ITunes Store Turns 5: Can Anyone Break Its Dominance?

Cupertino (CA) - Apple’s digital music store just celebrated its fifth anniversary and a Cinderella-like run so far. More than four billion music tracks and more than 125 million TV episodes have been sold since launch. The market share is estimated at or above 70% worldwide. Earlier this year, iTunes was believed to briefly have been the nation’s largest music retailer. TG Daily took a look at the store’s history, the environment and competing landscape to sum up its five years of business and look at difficulties it may be facing.

The iTunes music store (iTS) launched in a difficult time. Back in April 2008, memories of Napster and file-sharing networks such as Grokster were still alive and Kazaa was still thriving on illegal music file-sharing. Paying for music downloaded online was not a very popular idea among Internet users at the time and the only indication that times would change soon was the accelerating battle of the music industry against people who were sharing their music files through P2P services.

Apple launched the iTS in the U.S. on 28 April, 2003. The initially Mac-only service started with just 200,000 songs available on day one. Today, the service offers more than ten million tracks in the U.S. store alone. iTunes sold 275,000 tracks in the first 18 hours, passing the one million mark after five days. In the following October, Apple introduced iTS for Windows, effectively covering the whole computer market, not just the 3% market share Macs held back then - and the service was quickly accepted by Windows users: iTS for Windows sold million songs within three days. By December 15, barely 8 months after launch, iTS passed 25 million songs. A day later, Apple introduced iTS in France, Germany and the UK. As of March of this year, iTS has sold more than four billion songs worldwide.

Apple conceived its music download service not necessarily has a huge profit opportunity by itself, since much of the profit margin actually goes to the music publishers, but as promotional vehicle to push sales of iPods. A tight iPod/iTunes integration enabled iPod owners to shop for content for their iPods through their PCs and then easily sync the content to the device, all within a single application. Steve Jobs mentioned several times in the past that iTS "barely breaks even" but with today’s numbers that isn’t believed to be the case anymore.

Earlier this year, the iTS climbed to the number two spot in US music sales. During Jan-Feb, the iTS actually surpassed Wal-Mart to became the largest music retailer in the US, according to NPD Group’s Music Watch survey. No matter how you look at it, that is an impressive accomplishment by any merit for a service that sells digital downloads only. Since its inception, iTS has been the market leader in its segment and is estimated to commands 85% market share in U.S. paid music downloads, according to Nielsen SoundScan. The international share has been hovering around 70%. A Digital Music News survey found that the iTunes app is installed on almost 30% of all computers worldwide, while the store has over 50 million active users. Consider this enormous volume of sales and impact and it’s no surprise that the iTS revenue was substantial enough to decrease Apple’s gross margins during the first quarter of this year - simply because iTS sells low-margin products in high volumes.

Besides different geographies, Apple expanded iTS to Apple TV and mobile products by introducing Wi-Fi iTunes Store for the iPhone/iPod touch. Both devices are seen by analysts as Apple’s a strategy to breathe new life in the iPod business that most recently grew only 1% year-over-year. Industry watchers believe the upcoming 3G iPhone may reveal a "true" mobile iTunes Store that isn’t accessible only over Wi-Fi but also over a carrier’s mobile network. There are also rumors that Apple is in discussion with music labels to introduce an all-you-can eat subscription plan for the service. But despite its stellar success so far and future prospect, the iTS has challenges as well.

Not counting the competing services, most notably the Amazon MP3 store and eMusic, there are many concerns over a limited availability of movie rentals, Apple’s clash with Hollywood and the music industry, limited localized content in regional iTS stores and the lack of Pan-European and international stores. The lack of movie rentals already took its toll on Apple TV, a device that Apple pitched as "the DVD player for the 21st century".

Apple’s officials went on record during the Q2 2008 conference call to stress movie rentals on iTS were generally "well-received" but MacWorld reported that the company missed its self-imposed target of having thousands of movie rentals available by the end of February. Whatever the reason, the lack of move rentals was cited as the primary factor behind the failure of the Apple TV so far, prompting the company to release the "Take 2" software update for the device that brought movie rentals to the game. But Blockbuster and Netflix are moving into the set-top box business as well and are expected to offer a greater selection of movie rentals. It is not difficult to see that it is a critical time for Apple to expand iTS movie offerings. Otherwise, there will have to be ’Take 3’ for Apple TV.

The lack of movie rentals or DRM-free MP3 songs from all record labels, not just EMI, is believed to be the result of Apple’s wrong-footed relationship with the music industry and Hollywood. Apple took record labels by surprise and it seems that music executives have little choice but to bend to Steve Jobs and the uniform 99 cents-a-song pricing model. Every now and then, music execs are throwing poisoned darts at Jobs, clearly showing that there are tensions. The rebellion is led by Universal Music Group who accuses Apple of using the label’s content to push the iPod sales. These thoughts are not echoed publicly by the Hollywood, but it is evident that movie studios want to deflect consumer electronics giant’s attack on all fronts. Hollywood doesn’t want to see Apple exerting the same kind of power on the market it has in the music business.

It’s difficult to pin-point who the bad guy is. Some critics claim that content providers do not understand new realities, blaming them for the lack of a viable digital delivery strategy and wrong business models. On the other side, there are those who think Steve Jobs is to blame, because of his insistence to control the pricing of the content that isn’t Apple’s in the first place. They can’t afford to pull the content completely off the iTS but are working actively to undermine the service dominance by exploring other services or developing their own services - such as recently introduced Hulu. Apple and the content providers will have to sit down sooner or later to work out the differences.