Thanks to books like the Innovators Dilemma it is now an oft repeated bit of business lore, especially within the technology industry, that you should kill your cash cows before two guys in a garage do it for you. The skeptic in me suspects that this bit of industry truism is part of The Halo Effect at work. People have sought out examples that confirm this statement and ignored the hundreds of counter-examples that show how dangerous this kind of thinking can be to a business.
Recently I wrote a blog post entitled Arguing Intelligently About Copyright on the Internet which addressed some of the most common anti-copyright arguments you see on the Web on sites such as TechDirt. Mike Masnick of TechDirt, took umbrage at my post and followed up with a comment to my post as well as a TechDirt article entitled The Grand Unified Theory On The Economics Of Free. In the article, Mike Masnick makes a number of assertions that are similar to the truism around killing your cash cows.
Mike Masnick writes
First off, and this is key, none of what I put forth is about defending unauthorized downloads.
I don't download unauthorized content (never have) and I certainly
don't suggest you do either. You may very well end up in a lawsuit and
you may very well end up having to pay a lot of money. It's just not a
good idea. This whole series is from the other perspective -- from that
of the content creator and hopefully explaining why they should encourage people to get their content for free. That's because of two important, but simple points:
If that first point is explained clearly, then hopefully the second
point becomes self-evident. However, many people immediately ask, how
is it possible that giving away a product can guarantee that you've
increased your market size? The first thing to understand is that we're
never suggesting people just give away content and then hope and pray
that some secondary market will grant them money. Giving stuff away for
free needs to be part of a complete business model that recognizes the
economic realities. We'll get to more details on that in a second.
- If done correctly, you can increase your market-size greatly.
- If you don't, someone else will do it correctly, and your existing business model will be in serious trouble
As a business, increasing your market size is nice but maintaining your profits is even nicer. If you have 200,000 customers and make $80 profit per customer, would you be interested in doubling your customer base while making $20 profit per customer due to lowering your prices? The point here is that simply increasing the size of your market or the number of your customers does not translate to increasing the business's bottom line. As for the second point listed above, healthy paranoia is good but it shouldn't replace good business sense. After all, the list of successful fast followers includes some of the biggest companies in the world. If it worked for Google and Microsoft, it can work for your business.
Mike Masnick also outlines his business advice for purveyors of
intellectual property digital content which is excerpted below
So, the simple bulletpoint version:
You can apply this to almost any market (though, in some it's more
complex than others). Since this post is already way too long, we'll
just take an easy example of the recording industry:
- Redefine the market based on the benefits
- Break the benefits down into scarce and infinite components.
- Set the infinite components free, syndicate them, make them easy to get -- all to increase the value of the scarce components
- Charge for the scarce components that are tied to infinite components
What the band has done in this case is use the infinite good to increase the value of everything else they have to offer.
- Redefine the market: The benefit is musical enjoyment
- Break the benefits down (not a complete list...): Infinite
components: the music itself. Scarce components: access to the
musicians, concert tickets, merchandise, creation of new songs, CDs,
private concerts, backstage passes, time, anyone's attention, etc. etc.
- Set the infinite components free: Put them on websites, file
sharing networks, BitTorrent, social network sites wherever you can,
while promoting the free songs and getting more publicity for the band
itself -- all of which increases the value for the final step
- Charge for the scarce components: Concert tickets are more
valuable. Access to the band is more valuable. Getting the band to
write a special song (sponsorship?) is more valuable. Merchandise is
The implicit assumption that Mike Masnick makes here is that losing the profits from cheaply copyable and easily distributed digital content will be made up by selling goods and services that is related to the digital content. I am highly suspicious of the theory that replacing the profits CDs, digital music and ringtone sales with the profits from increasing concert ticket prices ends up being a net positive for successful musicians. The key reason for this is that, there are physical limits on how many concerts a band can have or how many people can attend in a given location but such limits barely exist with regards to distributing digital content.
A concrete example is comparing the relative profits of the proprietary software companies with the Open Source software companies. In a recent blog post entitled The 'we win by killing' days are passing Tim O'Reilly wrote
1. Pure open source software businesses are orders of magnitude less
profitable than their closed source brethren even as they close in on them in
terms of the number of customers. (Compare Red Hat and Microsoft, MySQL and
Oracle.) Meanwhile, companies built on top of open source but with new layers of
closed source (iconically, Google) are building the kinds of outsized profits
that once were the sole province of old style software companies. As growth
slows, as it inevitably will (even if it takes another decade), these companies
too will seek to maintain their outsized profits.
2. Outsized profits come from lock-in of one kind or another. Yes, there are
companies that have no lock-in that gain outsized profits merely by means of
scale, but they are few and far between.
The experiences of the software industry seem to contradict Mike Masnick's diagnoses and recommendations for the music industry. Giving away your most valuable asset and hoping to make it up by selling peripheral services and add-ons is more likely to destroy your company than become your redemption.
Counter arguments welcome.