Assessing the online threat

That the future of music resides in downloads is not news to video content owners, but it is only in the last year or so that they have begun to accept that online delivery is also a serious threat to their own traditional routes to market, says DAVID MERCER, Principal Analyst at Strategy Analytics.

It is now more than 25 years since people began to experience the optical disc CD that became, after a hesitant start, the saviour of what was then a moribund music industry. And after music, of course, came most other media genres, including computer applications, games and video, so that over 200 billion optical discs have been sold since the first consumer CD player went on sale.

Sales of music CDs prospered for 20 years, but have now been in decline for some time. DVD was ready to take over the reins ten years ago, and until recently DVD sales had only seen growth. But after only 10 years since their arrival DVD-Video sales have already plateaued; first quarter DVD sell-through revenues in the US fell 1.2%, and disc rental income has also been declining. That the market has matured within a decade of the format’s launch is a sign of DVD’s tremendous success, and also of the challenges the industry faces in maintaining the cycle of new technology introductions that has sustained it over so many years.

The good news, of course, is that DVD’s apparent successor has been annointed. After a short-lived format war, the defeat of HD-DVD has left Blu-ray with a clear run at the post-DVD market opportunity. If there was any certainty that BD would follow DVD in the same way that DVD followed VHS, or CD followed vinyl, the industry could plan with confidence.

Broadband complicates the situation

Unfortunately for planners that certainty has been weakened by the widespread availability of online media via fast data downloading, otherwise known as broadband, which was plainly not a factor that the optical disc industry has had to worry about during previous technology cycle transitions.

Some might see it as a warning sign that the music industry has apparently given up all hope of replacing audio CD with an alternative physical carrier. Arguments about high-resolution audio formats SACD and DVD-Audio, where they might once have reached the general public, have been relegated to the specialist press, even though the formats have not disappeared. Whatever the future of the music industry holds, it is widely accepted that it resides in the world of online delivery, not pre-packaged physical media.

None of this is news to video content owners, but it is only in the last year or so that they have begun to accept the fact that online delivery is also a serious threat to their own traditional routes to market.

Online video streaming and downloading have been around since the dawn of consumer internet services more than a decade ago, but only since the wide availability of faster broadband connections and the emergence of the latest encoding, compression and software technologies has it begun to approach acceptable levels of quality and consistency of experience.

YouTube was a major catalyst in the explosion of online video, and while its prominence continues it has since been joined by a multitude of other online video providers deploying an array of different business models and approaches.

Widespread usage of online video began with user-generated content, much of which originated from mobile phones with integrated video recording capabilities, as well as video material copied from broadcast TV channels.

In the last couple of years many TV companies have themselves begun to make their shows available online, through their own websites, software players and third party providers. While there is some direct online replication of broadcast channels, much of this “online TV” is packaged as on-demand content, so that each show is available for (more or less) immediate playback.

Online delivery sttarts to bite

This is where online video is beginning to tread on the toes of the “home video” market which has centered on physical media carriers over the last 20-30 years. From the user’s perspective the ability to play video content “on demand” (once the tape or disc is available) has been one of the defining criteria of the home video business. Online access extends this once unique capability into the world of electronically distributed content.

Proponents of disc-based business models are left with quality of experience as their one major advantage. The Blu-ray Disc standard was always intended to set a new benchmark in terms of not just video and sound reproduction, but also interactive features and content packaging. BD also makes use of online connectivity to support many of its more advanced capabilities.

While we are likely to see more and more examples of online video being offered by BD content producers, this type of functionality will evolve slowly over the next few years, as producers discover what audiences want and where new revenue streams can be developed.

In the near term BD must focus on its status of offering the best video experience, whether broadcast TV platforms or the internet, since it was designed to support 1080p video, the most demanding of all current commercially available formats.

Even this claim, however, is now being questioned by online video providers. For the last few months, Akamai, in partnership with Verizon and a number of content providers including the BBC, has been offering 1080p video content to visitors to www.thehdweb.com. The quality available to each user depends on their “last mile” connection speed, but where at least 7.5Mbps bandwidth is available, the service gives very good results.

Thehdweb is not a commercial service at present. Its objective was to demonstrate that the internet is capable of delivering the best possible video quality to end users. Akamai’s intention, of course, is to demonstrate the superiority of its own Content Delivery Network (CDN) technology. CDNs have proliferated in recent years as internet media has exploded, and Akamai is the undisputed market leader.

Inevitably, there are many observers who dispute the suitability of the CDN approach for delivering online video for mass market consumption. They argue that, while CDNs have been able to support high quality video streaming to a restricted number of users, the approach becomes unworkable when audiences reach hundreds of thousands or even millions of simultaneous viewers. CDN supporters counter that the technology could indeed support such levels of demand given sufficient investment.

Such arguments are likely to reverberate until the moment when an online video “event” successfully reaches millions of simultaneous users. Live online coverage of this summer’s Beijing Olympics will be widely and internationally available, and will provide a useful test of the internet’s maturity in delivering media to mass audiences.

Physical media not dead yet

Strategy Analytics estimates that total global revenues from online video reached $2bn in 2007. Half of this revenue was generated by web video commercials, and a further 6% resulted from public service broadcasting investment in web distribution. The remainder was split between electronic sell-through (EST) and video downloads (around $500m) and digital rental or download-to-rent (just under $400m).

We project that revenues from all these segments combined will reach $4.7bn in 2008, and $17.1bn by 2012. But it is the digital online segments that are the direct alternatives to traditional disc and cassette based businesses. Revenues from digital sell-through video (download-to-own) are predicted to reach $2.1bn by 2012. But we expect content owners to put greater emphasis on online rental business models, so revenues from this segment will reach $5.9bn by 2012.

Meanwhile, we project that the video disc business be stabilised by the introduction of Blu-ray, but that this is not likely to last more than a couple of years. Worldwide revenues from sell-through and rental disc and cassette businesses have in fact been in decline since 2004.

Growth in DVD revenues has slowed considerably and has failed to compensate for the rapid decline in VHS, which is now more or less finished. We estimate that revenues from traditional home video formats fell from $57.1bn in 2004 to $54.5bn in 2007. Total revenues will continue at this level until 2009 before resuming their long-term decline once again.

Much of the online video content, such as TV shows and movies, will also be offered in disc formats. Disc proponents will argue that they have one other crucial advantage over online delivery: the appeal of disc ownership. However attractive online video may seem, it can never completely replace the desire to own and keep a personal copy and be able to play an unlimited number of times, in theory at least.

This sense of personal ownership has also been an inherent part of the value proposition of home video, and content owners will continue to encourage it as long as it provides such a significant portion of their revenues. This is certainly one of the aims of the studios’ support for Blu-ray.

In spite of the Akamai trial, the quality of online video today for the vast majority of internet users continues to fall well short of anything that DVD, never mind BD, can offer. And this is likely to remain the situation for some years to come.

I have concentrated so far on the phenomenon of “over-the-top” video services which are independent of the broadband access service provider. There are another type of services often referred to as Internet Protocol TV (IPTV), although this term is more commonly applied to “managed” IPTV services delivered by broadband service providers (BSPs) to the user’s TV set-top box.

These are also an emerging success story, and can clearly also offer a competitive threat to disc-based businesses. In many ways, in fact, it is the IPTV services from BSPs that have an advantage in meeting the quality benchmarks set by disc platforms, since the BSPs have a great deal of control over the performance of the IP network and can prioritise delivery of high quality IP video and television to particular users.

Finally, it is worth mentioning the games console, a device not normally associated with the home video business, but that is rapidly changing. The latest platforms from Microsoft (Xbox360) and Sony (PS3) were built to support video downloading and streaming, and Microsoft is already claiming great success for its HD movie download store on the Xbox Live service.

Faced with the emergence of so many new and competing alternatives it is tempting to assume that a platform – optical media – whose roots go back to the 1970s and beyond has little chance of survival. As we have seen so often in the past, however, the question of technologies “replacing” each other is often a mistaken proposition.

Content owners want to maximise revenues, and supporting multiple distribution platforms and business models is likely to remain a fundamental aim. As long as disc platforms continue to offer superior quality, content security and consumer appeal they are likely to play an important role in content owners’ overall strategy.

As the capabilities and spread of broadband networks continue to expand over the medium term, we believe that DVD and Blu-ray will remain key elements in content distribution strategies through most of the next decade.

There seems little doubt, however, that in the longer term online distribution is likely to dominate the video industry. As broadband connection speeds increase, wireless connectivity spreads and connected devices proliferate, users will increasingly experience a world in which any content they currently wish for is quickly and easily available.

Major DVD retailers such as Netflix are predicting the eclipse of discs within five to ten years, and it would be a brave crystal ball gazer that foresaw a prosperous future for disc-based business models much beyond 2020.

So make a note of the date in your digital calendars: 17 August 2032, CD’s 50th anniversary. Prepare to clamber up to the attic, dust off your disc collection one last time, and just pray your old Blu-ray Disc player is still working. It will be worth it, just to see the expression of amazement on the grandchildren’s faces as you play the disc again and again without so much as an internet connection anywhere in sight.


David Mercer is Vice President, Principal Analyst of the Digital Consumer Practice at Strategy Analytics. He has 20 years experience in analysis and consulting within the digital consumer broadband and media industries. David has worked with major global players across the value chain. He is widely recognized as an authority on advanced television, emerging consumer technologies and the broadband home. dmercer@strategyanalytics.com...

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