Communications of the ACM

Communications of the ACM

The Mp3 Open Standard and the Music Industry's Response to Internet Piracy

By Robert F. Easley, John G. Michel, Sarv Devaraj
Communications of the ACM, November 2003, Vol. 46 No. 11, Pages 90-96
10.1145/948383.948386
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In the rapidly emerging market for information goods, a key strategic issue is control of content. For example, it is rare for a week to go by without some news of another technological advance, legal development, or business realignment that has its roots in the development of the MP3 open standard for audio compression/decompression (codec). It has been convincingly argued in these pages that the Internet—in particular the MP3 standard—is changing the music industry [2]. We take the next step and examine record label response to the challenge posed by the MP3 open standard. Against this backdrop, we examine the strategic importance of the publication of open standards in the emerging electronic market for digital information goods.

It is important to note that a number of proprietary audio codecs exist (such a2b and Liquid Audio) but none has significant market share. For content providers—whether they are legitimate or illicit—as well as for equipment manufacturers, the prospect of being locked into a proprietary standard works against widespread adoption. It is the publication of an open standard for content encoding that threatens control of content. This is evident not only in the case of MP3-based distribution of music on the Internet, but in other key control-of-content battles.

It is interesting to examine a somewhat analogous situation that arose in the 1400s with the invention of the printing press. The church had nearly complete control over the Bible—handwritten copies were kept chained in the church—as well as its interpretation for the masses. The publication of the Gutenberg Bible took that content, translated it into a lay language (an open standard, relative to Latin, if you will), and made it available for reading and interpretation by the public. Surely the church must have resisted this loss of control of content. But looking back from our time, would anyone think to argue that any church should control the distribution of the Bible? We all know that it is available free for the taking in hotels while remaining a best-seller, and see no contradiction there. Can such a happy confluence of free distribution and profitable sale be conceivable for the music industry?

To take up a more recent example of open-standards vs. control-of-content struggle, consider Instant Messaging, where copyright protection of content is not an issue, but a proprietary standard allows America Online (AOL) to maintain control of messages, so that they cannot be exchanged with users of competing products. At the time of its proposed merger with Time Warner, its competitors formed a coalition, IMUnified, to expedite the process of publishing standards of interoperability as a stepping stone toward development of an open standard. Despite IMUnified's efforts, AOL declined to join them and the merger was approved without forcing an open standard.

Clearly the existence of an open standard or the act of establishing one raises important strategic issues for the affected firms. Here, we assess the competitive response to open standards by examining recent developments in Internet-based e-distribution of music and the recording industry's response to those developments, and thus begin to address the larger question: Can open standards play a role in helping to push firms to adopt new technologies?

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Measuring the Music Industry Response

The development of the MP3 open standard for audio-video compression, the ready availability of free software for MP3 encoding and playback of digital music, and the ease with which MP3 files are transported across the Internet combine to create a large and growing threat to the recording industry. This threat is manifested in both legitimate uses of MP3 compression for e-distribution of music, and what is commonly referred to as Internet piracy, involving violation of music copyrights. A key economic issue for the recording industry is that the marginal cost of e-distribution of music is negligible, creating intense competitive pressure on prices and established distribution channels [4]. A key strategic issue is that MP3 is an open standard, making it difficult for the recording industry to compete using proprietary standards.

The result is the currently raging standards war, with many of the battles being fought in court. Yet in the marketplace there is little doubt that MP3 has become the de facto standard for e-distribution of music. The traditional IS strategy of locking customers into a particular system, or imposing switching costs [1], is turned on its head when competing with an open system. The Secure Digital Music Initiative (SDMI), among others, has developed competing, secure and proprietary codecs, but they have failed to achieve significant market presence. Thus, the music industry must fight to maintain competitive advantage. But how does one fight an open standard? In our examination of this issue, we address the following questions:

• Do record labels with greater exposure to piracy move faster to embrace technology?
• Do these record labels invest in designing richer Web sites, and what features of Web sites are viewed as more important?
• Which forms of music distribution are more prevalent?

We examined 128 record labels—all those that appeared in the biweekly Billboard magazine listings for the categories: adult, classical, country, dance, hot100, jazz, modern, and rap during a one-year period beginning in the summer of 1998. To measure exposure of record labels to MP3-based piracy on the Internet, we recorded a biweekly count of the number of separate sites offering a particular recording, using two separate highly rated MP3 search engines (sites that specialize in cataloging MP3 recordings available for downloading). For each biweekly count, we searched for all recordings that appeared in the most recent Billboard listings for the categories noted previously. For each record label we then computed two piracy exposure measures—the average number of downloads and the total number of downloads for that label's recordings over the data-collection period.

Measures of record label Web site richness were constructed through content analysis of existing record label Web sites, for all record labels that appear in the Billboard listing. Independent raters examined the general categories of: interaction opportunities, providing related links, navigation, and graphics. We measure each record label's level of involvement in e-distribution of music in the following general areas: availability of full-length and partial downloads in various formats (as listed in Table 1); any sales of downloadable recordings or support of Internet-based CD sales; and discussion of any e-distribution plans.

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Preliminary Establishment of a Web Site

The threat posed by MP3 has provided all record labels with motivation to engage in learning and capability development in order to mitigate potential damage from this disruptive technology. This motivation was particularly pronounced for record labels with the greatest exposure to Internet piracy. Our expectation is that such firms would be among the first to make an initial response to this technological and competitive challenge and establish a presence on the Web. Establishment of a Web site provides these firms with skills, knowledge, technology, and contact with potential customers. While establishment of a Web site is a preliminary step, failure to take it would severely inhibit the firm's ability to participate in further rounds of this evolving information technology competition.

In our sample of record labels, we compared record labels that had established a Web site by August 1998, and those that had not. The early adopters were exposed to significantly higher piracy as measured by both our piracy measures than the late adopters. As an example, the average for early adopters of the sum of exposures to piracy was 18.42, while the same measure for late adopters was only 5.88. A statistical test of the difference provides compelling evidence for the argument that record labels exposed to piracy moved early to embrace technology, in this case the creation of Web sites. This does not rule out other influences—for example, the typical music customer tends to be quite Internet-savvy—but it demonstrates a clear difference in response that is associated with the level of piracy exposure.

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The threat posed by MP3 has provided all record labels with motivation to engage in learning and capability development in order to mitigate potential damage from this disruptive technology.

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Web Site Richness

Establishment of a Web site is the first step in the response of the record labels. The capabilities and features of these Web sites can play a large part in affecting customer retention and loyalty, and can enhance the record label's ability to compete in this new and potentially threatening technology environment. To examine this, we divided the record labels in our study in half based on piracy exposure. We compared the interaction opportunities provided by the 64 labels with the highest levels of piracy exposure with those provided by the 64 with the lowest levels. Figure 1 presents a summary of interaction opportunities in these two groups. Note that high piracy-exposure record labels rate higher for all categories of interaction opportunity. This is indicative of the steps taken by these labels to provide a richer experience for visitors and garner their loyalty. The three main areas of significant disparity between labels that were exposed to high levels of piracy and others are online interviews, artist bios and news, and bulletin boards. In general, all labels emphasized posting tour schedules, and maintaining mailing lists.

Another means for Web sites to attract and retain viewers is through the provision of useful links, specifically by maintaining an updated directory of links relevant to the music industry. In Figure 2 we present summary statistics on the percent of record label Web sites in our sample (split as before on piracy exposure) that maintained various types of links. Again the high-piracy record labels score higher on most categories, with the greatest difference in providing links to artist sites and CD sales sites, which are highly likely to be the most related to e-distribution of music.

Web site richness is often described in terms of the navigational ease and support. Part of the strategic response of record labels in adoption of technology will be to develop Web sites that facilitate navigation, thereby improving the visitor's experience. To examine this, we analyzed the navigational features of the record label Web sites in our sample. Figure 3 presents a chart of the percent of sites supporting various navigational tools. Yet again, the high piracy-exposure half of the record labels in our sample outscores the other half on all counts. The largest difference is observed in the use of Java applets, and in the provision of internal search engines. Thus, our analysis suggests that high piracy-exposure labels have made concerted efforts to not only establish Web sites but also do so in a manner that attracts and retains viewers through richly designed and easily navigated Web sites.

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Record Label Involvement in E-Distribution

While establishment of an Internet presence is a prerequisite, meeting the competitive and technological challenge of e-distribution of music requires continuous learning through successive generations of Web site development. To determine what early adopters learned about e-distribution of music during the duration of our study, we examined the changes in e-distribution on their Web sites, as summarized in Table 1. All formats listed experienced growth, although gains were small with one exception: full-length Real Audio recordings (Real Audio files were at that time low in fidelity relative to MP3). Thus the greatest gains in e-distribution of music were in complementary, rather than substitute forms of music. That is, rather than give away an MP3 recording that might substitute for owning the CD, the labels were more likely to give away a full-length low-fidelity sample. At the same time, they were increasing their general participation in the e-distribution of music.

In Table 2 we look at all Web sites in 1999 (not just those of early adopters), and compare the e-distribution involvement of high- and low-piracy exposure record labels. The most significant difference is for Real Audio clips, which the high-piracy labels clearly favor. This takes the idea of working primarily with complementary rather than substitute forms of music a step further, since a partial-length clip clearly will not substitute for a full-length recording in most circumstances. Even with their own proprietary codecs, represented by a2b and Liquid Audio, there is a preference for clips among the high-exposure labels.

We use the recording industry as an example of an industry confronted by competitive pressure from a new source of innovation that is likely to continue to be encountered in e-commerce: open standards. In the case of the recording industry, attempts to restrict the diffusion and acceptance of MP3 by legal means have met limited success, and have largely failed against continued market dominance of the standard. Attempts to establish alternative standards have encountered difficulties simply in reaching agreement among rivals on what that competing standard would be, let alone in gaining acceptance among users. This study serves to highlight and make specific some of the mechanisms behind the shift in power to the consumer that characterizes much of e-commerce, which poses both formidable challenges and great opportunities for those setting strategy in this domain.

We found, based on content analysis of record label Web sites, that the open MP3 standard—and the piracy it enables—have pushed record labels toward development of e-commerce, indicated by early adoption and increasing richness of Web sites, and toward experimentation with e-distribution of music. The question remains whether these results would hold in general: can open standards move market leaders toward acceptance of new technology? It is clear that the dominant market position of the MP3 standard has been critical in bringing pressure on the recording industry. Thus an important issue in generalizing this result involves the speed with which a new technology is accepted in the marketplace.

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Conclusion

The necessary conditions for attaining a self-sustaining market presence have been described in the diffusion of innovation literature by Markus [3] in her development of a critical mass theory of interactive media. These conditions—essentially that there be parties interested in both the provision and acquisition of some form of information—are met in the case of the MP3 standard, where a typical user may both supply and acquire MP3 files through the Internet. Since MP3 is an open standard, anyone can write a codec that will operate with the same files, and, equally important, no one can buy control of the standard, both of which have been critical to MP3 attaining a critical mass of users as well. The same conditions are met for instant messaging, with users seeking each other out to exchange information in this relatively new medium. The critical mass attained by AOL, with its proprietary standard, arguably has the potential to confer monopoly powers, and thus we see the development of an open standard in an attempt to force AOL to "distribute" its users' instant messages. While this tactic—developing an open standard to pressure the market leader—led in this case to concessions from AOL Time Warner, declining market share now has them arguing that they will be rescinded.

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If there is a silver lining in the battle between the music industry and MP3-based music piracy, it is that this particular open standard has pushed the key players to embrace technology.

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Historically, we have seen many companies compete by attempting to set de facto standards in the marketplace. Well-known examples include the Sony Betamax versus VHS video format battle, and the PC operating system battles that received much U.S. Justice Department attention. These battles involved efforts to obtain dominant market position, as well as strategic issues such as whether or not to license technologies to competing firms. The rise of open standards that has accompanied much of the growth of the Internet poses fundamentally different strategic challenges than those posed by de facto market standards. Some companies face seemingly inexorable pressures that threaten to transform private, licensed standards into "open" standards by cracking protection mechanisms. A well-known example is the hacking of DVD encryption and subsequent publication, on the Internet, of free software to copy DVDs. While early legal action has been more successful in this case, the threats to the movie industry are very real. Our results suggest that the development of open standards in such cases can affect the strategic actions of market leaders, though the general implications of these pressures and strategies on the adoption of IT innovations remain to be examined.

If there is a silver lining in the battle between the music industry and MP3-based music piracy, it is that this particular open standard has pushed the key players to embrace technology. Given that e-distribution of digital content has vast potential to increase efficiencies in distribution, there are also inevitable price pressures that result, though record labels are loath to give up their traditional pricing structure. It remains to be seen if they can find a formula for adopting this new technology while maintaining their financial performance.

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The Digital Library is published by the Association for Computing Machinery. Copyright © 2003 ACM, Inc.

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