Category Archives: Business models

Apple Music’s other financial advantage

This is something I’ve though about quite a bit, and even wrote about briefly as part of a much longer piece ahead of the launch of Apple Music, but I feel like no-one is really talking about. But it’s potentially quite significant for the economics of Apple Music, and especially the per-stream payout rate Apple will end up passing on to labels and artists. Note: it’s already clear that Apple will have a higher per-stream payout simply based on the fact that it’s a paid-only service, whereas Spotify and other large services mix paid and free users. But I’m talking about an additional impact on top of that.

Integration of owned music is the key

The big factor here is Apple’s integration of the music you already own and store in iTunes into the Apple Music experience and into a single app. I think that’s huge for usability, and that was the key point in that earlier piece, but I think it could also be quite significant for the economics of the service. Why is that? Well, with almost any other subscription streaming service, you as the user tend to start from scratch in terms of your existing library. Perhaps you hop back and forth between apps when you play the music you own versus the music you’re streaming, but I’d guess many people just stick to a single app and play all their music from there, even the stuff they may have purchased somewhere along the way, because it’s all available in the streaming service and it’s easier to play it there than switch apps. Services like Spotify will pay out to artists regardless of whether the user already owns the track somewhere else (unless the user has imported their owned music). But when the user’s owned music is also available in the app, Apple won’t have to pay out when the user plays that music.

What’s really hard to know here is the balance between owned versus streamed music the average user plays during the course of a typical month. I know my own usage is heavily skewed towards the music I own and am familiar with, along with a few tracks or albums I don’t own and stream instead. Perhaps others are different, but I’d guess almost all users would spend a significant amount of time playing music they already own. With other services, the provider still has to pay out on this music because it all looks the same, but with Apple Music there will be a clear line between the music the subscriber owns and the music he or she is streaming through the service (even if it’s presented together in the context of the app). If the amount that’s played from the library rather than streamed is significant, this could substantially reduce the number of plays for which payments need to be made.

A higher per-stream rate on Apple Music

At this point, it’s worth thinking about how the economics of streaming music work. Although we often see per-stream rates used in discussions of how much artists get paid through these services, the reality is that there are no set per-stream rates. Rather, these services share some proportion of their overall revenue from subscribers and/or advertisers with those labels and artists whose music their subscribers listen to. The total pot is divided up with labels and artists according to a standard formula, and I’ve pasted the graphic Spotify uses to illustrate this formula below:

Spotify-Royalty-Formula

Once you understand that it’s a matter of dividing up the total pot, it becomes very relevant how many songs are streamed and therefore get to share in that pot. If Apple Music has fewer songs streamed through the service (because a significant proportion are played instead from users’ libraries), that in turn could dramatically increase the per-stream payout for those artists whose music is streamed. That will likely disproportionately benefit new artists and music over older artists and albums, which could be particularly good for those discovered through the service.

Of course, over time, this advantage will be mitigated as the balance between owned and streamed music shifts towards streamed music, as people will likely buy far less music (if any) going forward. But as the first Apple Music subscribers get past their trial periods and Apple starts paying out on its long-term formula, this could result in significantly higher payments per stream than other services. Add this to the existing advantage Apple has over competing services because of the paid-only nature of the service. Over time, that could have a really interesting impact on artists’ willingness to continue to work with other services. If, as an artist, you’re getting paid several times more on Apple Music per stream than on Spotify, Rdio, or Deezer, would you eventually consider pulling at least some of your music from those other services?

Note: I’m making a fundamental assumption here, which is that Apple will only pay out on plays of music the user doesn’t play from his or her own library. That seems a reasonable assumption, but I haven’t confirmed it. I can’t see why Apple would pay out on that music (unless it’s played through iTunes Match, which shares 70% with artists too), but it’s a remote possibility that it will, in which case the argument falls apart. 

Business models in consumer tech deck

I’ve recently been delivering a presentation to various tech companies on the evolving nature of business models in consumer technology, and the implications for both large and small consumer tech companies. I’m making a shortened version of the slide deck available through SlideShare (and embedded below, if you’re reading this on the web), as a way of sharing this content with a wider audience. When I deliver this presentation in person, it’s somewhat longer, and usually customized to the audience. If you’d be interested in paying to have such a presentation delivered to an audience at your company, please contact me and I can provide pricing information. You’ll notice that the deck also touches a little on the Digital Layer concept I introduced last week: I’m working on a separate slide deck which fleshes that concept out further. Feel free to view, download, embed and share the deck as you see fit!

The Digital Layer

I’ve often described the consumer technology market which I cover as being comprised of five main domains: hardware, software, content, communications and connectivity. The successful big consumer technology companies compete across at least three or four of these domains, and tend to increase their scope and reach across these domains over time as they build ecosystems and compete on that basis. I’ve described and sized these markets, and they comprise significant opportunities, although some companies and some niches are much more lucrative than others. However, there’s another domain which is emerging, which has the potential to be significantly larger than all the rest over time, and it’s that sixth domain that I want to talk about here. I’m calling it the Digital Layer.

Transforming, but not replacing, analog products and services

The other five domains are made up to a great extent of digital products and services: though the hardware we purchase is obviously made up of atoms, and physical infrastructure is necessary to deliver all the content, communications and connectivity we enjoy, the products and services themselves exist to a great extent in the digital world and are made up of bits. In many cases, these digital products and services have replaced analog equivalents: ebooks have replaced paper books, digital music has replaced CDs, email has replaced paper letters, calendar apps have replaced physical journals and datebooks, and so on. What distinguishes the Digital Layer is that it doesn’t displace an analog model, but rather adds a layer to it in a way that has the power to transform business models while leaving many of the underlying components intact.

Examples

At this point, it will probably be helpful if I provide some examples to help make this theoretical construct concrete.

Example 1: E-commerce

In some ways, e-commerce is the original Digital Layer service: the digital layer is the online catalog, search, recommendations, ordering and payment capability that enables the more efficient and lower-cost distribution of the same physical goods we’ve always consumed. This layer replaces the physical retail store, but doesn’t replace the actual analog goods we consume.

Example 2: Uber

Though e-commerce has now been around for many years, other Digital Layer services are of more recent vintage. Uber is a great example of a newer Digital Layer service. Uber is firmly rooted in the physical world, with physical drivers picking up and transporting flesh-and-blood human beings. And yet, Uber is a Digital Layer service because its key value proposition is that it uses digital technology to bring together customers and suppliers in a unique, highly efficient way. The Uber app and service replaces just a thin layer – the process of hailing or ordering a cab – while leaving the physical layer (drivers, cars and passengers) intact, but in the process transforms the business model.

Example 3: Apple Pay

Apple Pay is arguably Apple’s first foray into the Digital Layer, from a company which began life in the hardware domain, and has successively expanded into the software, content and communications domains (as yet, the one domain Apple has left to others is connectivity). Apple Pay’s digital layer replaces the physical handover or swiping of plastic cards in the retail environment with a digital process, where the plastic card no longer needs to be present and software takes its place, thereby improving convenience and security. But it doesn’t replace the analog elements entirely – physical cards still exist in the back end and are necessary to the service, and physical goods are still delivered in return.

Example 4: Nest

Conversely, Nest is arguably Google’s first move into the Digital Layer, after spending years as more of a digital replacement specialist. Home automation equipment is another form of Digital Layer service in that it layers digital control and monitoring on top of physical elements such as lighting, HVAC systems and locks. It replaces just the thin layer of physical controls with digital controls, but leaves the analog systems beneath intact, while transforming the ways in which they’re used.

Shared features

I could list many other examples, but hopefully you get the idea. What all these examples have in common though, is three facets:

  • Rather than entirely replacing an old value chain, the Digital Layer merely replaces a single layer – often the one the customer deals with directly – while leaving the underlying structure in place
  • The introduction of the Digital Layer is often transformative to the underlying business model, even as it preserves many of its components
  • Digital Layer services often provide significant benefits in terms of efficiency, usability and reach, sometimes increasing the size of the underlying markets.

Potential greater than other domains

The great potential of the Digital Layer comes from the fact that, whereas the other domains largely replace existing products and services and therefore are somewhat limited by the existing size of those markets, Digital Layer services essentially extend to almost every aspect of our lives. E-commerce by itself is already larger than any of the other five domains at around $1.5 trillion per year, and it’s just the oldest and most established of the Digital Layer services, with many others only now springing up. Together, the new breed of Digital Layer services has the potential to become several times the size of the current market over the coming years, with e-commerce at its core. Of course, many of these services will only skim a percentage of total value off the top on a net basis, but it still has the potential to be a far larger market than many of the traditional opportunities in consumer technology.

Questions to think about

I’m spending a lot of time thinking about some of the implications of the Digital Layer as a domain for the companies in the consumer technology market, and I’ll be sharing my conclusions with my clients and to some extent in future blog posts. Some of the questions I’ll be tackling are:

  • What other industries are ripe for a Digital Layer disruption, beyond those we’re seeing today, such as accommodation (AirBnb), Transportation (Uber, Lyft and others) and so on?
  • What factors drive sustainable differentiation for Digital Layer companies, and does this have implications for companies that start in one segment (e.g. Uber in transportation) and their ability to extend into other segments? How should this affect valuations of these companies?
  • To what extent will Digital Layer companies have to build broad ecosystems as they scale, versus specializing in a particular segment?
  • Which of the existing major consumer technology companies have the potential to become significant players in the Digital Layer? Does the rise of Digital Layer-centric companies threaten any of them?
  • To what extent is the Digital Layer a sustainable model, and to what extent will it eventually give way to Digital Replacement models (e.g. much as Amazon’s online sale of paper books eventually led to the sale of ebooks)?

I’d love your feedback on the concept, and on these questions (and any others you might have). If you or your company would be interested in an in-depth presentation on this topic, please contact me.

Quick Thoughts: Microsoft’s Office moves

Microsoft today made a series of announcements relating to Office running on platforms other than Windows:

  • Individual Office apps for iPhone are now available, mirroring those launched on the iPad earlier this year
  • Office will be coming to Android, starting with a limited beta/preview next week and full versions next year
  • All the versions of Office on iOS and Android will shift the dividing line between free and paid-for functionality significantly.

My initial reaction to the news was summarized in 140 characters in this tweet:

I wanted to expand on those ideas just a bit.

What the announcement says about Android

The announcement is most telling about Microsoft and its evolving strategy for Office, but it’s also illuminating about Android. Note that Microsoft announced Office for iPad in March and it became available essentially immediately for anyone running the latest version of the operating system. No delay, no beta label, just instant availability. But for Android, Microsoft is adopting a very different model, with a preview period with a limited number of beta testers and general availability coming months later. Why? Well, this is the same old story we’ve heard for years now: the fragmentation of the Android base, although we’re not even talking about Android smartphones. Go to the signup page for the Office for Android tablet preview and you’ll see that you have to specify the make and model of the tablet you want to try it on, and that’s the key here: developing complex software such as Office for Android is enormously more complex than on iOS, and especially if you want to achieve full feature parity across devices and platforms.

What the announcement says about Microsoft

The rest of the announcement is incredibly important in what it says about Microsoft and its strategy for Office. First, the context: Microsoft launched Office for iPad in March and says it’s seen 40 million downloads of the three apps since then. But the full functionality of the apps has only been available to Office 365 subscribers, and it’s added less than three million Home and Personal subscribers since then, at roughly the same pace as it added subscribers earlier.  People have been very interested in the apps, but most haven’t been willing to pay for the full functionality (or already had access to it through existing Home or Business subscriptions).

Why is that? Well, think about the kind of Office-related work you might want to do on an iPad. It likely isn’t writing the next great American novel, preparing the slides for your TED talk or working with pivot tables in Excel. It’s fixing a typo in a Word document, updating a cell in an Excel spreadsheet or inserting an extra slide in PowerPoint. Is that functionality worth $70-100 a year for most users? Likely not. Arguably, Microsoft drew the line between what was free and what wasn’t in the wrong place here, for obvious reasons: full Office functionality has always cost a lot, and there’s never been a version of Office available for free, so it was just following its long-standing pattern. But the way people use Office on tablets will be different from the way they use it on PCs, and Microsoft seems to be recognizing that. As such, it’s shifting the dividing line between free and not-free in favor of providing more functionality for free.

But I think there may be at least two other reasons for this move to provide more functionality for free. Firstly, Microsoft’s Consumer Office business is dwarfed by its Commercial Office business: last financial year, total Office System revenue was just over $24 billion according to Microsoft’s 10-K, but Consumer Office revenue was only around $3 billion over the same period. The vast majority of Office comes from businesses, who can now buy per-user licenses for their employees allowing them to use Office across multiple devices. At some point, Microsoft may decide that allowing consumers (whether acting in their personal lives or as employees) to use at least some functionality for free on some devices is a price worth paying to cement the position of Office as the productivity tool of choice for businesses, who pay most of the bills.

Lastly, Office has long suffered from the fact that it over-serves most users’ needs considerably, and the price charged for Office reflects 100% of the features whereas many users only use a small percentage. One of the attractions of Google Docs and other Office alternatives both for consumers and for businesses is that they allow users to accomplish many of the more basic tasks for free or for a much lower price. Microsoft should be considering a bifurcation of the Office product into at least two alternative versions: a more basic one with limited functionality offered for free or at least a lower cost, and a fully-featured one offered at the traditional price points. Perhaps it sees the new tablet and smartphone apps as an opportunity to experiment with just such a model.

What’s in and what’s out with the free version?

One other interesting thing to look at is what’s in and out of the free version. According to Microsoft’s blog post, these are some of the features that will be exclusive to the paid version:

advanced editing and collaboration capabilities, unlimited OneDrive storage, Dropbox integration and a number of other benefits.

It’s interesting that both of the recently-announced storage enhancements are exclusive to the paid version: Dropbox integration and unlimited OneDrive storage. The latter has a real cost associated with it, so it makes sense that it’s reserved for the paid version, but it’s intriguing to see a partner feature exclusive to the paid version too. I’ve pasted a screenshot from the iPad app that summarizes the premium features. I think there’s a risk that the dividing line feels arbitrary, but this list looks like it makes sense. It’s also interesting to see that Microsoft still requires the user to log in with a Microsoft account for the new functionality, even though a paid Office 365 subscription is no longer necessary.

Office premium features

Techpinions post on business models

As some of you may know, in addition to blogging once or twice a week here, I do a weekly column on Techpinions, which is published pretty regularly on Thursdays. This week, I took some ideas I’ve been chewing on for a while and turned them into a fairly in-depth post looking at business models for monetizing consumer technology products and services. I talked about the tension certain business models (such as Advertising) create between end users and paying customers, and also talked about the strained logic behind Microsoft and Google’s aggressive efforts in emerging markets. Here’s a taster of the framework I used to evaluate the business models for monetization:

Business models for monetized productsIf that looks interesting, head on over to Techpinions for the full post.