Your Next Set-Top Box, Part 2

In Part 1 of this topic, I introduced the concept of the "One Box," a set-top box (STB) that can serve as a digital cable box, DVR, DVD/blue laser player, game console and media center. I proposed that One Boxes will most likely be based on Microsoft's XBOX 360 and Sony' Playstation 3. In the second and final part, I'll examine the challenges and opportunities that the One Box brings to major industry players.

Cable MSOs

In my opinion, the cable operators never really wanted to get into the set-top box business, but they were forced to do so, first for technical reasons and then for security and value-added services. In the early days, when TVs only had screw-type antenna terminals, cable operators could get by with cheap baluns that converted coaxial cable signals to television antenna inputs. Eventually, virtually all televisions included coaxial cable inputs, which eliminated the need for a balun. However, in these simple systems, it was very easy to steal cable signals, and almost impossible for cable operators to track thieves down. To combat theft, cable operators switched to addressable set-top boxes, which enabled them to turn service on or off at a central location, as well as identify people who were getting cable service but not paying for it.


When cable systems went digital, there were a vast number of digital channels that a television set couldn't tune to. The FCC requires cable operators to provide a low-cost analog service for those customers who don't want or can't afford digital cable, but any viewer who wants more than the limited analog channel lineup has to upgrade to a digital STB. With digital boxes, cable operators can provide interactive programs guides (IPGs,) enhanced pay-per-view and video-on-demand (VOD) services. The latest digital STBs have integrated DVRs which permit local storage and replay of programs.


Each improvement makes STBs more complex and expensive. At present, MSOs purchase set-top boxes for $100 to $300 each. They have to stock, maintain and refurbish boxes. As boxes are lost, stolen or destroyed, they have to replace them. And, the IRS requires cable operators to write off their investment in STBs over seven years. The result is that MSOs take a lot of time deciding on whether, when and with what to replace their existing STBs. The upfront cost can range into the billions of dollars for the largest MSOs.


Now comes the One Box. Unlike cable STBs, the One Box will be updated on consumer electronics timelines. For example, the original Microsoft XBOX started shipping in the U.S. before Christmas, 2001. Four years later, it's been superseded by the XBOX 360. (The Playstation 2 will be about six years old when it's superseded by the Playstation 3.) While neither the XBOX 360 nor the PS3 are "open," they're both expandable. In about the time that an MSO can upgrade its entire installed base to a new generation of STBs, consumer electronics companies can ship two generations of their products.


If third-party STBs take off, cable operators will get stuck with thousands or even millions of boxes that they no longer need. The MSOs can't require their customers to rent STBs from them because of an FCC ruling that requires cable operators to support third-party "navigation devices" (set-top boxes, DVRs, television receivers, etc.) by July 1, 2007, starting with the six largest MSOs. Cable operators must provide customers using such devices with a CableCARD (TM), which performs the same security and service support as their digital STBs. Today's CableCARD 1.0 standard doesn't support electronic program guides, video-on-demand or interactive applications, and only includes a single tuner (which makes recording one program while watching another impossible.) CableCARDs conforming to the 2.0 specification will support VOD and interactive applications, and will include two tuners for more DVR functionality; these cards are expected to ship by the end of 2006. However, existing CableCARD slots won't support the 2.0 standard; they have to be redesigned in order to be compatible.


Cable operators rent out CableCARDs, of course, but they generate much less income for them (CableCARDs typically rent for 1/3rd or less of the monthly cost of a digital STB.) CableCARDs are also much easier to steal or lose, and they can't be repaired or refurbished; if they're damaged, they have to be replaced. So, they're stuck with two inventories: One of STBs, the other of CableCARDs. The can't drop the STBs because most of their customers still can't use CableCARDs, and they have to supply CableCARDs and thus make much less money from rentals. Over time, there will be more and more CableCARDs and fewer and fewer standalone STBs.

Consumer Electronics Manufacturers

Consumer electronics companies have wanted to get into the set-top box market for years, but for all practical purposes, they're locked out of the U.S. cable business due to the MSOs' massive investments in Motorola and Scientific-Atlanta (soon to be Cisco) equipment. The limitations of CableCARD 1.0 (one-way communications only) make it an unacceptable substitute for integrated STBs. The formal launch of CableCARD 2.0 and related software will for the first time put the CE manufacturers (including Microsoft and Sony) on an even footing with the legacy STB vendors.


While Microsoft and Sony are uniquely positioned to deliver One Box hardware, there are other vendors who are very close. For example, TiVo announced last year its intention to offer a combination HD DVR/STB as soon as 2.0 CableCARDs ship. Humax, a TiVo licensee, already combines DVR functionality with a built-in DVD recorder, thus providing three of the four elements of the One Box. LG, Panasonic, Philips, Samsung, Sharp and Toshiba (among others) all sell DVR/DVD recorder combos that can incorporate full digital STB capabilities with CableCARD 2.0.


There's no particular magic involved in building a STB/DVR/DVD recorder; all the hardware is readily available. The challenge is integration: Getting all the pieces to work together seamlessly and transparently to the user. The key is software--both the user interface and the "behind-the-scenes" services and system management software. In this area, Microsoft and TiVo are well ahead of Sony and the other CE manufacturers. TiVo's true "value-adds" are its intuitive user interface, powerful features and online program guide, all implemented in software on a generic Linux platform. Microsoft licenses the Microsoft Program Guide, a software and services package that gives Windows XP Media Center Edition-equipped PCs TiVo-like functionality, to CE manufacturers (the first being LG Electronics.) No matter who manufactures the hardware, the "arms merchants" that make everything work will be software and services experts like Microsoft and TiVo.

Content Aggregators

The One Box could well become a godsend for content aggregators, placing them for the first time on an even playing field with the cable and satellite operators. The cost, time and effort required to launch a new cable network are enormous. The vast majority of proposed cable networks never get off the ground because of a lack of funding, a lack of available channels (even on digital tiers), or both. The fastest way to get a new network on a large number of cable systems is to buy an existing one. For example, Al Gore and Joel Hyatt led an investment team that acquired Newsworld International from NBC Universal for $70 million, and transformed Newsworld into Current, a current events network targeting the 18-to-34 audience. By buying NWI, Current got into 19 million households, most of which came from DIRECTV, but the network has no chance of being successful until it gets into most U.S. households through cable. To do so, Current will have to pay cable operators to carry the network, at least until its advertising revenues and audiences are large enough that MSOs will start paying carriage fees to Current. Several hundred million dollars will be sunk into the network before it becomes available to the majority of television households. The One Box could eventually make it practical for future networks like Current to launch directly into consumers' homes via the Internet, dramatically decreasing the amounts of time and money needed to reach "critical mass."


Startups Akimbo and DAVE Networks are examples of IPTV distributors that license video content from a variety of sources and then make it available to consumers through proprietary set-top boxes and software. To date, the "take rate" for their STBs and services has been low, in part because most consumers don't want to add yet another set-top box to their living rooms. The One Box will enable these companies to offer content and services without requiring consumers to purchase their STBs. They can get out of the STB business and focus on their content and services.


The One Box is also attractive to content aggregators such as Google, MSN and Yahoo, which can provide their own friendly user interfaces and "electronic program guides" for the content that they host on their own systems and promote for others. For example, one can readily envision a Yahoo! program guide running on the One Box that enables viewers to stream and download news, sports and entertainment. Content on the Internet will be almost as convenient to find and watch as content on cable, so long as the Internet powerhouses are willing and able to develop a look and feel for their services that's comparable or superior to what consumers already get with their cable set-top boxes.

Integrated Set-Top Box Manufacturers

In the One Box era, the incumbent STB manufacturers will have their work cut out for them. One the one hand, FCC rules require the MSOs to replace their existing integrated STBs with STBs with CableCARD slots, which will open up an enormous replacement market years ahead of time. On the other hand, there's absolutely no reason why MSOs have to buy their open STBs from Motorola, Scientific-Atlanta, Pioneer, Pace, etc. The incumbents will manufacture and ship millions of CableCARDs to the MSOs, but the cards sell for a fraction of the price of integrated STBs. As a result, their revenues will drop dramatically unless they can convince MSOs and consumers that their STBs are preferable to those from consumer electronics companies. STB manufacturers have always had no more than a handful of serious competitors for sales to cable operators, but that era is coming to an end.

Set-Top News: Cisco Buys Scientific-Atlanta

Earlier this morning, Cisco Systems acquired Scientific-Atlanta for $6.9 billion. Scientific-Atlanta is one of the two world leaders in the set-top box market, along with Motorola. The acquisition instantly turns Cisco into a pivotal player in the cable industry.

In 2003, Cisco acquired Linksys, which was (and continues to be) the leader in networking equipment for SOHOs (small offices/home offices.) While Linksys’s products appeal to technically-oriented users, it has had problems penetrating the home entertainment market. Scientific-Atlanta gives Cisco entrée into home entertainment with a huge installed base (S-A has already shipped 2.6 million high-definition set-top boxes.)

I expect that Cisco’s networking expertise will start getting built into S-A’s products as soon as the acquisition is finalized. A good deal of technology is likely to be shared between S-A and Linksys, with S-A building “ruggedized” versions of products for cable operators and Linksys building consumer-grade versions for sale at retail. Cisco is also acquiring S-A’s cable infrastructure products, which will enable them to supply end-to-end solutions to the cable industry for the first time.

Look for some very interesting announcements as early as the Consumer Electronics Show in January, and major product & strategic announcements at the National Cable Television Association’s (NCTA) national conference in April. In short, this is very big news. The 900 pound gorilla of the networking business is about to become at least a 400 pound gorilla in cable.

Your Next Set-Top Box

You’ve probably got a set-top box in your living room. Most likely, it’s a cable model made by Motorola or Scientific-Atlanta. It might have a DVR with a hard disk built in, but most likely, it gives you access to analog and digital channels, perhaps on-demand programming, and maybe HD (if you pay extra). That’s it.

If Microsoft and Sony get their way, however, your next set-top box with look suspiciously like a XBOX 360 or a Playstation 3. A game console as a set-top box? In reality, the next-generation systems are called game consoles only because that’s the easiest way to categorize them. The XBOX 360 is the obvious follow-on to the XBOX, just as the Playstation 3 was born from the original Playstation and Playstation 2, but game playing is only the tip (albeit a very big tip) of the iceberg.

For years, consumer electronics, computer, cable and satellite market analysts have searched for a “Holy Grail” that will bring about the great age of Convergence. Today, if you want a digital cable receiver, DVR, DVD player and game console, you’ll need as many as four different boxes, all of which have to be connected to each other and to other home theater equipment. It’s a nightmare--when something goes wrong, where does the consumer go for help? One version of the Grail is what I’ll call the One Box: One set-top box that does it all…one box to replace all four boxes. Nothing to interconnect because everything is in one box, and a handful of connections to the home theater system.

Digital cable (or satellite) receivers and DVRs have been integrated by the major cable set-top box manufacturers, as well as TiVo and Pace (both for DIRECTV.) These integrated receivers are being adopted much faster, and in much greater numbers, than standalone DVRs. That mergers two boxes into one. The current generation of game consoles can play CDs and DVDs, so they can replace a standalone DVD player (merging another two boxes into one,) although DVD players are so cheap and so much more flexible than the current game players that there’s little reason to substitute one for the other.

That still leaves at least two boxes for the consumer to deal with, each with its own set of connections, remote controls and “looks & feels.” One Box Nirvana is reached with a single box that does all four key functions, plus new functions that are enabled by combining everything together. That’s where the next-generation game consoles come in.

The XBOX 360 and Playstation 3 can of course play videogames superbly, on conventional definition and HD screens, in stereo or 5.1 surround sound. Their built-in optical drives (DVD in the XBOX 360, Blu-Ray in the Playstation 3) will be a match for any standalone player on the market. There won’t be any reason to keep a standalone player if you have a next-generation console. That removes one box (the standalone disc player.)

The next two pieces are a little tougher. The most challenging job is to integrate a digital cable or satellite receiver into the game consoles. Both the XBOX 360 and Playstation 3 have the horsepower to handle all the functions that set-top boxes now perform—not just tuning to a channel, but also interactive program guides, on-demand and pay-per-view programs. However, in their current incarnations, neither console will incorporate a slot into which a module (a CableCARD) can be inserted in order to add set-top box functionality. There are ways to work around this, and both Microsoft and Sony have undoubtedly already chosen their approaches (either a module that can be connected to their game consoles, or a different version of their consoles with CableCARD slots.)

Note that this isn’t a problem for consoles connected to IPTV systems (the kinds of video networks proposed by Verizon and SBC, among others.) Those systems use the Ethernet connections like those already built into the XBOX 360 and Playstation 3 to send content to and from the set-top box.  If you’re using IPTV, skip this step; no receiver required.

The last piece, the DVR, falls in place once the receiver is added. Both the XBOX 360 and Playstation 3 need at least 80GB of hard disk space to be usable DVRs. Microsoft’s hard disk will only be 20GB; enough to store game data and lots of MP3s, but nowhere enough for video recording. Sony hasn’t announced the hard disks available for the Playstation 3, so it remains to be seen if they’ll be limited. In either case, however, adding larger capacity disk drives is only a matter of how much more consumers are willing to pay, not technical limitations.

In short: Add a digital cable or satellite receiver, along with at least 80GB of disk space, and either the XBOX 360 or Playstation 3 becomes the One Box. This analysis doesn’t even begin to take into account all of the additional things that become possible after you’ve combined all the functions. For example, you can connect the One Box to your network and share audio, video, images and games with your PCs and Macs. You can take programs recorded by the One Box’s DVR and make them available to your notebook computer, anywhere on the Internet, or to your cell phone or media player, anywhere at all. You can create podcasts and videocasts, and then stream them anywhere via the One Box.

In Part 2, I’ll discuss why the One Box represents both a threat and opportunity to the biggest players in the business.

A Two-Track Mind

My first job after college was working for Hewlett-Packard in Corvallis, Oregon. I spent a year as a product manager, and then transferred to the Lab to work as a software engineer. While in the Lab, I took note of a very unusual promotions policy that was unique to engineering. HP had a “two-track” promotions system, where engineers could take the conventional path and advance through the ranks by taking on management responsibilities. However, for engineers who were much more comfortable as individual contributors, didn’t want to deal with supervisory duties, or got promoted to a management position that they weren’t suited for, HP established a parallel promotion path. Engineers could choose to remain individual contributors, but get more senior titles and more money based on their performance.

At the time, I couldn’t imagine why anyone would want to take this path. I’d just graduated from an MBA program and thought that I should already be running the company. Why wouldn’t someone want more power and influence?

It took me a long time to figure it out, but after many years observing what really goes on in all kinds and sizes of businesses, I finally got it. There are a lot of excellent people who don’t have the temperament, desire or skill to manage others. They’re superb at what they were originally hired to do (i.e., engineering, sales, accounting, etc.), but for them to get promoted, they have to take on supervisory tasks that they don’t want or can’t handle.

How many of us know salespeople who were superb in the field, and then got promoted to sales manager and mismanaged their sales teams? Their employers lost two ways: First, they took one of their best salespeople away from selling, and second, they increased tension and lowered close rates for their other salespeople.

Why can’t a superb engineer stay an engineer? Why can’t a great salesperson keep on selling? Two of my uncles are examples of how this can work. My uncle Ben was considered to be the world’s greatest insurance salesman during his lifetime (Chairman Emeritus of the Million Dollar Roundtable, etc.) He worked for New York Life in a little town in Ohio, and for years his managers at headquarters wanted him to become a manager and supervise much, if not all, of the sales force. He always turned them down. He loved nothing more than to call on customers and sell them life insurance. He was an incredibly successful individual contributor. At the end of the day, New York Life would probably have hurt itself by promoting Ben to headquarters, and Ben knew it. He stayed a field agent until the day he died.

My Uncle Abe joined the Navy during WWII. He decided to make the Navy his career, and stayed for almost 30 years. He got promoted to Chief Petty Officer, one of the highest non-commissioned positions in the Navy. For years, time after time, Abe was offered promotions to commissioned rank, and time after time, he turned them down. He was perfectly happy as a CPO, and by his retirement, he was one of the most experienced CPOs in the Navy.

Looking back at my time with HP, I probably would have been happier on a non-management track, at least until I learned the people skills, patience and even-handedness that are hallmarks of good supervisors. A lot of people would appreciate and benefit from the option of moving up without moving into management, and a lot of companies would retain more people doing a better job.

There’s a lot of companies (and organizations) that would benefit from a two-track promotion system. You may be working for one. Declining a promotion to supervisory management shouldn’t be career suicide. Think about it the next time you get offered a promotion or look for a new job.

The Right Problem

In the late 1970s, when I was studying for my MBA at Northwestern’s Kellogg School of Management, I took course in Channels of Distribution, taught by Lou Stern. At the time, Lou (now retired) was considered the world’s leading expert on channels (the marketing process necessary to get goods and services from manufacturers to final consumers, and the entities (“members”) through which the goods and services change hands on their way to the consumer.)

Case studies were all the rage in the 1970s, and Kellogg was no exception. The Channels class included a case study on Volkswagen of America that took place in the early 70s. Volkswagen’s sales were down and their relations with dealers were very poor. Their dealers were usually located in undesirable locations, and their facilities were poorly maintained. What, asked Lou, had to be changed in Volkswagen’s relationships with dealers for the company to again be successful?

I’d shopped for a Volkswagen during the period covered by the case study, so I had personal experience with the problems with VW dealers. However, it was very clear to me that the problems with the channel had nothing to do with Volkswagen’s real problems; in fact, the dealer problems were merely a symptom.

In the early 70s, VW’s product line consisted of the Beetle, Sedan, Wagon, Karmann Ghia and Bus. VW defined the US economy car market in the 1960s, but by the time of the case study, both the look and technology of their cars was dated, and their quality, which had once been superb, was in decline. At the same time, Toyota and Datsun had entered the market with cars that were better-looking, more powerful, better engineered and higher quality than VW’s, at lower prices.

Given a choice between VWs and cars that cost less and were superior in just about every way, consumers did the only sensible thing: They stopped buying VWs. Volkswagen’s market share plummeted. VW dealers’ revenues dropped through the floor. They didn’t have enough money to maintain their dealerships, move to better locations, or advertise.

What would have happened if VW had fixed all its channel problems? Loaned their dealers money to clean up their buildings or move to better locations? Pumped more money into local advertising? Improved their relationships with the dealers? None of that would have fixed much for very long, because the real problem was Volkswagen’s products, not their channel of distribution. The cleanest, most modern dealerships still couldn’t sell crappy cars.

In my report on the case study, I said all of that (in more words, of course, since length counted.) Lou wasn’t impressed. He gave me a C+. Lou was wrong, which leads us to:

Rule #1: You have to know what the real problem is in order to fix it.

Far too many organizations solve the wrong problem. McDonald’s was struggling while other fast food chains were growing. To turn the company around, they tried a bunch of things: They added playgrounds to their restaurants to attract more families, dumbed down their cash registers to compensate for their huge employment attrition rate (at one point McDonald’s was turning over almost its entire workforce every year,) and cleaned up the restaurants. They launched McRib sandwiches and hamburgers with artificial beef made with seaweed. They completely redesigned their sandwich production process to speed up delivery and make sandwiches fresh for every order. They experimented with cafes attached to their restaurants (McCafes) in cities with Starbucks on every corner.

What happened? Their sales continued to drop. McDonald’s solved many problems, except the core one: Their food. The core menu was old, and the beef patties had no more flavor than the buns. The seaweed beef substitute tasted like cardboard. Even switching to a healthier oil used for frying French fries backfired: The new fries didn’t taste as good as the ones fried with the fattier oil, so McDonald’s had to switch back to the original formula..

While McDonald’s was adding playgrounds, cleaning the restaurants, speeding up delivery, etc., their focus, energy and resources were diverted from fixing the core problem. It’s only in the last 18 months that McDonald’s has focused on its food. They’ve launched a family of chicken sandwiches that are both healthier than hamburgers and taste good. They’ve worked hard to improve the flavor and quality of its hamburgers. They’re starting to replace their coffee (known for being very hot but not very good) with a much better coffee made from Fair Trade beans.

McDonald’s sales are trending up for the first time in several years, because they’re finally getting the food right.  If McDonald’s had been fully focused on improving their food instead of playgrounds and production processes, they would have turned the company around years earlier. Even if they tried and failed repeatedly to get the food right, they would have committed the resources and effort necessary to eventually solve the problem. Which leads us to:

Corollary #1: Doing a great job of fixing the wrong problem can often be worse than doing a bad job of fixing the right problem.

Focusing on the wrong problem diverts the resources necessary to fix the real problem. During the Jacques Nasser regime at Ford, he fired most of the senior managers who knew anything about making and selling cars, made a huge investment in Internet marketing, bought Volvo, Land Rover, Jaguar, Aston Martin and operating control of Mazda, then bought junk yards and went on the record saying that his goal was to get Ford’s revenues from cars and trucks down to less than 50% of the total. In other words, he fixed everything but the real problem: Ford’s own vehicles were mediocre at best. Quality was poor and designs were unappealing.

You can’t fix the problem of not selling enough cars by selling fewer cars. Hence, Bill Ford allowed Nasser to spend more time with his family, and took over running the company. Ford hasn’t done a great job of running the company either, but at least he has the company focused on the real problem: Improving the design and quality of its cars and trucks.

In the car business, there’s virtually no problem that can’t be solved with better products. However, I don’t mean to infer that products are always the problem. For example, Jones Soda has great products, but their sales potential is limited by a dearth of local distributors that are both strong and unencumbered by exclusive distribution deals with companies like Coca-Cola and Pepsi. That’s a channel problem. Making their cherry soda taste better is great, but it doesn’t get it into more stores.

My point is simple: In order to fix the real problem, you have to know and focus on what the real problem is.

Big TV, Little TV

Not long ago, the New York Times published an article that suggests that “television” is splitting into two related, but significantly different, mediums. “Big TV” is watched on ever more giant monitors, takes advantage of all the latest presentation bells and whistles (HD, 5.1 sound, etc.), transmits content that comes in multiples of 30 minutes long, and is (usually) professionally produced. “Little TV” is watched on ever smaller screens, such as mobile phones, the new iPod and media players. Programs are designed to work well with a tiny screen and mono sound, so there’s no bells and whistles. Little TV programs are typically short (6 to 10 minutes,) but they can be any length. Finally, with a few exceptions, Little TV content is produced by individuals, not by a studio or large production company; while the quality can be very good, it’s rarely up to “professional” standards.

In days gone by, using Marshall McLuhan’s taxonomy, Big TV would be a “hot” medium and Little TV would be “cool.” Big TV invites passive observation, while Little TV invites active participation. Not only is that true for the audience, it’s true for producers as well. Big TV is usually produced months before it’s seen by an audience, and Big TV producers rarely care whether or not individual audience members actually like their programs. They only care about ratings, a handful of aggregate numbers around which the entire Big TV universe revolves.

Little TV, on the other hand, is usually delivered piping hot to the audience, no more than days (and sometimes, seconds) after it’s been produced. If audience members like or dislike the program, Little TV producers will hear about it instantly, on their and other people’s blogs and by email. Little TV programs have too small and dispersed an audience to be measured by ratings services, so Little TV producers rely on audience feedback and server hits to determine their programs’ popularities.

The tools used to create Big TV and Little TV are very different as well. Big TV uses everything from HD cameras to professional microphones, and programs are edited on Avid or Apple systems that get more “professional” as they get more expensive. While the cost of production and post-production equipment for Big TV has dropped precipitously, it’s still expensive. Even more important, Big TV production requires significant training and experience in order to get the best results. Big TV tools come from companies like Avid, Autodesk, Digidesign, Euphonix, Panasonic, Quantel and Sony—cameras that cost upwards of $100,000, post-production systems that can easily reach $500,000, and audio systems from a few thousand to hundreds of thousands of dollars.

By contrast, Little TV programs cost next to nothing to produce. All that’s needed is an inexpensive DV camcorder, a decent microphone or two, a PC or Mac with basic media editing software and an Internet connection. Even if a producer uses a HD camcorder, great audio equipment and a full-blown post-production system, the benefits of all the bells and whistles will be lost on the Little TV screen. The big players in Little TV are companies like M-Audio and Pinnacle Systems (both owned by Avid,) Adobe, Apple, Panasonic and Sony—products that cost from a few hundred to a few thousand dollars.

For example, a producer can trick out a dual processor, dual core Apple G5 with lots of memory, a high-speed RAID array, a big HD monitor, a HD audio/video card from Aja or Blackmagic Design, Final Cut Studio and some supporting software for around $25,000. That system will do everything up to and including HD post-production for broadcast or film. Or, for Little TV, that same producer could put together a system with a 20” 2.1GHz G5 iMac, 2.5GB of RAM, 500GB of hard disk space and Final Cut Studio, for around $3,600. That system will do everything a producer needs for Little TV, but if even $3,600 is too much, there’s always the same Mac with 1.5GB of RAM, 250GB of hard disk space and iMovie for under two grand.

Let’s review: Versus Big TV, Little TV is cheaper and easier to produce, cheaper to distribute, and is available anywhere, any time. With all these advantages, it’s no wonder that Little TV is growing much faster than Big TV. Feedburner counts almost 23,000 unique podcast channels. The number of videocasts is currently a small fraction of the podcast count, but the number will grow quickly as production and distribution tools become easier to use.

The comparison between Big TV and Little TV reminds me of what happened with MP3 came on the scene. The record labels were pushing the next generation of audio reproduction: SACD and DVD-Audio (“Big Audio”). Both systems required a big investment in new speakers and amplifiers, not to mention new versions of many of the CDs that listeners already owned, in order to take full advantage of their quality.  On the Little Audio side was MP3. It didn’t sound as good as Big Audio, and it didn’t have 5.1 channels, but it was far more convenient (thanks to portable players,) and thanks to Napster and its ilk, it offered a huge library of music for free. The Big Audio folks ignored Little Audio until it just about killed them.

The same thing is happening with Big TV vs. Little TV. Big TV advocates are pushing for high-definition disc systems (Blu-Ray and HD DVD,) which require a big investment in better HD monitors, new blue-laser players and new versions of many of the DVDs that viewers already own, in order to take full advantage of their quality. On the other hand, Little TV will play on many of the cellphones that people already own, Sony’s PSP game system, the new iPod and other portable video players. Enterprising computer programmers have already figured out how to get DVDs, television shows and videocast material to play on Little TV players. Little TV is far more convenient, and there’s a huge library of programs for free. Déjà vu, anyone?

Big TV advocates think that a video iPod will never compete with a HD system with surround sound and Blu-Ray. They’re wrong. Picture and audio quality are not the purchasing drivers. If they were, it wouldn’t have taken an act of Congress to force consumers to buy digital television receivers. No, what’s driving consumers is convenience and cost. When you can buy everything you need to watch Little TV for $299, and it’s far more convenient and much cheaper than Big TV, the decision is a no-brainer.

If you’re a Big TV producer or distributor: A television or cable network, television station or cable operator, you should be scared by Little TV, but you have a chance of avoiding the music industry’s quagmire by adapting to Little TV rather than ignoring it or trying to kill it. You can’t kill it, any more than newspapers killed radio or radio killed television. In Darwinian terms, adapt or die.    

The Short End of the Long Tail

When I first read Chris Anderson’s article “The Long Tail” in Wired a year ago, I was intrigued, but at the same time one piece of the equation never made sense to me. (For those of you who don’t know, the basic principle behind the Long Tail is that mass product or content aggregators such as Amazon.com and Netflix can make money selling or renting content that appeals to a very narrow niche. While any one niche represents only a small market opportunity, the sum of the revenues from all the narrow niches can be very large indeed.)

The gaping hole in the theory lies with producers, rather than distributors, of content. It costs a lot of money to produce any kind of “professional-quality” video—anywhere from a few thousand to many millions of dollars. When Amazon.com buys a video for resale, it couldn’t care less about how much the producer spent to make it. The price of the video is completely independent of its production and manufacturing costs—it’s set at whatever price comparable videos are sold for.

When Amazon.com sells ten copies of the video, it doesn’t make very much profit, but it does make a profit. From the producer’s point of view, however, they can’t possibly make a profit on sales of ten copies. The fewer copies they sell, the greater their losses. Thus, the Long Tail effect holds for aggregators but not for producers.

However, what I’m beginning to grasp now is that while the Long Tail effect isn’t viable for “professional” productions, it works just fine for things like podcasts and videocasts. With only a few exceptions, podcasts and videocasts are produced by individuals for niche audiences of which they’re members. Their primary goal is to communicate and/or entertain, not to make money. If their production costs are low enough, and making money is at most a secondary consideration, they can not only live with the Long Tail, it may be the only way for them to reach a sizable audience.

In the podcast/videocast world, however, Amazon.com and Netflix can’t survive, because they have to make money on everything they sell or rent. If only a handful of productions actually generate revenue, they can’t afford to build and maintain the infrastructure needed to make the sales and deliver the content.

So who are the successful aggregators in a near-zero-revenue medium? Today, Apple. While Apple’s Music Store is usually thought of for downloadable music, it’s also by far the largest directory of and source for podcasts and videocasts. Apple makes money by convincing visitors to the iTunes store to buy some songs while they’re there, and by selling iPods that store and play the podcasts and videocasts very well.

Tomorrow, the leading Long Tail aggregator is likely to be Google. Google is positioning itself to provide information any time, anywhere, any way you want it. Google appears to be building “the great file server in the sky”: Put in any content, index it any way you like, and make it available to anyone you want, anywhere, on any kind of device. Google’s already getting there with blogger.com, Google Video and Google Base.

How will Google make money from free content? Through advertising, just as it does now. The difference is that they have to expand their advertising model beyond text ads on search pages, blogs and websites. Perhaps they’ll look and sound like conventional radio and television advertising. The conventional web advertising networks have had little success (or, for that matter, experience with) inserting ads into audio and video on the fly. Imagine a contextual ad serving system that knows about you, knows about the content of the podcast or videocast, and inserts relevant audio or A/V ads on the fly without human intervention. This is well within the technical capabilities of Google, and is a natural extension of AdWords.

Yahoo! also has the potential to become a Long Tail aggregator, but its emphasis seems to be on acquiring and distributing content from the major motion picture studios and television networks. Google is building from the grassroots up, to eventually reach critical mass that can’t be ignored by the major media companies. And how about Apple? Even though it’s currently the market leader, Apple tends to trip itself up by its penchant for proprietary technology. For example, the only music downloading site that works with the iPod is the Apple Music Store, and the only digital music players that can play music purchased from the Apple Music Store are iPods. It would be nice to believe that Apple’s podcast/videocast directory will remain player and format agnostic (as long as you want MP3 or AAC,) but sooner or later, Apple always seems to close its doors to the non-Apple world.

Ultimately, the Long Tail creates a quandary for conventional media companies that are used to selling a large quantity of a relatively small number of titles. Their focus is mass markets, not slivers, and their mass marketing techniques are massive overkill for reaching the Long Tail niches. On the other hand, companies like Apple, Google and Yahoo! are very well positioned to serve even the smallest niches. Layering communities and tags on top of a global content database like that envisioned by Google will make niche content much easier to find. In short, the future of media lies with the niches, not mass markets, and the organizations that will serve niches the best will be the ones that can truly make content from everyone available to anyone.