mentality
Companies may or may not be experts in value added service, or they may have an understanding of where they need to be looking in the coming year, however, in the face of these massive changes, it comes down to a company really knowing what business it is in. It also needs to keep a laser-like focus in being as good as it can in its respective area. This will mean forgoing opportunities to have a value added component that is not in its corporate DNA. One example is telecommunication companies (network access providers) who also attempt to become content originators or license deals with preferred content originators. They attempt to bundle services via these licensing deals with a third party not because of meritocracy and quality, but because of politics or financial incentives. This is part of the Net Neutrality debate. Companies that focus on nothing but great content will do a much better job at delivering value to the consumer, whereas, network providers that guarantee Network Neutrality will make customers feel better about their service provider. It will be hard for network access providers to ignore such perceived opportunities in their attempt to create more short term value for shareholders. If they will consider increasing value over a 10 year plan instead of a 6 to 12 month plan, they will see that giving consumers the highest speed access to the most destinations on the web will be profitable in the long term. What it comes down to is the desire for inventors to reap rewards in the short term, the instant gratification mentality. This is perhaps another argument for tighter regulation or privatization of these networks.

In Google’s recent bid for the 700MHz spectrum, they asked the FCC to make it possible to dynamically allocate the spectrum. It is apparent that they have learned that openness and creating the ability to place a real-time market value on commodities is the key to profitability, efficiency value and consumer value. Companies that have not learned this first hand are probably too lazy to innovate due to their position as part of an oligopoly. They are opposed to such changes. Companies like these deserve to be routed out of the market. The smart CEO will lean from Google’s success in creating a real-time marketplace for keywords (Google AdSense/AdWords) and adopt similar strategies and guiding principles. If this is allowed to happen, a thousand innovative mobile service providers can bloom, just as they did in the web 2.0 application space. It is not as if incumbents have lost value or market share. They have actually gained value by acquiring start-ups. This is the same lesson the motion picture industry learned after they finally stopped fighting the VHS format and used it to gain even more business and create value to consumers by selling movies on tape. Incumbents are risk averse, and start-ups take risks as a key strategy. Or as they say, when you're young, you innovate, when you are old you litigate. And, as they also say, history repeats itself. No one said that being the smart CEO will not be painful in the short term, but long-term benefits are at the end of the dark tunnel.

Free and Open Platforms
The end of business development deals [6], exclusive licensing deals, and service level contracts in the digital content and entertainment space should be very near. The web platform has demonstrated that openness allows more rapid innovation, which allows for experimentation and sifts out marketplace winners.

Platforms do have a caveat. This happens when a company’s strategy is in either the platform or in the content for the platform and the company provides both and one is a loss leader. Of course, the problems can ensue when the market ends up favoring the loss leader. If it appears that one is either being given away for free or is able to be replicated for very little cost, the strategy is in trouble.
phone. This can be seen in selling ink jet printers for under cost, Oftentimes, this results in legal strong-arming which always hurts consumer value and spills over into hurting market valuation. This can be seen in locking customers into mobile phone plans when the phone is given away for free, and then creating ill will when the customer wants to terminate early or cannot switch to a different phone. This can be seen in digitally managing printer ink cartridge providers so that only the printer manufacturer's ink can be used, selling them at a profit and the printer at a loss, only to later have a third party come in and reverse engineer the ink cartridges. Perhaps the most famous instance of this can be see in Apple's iTunes Music Store selling DRMed AAC music files that can only be played on Apple's iPod, only to have the DRM removed by software such as jHymn [hymn-project.org]. (While writing this, Apple began offering DRM-free music purchases at $0.99 per track). This clearly illustrates what an RIAA member's head of litigation has recently admitted in Capitol v. Thomas [7], when using the law to protect a business strategy in the face of open platforms, litigation is a bad financial investment.

The smart CEO will monetize on the platform or the content that is free for any qualified new entrant to experiment in, and will not be too heavily involved in both the platform and the media. They will only try to monetize with either one or the other. They should also try to diversify their offerings in either the platforms or the content. An example is in open web standards and open source software. They are free to use and free of licensing agreements. Since no one owns them, no one business is at risk if they are suddenly abandoned. The organizations that use them can change when necessary. Organizations can monetize by adding value to the platform or content that was not already available to the consumer. For example the Slide.com (now known as RockYou) MySpace widget strategy was costing them a lot of money with no return. It was not until they were able to diversify with Facebook's free and open F8 platform that they were able to make revue by charging advertising clients and delivering ads.


Edge Monetization
Again, this means figuring out what business a company is really in, surveying the new landscape, and figuring out where they fit best. This shift could be from 1)selling to consumers to 2)selling to businesses, or vice versa. It might be a shift from selling your core product to giving it away and monetizing at the edge. An example of this strategy is a move from selling digital media to selling experiences or packaged goods, or vice versa. This could be a shift from total control of your brand to totally letting go of control of your brand. A good exercise in this is the flip test. If you sell one type of item and give away another, what would your company need to do to survive if you had to flip your strategy around? The smart CEO will force its executives into this exercise, and then surprise them by implementing the strategy as a way to keep the company nimble. This should not always be done in a defensive manner, but in a cooperative fashion. Again, this may put the lawyers on alert, but the smart CEO must know when to keep the lawyers on a leash.

Edge monetization can also be done by giving away something that the company traditionally charged for, and putting adverting in it (which, for better or for worse, is a staple of the web 2.0 strategy). Adverting is becoming an attention war with customers, and it is the war mentality that is the mistake. Marketing is evolving in a way that is more relevant and contextual for your consumers. As Seth Godin points out in his book Permission Marketing, if you can ask for permission to market to your prospective customers, you create relevance and eliminate annoyance. I give Google permission to show me ads in the sidebar (and they are contextual) and in exchange I get to browse and go to the most relevant search results.


Conclusion
Since devices will always have a production cost to them because they are a hard good, there will usually not be too much innovation in how they are monetized unless they are loss leaders. These devices should be free of lock-in by content providers, service providers, and accessory providers (unless there are real quality control issues, not fake ones to support dead business models and lazy oligopolies). Content producers and distribution networks should not be concerned with control of their content since the smart ones will have an edge strategy, and it will not matter how many places or devices their content ends up along the incidental monetization chain. They will also need to keep in mind that consumers have a wide variety of choices when it comes to media consumption, and they should be happy about the attention they do get, no matter how they get it. Network providers need not be concerned with the content they carry as long as they are laser-focused on delivering consumer value, sometimes forgoing short term financial incentives via bundling. Web based content aggregators, especially those that have succeeded in the web 2.0 space, have these lessons built into their strategy so they usually do not go astray (with the exception of "also-rans" such as Microsoft). Multi-business tech/media conglomerates usually have so many conflicting constitutes to please that they are better off breaking their companies up into independent subsidiaries with dedicated resources. They will have a hard time existing in the new digital landscape unless they put a lot of effort into following the strategies of the smart CEO listed above.

I am not going to try to predict what might happen in the next 3 to 7 years in this space. It seems futile since there are too many variables. What is clear is that the successful strategies learned and used by remarkable companies today are from lessons learned as late as twenty years ago and as early as the beginning of written communication. The most nibble survive, openness allows for more rapid innovation, long term strategies beat short term strategies; and the market has rewards for those who have these qualities.

All of this comes down to these two points. First, the smart CEO creates value for the customer at almost every step, but also grows shareholder value over a longer period of time. And second, in Clayton Christensen’s series of books, The Innovators Dilemma, The Innovators Solution, and Seeing What’s Next [8], Christensen argues that it is hard for incumbents to change direction and see new opportunities when they place too much trust in the tactics and strategies that made them successful in the past. Fresh, outside perspectives are necessary, so it is a good thing that you have tapped the Techdirt Insight Community.


References
[1] The Media Possibilities Are Infinite, But People's Time Isn't http://techdirt.com/articles/20061015/233833.shtml
[2] Pets Just Can't Compete With Video Games When It Comes To Kids' Attention http://techdirt.com/articles/20070306/095807.shtml
[3] The Long Tail http://en.wikipedia.org/wiki/The_long_tail
[4] EFF Sues Universal Music For Getting Home Video Of Kid Dancing Pulled From YouTube http://www.techdirt.com/articles/20070725/224422.shtml
[5] People Will Create Stuff For Free? Impossible! http://techdirt.com/articles/20070524/181013.shtml
[6] Business Development 2.0 http://avc.blogs.com/a_vc/2006/08/business_develo.html
[7] RIAA anti-P2P campaign a real money pit, according to testimony http://arstechnica.com/news.ars/post/20071002-music-industry-exec-p2p-litigation -is-a-money-pit.html
[8] The Innovator's Battle Plan http://hbswk.hbs.edu/item/4353.html

Missing the Wii Revolution

Ted Brown, Oct. 2007

Well before it hit the retail market in December of 2006, development kits for the Nintendo Wii arrived at game studios around the world.  The reception was largely apathetic.  It was a time when the Xbox 360 was delivering on its promises, and programmers were wrestling with the obtuse intricacies of the Playstation 3.  The term "next-gen" had already been defined as "high-definition graphical fidelity", and this odd Gamecube progeny--which did nothing to address the lackluster graphics hardware of its parent--was often dismissed outright.  In fact, despite growing evidence showing that the Nintendo DS was devouring market share, developers had largely come to consider Nintendo an also-ran in the very industry it had resuscitated in 1984.

In less than a year, it has become clear that the Wii's original codename--Revolution--would have been more prescient than pretentious.  It is the best-selling "next-generation" console on the market today, and would sell more if Nintendo could make them fast enough.  Nintendo president Satoru Iwata's famous mantra of a target market "between the ages of 5 to 95" has, incredibly, turned out to be true.  The Wii has made Nintendo Japan's second most valuable company, behind Toyota and well ahead of Sony.

Those same third-party developers who had dismissed the Wii came around quickly.  On investor calls, EA tacitly admitted they had overlooked its potential, and chief rival Activision could not say differently.  Inside the walls, Wii game development was pushed into overdrive, hoping to ride this mainstream wave into oceans of profit.  Months passed.  The results of that effort have come in, and it doesn't look pretty.

When looking at raw sales numbers, its clear that there is something wrong: Nintendo owns all of the top spots.  Ubisoft's two release titles, Raving Rabbids and Red Steel, are the only third-party products that have really made an impact.  Next are hits from franchises like Resident Evil, Tiger Woods, and Sonic, but then... it's more Nintendo games.  Even EA's juggernaut Madden NFL has barely sold 400,000 copies, which is what many in the industry consider to be the criteria for "moderate success."

Nintendo gets money from every game that's manufactured.  This might explain why there are almost 80 titles coming out for the Wii this holiday season.  But there is no room for 80 new Wii titles at Wal-Mart, Target, or GameStop, much less the older titles that consistently sell well.  Even stores like Best Buy, Circuit City, and K-Mart have spotty selection--at best--due to the numerous other consoles they have to support.  This is a mainstream console, and new titles must live where the mainstream market shops.

So: sales are spread out and individually poor, and the forecast isn't any brighter.  What explains this?

Developers blame Nintendo for dominating their own console.  Some are calling the Wii a fad, a cheap novelty now gathering dust in people's closets.  But a quick survey of third-party products tells a different story: they're not trying hard enough.  Sequels, ports, and games with "good enough" controls- -but recognizable marquees--are burning the very users they're trying to reach: new customers with many other ways to fill their entertainment time. 

Those studios that shrugged off the Wii revealed a great flaw: they had lost touch with the public at large.  The "magic stick" that sold so many Wii's was seen as a gimmick, and even as they made games for the platform, they did not understand what people actually wanted.  The results of their "content push" make that all too clear.  It's not raw content that people want, but new content.  Until that perspective changes, the market just isn't going to buy what the publishers keep selling, and third-party projects are going to start getting canceled with prejudice. 

This holiday season is going to define the Wii platform in the mind of the public.  But the companies that have survived on the backs of sequels and ports are going to be out of the picture.  The sad part is, they won't even understand why.

Content Development & Aggregation

I think more of Content Production and Aggregation will happen in a distributed and collaborative manner. Companies such as BBC, LEGO and Procter & Gamble are relying more on user's inputs and feedback to better refine their products and services. Content is not really much different from any other product.

This doesn't mean that the traditional ways of creating and distributing content will go away, but they certainly are going to give up some room for more user generated content.

As a result, online tools that facilitate the process of collaboration and host distributed work teams become more useful. If I were a Content Production or Aggregation company CEO I would have grown a community of users for my company were I could release basic ideas and use the community feedback to elaborate it further. That way i could assure that the final product will be more more appealing to the end users.

Content Aggregation is basically the process of filtering good and relevant content from bad and irrelevant content, therefore I would have implemented tools that both governors and the community members could create their own aggregated channels of information and content.

I would also consider building a Social Networking Intranet for my company where employees could form virtual teams and collaborate on the process of producing, refining, and tagging content. I would have encouraged employees to borrow from each other's works, but make them better at each stage.

Device Manufacturers

hardware and hand-held devices will and should evolve further to facilitate the process of collaborative content development. That is nothing new really. I think the reasons behind the success of iPod and iPhone were not because these devices can produce  the highest quality sound, images, or videos ( they don't ). What they do is to enable individuals to become distributed content generators and developers. This is one of those cases that quality is sacrificed for the functionality and convenience. These devices also facilitate the process of content aggregation and consumption at the user level and that means users get to decide what content they'd want to read, watch or listen to.

Distribution Networks & Network Access Providers

This isn't really my area of expertise except that I only hope our networks become faster every year and stay neutral regardless of the type of content delivered through them. We all know that Internet isn't really just a serious of tubes!