Shaping theFuture of

EntertainmentAn Entertainment Retailers Association White Paper

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Political parties have long published manifestos. Pressure groups and charities too. Until now, the UK’s entertainment retailers and digital entertainment services have done without.

So why now? Does entertainment retailing really need a manifesto, a statement of principles, a vision for the future?

We believe so. Music, video and games is a significant business, not just economically where sales are currently in excess of £5.6bn a year, but also culturally.

What was once a home entertainment business is now ubiquitous. On the bus, on the train, on your phone in the park. Entertainment is all around – and everywhere brought to you by entertainment retailers and digital services.

Entertainment retailers have grabbed the opportunities afforded by technology – to the benefit of both the content industries and the consumer.

Despite their undoubted achievements, retailers and digital services are not yet through. There is still much to be done to drive music, video and games yet higher. There is a genuine opportunity to shape the future of entertainment to the benefit of everyone involved – from the creator to the fan.

It is the changes required to unleash the market’s potential which lie at the heart of this paper.We sincerely hope this document will stimulate a new, positive debate about the future of the entertainment industry – and signal the beginning of an industry-wide conversation about the future of the sector, and above all about the need for greater cooperation and collaboration.

Raoul ChatterjeeChairmanEntertainment Retailers Association

A MANIFESTO?

RETAILERS UNDERSTAND THE IMPORTANCE OF CONTENT AND THE CONTRIBUTION OF CREATORS AND CONTENT OWNERS.

WE AIM TO GENERATE A GREATER UNDERSTANDING OF THE ROLE OF RETAILERS AND DIGITAL SERVICES AND THE BENEFITS THEY BRING TO CREATORS – AND TO THE PUBLIC

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M E M B E R SINCLUDING

ENTERTAINMENT RETAILERS ARE THE VITAL LINK BETWEEN CONTENT CREATORS AND THE PUBLIC

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SUMMARY

A DYNAMIC SECTOR WHICH TAKES RISKS

In 2014 half of music, video and games revenues came from services which did not exist a decade previously.

Around 60% of revenues came from companies which did not exist 15 years ago.

In contrast the top three record companies who between them account for around 75% of UK music market have all been existence for at least 50 years.

The top three video companies are all owned by film studios, some of which date back over 100 years – Warner in 1903, Universal in 1909 and 20th Century Fox in 1915.

Innovation is built into the DNA of retailers – if they do not innovate, they die. While content owners are naturally proud of the creativity and innovation of their products, retailers and digital services are equally entitled to celebrate their own track record.

Over the past 10 years retailers and digital services have transformed the entertainment industry.

That transformation has been driven by huge retail investment.

Retail innovation and investment has benefitted creators, consumers and content owners.

The next great challenge is to build on the past decade’s successes, but to do that, we need suppliers to join retailers in their commitment to grow the market.

Achieving that goal requires a series of changes – to working practices, to the digital licensing regime and to the supply chain.

The key to achieving that transformational change is a genuine spirit of collaboration and partnership between suppliers and retailers.

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GREATER COOPERATION AND COLLABORATION BETWEEN CREATORS, CONTENT OWNERS AND THE RETAILERS AND DIGITAL SERVICES WHO TAKE THAT CONTENT TO MARKET IS THE KEY TO UNLEASHING THE POTENTIAL OF THE ENTERTAINMENT MARKET

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In 2014 entertainment retailers’ 22,000 people

inover 500 companies

served over 40 million customers

and generated sales of over £5.5 billion

and VAT receipts of over £900 million

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

OVER £8B OF VAT GENERATED IN THE LAST 10 YEARS

SOURCE: OFFICIAL CHARTS COMPANY, GFK CHART-TRACK, ERA

818 777 820 941 752 832 777 837 898 926

5,495

5,216 5,505

6,316 5,764

5,586

5,217

5,024

5,385

5,554

10 YEARS OF UK ENTERTAINMENT SALES

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

SOURCE: OFFICIAL CHARTS COMPANY, GFK CHART-TRACK, ERAEXCLUDES PHYSICAL VIDEO RENTAL

% OF THE UK POPULATION BUYING ENTERTAINMENT

SOURCE: KANTAR, GAMETRACK

MUSIC VIDEO GAMES

46% 46% 58%

OVER 500 ENTERTAINMENT RETAIL COMPANIES

35 STREAMING SERVICES

84 DIGITAL SERVICES

337 INDEPENDENTS8 SPECIALIST

CHAINS

24 MULTIPLE / GENERALISTS

35 MAIL ORDER

8 SUPERMARKETS

SOURCE: ERA

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TRANSFORMATIONFROM APP-BASED GAMES TO STREAMING MUSIC AND CLOUD-BASED VIDEO SERVICES, THE NEW WORLD OF ENTERTAINMENT HAS BEEN DRIVEN OVERWHELMINGLY NOT BY CONTENT OWNERS, BUT BY RETAILERS

A DYNAMIC TRADITION OF INNOVATION

When Sir Edward Elgar opened the very first HMV store at 363 Oxford Street on 20 July 1921, in a real sense he wrote the very first lines in the modern history of entertainment retailing.

There is a direct link between the opening of that store, triumphantly re-opened by HMV’s new owner Hilco in 2013, and the launch of today’s new generation of digital services typified by Spotify, Netflix and Steam.

New generations of entertainment retailer have come along in each of the past five decades - from Liverpool’s NEMS store – run by Beatles manager Brian Epstein – in the Sixties, through to Our Price in the Seventies, Virgin Retail in the Eighties, GAME in the Nineties and the entry of the supermarkets and rise of Amazon in the early 2000s.

A thriving retail sector is a prerequisite for a healthy entertainment market, and benefits creators, consumers and suppliers.

Just 10 years ago, entertainment retailers in the UK ran a predominantly physical business selling CDs, DVDs and console games – and they did so hugely sucessfully, driving UK consumption of entertainment to world-beating heights.

But over the past decade both existing businesses and new start-ups have driven a technological revolution, pioneering

New business models

New forms of content discovery and access

New levels of consumer engagement

And the new world of multichannel retailing

In some ways this is nothing new – retailers have an honourable tradition of innovation (see opposite), but the pace and scale of innovation over the past decade has been extraordinary.

On the following two pages we present a timeline of some of the major launches in entertainment retailing since 2002, from gaming innovators such as Steam and Green Man Gaming to music specialists like 7digital, Spotify and Rdio to the recent wave of video launches led by the likes of Netflix, Sky and Wuaki.

Between them they have reaffirmed the point that retailers are a progressive force in entertainment, constantly generating new ways for creators to be earning the income they need to sustain their art and new ways for consumers to access the content they love, most recently spearheading a shift from ownership to access-based models.

SOURCE: ERA

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RETAILING’S UNIQUE SKILLSET

Retailers know that content companies have unique skills and capabilities it would be difficult for retailers themselves to replicate.

Content companies do not always have the same appreciation of the skills which go into creating a great retailer.

Since the dawn of the internet age, entertainment companies have toyed with idea of cutting retailers out of the loop, and selling direct, but the results have consistently underperformed their expectations.

Most notoriously, two rival groups of record companies launched competing digital services in the early 2000s, known as Pressplay and Musicnet.

Both have long since disappeared, having been voted by US magazine PC World joint ninth in its 25 Worst Tech Products of All Time.

Retailers believe a mutual appreciation of each other’s strengths and interdependent relationship is vital if the entertainment market is to reach its full potential.

REDEFINING RETAILING

The most dramatic change of the past decade has been the way retailers have redefined their business to embrace a service model – and at the same time redefined entertainment’s relationship to its audience.

Just 10 years ago the vast majority of entertainment retailing activity in the UK was store-based, focused on the sale of physical product and controlled by UK companies.

The combination of technology and globalisation means the bricks and mortar sector accounted for just 34% of entertainment sales in 2014.

Some of the biggest operators are based outside the UK and an increasing proportion of revenue is generated not just by digital sales, but streaming and rental models, rather than ownership.

MARCHSteam

NOVEMBERXbox Live

JULYMetaboli

OCTOBERBlinkbox

JANUARY7digitalBeatport

MAYNapster

JUNEiTunes

APRILEmusic

JULYSky Go

NOVEMBERPlayStation Network

OCTOBERSpotify

2004 2005 2006 20072002 2008

ENTERTAINMENT’S DIGITAL REVOLUTIONKEY NEW ENTERTAINMENT SERVICE LAUNCHES

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NOVEMBERPlayStation Movies

SEPTEMBERDeezer

DECEMBERRara

MARCHAmazon Instant

MAYGreen Man Gaming

JANUARYNetflix

FEBRUARYKnowHow Movies

MAYRdio

JULYSky Now

OCTOBERXbox Music

FEBRUARYo2 Tracks/ MusicQubed

AUGUSTGoogle Play

SEPTEMBERWuaki.tv

AUGUSTGoogle Music Play Atll Access

2009 2010 2011 2012 2013 2014

FROM OWNERSHIP TO ACCESS

Rewind back to 2005 and around 98% of entertainment revenues came from so-called ownership models, the outright purchase by consumers of physical disc-based formats or – with some legal limitations – downloads. By the end of 2014 access models – predominantly subscription-based streaming models for music and video – accounted for 34% of the entertainment market. This was no accident. It was the result of concerted investment and innovation by a string of new players like Spotify, Netflix, Deezer and Amazon Prime Instant Video (previously known as Lovefilm). The growth of streaming models in particular meant that in 2014, nearly half of entertainment revenues came from retailers and digital services which did not even exist 10 years previously.

2015

???Beats MusicYouTube Music Key

REVENUE FROM NEW SERVICES 2005 TO DATE

2500

2000

1500

1000

500

0

Cumulative sales from new services £m

% of total market

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

7000

6000

5000

4000

3000

2000

1000

0

RISE IN ACCESS BASED MODELS 2005 TO DATE

Ownership £m

% of access

50%

40%

30%

20%

10%

02005 2006 2007 2008 2009 2010 2011 2012 2013 2014

35%

30%

25%

20%

15%

10%

5%

0

SOURCE: OFFICIAL CHARTS, GFK, IHS, ERA

SOURCE: OFFICIAL CHARTS, GFK, IHS, ERA

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INVESTING IN TECHNOLOGY: 7DIGITAL

Digital services have transformed the distribution and availability of content through the use of technology – and the scale of their investment in technology has been substantial.

7digital co-founder and Chief Strategy Officer Ben Drury says the company has invested “tens of millions of pounds” since it launched in 2004.

As a UK pioneer in music download retailing which has since gone on to power download and streaming services around the world, 7digital knows the cost of taking a compelling digital service to market.

“We appreciate record company investment in artists, but the scale of investment required to create our platform is not obvious,” he says. “Sometimes there’s an assumption that in the age of cloud services, you don’t actually need to invest in technology any more, but that’s far from the case. All customer transactions for instance take place on our own hardware.”

That requires significant infrastructure. While the average domestic broadband speed in the UK is around 18.7Mb, 7digital’s UK office has several 10Gb connections to its offices

and datacenters. It currently hosts around 30m songs. These are duplicated across two datacenters, requiring around 5 petabytes* of storage.

“I have been saying for years that the number of songs we add per week to our database will eventually plateau,” says Drury, “but it still shows no sign of slowing down.”

In part that’s a result of expansion into territories with a strong local repertoire orientation – when 7digital was asked to help launch a partner in Thailand, for instance, it found that around 80% of repertoire was local. But it is also a side-effect of the requirement to offer multiple file formats, increasingly including high-resolution and lossless files.

Alongside the heavy cost of technology, 7digital and its peers must also invest heavily in staff resources. “A common misconception is you can run a digital music service with a tiny team,” says Drury. “We now have over 135 staff, half of them in product, technology and operations.”

*(one petabyte = 1,000,000,000,000,000B = 1015bytes = 1,000 terabytes).

Investing in the future of entertainment does not come cheap.

Entertainment retailers and digital services have invested literally hundreds of millions of pounds in developing new services for their customers.

Arriving at an accurate estimate of the value of that investment is fraught with difficulties. Most of the players in the market are private companies, some of them part of much bigger concerns, so publicly available numbers are few and far between. Additionally, some of that investment has been made in international platforms with the UK only part of their footprint.

Nevertheless ERA has undertaken a confidential survey of its members in an attempt to shed light on the subject for the first time.

ERA estimates that over the past 10 years more than £300m has been invested by digital music services in the UK alone.

With music accounting for just 18% of the entertainment market overall, that would suggest that total investment in new entertainment services over that period could be as much as £1.6bn.

Even accounting for duplication across different content types, that investment is unlikely to be less than £1bn – a £1bn gamble on the future of entertainment.

INVESTMENT

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INVESTING IN MUSIC’S FUTURE: SISTER RAY

INVESTING IN VIDEO’S FUTURE: NETFLIX

While the multi-million pound investments of international internet giants steal the headline, recent years have seen a series of more modest – but equally significant investments in independent retailing.

Phil Barton of Sister Ray Records has invested in not one, but two new outlets and is now plotting further extensions of the legendary Sister Ray brand.

It’s a far cry from July 2008 when the company went into administration. “It felt at one stage that everyone had turned their back on physical record shops and it was all over,” he says.

Having bought the company back from administration, he faced a second blow when the landlord of his 34-35 Berwick Street premises in London’s Soho gave notice that the property would be redeveloped and Sister Ray

must move out of its long term home.

“Again it felt like it could be the end,” says Phil.

But with the passion and commitment which drives so much of the independent sector, Phil found new premises at 75 Berwick Street, and not content with that, in 2014 opened a new vinyl-only outlet in the premises of the Ace Hotel in Shoreditch.

“This is an investment in the future of music,” says Phil. “We want to make Sister Ray a go-to place for quality vinyl. The fact is that people who love vinyl really want to engage with the product – and you can only do that in a real record shop.”

ERA member Netflix is a prime example of the sheer scale of investment by new digital services in the future of entertainment – and the benefits that investment brings to both consumers and content owners.

Netflix Chief Product Officer Neil Hunt has revealed that the company employs 300 people worldwide working on its recommendation technology – ensuring that subscribers can find the kind of video content they want as quickly and easily as possible.

That adds up to an investment of more than £95m per year.

Helping subscribers navigate Netflix’s vast catalogue of content is good for users, but it’s also good for content owners.

“There are no bad shows, just shows with small audiences,” Hunt has said.

Even small audiences for individual titles can add up to big numbers: Netflix currently pays rights owners around £1.7bn a year.

How retail investment compares to that of content owners

Music, games and video companies are rightly proud of the amount they invest in new content. Such investment is essential to the health of the entertainment industry.

Equally important, however, is the investment by retailers in ensuring that content is accessible by the consumer.

Entertainment-wide figures on content investment do not exist, but record companies trade association the BPI has compiled data which shows that record company investment in A&R – their equivalent of retailer investment – ranged from 17% to 24% of revenue between 2004 and 2013.

ERA estimates that UK investment over the same period by retailers in digital services – excluding iTunes and Amazon – was around £315m.

Based on revenues for these services of around £800m over the same period, retailer investment amounted to around 39% of revenues, may even outstrip that of the record companies.

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Entertainment retailers and digital services make no apologies for putting consumer interests centrestage in their businesses – that is their mission.

With content companies understandably production-focused, retailers and digital services provide both a necessary counterbalance and a complement to their suppliers’ skillset.

Long gone are the days when entertainment retailers could be regarded as mere “box-shifters” – 21st Century retailing doesn’t just aggregate and sell entertainment content, it contextualises and curates and adds value to the customer experience.

Digital services take that process on even further. In the physical world, a retailer sells a product which is consumed elsewhere. In the digital world, the process of acquisition and consumption takes place in a self-contained world created by the digital service. In that sense the store is also a performance space.

From aggregation to curation, from in-store experiences to social and community engagement, today’s entertainment retailers provide a range of key benefits to the consumer.

AGGREGATIONAmazon’s world of choice

A key benefit of retailers has always been their ability as trusted third parties to bring together content from competing suppliers, but in the sheer scale of its offer, the launch of Amazon in the UK in 1998 truly revolutionised the entertainment industry.

The combination of keen pricing, rapid delivery and virtually unlimited choice suddenly meant everyone in the country had the kind of access to content previously only enjoyed by those living in the biggest cities in the world.

Amazon UK currently lists over 1.3m CD titles, over 250,000 DVDs and over 40,000 videogames, a range it would be impossible to accommodate in a physical store.

Meanwhile, in the digital world, services like Spotify and 7digital offer all the world’s music at the touch of a button or screen – any time, any place.

Thanks to retailers, the age of scarcity is over.

CURATION Deezer: the art of curation

Digital services have been so successful in bringing together the world’s music, they have created the need for new ways of navigating it all.

Music streaming service Deezer for instance offers 35m tracks to its subscribers. At an average of 3.5 minutes per track, it would take 233 years to listen to it all. No wonder that much of Deezer’s technology - and 25% of its staff – are devoted to ensuring that users access the kind of music they like when they want it.

This has created a need for a new kind of editorial team member whose job is to compile playlists and discover the links between established artists and the new acts fans may not yet have encountered.

By making those connections and by selecting new artists to feature and promote, Deezer’s curators add value to what might otherwise simply be a database of music and enrich the customer experience.

BENEFITTING CONSUMERS

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EXPERIENCEGAME: Creating experiences in-store

The UK’s leading specialist games retailer GAME has put special events and customer experience at the heart of its business since its dramatic turnround from administration in March 2012 to its successful flotation on the London Stock Exchange in 2014.

From midnight store openings for product launches to “lock ins” to allow games fans access to the latest new games, the store group has put itself at the heart of the gaming community.

GAME is a prime example of how entertainment retailers are far more than a passive “outlet” to the consumer. The best retailers create added-value experiences and events too. The entertainment experience is increasingly as much about the way in which you buy as what you buy.

COMMUNITYRecord Store Day – a public celebration

First established in 2007 at a historical low point for independent record shops, Record Store Day has gone on to become the best-loved and most successful new music promotion of the past two decades.

In the process it has been a major factor in the revival of vinyl, bringing new revenues both to established and new artists.

It has achieved this by highlighting and exemplifying the strengths of the indies – rooted in their communities, appealing to the most passionate and motivated of music fans.

With over 600 exclusive products made available specifically for the day, Record Store Day 2014 reached new heights and demonstrated that independents are very much here to stay.

VOLUME OF RELEASES – TITLES SOLD 2005 TO 2014

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

700,000

600,000

500,000

400,000

300,000

200,000

100,000

0

Games

Video

Music

SOURCE: OFFICIAL CHARTS, GFK CHART-TRACK

253,087 285,560 316,283 348,607

455,026504,989

575,644 574,814619,864

HOW RETAILERS ARE DELIVERING MORE CHOICE AT LOWER PRICES

639,972

10

0

-10

-20

-30

-40

-50

-60

Album

Video

Games

ENTERTAINMENT PRICING 2005 TO 2014

SOURCE: OFFICIAL CHARTS, GFK CHART-TRACK, ADJUSTED FOR INFLATION

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

% DECLINE

The mythology of the starving artist in a garret may have a certain glamour, but even the greatest art is not sustainable if the artist cannot make a living. By providing creators with access to their audience, entertainment retailers provide literally hundreds of thousands of music, video and games creators all around the world with the revenue which helps sustain their art.

The digital revolution has highlighted the fact that the two most important players in the entertainment industry are the creator and the fan. Their mutual interest in each other has never been greater.

With their strong relationships with and understanding of consumers, retailers – as outlined in the examples on this page - are the ideal partners for creative talent

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BENEFITTING CREATORS

ANTI-PIRACY PARTNERS: SPOTIFY

Retailers are all too aware of the pernicious impact of piracy. They are just as much losers from it as content owners. Nevertheless they have always argued that making available affordable, easy-to-navigate legal services is the best way to tackle the piracy which destroys value for artists, creators and content owners alike.

Spotify was launched in October 2008 and by the end of 2014 had 50m users worldwide and 12.5m paying subscribers.

Spotify founder Daniel Ek says, “Piracy doesn’t pay artists a penny – nothing, zilch, zero. Spotify has paid more than two billion dollars to labels, publishers and collecting societies for distribution to songwriters and recording artists. A billion dollars from the time we started Spotify in 2008 to last year and another billion dollars since then. And that’s two billion dollars’ worth of listening that would have happened with zero or little compensation to artists and songwriters through piracy.”

MARKETING PARTNERS: ITUNES AND U2

Controversial it may have been – not least with other retailers – but iTunes’s 2014 promotion with superstar rock act U2 certainly showed the power of a retail brand to connect an artist with its audience.

Literally overnight 500m iTunes users around the world were able to access U2’s latest album, Songs Of Innocence, as part of a marketing campaign said to be worth $100m.

Despite some negative reaction, Apple later revealed that 38m people had accessed the album, considerably more than would otherwise have heard it.

U2 may have faced a tidal wave of criticism for the way the giveaway was executed, but it is unlikely to be the last such campaign. Major digital services now give artists a greater reach than even the biggest media owner.

CONTENT PARTNERS: AMAZON AND NETFLIX

Traditionally retail involvement in entertainment began only once the content was complete, but increasingly new digital services are investors and partners helping creative talent realise its ambition.

Netflix has been a pioneer in TV programming, reportedly spending around 10% of its annual £1.9bn rights budget on commissioning original programmes, among them the widely-acclaimed House Of Cards and Orange Is The New Black.

Such productions are expensive, more than £2m an episode, but Netflix is demonstrating it is prepared to invest at a level to match traditional TV producers.

Also increasingly working direct with talent is Amazon, which has a strong track record of helping writers self-publish their work. In January 2015 it announced that its Amazon Studios division would begin to produce original movies for its Amazon Prime Instant Video service, which would debut first in movie theatres, effectively giving both movie talent and cinemas ta new alternative to traditional movie studios.

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The music, video and film industries are three of the UK’s most dynamic sectors, but none of them could flourish without the access to market provided by entertainment retailers and digital services.

Around 50% of music, video and film revenues in 2014 were generated by retail outlets which did not exist 10 years ago.

That means that were it not for retail investment the £5.6 billion business would be potentially half the size it is today.

Retail expertise, aggregation and curation adds value to content which might otherwise get lost.

Meanwhile the digital and physical real estate devoted by retailers to entertainment provides enormous marketing value to content owners.

BENEFITTING SUPPLIERS

THE MARKETING VALUE OF RETAIL REAL ESTATE

Every week tens of millions of shoppers are exposed to a vast array of entertainment choices thanks to retailer’s huge investment in physical and digital real estate.

Two-thirds of the UK population shop at the big four supermarkets who sell entertainment – Tesco, Sainsburys, Asda and Morrisons.

ERA estimates that 2 million sq ft of retail space is devoted to entertainment in the UK. At a typical rental cost of £30 per sq ft, that’s an investment in rent alone of around £60m per year.

With over 40% of music sales and over 50% of video sales (source Kantar) attributable to impulse purchases, retail space devoted to entertainment is arguably the sector’s most powerful marketing tool, since if consumers were not exposed to the product, they would not be prompted to buy it.

Estimating the cash value of retail facings is probably best done by reference to the cost of outdoor advertising.

ERA estimates that if the entertainment industry were to seek to match in advertising the 90,000m of retail facings they enjoy across the UK, it would cost around £200m per year. The more than a thousand shop window displays devoted to entertainment, amounts to an additional £12m of marketing value made available by retailers.

A WORLD WITHOUT RETAIL?

There is no doubt that music, video and perhaps even videogames would still exist in a world without entertainment retailers, but just how successful would they be?

For this exercise, our stating point should be the current value of the market - £5.66bn – which is split around 50/50 between physical sales on the one hand and by digital services which launched in the past decade on the other.

If retailers were suddenly to disappear and suppliers stepped in to the breach, they would be unlikely to set up physical stores. Historic data shows that when stores close approximately half of their sales are never recovered so the market would likely reduce by 50% of store sales - around £1.4bn, bringing the total down to £4.26bn.

Looked through the other end of the telescope, had retailers not invested in digital services over the past decade, it could be argued that the market could be half the size it is today. Even allowing for physical sales declining more slowly in this scenario it is likely that sales would have again declined.

A world with no third party retailers or digital services would be reliant for its music, video and games on content owners selling direct. Consumers would have to visit a multitude of different outlets to access the content they wanted. By definition on many occasions they would find the individual title they were seeking was not available from their chosen store.

Research consistently shows that when a title is unavailable (out-of-stock) at a given store, around 50% of sales are lost. That is of course if consumers were still aware of what content was available without the huge marketing power of millions of physical and digital facings and shop windows. (see left)

Even such a rough-and-ready calculation suggests that without retailers, the UK Entertainment market would be worth a fraction what it is today.

And that is without taking into account the impact of piracy which would almost certainly increase in the absence of attractive and affordable retail options.

Luckily this scenario is hypothetical. But a world without entertainment retailers would certainly be a much-diminished place. It would be a far less consumer-friendly business, producer interests would dominate, and above all, it would be smaller, very much so.

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THE NEXT GREAT CHALLENGE The first stage in the transformation of the entertainment industry into a diverse and vibrant multi-channel sector, offering consumers more choice than ever before is now complete.

It has been a process of innovation driven and funded primarily by retailers and digital services. Together they have arguably saved the music, video and games businesses.

As the content industries saw revenues from traditional physical formats declining sharply, new retail services emerged providing new revenues and re-engaging a younger market.

Significantly they have provided a high quality and affordable alternative to piracy.

Digital services have created a new £2.8bn market in digital entertainment which simply did not exist a decade ago.

Retailers are convinced entertainment’s journey into the future has barely begun. There is significant potential to grow the revenue and reach of the entertainment business.

But retailers and digital services cannot do it all on their own.

Too often industry structures and working practices date back to another age.

ERA members have identified five priorities for action which we believe hold the key to entertainment’s growth.

Tackle these, we believe, and the road to growth is assured.

The best is yet to come...

OUR FIVE POINT PLAN FOR GROWTHWe believe the revolution in access, choice, technology and service that has been unleashed over the past decade has only just begun.

We believe we have the ability to increase the reach and scale of the entertainment industry as never before. And since consumers and content owners are typically the greatest beneficiaries of retail innovation, we believe this growth presents all sides with the potential of a win-win of historic proportions.

We believe that a small number of principles hold the key to unlocking entertainment’s potential. In order to ensure the vitality of the retail sector and the ultimate health of the entertainment industry, the content industry must ensure its practices meet the challenges of the future.

1. PUTTING CONSUMERS AND CREATORS FIRSTThe entertainment industry sometimes forgets that the two most important parties in the value chain are the creator and the fan.

Too often industry practices fail to recognise that without the cooperation and assent of the consumer and the creator, there is no entertainment business. As the interface between the entertainment industry and the consumer, retailers and digital services know this as well as anyone. They know that failure to give consumers what they want – through aggressive windowing or lop-sided release schedules- can end up exacerbating problems like piracy.

Retailers have long stressed the importance of a balanced release schedule throughout the year to keep customers interested. The good news is that in 2014 at least, the message seems to have

been heeded: exactly one quarter of the biggest titles of the year were released in the fourth quarter.

There is still work to be done, however. The video industry in particular seems wedded to inconsistent windowing strategies with titles available on download-to-own platforms far earlier that on physical formats.

Studios need to adopt windowing strategies that work for the customer and recognise that a customer should not be forced to choose between physical and digital.

Equally all sides need to recognise that the digital revolution can have a real impact on the livelihoods of artists. ERA member Spotify has led the way in this regard with its acclaimed Spotify Artists website explaining the economics of streaming to musicians.

At a time of radical change, the consent of creators should not be taken for granted.

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4. RECOGNISING DIVERSITY IS STRENGTHSupplier attitudes to format change have been dominated by a fruitless search for the next ‘killer format’. Music downloads turned out not to be it. Blu-ray is not it. All the evidence suggests that consumer preferences, formats and sales channels are fragmented and will likely stay that way.

The key to reach in a fragmented world is a multitude of outlets serving different consumer needs.

That diversity should be of scale as well as channel. Indie stores have successfully demonstrated the need for smaller as well as larger players in physical. Suppliers need to re-examine licensing terms which currently mean most digital services can only succeed at scale.

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2. A MODERN SUPPLY CHAINFrom antiquated ordering systems to wasteful returns policies to inconsistent, sometimes non-existent, data standards in the digital world, retailers find themselves dealing with a supply chain which is sadly often not fit for purpose.

Entertainment retailers believe a modern, efficient supply chain in both the physical and digital ecosystems would in itself help foster growth while also reducing costs.

Not least suppliers need to address a lack of investment in back-office systems, such as ordering processes for physical retailers and high quality and consistent data for digital services.

3. SIMPLIFIED LICENSINGA diverse range of niche and independent players has long been the hallmark of physical entertainment retailing, but demands for upfront advances and guaranteed payments or inflexible licensing options mean this may never happen in the digital world. The result has been a digital landscape dominated by global corporates and multinational venture capital-backed players with business plans predicated on attracting tens of millions of users. An economic model which precludes the participation of smaller players is bound to affect diversity. It means music fans in particular may never have the opportunity to experience the digital equivalent of such renowned independent physical retailers as Sister Ray in indie/rock or Sounds of the Universe in world music.

ERA members have condensed their thoughts on creating a healthy and sustainable licensing regime into a series of key principles. (see opposite)

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While digital services operating in video and games typically have to secure a single licence from a single licensor, in music things are much more complicated. Securing digital rights to a single recording across Europe could theoretically require around 60 different negotiations.

ERA proposes five key principles should define best practice in relation to the licensing of music recognizing that an efficient licensing process benefits consumers, creators and suppliers.

Removing complexity and cost will help ensure the future viability of the business; and digital services require flexible and innovative licences if they are themselves to innovate.

(i) SIMPLICITYMinimising the number of different licensing points would reduce costs, increase efficiency and should mean creators get more of the revenues their work generates. The European music publishing sector in particular should attempt to limit the number of licensing points. Creating a pan-European music service currently requires in excess of 35 licences. In a Single European Market, it should be possible for the number of licensing points to be streamlined and this should be a key objective to remove duplication of work and reduce costs.

(ii) FLEXIBILITYSuppliers need to be flexible in their approach to licensing in order to foster diversity within digital services – and to ensure entertainment reaches every sector of the public. The relatively small number of business models among digital music services evidences a lack of flexibility in licensing which can act as a brake on innovation. Suppliers should look at test-bed licensing as a way to trial new ideas. New services often cannot afford large upfront payments so suppliers should consider other payment mechanisms or short-term arrangements. More flexible licensing will drive innovation. The music industry should recognise that services which reach different types of customers may require different types of licensing. One size does not fit all, and an overly rigid approach can act as a brake on innovation.

(iii) HIGH QUALITY DATABoth suppliers and retailers benefit from access to high quality repertoire data. Poor data currently means retailers often cannot identify the owners of specific works. This leads to multiple claims, duplication of work and additional costs. The industry should resolve as an immediate priority the creation of a central information resource on who controls which rights.

(iv) QUICKER DECISION-MAKINGCurtailing delays in licensing would speed innovation. The licensing process can often be long and protracted, leading to significant additional costs and/or failure to launch new business models. Responding to requests within a defined and shortened time frame, for instance 14 days, should be standard business practice.

(v) FAST TRACK DISPUTE RESOLUTIONResolving licensing disputes quickly and cheaply would benefit all sides. Digital services currently have few options to resolve disputes over terms or the cost of licensing. The UK Copyright Tribunal often does not have jurisdiction and/or the process can be too costly or time-consuming. The industry should create a low cost fast-track dispute resolution procedure to enable innovation in digital services.

PRINCIPLES OF FAIR AND EFFICIENT MUSIC LICENSING

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5. ADDRESSING SUSTAINABILITYDespite retailer investment and innovation over the past decade, they now actually have to contend with worse margins than in the past.

In recent years content companies have been able to generate double digit margins – and forecast to rise – as a result of the growth of digital while entertainment retailers have experienced the reverse of this – seeing single digit margins decline

This switch in margin from retailer to supplier has come as retailers have taken on the costs of distribution of digital content at the same as suppliers have been able to escape the costs of physical manufacturing.

While commercial terms are a matter for individual negotiation, the overall impact on the sustainability of entertainment’s main channels to market should be a cause for concern for everyone in the value chain, especially creators.

SOURCE: CREDIT SUISSE ANALYSIS

30%

25%

20%

15%

10%

5%

0%

2012 2013 2014E 2015E 2016E 2017E 2018E 2019E 2020E

HOW RECORD LABEL MARGINS ARE PREDICTED TO INCREASE IN THE DIGITAL AGE

SOURCE: OFFICIAL CHARTS - RETAIL SALES BPI - LABEL REVENUES

90%80%70%60%50%40%30%20%10%

0%

2006 2007 2008 2009 2010 2011 2012 2013

Label share

Retail share

HOW RETAIL’S SHARE OF MUSIC REVENUE HAS DECLINED

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80% OF NOTHING IS… NOTHING

Retail margins in entertainment have long lagged behind those in other sectors. While sectors such as fashion or furniture are accustomed to taking 50% or even 60% of the final selling price, entertainment retailers and digital services are fortunate if they can achieve 30%.

Major digital music services confirm that typically around 70% of revenues go straight to content owners. This is the despite the fact that few digital services are operating profitably.

Recently lobbying has begun in the music industry for rights owners to target an 80% share of revenues. But as one leading digital service explained, “Seventy percent is tough enough, but at eighty percent, we would have to shut up shop. Somebody should explain that eighty percent of nothing is… nothing.”

SOURCE: OFFICIAL CHARTS, GFK, IHS 2005 2006 2007 2008 2009 2010 2011 2012 2013

2500

2000

1500

1000 £m

ENTERTAINMENT CATEGORY PERFORMANCE 2005 TO 2014

Video

Games

Music

SOURCE: COMPANY ACCOUNTS, SEC FILINGS

16%

14%

12%

10%

8%

6%

4%

2%

0%

2009 2010 2011 2012 2013

Universal Music EBITDA margin

Warner Music operating margin

Disney operating margin

HMV operating marging

Netflix operating margin

Amazon operating margin

ILLUSTRATIVE CONTENT COMPANY AND RETAIL MARGINS

OUR VISIONA PARTNERSHIP OF RETAILERS AND SUPPLIERS

As retailers and digital services we are be proud of our achievements in creating a thriving business which benefits consumers, creators and suppliers.

We are in no doubt that we are reliant on the skills, talent and investment of the music, video and games industries in order to flourish.

It is not always clear that the content business fully understands our contribution to a healthy entertainment ecosystem.

Too often a culture of ultimatum prevails.

Times of technological and structural change are challenging both for retailers and digital services and for the music, video and games companies which supply them.

For our part we believe that the key to growing the market is for suppliers and retailers to unite around the common cause of serving consumers with the content they want when they want it in the ways they want it.

THE FUTURE OF ENTERTAINMENT

EFFICIENT! SUSTAINABLE! A GENUINE PARTNERSHIP!

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CONSUMER-FOCUSED! DIVERSE!

ABOUT ERAThe Entertainment Retailers Association is the trade grouping representing UK digital services and physical retailers in the music, video and games markets.

Formed initially as group of record retailers over 25 years ago, ERA has since grown into a broad-based advocacy group embracing many of the most dynamic and fastest-growing companies in the entertainment industry.

ERA members supply the sales data which powers the Official Charts Company (music and video charts) and GfK Chart-Track (videogames). Together with record companies’ trade association the BPI, it owns the Official Charts Company.

ERA provides the organisational force behind the UK’s Record Store Day, the annual celebration of independent record stores which has become the most successful new music industry promotion of the past two decades.

ERA works closely with its sister organisations in music, video and games and is a strong proponent of open markets, open standards and consumer choice.