The New Economics of Media

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					The New Economics of Media

Micromedia, Connected Consumption, and
          the Snowball Effect

                 Umair Haque
                 Spring 2005
Media 1.0: Mass Media
                Mass Media Value Chain
                    Producti               ng/   Distribut                     Attentio
     structur                                                     Retail
                         on           Marketi          ion                            n

•   6 primary value activities
     – Infrastructure
            • Technology
     – Content
            • Creativity
     – Marketing
            • What media is bought and sold
     – Distribution
            • Transport & logistics
     – Retail
            • Where and when media is consumed
     – Attention
            • Why is attention part of the value chain?
            • Most media markets are 2-sided markets: they coordinate consumption by
              advertisers and audiences
            • Attention is how we will refer to this coordination process
                 Two Sided Markets

                    Supply                                 Demand

Advertiser                              Media                                   Audience

                    Demand                                    Supply


        Supply coordinates demand on both sides of a two-sided market and
        sets equilibrium prices. Unlike in other markets, in the media
        marketplace, attention is a critical part of the value chain, because it is
        demanded by advertisers and supplied by consumers. On the other side
        of the two-side market, production is demanded by consumers and
        supplied (funded) by advertisers.
                  Media Orthodoxy

• The Media Industry’s First Law: attention is scarce
   – Is this accurate?
       • Attention has always been getting absolutely scarcer as media grows
       • But…
   – We’re interested in
       • relative scarcity along the value chain
       • marginal scarcity at large scale
   – Relative and marginal scarcity are what count economically…
       • …because they define the structure, dynamics and expected value of
         differing strategies in the media industry
• Is attention scarce?
   – Relatively…
       • …and at the margin?
   – It’s about to be
       • But it hasn’t always been…
                  Media Heresy

• In fact…
  – Attention has remained relatively abundant for many years
     • What!? How can we prove this?
     • By asking how great the risk of losing audience actually is
  – The real problem facing the media industry
     • A zero-sum game: media’s grown quantitatively and
       qualitatively, but attention hasn’t
     • Attention’s about to become relatively scarce (fast)
  – Let’s begin by rewinding
     • And examining a non-networked world of pure mass media
     • In order to understand how attention abundance has shaped
       industry dynamics…
     • …and led to the creation of core competences and strategies
       which become core rigidities and errors in a Media 2.0 world
             Attention Abundance

• Attention is directly unobservable…
   – …and traditional share-based metrics shed no light on relative
• But indirectly…
   – The industry’s actions reveal abundant attention
       • Following deregulation, network TV ad time per hour increased
         exponentially from 6:48 in 1982 to 12:04 in 2001
       • Similar figures for radio, newspapers and magazines (if we count
         ‘special supplements’ and advertorials)…
       • While production investment has increased linearly
   – Increasing ad time is equivalent to investing in attention
       • Because ad time is simply a marketing cost borne by players on the
         other side of the 2-sided market
       • The distinction between ad time and marketing cost is a figment of
         accounting – unimportant economically
             Attention Abundance

• What does hypergrowth of ad time tell us?
   – If attention was scarce, increasing ad time would be a dominated
       • …Because marginal revenues from advertising would be less than
         marginal costs of viewers lost to rivals…
       • …And so returns to investing in attention (increasing ad time) would be
         dominated by investing in production (higher quality programming) or
         infrastructure (creating a technological cost advantage)
   – In fact, attention has been relatively abundant at the margin
       • Intuition: buying attention via ads is cheaper than attracting it via quality
       • Proposition can only hold if attention isn’t scarce, since attention
         scarcity would increase marginal cost of lost viewers, offsetting
         marginal revenues from advertising
 Mass Media Resource Dynamics

• In a mass media world…
  – Downstream resources are scarce...
     • Distribution scarcity (Transport/inventory/broadcasting costs)
     • Retail scarcity (Spectrum scarcity, limited shelf/screen space)
     • Production scarcity (Infrastructure and human capital costs)
  – …and upstream resources are abundant
     • Attention isn’t scarce relative to other resources
         – Attention scarcity isn’t a driver of value creation, because barriers
           to media consumption are high
         – Limited supply of cinemas, radio stations, newspapers, tv
           channels, etc…
     • Implication:
         – Quality does not efficiently drive popularity…
         – …Because attention is cheaper than costly production,
           distribution, ideas, editing, finishing, etc…
   Mass Media Industry Structure

• Abundance is no surprise, given industry structure
   – Mass media businesses are cash cows…
       • …at least in a Media 1.0 world
       • Ask Warren Buffett (whose fav investment was local papers)
   – …because high entry barriers artificially or naturally limit rivalry
       • Broadcast media spectrum scarcity: auctions impose huge entry costs
       • Print media natural monopoly dynamics: average cost falls in circulation
   – So mass media players gain strong first-mover advantages
       • Which they use to acquire, pre-empt, or bankrupt competitors
   – Supply remains limited on both sides of the 2-sided market
       • For advertisers, prices rise: media inflation…
       • …Whose revenues are often used to drop prices on the other side of
         the market, and subsidize audience growth
   – Attention remains relatively abundant
      • Because total supply never grows…
     Mass Media Value Equation

• Mass media value capture is a function of…
   – Distribution and retail scarcity
   – Whoever controls these scarce resources…
      • Can exert market power along the value chain
          – …increase share and control how value is captured
          – Retailers and marketers achieve control via consolidation:
            acquisitions, partnerships, & alliances which realize
            economies of scale and scope in marketing
      • Retail & marketing control how value is captured
          – By leveraging marketing economies of scale and scope to
            control downstream resources, they can exert market
            power along the value chain
          – Canonical examples: vertically integrated Hollywood Studio
            System, major labels, broadcast networks 1950-1990
           Quality Doesn’t Scale

• The problem is…
  – At large scale, marketers and retailers have little incentive to
    invest in quality
      • Since production costs don’t realize scale and scope
        economies, but marketing and retail costs do
          – Production costs grow in output because risk accelerates
          – Example: films & records going ‘over budget’
          – Marketing costs decrease in output because risk decelerates
      • Returns dominated by production scarcity, not attention scarcity
          – Highest returns to player who can most efficiently allocate scarce
            production resources
  – What’s the profit-maximizing strategy?
      • Invest in attention, don’t invest in production
  – Unintended consequences:
      • Quality drives popularity inefficiently
          – Because attention isn’t scarce, but production is
 Marketing Cost Explosion
  Hollywood Nominal and Real Marketing Costs, 1981-2004

                               45               Real marketing expenditure has
                                                quadrupled, while real
                               40               production expenditure has only
                                                doubled: firms have
                                                cumulatively invested twice as
                               30               much in attention as production.
                                                Since this strategy has persisted
                               25     Nominal   for 25 years, investing in
                               20     Real      attention must realize superior
                                                returns to investing in
                               15               production.
                                                Why is this strategy dominant?
                                                In a mass media world,
                               0                producers realize marketing
                                                economies of scale and scope,












                                                and production diseconomies of












                                                scale and scope:
                           Popularity and Quality
                                           …Quality drives popularity hyperefficiently

                                                                                         Media 1.0

             Quality drives popularity inefficiently
The Blockbuster Effect
        The Blockbuster Effect:
     Downstream Scarcity & Strategy

• What’s the dominant strategy in a world driven by
  downstream scarcity?
   – Reuse the same expensive content across as many media
     as you can…
       • And price discriminate while you do it
           – Film release windows: Cinema, DVD, Video, TV, Ads
   – …And across as many market spaces as you can
       • Via tie-ins, promotions, etc…
           – Think Star Wars: happy meal toys, action figures, books,
              posters, t-shirts, breakfast cereal
   – Aka: Blockbusters
• Blockbusters are a strategy to maximize returns on content
   – By reusing and leveraging it to realize marketing economies
       • Most efficient allocation of scarce production resources
                  Mass Media Returns: The
                    Blockbuster Effect
                     Consumer goods tie-ins
                                                                  Motion picture revenues

        TV & Cable syndication

                                              DVD, VHS

                   The Blockbuster Effect
                   Example: Jurassic Park
                     Merchandising: $50m

        Syndication: $50m

                                            Video: $405m

                                      Box Office: $480m
         Blockbuster Economics

• Blockbusters are a natural result of mass media economics
       • Downstream resources scarce, upstream resources abundant
       • Which is why we see this strategy emerge in all mass media
   – How do we maximize expected profits of costly production?
       • Diversify risk by expanding revenue streams across scarce
         retail and distribution channels (in audience segments)
       • Price discriminate by cost of retail and distribution channels
         relative to total segment value
       • Marketers and retailers realize scale and scope economies via
         these tactics…
           – By reusing and leveraging marketing assets across segments
       • …Which are implicit ways to allocate scarce production
       • …by buying attention, which is cheaper than attracting it via
         investing in quality
           – Since attention is relatively abundant
    The Problem with Blockbusters

•   Buying attention: marketing economies hit diminishing returns
     – Each segment is less and less valuable and saturated faster
•   But since attention is cheap…
     – Rivalry to economize on production and invest in attention creates
       marketing cost spirals
          • Marketing wars between blockbuster marketers, each of whom thinks attention
            will be cheap
          • Prisoner’s dilemma: each is better off marketing less
•   …Quality erodes
     – As marketing costs spiral and relative production costs shrink
     – Where have we seen this dynamic?
          • Hollywood marketing cost explosion, major label sales declines, magazine
            subscription erosion…everywhere!
     – These unintended consequences are costless as long as attention is cheap,
       since quality does not drive popularity
     – But what happens if attention becomes more expensive…
          • …and returns to marketing decline?
                   Attention & Production Costs
                          at Large Scale
                  Production is cheaper than
                  attention                                                  Media 1.0
Production Cost

                                         Production and attention are
                                         equally costly

                                                            Attention Cost

                              Attention is cheaper than
                   Attention & Production Costs
                             in Rivalry
                  Production is cheaper than
                  attention                                                  Media 1.0
Production Cost

                                         Production and attention are
                                         equally costly

                                                            Attention Cost

                              Marketing cost wars make attention
                              increasingly relatively costly
             Attention & Production Costs
 At high levels of output, investing in
 attention is profit-maximizing…
                                                                                   Attention costs

                                                                                   Production costs

                                                                        …And investing in production
                                                                        is dominated

Why do attention and production costs scale differently? Marketing economies of scale
and scope are the result of leveraging and reusing content across distribution and retail
channels to achieve price discrimination and diversification of risk. Production scale or
scope economies aren’t realized because of high costs of contractual completeness,
which makes risk increase in output, and high technology costs.
             Attention & Production Costs
                                At low levels of output, investing in
                                attention is dominated…                           Attention costs

                                                                                  Production costs

Why do some media firms invest in
                                                              …And investing in production
production, and others in attention?
                                                              is profit-maximizing
Because the scale at which they operate
dictates different profit-maximizing
decisions about which inputs to invest in.
              Attention & Production Costs
         Production is more expensive
         than attention: invest in
                                                                          Attention costs

                                                                          Production costs

                                                      Marginal cost of production exceeds
                                                      marginal cost of attention

Media firms producing at different scales   Attention is more expensive
will choose different inputs. Small scale   than production: invest in
producers will invest in production, and    production
large-scale producers will invest in
attention. Hollywood vs Cannes…
          Media 1.0 Total Cost Function
The shapes of the attention and
production cost curves…
                                                        Cost of all inputs

                                               …create an S-shaped total cost

 The S-shaped total cost function means
large-scale producers are naturally more
   efficient than small scale producers,
 because attention costs diminish due to
 marketing economies of scale of scope.
           Marketing Spirals Erode Quality
         Marketing wars increase the
         cost of attention…
                                                                                   Attention costs

                                                                                   Production costs

                                                                ..Since production costs don’t
                                                                decline, production investment
                                                                declines: fewer production inputs
                                                                are used at equilibrium price

Marketing spirals act as an entry barrier. They raise attention costs, while marketing
Marketer and retailer consolidation realizes
economies of scale and scope are still realized proportionally (the flattening of the
economies of scope and scale in marketing.
green curve). The result is a shakeout and increased industry concentration,
Production scale or scope economies aren’t
because returns to attention remain high only for large-scale players. Quality erodes
as production investment is traded for marketing investment.
                          Popularity and Quality
                                         …Quality drives popularity hyperefficiently

                                                                                       Media 1.0

             Marketing cost spirals mean quality
             erodes as relative investment in
             production declines, and becomes
             even less correlated with popularity
        Mass Media Value Dynamics
In a non-networked media world, retail & marketing capture the
most value. Producers and distributors remain fragmented
because production returns don’t scale: they don’t realize                 n
significant economies of scale or scope by consolidating.

                 Producti      Distribut     Marketi                Attentio
     structur                                              Retail
                      on             ion         ng                        n

Marketing and retail returns do scale: by consolidating,
retailers and marketers exert power over downstream
resources by realizing economies of scale and scope in               Attentio
marketing and retailing, and power over upstream resources
by limiting media supply (and consumption choices).
       Mass Media Value Dynamics
Blockbuster strategies emerge due to the natural economics of          Attentio
mass media: production is costlier than attention, so the                     n
dominant strategy is to invest in attention (marketing cost
wars), and economize on production (quality erosion). The              Attentio
result is a smaller and smaller number of concentrated players,
who are forced to invest more and more heavily in marketing
as attention becomes scarcer.                                          Attentio

                 Producti      Distribut      Marketi                  Attentio
    structur                                                  Retail
                      on             ion          ng                          n

When attention is abundant and production, distribution, and            Attentio
retail are scarce, blockbusters achieve an efficient allocation of
scarce production resources, by supplying media valued the
most highly to the greatest number of consumers within each                    n
retail/distribution channel: mass media. The unintended
consequence is that quality doesn’t drive popularity.                   Attentio
     Media 2.0:
The Age of Plasticity
              The Age of Plasticity

• Media 2.0 is plastic
   – …atomized media be reshaped, remixed, tweaked, cut, split…
   – …and aggregated, filtered, distributed, delivered, stored…
   – …almost any way/to any time/at any place consumers prefer
• Plasticity makes Media 2.0 personal
   –   No clear distinction between professional and amateur media…
   –   …because all media can be unbundled/rebundled
   –   The distinction shifts from professional/amateur to mass/personal
   –   Media will be unbundled and rebundled at the personal (not mass)
        • Beyond narrowcasting, nichecasting – personal control over the ‘cast
• In an atomized environment, what becomes valuable?
   – What are the economic effects of plasticity?
        • Or: what does broadcatching really mean?
   – Let’s begin by understanding the economics of micromedia
              What is Micromedia?

• Micromedia is…
   – Media that can be consumed in unbundled microchunks…
       •   Microchunks of media unbundled from traditional media goods
       •   Blogs vs newspaper articles
       •   Tracks vs albums
       •   Vlogs vs network news
   – ..and aggregated and reconstructed in hyperefficient ways
       • Blogs, vlogs, podcasts, mp3 tracks, RSS feeds
       • Micromedia can be unbundled and rebundled for consumers…
             – EG Blog entries can be aggregated and reconstructed by topic
       • …to create orders of magnitude more value than mass media
   – Micromedia explodes media supply
       • The total quantity of media goods explodes
   – …And atomizes it
       • The average size of media goods shrinks
            Micromedia Drivers

• What drives the micromedia explosion?
     • And the shift from downstream to upstream scarcity?
  – Technology
     • Falling barriers to production
         – GarageBand
     • Unbundling: Falling barriers to distribution & retail
         – p2p, iTunes, BitTorrent, convergence of connectivity & platforms,
     • …And retail/distribution channel growth and fragmentation
         – Cinema vs VHS, DVD, VCD, MPEG
  – Regulation
     • Creative Commons
     • Fair Use (applicability grows in networked media)
  – Changing consumer preferences
     • The rise of connected consumption
     • The rise of peer production
       Media 2.0: The Long Tail

• Micromedia disrupts the media landscape…
  – Upstream resources become scarce and downstream
    resources become abundant
     • Value capture is a function of attention scarcity
     • Retail and distribution are not drivers of value creation,
       because barriers to media consumption are low
         – Unlimited supply of tv channels, newspapers, radio stations,
           everything over IP, etc
         – Retail and distribution aren’t relatively scarce
         – Hypertargeted, microdifferentiated content is valuable
  – New market spaces emerge to control how value is captured
     • …which will be won by players who can realize economies of
       scale and scope in production or distribution (not marketing) to
       efficiently allocate scarce attention
               Media Hyperdeflation

•   What are the consequences of the micromedia explosion?
•   As micromedia explodes supply relative to demand, equilibrium
    prices fall
     – Production, distribution, and retail become relatively abundant…
     – …And attention becomes relatively scarce
         • Consumers can afford to consume greater quantities of smaller chunks of media
     – Assuming demand for media goods is relatively inelastic…
         • Or: falling prices don’t command proportionally more attention
         • Or: media spending/discretionary spending stays stable
              – As it has been for the last 20 years…
         • And assuming industry cost structures don’t adapt…
     – …Average returns fall
         • Where are we seeing the beginnings of media deflation? Everywhere
         • Falling ad revenues across mass media, falling circulation in newspapers, etc
     – Where does the value go?
         • It’s appropriated by consumers, who can consume more media more cheaply
         • Unintended consequences: this creates a further incentive for average quality to
           remain low
                  Attention & Production Costs at
                            Large Scale
                  Production is cheaper than
                  attention                                                  Media 1.0
Production Cost

                                                                             Media 2.0
                                         Production and attention are
                                         equally costly

                                                            Attention Cost

                              Attention is cheaper than
             Attention & Production Costs
 At high levels of output, investing in
 production is profit-maximizing…
                                                                                 Attention costs

                                                                                 Production costs

                                                                       …And investing in attention is

Value shift: in a Media 2.0 world, producers realize production economies of scale and
scope in production, and marketing diseconomies of scale and scope. Attention
becomes more expensive than production, because technology vaporizes production
(distribution, and retail) costs, exploding media supply (relative to a mass media
world, where media supply is fixed), which creates intense rivalry for attention.
      Strategy Decay: The
 Consequences of Hyperdeflation
• What are the consequences of these economics?
• Media 1.0 strategy decay…
   – The blockbuster and all other dominant Media 1.0 strategies fail in
     a Media 2.0 world
• Why?
   – Blockbusters are a strategy to realize marketing scale & scope
   – Which is dominant because cheap attention makes marginal
     returns to marketing more attractive than marginal returns to
   – But blockbuster marketing costs increase in rivalry, because rivalry
     accelerates attention scarcity
   – Attention becomes more expensive than production, and returns to
     marketing erode
   – Implication: marketing costs for blockbusters will explode and
     returns will implode, as micromedia explodes media supply and
     accelerates rivalry
         The Blockbuster Effect & Media
                     Consumer goods tie-ins
                                                                  Mass media revenues

        TV & Cable syndication
                                                                  Hyperdeflated revenues

                                              DVD, VHS

                    Value Shift and
                    Strategy Decay
• More simply…
       • As competition explodes for attention from newer, cooler, hotter
         content, attention becomes relatively scarcer, so marginal marketing
         costs don’t diminish in scale, but begin to increase in scale instead
       • Or: price of media falls in a hyperdeflationary environment, which
         means costs must fall or margins must erode
• Even more simply…
       • As attention becomes scarcer, it becomes more costly …
       • …and so economies of scale and scope in marketing erode because
         returns fall
       • …while production becomes more abundant and less costly, and so
         can realize greater returns
• Value shift:
       • Media 2.0 dominant strategies are based on economies of scale and
         scope in production, distribution, and search
       • Which can realize superior returns to relatively abundant and cheap
         production resources by efficiently allocating scarce attention
A Quick Review
        Media 1.0 Supply & Demand

            Inelastic demand…



                        …And inelastic supply mean media
                        spending stays stable as % of GDP
        Understanding Media 2.0 Demand




                   The Long Tail: cheap information shifts
                   demand outwards by the value of
                   distribution and search costs saved
        Understanding Media 1.0 Supply

                                           Indie record labels


                                                                Clear Channel

                                 Aggregate supply curve is


                …because ownership of scarce production,
                distribution, and retail resources creates
                increasingly inelastic firm supply curves
         Understanding Media 1.0 Supply

                                                          Attention costs

                                                         Production costs

Because attention costs are
relatively low, returns to    …production costs dominate attention costs,
marketing are economical,     because content, production, and retail
and marketing wars occur      resources are scarce, and attention is abundant
        Understanding Media 2.0 Supply

                bloggers   podcasters


                                                  Aggregate supply curve shifts


                …Micromedia supply curves are more inelastic
                than traditional media, because of
                hyperspecialization. Exampe: bloggers
                      Understanding Media

        Micromedia explodes media
        supply more than cheap                                Supply
        information shifts demand


                                    …and the equilibrium price of media
                                    falls: media hyperdeflation
                    Understanding Media 2.0
                      Returns & Scarcity

        Micromedia explodes media
        supply…                                                       Production costs

                                                                      Attention costs


  …attention costs dominate production costs,                      …Marketing wars
  because technology ends production,                              become uneconomical
  distribution, and retail scarcity, and so attention              because returns to costly
  becomes relatively scarce…                                       attention are low
  Media 2.0 Models:
Aggregators, Platforms,
 and Reconstructors
Understanding Micromedia


Microchunk   Microchunk   Microchunk


  Entry         Entry       Entry


  Track        Track        Track


 Snippet       Snippet     Snippet
              New Market Spaces

• Who fills the new market space…
   – …to efficiently allocate scarce attention resources?
• Some old (failed) candidates
   – The Portal
   – Push (eg PointCast)
   – Interactive TV
• Some new candidates:
   – The PVR and EPG
   – The Personal Server
   – The Feedreader
• A jumble of models referred to as
   – The Aggregator
       • Two more are emerging: Micromedia Platforms and Reconstructors
    The Aggregator vs the Aggregator

• What is aggregation?
   – ‘Rebundling of content from fragmented platforms & formats,
     repurposing, & delivery across new platforms & standards’
• Does this create value in terms of allocating scarce
   – No!
• Dumb aggregation is a value destroyer
   – The economics of dumb aggregation are about achieving market
     power via scale economies in syndication
   – …Scale economies in syndication will become less and less
       • Due to open standards (eg: RSS, Ogg)…
       • Exploding the size of the mediaverse…
       • Massively raising search and transaction costs
            – How do I find cool new music? Google doesn’t help…Bloglines helps a lil bit
   – Value captured is a function of efficiently allocating scarce
       • …dumb aggregation is inefficient at attention allocation
                 Smart Aggregators

• The Aggregator 2.0:
   – Allows consumers to navigate complex media landscapes by
     efficiently allocating scarce attention according to preferences and
• What does this mean?
   – Smart Aggregators
       • Leverage deep information about content to predict utility derived by
         consumers, slashing search and transaction costs of consumption
       • Examples
            –   Collaborative filters
            –   Recommendation & rating systems
            –   Similarity & difference filters
            –   Etc…
   – Smart aggregation is aggregation of content plus…
       • Aggregation of information, expectations, and preferences about
               Smart Aggregators

• Smart Aggregators don’t just rebundle content from diverse
  platforms & standards…
• …They rebundle content, information about content and…
   – The network
       • EG i-Mode menu system (top ranked services move to top of menu)
   – The application
       • EG Bloglines, a9, Amazon
   – The device
       • EG iPod (with iTunes)
   – Rebundling of distribution with content aligned with consumer
     preferences and expectations, efficiently allocating scarce attention
• Where will aggregators fail?
   – Where they don’t leverage info about content to slash search and
     transaction costs
   – Where they remain dumb 1.0 aggregators
       • Canonical example: MNO services
       • EG Vodafone Live!
              Micromedia Platforms

•   What are Micromedia platforms?
    – The microchunk itself becomes an open-access platform within the niche
    – An asset others can reuse to produce complementary goods
•   What kinds of complements can consumers produce?
    –   Blogs, vlogs, podcasts – comments, links, tags
    –   Tracks – playlists
    –   Games – mods
    –   Films – fan films (EG Star Wars)
    –   In general…
         • the value of complements is bounded by costs of production and coordindation
           costs of collaboration
•   Micromedia Platforms
    – Enable a cost advantage in microdifferentiation
    – Leverage Peer Production to accurately microdifferentiate your good from
      other micromedia
    – Smart Aggregators are about quantity, Micromedia Platforms are about
      quality…Reconstructors are about both
                 and Personal Media
•   The Reconstructor is the aggregator 3.0
     – Makes media truly personal by leveraging plasticity
•   What do Reconstructors do?
     – Deconstruct micromedia by altering, remixing, and filtering microchunks…
     – …to reconstruct ‘casts of personal media
         • Unbundle microchunks from micromedia…
              – Blog entries from individual blogs, tracks from individual playlists
         • …and rebundle info about microchunks, microchunks, and distribution
         • EG
              – Unbundles tracks from albums and playlists to reconstruct new playlists the collaborative
                filter predicts you’ll like
         • EG Technorati tag search
              – Reconstructs a result set of cross-media objects by tag
         • EG re:Blog
              – Unbundles blog entries from blogs to reconstruct cross-blog feeds by topic
•   Reconstructors will evolve naturally wherever media is plastic
     – Wherever microchunks can be unbundled from micromedia
     – Wherever contribution and aggregation of info about consumption is cheap
     Media 2.0 Market Dynamics

• Smart Aggregators, Micromedia Platforms, and
  Reconstructors will consolidate horizontally and then
  fragment vertically
   – Consolidate across media
       • Horizontal consolidation realizes economies of scope
   – Fragment and specialize by industry or market space
       • Vertical consolidation realizes specialization gains
• Their evolution will mirror search evolution
   – A dominant player horizontalizes…
       • EG Google moves across media (Web, Images, News, Blogs, Video)…
   – …and nimbler, more specialized competitors fragment the market
       • EG Google challenged by Become (product reviews), Mobissimo (travel
         search), FindWhat (article search), Technorati (blog search)
   A Side Note on Broadcatching

• Broadcatching…
   – ‘People will consume the media they like best’
       • Of course they will – in a perfect world
• In the real world…
   – there are search costs, transaction costs, coordination costs, etc
       • A simplistic model of a complex reality
   – Not a useful concept for strategists, because it ignores costs and
• Instead, think about the economics behind it
   – Smart Aggregators, Micromedia Platforms, and Reconstructors
       • Are ways to broadcatch economically
       • They operate at different levels…
       • …and have different dynamics…
   – (The key point)
       • …and realize different kinds of economies
            – Micromedia platforms exploit peer production: coordination economies
            – Smart Aggregators exploit cheap information: search economies
            – Reconstructors exploit open standards: distributed economies of scale
   Micromedia Platforms

 Entry                Entry                  Entry

          Complements & Consumption Info

Comment              Comment               Comment



              Smart Aggregators
      Blog                         Blog                         Blog

      Entry                        Entry                        Entry

      Entry                        Entry                        Entry

Complements & info           Complements & info           Complements & info

                             Smart Aggregator

                            Selected Micromedia

                     Blog                         Blog

                     Entry                        Entry

              Complements & Info           Complements & info
Understanding Reconstructors

      Blog               Blog               Blog

      Entry              Entry              Entry

      Entry              Entry              Entry

 Consumption info   Consumption info   Consumption info


                    Personal ‘Cast



                 The Media 2.0 Ecosystem

                Blog                   Blog                    Blog                   Blog

            Entry                  Entry                      Entry                   Entry

                                                           Comment                Comment


Personal Cast          Personal Cast           Personal Cast

   Entry                  Entry                    Entry

   Entry                  Entry                    Entry

                                                                  Smart Aggregator

                                         Selected Micromedia Selected Micromedia Selected Micromedia

                                                 Blog                 Personal Cast           Blog

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              Media 2.0 Value Chain

            Micro        Producti     Aggreg                    Attentio
         platform             on        ation                          n


•   5 primary value activities
     – Micromedia platforms                     – Reconstruction
         • Technology                                • Personalization
     – Production                               – Attention
         • Human capital
     – Aggregation
         • Intelligent distribution
    Media 2.0 Strategy:
  Snowballs, Connected
Consumption and Increasing
         Hyperdeflation & Strategy

•   Does media hyperdeflation mean zero margins for content?
     – No!
     – Zero margins for average content
         • Single blogger, average film, single, or article
•   Strategy continuum:
     – Quantity:
         • Aggregate more content than competitors
     – Quality:
         • Microdifferentiate more narrowly than competitors
•   The point:
     – Dominant Media 2.0 strategies reverse the effects of
         • By limiting the expansion of supply faster than demand…
         • Or accelerating demand to catch up with supply
     – ….and leverage the natural economics of micromedia to create
       increasing returns to adoption
                Media 2.0 Strategy

• How do dominant Media 2.0 strategies reverse the effects of
   – Production…
       • Leveraging relatively abundant production resources to cheaply
         produce microdifferentiated and hypertargeted content
   – Distribution…
       • Leveraging relatively abundant distribution resources to cheaply and
         intelligently distribute microdifferentiated content to niches
   – …And search economies
       • Using frictionless information-sharing mechanisms to cheaply reveal
         aggregate expectations, preferences, and satisfaction within the niche
   – In combination, these three mechanisms
       • Create more value than mass media can…
       • …And allocate scarce attention to it more efficiently than costly
         marketing or retail resources can
            – By maximizing aggregate utility derived from content
            – And slashing transaction and search costs of niche consumption
          Media 2.0 Value Creation

•   Why is efficient allocation of attention important?
     – Content is frictionlessly matched with highest value consumer preferences
       and expectations…
     – …Value creation is maximized
•   Maximizing value creation
     – Explodes demand or inflates value of supply
     – …reversing damaging hyperdeflation by raising equilibrium price
•   What bounds value creation?
     – Niche size
         • Because disutility increases in niche size
     – Search costs
         • Of finding goods within the niche
     – Transaction costs
         • Of consuming goods within the niche
•   How do you maximize value creation in the real world?
     – By leveraging connected consumption to slash search and transaction
       costs, and kickstart increasing returns
     – ..And leveraging media plasticity to reduce niche size
                       Maximizing Value Creation

          Aggregate utility                                                              Distribution of
                                                                                         has fat tails

          A          B           C        D     E                                                             Z
                                               Preference Continuum

              A’s disutility increases in Z-ness                         Z’s disutility increases in A-ness

                         Efficiently allocating attention becomes vital when attention is scarce.
                         Maximizing value creation by matching content with preferences.
                         Maximizing Value Creation
                                                                               Total value lost

                 Total value created

              Blockbuster 1 captures half                                       Blockbuster 2 captures half

          A             B          C        D    E                                                            Z
                                                Preference Continuum

                            Mass media producers don’t realize production economies, but realize
                            marketing economies. The dominant strategy is single products that
                            satisfy the greatest number of people – blockbusters opposite the
                            center. Since each niche values targeted content most, marginal
                            disutility from mass consumption limits value creation – attention is
                            inefficiently allocated.
                        Maximizing Value Creation

                 Total value created

              Snowball 1 captures niche                                          Snowball 2 captures niche

          A            B          C        D     E                                                           Z
                                                Preference Continuum
                           Micromedia producers can efficiently target content to each niche’s
                           utility function by realizing production economies, which allow the
                           cheap production of targeted content. The dominant strategy is a range
                           of goods that satisfies niches with similar utility functions – snowballs
                           within each niche. Since each niche values targeted content most,
                           marginal disutility is minimized and value creation is maximized –
                           attention is efficiently allocated.
                     Value Creation and Plasticity

                 Total value created

              Snowball 1 captures niche                                          Snowball 2 captures niche

          A            B          C        D     E                                                           Z
                                                Preference Continuum
                           How small can your niches get? Niche size is a function of media
                           plasticity – how costly it is to unbundle media elements. The more
                           plastic media is, the less costly it is to build Smart Aggregators and
                           Reconstructors to filter and remix it. For example, reconstructors for
                           Hollywood flicks are costly, because unbundling them is difficult. What
                           increases plasticity? Lightweight, open standards, like RSS; and
                           modular architectures, like blog entries.
     Disconnected Consumption

• Disconnected consumption
   – Media 1.0 goods are disconnected in consumption…
   – …centralized mechanisms inform expectations about utility derived
     from consumption
       • Your local paper reviews books, movies, music
       • Bestseller lists, Top 40 charts
   – Information distortion: these mechanisms are easily gamed
       • EG Top 40 charts gamed by radio payola
       • Bestseller lists gamed by publishers buying own books
       • True aggregate preferences are never revealed
   – Short term gains have long term costs
       • Value creation is minimized because attention allocation is inefficient
       • Consumer skepticism grows: search and transaction costs rise and
         expected utility falls
     Centralized & Decentralized
• Centralized preference information
   – is uneconomical for micromedia
       • Siskel & Ebert can review 10,000 movies, but not 1,000,000 blogs
       • Search and transaction costs are too high
• Micromedia goods require connected consumption…
   – For efficient attention allocation
• …because it informs expectations economically
   – By decentralizing information transmission and processing
   – How?
       • Consumers can explicitly share expectations, preferences, and
       • …Or share complementary goods which implicitly reveal expectations,
         preferences, and satisfaction
       • Attention allocation is efficient because transparent info sharing
         removes information distortion
       • Decentralized trading of cheap information reveals most valued goods
        Connected Consumption

• Connected consumption: your consumption is
  complementary to mine
   – Why?
       • Consumption externality:
       • When you consume micromedia, you reveal or contribute private info…
       • …which is valuable to me when aggregated and made public
   – How?
       • 2 mechanisms
       • By indirectly reducing my search and transaction costs: tags & playlists
       • By directly increasing my consumption gains: mods & complementary
   – Network FX: my marginal utility increases in number of connected
       • Blog commenters, playlisters, tag contributors
        Connected Consumption

• Isn’t a new thing
   – An emergent countercultural response to mass media homogeneity
   – Canonical example: Underground music, DJs, and the rise of club
       • DJ plays a selection of tracks
       • Audience reveals preferences, expectations, and satisfaction with their
         feet: private info is made public
       • Consumption externality: your dancing reduces my search and
         transaction costs
       • Tracks which maximize aggregate utility are efficiently revealed, and
         value creation is maximized…
       • …across multiple niches/different genres of club music
       • Music listeners are a connected network – DJs realized it, the music
         industry didn’t…
       • …Now, dance music is the fastest growing segment of the music
         industry and the segment which most regularly produces snowballs
       • We will return to this example later
         Connected Consumption
          & the Snowball Effect
• Putting it all together: The Snowball Effect
   – Marginal utility can increase in consumption for a microchunk…
       • Under 2 conditions:
       • …as long as consumers can contribute information about it
       • …as long as it’s relative quality is high
   – …because of connected consumption
       • Smart aggregators reveal aggregate satisfaction in the niche
       • Your consumption has an externality: your private info is revealed…
       • …which helps me predict this good’s quality and slashes my search
           – EG Technorati Link Cosmos, Flickr/ tags
       • …or Micromedia platforms allows consumers to add more complex
         info, like comments, reviews, karma, etc
       • You directly increase my consumption gains by producing & sharing
         complementary goods, whose value is internalized by the aggregator
           – EG Blogger & comments, games & mods, Winamp & playlists, RSS &
             shared subscriptions
                  Mass Media Returns: The
                    Blockbuster Effect
                     Consumer goods tie-ins
                                                                  Motion picture revenues

        TV & Cable syndication

                                              DVD, VHS

        Micromedia Returns: The
            Snowball Effect
                     Syndicated by hi-traffic site

                                                      Micromedia revenues

            Reviewed by hi-visibility pub



                           Aggregated by aggregator

                    Published personally
        Snowball Example: Blog
                     Syndicated by Yahoo News

                                                          Micromedia revenues

            Syndicated by Slashdot



                          Syndicated by link aggregator

                    Published on personal blog
        Snowball Example: Podcast
                     Reviewed by the NYT

                                                        Micromedia revenues

             Syndicated by BoingBoing



                           Aggregated by podcast aggregator

                    Published on website
                  Snowballs and
                Increasing Returns
• The more a high-quality microchunk is consumed
   – the more value is added by consumers
   – …the more that microchunk is consumed
       • Because Smart aggregators collect and filter preference info…
       • …or Micromedia platforms allow complement production
       • Value snowballs via increasing returns to adoption
            – Positive feedback: if a product Is high-quality, it’s popularity in the niche will
              grow as it’s consumed
            – Quality drives popularity hyperefficiently
   – The downside
       • Decentralized info also allows transparency in quality
       • Aggregate satisfaction for microchunks is visible
       • Implication: only high quality microchunks can become snowballs
   – And…
       • Not all high quality microchunks will become snowballs
       • Snowballs are high quality microchunks that also maximize utility
         derived within the niche
                            Popularity and Quality
                                            …Quality drives popularity hyperefficiently

                                                                                          Firm coordination costs

                                                                                          Media 1.0

                                                                                          Media 2.0

             Quality drives popularity inefficiently
             Snowball Economics

• What does this mean?
• Snowball economics
   – Niche demand curve for microchunks slopes upwards
• Why?
   – The economics of connected consumption: Increasing returns to
   – Quantity demanded increases in price
       • As a microgood is consumed more and more, consumption
         externalities add value by slashing search and transaction costs
       • …and/or complements add value by increasing consumption gains
       • …which raises the price to later adopters
       • Inversion of Media 1.0 price discrimination, where early adopters pay
       • Example: Club music track…
            – Gets played at clubs, lounges, etc
            – Remixed, re-edited
            – Republished by major label
             Snowball Economics

• The snowball effect means …
   – …successful aggregator or microdifferentiator micromedia models
     can realize higher returns than traditional media
• Why?
   – Because snowballs create more total value…
       • Because micromedia are targeted to niches, and realize less disutility
         than mass media
   – And capture relatively more of value created
       • Because niches become winner-take-all markets…
       • …so margins explode: snowball prices rise in consumption, while costs
         remain constant…
       • This is a form of natural price discrimination which means micromedia
         producers can exert greater pricing power within niches
            – And is the inverse of Media 1.0 price discrimination, where prices fall in
                  Micromedia at the Margin
        Micromedia realizes higher
                                                                       Firm coordination costs

                                                                       Micromedia returns

                                                                       Traditional media returns

                                                    Micromedia marginal return exceeds
                                                    traditional media return

                                          Traditional media realizes
                                          higher returns
                        PP is a More Efficient Producer
                  Snowball Strategy

•   Whether you’re using Smart Aggregators or Micromedia Platforms
    to lay the infrastructure for snowballs…
    – The dominant Media 2.0 product strategy is the same:
•   Open up your goods
    – To let others add value and accelerate returns – the snowball effect
    – Extend openness as far as possible up and down your value chain
    – Give prosumers access to means of production for complementary goods
        • Comments are the most primitive example
    – Give prosumers access to preference and expectation info about your
        • Tags are the most primitive example
    – This is the polar opposite of Media 1.0 product strategies:
    – Protect your good with rigid IP to exclude non-payers from consumption
•   Without open access…
    – No decentralized info sharing, no connected consumption, no increasing
      returns, no snowball effect…
    – …supply explodes faster than demand, equilibrium price falls, margins
                 Snowball Strategy
                and Property Rights
• Media 1.0 strategy is built around exclusion
   – Media 1.0 goods are heavily protected
       • by all sorts of IPR…
       • …which function as effective barriers to imitation…
       • …because the opportunity cost is less than the monopoly right to
   – IPR are not effective barriers to imitation in a Media 2.0 world
       • Even if they ‘work’ (ie, prevent ‘piracy’)
       • Because the opportunity cost is greater than the monopoly right to
            – Why?
   – Rigid protection builds barriers to complementarity
       • It stops you from realizing new kinds of economies, which are the heart
         of dominant Media 2.0 strategies
            –   Distributed economies of scale…
            –   Economies of scale and scope in production…
            –   Coordination economies…
            –   All depend critically on complementarity between microchunks or
           Incumbent Inertia and
               RIP Media 1.0
• Media 2.0 strategy is built around inclusion
   – …failing to understand that long-term value creation depends
     critically on openness…
   – …and that Media 1.0 imitation barriers become Media 2.0 value
   – …is going to be the single biggest cause of (fatal) strategic errors
     Media 1.0 firms make in transitioning to Media 2.0

   – Because protectionism is such a deeply rooted part of how they’ve
     produced goods for decades
   – AKA Incumbent inertia

   – …a lot of them won’t survive
                   Jack and Hilary

• Don’t use the property rights metaphor
   – As an excuse for strategy
• Here’s why:
   – The property rights metaphor
       • Only I have the right to use/benefit/exchange this piece of land
   – But what if you let others in…
       • …and they build you a house?
   – This is where the property rights metaphor ends up in a Media 2.0
       • This is what the economics of micromedia and peer production imply

   – The property rights metaphor itself is a block to thinking
     strategically about Media 2.0 economics
                Snowballs and
             Beyond the Long Tail
• Remember…
   – the Long Tail not a profit function
       • It’s an outward shifting of the demand curve
       • Due to cheap search and an end to distribution scarcity
       • We are thinking about profit, not just demand
• Snowballs are the Long Tail (and beyond)
   – Not every flick is a blockbuster…
   – …and not every micromedia good is a snowball
   – The Long Tail is a mix of the Media 1.0 and Media 2.0 demand
       • Beginnings of the micromedia explosion are shifting the tail of the
         media demand curve up…
       • …by changing its composition
            – Some blockbusters, some snowballs
   – The Long Tail is the beginning – not the end
       • At the limit, the Media 2.0 demand curve replaces blockbusters with
       • What does this look like?
                        Beyond the Long Tail
                          A smaller number of blockbusters…



        …And a growing number of                                …Create new value, which raises
        snowballs                                               the equilibrium price of media, and
                                                                also increase demand elasticity
    Snowball Effect Implications

• Leveraging the snowball effect…
   – Maximizes value creation within the niche
       • The industry can hit a sweet spot: a sustained period of media inflation
            – Equilibrium price will rise even as supply explodes
            – Because demand increases within the niche
       • Media properties can become classic cash cows…
            – …like during the mass media golden age 1950-1980
       • Eventually, imitation will erode margins
   – Two key implications:
       • First-mover advantage: snowball effect first-movers will realize a longer
         competitive advantage period of higher margins…
       • Lock out: late movers will be locked out of many niches due to
         increasing returns
       • The point: building a micromedia strategy now lays the groundwork for
         future competitive advantage
    The New Dynamics of Media

• Industry dynamics will evolve through 2 stages
   – Shakeout
      • Media deflation as micromedia explodes media supply:
        shakeout for traditional media across value chain
      • Blockbuster driven players most threatened
      • This phase is under way
          – Majority of traditional media reporting declines in key growth &
            profitability metrics
   – Growth
      • Media inflation as new players leverage snowballs
      • Demand explodes due to increasing returns
          – A post-Long Tail world 3-5 years away
   – The point:
      • Those players that get shakeout strategies right will realize
        significant competitive advantages during growth stage
          – By possessing strong, relevant core competences
               Media 2.0 Strategy
                Building Blocks
• How do you get shakeout strategy right?
   – Scale up new business models focused on investing in (not
     economizing on) production
       • Peer production models
       • Open access models
       • Sharing models
   – Scale down attention investment
       • Reduce dependence on blockbusters
   – Begin experimenting with snowball infrastructures
       • By generating connected consumption in your existing customer base
• How??!
   – Divestment or refocusing of traditional media businesses…
   – …and acquisition or organic growth of new media businesses
     tightly targeting the above market spaces
       • That resemble Smart Aggregators, Microplatforms, or Reconstructors
    Media 2.0 Core Competences

• What resource & competences will this investment create?
   – Economies of speed
       • Blockbusters are slow, because quantity of media is small; snowballs
         are fast, because quantity of media explodes
   – Production economies of scale and scope
       • Leveraging technology to open up access to the means of production
   – Connected prosumers
       • Network FX build the snowball effect
   – Personal media
       • Maximizes value creation and increases switching costs
   – Microquality
       • Quality in the niche becomes significantly more valuable than quality in
         the mass market
                   The Three Sources
                   of Media 2.0 Value
•   Revelation
     – Discovering which content is valuable
          • DJ’s – everyone’s John Peel
     – Publishing 2.0
•   Aggregation
     – Centralizing and storing the huge amounts of microcontent…
     – Distribution 2.0
•   Plasticity
     – Creating value by modularizing, standardizing, or extending content
          • So prosumers can remix, tweak, cut, merge, split it…
          • …or cheaply produce complementary goods
     – Infrastructure 2.0
•   These 3 mechanisms allocate scarce attention efficiently
     – Scarce attention is the fundamental source of Media 2.0 value
     – Smart Aggregators do 1 and 2, Microplatforms do 3, Reconstructors do all 3
             Media 2.0 Value Traps

•   The Media 2.0 demand curve
    – Is much less elastic than the Media 1.0 demand curve
        • Consumers are very price sensitive in a Media 2.0 world
        • Be careful of overloading consumers with ads
•   Aggregation
    – Is only a source of value on it’s own when you can erect barriers to
    – …which are tough to build as open standards replace more and more of the
      Media 1.0 infrastructure
•   Snowballs
    – Not every bit of microcontent is a snowball…
    – …and snowballs are not ‘microblockbusters’…
    – …because there are few Media 2.0 marketing scale or scope economies
              Media 2.0 Value Traps

•   Popularity
     – …is driven hyperefficiently by quality…
          • Not marketing
     – …high-quality content will realize increasing returns (fast)
     – Conversely, low-quality content will realize significantly poorer returns than
       in a Media 1.0 world
          • …because each niche is a winner-take-all market
     – Invest in production, not in attention
•   Protection
     – The micromedia explosion does not mean you should rigidly protect your
     – …instead, use leverage to make micromedia work for you…
     – …by opening up your goods to realize new economies
     An Instructive Case Study

• House music, 1980 - 2005
  – Micromedia explosion
     • Cheap production technology
         – Thrift store bought drum machines and synths
     • Open access distribution channels
         – Clubs, warehouse parties, etc
  – For 25 years, house music producers have released tracks
    using numbers of different aliases
     • Paradox: why use aliases if goal is to sell records?
         – Aliases are a kind of antibranding which raise mass market search
     • Strategy has persisted for a very long time – must lead to some
       kind of gains, otherwise would have been dominated
     • Explaining this helps us understand a radically different kind of
       media economics
       An Instructive Case Study

• Why aliases?
   – Consumers are DJs – niche, not mass market
   – DJs are Smart Aggregators who arose because of a micromedia
     explosion and provide specialized knowledge about different
     genres to listeners
   – Successful producers release tracks under aliases on their own
     record labels: labels are important, individual tracks not
   – Why?
• Labels are like tags
   – They lay the infrastructure for snowballs by allocating scarce
     attention according to expected utility
       • Just like tags lay the infrastructure than Smart Aggregators
   – …allowing DJs to cheaply find tracks they’ll probably like…
   – …and then play them, remix them, and sample them…
   – Increasing their attractiveness to other DJs and listeners
       • This should sound familiar…
       An Instructive Case Study

• The snowball effect
   – Increasing returns to adoption within the niche
   – Demand for high-quality tracks increases in consumption
   – How?
       • Labels allocate scarce attention efficiently, maximizing value creation
         within the niche
       • Listeners vote with their feet – cheap information sharing about utility
         derived from track (and, by extension, label)
       • High quality tracks become Micromedia Platforms
            – Other producers add complements – remixes, edits, samples, etc
       • Value snowballs
   – The same dynamics as Media 2.0…
       • …but 20 years earlier
       • Smart Aggregators help listeners discover high-quality micromedia,
         whose returns can snowball, because they’re open platforms for others
         to produce complements to
       An Instructive Case Study

• 4 crucial lessons, 1 point:
• A radically different kind of media economics…
   – …Is responsible for the value creation (and capture) hypergrowth of
     House music
       • Open access product strategies
           – House producers don’t get the RIAA to sue remixers and samplers
       • Smart Aggregation
           – DJ’s leveraging label info to predict value of tracks maximizes value creation
             within the niche
       • Decentralized preference information
           – Listeners vote with their feet – Billboard doesn’t tell them what to dance to
       • Connected consumption
           – My value increases when you dance…
       • Dominant product strategies:
       • Openness, intelligence, decentralization, connectedness
      An Instructive Case Study

           Supply        Demand

Producer            DJ             Clubbers

           Demand         Supply
        Some Recommendations

• Get involved with at least one form of underground media
   – To understand the snowball effect
   – House music, outsider art, propaganda films
• Get directly involved with at least one kind of connected
   – Blogs, networked games, vlogs, podcasts
• Know the difference between dumb and smart Media 2.0
   – MSO EPGs vs TiVo, iTunes vs Soulseek, MSN Spaces vs
• Really understand the Long Tail
   – A demand curve which shifts outwards due to cheap information
     and production…
   – …not a profit function
                 Conclusion: Summary

•   The three sources of Media 2.0 value creation…
     –   Revelation
     –   Aggregation
     –   Plasticity
•   …Give rise to fundamentally new kinds of economies…
     –   Distributed economies of scale
     –   Coordination economies
     –   Production economies of scale and scope...
•   …which require radically different product strategies…
     –   Openness
     –   Intelligence
     –   Decentralization
     –   Connectedness
•   …in order to realize these economies and produce the dominant Media 2.0
     –   …The snowball effect
     –   And realize increasing returns to adoption within the niche
•   …which is a total inversion of the dominant Media 1.0 strategy
     –   The blockbuster effect
Thank You