Gravity Lessons

Posted April 6, 2007

Leaders of businesses assaulted by technology can sympathize with Wile E. Coyote. We know how he feels when he discovers that the road beneath his feet has turned to air. We laugh in sympathy as his expression turns sheepish and he pedals frantically. We know that fall is gonna hurt.

These days you can find that sheepish expression on the face of media executives who are paying attention. They have run off the cliff and the descent has begun. All the frantic footwork in the world is not going to keep some of these guys from making a large and messy hole in the ground. Whether they publish books, movies, or music, media companies confront an astonishing fact: their content is increasingly available for free.

Many denounce the sharing of copyrighted files as theft – but they are pedaling air. The music industry illustrates the challenge. Only about 10% of digital music is paid for – the rest is exchanged for free. The New York Times reports that "Peer-to-peer networks yielded five billion downloads in 2006, whereas 509 million songs were downloaded from iTunes-style services". Although almost as many households pay for digital music as exchange it online, those who get music for free generally get a lot more of it.

Many people expect that as more songs are made available for purchase without copyright protection that both commerce and P2P file sharing will increase. The response of the music industry in general has been a case study in Roadrunner chasing — they have spent dramatically more money on lawsuits than any of the P2P services have ever taken in revenue. But as the industry has squashed file sharing sites, others have grown to take their place. Napster is now a paid service (and a dying one), Streamcast, Kazaa, and Grokster are a shadow of what they used to be. But BitTorrent, Limewire and Freenet have sprung up to take their place – from offshore locations if necessary. The industry says they want to monitor individual downloading; P2P programmers are now making this more difficult.

The media genie is not going back into the bottle. Even Hillary Rosen, the Dark Princess of the Recording Industry Association that sponsored the lawsuits acknowledges (having now left the Association) "I have always thought that people were just putting their finger in the dam with litigation and other kinds of enforcement." The person who once pedaled "sue your customer" as a business strategy to save the music industry now admits that even favorable Supreme Court decisions have little impact on the file sharing or on the core economics of the music industry.

CD sales have declined for six consecutive years in the US. Traditional music retailers are collapsing rapidly: Tower Records, Musicland, Sam Goody and many smaller retailers have ceased operations or closed stores in part because Wal-Mart and Best Buy took away the hits business by undercutting them on price. Today these megastores account for about 65% of retail sales. Even the hits business isn’t what it used to be: the top sellers have accounted for a smaller share of sales every year for five years until even Best Buy is now devoting less space to music sales. Music labels have lost about a quarter of their market value in the past year alone; most are losing money and laying off staff.

Paradoxically, the music economy appears to be growing, not shrinking. There are more recording artists than ever — and more labels. They may make more money on merchandising and concerts than on album sales, but total dollars spent on music does not appear to be shrinking, even in places like South Korea where almost all music is either exchanged for free or available as a low cost monthly service and traditional CD sales have collapsed.

The DVD and book industries are heading in the same direction – even if most people in these industries don’t know it yet. A huge share of the cost of publishing books is taken up by the cost of printing, store display and merchandising, storage, transportation, and returns. Without these costs, newly published books would cost $5, not $25 and publishers and authors would earn just as much on each unit sold but would, of course, sell a lot more units. Since electronic publishing eliminates these costs, you have to wonder why this doesn’t happen.

The answer is that publishers take one look at the music industry, become paranoid about electronic books, and strangle them in their crib by restricting, encrypting, and overpricing them. This has temporarily kept demand for good electronic readers low and the price of available readers high. But the pressure is building: analog media wants to be digital — and digital media wants to be free.

Indeed, if you look around, you will see that books and movies are increasingly available for free at sites like BitTorrent. Even Google lets you download a .pdf file of any off copyright book here. Programs to unencrypt e-book are easy to find. But for the lack of a Sony style reader, books would trade on P2P networks just like music does. Record labels, publishers and movie studios may be infatuated with encryption schemes (aka DRM, or Digital Rights Management). But DRM doesn’t work. Consumers hate being tied to a platform and 17 year olds make a sport and frequently a business out of picking the locks.

The media economy does not need to shrink — it needs to respond to new technologies with new business models instead of new laws. TV is a good example. Think about how you used to watch TV as a kid. There were a small number of stations and you watched your show with advertisements. How many ways can you watch a TV show today?

You can still watch it the old way — the content is monetized with ads
You can record in on your TIVO and skip the ads — the content is not monetized
You can watch in on cable — the content is monetized with subscription revenues
You can watch it pay-per-view — the content is monetized with your payment
You can buy the DVD new — the content is monetized by the purchase of the DVD
You can buy the DVD used — the content was monetized by the first purchaser but not subsequent ones
You can borrow the DVD from a library — the content is monetized by the purchase of the DVD, although the content is freely shared. Is this piracy?
You can borrow the DVD from a club like Netflix that lets you check out DVDs — again the content is monetized by the purchase and shared.
You can download it and burn it onto a DVD — – the content is monetized by the purchase unless it is a P2P exchange
You can stream it on YouTube or MySpace — the content is monetized with ads
You can download it or stream it onto your cell phone — the content is monetized on your phone bill.

Notice that none of these technologies require or benefit from encryption. All tolerate copying (just as Netflix knows that some fraction of its customers copy every DVD they rent. Many customers however, myself included, cannot be bothered to copy movies — except perhaps for This is Spinal Tap).

In short, it is possible but often challenging to monetize digital content. You have to work at it and you have to accept that people who are determined to have your content for free are going to get it.

Which brings me to the B-52 Stratofortress. This bomber is a marvelous piece of gravity-defying technology that has changed little since it was introduced in 1954. It is still in service, but the Air Force was paying close attention to technology shifts and so planned to obsolete the planes over the next few years.

The Air Force noted that the problem with high-altitude bombers is accuracy: it is hard to engage in pinpoint bombing from 35,000 feet. So the Air Force decided to spend $320 billion — real money, even by Pentagon standards — for a bunch of fighters that can fly in low and fast and deliver precision-guided munitions from low altitude. Bombing, the thinking went, would be taken over by jet fighters and bombers would go away. Early in his term Donald Rumsfeld actually mothballed our bomber fleet, including the Darth Vader-compatible B1 and B2 Stealth planes.

Writing in Slate, Greg Easterbrook describes how unforeseen technology change proceeded to leave the Generals in Wile E. Coyote mode:

..unexpected technical breakthroughs resulted in extremely accurate munitions that can be dropped from high altitude by bombers, at less cost and risk than using low-flying fighters. The result has been that during the Afghanistan and second Iraq campaigns, most of the air punch has been delivered by a handful of the remaining bombers. Some 80 percent of the bombs dropped during the U.S. seizure of Afghanistan fell from bombers; the share dropped on Iraq since March 2003 is nearly as high. Though bombers have in this decade turned out to be far more important to U.S. military action than Pentagon strategists expected, the government still plans to invest fantastic amounts of money in fighter planes that would be used mainly to drop bombs.

Bombs not only got cheaper (a cruise missile costs a million bucks, a JDAM about $30k), but bombs became unbelievably accurate. A B52 moving at 600 miles per hour six miles above ground can now hit a Taliban campfire every time. Not near the campfire — in the campfire. B52s now literally fly close air combat support — meaning that they can very reliably hit bad guys who are fighting near good guys.

Nobody saw this coming. In World War II, B52s literally never hit anything more specific than a town. They could not hit railroads or bridges or roads. We firebombed enemy cities since that was about all we could count on hitting. By Vietnam, a B-52 could drop a load of ordinance to within 1,000 feet — enough to target buildings, but useless against tanks or bridges. By Kosovo, we were bombing to within a few feet. Now, unless the technology fails, bombs go exactly where they are told to go and are delivered from an altitude that cannot be reached by ground weapons.

The Air Force is still planning to buy the fighters — just as most of the entertainment and publishing industries are planning to continue business as usual, hoping that digital media will not require fundamentally new approaches. Both will soon run out of road and find themselves pedaling air.