Digital Music, Mobile Phones and Pricing

In the NY Times, David Pogue reviews Sprint’s new mobile music download service. Unlike the disappointing Motorola ROKR iTunes phones, Sprint’s new offerings enable users to download songs directly to their phones over the air. Also, in contrast to iTunes, the pricing seems designed by committee to allow every possible intermediary to get a piece of the pie.
At Last, Phone Some Tunes to Yourself

Unless they’ve just spent four years in a sensory-deprivation tank, surely Sprint’s executives know that the iTunes Music Store and its rivals have solidly established the sweet spot of customer acceptance at $1 a song. What makes Sprint think it can charge two and a half times as much and still make people happy?

Well, that $2.50 per track offers something that iTunes doesn’t– right? Better sound quality? Nope. The mobile downloads are about one-fourth the quality of iTunes downloads. At least Sprint allows buyers to download a version to their PC in Windows Media format, which is incompatible with iTunes or on an iPod (and may be Mac-compatible around the time that, oh, hell freezes over.)

The PC copy arrives in a far higher-fidelity format (WMA, 128 kilobits per second) than the songs you get on your phone, which have been heavily compressed to conserve memory-card space. (To be precise, the phone songs are in AAC+ format, at a toe-curlingly low 32 kilobits per second.)
As a final shock, you can’t use your downloaded songs as ring tones. If you love a certain Beyoncé track, you’ll have to pay $2.50 for the ring tone, and another $2.50 for the whole song. The average music fan is to be forgiven for concluding that the whole enterprise reeks of greed.

It makes sense that the mobile phone and the music player should come together– after all, they are both portable computers designed to reproduce sound. The first notable effort, Motorola’s ROKR with Apple iTunes software is an anemic entry. Slate’s Paul Boutin examines: Off Their ROKR: Why Motorola’s new iTunes phone is a flop. “The iTunes phone is a case study in form failing function. On paper, it’s a reasonable combo device. The price is OK—$250 plus a service plan from Cingular. The sound quality is the best I’ve ever heard on a cell phone. But for a gadget meant to break new ground, the ROKR sags behind the curve.”
Unfortunately, there are too many entrenched interests that need to be placated in order to get into this market. Phone manufacturers can sell products only at the whim of mobile network operators, who control access to subsidized phone deals. Mobile operators want a piece of the transaction– they don’t want their customers to move data on and off their phones any way but through the mobile network, on a pay-per-byte basis.
The music phone also faces competition from Apple– who has a good thing for its bottom line with iPod sales. Apple does not want to cede the iTunes market to the phone– because licensing software to hardware manufacturers is a significantly less profitable business than selling hardware. Hence, the 100-song limit keeps the ROKR from competing with any of the iPods. The phone manufacturers do not want to have to pay Apple a licensing fee for each handset.
Wired magazine’s Frank Rose explains in detail: Battle for the Soul of the MP3 Phone: “Consumers want an iPod phone that will play any song, anytime, anywhere. Just four little problems: the cell carriers, the record labels, the handset makers, and Apple itself. The inside story of why the ROKR went wrong.* (*And what it will take to make a truly rocking music phone.)”
The same considerations that kept the ROKR from, well, rocking, are the same considerations that has Sprint selling songs for $2.50 per track. If that especially-inflated price point is at all successful, the Big 4 will be using that as leverage in their negotiations with Apple over renewing the iTunes Music Store licenses that expire in April.
As legitimate digital downloads are becoming a larger part of the music market– 6% of record industry sales according to IFPI, labels are trying to figure out how to maximize the value of this market. One way is to introduce variable pricing for digital downloads– both more and less than the $0.99 price point. Back in August, the NY Times reported on the negotiations between the labels (who want variable pricing) and Apple (who wants to continue simple pricing): Apple, Digital Music’s Angel, Earns Record Industry’s Scorn. Rolling Store also reported: Apple, Labels Feud Mounts: “Apple’s iTunes contracts with the labels expire next spring, and, at this point, neither side is budging from its demands”
It is important to remember that the legit services are competing not only with each other at the $0.99 (and higher) price points, but with P2P at $0/track. The higher the prices for legitimate services are, the more effort a listener may exert to download for free. For most people, the opportunity cost of pirating a track is worth more than $0.99.
SharkJumping discusses price elasticity: Music Label Unhappiness with ITunes – a Price Elasticity Debate: “digital download purchases are utterly price elastic when measured over a period of time across a large group of consumers – that means that demand for the product is closely related to the price – increasing the price will actually drive down revenue since fewer people purchase the product, while decreasing the price actually increases the overall revenue since many more people purchase the product, more than making up for the lower price per unit. ”
Barry Ritholtz: Music Industry Attempts Price Increases (or Hari Kari, Part II)
if the labels manage to crank up ITMS prices, expect those pricey legal downloads to plummet in volume. That’s just basic economics — if a free alternative exists, and consumers already think your product is overpriced, than you are in for a heap of trouble if you try to raise your selling price point.
Chris Anderson: Could the labels actually be right? “There’s plenty to like about variable pricing. For starters, it’s almost always the most efficient way to maximize markets of disparate goods and customers.” “The reason is simple Long Tail math: there’s a lot more music in the Tail than there is in the Head, and labels are generally more willing to experiment with discount pricing outside of the top 1,000 than they are with their hits. Those niches represents most of the music available today, measured by number of titles, and because they’re only modest sellers individually they’re less likely to create channel conflict with CD retailers, who tend to only stock the hits.” “Imagine, for starters, that Apple introduces a three-tiered band of pricing: $1.49, $.99 and $.79 (that would no doubt soon expand to include $.49, but below that the transaction costs of credit card processing and the like start to loom large). Tiered pricing–gold, silver, bronze–is still pretty simple for consumers to understand, yet it introduces a valuable new dimension of demand creation.”
Prices are not set in a vaccuum. Any legit music service is ompeting with $0/track prices on P2P. But why do people buy from a legit service? Not just for the psychological satisfaction of rewarding copyright owners, but because P2P has an opportunity cost, too. Only if someone’s time is worthless does P2P provide a better value than iTunes. Searching for a track on a P2P network is time-consuming and can produce results of varying quality.
Interestingly, Apple already uses variable pricing in the iTunes store. Labels have some price flexibility and can set the price of albums so that the average price of a track on an album will be higher or lower than $0.99/track.
iTunes Japan already has variable pricing for individual tracks. Looking to see what’s popular in Japan, some songs on the the Japanese Top 100 chart cost ¥150 ($1.32) while others cost ¥200 ($1.77).