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Re-Tuning the Music Industry: Can They Re-Attain Business Resonance?

For more than 50 years, the music industry has dealt with market-shifting technological change. The 1950s marked the end of the 78-rpm shellac disks. In 1951, Columbia began to release records on RCA's 7-inch 45-rpm format. By 1954, record companies were using this format to deliver new songs to radio stations. In 1958, RCA introduced stereo LPs and they soon become the standard. During the 1960's, albums replaced singles as the lead music product. The 1960's also were witness to the introduction of the compact audio-cassette and the 8-track cartridge and players that made automobiles "stereo systems on wheels." The seeds of music mobility had begun to germinate.

For the next 40 years, the album reigned as the key music product. Billboard Charts, based on album sales, became the measure of success. As audio tapes were replaced by CD's and new devices helped foster even greater music portability, music markets continued to gradually shift across time. Then the music industry's "shape shifting earthquake" occurred over a few short years around the start of the new millennium as the Internet, the emergence of MP3 players, and the development of peer-to-peer (P2P) networks aligned to radically alter the music market landscape. Consumers quickly embraced the opportunities provided by these technologies. Music portability and interoperability became the expectation. Simultaneously, new entities emerged in the distribution channel and challenged the business models of existing major music labels.

Two important trends characterize the unfamiliar landscape that the industry now faces: declining album sales (Figure 1), and hit albums dropping off from Billboard charts more quickly than before (Table 1). The new landscape raises major questions. Can new business models be developed that successfully harness new technologies? Can firms achieve and maintain profitable operations for digital music? What role can innovative licensing arrangements, sophisticated digital rights management (DRM), and inventive pricing play in helping firms succeed? Here, we synthesize key shifts in the history of the music market as a prelude to our discussion on the new emerging market landscape.

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The Shifting Market Landscape

Music has been labeled an "experience" good4 suggesting that music must be experienced or heard to be evaluated by a consumer. Music is the antithesis of a commodity product. Each song is unique. Artists strive to be distinctive and constantly adapt and innovate their offering. Consequently, music consumers face non-trivial search and evaluation tasks prior to each music purchase.

In the 1950s and early 1960s, record companies attempted to gain market advantage by paying radio stations and disc jockeys to enhance the play time of company released records. While such activities may have eased the search task of some consumers, "payola" resulted in some famous criminal convictions.1 For many years, consumers had few options other than radio to sample new music releases. Radio disc jockeys had significant power to play or not play new releases. Certain record stores did offer "listen before you buy" options, but faced mounting labor costs since every "listen" included a clerk cueing up the right song and channeling it to a "listening booth", a one-song and one-customer at a time process. The 1990s witnessed automated sampling services at some music stores, but listening options tended to be restricted to mainstream albums expected to be very popular. By the new millennium, everything had changed with the emergence of the Internet, MP3, and P2P networks.

The P2P networks enabled consumers to readily access and actively sample virtually any music item. The music product had evolved from a physical entity to a digital good with search and sampling a pro-active and consumer directed endeavor. Today's "albums" can actually be "playlists" created by consumers based on their own tastes and preferences. New services (such as, Apple, Yahoo, eMusic) quickly emerged to offer digital songs.

A variety of factors appear to have weakened record company market control, but the companies are not ceding ground easily. Faced with declining revenue from direct music sales, the labels have initiated licensing arrangements with various online services, social networking sites, and hardware manufacturers. Most of these licenses take the form of a per-unit fee, be it downloads from Apple's iTunes Web site or sales of Microsoft's Zune music player. Analysts and artists have stressed the importance of music Web casts as an emerging promotional channel.8 However the Copyright Royalty Board's recent approval of SoundExchange's proposed royalty rates would potentially cripple smaller music Web casters. The companies have also pursued product line extensions including downloadable music, cellphone ring tones, ringback tones (snippets of music that play to a caller while they wait for their call to go through), cellphone wallpaper, music embedded in video-games, DJ remixes, and numerous other offshoots. One source estimates that more than 400 different items might be offered in connection with a specific album. Further, music labels have insisted on various forms of DRM implementations on their digital products.

Artists are beginning to see the power of new technologies that can unshackle them from the grip of the record labels:8 "artists can sell CDs directly to fan ... can make direct deals with thousands of other Web sites and promote their music to millions of people that old record companies never touch".

But what lies ahead? What role can innovative licensing arrangements, strategic use or avoidance of DRM techniques, and inventive pricing play in helping firms succeed? Are individual artists discovering new paths to success and outmaneuvering the major labels?

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Retuning the Industry

The RIAA (Recording Industry Association of America) pursued legal action against numerous individuals who were sharing large amounts of music files. The legal actions against individuals were widely publicized, and were recently analyzed in detail.3 The results so far are limited and mixed - two cases have been reported as dismissed on summary judgments against RIAA while one went to the industry based on a failure to comply with pretrial discovery motions. Recently, the industry has shifted legal attention in another direction to fight AllofMP3, a Russian based site that claims to operate legally while paying appropriate royalties to ROMS, the Russian music licensing society. AllofMP3 (actually its parent company, Mediaservices, Inc.) is being sued in Federal Court in New York for $1.65 trillion (, 12/28/06). Why is AllofMP3 so big a threat that it was mentioned by name as a target in the US-Russia WTO trade negotiations? Likely reasons include inexpensive music ($O.15 a song and $2.47 an album versus iTunes $O.99 a song and $9.99 an album), a very large catalog, and DRM-free content. Interestingly, Apple CEO Steve Jobs recently pointed out ( that iTunes customers were on average buying only 2023 songs per iPod - a device that holds thousands of songs! Explanations include DRM restrictions on copying and constraints on portability of legally purchased downloads across music devices, both apparently at the insistence of major music labels. Sites (such as Emusic, Amie Street and Audio Lunch-box) offering downloads with "no copy protections, and few restrictions on per-track purchases" are anathema to the major labels who refuse to have their music sold at these sites.

Perhaps, as a famous movie tagline proclaimed, "What we have here is a failure to communicate." We would argue that what we really have is a failure to respond to the very clear signals provided by consumers. Recently, consumers have attempted to strengthen this no-DRM message through legal actions of their own, including a suit against Apple Inc. for unfair use of monopoly power through DRM restrictions, and another filing of an antitrust class-action suit against major music companies. RIAA's legal actions had altered the behavior of file sharers but there still remained ample opportunity for anyone wanting to download a music file (Table 2).3 Unless the industry moves to providing easy access to attractively priced, easy-to-use music products, what suggests that individuals will not continue to seek out DRM-free content from piracy sites or "grey area" P2P sharing sites?

A recent study4 reported results indicating that minor labels are closing the gap with the major labels. Minor labels have been adept at embracing the use of technologies to brand and reach out to potential customers. An example is the use of "MP3 Blogs" that follow a common format that includes background material and descriptions of the focus item (artist/song), link(s) to download featured songs, photos, and links to the artist (band) Web site and online retailer Web site(s) for album purchase.9 In addition, "the blogs showcase independent bands or obscure hard-to-find songs from the past." Consistent with prior research,4 the MP3 study9 notes that a variety of smaller record labels and artists have started to see the positive impact of having their songs posted on certain MP3 blogs, including the realization that "they are getting honest feedback from people who are passionate about music, buy records and talk to their friends about what they like."

A consumer market with any degree of competition involves a series of supplier offerings, consumer choices, repetitive feedbacks, and market adjustments. Technological change can impact the production and cost relations or can significantly change the nature of the product exchanged in the market. But there may be specific features of the product that many consumers require before they would buy the product at even relatively low prices. Haven't consumers indicated that portability and freedom from DRM constraints are among such features? At this point, can music suppliers thrive without significantly relaxing or totally abandoning DRM constraints? Through analytical and simulation modeling,2 provides details of the advantages of new business models that incorporate innovative pricing options in the face of piracy, provide efficient search tools, and integrate new licensing structures. Companies have begun to demonstrate the viability of such proposed models. At Amie Street, for example, a DRM-free song download is initially priced at zero. Price gradually increases with the number of downloads, never going above 98 cents (or a penny less than iTunes). Apple, similarly, offers both DRM-free and DRM-enabled options at differential prices. Another example of innovation is JayZ and Coca-Cola's viral marketing dissemination of promotional material using decoy files at P2P sharing sites.

New business models, innovative use of technology for marketing and distribution, and creative pricing/licensing structures may all help music firms, but more may be necessary for long run success. Music is becoming less of a separate experience good whose value is measured through focused listening, and more a part of a total experience. Music is embedded within video games, communication devices, social networking sites, and marketing campaigns. In the new landscape facing the music industry, the following five emerging themes appear as the keys to success:

Product experience: Consumer lifestyles are increasingly shifting to unwired and on-the-go activities tailor-made for the individual. Consumers expect music portability and flexibility incorporating easy mixing and matching of tunes. The demand is for a seamless experience that includes the capability to move from home to car to a wearable device without "dead time". The digital music product and associated technology are already capable of delivering what consumers want, but restrictive DRM policies continue to stand in the way and hamper the free-flowing adoption of authorized downloaded music. Consequently, the DRM-free CD has continued to dominate sales volume. If the industry is to appeal to consumers raised in today's "Net culture," the firms must deliver music products that meet or exceed expectations of interactivity and interoperability.

"Search" as a Product: The body of available recorded music offerings is vast and projected to grow at an even more rapid pace. Costs of producing and distributing digital music are far below the comparison costs for earlier physical products. But as the product space grows, consumers may feel overwhelmed by the choice of music offerings. Significant value can be created by developing and implementing processes to shepherd and guide consumers to music that consistently meet individual tastes. As with products such as books and movies, a good first step in this direction is provided by collaborative filtering-based recommendations (now used by iTunes) as tools to help consumers discover new music. The mechanisms rely on recommendations from other users and may lead to a 'snowball effect on demand' where a consumer's valuation can be heavily influenced by other consumers. Interestingly, many of these recommendations go beyond suggesting an individual song and provide 'playlists' of songs. This is consistent with music becoming part of an overall experience with consumers interested in strands that run through various individual songs (and extensions - ring-tones, video games) in meaningful and enjoyable ways. But such systems may do little to quickly and seamlessly help discover lesser known or just emerging new music and artists that might be a consumer's best choice. Innovators such as Pandora are working to provide ways to measure and analyze some 400 technical attributes of songs to suggest new music that consumers might value and enjoy. Search is now moving beyond the traditional keyword-based search ("artist," "song title," "genre," etc - (see Bhattacharjee et al.2 and Gopal et al.7) to innovations10 utilizing signal extraction,6 audio-fingerprinting12 and melody matching.5 The 'business of music' is rapidly morphing into a 'business of search'. The rewards will go to those that successfully integrate key information/attributes in guiding the consumer's search.

Product Line Extensions: In addition to demanding music portability and flexibility, consumers have indicated their willingness to pay for new products where music is embedded within a broader experience. The music industry quickly understood the profit potential for such product extensions or peripherals that include: ringtones and call back tones, music within video games, music within social networking sites, and personalized playlists. Demand for and use of music in these products has soared. BillBoard has recently begun tracking ringtone popularity by compiling the BillBoard Hot Ringtones Charts. But the music industry has not been able to "corner these revenues". They must compete for revenue share with a multitude of market intermediaries, wireless carriers, game developers, and service entities. Jupiter Research found that of the $6.6 billion in sales from ringtone downloads in 2006, the major labels kept 2040%, and publishers kept 10%, while the rest was shared between the intermediaries and wireless carriers. What the industry does have is the core product and what they need are innovative licensing and pricing mechanisms.

Licensing: Licensing for authorized downloading (such as, iTunes, Ami-eStreet) and for embedded music products (such as video games, ringtones, call back tones, and advertising) will likely be key factors in the music industry's long term prospects. Currently, licensing arrangements are crafted as a per-unit fee that a company pays the music label for every unit of product sold or embedded. Further, most online music services operate using either a per-unit download model or a subscription service model, and rarely using a mixture of the two. Research has recently shown that for a perdownload service, a per-unit fee generates sub-optimal profits compared to a lump sum payment or a percentage-of-profit payment scheme. Moreover, a mixed service model can better capture the broad market, with avid music fans choosing the subscription service and others opting for the per-download service, leading to even higher profits for both the online service and the music label. This licensing approach actually increases both consumer well-being (in terms of what economists call "consumer surplus") and seller profits.2

There are recent indications that the industry is opening up to new licensing structures that increase the profit pie for all the entities involved, but we anticipate that acceleration in this arena will be needed if the industry is to thrive.

Innovative Pricing: Markets for digital goods provide the capability for virtually instantaneous price adjustments. Rapid price reaction can be used as part of a marketing strategy in response to factors such as consumer activity or shifting competitive climate. The Amie Street example, noted above, illustrates what might be viewed as the electronic market equivalent of "free sample" marketing. But in electronic markets, price can be adjusted in an almost continuous process. In Amie Street's example, prices rise from zero to 98 cents with downward fluctuations possible along the way. In the digital goods music industry we anticipate expanded innovative pricing and related marketing strategies including inventive bundling of products and product extensions.

These emerging themes can actually be viewed using the 4-P marketing mix strategy framework (Table 3), a framework which is well developed and widely applied in a variety of industry contexts." Innovations in product search, matching, DRM, distribution and other technologies that make the customer experience richer, and aid artists in presenting their offerings to a wider - and sometimes focused - customer base, would help to bring bigger profits for the industry (Figure 2).

Emerging market landscapes mean new challenges for the music industry. What the industry must do is turn these challenges into opportunities. Consumers are changing what they want from and how they experience music. Change is difficult and brings uncertainty. But the good news for the music industry is that consumers have not abandoned music. In fact, they have embraced music and made it a greater part of their daily experience. The product is not the same; the way the product is experienced is not the same. But the industry has a product - actually a set of products - that now thread more prominently in our daily lives than ever before. We have outlined the major characteristics of the emerging market landscape and suggested innovative approaches that might support a thriving industry. This can provide a good starting point for the music industry to guide itself to a successful landing in its new landscape (Figure 3). The challenge for the industry is to adapt, to innovate, to be pro-active and market savvy.

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1. Bhattacharjee, S., Gopal, R. D., Lertwachara, K., and Marsden, J.R. Whatever happened to payola? An empirical analysis of online music sharing. Decision Support Systems 42, (2006), 104120.

2. Bhattacharjee, S., Gopal, R. D., Lertwachara, K., and Marsden, J.R. Consumer search and retailer strategies in the presence of online music sharing. Journal of Management Information Systems 23, 1 (2006) 129159.

3. Bhattacharjee, S., Gopal, R. D., Lertwachara, K., and Marsden, J.R. Impact of legal threats on individual behavior: An analysis of music industry actions and online music sharing, journai of Law and Economics 49, 1 (2006), 91114.

4. Bhattacharjee, S., Gopal, R. D., Lertwachara, K., Marsden, J.R., and Telang, R. The effect of digital sharing technologies on music sarkets. Management Science 2007 (forthcoming).

5. Birmingham, W., Dannenberg, R., and Pardo, B. Query by humming with the Vocalsearch system. Commun. ACM 49, (2006) 4952.

6. Ellis, D.P.W. Extracting information from music audio. Commun. ACM 49 (2006) 3237.

7. Gopal, R. D., Bhattacharjee, S., and Sanders, G. L. Do Artists benefit from online music sharing? Journal of Business 79, 3 (2006) 15031534.

8. Love, C. Courtney Love does the Math. Speech to Digital Hollywood online entertainment conference, New York, May 16, 2000 (

9. O'Donnell, P.W. The Users and Marketing Efficacy of MP3 Music Blogs. Master of Science Thesis ( (2006).

10. Pardo, B. Music information retrieval. Commun. ACM 49 (2006) 2931.

11. Vaccaro, V.L., and Cohn, D.Y. The evolution of business models and marketing strategies in the music industry. The International Journal on Media Management 6 (2004) 4658.

12. Wang, A. The Shazam music recognition service. Commun. ACM 49 (2006) 4448.

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Sudip Bhattacharjee ( is an Associate Professor and Ackerman Scholar in the Department of Operations and Information Management, and Executive Director of MBA Programs at the School of Business, Storrs, CT.

Ram D. Gopal ( is a Professor of Business and Head of the Department of Operations and Information Management at the School of Business, University of Connecticut, Storrs, CT.

James R. Marsden ( is a Board of Trustees Distinguished Professor, holds the Treibick Family Endowed Chair, and serves as a Professor in the Department of Operations and Information Management at the School of Business, University of Connecticut, Storrs, CT.

Ramesh Sankaranarayanan ( is an Assistant Professor in the Department of Operations and Information Management at the School of Business, University of Connecticut, Storrs, CT.

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F1Figure 1. Annual Album Sales (Source: Recording Industry Association of America)

F2Figure 2. "Innovation" means different strokes for different folks...

F3Figure 3.

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T1Table 1. Album Drop-off Behavior on Charts (from

T2Table 2. File Sharing Availability of BillBoard 100 Albums Before and After RIAA's Legal Action (from

T3Table 3. A Marketing Strategy Perspective of the Emerging Themes

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