Hip-Hop Fridays: E-Letter To Tim Hanrahan, Jason Fry and The Wall St. Journal Re: "Why CDs are a SideShow"

After having an in-depth conversation with Roc-A-Fella Records CEO, Damon Dash, regarding the state of the music industry yesterday, I determined to write both of you regarding your brief article, which appeared earlier this week in The Wall St. Journal.

While I found what you wrote to be very insightful in many ways, I think your article continues an analysis of the music industry's business model that ignores forces and factors which influence it from the ground up. That analysis also leaves out the different implications of the music industry's strategy across genre lines. It also ignores certain racial dynamics that operate. You do all of this unwittingly as you favor focusing on the more obvious crisis with distribution - caused largely by the Internet and file-sharing.

I understand that you don't write for The Main St. Journal or The Black St. Journal; but I think that if you would consider the Hip-Hop genre - the most played on radio and one of the strongest of all genres in music sales - you would have a few more keys to enable you to understand the implications of the music industry's business model, across racial and genre lines; and why the one-size-fits-all approach of blaming (or analyzing) file-sharing and college students as the source of the industry's woes does not result in the best explanation of what is going on with an industry that is obviously in a state of disarray.

I think both of you should consider interviewing Damon Dash, a colorful, sophisticated and highly successful, Black businessman in the industry, for subsequent articles if you really want to talk to somebody who understands the music industry from the top-down, as well as the bottom-up perspective. It is very hard to find someone who understands both angles like he does. Mr. Dash will be providing a guest lecture this semester at Black Electorate Economics University (BEEU). Perhaps you could enroll and get the benefit of our three lessons devoted strictly to the music business. Keep up the good work but don't entirely leave genre and race out of your analysis.

Below, you will find the text of your article, interrupted by my comments, in boldface.

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Why Cheaper CDs Are a Sideshow
By TIM HANRAHAN AND JASON FRY

You know the fable about the blind men quarreling over the nature of the elephant? (If you don't, allow the Internet to help out by clicking here.) It's a perfect explanation -- on multiple levels, to boot -- of the recording industry and how its actions are interpreted.

First off, the recording industry itself is like the elephant of the tale. Its enemies in Geekland love seeing it as a single-minded monolith, but it's an amalgam of very different companies with very different concerns (Warner Music is part of a content company while Sony Music is part of a consumer-electronics company, for instance), not to mention divides within the companies themselves. So it is with attempts to analyze the industry's moves -- given how many groups with different agendas are affected in different ways by what the industry does, what a given move will mean and why it was made gets interpreted in wildly divergent ways.

- Excellent point, which is why I encourage you to take a look at what is happening from the perspective of Hip-Hop opinion leaders and fans; and Independent retailers, including Black-owned "Mom and Pop" record stores.

Which brings us to Universal Music Group's decision to cut the wholesale and suggested retail prices of its CDs to $9.09 (or $10.10) and $12.98, respectively. The key word in "suggested retail prices" is suggested -- the label hopes retailers will sell its CDs for less than $10. At the same time, Universal cut the cooperative ad payments it pays retailers, who use that money to pay for things like local advertising. And as some commentators pointed out, wholesale prices are already discounted, raising the question of how large these price cuts really are.

- From the perspective of the independent retailers and "mom and pop" stores, it also raises the question of whether or not this move by Universal is not one largely aimed (at the request of the major chain retailers) at killing them off. Like most writers you don't distinguish between retailers in your column. You are referring to the big chains like Best Buys and Sam Goody when you mention "retailers"; but the independent variety are very influential in certain genres like Hip-Hop, where they are responsible for at least 30% of sales according to some estimates, even more disproportionately in the important first week, and without whom, certain records would not receive any retail placement. It is the Independent retailers who were the ones responsible for selling Hip-Hop when radio did not play it and the big chains stores would not sell it. But anyway, get the numbers and you will see how important the independents are to Hip-Hop music sales (although many of them, unlike the chain retailers, are not part of the Soundscan system that electronically tracks record sales.)

You leave out the competitive advantage that the big chains (that sell other goods like electronics) have over the smaller independents - they don't have to rely only on music sales to achieve the bulk of their business' revenue. Most of these chains sell best-selling CDs for $9.99 or even $8.99 the week they come out. They use music as a loss-leader to bring people into their stores to buy Playstations and computers. In the case of Sam Goody, they receive cooperative ad payments from the record labels to ensure that their records receive placement in their stores (it really is a shakedown of sorts by the chain retailers). The independents that just sell music can't treat CDs as loss leaders and they receive very little, if any, of the cooperative ad payments made by labels. They suffer disproportionately when prices are cut arbitrarily because CD sales are their bread-and-butter. The lower list price on CDs will mean lower profit margins for smaller stores and for those who can't lower prices to the new suggested list (or below it like the chains do) it could easily cause their traditional customers to shop at the nearest chain store. Could it be that the big chain stores and major record labels (in this case Universal) are in a "gentleman's agreement" to put the independents out of business, and take their market share? Remember Universal is home to hip-hop heavyweights like Jay-Z, 50 Cent, Cash Money Millionaires, Ashanti and Mary J. Blige (hip-hop soul), Eminem, and a host of Black-music stars in R&B, jazz and gospel. There is alot of money to be made for the chains if they can get the Black "Mom and Pop" stores out of the way. The chain stores maybe looking at the Black music market as an emerging market. The institution of the Black-owned record store has kept many of the chains out of this market even though Blacks increasingly shop at the chains for other reasons and many of them dot the landscape of areas where Blacks live. But if these smaller stores fold where will the Black consumer go, if not the chain stores?

All very interesting, but what does it mean? Is it an attempt to strike back at illegal file-sharers? A death knell for small record stores? A cynical, temporary marketing ploy for the holiday season? A move to squeeze out distributors? Depends on whom you ask.

- It is a death knell for small record store owners and some one-stop distributers. Are you aware that most independents have to get their music wholesale from a one-stop distributer? They tack on a dollar to the suggested wholesale price, at least, in order to get their cut. This means the small record store owners will pay $10.09 or $11.10, but still be forced to charge no more than $13 a CD. Now some of them charge $15 and higher. There is no real money to be made for the one-stop distributer or the small record store owner that they serve and supply. Look into how the biggest one-stop distributers [Example: Southwest Wholesale and Universal One-stop (no relation to Universal Music)]have either gone out of business or filed for bankruptcy in just the last year. This is a classic example of where the preoccupation (of industry thinkers and reporters) with stopping file-sharing obscures more obvious problems with the music industry's business model.

Without pretending this is anything other than another shout out of the darkness, here's our take on the nature of the beast: This is all a sideshow that (intentionally or not) will let Universal buy time as the compact disc succumbs to its fate and becomes the next cassette tape.

The CD has two problems. First, it's become an unpopular format among many music fans, who contend (fairly or not) that most CDs bundle a couple of good songs together with a dozen or so clunkers -- a situation exacerbated by the near-disappearance of singles. Second, many music fans think CDs are too expensive. The Recording Industry Association of America offers a fact sheet explaining that the price of a CD reflects "invisible" costs from recording to promotion to the fact that the few profitable CDs must finance all the unprofitable ones. It's exhaustively argued and perkily written, but consumers don't care: When they see that the CD soundtrack of a movie often costs more than the DVD of the movie itself, they think they're being ripped off. And no amount of arguing or enumerating hidden costs is going to change their minds.

- First, I sincerely appreciate your humility ( a rarity among us writers). But you give us all too much credit. Most artists don't understand the accounting tricks of record labels - much less fans who can't even name all of the industry players involved in putting out a CD. And no one is reading RIAA fact sheets other then industry members, and journalists (smile). I think that that the first of the CD's problems has lead to the second that you outline. But the Hip-Hop community uniquely resolved that problem - in a manner that has absolutely nothing to do with file-sharing. The solution that Hip-Hop artists, producers and consumers came up with is called the "mixtape" - compilations of music from a specific artist, but usually from a variety of artists, all on one CD and put out and distributed by "street DJs" and Mom and Pop independents (usually Black-owned). The mixtape sells at a significant discount to the suggested CD list price of traditional releases (but has been sold for as much as a traditional CD if it contains exclusive material that will not appear on other tapes.) And even though radio stations, premier artists, and Hip-Hop record label executives approve of the mixtape and endorse them; the Recording Industry Association Of America (RIAA) is arranging, with law enforcement, for raids of "Mom and Pop" stores who sell mixtapes, putting them out of business. The RIAA says that these mixtapes are a form of copyright infringement even though MTV now promotes them and the major record labels and radio stations provide talent, product and personalities to "street DJs" who distribute these tapes to the record stores. So, how can the music industry be involved in its own copyright infringement yet the small minority-owned store is the only one who pays the price by going out of business or to jail? Ridiculous, and yes, in my view racist.

Leaving aside its motives, Universal is trying to address the second part of the problem -- price -- and may even succeed. But if so, it will have only won half the battle, and the wrong half at that. A reasonably priced format that consumers don't like isn't enormously better than an overpriced format that consumers don't like, particularly when there are alternatives to that format.

- I think you are wrong here when you write, "Leaving aside its motives, Universal is trying to address the second part of the problem -- price -- and may even succeed." Although a monetary deflation has hurt commodity businesses like music; the industry's primary "price" problem, where Hip-Hop is concerned, is not because of Alan Greenspan. The industry has bet on price-cutting because it does not know what it is doing and has not understood that it has price inelasticity only through innovation. What incentive is there for the music industry to put out product if it earns less per unit? They have already decided that they will not increase volume, so how do they benefit from lowering prices? It is possible that they will put out even less music now. This is what happens in a deflation and price-citting with oil producers. Once the profit margin shrinks below a certain level, there is no more incentive to produce. So, companies go bankrupt, merge, or go idle on production until prices rise. That is why I beleive this price-cutting is designed as much to put smaller retailers out of business, for the benefit of the largest chains, more than it is designed to persuade consumers to buy music. Just think of the lack of logic here, if file-sharing is the beast that everyone claims. If I already get music for free off of file-sharing, does a $3 dollar discount from $15 to $12; or from $12 to $9, make me want to give up a free good and fork money over at a store for a CD? Again, this is one of the reasons why I think the file-sharing issue is a red herring at times, a cover story designed to allow the recording industry to justify all sorts of actions and ideas and mask ulterior motives.

If you study the rise in popularity of the mixtape from 2000 to 2002, you will notice a proportional decline in rap music releases, but not a drying up of money in the pocket of the rap consumer or an increased unwillingness to part with it for music. I discussed this with Hip-Hop mogul Russell Simmons. Your article surmises that the industry thinks the consumer culture wants its product at a better price; Russell thinks the culture is being demonetized and is moving away from buying altogether. My view is that the industry simply did not supply anything and the consumers have adapted to the lack of product and innovation in the industry. Look at the pathetic quantity of releases of Hip-Hop albums this year. But really focus on 2002. You will see that nothing of merit came out for the first two quarters. At the end of the second quarter you will see the drought ended with Cam'ron and Eminem. Then there was another 6-month drought until Nas and Jay-Z came out. Nothing is coming out for people to buy in Hip-Hop regardless of quality. Mixtapes were the culture's response to the quality and quantity issue. The consumers did not move away from buying, as Russell figures. The culture demonetized traditional CD releases (because of their lack of quality, staleness and infrequency) and innovated on its own and increasingly monetized mixtapes. The culture moved away from buying the traditional product but toward unorthodox offerings that it helped compile. My point is people have no problem paying for what they want, even music. How does lowering CD prices help, if you don't put anything out and if what you do release still is of poor quality? In order to shut down competition from the "streets" and grassroots; the broader music industry, namely the RIAA, has cracked down on mixtapes, rather than embrace and learn from them. They have bet on litigation rather than innovation. The result is alienation, which does lead to less sales.

And there are alternatives -- namely downloads, legal and illegal. In recent months the record labels have launched an all-out war against illegal file-sharers, with PR damage to be determined. But at the same time, there's been a sea change in the world of digital music. The legal services are getting cheaper and easier to use, adding more and more artists, and are beginning to compete with each other. The next few months will see a slew of new services join the fray, as well as improvements in the existing services and -- perhaps most significant of all -- a Windows version of Apple's peerless iTunes.

- But they won't work

Given all that, our bet is that by next summer observers will be discussing the music industry's leap to a new primary distribution strategy, at least in terms of business priority. This won't eliminate illegal file-sharing or automatically solve all the industry's woes, but it will make arguments over Universal's moves to reposition the CD seem, well, so 2003.

- I can already tell you what it ("leap to a new primary distribution strategy") is - the wireless market. I have been invited to attend a big conference in Las Vegas next month put on by the wireless industry, with major record label support, to discuss how they have the distribution platform to save the music industry. It is a glitzy presentation from the multi-billion industry, but it is an unrealistic idea. The music industry, I do not think really believes that people want to get music on their cell phones, rather than in their homes or cars, but they do see some additional income streams from marketing and promotion through the wireless market. But not straight sales of traditional albums. Of course, the cell phone and pagers could work for advertising and customization, and that would involve music; but the stench of the telemarketer lives on and people probably want to be left alone while on their wireless communication gadgets.

Lastly, I hope you will remember the digital divide and that not everyone is online. Technological convenience does not automatically overpower human custom. As Dame Dash told me yesterday, unless the music industry and retailers can give people incentives to buy good music at good prices the point-of-sale itself may be obsolete, and it would have nothing to do with file-sharing.

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You have written a good column or a thoughtful "shout out of the darkness" as you put it, but I think a better direction to pursue, rather than the "death of the CD" would have been to see how much the major chain stores benefit by how much the smaller retailers are hurt by lower CD prices. The goal, I think, enabled by the music industry is to put the Independent retailers out of business and take their customers away from them, not "buy time" for the music industry to save the CD and develop a new distribution platform. You have left malice and forethought out of your analysis, as well as genre and race.





Sincerely,

Cedric Muhammad
Publisher
BlackElectorate.com
http://www.blackelectorate.com

Friday, September 12, 2003

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