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CHAPTER18

The Digital Age

or nearly a century the modern industry was forged by two then-new F technologies—the record and broadcasting. In the late , a third “The future is here. force—digital technology—emerged to shake the industry’s foundations. Digital technology ’s just not widely radically altered not only the business of music but also its creation, manufacture, and distribu- distributed yet.” tion. Furthermore, it changed the very culture of how music is created, with inexpensive tech- —William Gibson nologies to record, present, distribute, promote, and play music, fashioning a unique artistic and commercial digital democracy, which drew mu- sic artist and music consumer closer even as it blurred the boundary between them. Digital’s power was most graphically illustrated in the arena of distribution. The unauthorized of music via peer-to-peer (P2P) networks like and Grokster was often cited as the primary force behind the sales slump that began in 2001. Ironically, although these P2P networks also presented a method for legitimate digital distribution via the , record labels, which had reaped a fortune from the sales of CDs for two decades, perceived digital distribution as a threat rather than an opportunity. When and collaborated on the development of the (CD) in the early 1980s, no one could have predicted the extent to which digital technology, in combination with the Internet (which was still gestating at the time), would revolutionize the music industry.

Left: Steve Jobs unveils Apple’s iPod Mini, 2004. Photo © Frederic Larsen/San Francisco Chronicle/Corbis.

313 314 Music Business Handbook and Career Guide

The Double-Edged Sword

From the onset, and distribution created a quagmire of conflicting benefits and disadvantages for the recording industry. On one hand, those making the actual recordings—performers, producers, and engineers—found in the digital medium freedom from the technical constraints of analog tape, including tape noise and limited . Furthermore, as technology progressed, musicians and producers were given powerful new tools, such as digital signal processing systems (DSP)—digital reverbs, delays, samplers, looping, and editing capability—that vastly enhanced their ability to create and assemble . Record labels equally benefited. The CD was initially an expensive proposi- tion to manufacture and replication was concentrated in factories owned mainly by major record labels. But the cost of a manufactured, packaged CD dropped quickly, from an estimated $2 per disc in 1988 to less than $1 by 2000. Thanks to sustained demand for CDs, however, these record labels managed to maintain their prices to a large extent throughout this period, thus steadily increasing the profit margin on each disc. At the same time, the labels’ marketing strategy of releasing popular titles from their vast catalogs was encouraging consumers to replace entire vinyl and collections with the CD version, further stimulating sales of CDs and CD players (some companies, such as Sony and Philips, which owned both record labels and consumer electronics divisions, derived double ben- efit). Furthermore, when the CD was introduced but was still untested as a successful consumer format, major record labels were able to demand royalty rate reductions from recording artists, ostensibly to help mitigate the legitimate cost of fostering the new technology but simultaneously increasing label profits. However, digital’s dark side quickly became apparent. While cassette tapes could be copied fewer than a dozen times before generational fidelity loss rendered them unusable, digital music, on a CD or in the form of an electronic file, could be copied—“cloned”—infinitely.

Internet Synergy

The growth of the Internet in the 1990s created a volatile proposition, providing a virtually unregulatable and broadly accessible channel to distribute digitized music files between computers. mushroomed, buttressed further by the pro- liferation around the world of CD plants, some of which dabbled in unlicensed content, engendering financial losses assertedly in the hundreds of millions of dol- lars for record labels, music publishers, and the artists, producers, musicians, and who depended on music sales for their livelihood. But even as labels fought piracy on CDs, less obvious to them, initially, was the growing underground phenomenon of file-sharing on the Internet. That combination of technologies—digital audio technology and the Internet—became devastating. MP3.com—the commercial Web site built on the MPEG -based pro- tocol that enabled recordings to be compressed into files easily transferable over the Internet—became a lightning rod in 1999 when the general news media began to widely report on what had by then become a massive global subculture. It was quickly followed by Napster, which used a P2P protocol that significantly hindered tracing who sent files and to whom they were sent. As a result, millions of users traded or sold millions of music files—per day. Chapter 18 The Digital Age 315

A lengthy series of legal battles and buyouts left the major recording corpora- tions in control of both MP3 and Napster but with little in the way of innate corpo- rate organizational or cultural capability of turning them to their own advantage.

Labels Lay Seeds of Self-Destruction

As the digital Pandora’s box began to open, the music industry fought back using legislation, litigation, and market propaganda. Several key pieces of digital technol- ogy legislation were passed in the United States. The (AHRA) of 1992 stipulated by whom and for what purposes digital copies could be legitimately made. The Digital Millennium Copyright Act (1998) was more compre- hensive, particularly in establishing a mechanism for securing copyrighted music online. But it wasn’t enough. As overtook the pirating of CDs as the record industry’s main problem, the Record Industry Association of America (RIAA) turned to mass litigation. It sued colleges, universities (their central servers had become a popular file-sharing nexus among students, the largest cohort of early illicit down- loaders), and many individuals. The civil litigations were tactically successful, but strategically dubious, causing far greater public relations damage. The RIAA coun- tered with publicity campaigns to raise awareness about the implications of illegal music distribution, but CD sales continued the relentless decline that had begun at the dawn of the . Ultimately, many in the traditional music industry came to acknowledge the futil- ity of the consumer litigation. The former chairman of the International Federation of Phonographic Industries (IFPI, the consortium of label trade associations including the RIAA) and ex-director of EMI Records, Per Eirik Johansen, stated in a 2009 inter- view that he came to believe that the music industry’s fight against piracy has been useless. Johansen even questioned whether illicit file-sharing is actually the same as theft and concluded that with copyright violation so widespread, the only recourse is to find better solutions. In that same year the RIAA announced an end to its 5-year mass litigation campaign, in which more than 30,000 individuals had been sued for file sharing, saying it would instead seek to work with Internet Service Providers (ISPs) to suspend file sharing copyright scofflaws. The RIAA’s efforts may have gone as far as they could: digital rights manage- ment (DRM), file encryption, and the threat of litigation were deterrents to casual P2P file sharers, but they did little to affect an apparent hard core of P2P users who were likely continue to download illicitly. This legislative/litigious game of techno- logical cat-and-mouse made one thing clear: The mechanisms of law and regulation simply could not keep up with the rapid innovation that digital technology brought to music. An on-demand mindset was fostered among music consumers, who wanted music whenever and wherever they decided, and ultimately changed the economic structure of the music industry.

Smaller, Cheaper, Faster, Better (?)

At the heart of the digital music revolution is how digital technology changed the process of making music, from the relative confines of analog tape to the potentially infinite realm of digital’s nonlinear universe. 316 Music Business Handbook and Career Guide

In the late 1980s, computer-based and editing platforms began to proliferate, from companies including Cakewalk, Propellerhead, and Digidesign (whose system eventually came to dominate the field). Within a decade, hard-disk-based audio recording became ubiquitous. Analog tape, on which modern music recording had been founded, had become an expensive niche. This had serious implications for the music industry. For one thing, it lessened the need for conventional recording studios. Records that once had to be made in multi-million-dollar facilities with costly acoustical designs and complicated equip- ment could now be made in spare bedrooms, using an expanding universe of inex- pensive software-based recording and processing systems. Lower production costs should have been a boon to the music industry. In reality, the affordability of digital recording equipment began to reduce the need for large corporations to capital- ize productions. Simultaneously, the ability to distribute and promote independent records using the Internet was greatly enhanced. This chipped away at the major labels’ other putative advantage—their promotion, manufacturing, and distribution infrastructure. The independent record sector of the music business, which by the turn of the century accounted for nearly a quarter of all reported sales, began to threaten the power of the larger labels. Digital democracy, indeed.

The Economics of Digital Distribution: Change and Evolution

The rise of as a multi-million-dollar enterprise and the transformation of record production into a months- or even years-long process created an economically

Students mixing tracks on Pro Tools HD Pro Control recording system in Post Production lab at Trebas Institute. Photo courtesy of Trebas Institute. Chapter 18 The Digital Age 317

distorted landscape. As and later hip-hop genres became a larger force in popular culture, recordings were transformed into artistic sojourns, and the now lightly supervised recording process sometimes stretched into months and even years. Costs spiraled upward. But with a larger array of technologically advanced and geographically diverse recording facilities, and a growing cadre of independent record producers to guide them, rock and pop music artists gained more autonomy over the making of their records. A&R departments, which once rou- tinely assigned producers to artists and chose their recording studios, transitioned to advancing artists lump sum amounts to pay for their choice of producer and record- ing location(s) and as an advance on royalties (they hoped) to be earned from the sale of those records. The numbers game of music production evolved into one that seems, in ret- rospect, odd, to say the least: Most of the thousands of recording artists signed by what were once a dozen or so major labels in the last 40 years never recouped their costs. However, contracts almost always stipulated that the advanced monies could be recouped only from the sales of artists’ records; that is, if an artist was dropped from a label, the debt remained with the recording, not the artist, who was free to sign with another label, if he or she could, and start the process all over again. In a very real sense, record labels were acting as banks which, when they made “bad loans” (advanced for failed ), forgave the debt; when they made success- ful products, the artists found themselves relegated to a sort of decently-paid share- cropper status (in a typical earning between 10% and 15% of gross sales). Nonetheless, despite the fact that record budgets continued to increase— particularly after the music (which could sometimes cost as much as the album to produce) became an accepted part of artist promotion in the 1980s—the system worked. That is, until music file sharing undermined it with its own undeniable logic: The more successful a recording was, the more it became the target of illicit downloading.

The New Economic Order

Digital technology and the Internet created a new paradigm for recording artists, one that enables far more artists to actually earn a living from making and selling music as independents outside the framework of the traditional business architecture. Twenty years ago, a recording artist or band might have incurred a debt to a record label of $1 million or more for a first album, video, and related costs, before the first record could be sold. To show for it, they would have had the record and the video, the copyrights to both of which would be retained by the label unless a reversion clause had been negotiated—a rarity with unproven artists the first time out. Twenty years later, that same artist or band can invest a fraction of that amount in recording equipment and have not only the same creative output but also the means of production for the next album and video—and the next and the next. Instead of paying over $100,000 of fully recoupable dollars for 2 months in a traditional recording studio, they can pay less than $20,000 for a comprehensive computer-based recording system. Instead of over a quarter-million dollars for a , they can purchase affordable video editing software and a high-definition video camera for well under $2,000. Instead of the high-overhead workings of major corporation publicity and marketing materials for the record release, they can use powerful graph- ics/word processing/Web site creation software suites costing only several hundred dollars. In addition, they can choose from any number of Internet-based services 318 Music Business Handbook and Career Guide

that provide promotional services for independent artists and record labels, such as CD Baby and Taxi.com. At the end of the day, the independent artists not only own the equipment—possibly already amortized and ready to do the next project—but they can also retain the rights to their recordings and are thus able to repurpose and remonetize them. A tidal wave of social networking Web sites that offers access to millions of potential customers has transformed the marketing of music. (See “Music in Social Networking” sidebar.) This transformation radically changed the economics of music. The lower capital costs of this new economic order enable artists to sell their music for less, yet retain a higher percentage of the revenues. Digital democracy comes at a price, however. While the power implicit in the software tools of digital music and the unprecedented reach of the Internet have created a “backstage pass” past the music industry’s traditional gatekeepers—like A&R executives and managers—some argue that what has been lost is the filtering process that the “old-school” record industry offered. In the previous era, bands and artists had to run a gamut of self-financed steps—demos, club gigs, etc.—in order to attract initial record label interest. From there, artists had to prove themselves to successive levels of label hierarchy, at the same time pursuing business manage- ment, agency representation, and other necessities. As economically unstable and inflexible as the old record industry business model had become, it had also served as a development ground for several generations of well-trained “ears” who knew what it took to make a hit record and recognize talent—executives like Doug Morris, who once sold records for his independent label from the trunk of his car and later became chairman and CEO of ; or Clive Davis, former presi- dent of and later founder of . As gatekeepers have receded, vastly greater numbers of records have been released into the market even as overall unit sales decline—the flip side of digital democracy.

iTunes Arrives

Near the turn of the century, the most robust new business model for the music industry emerged from a computer company, perhaps both appropriate and ironic, given the computer’s central place in the upheaval of the music business. Apple’s iTunes was a way to legitimize and monetize music downloads: Consumers would pay 99 cents per downloaded song and would own the file. The economics were cut and dried: Labels received a fixed amount from each sale, approximately two-thirds of 99-cent single-song downloads, with that formula extrapolated for complete digital album sales. However, the labels lobbied vigor- ously for Apple to raise its prices, a move which Apple’s CEO Steve Jobs resisted until 2008, when a reformulated agreement between iTunes and the labels resulted in both sides compromising on two key points: Apple would for the first time per- mit a variable pricing scheme, keeping the 99-cent 128-KB-resolution single-song download and adding a $1.29 price point for higher-quality downloads at 256 KB, as well as a 69-cent price for back-catalog songs, applicable at the labels’ discretion. For their part, the record labels agreed to let Apple remove embedded DRM code from the song files. The single-song download far outstripped entire album downloads, and that phenomenon began to effect its own changes on the new landscape of digital music. For the purpose of certifying gold, platinum, and multiplatinum awards, the RIAA would now count 10 single-song downloads as equivalent to one album sale.1 But a more significant change was taking place as recording artists began to focus on individual songs rather than albums as their primary products. The decline of the Chapter 18 The Digital Age 319

Music in Social Networking Social networking is perhaps the most significant digital phenomenon of recent years. Web sites like MySpace, , Buzznet, and Twitter host interactions between millions of users every day. Music is an integral part of this social interaction—a fact that has come to the attention of those in the music business. A MySpace page is considered critical to marketing music by new and established artists alike, as well as record labels, music venues, and other business entities. However, not much has changed in one sense: Though new artists can leap the “cultural noise” barrier to become known, it’s established artists that still dominate the 24/7 world of . With fewer gatekeepers to control the volume or quality of new digital-only releases, an artist with a reputation (a “brand”) has a decided edge in making a splash. With hundreds of thousands of albums in commercial release, it’s clear that most of the music being released independently is flying well under the radar of both fans and the bulk of the music industry itself.

Filtering the Noise Many tools have emerged to do battle against obscurity. Web sites like Taxi.com, which seeks to connect its membership with an array of placement possibilities for their music, and Direct, which offers online promotional materials, purport to help music artists differentiate themselves in an increasingly crowded market. Listeners, too, can be overwhelmed, and they turn to a slew of music , review Web sites, and taste-making enterprises that apply collaborative filtering techniques to steer consumers toward more music they might enjoy based on what they already know they like. At Pandora.com, music has been deconstructed, song by song, bit by bit, reduced to elements that can be matched by Pandora’s algorithms to similar elements in other songs that the service then recommends to users. Major digital distributors, such as .com, have integrated collaborative filtering into their customer interfaces. Apple’s iTunes includes a feature called Genius Sidebar, which selects and suggests new songs from the iTunes online store that complement what the user is playing from a personal song library, with the added benefit of not recommending any song the user already owns. When fans find new favorites, they have any number of ways to let the world know about it, from posting a music file on their MySpace page to linking it to their Web sites or blogs. This in turn may link to more literate sites, like Pitchfork Media, that have become influential in determining what music people acquire. Web sites like iLike.com and .com create online communities whose members discover new music through sharing.

Communities for Musicians Musicians themselves have their own specialized networked communities that have become so plentiful and diverse that they can be categorized by state (www.texaasmusicians.net), belief (www.christianmusician- network.net), gender (www.femmuse.com), genre (www.jazzchicago.net), and ethnicity, as the Vietnamese Musicians Network (www.vmnusa.blogspot.com) illustrates. Musicians made seemingly redundant by developments such as sequencing, sampling , and drum machines might find some comfort in eSession.com, which allows musicians to list their credits and services and make them accessible to anyone. If a band in Iowa decides it just has to have the former drummer for Peter Gabriel play on one of its tracks, it can contact the musician via the Web site, send him the file for evaluation, agree on an artistic direction and a fee, and the musician performs his part, sending it back to the band, ready to be mixed. Online social networking has taken the last of the levers from the hands of the traditional music business by eliminating the engineered smoke and mirrors of conventional music marketing. It’s con- nected music artists to their fans in an immersive manner and allowed fans to determine their own level of engagement. If social networking is the manner in which people connect in the future, what music has done with digital technology has provided the for those lives. 320 Music Business Handbook and Career Guide

vinyl single record had begun in the 1980s, as CDs solidified the album concept as music’s main shelf item. Labels viewed singles primarily as promotional tools to sell the album. But the advent of downloading began the reversal of that process, and iTunes hastened it significantly.

Mobile: On the Go

The iPhone was the vanguard of a wave of cross-pollination between music and mobile phones and other devices that continues unabated, generating billions of dollars annually for a web of stakeholders including device makers, operating system developers, labels, video producers, and music creators. In 2005, mobile handset maker Ericsson joined forces with Napster to offer the music service to phone users; AT&T launched its own music service jointly with .com in 2007; in 2008, Nokia launched its Comes With Music unlimited downloads service in the U.S. In fact, as the number of distribution channels proliferate, some industry observers believe that those streaming music—so-called “all you can eat” service plans that offer unlimited streamed music for a monthly fee—are the inevitable eventual winners.

The Digital Future

Since digital technology became a factor, the rate of change that the music indus- try has experienced is enormous. New technologies, formats, and business models appear constantly. In fact, the only reliable component of music business future is that over time it will continue to change. However, certain outcomes are reasonably predictable, based both on ongoing large-scale trends and the history of techno- economics in general. Every new technology of the last two centuries—railroads, , electric- ity, the Internet—experienced similar stages of evolution: an embryonic, high-tech stage (limited accessibility, technology rapidly evolving), an entrepreneurial stage (technology stabilizes and attracts capital), an explosive growth stage (numerous commercial start-ups and multiple business models appear), and a consolidation phase (the participants are fewer but the entities are larger because of mergers and acquisitions). What happens to technology industries after that depends.2 In the case of buggy whips for horses, demand evaporated and the industry disappeared, replaced by a cottage industry model of artisans with low product outputs and higher unit pricing. In the case of the , the underlying technology constantly reapplies itself in new ways, pushing the resulting more diverse array of products and services further into the realm of low-unit-priced commodities. The music industry in the digital era will likely be an interesting combination of both evolutionary paths.

Consolidation

Merger and acquisition activity has been common within the music industry through- out its history. It accelerated in the 1970s as existing larger major labels acquired smaller ones to increase their market penetration (such as Sony Corporation’s buy of Chapter 18 The Digital Age 321

Columbia Records in 1988), acquire its catalog assets (such as the sale of to MCA that same year) or as a creative resource (a role David Geffen’s Asylum Records played for Warner Bros. in the 1970s). This trend continued into the 21st century, though it was fuelled more by the need to reduce costs in the face of the digitally driven music business. In 1998 there were six majors: , EMI, , BMG Music, Universal Music Group, and PolyGram. By 2004, Universal had absorbed PolyGram; 4 years later, Sony had merged with BMG. Given the state of the global economy at the end of the century’s first decade, the consolidation trend will likely continue. It seems likely that this highly consolidated core of old-school companies will remain a force in the music industry, though less as an engine for new creative directions than exploiters of catalogs built up over decades. From the early days of the digital paradigm shift, the majors fell well behind other companies such as Apple, Microsoft, and RealNetworks in creating viable download revenue systems like Apple’s iTunes. It’s worth noting that the latter set of companies all have digital origins, compared with the analog origins of remaining major labels. That causal relationship may be inferential, but it’s difficult to deny: Music—its cre- ation, realization, and distribution—is now a digital entity. Companies and indi- viduals who understand the dynamics of digital commerce are poised to exploit the change.

Price Versus Value

The digitization of music and distribution channels has also created more music than ever before, because the means of producing it are more widely accessible and affordable. The history of economics informs us that commodities rarely increase in unit price when the means of producing and obtaining them remain prodigious. However, economies of scale do not necessarily mean that higher-value products cannot be created in a stagnant or declining price environment. For instance, ring- tones of popular songs, which are comprised of about 30 seconds of music and often at lower resolution than the complete MP3 or iTunes track, continue to command prices as high as $2.99, even though the full song in a higher resolution can cost as little as 69 cents. Underscoring how a popular application can add premium value to an otherwise mass-market product, iTunes offers a utility that lets purchasers of a track pick a 30-second portion of it to convert into a ringtone. At 99 cents, the service effectively doubles the revenue for the same product.

Streaming Versus Downloads

The downloaded music file, the foot soldier of the digital music revolution, may itself be headed for a diminished role in the industry it transformed. Early attempts to create music subscription services using failed to gain much consumer interest and the concept was overshadowed by the success of iTunes. However, within a few years, services such as Rhapsody and Napster To Go began to see subscriptions increase, particularly when offered as part of a larger package (such as Rhapsody’s whole-house digital audio systems bundling with companies like Sonos and Nokia’s Comes With Music streaming service). What may well rel- egate the download to second-tier status is the growth of “cloud” computing and the 322 Music Business Handbook and Career Guide

popularity of netbook computers whose users increasingly rely on online storage and access services. Digital has also changed the attitude of a generation of music consumers, per- haps irrevocably. The ease with which digital distribution made music freely acces- sible also created a culture in which music is often perceived as being free of cost, as well. This attitude was hardened in many minds by the adversarial relationship that evolved between record labels fighting digital piracy with litigation against individ- ual downloaders. The public often perceived the conflict as one between corporate hegemony and individual rights, a situation that encouraged a widely held percep- tion that the cost of music product was out of proportion to the cost of making it. Ultimately, as the corporate shell of the old music business disintegrates, digital technology has made the music business an entrepreneurial one once again. With access to affordable production of music and digital distribution unencumbered by the capital and logistical requirements of manufacturing and physical distribution, the music industry has become less mythical and more accessible to more people. As a result of digital, the music business may have shed some of its mystique and glamour, but in the process, it has become a viable career choice for more people than ever before.

Notes

1. RIAA certifies bestselling recordings as Gold (500,000 units), Platinum (1 million), Multi- platinum (2 million or more), and (10 million). In addition, it issues Digital Sales and Master Ringtone Sales awards. When a label believes its sales justify such a certification, RIAA has an independent audit conducted. RIAA awards are based on manufacturers’ unit shipments and dollar value, net after returns. 2. For two provocative viewpoints on the impact of disruptive change on an existing order, examine Clayton M. Christensen’s The Innovator’s Dilemma (HarperBusiness, 2000) and Carl Shapiro’s and Hal Varian’s Information Rules: A Strategic Guide to the Network Economy (Harvard Business School Press, 1999).

Chapter Takeaways

•• Digital technology has been a double-edged gatekeeper function of key record label sword, improving the ability to produce new personnel. sounds, but threatening the established order of distributing recorded music. •• “All you can eat” digital subscription services rose in importance in the early years of the •• Overwhelmed by the free-on-demand 21st century. mindset sweeping cyberspace, record labels eventually backed away from anti-piracy mass •• The major labels were largely caught litigation and digital rights management as flat-footed in the digital age, watching with enforcement tools. alarm as technology companies such as •• The democratization of the music business Apple, Microsoft, and RealNetworks has diminished the importance of the pioneered disruptive business paths. Chapter 18 The Digital Age 323

Key Terms

n collaborative filtering (p. 319 ) n Pro Tools (p. 316 )

n digital rights management (DRM) (p. 315 ) n recoupable (p. 317 )

n Internet Service Providers (ISPs) (p. 315 ) n social networking (p. 318 )

n MP3 (p. 314 )