January 12, 2009 4:00 AM PST

UMG digital chief on iTunes, DRM, and Android

by Greg Sandoval

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Universal Music exec Rio Caraeff (left), with R&B singer Akon, says Universal is more flexible and willing to experiment with new technologies than ever.

(Credit: Anne Gim)

q&a Rio Caraeff didn't come up in the music business scouring nightclubs and honkey tonks for talented new acts.

Caraeff, executive vice president of Universal Music Group's eLabs, has a background in mobile technology and software. Nonetheless, he just might be the prototype for the label exec of the future.

Unlike more traditional industry suits, Caraeff doesn't believe litigation is the answer to piracy. He doesn't believe in copy-protection software. He doesn't believe that the music industry needs to find a strong competitor to Apple to flourish. What he does believe in nurturing new revenue streams and pruning 10-click online music shopping to one. He believes in the power of mobile devices to sell music (he says Google's cell phone, Android, is proving to be a powerful music-buying tool).

He appears to be right in at least some of his beliefs as Universal, the home of U2, Akon, and the Black Eyed Peas, is coming off a productive year. For the first nine months of 2008, Universal reported that revenue was up 3.5 percent to nearly $4 billion and digital sales grew 33 percent.

Perhaps the best illustration of how Universal and the rest of the music industry is starting to catch on is the disappearance of digital rights management, the software that attempts to block unauthorized music copying. DRM, which failed to do much more than alienate those who bought music legally, was done away with last week at iTunes--the country's largest music retailer. Last month, the lobbying group for the four largest labels said it was moving away from suing individuals for file sharing. Caraeff agreed to speak with CNET recently.

Q: The music industry was accused of trying to kill digital music rather than understand it. Compare the industry's attitude then to now.
Caraeff: I think we've definitely learned a lot over the last few years. We're much more flexible. We're more experimental. We're trying new things constantly. There is nothing we won't try. We're continually revising our business models. And we're reacting to what the marketplace is asking us for both in terms of what customers want as well as what our distributors and artists want. It's clear that fans like to stream music on the Internet. We wanted to figure out how to create a business model to allow audio to be streamed on a free-to-consumer basis online. Before we had an ad supported streaming model for audio we had a subscription-based program for streaming audio and that's basically a small amount of people who are willing to pay for that. But we look at the scale and size of the opportunity so we created a new model to allow audio to be streamed in full-length high quality on demand fashion. We put those deals in place with everybody from Last.fm to iMeem to MySpace and a variety of other sites where you can stream anything you want on demand for free.

"It's early days on Android. There's not that many out there on T-Mobile, but even with the small amount out there, they're downloading and purchasing a ton of music over the air."

--Rio Caraeff, Universal Music Group digital chief

The removal of DRM on songs and albums is also a major example of how we've changed, both in terms in enabling existing retailers that works on devices like iPods. We're not saying we're inflexible. We're saying we're going to change, we're going to adapt, we're going to listen to what the market is asking for, we're going to accommodate.

These are some small examples of how we've changed. Our culture across our management, across our labels is very much in tune with creating new business models, diversifying where our revenue comes from, listening to what people want to do with music and coming up with ways to support that instead of suppress that.

Q: What about piracy? Do you guys just let the RIAA handle that? Or do you direct some of the strategy there?
Personally I believe the only long-term solution is a marketplace based solution, you address the needs of the customer to give them what they want when they want it. If we don't there are other services that don't have the same rules who will. Basically pirates have every advantage. They have no licenses they need to take, no rules they need to abide by, no geography with which they have to be concerned about. That's our competition. You have to compete with that in a marketplace based model. Other tactics, such as litigation or other legal remedies is something we always reserve the right to pursue, but I don't believe that's a definitive or long-term fix. I don't think we're ever going to ever eliminate piracy with the most progressive and aggressive digital policies. There's always going to be people who have more time and money and the thrill of circumventing the channel is what its about. It's not about getting the music. Our goal is to give the mass market every opportunity to consume music wherever and whenever they want in a convenient and easy way so it's just not worth it to get involved in a gray or black market.

Q: Tell me about mobile. You come from that sector and you obviously believe in it very much. How have you guys benefited from handhelds?
I joined the company in 2005 with a specific mandate of building a large mobile business for Universal. My background is in wireless and software. So over two years I built a very large mobile business, well in access of $100 million. We built a distribution network. We built relationships with every wireless operator and every device manufacturer. We established channels of distributions so we could put our content through to every one of those partners. We started developing new content so it wasn't just ringtones or re-purposing old content for mobile. We started diversifying away from ringtones. We launched ring-back tones, we launched voice and video tones. We launched full-length music sold over the air to the mobile handset. We launched mobile video services that were both paid and free to consumer under ad models.

We also merged our mobile group with our online group recognizing that the world is changing. The customer doesn't want a mobile only experience. They want an all digital multi-platform experience. They want to consume music on their mobile handset but have parity on their PC and other online platforms. Partners like Verizon and AT&T wanted to have multi-platform online experiences as well. It didn't make sense to have a silo approach. Now at Universal, we don't have a mobile business. We don't have an online business. We just have one multi-platform digital business. We equalized our pricing so it costs the same amount of money to buy a song on a cell phone as it does on a PC. These are things that make sense on a consumer perspective.

Other things we included were helping Amazon to launch its music store. We worked with Amazon to get their store integrated into the Android platform and now Amazon will tell you that Android is their single largest source of downloads from any third-party partnership that they've ever done. It's a tremendous amount of consumption that we're seeing once you integrate it seamlessly into a user experience that's elegant and easy to use. It's not 10 clicks. It's very elegant and easy. We're starting to see consumption increase significantly.

" I don't think having more devices and more proprietary software or hardware in the market is the right answer. Microsoft has been trying to do that now for a few years with their Zune ecosystem...lots of proprietary silos I don't think scales well."

It's early days on Android. There's not that many out there on T-Mobile, but even with the small amount out there, they're downloading and purchasing a ton of music over the air on T-Mobile. It's not the first example of where we've integrated a music store into a cell phone but the example is once the device becomes more full featured with the user experience it becomes easier to use. Once the platform evolves, you'll see music consumption really start to skyrocket.

Q: How big is mobile within your digital business?
About 40 (percent) to 45 percent of our overall digital business is coming from mobile channels like Verizon and AT&T.

Q: So this is the new distribution method?
I think you're right, but the future for us is about dozens of unique revenue streams and dozens of different products. It's not about just selling a CD anymore. We have subscription based annuity models, we have download models, free to consumer ad models. On much of our new front line Pop or R&B or Urban release--everything from Fergie to Rihanna to Pusscat Dolls--were seeing mobile comprising 20 (percent) to 45 percent of the revenue for those artists, which is a tremendous amount.

Q: Let's talk about MySpace and Amazon. Does the fact that they don't have a device hold them back from competing with Apple?
I don't' think not having a device is holding them back per se but I think that there is something to be said for an elegant and integrated solution, a complete thought so to speak that Apple has breathed into the market. The entire ecosystem of a proprietary player and a dedicated store and a seamless integration has been a very powerful thing for our industry and for Apple. On the other hand, I think many people already have devices. They have iPods, they have mobile phones that play music. It's really about getting the Amazon store to work seamlessly with the devices and software you already have or getting MySpace services to work well with the services you already have. I don't think having more devices and more proprietary software or hardware in the market is the right answer. Microsoft has been trying to do that now for a few years with their Zune ecosystem. It is elegant, it does work well, but lots of proprietary silos I don't think scales well either. So I think what's missing is the evolution of the middleware, the evolution of the user experience, turning 10 clicks into one click, more elegant software and more elegant web services, which I think need to evolve a generation or two.

Q: Talk to me about YouTube as a music hub
If you look at where the bright spots are in the music industry, certainly in the last year the rise of free-to-consumer ad-supported video has become a very significant part of our business coming from a variety of areas. YouTube is driving a very large quantity of that, but about 70 percent of that growth is coming from outside of the U.S. YouTube is a large driver of that outside of the U.S. as well. It's really coming to fruition I think in part due to YouTube's recent focus on monetization and really trying to drive revenue around premium content more so than they have in the history of their short existence. They have finally turned the spotlight on 'How do we turn this into a business' and that's benefiting the entire ecosystem of content owners as well.

YouTube is in many countries. It's a dominate source with which customers and music fans go to find out about new music and to sample music and consume music to discover content, to participate in a community around video and so it's become more than a store and its not like radio or TV, but it's become essentially a very powerful place with which our record companies work with our artists to drive awareness and drive links back to their site and drive general marketing and promotion and distribution of our artists. At the same time it's inherently revenue generating.

It's not like radio, where it's just promotional. It's a revenue stream, a commercial business. It's growing tremendously. It's up almost 80 percent for us year-over-year in the U.S. in terms of our revenue from this category. We have a great relationship with YouTube, and the future for us will be more than with YouTube than we're doing today. We're working with them on a variety of new concepts and new businesses to take the groundwork we've done in the last year and half and do a lot more with it. I wouldn't expect to see us just do business with YouTube like we used to do. You'll see us get closer to YouTube to do things we've never done before and try and increase the amount of revenue and the reach for our videos and new programming we want to create around our artists.

Q: So you are seeing some good revenue from this YouTube deal?
Yes. It's early days but it's definitely tens of millions of dollars at this point.

Q: What about the shift away from DRM?
We recognize the sale of downloaded music only meets the needs of certain customers. We would love it of course if everybody downloaded music but we recognize that's not the way the world works. A big part of my job and a big part of our strategy is figuring out how to derive revenue from everybody who consumes music when only a small subset of people who choose to buy it. A lot of that ties back into a long-term strategy shift about how do we shift from a revenue per unit model to a revenue per user model where the metrics for success and the metrics for how we define and grow our business are driven by what type of revenue we're getting from every user who accesses the network, every user who has a music-capable handset.

Even though only a small percentage may actually choose to download and buy music, a large percentage will actually consume music. We're asking how do we build new business models that will allow us to get paid by hundreds of millions of people whether they buy music or don't buy music versus getting paid by those who choose to pay. It's really about do we want a large piece of a small pie or a smaller piece of a much larger pie. That's really about looking out five years ahead in terms of how we transform UMG from the company we used to be to the company we need to be.

Q: That sounds like a big challenge.
That's how everybody at our company is approaching the business. It's certainly what gets me excited about coming to work in the morning. The change and disruption in the music industry and many other industries as well is personally satisfying and drives a tremendous amount of excitement. I'm part of something that's larger than myself. It's the opportunity to change and transform. It doesn't happen quickly enough. Conversations with partners like Google, Apple, or Comcast, or Nokia are slow take time to come to fruition. We're certainly not about how do we get everybody to buy CDs again. We're very much focused on how do we segment the market so that we can derive revenue from everybody and not just the people willing to pay.

Greg Sandoval covers media and digital entertainment for CNET News. He is a former reporter for The Washington Post and the Los Angeles Times. E-mail Greg, or follow him on Twitter at http://twitter.com/sandoCNET.