HEC - Montréal - Chair of Arts Management

The Disruptive Nature of Digitization: The Case of the Recorded Music Industry
Author(s): François Moreau
Source: International Journal of Arts Management, Vol. 15, No. 2, Special Issue: Digital
Revolution in Arts and Cultural Organizations (WINTER 2013), pp. 18-31
Published by: HEC - Montréal - Chair of Arts Management
Stable URL: http://www.jstor.org/stable/24587110
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Marketing Management

TheDisruptive
The Disruptive Nature
Nature of Digitizat
of Digitization:
The
TheCase
Caseof of
thethe
Recorded Music Music
Recorded IndustryIndus

François
François Moreau
Moreau

Introduction iTunes Music Store to access their music cata

logues (in 2003), and several more years to

Association of America (RIAA), the the economic specificities of digital goods, such
According to the
market share Recording
of online Industry
music (down- as models based accept
on unlimitedbusiness
access with amodels that take into account
loaded via the Internet or mobile phones) as a flat rate (see below, in the section Disruptive
percentage of total sales of recorded music in Nature of Digital Technology),
the United States rose from 1.5% in 2004 to
50% in 2011. Although online sales did not The aim of this article is to explain why it
become significant until 2004, digital music has taken so long for the dominant firms in the
itself has a much longer history. MP3 technol- music industry (the "majors") to adapt to digi
ogy, or more precisely MPEG-1 Layer Three, tization. Of course, the big firms did not want
was developed in 1992 by the Fraunhofer lab- to encourage piracy by putting digital files
oratories in Germany and was originally online (Krasilovsky and Shemel, 2003). So
designed for transforming videos into small although many labels had an Internet presence
digital files. It very quickly became apparent at the end of the 1990s, they preferred to offer
that this technology could also be used to com- low-quality samples online rather than MP3
press music.1 The prospect of "dematerializing" files that might compete with their own CDs
music led to the development of peer-to-peer (Easley, Michel and Devaraj, 2003). However,
networks and the free downloading of digital the fear of piracy alone cannot explain the atti- François oreau is
music files (with Napster in 1999). However, tude of the majors. Like digital technology UnlwrsityofÎPaii°i3^France)
as early as 1993 the Internet Underground Music today, the audiocassette was initially perceived and a member of the CEPN
Archive, a database of songs by unknown artists, as a source of piracy. Thus, at the beginning of research team. His recent

was created, and 1998 saw the launch of eMusic, the 1980s the RIAA was quick to blame blank research has dealt with the
a legal online music service with a subscription tapes for the decline in sales of vinyl records, impact of digitization on
model but with a catalogue limited to independ- launching a campaign under the slogan "Home content industries, with a
ent labels ("indies"). The latter have indeed taping is killing music." Yet an independent focus on the music industry,
been much less reluctant than the dominant study conducted by the Copyright Royalty He is co-author of Portrait
des musiciens à l'heure du
firms to sell music online (Easley, Michel and Tribunal showed that the consumers who copied
numérique (Paris: Editions
Devaraj, 2003) (see Box 1 for a description of onto cassettes were also the biggest buyers of rued'Ulm, 2011) and has
market structure and strategies in the music records. Moreover, between 1980 and 1986 also published several
industry). Although the MP3 format was pre- total sales of albums and pre-recorded cassettes academic papers
sented to the major record labels in the early increased by 13% (Coleman, 2005). So the (http://econometrie.cnam.fr/
1990s (Coleman, 2005), it took them more than industry has already succeeded in accommodât- equipe-et-publications/
10 years to enter the digital era by allowing the ing discontinuities that were initially seen as francois-moreau/).

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18

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BOX 1
Acknowledgements
The comments and
The recorded music industry is an oligopoly with a competitive fringe. Several com
suggestions
nies, often referred to as the "majors" (Universal Music, Warner Music,of two
EMI, Sony M
anonymous referees
and BMG, the last two of which merged in 2004, while Universal Music purchased
are gratefully acknowl
in 2012), produce three quarters of world's turnover, while aedged.
cloud of independent
(the "indies") orbits round them (Table 1). This market structure is the result of import
economies of scale at two key stages in the value chain: distribution and promot
Supplying a large number of wholesalers and retailers with CDs requires a huge dis
tion network, the source of substantial fixed costs that only the majors can afford. Maj
then, control an essential link in access to end consumers and can extract a rent from t
activity by imposing tariffs and conditions on the independent labels ("indies"), the
majority of which are now distributed by the majors (Passman, 2003; Krasilovsky
Shemel, 2003). The activities entailed in promotion also generate economies of scale.
marketing is carried out when an album is released. Further, the dynamics of succe
cumulative. Growth in sales, intensification of radio and television broadcasting, and wo
of mouth are reciprocal causes and effects. Large initial expenditures on marketing
to considerably reduce the variable costs of promotion, with a proportional reductio
promotion costs per unit sold, resulting in obvious economies of scale in market
Furthermore, promotional opportunities are rare in comparison to the number of
releases that must be promoted (Bourreau and Gensollen, 2006). The majors there
seek to pre-empt these promotional channels, particularly the two main ones: radio
television. In a 2008 survey conducted in Great Britain by RadioCentre, 68% of m
purchasers said that radio was their main source of influence.

The huge economies of scale achieved at the levels of distribution and promotion there
fore constitute an undeniable entry barrier to the recorded music industry (Alexan
1994a). Majors and indies thus adopt sharply contrasting strategies. For the majors
dominant economic model is the "star system," in which spending on the search
new talent is sacrificed to promotion and the aim is to concentrate demand on a few sta
to maximize economies of scale. Thus the majors focus their promotion expendit
on the mass media. The distribution of roles between independent and major lab
therefore clearly defined (Burnett, 1996; Burke, 1997). The indies, with a reputatio
treating their artists better, enjoy a competitive advantage in the search for new t
They play the role of talent scout. The majors, on the other hand, are considered b
able to manage the careers of stars, due to their control over distribution network
the scale of their marketing resources. Thus it is common for artists to follow a career
where they start with an indie and then sign with one of the majors if they meet
commercial success.

ABSTRACT

This
Thisarticle draws
article
on the theory
draws
of disruption
on to analyze
the thetheory
impact of digitalof
technology
disruption
on the recorded music
to
industry
industryand to explainand
the delayto
of dominant
explainfirms in reacting
the to delay
this technological
of discontinuity.
dominant The author
f
shows
showsthat digitization
that matches
digitization
the characteristics of disruptive
matches innovation the
as described
characteri
in the literature. H
explains
explainswhy established
why firms initially
established
paid little heed to an
firms
innovation leading
initially
to a product (digital
paid music
litt
files)
that
thatis cheaper
isand
cheaper
poorer in quality and
than their
poorer
existing product
in(CDs)quality
and ill-suited to than
mainstream their
consumers.
The
Thereaction
reaction
of these firms hasof
been typical
these of the firms
behaviour of companies
has beenfacing disruptive
typical
innovation. of
Confronted
th
with
withan innovation
an that
innovation
they see as more of a that
threat thanthey
an opportunity,
see incumbent
as morefirms have of
found it
a extremely
thre
difficult
difficultto accept the to
need for
accept
a radical rethinking
the ofneed
their business
for model.
a radical rethink
KFYWORDS
KEYWORDS

Recorded music industry, digitization, disruption

VOLUME 15, NUMBER 2 • WINTER 2013 1g

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TABLE 1

MARKET SHARE OF THE DOMINANT FIRMS

IN THE RECORDED MUSIC MARKET WORLDWIDE (%)

1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

Universal 21.7 22.9 23.5 25.4 23.5 25.5 25.6 25.7 28.8 28.6 27.7

Sony 17.1 14.6 14.7 13.8 13.2

21.5 19.0 21.2 20.1 21.2 23.1
BMG 10.0 8.7 8.1 9.6 11.9

EMI 12.0 13.6 13.3 12.2 13.4 13.4 13.6 12.8 10.9 9.6 10.0

Warner 11.4 12.1 12.0 11.8 12.7 11.3 12.8 13.8 14.4 14.9 15.3

Total majors 72.2 71.9 75.6 72.8 74.7 71.7 71.0 72.5 74.2 74.3 76.1

Indies 27.8 28.1 24.4 27.2 25.3 28.3 29.0 27.5 25.8 25.7 23.9

CR4 62.2 63.2 67.5 63.2 62.8 71.7 71.0 72.5 74.2 74.3 76.1

Sources: IFPI and Music & Copyright

disastrous for the leading firms (Huygens et The Theory of Disruption

al., 2001). In this article I argue that the domi
nant firms in the music industry have been slow \ technological discontinuity is defined as an
to adapt to digitization because this innovation -tlannovation producing a critical advance
is disruptive and therefore incumbent firms, in (a leap) in the price-performance frontier of an
the late 1990s, neither saw the need for nor had industry and a significant change in the form of
an interest in adopting this new technology. products or processes (Tushman and Anderson,
1986). The literature devoted to technological
The article is organized as follows. First I discontinuities has investigated the conditions
provide an overview of the literature on the under which such discontinuities might bring
theory of disruption. Then I attempt to show about changes in sector hierarchy (leadership
that digital technology can indeed be considered turnover), bringing to light the crucial role of
a disruptive innovation in the recorded music radlcal architectural innovations (Henderson
industry, which explains the delayed response and Clark' or competency-destroying
i* • • i Li- i i i i c- ti innovations (Tushman and Anderson, 1986).
to digitization by the big record labels, hinally, .
j ce i • r i • However, Christensen and Rosenbloom (1995)
1 orrer a brier conclusion. . . . /-.r^-rx i • it i i-/
and Christensen (1997), studying the hard-disk
—— drive industry, which is subject to numerous and

RÉSUMÉ

Cet articles'appuie
Cet article s'appuiesur
surla la théorie
théorie de de la rupture
la rupture pour
pour analyser
analyser l'impact
l'impact de la de la technologie
technologie numérique
numérique sur l'industrie
sur l'industrie de la de la
musique
musique enregistrée
enregistréeetet
expliquer
expliquer
le retard
le retard
prispris
par par
les firmes
les firmes
dominantes
dominantes
pour s'adapter
pour s'adapter
à cette àdiscontinuité
cette discontinuité
technologique.
technologique.
Il montre
montretout
toutd'abord
d'abordque
que
la la
technologie
technologie
numérique
numérique
présente
présente
les caractéristiques
les caractéristiques
d'une innovation
d'une innovation
de rupture
de rupture
telles qu'elles
telles qu'elles
sont
sont décrites
décritesdans
danslalalittérature.
littérature.
L'auteur
L'auteur
explique
explique
également
également
pourquoi
pourquoi
les principales
les principales
maisons
maisons
de disques
de disques
ont initialement
ont initialement
considéré
considéré comme
commepeu
peuattrayante
attrayante
une
une
innovation
innovation
qui qui
conduisait
conduisait
à un àproduit
un produit
(les fichiers
(les fichiers
numériques
numériques
musicaux)
musicaux)
moins cher
moins cher
et
et de
de moins
moinsbonne
bonnequalité
qualitéque
que
le le
produit
produit
existant
existant
(les (les
CD) CD)
et deetsurcroît
de surcroît
peu adapté
peu adapté
à leursà consommateurs
leurs consommateurs
principaux.
principaux.
La La
réaction
réaction de
deces
cesfirmes
firmesa été
a été
caractéristique
caractéristique
du comportement
du comportement
d'entreprises
d'entreprises
confrontées
confrontées
à une innovation
à une innovation
de rupture.
de rupture.
Face Face
à une
une innovation
innovationqu'elles
qu'ellesconsidéraient
considéraient
plus
plus
comme
comme
une une
menace
menace
que comme
que comme
une opportunité,
une opportunité,
les firmes
les firmes
en placeen
se place
sont se sont
révélées
révélées très
trèsréticentes
réticentesà accepter
à accepter
une
une
profonde
profonde
remise
remise
en cause
en cause
de leur
de modèle
leur modèle
d'affaires.
d'affaires.
MOTS CLÉS

Industrie de la musique enregistrée, technologie numérique, rupture

20 INTERNATIONAL JOURNAL OF ARTS MANAGEMENT

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frequent changes in sector hierarchy, observe expressed within their value networks, when
that none of the traditional explanations appear their importance and applications are obvious,
to be relevant. In that industry, incumbent firms Conversely, incumbent firms are likely to lag
have carried out both incremental and radical behind in the development of technologies,
innovations, architectural and competency- even when they appear intrinsically simple, that
destroying. This has led to a distinction between meet the needs of consumers in newly emerging
disruptive innovations, which are likely to result value networks,
in leadership turnover, to the detriment of the
established leaders, and sustaining innovations, On the basis of pioneering works by Clayton
which, in contrast, simply strengthen existing Christensen (Christensen and Rosenbloom, 1995;
firms, even when they are radical, architectural Christensen, 1997, 2006; Christensen, Anthony
and competency-destroying. and Roth, 2001; Christensen and Raynor, 2003)
and the critical responses they have provoked
(Danneels, 2004; Henderson, 2006; Govindarajan
The Characterization and Kopalle, 2006; Tellis, 2006; Schmidt and
of Disruptive Technologies Druehl, 2008), a disruptive innovation can be
defined as follows:
The value network is defined as the context
within which the firm meets consumer demands 1. The product resulting from the innovation
(Christensen, 1997). In particular, it expresses underperforms compared to the existing product,
the needs of the firm's main consumer group or with respect to the attributes appreciated by
groups. As a rule, the more a firm grows and mainstream consumers. Conversely, innovations
improves its competitiveness in a given value targeting the segment of high-end consumers
network, by better meeting the needs of the - that is, those who are the most willing to pay
consumers concerned, the less it is able to meet — are sustaining, because their impact on the
needs in other segments of the market. This continuity of the current business model of estab
leads to an atrophy of its capacity and desire to lished firms is obvious (Schmidt and Druehl,
develop new applications, and therefore new 2008). Christensen and Raynor (2003) draw a
value networks. Likewise, if existing firms distinction between new market disruption and
become more and more efficient in gathering low-end disruption. The former corresponds to
and processing information about the value net- innovations that introduce a new dimension of
works in which they are active, they will encoun- performance and so create a new market for new
ter growing difficulties in doing the same with consumers. The latter corresponds to innovations
information about other value networks. The that enable firms to supply a less expensive solu
key question for an established firm is, then, tion — often in a trade-off for reduced perform
whether the innovation can be exploited within ance — targeting customers who do not value the
its current value networks, or if other value net- extra features/high performance of the existing
works need to be targeted, or even created, to product or simply cannot afford it.
exploit its full potential. Christensen (1997)
argues that incumbent firms are capable of being 2. The product resulting from the innovation
leaders in all sorts of radical innovations from is usually simpler, less costly to produce and sold
the moment that those innovations meet needs at a lower price than the existing products, but

RESUMEN

Este
Esteartículo
artículo
se apoya en la
se teoría
apoya
dlsruptiva
en para
la analizar
teoría el impacto
dlsruptiva
de la tecnologíapara
digital sobre
an
explicar
explicarel retraso
elde retraso
las empresas dominantes
de las en empresas
adaptarse a esta dominantes
discontinuidad tecnológica.
en En adp
que
quela tecnología
la tecnología
digital presentadigital
las características
presenta
de una innovación
las características
disruptiva tal como desc
tentes.
tentes.El autor
Eltambién
autorexplica
también
porqué las principales
explica compañías
porqué
disqueras las
en un princip
principio vie
innovación
innovaciónque llevabaque
a un producto
llevaba (los archivos
a undeproducto
música digital) de(los
menorarchivos
costo y de m
existente
existente(los CD) y(los
ademásCD)
mal adaptado
y además
a sus consumidores
mal adaptado
principales. La reacción
a sus de estas
con
del
delcomportamiento
comportamiento
de las empresas que
dese ven
lasante
empresas
una innovación disruptiva,
que seante ven
una innovaci
ante
una
unaamenaza
amenaza
que una oportunidad.
que una Las compañías
oportunidad.
existentes han mostrado
Las compañías
una gran renuencia
e
tionamiento de su modelo comercial.
PALABRAS C I AV F

Industria discográfica, tecnología digital, disrupción

VOLUME 15, NUMBER 2 • WINTER 2013 21

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the new possibilities or characteristics that it point, it is interesting to note that whereas
offers are not appreciated by mainstream con- Christensen and Rosenbloom (1995) and
sumers unless it attains a minimum performance Christensen (1997) use the term "disruptive
level in terms of historical attributes. This is true technology," more recent works (Christensen
to such an extent that when the innovation is and Raynor, 2003; Christensen, 2006) prefer
introduced, the most profitable customers of the "disruptive innovation." Indeed, the technology
incumbent firms generally do not want to and ¡n itself is not necessarily disruptive. Many estab
very often are unable to use the products result- lished firms, when faced with disruptive technol
ing from the disruptive technology. 0gy, have proved capable of developing prototypes
that exploit it, showing that they possess the
3. These products are therefore usually intro- necessary R&D skilk Where they have failed
duced into niche markets, where the new tech- ¡s ¡n ■ tQ sdl the disruptive technology to
nology can mature and improve in a protected thek lar customers and not building up
competitive environment. The niche can be either . ■ •. . . .
r . . r relations with other consumers, hitherto unserved
an emerging market or a segment or a main- , ■ ■ c L •> r ¡ ■
b P , r? i» hut appreciative of the attributes of this new
stream market composed of over-served con- , i i ->r,n-A t ■ i c
r . rr technology (IJanneels, 2002). ft is therefore not
sumers receptive to a low-cost offer. , , , ,r , , . r
r the technology itself that causes difficulties for
4. From points (1), (2) and (3), incumbent the established ñ/m' but dle fact tbat a Eru
firms draw the conclusion that investing in the '"novation renders obsolete the busines
disruptive technology is not a financially rational on wh,ch the firm has based lts developm
decision. Even if the disruptive technology can Thls exPlalns wh7 an '"novation can be
offer a better unit margin, the small size of the tlve for certain firms and sustaining for o
market reduces profit prospects. .
The thesis that disruption results from incum
5. Over time, the performance of the product bent firms concentrating too narrowly on the
of disruptive innovation improves sufficiently, in needs of their existing customers can be extended
terms of the attributes valued by mainstream to brms focusing on the needs of their value net
consumers, for these consumers to begin taking works in a broader sense. The inability of domi
it up. "Disruptive innovations do not necessarily nant firms t0 implement disruptive innovation
improve to surpass the performance of the prior may abo be re'ated to the fact that it would render
technology. They generally do not, and need obsolete the resources and skills of not only its
not The trajectories of technological progress customers, but also its suppliers, distributors,
are parallel. They do not intersect. The salient "complementors" and, more widely, all the actors
question is whether the disruptive technology will 'ts va'ue chain (Afuah, 2000; Rosenbloom and
improve to the point that it becomes good enough Christensen, 1994). Moreover, in the face of dis
to be used in a given tier of the market" ruPtive innovation, vertical integration constitutes
(Christensen, 2006). For Henderson (2006), it is a strategic handicap. When the disruptive nature
not so much that the performance of the disrup- of an innovation stems from the modification of
tive technology improves but that consumer pref- a product s value chain, firms that are vertically
erences evolve. Many disruptive innovations tend integrated in the new technology succeed better
to redefine the pattern of preferences in than those that are not. Likewise, firms that are
a market. vertically integrated in the old technology succeed
less well than those that are not (Afuah, 2001).

A Technological Problem or a Problem In Tbus>tbe explanations of leadership turnover

Perceiving and Understanding Demand? in terms of the theor7 of disruption go beyond
a lack of strategic vision among managers (Tellis,
Christensen's approach to the modification of 2006) or the cognitive, political or organizational
sector hierarchy differs from previous ones in its obstacles they face (Henderson, 2006). The man
focus on the demand side rather than on the agement of a disruptive innovation is complex,
supply side and technology. Thus radicality is a because lts value and potential applications are
technological dimension of innovations, whereas hlghl7 uncertain in terms of the usual criteria
disruptiveness is a market-based dimension aPPlled b7the established firm. It is tricky for an
(Govindarajan and Kopalle, 2006). Likewise, incumbent firm to dedicate resources to innova
for Adner (2002) and Adner and Zemsky (2005) tlons that d° n0t, "T Í? needs of,toda>'s mamr
the structure of demand - combined with tech- consumers. Established firms are the victims of
i l ■ i i • , rational inertia (Robertson and Langlois, 1994).
nological progress - certainly explains a large v b '
part of the phenomenon of disruption. On this ~

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The Disruptive Nature genres — especially rock'n'roll and R&B —
of Digital Technology coupled with the possibility for small independ
in the Recorded Music Industry ent record companies to create their own studios
and recordings at an affordable cost (due to

s the recorded music industry has experienced track system), challenged the position of the
ince its birth, at the end of the 19th century, tape recording and the development of the two

many technological innovations that have dominant firms. The majors of the time
impacted the way recorded music is distributed (Columbia, Decca, RCA Victor and Capitol)
(and consumed) as well as, though more rarely, were slow to catch on to the emerging market
the way it is promoted (Table 2). The emergence for rock'n'roll, which required them to reorgan
of music broadcasting in the 1920s made the ize and adapt their strategy and led to a collapse
majors fear a substitution effect at the expense in their US market share, from 75% in 1955
of 78rpm sales. Quickly, however, radio broad- to 25% in 1962 (Alexander, 1994b). In the
casting appeared to be a very efficient promotion 1960s, however, the majors realized that R&B
tool for recorded music. The Decca label report- and rock'n'roll were not just passing fads. They
edly "invented" the "star system" in 1929 by saw the importance of discovering and
massively broadcasting the works of a few artists developing new talent, which led to the creation
from its roster (Huygens et al., 2001). Later, of specialized departments. They also invested
the vinyl disc, the audiocassette and finally the heavily to intensify their relationships with
CD, as well as the Walkman, which introduced radio and the newly emerging television
the portability of music, were all innovations (Peterson and Berger, 1975; Huygens et al.,
that impacted the way music was packaged, 2001). All these innovations, whether incre
though not the way it was distributed and pro- mental (change in the music support) or radical
moted. Therefore, the competitive advantage (radio, new music genres), share a common
of the majors (see Box 1) was never challenged. feature: They impacted the mainstream market
However, during the 1950s the rise of new music and thus were quickly taken into account by

TARIF ?

KEY TECHNOLOGICAL INNOVATIONS IN THE RECORDED MUSIC INDUSTRY

Year Innovation Impact on distribution Impact on promotion

Phonograph (cylinder), Birth of the recorded music market with the introduction
1877-87
gramophone of the 78rpm in 1906

"Star system" created by Decca

in 1929 (massive use of radio
1920 Radio None
broadcasting to promote
record sales)

None; radio broadcasting still

the dominant model of promotion.
1948 Vinyl disc (331/3rpm, 45rpm) None; only a change in the support
However, singles (45rpm)
sales promote album sales.

1962 Audiocassette None

None; only a change in the support

None; only introduction

1979 Walkman None
of listening in mobility

1982 CD None; only a change in the support None

Change in the support (digital files)

Recommender systems, online
1990s Internet and ICT and in business models
word-of-mouth, social networks
(streaming, subscription)

Source: Coleman (2005); Huygens et al. (2001)

VOLUME 15, NUMBER 2 • WINTER 2013 23

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the dominant firms, although with a delay in Digitization in the Recorded Music Industry:
the case of the rise of rock'n'roll and R&B. Fulfilling the Five Conditions
of a Disruptive Innovation
The technological revolution in the recorded
music industry since the 1990s, with the emer- Let us return to the five criteria of disruptive
gence of information and communications innovation defined in the previous section,
technology (ICT) and the Internet, is specific.
It simultaneously affects both of the competitive 1. From the point of view of the established
advantages of the majors: distribution and pro- firms, digital technology underperforms com
motion (Bourreau and Labarthe-Piol, 2004). pared to the traditional CD for the mainstream
Regarding distribution, the digital revolution market, comprising middle-age consumers rather
is characterized by major improvements in com- than students (see below). The absence of sleeves,
pression, broadband Internet access and storage liner notes, lyrics, and photos and the inferior
capacity. As for promotion, ICT and the quality of MP3 files make the digital product
Internet have given rise to consumer-to-con- undeniably of a lower quality than the CD —
sumer promotion, with automated recom- especially since, historically, every support
mender systems and online word of mouth change, from 78rpm through vinyl to the CD,
(Chevalier and Mayzlin, 2006). Fleder, has been synonymous with improving the quality
Hosanagar and Buja (2010) quote statistics of sound- "The 9uest for sonic perfection - high
indicating that 35% of sales at Amazon originate fideW "15 a definlte non-starter in the internet
from recommendations. The value offered by age- • • ■ PerhaPs the search for the HolF Grad of
recommenders, in contrast to mass media, is hlgh fidelltX ended wlth the CD" (Coleman,
personalization. Social networks have also 2005, p. xvi).
become powerful promotional tools in the music .
i • » » i U1I 2. Digital files are much easier and less expen
mdustry, with the potential to challenge mass . D . . . . r
,■ .i sive to produce than CDs. 1 he elimination ol
media promotion, especially on radio. r r . ...... , ,
CD manulactunng and distribution reduces the
• i l i l r ■ cost by about 35% (Curien and Moreau, 2006).
Digital technology therefore constitutes a . J. r, . rr , r , .
. r \ ij - j Digital hies are also offered for sale to the con
radical innovation tor the recorded music indus- ° . . 1
... , i . , r sumer at a much lower price. In 2010, according
try and is indeed competency, in the sense of , « i -i ■ r ■ i
„ . i a i , , to the RIAA, the average retail price of a digital
lushman and Anderson (1986), because control „ &n , . ■ r
r .. . i, r album was $9.97, whereas the average price of a
of distribution and promotion has been one of , -in /^r^\ íl/0„ T 7.„ ,
. . . . r . . , physical album (CD) was $14.89. Initially, how
the key elements in the maiors strategy, ena- ,. - , , i • i j / j
. .. , '. , . ever, digital technology was considered a low-end
bling them to erect powerful entry barriers to • ■ ci r l
° r . XT il innovation, unsuitable for the mainstream mar
the market (see Box 1). Nevertheless, as , „ T -u i - moo vl j- i
i ket. In the late 1990s, with dial-up connection
Christensen 1997) points out, this is not suf- and a 56kb/s modem; k tQok ^ minutes tQ
dent to make the innovation of digital tech- download a single song in the MP3 format> which
nology a source of leadership turnover. The was evidemly low performance, unlikely to
majors knew about this technology very early amact musk consumers. However, by the early
on in its development. Moreover, the transition 2000s a download took an average of two min.
to digital distribution did not present any tech- utes por someone with a broadband connection
nological difficulties. By December 1999, for (cable or DSL). ¡t œuld even be less than one
example, Sony was offering a service for down- minute ¡n the case of a powerful broadband
loading music, limited to a part of its own connection like those supplied to universities
catalogue. Likewise, the majors were quick to anj businesses. Moreover, since the advent of
use the new tools of online promotion - for the Walkman in 1979, mobile music consump
example, to test the success of new artists or tion has become the dominant mode.4
songs before launching a massive promotional "Headphones became ubiquitous on urban
campaign in the traditional media. Thus, in streets.... Almost overnight, portability turned
the music industry, and in keeping with the into a crucial issue for audio consumers. People
theory of disruption, the problem that digital now expected freedom of movement while play
technology posed for established firms was not fog back prerecorded music" (Coleman, 2005,
technological in nature - the competence- p. 158). The first portable MP3 Player, the RIO
destroying aspect could be overcome; rather, PMP 300, was launched on the market in 1998.
as we shall see, it represented a profound chai- However, it can store only 60 minutes of music,
lenge to the industry's business model. because of a flash memory limited to 32Mo. This

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FIGURE 1

ADOPTION OF BROADBAND, DIAL-UP AND PORTABLE MP3

PLAYERS IN THE UNITED STATES (2000-10)

70

60

50

.—•

40
y
y
30
/ /

20
/
/ ^7
A

/ ' \
10
/

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

■ Dial-up Broadband — —Portable MP3 player

Source: Pew Internet and American Life Project surveys

FIGURE 2

SHARE OF RECORDED MUSIC PURCHASES

MADE BY US CONSUMERS AGED 40 AND OVER

50

45

40

35

30

25

20

15 I I I 1 I I 1 I I I I I I 1 1 1 I I

cO' ofr o^ ofr (jp oS cP cO' c?'

& Ncp> Nc°> ^ Nc°> No°> Nc°> ^ ^ j§> # # # -Vo

Source: RIAA

VOLUME 15, NUMBER 2 • WINTER 2013 25

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was clearly not the "freedom of movement" while From 2003, the strong growth in online sales of
listening to music that consumers expected. singles on iTunes Music Store revealed the exist
Because of weaknesses in both download speed ence of consumer needs that were not satisfied
and portability, digital files were considered to by the majors' strategy of favouring album sales,
be of interest only to a small segment of the According to Coleman (2005), "CDs have
market: technophiles already equipped with stretched the album concept out of shape. In
broadband and MP3 players, notably students short, CDs hold too many songs Simply put,
downloading on P2P networks from their uni- seventy-four minutes and forty-two seconds are
versity. Indeed, in 2001 less than 10% of far better suited to a symphony than a collection
American households had broadband Internet of popular songs" (p. 175). As shown by figures
access (Figure 1). Furthermore, Apple launched provided by the RIAA, singles represent less than
the iPod - which could hold approximately one 0.1% of the total number of songs sold in CD
thousand songs - in late 2001, but by 2005 the format, whereas, although it has decreased since
penetration of the portable MP3 player was still 2004, the figure is around 60% for online sales,
lower than 10% (Figure 1). As these two tech- Aside from the fact that consumers now have
nologies were not widespread, there were no real the choice of buying only the songs they really
opportunities for online music to reach the main- want, singles costs ten times less than albums
stream market. when purchased online, whereas the ratio is only
one to six for physical CDs.6
There are two additional reasons why the
music recording industry may have believed that 4. At the end of the 1990s, the recorded music
the consumers involved (students) were not really industry, and particularly the majors, concluded
mainstream consumers. First, as purchases of that it was not financially rational to invest
recorded music are positively correlated with wholeheartedly in online music. Even if the unit
income (Liebowitz, 2004), the potential market margin can be higher for the sale of one song in
for digital music comprised low-end consumers the form of a digital file than in CD form, the
in the CD market. Second, the 1990s witnessed idea of selling only a few songs at a retail price
a trend towards an aging population of consum- of $0.99 rather than a whole album at about $15
ers of recorded music. Between 1990 and 1999, was clearly not financially attractive. For a physi
before the development of P2P file-sharing, the cal album at a retail price of €15, the wholesale
share of recorded-music purchases made by con- price, net of VAT and retail margin, is €8.80
sumers over age 40 increased from 19% to 34% (assuming an average retail margin of 30%).
(Figure 2). Thus, for the majors, digital files were Thus a margin net of VAT, retail margin and
simply an instrument of piracy through P2P author's copyright of 53% is to be compared
networks and did not support a real market for with the 70% margin obtained with iTunes.
online sales. In addition, when MP3 — and with Since manufacturing costs disappear and distri
it file-sharing through P2P networks — became bution costs are now borne by the online seller,
widespread at the end of the 1990s, CD sales an album is more profitable in the digital channel
were still growing. In the United States, than in the physical one. However, as noted
CD album sales did not begin to fall until 2001. above, record companies usually do not sell a
whole album online but only a few songs. For
3. The development of online music has been an online album sale to be as profitable as a
favoured by the existence of niche markets. One physical one, the album would have to contain
notable example is that of new artists making more than seven songs,
their music available online free as a sort of "loss
leader" to boost their reputation and possibly 5. However, the fast growth in broadband
get signed up or to intensify their live activity Internet access and portable MP3 players has
(this was, upon its creation in 1998, the objective transformed online music from a niche market
of the Web site MP3.com). From its launch in to a market of interest to mainstream consumers.
2003, the social network MySpace has been In the United States, broadband adoption began
recognized as an important tool for musicians timidly in 2000, and it was not until 2005 that
to present their songs to their fans and promote the number of households with high-speed
events. In May 2009, more than 5 million rock, Internet overtook the number with a simple
pop, hip-hop and punk musicians or bands were dial-up connection (Figure 1). And yet, at that
registered on MySpace (International Federation time, only a third of US adults had access to a
of the Phonographic Industry [IFPI], 2010).5 broadband connection. In 2010 the proportion
Another niche market is composed of consumers reached 66%. Likewise, the market for portable
who are "over-served" by the mainstream market. MP3 players (such as iPods and mobile phones)

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experienced strong growth, but it did not really proved to be the most appropriate model for
begin until 2005 (Figure 1). In 2010, the penetra- selling information goods in general (Bakos and
tion rate of portable MP3 players reached 47%. Brynjolfsson, 1999) and online music in par
In parallel, the market share of online music (via ticular (Zhu and MacQuarrie, 2003). Not only
the Internet or mobile phones) as a percentage does bundling enable firms to increase their
of total sales of recorded music rose in the United profits, by smoothing the willingness-to-pay of
States from 1.5% in 2004 to 47% in 2010. consumers with heterogeneous preferences and
so capturing more of their surplus, but it can
also help to reduce the number of individuals
A Challenge to the Traditional Business Model excluded from consumption, compared to sepa
rate sales, and so augment collective welfare.
As pointed out above, the disruptive character Recall that music downloading thrives on the
of an innovation derives from the challenge it Internet not only because it is free, but also
represents to the standard business model. Thus, because it offers unlimited scope and endless
in the past, the majors survived the appearance selection (Coleman, 2005). Yet the majors —
of the pre-recorded cassette and then the CD unlike the indies " have been extremely reluctant
unscathed, because these were sustaining innova- to deal wlth firms whose business model is based
tions. There was no challenge to the business on a ratlonale of unlimited access or bundling,
model: The value generated by the content was such as MP3.com or eMusic, which proposed
still captured through physical means (cassette, thls ,klnd offervl,ce as early as 1998 rIt was n,ot
CD) sold at a price far higher than its marginal untd 2008 that the malors beSan to kvour-bjr
- - i j agreeing to open up their catalogues or rights
cost, the distribution network remained & & v . &.
i jj i il j- — the development or a new subscription model
unchanged and promotion through the media r n- >
i -id i■ • • ■ il i r based on the concept ol bundling music with
remained essential. But digitization called ror a . . . r. . . .
, L ■ i • CLL- j , r other services or devices - be it an 151 subscrip
complete rethinking ol the business model or . , , , , , . F,
, , , . r , tion, a mobile phone or a portable player. While
the recorded music industry. . . r . 2r <r ,
the music comes virtually rree to consume
, , , under this model, record companies and artists
Digital content possesses the two character- . , r . , r ■ i ■ »
. . ° r h • wo i get paid out or the sale or services or devices
istics ol a pure collective good (hamuelson, ?T™T -inon , /. s i • j i c
r. , , ° iii-i- -r-i (1FPI, 2008, p. 14).° 1 he business model ol
1954): non-rivalry and non-excludability. Ihe . . . , ... , ,,
..... r , ,. . , r. , streaming music services should indeed be more
possibility ol reproducing a digital hie at almost c ,, , . ,. wn_ • • i
r r il r ■ i favourable to the indies. When music is unbun
zero cost does away with the property ol rivalry jijj jr a u lj
. , . i ,iii i died and paid lor at a Hat rate or through adver
possessed by the physical support. And although • ■ > . r j • • l l
r / r 1 rr. i i tising, the cost ol discovering music that has
excludability can still theoretically be achieved . ■ i j- tv » j
7 r h i not had any airplay disappears. Deezer, created
ex post by the strict application of intellectua ¡n 2QQ7 ¡n France (2Q m¡lüon usefs and l 4
property rights and/or c* ante by technological m¡1Hon pay¡ng subscribers in Europe in lat
protection systems (digital rights management 2Q11}> and Spodfy> launched in 2006 in Swede
- DRM), in practice the sheer scale of traffic (a tQta, act¡V£ US£f bas£ of 1Q m¡1Uon wkh about
on peer-to-peer networks shows that digital 3 mill¡on paying subscribers in 2011), both off
content possesses the property of non-excluda- a free version supported by advertising and
bility. Besides the direct protection of digital premium version at €9.99/month for unlimite
content by means of DRM and legal tools, the downloads and transfer of playlists to portab
efficacy of which appears to be relative at best MP3 players or mobÜe phones. In France,
(Bhattacharjee et ah, 2006; Maffioletti and according to the Syndicat National de l'Edition
Ramello, 2004; Liebowitz and Watt, 2006), Phonographique, streaming revenues accounted
other strategies have to be envisaged to valorize for 350/0 0f digital sales in 2011, while in Sweden
content in a digital environment, strategies that boosted by Spotify, streaming by subscripti
exploit a shift in value from content to the con- accounted for more than 80% of digital sale
sumption of related goods (Varian, 2005; in the same period.
Liebowitz and Watt, 2006; Bourreau, Gensollen
and Moreau, 2012). A subscription model with Furthermore, the digital revolution in the
a flat rate and unlimited access, or at least very record industry called into question the who
low cost per song, proves to be a model that value chain and vertical organization of the
maximizes the collective surplus (ensuring that industry. According to the Organization f
the marginal selling price is equal to the mar- Economic Co-operation and Developmen
ginal cost - that is, zero). Furthermore, this (2005), "The dominance by the music majors o
mode of selling is akin to bundling, which has the physical distribution system and th

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promotional value chain has significantly delayed Table 1). However, this paradox disappears when
a move to digital distribution" (p. 48). The majors one considers only the online market. For
clearly feared an organizational shake-up that instance, according to Nielsen statistics, for both
would result in the under-use of their distribution 2009 and 2010 the US album market share for
network and harm their traditional retailers indies was 57% greater for digital than for physical
(Krasilovsky and Shemel, 2003). This leads us sales.11 Moreover, besides a possible fall in market
back to Afuah's (2001) argument that vertically share, an important issue of the digital revolution
integrated firms have greater difficulty adapting for the majors is the loss of control of music dis
to an innovation that radically transforms the tribution, which was an important source of profit
value chain. Even for those who considered dig- in the physical market (see Box 1). The majors
ital distribution to be the future of the record used to charge small independent labels up to
industry, the objective was clearly to minimize 40% of the wholesale price for the distribution
the upheaval. So even if the majors knew that of a CD. It is now online retailers, such as Apple,
"at some time in the future, recorded music will that could extract this rent from the indies,
be widely available online... [the] challenge, in
terms of developing rights for producers, is how
to get from here to there, with an industry intact,"9
Conclusion
The development of decentralized promotion,

I:
notably by electronic word-of-mouth, in place T n online music, the majors could have been the
of promotion by the classic media (radio and JL pioneers, and above all the leaders. The online
television), also represents a possible threat to distribution of music has all the attributes of a
the leadership of the majors. According to long winner-take-all activity, as demonstrated by the
tail theory (Anderson, 2006), the fall in produc- hegemonic market share held by Apple in the
tion and storage costs leads to an increase in the United States. The majors could have held onto
number of different items supplied to consumers, their leadership in physical distribution at the
thus extending the tail of the very asymmetrical same time. In this way, they could have made the
distribution of sales by item; then the greater technological leap and used the financial resources
possibilities offered by decentralized promotion provided by their dominant position in the old
and online distribution for discovering and technology to overcome their handicap in corn
accessing niche products make the tail fatter, to petencies, as suggested by Malerba et al. (1999).
the detriment of star products.10 This, then, But their inertia left the field open for other actors
disrupts the traditional complementarity between to take control of distribution (essentially, Apple
innovative SMEs and big companies capable of and the mobile telephone operators),
transforming small, emerging markets into large
markets of mass consumption, a complementarity According to Huygens et al. (2001), the majors
observed both in recorded music and in many have always proved capable of adapting "by shak
other industries (Markides and Geroski, 2005). ing off old habits and routines, and renewing
With the undermining of centralized promotion their search for novel capabilities through radical
and the disappearance of physical distribution, processes of organizational change, eventually
both of which are high entry barriers to the resulting in new organization forms and business
industry, the small firms no longer need the big models" (p. 1004). Nevertheless, past crises show
ones. Thus, the long tail model seems to be made- that this organizational change has often required
to-measure for the indies and their talent-spotting a modification in the control of the majors. For
skills, rather than the majors, whose domination instance, the decline in record sales in the 1920s,
is based on centralized promotion and control apparently due to the boom in broadcasting of
of physical distribution networks. free music, led to the disappearance of many
small firms and the takeover of the historic play
Hence, digitization does indeed challenge the ers by radio corporations (Victor by RCA and
way music is sold, distributed and promoted - that Columbia by CBS). Later, in the 1950s, the
is, the core of the competitive advantage of the emerging market for rock'n'roll required the
major companies in the industry. The unwilling- majors to reorganize and adapt their strategy,
ness of the majors to "ride the wave" of the dis- However, although this reorganization was suc
ruptive innovation is thus consistent with the cessful for Columbia and Capitol, it was a failure
theoretical analyses. Oddly enough, figures for for both RCA, which fell from first to tenth place
the worldwide music market show that the col- among US record labels, and Decca, despite
lective market share of the majors has increased having been one of the pioneers of the star sys
since the beginning of the digital revolution (see tern. Only through their purchase, by

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 Bertelsmann
Bertelsmann and 7. launched
and Matsushita, respectively, were 7. eMusic, eMusic, launched in has
Matsushita,
in 1998, 1998, has become
become the biggest
the biggest seller
seller of ofrespectively,
RCA and
RCA andDecca
Deccaable
able
toto re-establish
re-establish their
their com-com online music for independent labels, and the second
°nli"e music for independent labels and the second biggest biggest
for
for all
allrecord
recordlabels taken
labels together
taken (behind
together 11 unes).
(behind It operates
¡Tunes). It operates
petitive
petitive position
position (Huygens
(Huygens et ah,
et al., 2001). So,2001). So,pr¡ndple
as on the as on theofprinciple
a montWy subscription
of a monthly of up to
subscription of$20.99 for for
up to $20.99
in past
in pastepisodes
episodes of turbulence
of turbulence in thein the record
record indus- 75indus
songs.75The majors
songs. The have never
majors haveagreed to make
never agreed to their
make content
their content
available on eMusic.
try,
try, the
the question
questiontoday
todayis iswhether
whetherthethe
established available on eMusic.
established
firmscan
firms canre-organize
re-organize on their
on their own
own or willor will
need 8. need 8. This reluctance
This reluctance of the should
of the majors majors be
should be compared
compared with with
i i i r „ i their swiftness in signing with Apple,
their swiftness in 2003,
in signing to make
with Apple, their
in 2003, to make their
the
the exogenous
exogenous shock ofshock or a takeover. . .... tL * „ . / i • « • • i >.
a takeover.
° music available on 11 unes Music btore
music available on (which, incidentally,
¡Tunes Music Store (which, incidentally,
unlike
unlike the above
thesites,
above
did notsites,
initially did
includenot
the catalogues
initially include the catalogues
of
ofthethe
indies).
indies).
The pricingThe
on ¡Tunes
pricing
Music Store
on - $0.99
iTunes
per Music Store - $0.99 per
Notes
Not6S song or $9.99 song
per or $9.99album
per album - was no - was
different no
from the different from th
traditional
business
business model
model of of music
the recorded the industry,
recorded where music
value industry, where value
1.
1.Before the 1990s,
Before thethe only deliverythe
1990s, formats for Internet
only delivery formats
is captured for (initially,
on a rival support Internet js captured
the possibilities of on a rival support (initi
music
music were were
WAV andWAV MIDI files.
andTheseMIDI
files provided
files. high
These
copying files provided
or transferring high-
the files bought werecopying
restricted). or transferring the files boug
quality
qualitysound because
sound theybecause
were not compressed,
they but, for thenot
were 9. In compressed,
IFPI's For the Record but,
(1995, p.for the
1), quoted by 9 jn ippps por fa Record (1995, p.
Burnett
same
samereason, with WAVswith
reason, it took hours
WAVs to download a few (1996);
it took hours to download a few (1996); my italics.
my italics.
minutes of music.
minutes of music. 1 q 10.
However, itthat
However, it should be noted should be
the Internet might also noted that the Int
2.
2.For Henderson
For and Clark (1990),
Henderson anda technological discon reinforce
Clark ( 1990), a technological discon-
the popularity of products that are reinforce
already bestsellers the popularity of products th
tinuity
tinuity can agenerate
can generate a change
change in the hierarchy if it and
in the
of a sector thus increase concentration
hierarchy of a sector and leadif
to ait
superstar
and effect
thus increase concentration and l
isis
of of an architectural
an architectural nature - that is, if nature — that
it leads to a reconfig (Rosen,
is,1981).
if itBrynjolfsson,
leads to Hu a
andreconfig-
Smith (2010) discuss
(Rosen, 1981). Brynjolfsson, Hu
uration
uration of the
of the relations relations
between between
the components the conditions
of a productthe of existence of
components of both long tail and superstar
a product the conditions of existence of bo
without
without actuallyactually modifying
modifying those an effects,
those
components. Such and Elberse and Oberholzer-Gee
components. Such an (2008) empirically and Elberse and Oberholzer
effects,
innovation
innovation may,
may, then, then, biases
lead to cognitive lead
forto show that biases
cognitive
established the two effects
formight coexist in cultural
established showmarkets.
that the two effects might co
firms,
firms, because
because their
their existing existing
organizational do not 11. The Nielsen Company
routines organizational & Billboard's
routines do not2010 Music
11.Industry
The Nielsen Company & Billboar
allow
allow themthem to
to identify theidentify the taking
technological change place. Report. Accessed
technological change1 October 2012 at http://www.businesswire.
taking place. Report. Accessed 1 October 2012 at h
Christensen
Christensen and Rosenbloomand cite the case of RCA com/news/home/201
Rosenbloom
(1995) (1995) cite the 10106006565/en/case of RCA com / news/home / 20 1
and
and Ampex,
Ampex, which,
which, at the end of theat the
1970s, end toof
had access Nielsen-Company-Billboard?s-2010-Music-Industry-Report.
all the 1970s, had access to all Nielsen-Company-Billboard?s-2010-
the
thecompetencies
competencies
needed to become
needed
leaders in
tothe
become
tape recorder
leaders in the tape recorder
industry
industry but were but
prevented from doing
were so by deep-rooted
prevented References
from doing so by deep-rooted References
beliefs
beliefsand unsuitable
and unsuitable
organizational structures.
organizational structures.
3. Tushman and Anderson (1986) draw a distinction between
3. Tushman and Anderson (1986) draw
Adner, a distinction
R. 2002. between Adner>
"When Are Technologies R 2002 Are Tec
Disruptive?
technological changes that strengthen the core competencies
technological changes that strengthen A Demand-Based
the core View of the Emergence
competencies of
A Demand-Based View
of
ofestablished
established
firms (competency-enhancing)
firms (competency-enhancing)
and those that and those that
Competition."
Competition." Strategic
Strategic
Management
Management
Journal, Journal,
make
make themthem
obsolete (competency-destroying).
obsolete (competency-destroying).
The competen The competen
Vol.
Vol.23,
23,n°n°
8, p.
8, 667-688.
p. 667-688.
cies
ciespossessed
possessed
by the manufacturers
by the of manufacturers
mechanical calculators, of mechanical calculators,
for
for example
example (creating
(creating precision precision
arithmetical machinery made Adner, R., and P.
arithmetical Zemsky. 2005.
machinery made"Disruptive
Adner, R., and P. Zem
of
of cogs,
cogs, gears,
gears, levers levers
and springs), provedand Technology
to be ofsprings),
no use provedand
to the Emergence
be of no use of Competition."
Technology and the Emerge
whatsoever
whatsoever for producingfor producing
calculators Rand Journal
calculators
with electronic com with of Economics,
electronic Vol. 36,
com- Randn° 2,
Journal of Eco
ponents.
ponents. Such
Such major changes major changes
in the know-how p. 229-254.
in the
required, in know-how required, in p. 229—254.
specific
specificcompetencies and in production processes
competencies andgenerally, Afuah, A. 2000.
in production "How generally,
processes Much Do Your Competitors'
Afuah, A. 2000. "How Much
cause
causean upheaval in the distributionin
an upheaval of control
the and power,
distribution of control
Capabilities Matter and power,
in the Face ofCapabilities
Technological Matter in the
to the detriment of established firms, which, being prisoners
Change?"
to the detriment of established firms, Strategic
which, Management
being prisonersJournal,
Change?"Vol. Strategic
21, Managem
of
oftheir
their
tradition,
tradition,
sunk costs andsunk
internal costs
political constraints,
and internal political constraints,
n°3,
n° 3,p.p. 387M04.
387^404.
remain
remainfaithful
faithful
to an outmoded
to technology.
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