Despite declining user interest in digital music and the threat competition from giants with deep pockets like Sony, Apple, and Google, investors are pouring money into digital music companies.
VCs have already put at least $57 million into digital music in 2011, according to the New York Times.
The Times names subscription music service Rdio, which recently scored $17.5 million from Skype cofounder Niklas Zennstrom, as well as Soundcloud, which lets musicians post and share files online, and RootMusic, which helps bands set up fan pages on Facebook.
But history shows it's almost impossible to build a big profitable business in digital music, for the following reasons:
- For selling music to consumers, Apple is dominant and very hard to compete against because it uses iTunes as a loss leader for its more profitable business of selling hardware.
- Selling services to musicians is a dead end because most are cheap and/or broke.
- Unless you own the content or can somehow find a legal way around licensing fees, a huge chunk of your revenue goes to the content owners -- record companies and publishers.
So what's going on here? Are these people crazy?
Not necessarily. Where there's churn, there's opportunity, and despite steep declines in absolute and per-capita revenue, consumers still spend about $8 billion on recorded music.
Investors look at companies with huge and growing user bases like Pandora, which recently filed for an IPO after more than 10 years as a private company, and Spotify, which boasts more than 10 million (mostly non-paying) users and has recently raised about $100 million from investors, and assumes that one or two of these companies will eventually dominate the new music landscape.
Or maybe we really are entering another Internet bubble, as many critics are claiming, and these VCs are getting in now in hopes of selling these companies off to a greater fool down the line.
