Pricing for the majority of new media titles ranges between $39 and $99. The retail channel is skeptical, if not uninterested, in dedicating valuable shelf space to new media titles. This is slowly changing, and the software stores are stocking more and more product.
The retailer. A key factor in the development of this market is the attitude of the retailer. He is the access to the primary customer. He will take no risk. He demands, and receives, 100 percent return privilege on all products -- thus passing the risk back to the distributors of new media (sometimes two tiers of them) who ultimately pass it back to the developer/publisher. (For more on this, see Choosing the Best New Media Distributor," Vol. 2, No. 9, p. 7.)
The food chain. There are many tiers of distribution between the developer, who may self-publish or take his title to a publisher, and the consumer. The developer/publisher will take his product to a new media distributor. The major players include Electronic Arts, Compton's New Media, Broderbund and Time Warner Interactive, formerly Warner New Media.
The new media distributor then takes the product into the larger software distributors, the top tier of distribution.
These top-tier distributors include Baker & Taylor Software (formerly known as SoftKat), Ingram-Micro and Merisel. These larger mass-market distributors then move the product into retail, beginning with software-only stores and computer superstores. Later they will move product into the video, audio and bookstore channels.
While selling "up" to the top tier, the new media distributors also sell "around" them, placing the product directly into retail chains, to gain shelf space and to leverage more margin. Major players in the retail market currently include only high-tech stores such as Egghead, Comp USA, Babbages and Software Etc.
Little attention from the retailers. Retailers then assign shelf space for the titles, based on the number of titles they agree to try. This agreement is generally arrived at by a deal that includes 100 percent return and stock-balancing privileges against the floppy-based software carried by that distributor, and some serious marketing dollars from the distributor for the promotion of the CD titles.
At this time, there is generally a single set of shelves, perhaps four shelves by three feet each, dedicated to new media titles. Some leading stores, like Egghead in New York, stock three times this amount. The titles are rarely segmented between Mac and DOS, and some titles publish both platforms on a single disc. There is no retail clarity for the positioning or selling of these products.
In retail outlets that focus on Sega and Nintendo games, new media titles receive secondary or tertiary shelf space positioning. There is rarely a demonstration unit available for the viewing of a title. This is because the market is in its infancy, and because retailers will not give over the four square feet of space required for a kiosk without a financial commitment for the leasing of that space by the publisher or platform vendor.
To date, demo units for new media in retail are rare except in superstores. The first experiments are beginning now by platform developers. The notable exception is Tandy, which is the producer, distributor and retailer of its own product line and affiliated titles.
The retailers' lack of commitment to stocking, marketing and merchandising titles means that the publishers and distributors who are developing this market for their titles must create demand by extensive marketing and "pull-through" programs, to "pull" the customer into the store to buy the product.
A costly proposition with profit built in. many tiers of distribution cost money, but they function successfully and create a profit because the cost of goods produced is so low (about $1 to press a disc in quantity, and another $1 to package it) in comparison to the amount of data contained on the disc.
With these costs of goods in mind, and the knowledge that top-selling entertainment titles may sell 30,000 to 50,000 units a year, mostly through retail and mail-order channels, and that all other categories of successful titles sell 5,000 to 20,000 a year, and the price averages $39 to $69 per title, we can put together a market projection and a plan.
The plan shows that the market is still emerging. Once compelling titles of quality are broadly available, and the price of the hardware and the titles falls even further, the market will grow rapidly. The cost of goods will stay constant, or will fall, and the profit will appear more substantial as the volume of sales grows.
A publishing deal. The new media distributors, who are also publishers, are the pioneers taking the risk to create the market, and they are gathering titles through their own publishing divisions and through their Affiliated Labels divisions.
A developer may bring a title in finished programming form to any of these new media distributors and negotiate a deal for the distributor to publish and distribute it. This means that the developer provides a "one-up," also known as a "gold master" (language borrowed from the record industry), to the new media publisher/distributor.
As the publisher and distributor, then, Electronic Arts or Broderbund or the others position, market, press, package, merchandise and put into distribution the developer's title. For this publishing deal, the developer will generally receive about 10 cents of the purchase price in the form of a royalty payment.
This publishing model is appropriate for small technology businesses that are more focused on programming and development than they are on business development and management. If developers have not created and do not wish to create the business infrastructure to produce, market and sell their product, they should bring the title to a publisher and return to their computers to develop the next one.
At some point soon the conflict of interest inherent in being both a distributor and a publisher, as are Electronic Arts, Broderbund and others, may become problematic, as the distributor can offer preferential exposure to its own published products. These questions are only now beginning to be raised.
A distribution deal. If the developer is a savvy businessperson as well as a new media artist, he should press, package and produce the title, and commit resources and attention to its marketing and selling. This involves the development of an entire business infrastructure that is separate from the development team.
When a developer/publisher brings a finished, packaged title to a new media distributor, negotiations begin with the distributor's Affiliated Labels division.
Signing an Affiliated Labels agreement with a new media distributor generally means negotiating for two Christmas buying seasons and the subsequent three months until March 31. Sometimes the distributor asks for exclusivity for three Christmas seasons. The deal is exclusive for that distributor into retail. The publisher may leverage mail-order and direct-marketing channels and other channels than retail. At some point soon the conflict of interest inherent in being both a distributor and a publisher, as are Electronic Arts, Broderbund and others, may become problematic, as the distributor can offer preferential exposure to its own published products.
This allows the distributor to launch the product the first year at Christmas, the key buying season, and to carry the product through its initial life cycle to the second season. This term of the contract is rarely negotiable, although one competent developer has succeeded in renegotiating every year in March.
The initial contract language usually specifies exclusivity for the title and mentions nothing about platforms, thereby covering all CD-ROM hardware. This language must be negotiated out.
Generally the distributor insists on both Macintosh and MPC product exclusivity as a minimal condition, even if only one platform is ready or planned. It is wise to specify that the publisher retains the distribution rights to all other platforms (list them), transmission over cable and satellite downlinks, and any other platform and media now known or yet to be developed. This is generally not a problem since the distributor is only interested in retail distribution at this time.
The new media distributor (Broderbund, Electronic Arts, etc.) receives a 70 percent profit margin (a 70 percent discount from suggested retail list price) on the product -- that is, the publisher is offered 30 cents on the dollar. Sometimes, rarely, this margin is negotiated to 65 percent or 68 percent.
When the new media distributor passes the product up to Baker and Taylor/SoftKat, Ingram-Micro and/or Merisel, they're offered 50 to 60 percentage points. When the product is passed directly to retailers (usually the large chains), they're offered 40 to 50 points. The new media distributor maintains a business on this 10- to 20-point differential, and from the profits of development and participation in cooperative marketing programs with publishers.
More deal points. Notice that if the distributor has 100 percent return privileges (and at this time he always does), the publisher is essentially signing a consignment deal with up-front purchases. The distributor buys a volume of product and stores it in a warehouse. As it sells through, the publisher gets monthly sales reports and a check for the per-unit amount agreed upon in the contract.
Suppose that amount has started with 30 cents on the dollar to the publisher. The publisher then contributes more cents to the distributor's fund in the form of co-op advertising funds and reserves for defective products and returns. The level of these funds is agreed upon during the contract negotiation, and expressed as a percentage off the invoice to the publisher, and is deducted from the payment sent to the publisher from the distributor.
Co-op funds are generally 5 percent of the invoice amount to the publisher; a "reserves" fund can be 10 to 15 percent, again calculated off the invoice amount. If we apply the 5 percent co-op and the 10 percent reserve fund to the 30 cents on the dollar (the publisher's gross invoice amount from the distributor), we are left with 25.5 cents on the dollar for production, packaging and marketing of the product.
So the publisher gets 30 cents less 1.5 cents for co-op less 4.5 cents for reserves, or 25.5 cents per unit. To participate in co-op programs beyond this 5 percent fund, the publisher pays more into the fund (usually in product). If returns exceed the reserve fund, the publisher is responsible for the difference. If the product flops, it can all be returned to the publisher, who is liable for any monies advanced by the distributor for the initial pressing and packaging of the title. The reserve fund is reviewed every six months, and adjusted at that time based on sales and returns figures.
The implications. Although all this may be fair business dealings, it is not clearly spelled out in the contract, especially if read by the uninitiated.
The contract (usually) says the distributor will advance $X to the publisher for a certain volume of units, and will pay $Y to the publisher as they sell through, less returns.
It never mentions that this advance should be listed as a liability on the publisher's balance sheet (which may hinder finding new investment capital for the next product) or that it is due back, rather like an interest-free loan, if the product never sells through. This is assumed in the language of "advance."
Again, as we borrow language and concepts from other industries, certain assumptions are carried in the language, and the agreement is often not clear. It is not the distributor's responsibility to advise the publisher on business decisions, but it is wise for the publisher to understand all this.
The publisher must also handle how these agreements affect cash flow, especially during a first product launch. Suppose the publisher accepts an advance of $50,000 for the company's first title, and uses the money to publish and package the product and deliver it to the distributor. If it is early in the buying season, the publisher may sell enough product to recoup his advance and begin to see revenue coming in.
If the product is launched during a slower season, it may take several more months to see revenue. In the slow seasons (anytime other than September-March), the distributor is unlikely to stock more than a thousand units at a time. So if the product is released in a slow season, advance money will be quite limited.
Marketing programs. The distributor gains a great deal of profit from his cooperative (co-op) advertising programs. These include offering the publishers shared booth space at trade shows, shared advertising space in leading trade journals, participation in direct-mail campaigns, launch announcements and so on. During the initial launch of the product, many of these promotions are offered without charge, to sweeten the contract and to announce the new product for the benefit of both the distributor and the publisher.
After launch, co-op advertising is the most straightforward form of marketing available to the publisher, and most have a charge attached to them. This charge is expressed in dollars but exchanged in product. Actual money rarely changes hands.
But this is not nearly enough. The publisher is responsible for the marketing of the product, and extensive market development is required to gain the attention of the buying public. This is achieved by aggressive promotions such as 3-for-2 sales or "software bundles" of two or three titles at a reduced price, driven through retail and mail-order channels, generally using programs handled by the distributor.
Other promotions include
"guerrilla marketing" tactics such as co-marketing with similar but noncompeting
products, sharing customer lists, direct mail and so on.
Joey
Tamer refines the vision, strategy and success of companies --
Fortune 1000, capitalized start-ups and investment fund.
www.joeytamer.com
(310) 245 5310 joey @ joeytamer.com