Once again, Napster Inc. is taking on the big guns.
As a start-up, the downloading service sparked a public debate over music piracy and nearly brought the recording industry to its knees.
After a three-year battle with record companies that landed it in bankruptcy court, Napster, now based in Los Angeles, resurfaced last week as a publicly held company, once again providing listeners with unlimited music downloads.
This time, though, it has the industry's blessings. Gone are the free downloads; Napster's subscriber-based format deals record companies a legitimate cut of royalties.
But even under new management, Napster relishes the underdog role. Its sights are on Apple Computer Inc., which has used Napster's absence to establish its iTunes Music Store and iPod device as the dominant players in the emerging market for digital music downloads.
ITunes claims a 70 percent market share in legally downloaded music, and 2004 sales numbers through October gave iPod 92 percent of the portable MP3 player market, according to NPD Group.
Though Napster has not released subscriber numbers, Chief Executive Chris Gorog said the company expects to post revenues of $11 million in the third quarter that ended Dec. 31, with 70 percent of revenues coming from subscriptions.
"We are well on our way to being cash flow break-even," he said. "You have to look at it in the grand scheme this is a multibillion-dollar business over the next few years."
Taking on Apple
ITunes customers downloaded 4 million songs per week last year, at 99 cents per song, to their personal music libraries or to their iPods.
Napster, in contrast to Apple's per-song model, has been offering a monthly subscription service since November 2003: $9.95 per month gets users access to a 1 million-song catalog and unlimited downloading to their personal computers.
Its next trick will be introduced this quarter. Called Napster to Go, it is a $14.95 per month service that will challenge iTunes and the portable iPod directly.
The service sets up a choice for consumers, reminiscent of VHS vs. Betamax and Windows vs. Mac. Napster to Go's software isn't compatible with iPod, and iTunes won't work with MP3 players other than iPod. "If you want 10,000 songs on an iPod, it will cost you $10,000," said Gorog. "10,000 songs on an MP3 player will cost you $14.95 per month."
Napster's strategy involves a new crop of MP3 players becoming available this year. "When all the other non-iPod devices get out into the market, that will be the time," said Gene Munster, technology analyst with Piper Jaffrey Co., which has an investment banker advisory relationship with Napster.
Napster was acquired by Roxio Inc. in 2002, after it had filed for bankruptcy. Roxio, a maker of software for CD and DVD burning and digital photography, sold its consumer software division for $80 million in December to focus on online distribution of music. The company changed its name and began trading as Napster last week.
During this time, Apple has usurped Napster's lead in music downloading with iTunes and the portable iPod, which doubles as a fashion accessory.
Ipod's closest competitors are Singapore-based Creative Technology Ltd., which has 4 percent of the market, and Santa Clara-based Rio, a subsidiary of Japan's Digital Networks, with 3 percent.
"They're good products, but they've been kind of overwhelmed by the whole Apple marketing method," said analyst Stephen Baker of NPD Group. "But they're all pretty new. There's still time for any of them to get more traction."
Christopher Rowen, technology analyst with SunTrust Robinson Humphrey, agreed that the market is still open. He said there are no "lasting differentiators that are going to merit the kinds of profits Apple wants."
Napster uses Microsoft Corp. technology that is available to other companies in the industry and which could present an additional problem. "The risk is that larger, more well-financed companies could rise up and displace Napster or compete with Napster," Rowen said.
In September, Yahoo Inc. entered the fray, buying MusicMatch, a San Diego-based digital music software provider, for $160 million. The company has not announced any planned subscription service, but Virgin Entertainment Group, Wal-Mart Stores Inc. and Sony Corp. also offer digital music download services.
Gorog is unfazed, pointing to Napster's net cash balance of $130 million and talking about a planned advertising campaign. "We have proven access to capital markets, and we think we will have continuing access to compete with anyone," Gorog said.
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