Federal Reserve and Treasury officials said on Wednesday they were struggling to craft rules to ban bank and credit card payments to illegal Internet gambling sites because federal law is unclear about what type of gambling is illegal online. “That is something we’re really struggling with,” Louise Roseman, the Fed’s director of reserve bank operations and payment systems, told a House Financial Services subcommittee. “The challenge we have is interpreting … federal laws that Congress itself isn’t sure what they mean,” Roseman said.
But perhaps the solution is obvious: why not send all transactions to a Congressional sub-committee for prior vetting? I mean this is complex stuff, it depends on so many things! For instance, did the individual do the trade while wearing a bathrobe? Does it involve a counterparty who contributed to my general campaign? I mean there are so many subtleties - not the kind of stuff that is easy to write into a bill… It’s a big responsibility but Congress has a duty of care to certain incumbent operators and lobbyists citizens to make sure that they are protected from themselves.
According to a release from CME Group, the new contracts “will allow customers to directly manage their exposure to the government labor number or to offset positions in financial markets.”
The monthly U.S. nonfarm payrolls report is one of the most influential economic indicators globally as it is based on a survey of 375,000 businesses conducted by the U.S. Bureau of Labor Statistics that is usually released on the first Friday of each month.
“The Nonfarm Payroll report is typically the first major economic release of each month and speaks to the condition of employment from the prior month. It is closely followed as a way to gauge how the Federal Open Market Committee perceives economic growth,” the release said.
“There is a strong correlation between the nonfarm payroll report and CME Group financial futures contracts as well as other financial instruments,” said Rick Redding, CME Group’s managing director of products and services.
“Listed futures and options on futures on the nonfarm payroll are a transparent, straightforward and accessible way for our customers to offset unexpected financial market moves that often occur when this number comes out,” Redding added.
On the one hand, I can only applaud this initiative and I will watch with interest to see how successful these contracts become (in terms of volumes and liquidity.) Of course, on the other hand, it begs the question once more as to the logic of US anti-gambling laws and the resulting discrimination against a number of non-US players who could ostensibly compete in offering betting markets in economic outcomes.
Yes betting. The new CME contracts will allow people to bet on the monthly US nonfarm payroll number. Shocking I know… The optimist in me wants to believe that new contracts like these will further expose the latent hypocrisy implicit in the relevant US regulatory and legislative regimes and will ultimately lead to a more lucid and robust rewriting of these over the next several years. The pessimist in me fears that the growing power of the CME, combined with a knee-jerk reaction to anything vaguely associated with (financial) innovation due to the current market crisis, will mean any market innovation will need the explicit or implicit support of the boys in Chicago.
Of course in the world of financial exchanges, the investment banks just may have the lobbying power to face down the CME - their ‘consortium-backed’ futures exchange projects (see here and here) will be interesting to watch. On paper they should have no problem creating (a) compelling alternative(s) to the global oligopoly in listed futures and options; but getting a dozen bulge-bracket investment banks to work together is devilishly tough in the best of times. Like herding cats. In times like these, well we’ll just have to see… Of course a truly level playing field would open the flood-gates in terms of innovation (in technology, business models) and create enormous value for the ultimate consumers of financial exchanges (which is to say, any one with a savings or pension entitlement.) I would love to see this happen and despite the power of the entrenched status quo, I remain optimistic that we will see the levy break in the next few years. I’m sure AT&T seemed just as unassailable (as the CME does now), prior to telecoms deregulation.
In the world of futures and derivatives exchanges, I suspect the vector for regulatory-driven change lies in separating trading from clearing and settlement. It is this vertical integration - most famously practised by the CME and Eurex on each side of the Atlantic respectively - that is the greatest barrier to disruptive and innovative competition in this marketplace. By tying trading of the instruments they list to their own central clearing house, the exchanges create a ‘walled-garden’, locking in their customers. What the world needs is an open architecture - such that any market participant could chose both where to trade and where and how to clear. Indeed, Craig Donahue recently lambasted the investment banks for having continuously resisted clearing derivatives via a central counterparty:
“These problems exist in large part because investment banks traditionally have resisted a more centralised, transparent execution system for these products, preferring to maintain their dealer franchises and proprietary trading profits,” he said. “And they have tended to oppose central counterparty clearing services in these markets, worried that a mutualised risk structure will dissipate their credit and balance sheet advantages.”
While I have much sympathy for this view - he is correct in saying investment banks actively resist any moves to clear OTC derivatives via central counterparty fearing the effect of greater transparency on their margins - the catalyst for his outburst was a DoJ suggestion that the clearing and trading activities of the CME should be separated. A view for which I also have much sympathy. The alternative is to force big clearing houses to open up their platforms, much as telecom and utility regulators have forced the historical monopoly providers to open their infrastructures to competitors.
Disclosure: I have been trading a number of the large publicly listed exchanges (including both the CME and Eurex’s parent Deutsche Borse) from the short side over the last few months (although I closed out all my positions this morning after the big sell-off, but will be looking for opportunities to reset these short positions in the weeks and months ahead.) Unless…
Unless one of these big exchanges can actually kill the sacred cows and grasp the transformational opportunity on offer (before some or some number of upstarts beats them to it.) The thing is, the ‘incumbents’ have many significant advantages. Of course this is generally true in any industry, but it is especially true for exchanges: liquidity is the sine qua non of a successful exchange and for any new entrant, acquiring sufficient liquidity is a daunting (but not impossible) challenge. So the real question (if you are running an exchange) becomes: is it better to hide behind and valiantly defend these protecting barriers or do you leverage your intrinsic advantages, embrace change and re-invent your business model for a digital world?
It shouldn’t come as a surprise that I would favour the latter option, and indeed have a number of ideas as to how one might go about executing such a transformation successfully. All (or most) of which I guess would be anathema to the traditional exchange “seat holders” and admittedly might be very hard for a publicly listed company to effect (short term pain for long term gain.) It is ironic (given their relatively recent emergence as public companies for many) that perhaps the only viable way to transform an ‘incumbent’ exchange would be under private ownership…now I just need the valuations to come down a bit more and then pick a target! (Of course there would also be the small matter of finding a few billion of capital to finance the purchase…)
…Kundapur, a coastal town in Karnataka has decided to privatize it’s water supply. To summarize, so far, this town was dependent on ground water. Now, they are getting water from the river Varahi. Residents have to pay Rs. 4000 for the connection (half of that refundable), and the monthly bill will come within Rs. 100, they’ve said.
…Of course, there is still a long way to go. The private partner who will handle the operation and maintenance is yet to be selected. There are also bound to be a large number of protests against the privatization itself. The TMC needs to get past that. Also, it seems to be the first time when such an exercise is being conducted in the country. So, other hurdles also can’t be ruled out.
Nevertheless, this outsourcing of operation and maintenance of water supply is a welcome concept, and if implemented and priced in the right way, might become a model to emulate in the rest of the country.
And to read that finally, we might see metering of water in the UK. The irony is that while many services that provide an abundant resource - ie voice minutes - continue to be ‘metered’ while scarce resources -ie water - are sold on a ‘all-you-can-eat’ basis (or worse, given away for free…) The rectification of this unnatural state will be one of the key trends of the next several years. It’s not hard to figure out really:
ABUNDANT => flat rates (reflecting fixed costs only, tending to free)
SCARCE => metered (reflecting supply and demand, and any externalities/substitution effects)
…a good rule of thumb for governments and business people in any market for goods and services.
yoonew is the world’s first futures exchange for event tickets. We have created a dynamic marketplace that helps online consumers save money and time when buying and selling tickets. Our real-time trading platform gives fans, traders, and resellers a safe and transparent place to trade tickets.
We are passionate about leveling the playing field and creating a fair marketplace where everyone has equal access to tickets. Our team focuses on building new product features that will bring transparency to markets where pricing information is not universally available. We help customers make more informed purchasing decisions so they are confident that their purchase or sale concluded at a fair price.
TechCrunch did a write-up in early January and they got a lot of coverage in the run up to the recent Super Bowl game:
I’m not 100% convinced that they’ve nailed it but it is certainly a very interesting step in the right direction in terms of introducing modern (and useful) markets technology into the historically moribund market for live event tickets. Essentially, they are selling call options on tickets to major sporting events. Moreover they have taken an original and clever approach by - at least initially - focusing on major sporting events (like the Super Bowl) where the terminal value of the underlying is different depending on the buyer. ie If “your” team gets through to the game, the tickets are of more value to you. Of course, with a properly functioning secondary market (irrespective of whether on yoonew’s upcoming secondary exchange or another market - StubHub, etc.) financially this should be irrelevant - the ‘market’ value of the tickets depends only on the clearing price of the event once the participants are known. (ie Super Bowl tickets on balance will be worth more if two teams with big, passionate fan bases are playing as opposed to two teams from smaller markets; NY v New England more valuable than Kansas City vs Detroit for example.) So a ‘rational’ trader would try to buy the cheapest options - not necessarily the option on his team, especially if you could re-sell the option before delivery. (I’m not sure this is allowed, if not it should be.) Nonetheless, the (marketing) focus on ‘real’ end buyers (people that hope to take delivery, rather than just make a financial profit) is a good angle as it plays to the psychology of ‘hedging’ rather than speculating and should add heterogeneity to their risk book.
Notwithstanding the ridiculous US laws proscribing trading on sporting outcomes, there would also potentially be very interesting arbitrage and hedging opportunities (for both yoonew as the market-maker and their customers) with trading sports risk. For example (using the same teams as above) going long New England and NY to make the Super Bowl to hedge the extra cost of delivering tickets to this pairing (vs a less valuable team pairing.) Or going long the team in the host city (which would also probably be more valuable on delivery if they ended up playing.) I’m not sure if they have any plans to offer markets on European (or global) events - it would have been great for the recent Rugby World Cup, imagine if England fans could have bought (what would have been) cheap options on the final in Paris - but if they did they could use Betfair to manage their price risk today.
Longer term, ideally you would hope that sports teams and leagues would embrace this kind of market to help manage their own pricing risk. Instead of just selling tickets (in the primary market), they could sell options on tickets and use secondary markets to dynamically hedge their risk. For a team that didn’t sell out systematically, it would be a good way to monetize potentially empty seats and even for teams that sold out perennially it would allow them to be more aggressive in finding the ‘true’ equilibrium clearing price for a given seat. For investors it would be another potential (uncorrelated) asset class to trade and invest in. I wonder what the implied volatility curve on the NY Giants season would look like? Gamma trading based on the weekly game results anyone? The question is do the owners and managers of these teams understand how this could work to everyone’s benefit or will they stick to the old model of static seat prices and unoptimized revenue management?
I hope yoonew succeeds and helps to develop a more enlightened and efficient market for tickets in live events. One to watch.
British MPs who oversee the Department for Culture, Media and Sport are a sensible bunch, with a keen eye for special pleading. But they’ve erred badly today. In a report on online ticket touting, the MPs have today given a strong recommendation for a levy on the resale of tickets for live events. (Report here.)
Resellers - and therefore punters - will be forced to pay this levy, and a levy collection agency would need to be established to distribute the tax. There’s no recommendation that the levy is returned to performers, as the MMF (Music Managers’ Forum) has proposed. As it stands, the levy will merely oil the machinery of the primary market: the promoters and their agents. This is a quite amazing stunt to pull off - and should serve as a wake-up call to everyone…
…there’s a very healthy after-market for tickets, sold through auction sites such as eBay and bulletin boards such as Gumtree and Craigslist. This is exactly what the internet is supposed to be good at: eliminating wrinkles caused by consumers having a lack of information. And it works very well.
Yet the major promoters have very nearly succeeded in banning this market outright. Instead they’ve won themselves a “right” not enjoyed by book authors, songwriters or composers - or even the RIAA! (Authors, publishers and record companies don’t get a cent from the second-hand sales of books and records.) …
The Committee said it wants the secondary market to continue, and declared itself reluctant to intervene. But it did so anyway, giving credence to a long laundry list of grievances raised by the mega-promoters, including Harvey Goldsmith. Goldsmith wants to extend his huge market power in the primary market by banning the secondary market, and does so by conflating issues such as fraud with touting. Of course, there’s already legislation in place to deal with fraud. But the ticketopolists want to fight fraud the cheap way: getting us to pay a tax, rather than using better technology or employing a few more people to check against abuse. And in this case, they’ve won an improbable victory.
I’ve only had the chance so far to read the summary or the report (but have printed out the whole c. 200 page pdf to read later) but I can’t for the life of me figure out how they managed to reach their final recommendations, which seem to contradict their own findings (!):
While the superficially obvious solution—of increasing ticket prices to whatever level the market will bear—might keep all the potential profit within the industry and effectively eliminate the secondary market, it would run counter to the industries’ pricing policies which aim to make tickets affordable by their grass roots and genuine fans upon whose continuing interest and attendance the long term wellbeing of the industries depends. [Give me a break!!! There are so many holes in this argument I don’t know where to start…] We did not receive any evidence from the grass roots or fan bases complaining that they were unable to obtain or afford tickets for their chosen events…
…We also believe that the existing situation whereby large profits can be made on the secondary market with no benefit to the organisers or owners of the primary rights is unfair and must be addressed. [Why????? Change the primary market price if you think it is wrong!!!!] …
…We welcome the initiative of the Music Managers Forum to seek agreement for a voluntary scheme under which sellers of tickets in the secondary market would pay a proportion of the profit to the original organisers to be distributed in the same way as the original amount paid. In return, the organisers would recognise the legitimacy of the secondary seller and not seek to invalidate the ticket being sold. [So the secondary market participants pay the primary underwriters for their inability to correctly price and risk manage their inventory…wow. Wow! All I can say is I wish we had that kind of mechanism when I was underwriting bonds for a living!] Such a scheme would recognise the right of those in the entertainment and sports industries to a share in the profit made by others out of the events for which they are responsible in the same way that creators of artist works now benefit from sales of their works through resale royalties. We believe that a scheme of this kind offers the best chance of meeting the concerns of event organisers while still allowing the secondary market to operate unfettered and we strongly encourage all those involved to consider it seriously.
May I suggest an alternative model? A simple one. Liberalize and regulate the secondary market. Full stop. Fraud and manipulative and abusive trading is proscribed with both criminal and civil penalties depending on the situation (analogous to securities markets.) And the market decides. I guarantee you the world will not come to an end. Events will continue to be underwritten. Artists and performers will end up being fairly paid (sometimes a lot more, sometimes a bit less but closer to “fair market value” in all cases), consumers will be happier, and underwriters and distributors will make a decent living and innovation will thrive.
The crowning irony is that folks like Mr. Goldsmith would probably continue to be very successful - and the Sharpe Ratio of their business vastly improved - in such a new world. After all they still have their relationships which in an efficient electronic market paradigm generally become even more valuable insofar as they cannot be industrialized and yet can be monetized against a much more efficient infrastructure. But fear and habit are powerful ghosts…and change is well, scary. Like the recorded music industry before them, rather than clinging for dear life to the status quo, major promoters should be leveraging their position of market knowledge and leadership to participate and profit from change: partnering with and investing in innovative new participants and business models. And not leave it until it is too late.
I just wish I had know about the report. I would have liked to submit my Tickets & Markets Part 1 and Part 2 as evidence…
For those of you who aren’t prediction market enthusiasts, there is a vibrant community that has developed - much of it manifested online - over the past few years. Like many such emergent communities, there is much passion amongst the members for there chosen area of focus. Generally this is a good thing but is not immune to excess from time to time as some of this passion occasionally splills over into what might fairly be described as zealotry. I guess I would consider myself to be a member of this community, probably somewhere towards the middle or the back of the room: trying to follow the main plots, absorbing quite a bit of information and occasionally asking a question or making an observation. So in this micro-context, on the spectrum from zealot to reactionary sceptic, I’d probably be halfway between the middle and sceptic; however if you choose the general population as your sample, I’d be close to the zealot camp. Everything is relative.
But - much as I entertain a similar passion for the potential power of markets in “predictions” as many of the leaders of this movement, I have to chuckle when I run across some of the more - shall we say “emotional” discussions within this community. Again while this is a common characteristic of most new ‘movements’, and in no way unique to passionate prediction market proponents, it is still funny to see this community’s People’s Judean Front and the Judean People’s Front equivalents bash it out on the airwaves so to speak.
And of course there is a small fringe that is keen to control the terms of engagement - the quintessential ‘rule-writers’, often obsessing about semantics and making sure that everybody innovates but only in the ‘right’ way. Another irony - from my point of view - is that many (perhaps most?) of the most active, eloquent and committed members are American (or more relevantly based in America), where of course the wise people in Washington, DC make it as hard as possible to run said prediction markets without risking 2-5 years… Actually, when you stop to think about it this is actually less surprising than at first glance: repression is a great catalyst to passion. (Thank goodness!)
Anyhow, last week’s Clinton victory in the New Hampshire primary has thrown this community into a tizzy…sort of like kicking an anthill…many many column inches have been written defending, deriding and analyzing the fact that the ‘(prediction) market(s)’ got it WRONG! ie Didn’t accurately predict the outcome - indeed they were no better than the POLLS! Oh the shame…
Well - and I suspect many others have already made the same observation so I make no claims to any original insight - this line of reasoning misses the point entirely in my opinion. The ‘failure’ of New Hampshire was the result of primarily two factors:
It wasn’t a failure. No market is always right. More importantly markets reflect the information available to and the interests of their participants. Basically markets are very efficient mechanisms (I would claim the most efficient) for processing information. No more, no less.
In this particular instance, the probability of the market producing an erroneous forecast was high due to the lack of liquidity. This is a problem of all political markets in the US. Show me a market on the New Hampshire primaries with tens of thousands of participants and millions of dollars traded and I will show you a market that creates more valuable information. BUT it would still on occasion be ’surprised.’
Basically I guess what I’m trying to say is the expectations seem to be set all wrong by many inside the community. I think “prediction markets” - creating markets in information and outcomes is a wonderfully important and valuable thing to do. Equally however I think that anyone that represents such markets as being able to predict the future is a charlatan. What they can do is collect and synthesize powerfully and efficiently all the dispersed available information - using money as the relevance filter. This is very valuable in its own right and is defensible. Promoting prediction markets to true sceptics (ie mainstream American politicians) on the basis that they are a Delphic Oracle is surely a path to certain tears and ultimately is almost guaranteed to fail.
Markets don’t compute unknown unknowns. That doesn’t mean they are useless, just that they have to be understood in context.
Regular readers will have probably noticed that I’ve been somewhat preoccupied by the music business over the last few months. Ostensibly this is because it is a high profile industry that has been much in the news as its 20th century business model is torn asunder by the digital revolution. While this is certainly a factor, this situation is not entirely unique to the music business and so I had to ask myself why I’ve been so drawn to read, think and comment on this particular industry. I think it comes down to two additional factors.
First it’s cool. I could pretend that I’m above that - blase - but let’s face it…it’s rock and roll. I could pretend otherwise of course but it wouldn’t be true.
Secondly (and more in keeping with the usual tenor of this blog) - and I’ll admit to bias - there are significant parallels with financial markets (with the key exception that while financial services have managed to sneak into the Devonian while the music industry seems by and large to be desperately clinging to it’s pre-Cambrian ways.) More specifically, it is a business whose core value springs from human genius and creativity and whose product (in a digital age) is essentially an interesting barbell of abundance and scarcity. Once one understands this, it becomes pretty obvious how a combination of existing computing, communications and markets technologies could be put together to create an entirely new paradigm for the music industry. A paradigm that would increase wealth for artists and performers, improve the service offered to their customers and provide a good return on financial/managerial capital needed to oil the machine. Furthermore, much of this could be generalized to much if not all of the entertainment industry. And - perhaps the topic of a future post - maybe even to any industry predicated on individual talent and creativity. (Investment banking? Money management?)
There is just one giant problem: it doesn’t look anything like the existing paradigm. The giant music companies of today would either have to disappear or completely transform themselves. Voluntarily. At least for it to happen quickly. While this is not entirely impossible, it certainly isn’t going to happen with the current crop of incumbent managers. They are about as likely to give up their sinecure as stick a needle in their eye. Ain’t going to happen. Hell this doesn’t happen in most ‘normal’ industries. It is damn sure not going to happen in a business where the executive perks include hanging out with the Rolling Stones and getting your picture taken with your arm around Shakira’s waist. I imagine - much like an investment bank - given the potential rewards, it takes a certain significant cunning and ruthlessness to get to the top of one of these companies and so the grip on power is not surprisingly equally tenacious. How else could you explain this proud public boasting about one’s own ignorance (apparently not just reserved for guests of Jerry Springer…):
Morris was as myopic as anyone. Today, when he complains about how digital music created a completely new way of doing business, he actually sounds angry. “This business had been the same for 25 years,” he says. “The hardest thing was to get something that somebody wanted to buy — to make a product that anybody liked.”
And that’s what Morris, and everyone else, continued to focus on. “The record labels had an opportunity to create a digital ecosystem and infrastructure to sell music online, but they kept looking at the small picture instead of the big one,” Cohen says. “They wouldn’t let go of CDs.” It was a serious blunder, considering that MP3s clearly had the potential to break the major labels’ lock on distribution channels. Instead of figuring out a way to exploit the new medium, they alternated between ignoring it and launching lawsuits against the free file-sharing networks that cropped up to fill the void.
Morris insists there wasn’t a thing he or anyone else could have done differently. “There’s no one in the record company that’s a technologist,” Morris explains. “That’s a misconception writers make all the time, that the record industry missed this. They didn’t. They just didn’t know what to do. It’s like if you were suddenly asked to operate on your dog to remove his kidney. What would you do?”
Personally, I would hire a vet. But to Morris, even that wasn’t an option. “We didn’t know who to hire,” he says, becoming more agitated. “I wouldn’t be able to recognize a good technology person — anyone with a good bullshit story would have gotten past me.” Morris’ almost willful cluelessness is telling. “He wasn’t prepared for a business that was going to be so totally disrupted by technology,” says a longtime industry insider who has worked with Morris. “He just doesn’t have that kind of mind.”
Doug Morris is the CEO of Universal Music and the quote above is from an excellent recent profile in Wired. If you are like me it will make you laugh and cry simultaneously as you begin to understand how completely unsuited Mr. Morris is to running a business - let alone a music business - in the 21st century. On the other hand, you have to give him credit for not trying to pretend otherwise. Kicking and screaming. That’s the only way he’s going to change… Ok so assume I’m right, why don’t the shareholders just get rid of him? And given that Universal is a division of a company (Vivendi), rather than a public listed company, this should be easy right? (No agency problem, no powerless Board vs. imperial CEO…) Well, curious to know the answer to that question, I decided to have a quick look at Vivendi and their management structure.
While I must admit they have a pretty friendly and modern looking corporate website, identifying and reading about their senior management did not exactly fill me with confidence that they could add anything to the discussion let alone stand up to someone like Mr. Morris who I imagine is a charismatic, wily and tough (American) operator. Basically, even if they did have the moxy to give him the boot, they would be unlikely to be any more successful in filling the strategic vacuum. Don’t get me wrong - I suspect the Vivendi executives are all very intelligent, diligent men, and of course not knowing anything about them beyond what is on their website, I could be wide of the mark. Disclaimers aside however, it strikes me that for instance, Regis Turrini - SVP Strategy and Development is unlikely to be a thought leader in terms of tuning Vivendi’s business model to embrace the opportunities of the digital age:
Mr. Turrini, 48, is an attorney admitted to the Paris bar. He is a graduate of the faculties of literature and law and the Paris Institute of Political Sciences, and an alumnus of the Ecole Nationale d’Administration (postgraduate public policy college).
He began his career as a judge in the French administration courts. He then joined law firms Cleary Gottlieb Steen & Hamilton (1989-1992), followed by Jeantet & Associés (1992-1995), as a corporate lawyer. In 1995, Mr. Turrini joined the investment bank Arjil & Associés (Lagardère group) as executive director. He was then appointed managing director and, from 2000, managing partner.
And I’m afraid the supervisory board is unlikely to be of much help either - with only one member born after 1950, they may well have a wealth of experience but somehow I doubt their ability to confidently challenge Mr. Morris on his strategy. I doubt any of them have Facebook accounts…I wonder if any of them use iTunes…
To be fair, if you read the Wired article, Universal is not entirely standing still, also see for instance there possible involvement in a Pepsi/Amazon music giveaway promotion. But there is a big difference between reacting - fighting every step of the way - and pro-actively reinventing your business model. Given the events of the past few months and the acceleration of change as artists wake up to the empowering possibilities of the emerging paradigm (after having been fed and often swallowing a load of crap by their erstwhile partners for the last few years…) the record companies really have no choice now but to try to adapt. (MTV has a great summary of some of the watershed events of 2007.) But this is happening under duress and while the left hand tries to innovate, the right hand is still waging a rearguard action to stymie anything that might threaten the ‘way things were’. Much has been written about pioneering new approaches like Madonna signing with Livenation and Radiohead managing themselves the release of their latest album. The emperor has been stripped of his clothes. Thom Yorke (of Radiohead) puts it clearly in an interview with David Byrne (of Talking Heads fame:)
Byrne: What about bands that are just getting started?
Yorke: Well, first and foremost, you don’t sign a huge record contract that strips you of all your digital rights, so that when you do sell something on iTunes you get absolutely zero. That would be the first priority. If you’re an emerging artist, it must be frightening at the moment. Then again, I don’t see a downside at all to big record companies not having access to new artists, because they have no idea what to do with them now anyway.
…(on their ‘free’ digital pre-release:)
Yorke: In terms of digital income, we’ve made more money out of this record than out of all the other Radiohead albums put together, forever — in terms of anything on the Net. And that’s nuts. It’s partly due to the fact that EMI wasn’t giving us any money for digital sales. All the contracts signed in a certain era have none of that stuff.
And like a rolling stone, this movement is gathering momentum, it seems almost daily. Just this week Robbie Williams has decided to go ‘on strike’ from EMI; although his stance seems more opportunistic given that - as a big star already - nobody forced him to sign his contract with them… (Perhaps he was poorly advised?) Even the Economist - my favorite periodical - has joined the fray.(At least this has a chance of capturing the attention of the ‘establishment’, I hope someone sends a copy to the Vivendi Board members just in case they missed it.)
It’s worth taking a closer look at EMI. I’ve never had the pleasure to meet Guy Hands, but by any estimation he is clearly a very clever man and has a good understanding of valuing mature businesses that have strong asset bases and/or generate (or have the potential to generate) strong free cash flow. I think he made a mistake with EMI. It’s easy to be an armchair manager - and hindsight is easy - but (and you’ll just have to trust me here) I thought as much when the deal was first done. And this is putting aside the fact that - almost certainly for the first time in his career - after having lost a few deals due to his disciplined approach to pricing, he finally succumbed to the private equity fever and his capital burning a hole in his pocket and over-payed. This - and the subsequent tightening of credit markets - has certainly made things worse. (On the other hand these facts can act to muddy the waters, masking the real - more fundamental - error in this investment.) The interesting mistake is more fundamental and specific to EMI and the music industry and no it has nothing to do with the fact that he “knows nothing about this special industry” - as so many insiders are claiming.
Indeed, having someone from outside is probably just what the doctor ordered. And his instincts were in my opinion spot on in a couple key respects. First (and the ’simplest’, most basic private equity play), that the business was mismanaged - or more accurately not managed. Like many talent-based industries, succesful ‘producers’ often end up at the top; however more often than not, top ‘producers’ make poor managers. Separate production (creative) from management and run a tighter ship operationally and financially. So far so good. Secondly, that music publishing libraries have significant value, value that can be better unlocked through a more deliberate strategy and more efficient capital structure (supported by the historically strong cash flow generating ability of these assets.) So where did he go wrong? On two counts I reckon. Firstly he should have just bought the library. I suspect that this is probably all he wanted and to be fair it probably wasn’t an option given the frothy tone of the market during the deal. He probably figured there was enough wiggle room to sort out the rest and end up with the catalogue at a reasonable price. Secondly and more importantly, he underestimated the speed and scope of the gathering tide of secular change that was coming crashing over the music industry, making the economics of the deal (even at a lower price) tenuous at best.
If he is as good a trader as his track record suggests, Mr. Hands should re-mark his book lower and proceed apace with re-inventing EMI as a force in this new landscape. The fact that he is an outsider should help. Although I wonder if it wouldn’t be easier to start with a completely blank slate - cleaning up the existing mess probably doesn’t leave a lot of spare capacity to build something innovative and new. Or perhaps he waits a few quarters and buys in the innovation - waiting to see which of the myriad new ventures (like Sellaband or DeepRockDrive) currently bubbling up gains real traction. Of course this might be expensive but the only thing that is sure is that the old way of doing business is on the way to the graveyard.
Besides reading the Park Paradigm, I suggest he have a look at David Byrne’s thoughts in Wired on how things might evolve, here are a few exerpts but I encourage you to read the whole article:
What is called the music business today, however, is not the business of producing music. At some point it became the business of selling CDs in plastic cases, and that business will soon be over. But that’s not bad news for music, and it’s certainly not bad news for musicians. Indeed, with all the ways to reach an audience, there have never been more opportunities for artists.
…What do record companies do?
Or, more precisely, what did they do?
* Fund recording sessions
* Manufacture product
* Distribute product
* Market product
* Loan and advance money for expenses (tours, videos, hair and makeup)
* Advise and guide artists on their careers and recordings
* Handle the accounting
This was the system that evolved over the past century to market the product, which is to say the container — vinyl, tape, or disc — that carried the music. (Calling the product music is like selling a shopping cart and calling it groceries.) But many things have changed in the past decade that reduce the value of these services to artists.
…For existing and emerging artists — who read about the music business going down the drain — this is actually a great time, full of options and possibilities. The future of music as a career is wide open.
It comes down to intelligently managing a combination of abundant assets (digital music) and scarce assets (live performances) and optimizing the business model to provide value to both the producers (artists) and the consumers (fans.) An interesting and exciting challenge, but one that the current powers that be in the music industry seem unable and unwilling to grasp.
Sounds like a great place to invest…
And just to show that there are no hard feelings, here’s one for Mr. Morris and his friends:
…would seem to be an interesting question to put to the various ‘prediction markets’ that seem to be proliferating. (see Jed’s blog for a reasonably comprehensive round-up) Ironically most of these are US based - as is much of the ‘academic’ activity surrounding these new information markets - and so are limited (mostly) to play-money and fantasy leagues. (Rather than repeat myself, I refer you to this previous post as to the hypocrisy and inanity of the US legislation in this regard…)
My cynical take is that it will only happen when the corporate incumbents (with their big beltway lobbying armies) figure out how to capture these markets, ideally without cannabalizing their existing rents. It will be interesting to see who moves first on this - the Wall Street/Chicago (financial) trading complex or the Las Vegas gambling cabal; indeed one of the biggest psychological barriers is that these new information markets would - if legitimized - by their very existence, break down the illogical sematic barrier (between gambling and trading) that both sides seem so keen to preserve. But at some point the opportunities created (for providers, users and the economy generally) by legitimate traded markets in outcomes will simply become too big for either industry (or politicians) to ignore.
I’ve thought for some time that this would happen sometime in the next 2-6 years (post-Bush) and would probably need to happen under a Democratic administration (due to the Republicans now seeming to be institutionally incarcerated by the evangelical flat-earth constituency) although either a McCain or Giuliani administration might be able to buck this trend (if by miracle either managed to find himself in the Oval Office in the first place.) And I wonder if seeing mainstream media like the WSJ finally acknowledging the usefulness of prediction markets in their election coverage (teaming up with intradeto show political markets on their home page and creating their own - albeit fantasy - market) isn’t a harbinger of changing winds. And it can’t hurt either when the New York Times reports on Google’s internal use of prediction markets (an initiative run by Bo Cowgill)…
…hey maybe the Valley lobbyists might get behind this one? Although probably not as they have enough on their plate with Net Neutrality, wireless spectrum, biotech, greentech, …
TMQ’s Gregg Easterbrook, after a sensationalized introduction, asks an interesting question:
On Monday, sellers on StubHub were asking from $750 up to a rather comical $164,710 for tickets to the Ohio State-LSU game (the latter price is for a prime luxury-box seat). The season finale Giants-Patriots NFL game might be historic; on Monday, sellers on StubHub were offering tickets for $200 up to $26,000, depending on seat location or box quality. Once the NFL playoff pairings are known, scalper Web sites will come to life for those contests, too. The asking price is not always the selling price, of course. But bowl committees and NFL teams must be saying to themselves — if these seats really are worth hundreds or even thousands of dollars on the free market, we should be the ones pocketing that scratch. How long will it be until professional teams cut out the middle person and simply auction off tickets for whatever the market will bear?Any day now, the NFL is expected to announce a deal to affiliate all its teams with one online reseller, probably Ticketmaster or StubHub, formally acknowledging reselling as legitimate and bringing the NFL an expected annual fee in the $20 million range. This might be just the first step in converting sports-ticket selling into StubHub World.
If one thinks of tickets like shares of stock, it is unlikely that franchises will initially place 100% of each season’s seats by an electronic auction mechanism. But what percentage will be “placed,” and what percentage will be auctioned?
I think rich people in particular are willing to pay to sit in the same spot (”their” seats in some sense) near others that they recognize. The latter component may be modest, but it might also account for the some of the interest in prosecuting scalpers in the old days. Legal reselling increasingly puts that component at risk. This is a stretch, but one way of interpreting laws against scalping is that clubs didn’t mind you selling tickets to your friends, just any old high bidder.
But Rapino isn’t satisfied with dominating the concert business. He is mounting an audacious attack on the record labels and seeking to poach their most important assets - their stars - by turning Live Nation (Charts) into a one-stop operation that handles their every musical need. His offer: We already operate your tours. Why not let us make your albums, sell your merchandise, run your website, and produce your videos and a range of other products you haven’t yet thought of? This is the age of the empowering Internet, after all. Artists are in charge. Who needs a record label?
Depending on whom you believe, Rapino’s strategy will either reinvent the ailing music industry and turn Live Nation into a powerhouse - or cripple his company. Certainly it’s brash talk for a concert promoter whose toddler-aged company has never put out a single record. But artists have been listening closely since Rapino landed a giant catch. In October he struck a first-of-its-kind deal with Madonna, who bolted her longtime label Warner Bros. and signed a ten-year contract estimated at $120 million to let Live Nation handle every part of her business except publishing.
For what it is worth I think they’ll make money on the Madonna deal, even without attributing a value (which is certainly non-zero) to the marketing/business development angle of this innovative and high profile deal.
For more of my thoughts on how I see these markets developing over time, I refer you to a few earlier posts:
In a leader this week on banking in Africa, the Economist asks the question “A bank in every pocket?” making the point that “banking on mobile phones holds promise, provided regulators are willing to be flexible”:
Leonard Waverman of the London Business School has estimated that an extra ten mobile phones per 100 people in a typical developing country leads to an extra half a percentage point of growth in GDP per person. To realise the economic benefits of mobile phones, governments in such countries need to do away with state monopolies, issue new licences to allow rival operators to enter the market and slash taxes on handsets. With few exceptions (hallo, Ethiopia), they have done so, and mobile phones are now spreading fast, even in the poorest parts of the world.
I wholeheartedly agree with their point - indeed my post a year ago (!) A Trinity: Finance, Mobile Phones & Africa(from November 11, 2006) made many of the same observations:
It seems clear that mobile phones (as opposed to personal computers) will be the most important device for access and connectivity in the developing world, and probably everywhere eventually. But access to the internet and computing will become more and more common everywhere, with many different initiatives - both technological and financial - focused on bringing down the cost and expanding the market for computing in the developing world.
As has been written many many times before, mobile phones are changing everything. From politics to business to culture. The digital generation is but a subset of the connected generation, a worldwide phenomenon. Again, this is probably being felt more strongly in developing countries - not so much because the effect is greater or different
