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Apple Makes no Profit from iTunes
Some Beech writes: "The Register has an article about the lack of profit from iTunes. Also mentioned in a Seattle Times article dated 27th October, it seems Apple is relying on iTunes to drive iPod sales rather then being a profit centre on its own." Another reader pointed us to Apple's details from the Analyst Meeting.
It strikes me that this is a rare version of the hardware/software business model.
Normally, companies will take a loss on the hardware (i.e. x-box, nintendo, etc) and make up the loss on software..
Oh well, whatever works for them.
More Caffeine. NOW
I don't mean to sound rude, but wasn't this the business model all along.
1. Create Cool player
2. Distribute Content for cheap
3. Become Standard by which everyone else judges you by.
4. Establism market dominance
5. Profit on Player!
6. Raise price on Content or lower cost of distribution.
7. Profit on Content!
I don't seen anything new or mysterious there... And for the rest of you, you now have a couple more steps on that profit model you've been working on!
Ted
Fantasy remains a human right; we make in our measure and in our derivative mode... -- JRR Tolkien
The original article should be modded -1 flamebait -- too bad it's not on Slashdot. It's a rather impressive collection of loaded terms and inflammatory phrases.
"They redundantly repeated themselves over and over again incessantly without end ad infinitum" -- ibid.
They have created a brand that goes beyond Mac. Now they have Windows users using a Mac program! And Microsoft can't stop them! Even if they do break even they will see the profits when people see that they can actual program and switch.
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I am surprised that no one yet has pointed out the ramifications of Jobs' revelation: a loss leader is an anti-competitive practice --it's actually illegal in a few countries, although nowhere in the US AFAIK. The fact that Apple can afford to sell songs for 99c/song because they make up their operating profits on iPod sales means two things:
1. No company that does not sell hardware can afford to compete with those that do in the online music store business (i.e. Apple, Dell, Samsung kinda).
2. The prices of the aforementioned units that subsidize the stores are artificially inflated by the amortized costs of the online music store operations, or expected growth. I.e. the iPods are indeed too expensive.
Either way, this does suck. And it sucks because the magic price-point.
Remember the .com bubble?
"They redundantly repeated themselves over and over again incessantly without end ad infinitum" -- ibid.
Apple has always lost money software as a driver for hardware sales. Do you really think they make money on Panther? they sell it for less than MS sells their OS and to a lot fewer people. Yet it (OBVIOUSLY) contains a lot more research and effort so their costs are much higher and profits not much on software.
Some drink at the fountain of knowledge. Others just gargle.
OK - so they're not making money now. But wait a few years. Apple has put themselves in a good position to dominate the market with iTMS. In 5 years time when we're down to the few remaining successful iTMS type places, and the RIAA/Record companies have become hooked on the revenue stream from these sources, Apple et al. will be in an excellent position to renegotiate with the RIAA for a bigger piece of the pie/profits.
Right now the power here is in that hands of the music industry because most of their music is still sold through the traditional channels. If they didn't feel like selling through ITunes, they could do so with little pain.
Where it gets interesting is when on-line distribution does become the primary distribution mechanism, the music companies are going to lose their power because they no longer hold the keys to the kingdom. Why would an artist sign a deal with Warner or Sony when they could sell music directly to Apple and take home more money?
The failure of the music industry to make a palatable alternative that they can control will be their demise.
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Did you even live through the dot-com bubble? Do you remember when sites like Yahoo!, Excite!, and the other titans of ad-based revenues (or lack thereov) were huge for a while and had hundreds of other companies trying to do the exact same thing fully well knowing that revenues would be slim to none? And after a few years the only services left were the ones that made a real name for themselves, brokered real, money-making partnerships, or that sold their soul to the devil?
That's exactly what I see going on here: We've got iTunes, MusicMatch, Napster, Wal-Mart, MTV, and the others on the horizon that are all going to enter into a market that their accountants probably would advise against but they still do it to try to get a foothold in a new and emerging market. Expect many of them to die off unless they get a viable business model to back up their technical requirements. Apple's got the iPod, Napster has their $9.99 subscription service, and the others have....
It'll be interesting to see the Internet music bubble burst in a year or two. In the meantime I'll keep buying music from iTunes.
What an absurd article.
Apple has a product (the iPod), upon which it makes a lot of money. Apple creates a system (iTunes and the iTunes store), whereby it can drive more sales of its product.
Now, I am supposed to be upset with Apple because it doesn't make money providing the media service, and it cooperates with the RIAA's licensing demands to do so.
Furthermore, I am supposed to prefer the idea of a 1-cent tax on my blank CD, or an addition to the income tax.
The mind boggles. Who should administer the income tax disbursements? How should the money be allocated? By volume? To promote a social musical agenda? Why should my CD carry a surcharge if I only want to burn a Linux distro, or back up my stuff onto it?
DRM is a big problem, sure, but this offers no answers. Apple is trying to build a dominant brand in the digital media distribution business, and doing well at it. For now, to offer the digital media that people want, Apple must deal with the gatekeeper to those media. That gatekeeper is the RIAA. Perhaps that will change someday and Apple or somebody else will be able to make money. For now, it seems reasonable enough to me that Apple is providing a service in the only manner in which the service can be realistically provided, and positioning the traffic and customer base to equate digital media with iTunes for the future.
Reading the article at the Register... it sounds like they're blowing things out of proportion. The quote from Jobs that they focus on is: "We would like to break even/make a little bit of money but it's not a money maker."
While this could mean they are taking a permanent loss, it could also mean it is a slow profit that hasn't quite surpassed the initial one time investment portions of setting up iTunes... Or, it could even mean that they do break even or make a very small profit, but the profit is so small that in the large picture of the companies profits it comparatively makes no money...
I'd want to see some actual numbers and the real math before coming to any conclusions... The article simply jumps from the quote that iTunes isn't "a money maker" and enters areas of rampant speculation, leaning a little in the tinfoil hat direction.
I write a regular newspaper column about the Mac for The Seattle Times, and had a briefing with an Apple iTunes product manager back in mid-October. I asked whether there would be an affiliate model with iTunes in which referring visitors to specific albums or songs would generate a commission.
The product manager said very clearly, on the record, as he and other Apple people have over the last several weeks, that the margin is razor thin with iTunes, and that they're running the service in order to sell iPods and encourage people to use Macs. They believe that the artists make money on the deal (how much is another issue), and that because they're selling so much related hardware, that's their real business.
So there's no real story here. Apple hasn't been hiding the fact. I mean, this is a low-margin business anyway. Say Apple was charging $1.09 per song and netting 10 cents each. If they sold 10,000,000 songs per month that would be an extra $1 million. Big woop. So it's better for them to keep margins low and sell their very high-margin hardware.
I can't tell you the number of friends who went out and bought new PowerBooks and iPods recently -- the iTunes store just flipped them out and they gave up their old PC laptop. The music will give Apple a larger hardware marketshare.
Freelance tech journalist for the Economist, MIT Technology Review, Macworld, and others
Loss leader means they're loosing money, going into the red. Apple simply isn't making a profit on itunes, they're not loosing cash from it.
But there are serious problems that will prevent this from happening, however wonderful it might seem:
1) Different people listen to different quantities of music. Someone who downloads 500 songs per year will therefore make the government pay 500 times as much money to the artists than the guy who only downloads one song. If I were that guy downloading one song, I'd not be too pleased about paying for some guy I don't know to listen to some artist I might not even like.
2) If there is no cost incurred to the user for downloading a song, many people will download huge numbers of songs, many of which will simply get thrown away. A song with an attractive name might get many downloads, even if no onne likes it. A corollary problem is that of bots being used to increase an artist's download quantity, and therefore unfairly make him money. There is, of course, no 100% reliable way to distinguish between a bot and a human.
3) There would be no way to track exchange of songs. If the songs have no DRM-like restrictions, than I can give a copy to my friend, an no one will no about it, so the ratings won't increase correspondingly. Even with the most advanced statistical methods, it is not possible to know just how many copies of a song have been made unless one actually does a study for each song (different songs that appeal to different demographic sectors will be copied more or less, etc). The only solution to this would be to somehow institute a mandatory reporting system, by which the federal government would know each time a song changes hands... but I'm sure such a system would not appeal to all you anti-DRM folks, as it could concentrate a frightening amount of personal information in the hands of the government.
4) What about international downloads? Would this just be the US government funding this with US taxpayer dollars? Or a consortium of countries? But what if one country downloads more music than another, and how do we farily assess which countries download what? Frankly, it'd be hard enough to get the US government to implement such a scheme without making it suck incorrigibly; I certainly can't imagine UNESCO, the WTO, or another international body doing it.
5) Even though distribution costs are small on the internet someone still needs to supply the servers from which songs are downloaded before they are shared. As it would be impossible to do this profitably when one could just get the songs from a P2P service, this too would have to be run with taxpayer dollars.
6) Most people of the free world--especially Americans--are mistrustful of the government interfering in markets, especially when it come to effectively monopolizing information markets as public goods. This belief is certainly not just superstitious, and it prevails regardless of how noble the intent of such schemes. Therefore, it would be damn hard to drum up popular support for such an initiative.
Conclusion:
The arguments above are just one example of how totally free exchange of intellectual property simply can not provide the producer with fair compensation. The idea is almost a contradiction itself. In economists' language, the Internet provides us with the power to treat what is still a scarce economic good as if it were a free good--ie, common property. Yet the Tragedy of the Commons remains painfully relevant: in the end, someone has to pay.
--AC
And to add insult to injury, RIAA's Carey Sherman (at yesterday's Educause roundtable in Anaheim) took a backhanded stab at iTunes claiming it was an "old business model." [One of the new business models he mentioned was an iPod loaded with locked music files -- you pay to unlock each song.]
Sherman's happy to be selling to Apple, but what I gathered from both him and Jack Valenti is that the RIAA and MPAA are hoping to one day force all of us into a utility pricing model. If you pay the monthly fee, your songs and videos will play. Skip a monthly payment, however, and all of your music and videos lock up tighter than a coon dog full of 12 pounds of government cheese.
The sad thing is this is what it took to bring the recording industry kicking and screaming into the modern arena of digital music distribution. Apple can't make any profit for something with a lowered distribution cost relative to comparably priced physical media, and are forced to do so indirectly via a locked-in hardware device. I reckon if they could make a profit on the music, the price of the iPod would go down, it would support other services, and iTunes would support other players. If that isn't a pathetic indicator of the greediness and short-sightedness of the recording industry, I don't know what is. I kind of wish Apple hadn't invented iTMS, just so I could have watched the music industry die an ignoble death.
---If you can't trust a nerd, who can you trust?
Listen to what Jobs said - at $0.99 per song, you can only breakeven at this business. He is talking to analysts, analysts who are also gonna talkto DELL, Wal-Mart, MTV, Napster, et al. Jobs didn't say it's a loss leader, he just said it isn't very profitable and basically breaks even.
... iPod. They do all work with a myriad of competitors and they themselves all compete with a comodity product - the WMA music file.
(Now, add volume on the order of magnitude of 80% of all music sales, not just on-line...and you have a position of strength to negotiate all your direct costs, an economies of scale for your indirect ones - but that's another econ lesson)
So he is casting FUD onto the longevity of those competitors. What is also important to note is that NONE of those services work with the worlds #1
Now listen up - this is important - the WMA music file is a comodity because if it costs $0.99 from Wal-mart or MTV or Napster or DELL, then why should I buy it from any of them? They will either have to add value to it by making the shopping experience easier, or lower the price. Assuming it can't get easier than 1-click shopping (Apple and Amazon exclusives) or rich browsing/searching content of which most services have, then that leaves price.
Which brings us full circle - if WMA music files are comodity items that can only compete on price, and if at $0.99/song, a music store isn't significantly profitable, than prices will drop until the competition goes out of business.
That is what Jobs said.
I only came here to do two things; kick some ass, and drink some beer...looks like we're almost out of beer.
Once they are established, Visa will have no choice but to lower their charges. Once they get comfortable with that steady revenue, they'll bend over backwards to keep it.
:)
I don't know who is processing on behalf of Apple for Visa/MC/etc, but I'm pretty it isn't them directly. Whoever is processing will have a few fees, negotiable with Apple. Other fee's won't be so negotiable.
Apple is going to pay:
1) Per transaction fee - the cost to send out the tx for authorization/settlement. Visa/MC's rates for doing this are anywhere from $0.015 to $0.03/per tx. Expect Apple's processor to add on an additional 1-5 cents.
2) Discount Rate (or the magical mystical world known as interchange) - This is the ~2-5% merchants pay on the value of the settled transaction. If Joe User buys $100 in songs, Apple will get net settled minus the ~2-5% discount rate, minus transaction and processor fees. Depending upon how Apple deals with the transactions, such as using Verified by Visa (ala 3D Secure) or other anti-fraud devices can reduce the discount rate to about 150 basis points (or 1.5%).
3) Chargebacks - This can be the real killer. If Joe User sees a charge for the iTMS he sez ain't his, he'll dispute the transaction with his issuing bank. Even if the transaction is valid, Apple is going to receive a "chargeback" or retriaval request. The fees charged to Apple for doing this can range anywhere from $0-25/per tx (that's dollars, not cents).
How is Apple reducing these fees? I know in my experience that they group up a bunch of charges for settlement. This reduces the per transaction fee and still gives the cardholder an excellent invoice to reconcile against. This is probably the biggest in that if a user buys a single song per day at 0.99, Apple is probably paying the following:
Authorization fee: 0.02 - 0.05
Discount Rate: 0.02 - 0.04 (% based)
So even in a best-case scenario for this transaction, Apple's looking at 0.08 out of the 0.30 "profit" after paying the RIAA members.
In the grand scheme of things, today there is little incentive for Visa/MC to come up with a new business model for transaction fees. The good news is that things such as PIN-based debit cards, 3D Secure, and smaller transaction size (in dollars) will give them, or their competition, the push to come up with alternatives.
Things such as mobile commerce, where the telco does the billing (and is good at "micro-payments" and monthly consolidation), digital cash, and chip-based stored value cards are some of the major avenues.
For Apple, if they can get the buyers to buy more than 2-3 songs at a time, will significantly reduce their processing rates.
IMO, obviously.