Removing the Middleman, part 1

"The first thing we do, let's kill all the carriers."
--Henry VI Part 2, as performed by the Silicon Valley Royal Shakespeare Company

I want to let you in on a little secret: the company most disliked by people in Silicon Valley is not Microsoft. It's not Google either. And no, it's not Intel, Apple, eBay, or even SCO.

Don't get me wrong, there are plenty of people who want those companies dead, but even the hostility toward Microsoft at the peak of its power pales in comparison to the contempt that people in Silicon Valley reserve for the companies that own the pipes: the carriers, networks, publishers, and content distributors who deliver entertainment and communication to consumers.

Most of the nastiness is expressed in private conversations in hallways and restaurants, but occasionally a bit of it boils over into public view...

"Carriers haven't been hot-houses of innovation, they've been charnel houses."
--Nathan Torkington of O'Reilly Radar

"The post-millenium world’s biggest adversity is the monopolistic control over the broadband pipes in many countries including United States."
--Om Malik of Business 2.0
(Silly me, I thought it was terrorism or maybe global warming.)

"It's amazing how the labels always seem to come up with new ways of screwing artists: if they're not cheating them out of royalties, they're systematically alienating their fan-base."
--Author and commentator Cory Doctorow

"Apple's never been very good at going through corporate orifices in order to get at the end users. And if we can't do it with 500 companies, you can imagine it's even harder when there are only four."
--Steve Jobs, on selling products through the US operators.
(Everyone in Silicon Valley knew which orifice he meant.)

Why's there so much "negative energy?" There are cultural disconnects and lingering bitterness over business deals that went bad during the bubble years, but the main issue is that the pipe companies are just plain in the way of what Silicon Valley wants to do.

For example:


No recording of digital radio. The music industry is lobbying for legislation that, if I understand it correctly, would:
--Prohibit recording digital radio broadcasts (satellite or terrestrial) in less than half-hour chunks.
--Prohibit recording digital radio based on any user preferences, including artists, genres, and song titles.
--Prohibit disaggregation of the recordings (ie, cutting out the commercials).
--Prohibit any recording at all onto any removable media or digital outputs.

Basically, it not only prohibits any TiVo style services for digital radio, it also bans almost any practical recording of digital radio.


High pricing and limited availability of eBooks. Ebooks are much cheaper to produce than printed books. An ebook doesn't have to be printed, distributed, stored on a shelf, or returned if it doesn't sell. Despite these savings, and their potential to make books available to more people, the publishing industry doesn't make many best-sellers available as e-books until they have been on the market for a while. For example, I just checked the NY Times hardcover bestseller list, and I couldn't find any of them on eReader.com, which claims to be the world's biggest ebook store.

Even when books are made available, most of the publishing industry insists that ebooks have to be sold for virtually the same price as printed books, even though they are massively cheaper to produce. Check out these books that were featured on the home page of eReader:

SuperFoods HealthStyle
Print price: $16.47 on Amazon
ebook price: $17.96 on eReader

Star Wars: Dark Nest, Book 2
Print price: $6.99 on Amazon
ebook price: $6.64 on eReader

The Five Lessons a Millionaire Taught Me
Print price: $10.17 on Amazon
eBook price: $8.54 on eReader

As far as I can determine, the publishers' main motivation for doing all of this is to protect the current book sales channels. The publishers are also afraid of ebook piracy. I think most of them would be happier if the whole ebook concept just went away.

That's good news for the Barnes & Nobles of the world, but it cripples the adoption of ebooks. Consumers want to read what's popular now, and they rightly ask why they should pay the same price for a digital copy as they pay for a tangible object. In 1999 I worked for SoftBook Press, an e-book company. This issue helped to drive them out of business.


Mobile phone companies: paternalism and slow innovation. The mobile phone industry is notorious for trying to create "walled gardens," tightly controlled collections of content and services for which they charge substantial fees. They tend to put obstacles in the way of open, unlimited access to the Internet, and are much slower to enable new services than Web companies are. I've had some mobile software developers tell me they were forced out of business because their funding ran out before the operators gave them permission to operate.

There are sometimes good reasons for the operators' caution – they've been burned by a lot of failed data services (can you say WAP?), and they're afraid rogue software might somehow attack and destroy their networks. But the feeling among many tech companies is that the operators are using this as an excuse rather than actually trying to solve the problems. They believe the security fears are just a smokescreen for trying to extract more money from users and software companies. After all, the world's ISPs have managed to live with open access over phone lines and cable networks for years, and nobody's network has been destroyed.

The operators are also seen as paternalistic toward users. I have vivid memories of a meeting with a major US operator in which we discussed the fact that a very popular phone in Europe had low sales in the US. I cited that as an example of how different the markets are around the world. "Oh, no, I can explain that," the operator replied. "We don't like that company and we won't let them sell their phones here."

That attitude, in which the operator does the thinking for the customer, is incredibly uncomfortable to most Silicon Valley companies. They are used to selling directly to end users, and don't want to work through anyone else (thus Steve Jobs' comment about "orifices"). They want the operators to be neutral providers of all products and services, enabling customers to make their own product decisions. That's the way the wired Internet works, and Silicon Valley wants the same thing in wireless.


Differential pricing on broadband. BellSouth and a number of other ISPs are starting to talk about charging websites for priority delivery of high-speed data. Aside from all the hostility this is generating among users who already paid for high-speed service, such a fee on high-speed delivery is seen as a barrier to small companies creating new data-heavy services. Such companies are often the most innovative, so this could have a chilling effect on Web innovation. As US chief justice John Marshall put it, "the power to tax involves the ability to destroy."


Those are just a few of many, many, many examples. Taken together, they are creating an almost endless appetite in Silicon Valley for business plans that feature the destruction of carriers and content publishers, even if the plans are longshots. For example, I think a lot of the enthusiasm around here for WiFi and VOIP is driven by a visceral hope that someone will find a way to use them to bring down the phone and cable companies.

From what I hear, most of the pipe companies hate and fear Silicon Valley right back. Here's a nice article from the LA Times on Hollywood's paranoia about Google.

I'm not trying to say either side is inherently evil. The industries just have different histories, perspectives, and interests. They don't see the world the same way, and they want different things. It's fair to ask if they might be able to learn to cooperate over time. Can't we reason together? Can't we find a common ground? Can't we all just get along?

Nah.

This isn't just a misunderstanding, it's a collision of market forces. It's going to be a fight to the death, or at least a fight to the severe disabling head wound. No amount of diplomacy can change that. Besides, I think it would be wrong to try. If we simplify the pipes in the right way, I think it would be a big benefit for consumers, for content creators, and for the economy as a whole.


The problem (and the opportunity)

Over the years, a series of elaborate, multi-step business mechanisms have evolved in order to move entertainment and communication from creators to consumers. (Books, for example, go from authors to agents to publishing houses to printers to bookstores to readers.) Those systems all have three things in common. First, in most cases, the vast majority of the money paid by the consumer is absorbed by middlemen rather than the content creators. Second, the middlemen view their points of control as entitlements, and will fight like rabid wolverines to keep them.

And third, the Internet and new technologies create potential mechanisms to break their control, radically simplify the distribution chain, and enable a much higher percentage of the total revenue to flow back to content creators.

Today there's intense interest in some of the benefits we could get from new distribution channels. For example, the Long Tail weblog is focused on how new forms of distribution can make it economically viable to create content for narrow vertical markets (the "long tail" at the end of the demand curve).

But many of the ideas aren't new. The late Peter Drucker once predicted that electronic publishing was on the verge of making magazines obsolete.* Today, 28 years after he made that prediction, electronic publishing is still on the verge of making magazines obsolete. This is typical of much of the analysis of new content channels – it tends to focus on the benefits and gloss over the process of getting from here to there. We assume the benefits are so compelling that it'll just happen. But in my experience the real world doesn't usually work that way. If you dig into the details, there's usually a tipping point that combines economic models, new technology, and new business infrastructure that must be created before a new channel takes off. If any element is missing, the transition never happens at all.

The barriers are very different in each industry, which means the pipes won't all change at once, and some of them may not change at all. To figure out what needs to be done, you have to look at each case individually.

That's what I plan to do over the next few weeks. The first one I'm going to cover is music.

(Sorry to leave you hanging, but if I try to write this thing all at once I won't post anything until March.)

__________
*Adventures of a Bystander, Peter Drucker, 1978. If you don't already have this book, you should get it. Then check out the chapter on Henry Luce.

20 comments:

Marek Pawlowski said...

Very interesting article Mike. I think your views on the the 'cultural' differences which can sometimes derail relationships between carriers and prospective partners are particularly insightful.

However, do you think the dynamics of the mobile environment have a fundamental impact on the suitability of the 'open access' model you describe? Personally I'd like to see as wide availability as possible of all services, but I wonder whether the constraints of the mobile environment make that impractical. Do the user interface constraints of mobile devices and the huge differences in screen sizes, software capabilities etc... necessitate a role for carriers in ensuring consistent service quality?

When I think about this issue, one of my key concerns is customer support. Most users look to their carrier as their first point of contact when they experience a technical problem, regardless of whether it is a handset fault, a network issue or an application problem. Carriers concerned with maintaining good customer perception must either support third party applications themselves or have total confidence in the ability of their application development partners to do so. Either way, the carrier is forced to adopt a 'paternal' role of sorts, regardless of whether the object of their filial focus is the end customer or the partner company.

Michael Mace said...

Hi, Marek.

Excellent question, and this is an example of why I had to break this post into a bunch of parts.

You're right that the operators often end up doing the first-line support on a smartphone, and they *hate* it. I had a meeting with a major European operator once where they railed on about how they no longer cared about ARPU (average revenue per user). What mattered now was AMPU (average margin per user), because they were taking so many support calls from smartphone users that they were losing money.

The trick is trying to solve that problem while not throttling innovation, and I'm not sure heavy operator control is the best answer. Another answer might be that you just don't market smartphones to novice users (which this particular operator was doing).

This is the sort of issue I want to dig into when I get to the wireless operators part of the "middleman" series. Right now the lineup looks about like this: I'll cover music next, books/magazines, video (movies and TV), and then wireless. But that may evolve.

Thanks for making an important point.

Mike

David Beers said...

I like where you're going with this, Mike. I'm particularly eager to hear your thoughts on breaking open the wireless data channel. Just blogged you here. (poor man's TrackBack!)

Bob Russell said...

Excellent post! I was not aware of how strong the frustrations ran at executive levels, and I had thought it was more a consumer/hobbyist level frustration. The pipe owners are definitely now set against almost everyone else, but have tremendous power with politicians because there is a lot of money at stake and controlled by just a handful of interests that are willing to exert political pressure (and "bribes", i.e. support) to find aid in areas like legislation, for example, which is so important in determining the future role of the pipe owners. I suppose I should have realized that if the Pipe Owners are obstacles to what consumers want, and increase costs to get what they want, then surely all the companies working to serve the consumer are in the same boat.

One thing I wonder about, though, is whether or not the reasonably priced and unlimited usage of a network is supportable. Will network technology grow fast enough to outpace usage technologies? I doubt it because there will always be dramatically increasing demand for bandwidth. I suppose you could manage that by keeping unlimited usage and manipulating bandwidth available for a particular connection, only guaranteeing a certain minimal throughput. But I think the network capacity and costs may put a crimp in our low priced unlimited network service.

And one has only to look at what happened to the intenet pipe owners to understand how desperate the carriers and other industries are to control access and content on their terms, rather than just be the pipe. Internet network providers have become a commodity, and no one wants to have that happen to their own industry. One could see the mobile carrier network with the same fate if they didn't have so much control of the end points (the mobile devices). Unfortunately, for the public good, the consumer needs to see their network as a commmodity, not as a private network with complete controls on how it's used and how charges are applied. It needs to be opened up, but I don't see it happening. Any closed solutions become obstacles to us, but a lifeline to the ability for carriers to enjoy larger revenues. Lawmakers should keep that in mind in finding a balance.

So it's all about keeping revenue and pipe owners see low cost and unconstrained transfer of content and supply of services to be diametrically opposed to their own control of how content and services are provided and sold. Pay per view promises much more revenue than content sold to be freely used however desired by the consumer.

It's an infinite stream, and for example, with a song, they can either sell it once for a dollar or two, or they can sell it over and over each time the technology changes or the supplier of the song disappears or even if the consumer wants to listen in a different way.

Eventually between the carriers and the song content providers, they could even charge each time you listen to a song and charge different amounts based on where you are and what time you want to listen. Heck, they could even charge different amounts based on what volume level you choose, or how big your speakers are!

Unfortunately, I don't see the political power of Silicon Valley and consumers growing at nearly the rate you would expect with what is at stake for the public good. There are organizations like the EFF and the OSS movement is growing and consumers are starting to realize a very little bit that the music and recording industry is turning into the villian in this story. But despite some movement, I don't really see any need for politicians to turn away from the pipe owners. The pipe owner message is louder and clearer, and people seem to accept it as the way things are. We have a paradigm that has been created artificially and that's something that's hard to break. There are a lot of big precidents being set like with regard to home recording of digital content or the infamous broadcast flag or even law to require specific DRM support in devices. And even a few older paradigms like the BetaMax decision are being broken and are at risk. And in all of this, I only see the consumer losing power and the concept of fair use is dying.

It's clearly a big issue even if the average person on the street doesn't realize it yet. Eventually they might, but it will be too late. The foundation of the future is being set right now. Okay, sorry for the long commen. I'll stop. :) But I do believe these issues are critical to the quality of entertainment, quality of life and quality and cost of basic services to the average person, and I'm excited to see how you've given a whole new perspective on it.

You have an amazing knack for writing in a way that makes one step back and think in a new way about familiar subjects, and very often give the reader the feeling of how you've hit the nail right on the head! Keep up the great work!

Michael Mace said...

Hi, Bob. No need to apologize for the length of a comment when it's a good one (and yours is). I want to think about your points some more, and I'll take them into account when I get to the "removing the middleman" post on the wireless operators. Right now I'm still struggling to finish the music one.

Good stuff. Keep up the comments.

Mike

Anonymous said...

Mike,

Do yourself a favor and go do some reading on the history of technology before you go any farther down this path.

The whole idea of control of distribution channel is ancient.

Everytime someone comes up with a new distribution channel, people predict that it will solve the problem.

This is where you cue "Won't get fooled again." (Meet the new boss, same as the old boss.)

Michael Mace said...

Anonymouos wrote:

>>Do yourself a favor and go do some reading on the history of technology before you go any farther down this path.

Too late, I already wrote the second part. But if you want to suggest any specific things to read, I'm all ears.


>>The whole idea of control of distribution channel is ancient.

Sure, it goes back to at least Gutenberg.


>>Everytime someone comes up with a new distribution channel, people predict that it will solve the problem. This is where you cue "Won't get fooled again." (Meet the new boss, same as the old boss.)

Not at all the same, in my opinion. Fifteen years ago, when I had my own software company, we distributed software by copying it onto floppy disks and sending them through the mail. The system was slow, expensive, and unbelievably hard to manage if you had a lot of titles (I had over 30).

Online distribution is a massive improvement. There's still work to be done on billing and some other aspects, but there's no way I'd say the new boss is the same as the old boss.

Marty Fouts said...

The last post was anonymous because I didn't have the time to create a blogger account. But now that I have one:

Do not be confused by the fact that the cycle is currently in the direction of cottage industry. It cycles back and forth from cottage industry to conglomeration over time, and to those who know where to look, there's evidence that it's starting to cycle back the other way, for instance the arguments that the rbocs are making about reintroducing tiering

For history of technology, I always recommend Connections and Shock of the New as starting points for new comers.

Anonymous said...

Michael, I'm one of the founders of peanutpress/Palm Digital Media/eReader. I find your assumptions (eBooks are cheaper than paper books to produce) incorrect, and therefore your conclusions ("the publishers' main motivation for doing all of this is to protect the current book sales channels").

Since you worked for SoftBook, I would expect you to know that the physical costs for a paperback around around a buck, and those for a hardback are about $2.50. Replace those with costs of data warehousing, multiple redundant servers, high-availability internet connections, etc. and you probably still end up with a savings, but it's not huge.

The vast majority of the cost of a book is associated with the risk a publisher takes in paying out a royalty, paying the editors, proofers, layout people, cover artists, advertising, and so on. Most book sales don't even cover that outlay; bestsellers recoup for the ones that don't break even. This has nothing to do with eBooks.

As someone who took peanutpress from an idea to a profitable company, I don't think that SoftBook's lack of success can be solely attributed to customers' reluctance to buy digital copies of books. Instead I'd point to SoftBook's target hardware and DRM.

There are many reasons that eBooks haven't taken off like a rocket (heh heh), but it is a growing and profitable business.

Lee Fyock

Michael Mace said...

Hi, Lee.

Thanks for the very interesting comment. I have enormous respect for the work you guys did at Peanut Press.

I'd love to ask you a couple of questions, if you don't mind. I tried to find an e-mail address for you on the web, but couldn't dig up anything current. Would you mind dropping me a note at my contact address listed here?

Thanks,

Mike

Anonymous said...

Mike, I dropped you an email. Sorry it took me so long.

Lee Fyock

Rajiv said...

Sorry for such a late comment. The backlog just got cleared!

The dislike of the monopolistic practices of the Telcos. and the Wireless service providers is universal. But then they have paid a large sum of money to ensure that they have the right to the spectrum. And if they want to protect their turf its only natural. The point they are stifling innovation is just a byproduct. It all stems form the fact that they were charged so much by the government to get to the pot of gold.

But they are not undefeatable. These practices have actually led to a lot of smart people ganging up against them. I refer specifically the researchers who are in the process of creating mesh networks. Mesh netwoking is the technology which has the potentially to disrupt all their grand plans. Just thinking about opportunities a mesh network stack on each handset is mindboggling. But then its a long shot.

The other way is to concentrate on emerging markets. The markets of Asia, Latin America and Africa are still in infancy. The opportunity there is enourmous. There the focus is not on controlling the pipes, but to enable mass adoptability. And thats an opportunity to get in innovation into the wireless space.

Michael Mace said...

Hi, Rajiv.

I don't think there's such a thing as a "late comment" on one of these posts. They're not exactly time-sensitive, and I'm finding that some of the discussions come back to life from time to time as people add new comments.

I wish Blogger had some sort of threaded commenting facility, so my visitors could see easily which posts have recent activity.

Anyway, I think you made good points. In addition to operators in emerging markets, I hope that the new MVNOs in the mature markets will be more open to innovation.

Gizmo Buddy said...

a interesting article; and I tend to share a lot of your views.

But I think a lot of your explanations and hence the conclusions are somewhat idealistic-- and apply mainly to mature markets- because with emerging/developing markets in countries where the legal system & political stances with regard to hi-tech themselves are evolving; a lot of variables come into play.

And I say this as someone whose seen markets in India, China and the Arab-world pretty closely-- tech and also in industries apart from tech.

The Hutch-Essar-Vodafone merger/demerger story in India (abt which I've blogged and for details of which you can google) is a case in point.

I'm refraining from commenting along a line of reasoning similar to Lee Fyocks- but ok; you can see where I'm coming from.

-G.B

Sanjay Bahl said...

---The mobile phone industry is notorious for trying to create "walled gardens," tightly controlled collections of content and services for which they charge substantial fees----

Michael ,

When websites are developed specifically for mobiles then wont the walled garden concept fade away?? the operators can't restrict internet access/web applications(mobile websites)?

Anonymous said...

Great article,

You could easily replace each instance of 'Silicon Valley' with 'consumer.' I have been expecting for some time that Skype or someone else would release what looks like a GSM cell phone but instead of using a normal GSM voice plan pretends to be a laptop PCMCIA card and uses a data only plan. This type of device could be beyond the reach of the telcos to control content. In other words the right device and we just go around the carrier except to get the data only sim. I would much prefer not to buy my device and subscription from the same company anyways. All the handset subsidies do is add on to our monthly and per minutes/or MB charges. The biggest hurdle seems to be latency on the 3g networks for streaming apps like VOIP. But I am not sure that the right PDA type device needs voice at all; Most of the blackberry/treo owners I know carry a seperate voice phone.

This brings me to another point. Max throughput speeds have been high enough for some time on the 3g nets. The much bigger issue that I have had(with verizon, sprint, and ATT/Cingular) is that there is no minimum guartenteed speed(it can get real slow) and much higher latency than typical dsl/cable. This is especially critical for on the go apps that are likely to gain popularity on phones/PDAs. If I am trying to look up the weather in an elevator I expect it to be up on my display and the phone back in my pocket before I get off. This is not nearly as important when I am sitting at my desk with multiple windows open. What I am getting at is that the telco is to be the middleman they should be tweaking there nets so that I do not have to wait so long. I do not think this is a max bandwidth issue but a latency one. I would love the operators to compete on who has the quickest reaction to a web page request.

Michael Mace said...

I agree with you completely, anonymous, about the latency on some mobile networks. It's amazing how quickly that can kill the pleasure of browsing or using a web app.

Robert Glick said...

I am not a communist and corporation's are going to hate me for suggesting this.

Wireless internet infastructure should be approached in the same way that traditional infastructure has always been. As a public service. Municiple WiMax for everyone.

That said it does put all the corps out of bussiness. Just a contracters lay the asphalt on our roads they would compete for contracts to build the open networks.

Also achieveing this does not mean it is all financed through taxes. I would certainly like to see a certain amout of open free access just as our sidewalks our free to walk on free of charge.

Our roads on the other hand require that our cars and truck be registered and we pay taxes on our gas that help upkeep. Trucks also pay taxes on the wqeight of there cargo.

Similarly a highspeed device could require an annual registration and website could have some sort of volume based tax; although I would like to see lots of tax free exemptions for educational services, etc.

Now it is permited to use the public streets to purchase pornagraphy, etc. Therefore there should be no rescrition on use of public IP pipes for similar purposes.

Certainly private companies should be welcome to offer there own competive networks; perhaps even with free of charge spectrum. But the public network should be so good that very few feel the need for the enhanced servives of a private network.

Once this is implimeted in one nation it will become so apparent of the benfit it is giving to society that it will spread to most of the world.

Where will this happen first? My guess is in a nation that has always had outstanding tradition infastructure and quality free healthcare and higher education. Any of the northwest european nations. Holland mabye? One of the scandanvian nations?

Anyways my point is that this is the tyoe of initiative that would eliminate the middle man once and for all.

Robert Glick said...

I was just thinking about my posting above and would like to add something to my vision of a perfect municipal WiFi/MAX network.

A low but very acceptable end user rate service would be provided either free or at a very low cost for any pupose personal or commercial.

A higher rate service for servers at fixed location would be provided at a similar free or low cost on the following conditions: no comercial advertising allowed and no sales of any type. This would be the cheap or free access I was thinking of for educational use, etc. This is very similar to classic public broadcasting rules.

All website that either have advertising or accept payment of any type that require the high end access would be on some type of paid link. This would be the prime source of financing; although I do believe that additional government subsidies would also be appropriate.

A small startup company without a large budget could either intially offer a free no ad service or intially go through the slower consumer channel until they have enough business to justify higher cost of the paid connection.

Michael said...

Thanks