Why Media Firms Should Ignore "Free"

The Monday Note covers the intersection between media and technology and the shift of business models. It is jointly edited by Frédéric Filloux, a Paris-based journalist and Jean-Louis Gassée, a Silicon Valley veteran currently general partner for the venture capital firm Allegis Capital in Palo Alto. Their column appears on CBS News.com each Monday.

Take the iPhone application market as an example. At first, publishers were elated. At last, a content distribution platform with an embedded transaction system. They saw it as the first step toward making customers pay for content. Then another idea took over: market share. Like "eyeballs," the old Internet Bubble de rigueur metric, market share is today's mirage: once you get it, profit is (almost) sure to follow. Never mind there are zillions of companies that have once and for all severed the connection between market share and profit (Apple for computers, BMW in the auto industry, Nucor in steel production, to name but a few).

Unfortunately, the first one who shoots for market share sets the standard, sometimes with surprising twists and turns. Take the Wall Street Journal, which has a first-rate Web site with one million paid subscriptions. But when it came to the iPhone opportunity, the WSJ went for a free application loaded with pathetic ads (apparently locked on the saturation mode, the same banner kept showing endlessly.) Just a few weeks ago, seeing a steep drop in profits, the WSJ.com reversed itself and restricted access to its app.

The same happened in France with Le Monde, when the paper launched a free iPhone app, even though some parts of its website are paid for. As a result, no one in the French market is considering a paid application. For good measure, recall Le Monde's long history of setting costly standards for the industry. Ten years ago, when France's socialist government imposed a work time reduction from 39 hours to 35 hours per week, Le Monde granted its employees a generous application of the law. The paper was similarly munificent when it negotiated copyrights for Internet reuse of editorial production. Both moves turned out be to costly to all publishers who had no choice but to align themselves to "le journal de reference" (no longer a reflection of Le Monde's business performance after years of continuous losses). As for now, it doesn't seem Le Monde has a plan to make a richer paid-for version of its iPhone app - even if the quality of the paper and of its Web site could easily justify it.

Even if the media industry calls it a "game changer," it appears the iPhone will be slow to strengthen the industry's bottom line.

How wrong are online newspapers not to charge for their iPhone App? Quite wrong actually.

First, there is not that much price elasticity in the mobile phone industry. A study by Pinch Media found that a $0.99 app is not downloaded substantially more times than one selling for $4.99. Second, paid apps tend to be used more than free ones by a significant margin

There are two underlying messages, here.

• News organizations should hang on to their "value proposition." The free model has its virtues, as we explained in a previous issue (see Inhale, it's Free) but in the case of a particularly engaging content or service, the paid-for model can be justified.

• Act together. The battle to convert some of the free digital users into paid subscribers will depend on whether key players join forces or not. Weirdly enough, due to their difficult financial situation, the U.S. newspaper industry appears to show a readier disposition to a coordinated move than, say, French papers, which are essentially good at collaborating to beg for subsidies.

That leads us to the price wars issue. As a whole, the media industry is prone to such practices, especially during this turbulent digital transition. Take the American book industry: in the United States, the fight between Wal-Mart and Amazon is perfect example of MAD-ness, as in Mutually Assured Destruction.

Wal-Mart - the country's biggest retailer - wants take the lead in the e-commerce business. To achieve that goal, it needs to take on Amazon, which is the top e-retailer in the U.S. Hence its choice of weapon: cultural goods associated with the Amazon brand.

Currently, these two giants are tied in a damaging price war over books. Needless to say, they lose money on each sale. The discounts are so huge that the three warring retailers (Target has joined the fray) are rationing books to prevent secondary resales. The American Booksellers Association has asked the Department of Justice to investigate the book war.

How to get out of this vicious spiral? Regulation is one solution. The book industry's health and vigor seem quite related to the degree of regulation. In Germany, where discounts are verboten, there are 2.25 times more bookstores and 31% more new titles per 1,000 inhabitants than in the U.S. Comparing the revenue generated by each new title in each country, we find that the German book market brings slightly more money (+12%) in absolute terms, but four times more when you factor in respective population sizes.

What regulation can't do must be achieved by collective action. In some countries, the mobile phone industry has been quite clever in "cartelizing" itself in order to avoid a lethal price war. That said, the price fixing often happens at the consumer's expense.

Though the media sector suffers from fragmentation, many business components could be improved through more coordination. Besides sharing logistics and, to some extent, technology (see our story about "coopetition," The End of Walled Gardens), the downward spiral of advertising prices could be checked using concerted strategies, ranging from closing down the disposal of long tail of digital inventories to price dumpers, or simply saying "no" to excessive discounts imposed by media buying agencies.

In the context of prices that are about 20% to 30% below last year's level, thinking in those terms is a matter of survival.

By Jean-Louis Gassée and Frederic Filloux
Special to CBSNews.com