July 6, 2005

Digital Play-As-You-Go Keeps Growing

LOS ANGELES -- Several recent market studies by industry analysts suggest the demand for portable digital music players is poised to skyrocket this year, reaching the critical mass needed for online music services to thrive.

A recent report from analyst group In-Stat forecasts that the market for hard-drive devices and flash-based devices will reach more than 104 million units worldwide by 2009, compared with the 27.8 million on record for 2004. It also notes that MP3 player sales reached $4.5 billion worldwide last year, an increase of 200% over 2003.


The U.S. market is contributing heavily to these expectations. In the States alone, 25% of the respondents to In-Stat's 2005 consumer survey acknowledged owning an MP3 player, up from 16% in 2001. Jupiter Research, in an April 2005 report, found that U.S. shipments of MP3 players more than tripled in 2004, and expects that figure to increase again by 35% in 2005.

Jupiter predicts the U.S. MP3 market to achieve a compound annual growth rate of more than 10% through 2010, reaching an installed base of 56 million, from 16.2 million in 2004.

Apple Computer's iPod energized the MP3 player market with large-capacity, hard-drive-based models. But lower-cost flash-based devices are seen as the future category leader driving growth. Jupiter expects shipments of flash-based devices to exceed that of hard-drive models starting in 2007.

Providers of portable subscription services, such as Rhapsody, Napster and Yahoo, are watching this flash MP3 player growth most closely.

"As more devices come out that are compatible with portable subscription services, especially flash devices, it can only grow the market," a Rhapsody representative says. "Right now, there's not a lot of very low-cost portable music players compatible with (portable subscription) services. We think when there's a wide variety of devices at a wide variety of prices, from $50 to $400, then the portable subscription services market will mature as well."

This proliferation of digital music players available at a range of different prices is expected to spur sales of online a la carte downloads and music subscription services. At the same time, the growth of digital music sources increases the demand for MP3 devices. It is a feedback loop that analysts say is necessary for the market's expansion.

"The two do co-exist. I would consider one the driver of the other," In-Stat analyst Stephanie Guza says.

The problem with this business model is that many MP3 owners fill their devices with music ripped from existing CDs or with tracks obtained from file-sharing sites. According to the NPD Group, 243 million songs were downloaded from various peer-to-peer services in March, while in the same month only 26 million were purchased from digital music stores.

However, NPD research also suggests that legal music stores like Apple's iTunes, Napster and RealNetwork's Rhapsody may be closing the gap with P2P sites.

According to the March 2005 MusicWatch Digital Service survey, iTunes tied with P2P site LimeWire as the second-most-popular online music service, at 1.7 million households each. First place went to P2P site WinMX with 2.1 million households. Also in the top 10 were Napster (seventh) and RealNetworks (ninth).

Record labels are reporting an uptick in digital music sales as well. In its second-quarter earnings report, Warner Music Group claimed digital revenue of $35 million, or 4.5% of total revenue, up from $25 million the previous quarter and greater than the $32 million claimed for all of last year.

Still dominating the MP3 player market is the iPod and its many iterations. How long Apple can maintain this lead in the face of increasing competition and a rapidly growing market is a question everybody is asking. Most analysts predict there will not be any significant challenge for at least the next two years.

To date, competing MP3 players have tried to match or exceed the iPod's stylish design. But there are signs that physical appearance will soon give way to user interface as the prevailing differentiator, excluding, of course, price and storage capacity.

"It's hard to differentiate by design," Joon Yang, CEO of Reigncom -- the South Korean company that manufacturers the iRiver line of MP3 players -- told reporters in Seoul in June. "Why do we need control buttons? Controls are ugly, so if it's possible to eliminate them and use the display," he said it should be done.

The company's new U10 model, for instance, replaces control buttons with a pressure-sensitive display panel navigation system called the "D-Click."

But an increase of MP3 players can only help the digital music service market grow so far. According to a Forrester Research report, the car stereo remains the single most frequent place people listen to music, at 56%, followed by personal and home stereos at 27%. MP3 players come in last, at 1%. So digital music receivers like the Roku Soundbridge or the Sonos system that stream digital music from the PC are considered equally important over time.

"I don't think it's only a portable market," the Rhapsody representative says. "The combination of new devices and this new model gives consumers the ability to hear any song they want when and wherever they want. That is what is going to make the difference."