As RealNetworks tested its three week "Freedom of Choice" promotional campaign by dropping the price on digital music to 49 cents, music industry executives do not fear an all out price war. The case has yet to be made whether other online retailers will follow suit with similar promotions, as there are limitations on how low digital music prices can go. Currently the wholesale price of downloaded digital music between retailers and music labels is set with pre-existing agreements, ranging between 60 cents to 75 cents per track.  Clearly album pricing is not expected to change in the near future, unless online retailers get muscle behind their services.  Aggressive marketing by the online retailers may prove to be the ammunition that will spark intense negotiations with the music labels.  Producing a domino effect, music labels may be forced to re-negotiate with artists on their pre-existing contracts.  Overall, the consumer has benefited with new technology and the music industry has been playing catch up in the dynamic digital world.  But the timing may be right for music companies to gain the competitive advantage by executing on firm strategic plans.

Over the past 15 years the music industry has seen dramatic shifts in consumer purchasing behavior of digital music. First, there was the digitization of music on CDs. CDs were originally priced high, with increased demand fueling promotional pricing. P2P enabling technology matured on the internet and the MP3 standard took off, with consumers illegally sharing music, sending shock waves throughout the music industry. Now as music companies and the RIAA file suits against consumers for illegal copying, consumers are rushing in droves to purchase digital music from companies such as RealNetworks, Apple, and Napster.

During the first week of the RealNetworks pricing campaign, the promotion resulted in a reported 1 million downloads. The losses from this strategy are estimated to be around $500,000, representing 2% of RealNetworks' quarterly sales and marketing budget. At this rate, by the end of RealNetworks' three week promotion it will have spent an estimated $1.5 million for the campaign, or about 6% of its second quarter sales and marketing costs. Beyond the number of weekly downloads, the true test of this customer acquisition strategy will be whether new subscribers are willing to continue using RealNetworks services after the three week promotional period.

From a financial perspective, RealNetworks will be able to keep pricing at the 49 cent level without going out of business, but this strategy will certainly affect its bottom line. From the perspective of a customer acquisition marketing campaign, the 49 cents limited time offer makes sense for RealNetworks. Over the years, by utilizing traditional marketing strategies for customer acquisition, RealNetworks has been able to only reach a subscriber base of 550,000. With this new strategy, there will be a substantial increase in the subscriber base during RealNetworks' third quarter. The public relations buzz that was also created has helped establish RealNetworks as a player in the digital download business, second to Apple's iTunes. But what do lower price indicate with respect to the agreements with the music companies?

As many of RealNetworks agreements with major music companies are set to expire during 2004, RealNetworks will begin to negotiate lower wholesale prices. As the wholesale price for digital music is being negotiated with the music labels, distributors such as RealNetworks, Napster, iTunes, and MusicMatch are using their muscle to get better pricing. If they can show that they have the ability to increase the distribution of content, combined with sound controls over the content, they will have better bargaining power. But music companies will be reluctant to lower prices since there are pre-existing agreements with artists and issues with royalties.

As Apple continues its increasing pace of digital music sales, it is in a better position to profit from the boom in paid digital downloads. Apple's profits are primarily from the iPod, whereas RealNetworks will need to pursue the profitable sale of the Rhapsody subscription service. Let's not also forget the planned launch of Microsoft's new music service. The question on the minds of executives still remains, "Will Microsoft jump onto the craze with a 48 cent limited time download promotion?"