In a scenario familiar to other sectors of the Internet business, many smaller online music ventures are watching their limited treasuries run dry as investors increasingly view their businesses as radioactive. This month alone has seen the demise or reduction of nearly a dozen services, with consumer-oriented Web radio stations bearing the brunt of the shakeout.
The best hope for survival, analysts and industry sources say, lies in having a substantial war chest and a strategy of symbiosis with portals such as America Online, Yahoo and Microsoft's MSN, which continue to fortify their positions.
"We are entering a game of last man standing," said Ryan Jones, an analyst with The Yankee Group. "It's really a question of whether they can keep cash in the bank until the advertising market picks up. The folks who have the best chance of surviving are those who have rafted themselves to known Internet properties such as Spinner at AOL or Launch at Yahoo Music."
Those trying to go it alone in online music face forbidding challenges against a backdrop of enormous opportunity.
On the one hand, the industry is still fresh from the powerful example of Napster, which dramatically demonstrated the Internet's capacity to deliver music to the masses. Even with Napster's demise at the hands of the courts, studies show the audience for online music growing at a breakneck pace.
The audience for streaming radio stations, for example, tripled between January and October, according to streaming metrics firm MeasureCast. And the number of U.S. consumers who bought music online--including both downloadable titles and packaged CDs--has skyrocketed to 30 million this year, up from 21 million last year and a mere 2 million in 1997, according to research firm Jupiter Media Metrix.
The future looks increasingly bright for those that can stay in the game. Jupiter Media Metrix predicts the number of domestic paying consumers of online music will rise to 40 million next year, 62 million in 2004, and 82 million in 2006.
Those likely to remain, however, are the larger players. AOL Time Warner, for example, recently integrated a Net radio service called Radio@AOL into the latest version of its online service, AOL 7.0.
Meanwhile, Microsoft is pushing its MSN Music service, which broadcasts more than 200 preprogrammed music stations, and developing technology it purchased last year with MongoMusic that purports to find songs that sound like other music selected by listeners. Consumers can generate some 300,000 radio stations using searches tied to this technology, known as SoundsLike.
The software giant is focusing on music videos through a partnership with MTV Internet and a recent deal to launch a video-on-demand service with Intertainer. In addition, Microsoft has made digital media and music a centerpiece of its Internet strategy, aggressively pushing its Windows Media format to record labels as a secure alternative to MP3s.
But while AOL Time Warner, Microsoft and other large companies put more money into their music initiatives, smaller music companies find themselves coming up short. A stalemate in the struggle between the recording and online music industries over copyrights and fees, together with the general advertising slump and the overall Internet economy meltdown, have combined to chill investors and strangle revenues.
All bets are off, analysts say, until a coherent landscape evolves.
Pay to play
Among the uncertainties for Net radio broadcasters are the royalty rates they must pay copyright holders for the use of their songs.
Webcasters were given the green light to stream copyrighted works over the Internet in 1996 under the Digital Millennium Copyright Act. But the law did not iron out how much they would be required to pay for so-called compulsory licensing fees, which allow radio stations to broadcast music without negotiating individual contracts.
The Recording Industry Association of America has lobbied to set the rate at 4/10 of a cent per song streamed. But the Digital Media Association, a trade group that represents the industry, has argued that the rate should be about 30 times cheaper, given comparisons with traditional radio broadcast rates and the enhanced promotional power of the Net.
The U.S. Copyright Office, which is playing referee in the dispute, heard public comments through last week, and is expected to issue a final decision shortly.
Complicating the outlook is the increasingly prominent role of the music labels themselves in online distribution business, which have coalesced around two competing subscription services: Pressplay, backed by Vivendi Universal and Sony; and MusicNet, backed by AOL Time Warner, RealNetworks, Bertelsmann and EMI Group.
Those efforts are proceeding under a cloud of scrutiny from the U.S. Justice Department, which is questioning whether the record labels are exerting their power in violation of antitrust laws.
More market confusion stems from the huge number of Web music sites offering online music. Web listeners and advertisers are faced with more than 50,000 channels, according to The Yankee Group.
"The watchword for the industry today is consolidation," Jones said. "That's both because economies of scale are critical in this industry and because the industry needs to be thinned out somewhat so that both listeners and advertisers are not lost in the overwhelming choice of channels."
Sounds of silence
Meanwhile, online music services are dying like flies. The toll has been especially heavy in the past few weeks. Among the casualties are ClickRadio, Uplister and NetRadio. Other companies, such as San Francisco-based MoodLogic, are cutting staff and rethinking their businesses.
Tom Sulzer, MoodLogic's chief executive and founder, attributed the company's retrenchment to two lingering uncertainties: the impasse between online music and the recording industry and the question of when the advertising market will rebound.
"The challenge for every business on this space is to find a model that doesn't rely on either of those two," Sulzer said in an interview.
To dodge those two bullets, Sulzer said MoodLogic next month would introduce the new business model and product. He took exception to the common analysis that small players such as MoodLogic must ally themselves with the major portals to survive. Sulzer pointed out that other large companies with a vested interest in online music--such as consumer electronics concerns--could provide significant opportunities as well.
"MoodLogic does not believe we can do it by ourselves," he said. "But we have a lot more flexibility in entering into partnerships not only with the major content holders, but with other industry participants."
One independent music site that appears to be weathering the storm is Listen.com, an advertising-supported radio and entertainment Web site with a subscription service called Rhapsody. Industry sources attribute the company's survival so far to deep pockets but add that it is planning to unveil new music distribution technology, which will expand its business-to-business revenue, at Webnoize 2001, an online music conference being held this week in Los Angeles. Listen.com did not return calls.
One online media veteran suggested that the current shakeout was an inevitable phase in the industry's youth. One sign of maturity to watch for: more effective advertising methods.
"Every great media business took 10 to 14 years to become a profitable business," said Peter Atkins, who worked on Microsoft's media operations for six years before launching his own venture fund, Permian Partners, in Seattle. "It's just not going to happen overnight. The audience needs to scale to numbers that are meaningful to advertisers. And people need to create advertising units that are interesting. Just like there's started to be an evolution from the Web page banner, people need to create advertising that works in the online audio format."
Atkins declined to say whether his venture firm was planning to invest in any online music start-ups. But despite the current bloodletting, he sounded an optimistic note about the industry as a whole.
"Not all these services are going to win," Atkins said. "Only a few of them will. But do I think Net radio will win over time? Absolutely. Advertising dollars and subscription dollars follow audiences. And when you have 100 million people using the Internet on a monthly basis, and a very significant percentage of them are listening to radio online, the money will follow."