Niche Music Markets Online

New York Times
January 9, 2006
Buying Music From Anywhere and Selling It for Play on the Internet
By ROBERT LEVINE

Working in the media and entertainment group of the consultants McKinsey & Company, Greg Scholl got a firsthand look at the inefficiency in the music business: the major record labels focus on creating hits, and they rarely make money on releases that sell less than a few hundred thousand copies.

Now, as chief executive of the Orchard, a music distributor that sells to iTunes, Napster, Yahoo and other digital music services, Mr. Scholl is trying to exploit that inefficiency.

The Orchard is seeking to make money by purchasing music from small independent and foreign labels, and then distributing it to digital music services. In most music stores, CD's of, say, Chinese or Kenyan pop music would be consigned to the world-music bin as a good will gesture. But the economics of online stores is changing the financial calculations of the music business, making it profitable to sell a relatively small number of copies of a song, as long as a compact disc is not manufactured and distributed.

So instead of trying to sell millions of copies of hundreds of albums, the standard music industry strategy, the Orchard hopes to sell hundreds of copies of thousands of albums. In that way, the company is anticipating that sales will follow a pattern known as "the long tail," in which a large number of only marginally popular items can eventually produce significant revenue.

"We're not trying to make something a hit in order to make a business work," Mr. Scholl said. "We cast a very wide net, and we're going to catch some hits in it."

So far, the Orchard has made deals to sell about 650,000 tracks from 72 countries to various services, including ring tone outlets. Those tracks include music from relatively well-known bands like Black Uhuru as well as thousands of Chinese pop songs. Much of that music is not yet online, and the company is not sure if all of it will ever be. The plan is to add music to various services gradually, so it can be promoted appropriately.

The Orchard is not the only company looking to strike gold in the more obscure parts of the music business. One of the Orchard's rivals, the Independent Online Distribution Alliance, recently got the rights to digitally distribute 60,000 albums worth of music from a Chinese state-owned record company. The Orchard also faces competition from distribution companies owned by major labels.

The bet that executives of these businesses are making is that online services will increase demand for music that was not previously popular, just as eBay stoked the sale of old books and trinkets once considered largely worthless.

As Ted Schadler, an analyst at Forrester Research, put it: "In the world of shiny plastic discs, there are two barriers to getting the music you want: It's not in the store, or you've never heard of it. With digital distribution, the first barrier disappears. The second gets eased because of search engines, recommendation engines, technology like that."

The Orchard was founded in 1997 as a distribution company by Scott Cohen and Richard Gottehrer, a songwriter whose hits included "My Boyfriend's Back." Named after its original location, on Orchard Street on the Lower East Side of Manhattan, it began losing money and eventually acquired a reputation as being less than prompt with payments.

In 2003 the Orchard was purchased by Dimensional Associates, the private equity arm of JDS Capital Management, for what Mr. Scholl indicated was less than $10 million. Dimensional also owns the online service eMusic and a music publishing company, and was interested in the Orchard partly because of the digital distribution rights it had acquired.

"We were aware of the reputation," said Mr. Scholl, who was brought in to run the company, "and we worked to pay everyone back and begin more transparent accounting."

The Orchard, Mr. Scholl said, is a "digital aggregator," a middleman between small independent labels and digital music services. Major labels, as well as most sizable independents, deal with such services directly or through an established physical distribution company like the Alternative Distribution Alliance, owned by Warner Music.

The Orchard, as well as the Independent Online Distribution Alliance, mostly represent small labels in quantity. Along with a smattering of tracks recorded by stars before they signed with major labels, they offer an embarrassment of niches: free jazz, black metal and, in the case of the Orchard, a label that specializes in calliope music. And as the cost of putting tracks online is low, anything that can sell a few copies is worthwhile.

"I'd say we more or less want everything," remarked Kevin Arnold, founder and chief executive of the independent alliance.

Most digital distribution deals give the distributor 15 percent of the wholesale price of a track, usually somewhere around 65 cents, according to several people in the industry. Mr. Scholl said that the Orchard generally receives a higher percentage because it can effectively promote music to the services that sell it. To generate attention for some of the music from China, for example, it arranged for Jackie Chan to provide a list of his favorite tracks.

"It's the equivalent of taking the music from the backroom, where you'd have to look for it, into the store," Mr. Scholl said.

For some of the Orchard's international partners, the strategy is working. Epsa, an Argentine tango label, distributes about 500 albums through the Orchard. Laura Tesoriero, the label's chief executive, who also works with the Orchard as a representative in South America, said it had sold 10,000 digital tracks last quarter - no more than a rounding error by the standards of the United States pop music market, but enough to leave her feeling encouraged about the future of digital sales. A significant number of those sales, she expects, were to Argentines living in this country.

The most significant growth in the sale of foreign music could come as the idea of buying online gains traction among such immigrant communities.

"People in China don't think of Chinese music as world music and neither do Chinese people in the U.S.," said Yale Evelev, president of Luaka Bop, an independent label owned by David Byrne that specializes in pop music from Africa and South America.

The Orchard will face greater competition as major labels sell the music they release internationally in the United States. The EMI Group, for example, plans to make available in this country a majority of the music it sells anywhere in the world, Adam Klein, a vice president, said. As an example of the potential of this, Mr. Klein said that Hotei, a band signed by EMI in Japan, had one of the top 10 rock albums on iTunes after one of its songs appeared on the soundtrack of "Kill Bill: Volume 1."

Even with a business model that does not rely on hits, they would be welcome. "One man's niche is another man's mass market," Mike McGuire, a Gartner analyst said.