Daiwa EuroTelcoblog No. 58: Tuesday, 20th July, 2004 - More on telco positioning in content distribution

Recent posts on this blog have tracked some difficult issues related to the position of telcos in the content value chain: developments such as the litigation squeeze being placed on Tiscali in the Belgian courts as an "enabler" of piracy, and also on issues of technology, competitive environment, company culture and consumer behavior, which telcos may encounter in delivering video services on their broadband platforms. This rapidly-evolving issue has seen another couple of interesting twists in the past few days, which may have some interesting implications for most of the stakeholders in this market - record labels, P2P networks, commercial music download services and telcos/ISPs.

French direct action

Last Thursday (15th July), an industry roundtable meeting was held at the behest of three French cabinet ministers, in which the various parties adopted the recommendations of Canadian anti-piracy watchdog ITIC/DIC for taking action against piracy over P2P networks(http://www.itic.ca/DIC/News/2004/07/15/Fr_Govt_adopted_DIC_recommendations.html). What resulted was reportedly an agreement in principle for telcos/ISPs to shut down the accounts of users found to be engaged in piracy, simply on the basis of a court order produced in response to user data supplied by the labels. This should speed action against individuals to an almost immediate response, while avoiding lengthy court cases and heavy fines, which have proved controversial and unpopular measures in previous actions. No doubt, this is a more moderate approach than that seen previously from the music industry, but it does put the telcos/ISPs in a strange position. It is a well-documented fact that P2P traffic accounts for more than 80% of total traffic on broadband ISPs, and depriving users of access to the "fat pipe" should do little to aid the growth of the broadband market in the short term. It also may alienate a potential target audience for migration to legitimate paid services, which have produced a staggering amount of positive newsflow recently, and which potentially offer the telcos/ISPs some incremental revenue opportunities through partnership. The gloss put on this development portrays the telcos/ISPs as willing and happy participants, but we also have to recognize that this may be a damage-limitation exercise from their perspective, if they sense that some European version of the approach used in the American INDUCE Act (as is apparent in the Tiscali case) is on the horizon.


A big week for the "nice guys"

Churning off broadband customers is clearly a place where the telcos/ISPs do not want to be, especially in light of the landmarks passed by the legitimate commercial download services over the past weeks:

Apple's iTunes last week reported it had broken through the 100m download mark. This may be small beer next to the estimated 2.6bn files exchanged each month on the P2P platforms, but if we accept that the service really exists to drive hardware sales, then this is clearly a very significant achievement (in spite of concerns that vulnerabilities in Apple's DRM may undermine it in the longer run [http://http://www.itic.ca/DIC/News/2004/07/13/New_danger_for_Apple_music_files.html]).
OD2 (now part of Loudeye) last week reported six new white label partnerships, and pointed to soaring volumes on its partner networks, up 20 - 30% each month in the first half of 2004. Interestingly, the increase in competition in the market seems to be spurring volume growth across the board, as the launches of Napster and iTunes in the European markets were accompanied by week-on-week volume increases on OD2 partner sites of 22% and 28% respectively in the weeks in which they launched.

Napster parent Roxio yesterday announced six more high-profile additions to its university affiliate program in the US (the first was the University of Rochester in February). For those unfamiliar with this program, it is an alternative strategy for universities in the US to try to control bandwidth consumption on their campus LANs and stave off lawsuits as enablers of piracy, by partnering with Napster to provide a sanctioned P2P platform tailored specifically to the individual institution.

Perhaps the message from all of this is that the content providers have found a sweet spot in the market, supported mutually by broadband growth, consumer awareness, fear of litigation, and pricing. Indeed, 99 cents per track equates in some cases to less than $8 per album, which is very competitive versus CD pricing, and the OD2 service known as SonicSelector allows streaming (not burning) of tracks for 1p per song - a reasonable "try-before-you-buy" strategy. OD2 reports that one-quarter of downloads sold on its platforms are streamed in advance of purchase. For the telcos/ISPs, perhaps the best course is to strike a regulatory/litigation trade: actively shut down the file sharers, push partnerships with the legitimate partners in the space, and hope for the best.


P2P turning the tables?

However, things don't stay static in this market for very long, and yesterday saw the announcement of an interesting agreement between Streamcast Networks, parent company of P2P platform Morpheus, and '70's rock veterans Heart, who have released another comeback album and are embarking on a large-scale summer tour. Under the agreement, Morpheus users will be able to purchase the 16 tracks from the new album outright, or preview each track in its entirety three times before purchasing. Morpheus is giving the rights holders to the music a 50% cut of revenues, and interestingly, is also sharing revenue with users who share the tracks with others. Each Morpheus user who purchases tracks has the possibility of generating a commission of up to 20% for direct sales of tracks, with the commission declining thereafter by degree of separation (i.e., friend-of-a-friend transactions). This deal is fascinating, as it seems to harness the social networking aspect of file-sharing with a financial incentive to the end-user. It also provides a P2P "renegade" with a legitimate revenue stream sanctioned by the rights owners themselves. Lastly, for a band on an independent label, unsure of its prospects to get radio airplay in support of its tour, at the very least the preview facility offered by Microsoft's DRM, and the viral nature of the P2P network, may give it some added exposure it might otherwise not have had. Plus the band nominally gets to stand up as a party sympathetic to file sharers. While it is very difficult at this point to see the major labels getting into bed with their P2P nemeses in similar commercial arrangements any time soon, this does provide an intriguing model for harnessing the huge scale of the P2P networks to make money (the Morpheus application alone has been downloaded 125m times), which is what many in the P2P world have been advocating for some time now.

The implications of this deal may again pose hard questions for the owners of the pipe/customer. If the massive P2P networks are indeed embarking on a drive for "legitimacy," whether motivated by litigation or envy at the success of iTunes, Napster and OD2, then we are likely to see some other very innovative deals along the lines of Morpheus/Heart's agreement. Each step along this road may add further credence to the idea that the P2P platforms could become a money-spinner for a variety of parties, including the telcos/ISPs (either as an outright partner in the service, or through a sort of premium "turbocharged bandwidth on demand" facility to the platform itself). In the meantime, at least in Europe, what we see are early signs that the telcos/ISPs may end up on the wrong side of such a potential opportunity in the near term, if they are either themselves sued (as in Belgium) or coerced into churning off broadband customers (as in France) due to association with enabling piracy. This is a difficult issue, and one we will be tracking closely as it evolves.