Napster Alliance Not Effortless Composition

For a brief moment, as Napster founder Shawn Fanning shook hands and embraced Bertelsmann Chairman Thomas Middelhoff, the drawn-out war between the record industry and its high-tech foes seemed to reach a cease-fire.

Wondrous things were sure to spring from the alliance of a music industry giant and the Internet challenger. A legal, all-you-can-eat way of grabbing near-CD quality tunes off the Net appeared to be on the horizon.

But in the days following the Oct. 31 announcement, a disquieting reality has settled in, and the historic handshake might soon be seen as little more than a photo opportunity.

This deal is not about embracing the future. For Napster, it was a bid for time. For the music industry, it was a cheap way to buy into a hot technology and a very hip brand.

After all, when your enemy’s weapons are available at fire-sale prices, you don’t have to know how to use them. You just need to own them.

Despite holding the invaluable asset of tens of millions of dedicated users, Napster sold to Bertelsmann for a paltry sum--a loan insiders peg between $20 million and $50 million that gives Bertelsmann an option on an estimated 60% equity stake in the file-sharing company. That’s pocket change for a multinational corporation with revenues that topped $14 billion last fiscal year.

Today, at the Los Angeles entertainment trade show WebNoize, Bertelsmann and Napster executives will have their first public face-off with a highly skeptical Internet industry. This crowd sees the record industry alliance with the Internet phenomenon as close to, if not totally, unworkable, given current technology and the vague public promises the two companies made.

Start with the business plan. Napster says it can make money charging users only $4.95 a month, but industry analysts scoff, saying it will never be profitable.

Then there are the obvious conflicts. Napster must develop a way to track music files while maintaining a legal strategy that insists it can’t do so.

The companies are asking loyal consumers to pay for something Napster used to give away--and that the public can get elsewhere--for free.

Finally, there is the challenge of convincing Net-savvy music fans to trust the record industry.

“Some of those things, it’s not going to be technologically possible to do. . . . Whether [we’re] going to be able to succeed or not, we don’t know,” said Napster Chief Executive Hank Barry during a recent media conference call.

At best, the new alliance might provide a brief time-out from the lawsuits and raucous Internet protests that have so far characterized the digital-music debate. But analysts say it is only a matter of time before Napster and Bertelsmann begin to feel the strain of trying to resolve these problems.

Even now, most of the details of the deal remain unclear even to the executives involved. “We haven’t figured out exactly how it looks,” Andreas Schmidt, president of Bertelsmann’s e-commerce group, said recently. “This is a process that’s evolving.”

There’s no question the technology behind Napster, known loosely as “peer-to-peer,” offers real economic benefits for record companies.

It can save them an enormous amount of money. It costs corporations millions of dollars to pay for vast computer warehouses to store the music and videos that they are trying to peddle to Net users. Add to that millions of dollars more for the Internet connections needed to pump the data out of the machines to the public. Peer-to-peer technology allows companies to push these costs onto consumers.

What does, and doesn’t, qualify as peer-to-peer depends on to whom you talk. In its pure form, it means individual machines can work directly with each other, without help of a central control.

Companies, seeing this trend, had a flash of inspiration: Someone else can catch the cost of storage and bandwidth.

The technology lets companies foist the bulk of these costs on the masses, such as the estimated 38 million Napster subscribers. While Napster doesn’t store MP3 files on its own computer servers, each of its users holds a piece of the overall entertainment jukebox.

Companies with file-sharing tools such as Napster and rival Scour Inc. could launch, in part, because such peer-to-peer systems allowed them to offset some costly parts of running their e-businesses.

“You’re leveraging the cost of processing, storage and bandwidth over all your subscribers,” said Kevin Smilak, chief technology officer of Scour.

Indeed, Napster’s file-sharing model--which randomly assigns people to a group when they join the service--puts much of the financial burden of storing and distributing files on people with fast connections and large libraries of music. Today, no one pays to use Napster’s software or their computer servers, which merely list the various computer addresses of the people who are currently sharing music files on the service.

Executives of the entertainment giant’s Music arm Bertelsmann Music Group, or BMG, said they could not guarantee where the full Bertelsmann catalog would ultimately be housed. But they expect to seed the Napster community with “high-quality” copies of BMG tunes, then rely on individual Napster members to provide and store the bulk of the files.

For all the potential economic benefits, the record industry continues to stumble over the same problems that have plagued it all along: How do you beat free?

No one knows how much Napster will ultimately charge for its new service, but Napster officials say they must make it so inexpensive that it almost seems free.

As a stand-alone business where consumers pay a flat fee for downloading all the music they want, the $5 a month rate currently being bandied about is far too tiny, say analysts and Napster competitors.

“If that $5 rate is tied to downloads, you know the [music] publishers want at least a nickel per download,” said Gene Hoffman, chief executive of EMusic.com, which has a monthly subscription service that lets subscribers download tracks by independent-label artists for as little as $10 a month. “Then, there’s the money you have to send off to the credit card companies. That’s not a lot of money left over to pay artists, labels and to make a profit for yourself.”

Add to that problem the issue of security. One of the reasons Napster has become so popular is because the service lets people swap MP3s, a compression format used to convert music on CDs into reasonably sized computer files.

Consumers have rallied around the format, despite a sacrifice in sound quality, because MP3s can be used in any of the dozens of portable Walkman-like players currently on the market.

But the labels, worried about online piracy, have been loath to adopt the open standard. Instead, they have programmed their songs with electronic locks that prevent them from being copied, and others have put them in a secure format many players can’t handle.

Napster executives, saying they want to keep the free-flowing feel of their service, have repeatedly insisted the BMG tunes won’t use any sort of encryption technology to “lock” up the audio files.

Unfortunately, the ability to track music files is contrary to Napster’s legal strategy in the pending copyright infringement case filed by the record industry, including BMG. Napster’s defense team has repeatedly stated that it is technically impossible for Napster to tell which of its millions of members are trading what.

“I don’t care what they say right now. BMG is not going to release their entire music catalog in perfect digital form and not have some security elements in place,” said P.J. McNealy, a senior industry analyst with Gartner. “Encryption or not, they are going to have to have some way to track the files.”

Of course, the simple solution is Napster and BMG will promise one thing, and ultimately deliver another.

At the news conference, Napster’s Fanning seemed to plead with his now-disgruntled fans for patience. “We’re just getting started,” he told TV cameras, as Bertelsmann’s Middelhoff smiled in the background.

But vague promises aren’t enough, particularly for an audience that distrusts the record industry, which has long treated them as thieves.

In the light-speed world of the Internet, many have already evaluated the situation and moved to other music-swapping options--most of which are free.

As one poster on the Web news site Slashdot.com wrote, “Next revolution, please.”