EMI Group, PLC:
CD Pricing in the Recorded Music Industry
Case Study
Matthew Curtis
John Humphreys
MKT 515 - Winter 2010
3/17/10
I. SITUATION ANALYSIS
Nature of Demand
EMI is the largest independent music company and is 3rd among the top 5 music
companies globally, with 12.6% of the global market share. The firm engages in the recording,
producing, and distribution of music, mainly through CDs. EMI is a British based company, but
North America is the largest market for the music industry.
CD buyers have low brand awareness and loyalty. They typically don’t even know the
music company that is producing the product. Brand awareness for the artist is very high and will
drive the purchase decision almost exclusively. Buyers will seek out a store to purchase the
music they desire. However, brand loyalty is low, with many “one hit wonders” that are #1
sellers one year, then gone the next. CDs are durable goods. They last a long time, but people’s
tastes for music may change and, thus, categorizes them as a non-durable good. In this case, it is
more about music than the actual CD. The location of the purchase decision has changed
dramatically with a significant number of people using the Internet to illegally share music files.
EMI and its recording artists do not receive any compensation from music file sharing. Those
music consumers who remain have shifted from music stores to mass marketers.
The market for CDs in the United States is splintered into different genres, with Rock,
Rap/R&B, and Country as the top 3 in that order, comprising 60% of the US market.
Demographics show that the greatest loss has been in ages 15-29, who have adopted online sites
as their primary distribution. Ages 45+ have shown substantial growth, which may be due to
lower computer literacy rates as well as an overall growth in that population known as “Baby
Boomers.” The split between male and female buyers has remained a 50/50 split.
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Extent of demand
In North America, EMI ranks 5th in market share with 9.8%. The North American market
for CDs grew steadily from 1993 and peaked in 2000 with 942.5 million units sold. Since then it
has declined to an estimated 729 million units in 2003. This is primarily due to online music
downloads and the ability to burn CDs at home. Half of all CDs are “superstar” artists with a
retail price of $18.98, 35% are less popular artists at $17.98 and 15% are other artists at $16.98.
This puts the total US retail market at $13.4 billion. It is expected that the market for CDs will
continue to decline by as much as 30% from the 2000 peak in 2007. The retail market would
shrink to $12.1 billion in 2007. EMI’s share of this market is currently sitting at $1.31 billion,
but if this trend continues, it could decline to $1.18 Billion.
Nature of competition
Competition in the music industry is very strong and 5 large companies dominate the
market. In 2003, UMG has the largest share of the US market at 29.4%, followed by Warner and
BMG with about 16% each. Sony is 4th with 13%, and EMI is 5th with 9.8%. All of the top 4
companies are divisions of larger media companies, which places EMI at a slight disadvantage.
However EMI has better marketing and management skills than UMG, which allows them to
remain competitive. The real key to success is the product, i.e., the artists EMI can attract. The
case states “A music company's competitive position depends on its ability to attract, develop,
and promote recording artists, the public acceptance of those artists, and the number and
popularity of a company's recordings released in a particular period.”
Environmental climate
The entire market for CDs has been declining due to online distribution. UMG’s pricing
initiative is an attempt to reverse this trend. The risk is that it will not be successful. Increased
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enforcement can stem the tide of illegal downloads; however, it has already taken hold as the
preferred source for younger buyers. The trend towards customization has also driven people to
burn their own CDs, which will continue to erode the retail market.
Stage of product life cycle
CDs were revolutionary in 1986 and have continued to grow in popularity until they
peaked in 2000. The product life cycle of CDs is waning, slowly being replaced by digital music
formats such as MP3s and WMAs. Nearly 50% of people aged 12-24 are downloading music
online and 75% believe there is nothing morally wrong with it.
Cost structure of the industry
Cost Structures for the entire industry are relatively fixed. Three tiers of pricing exist
based on the popularity of the artist. Retailers have a 36.7% mark-up; albeit, recent trends have
shown buyers using mass merchandise stores that tend to have a lower mark-up. Royalties vary,
but the average is 18.5% of the wholesale price. Additionally there is a $0.85 per unit
cooperative advertising allowance provided for the retailers. UMG’s proposal involves changing
the cost structure significantly. The response from the retailers has not been well received, but
UMG claims that $12.98 is the so called “sweet spot” to help stop the overall market decline.
Skills of the firm
When reviewing the case, it is clear that marketing is a strong point for EMI. They spend
about $75,000 for every percent of market share, compared to industry leader UMG, who spends
$159,000 for every percent of market share. Research & Development for the music industry
involves signing artists that people want to buy CDs from. Since pricing is relatively standard, it
is the artist that makes the difference and this is reflected in market share. While the major
players in the music industry recently posted losses, EMI managed to post an operating profit in
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2003 and is continuing over the first 6 months of 2004. This shows their management and
production strengths even when the market declines. In North America EMI has 10% and is in
5th place overall. In Ireland and the United Kingdom, they have a 20% market share. Being a
British-based firm allows EMI to understand the U.K. marketplace more thoroughly. EMI’s
U.K.-mindset prevents the firm from completely understand the United States marketplace,
which acts as a possible weakness in their inability to attain a larger share of the U.S. market.
Financial Resources of the Firm
EMI is the largest independent music company and have global sales of $2.6 billion with
an operating profit of $225 million in 2003. They are the only firm of the top 5 that have shown
an operating profit in 2003.
Distribution structure
EMI distributes their CDs directly to stores through various labels. Distribution has
shifted to mass merchandise stores, with 50.7% of the sales in 2002. Record stores have declined
to 36.8% of sales, with other sources having single digit shares. Internet sales only make up 3.4%.
Mass merchandise stores typically sell at lower profit margins as a loss leader to attract buyers to
their stores, but this does not affect the wholesale price paid to the CD manufacturers.
II. PROBLEMS AND ALTERNATIVES
The broad focus of the Case of EMI Group, PLC is pricing. CD sales peaked in 2000 and
are forecasted to decrease by 30% over seven years. Record companies seek to maintain their
competitive advantage and maintain or increase profits. Just like any competitive firm, EMI
seeks to earn a profit. Current CD sales result in $1.2 billion in sales and $477,615,157 in profit
(Appendix 5). If the company cannot earn a profit, then it will eventually fail. EMI needs to
determine how to price its CDs in response to UMG’s new pricing structure. In this case, EMI
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pricing will focus on price sensitivity, demand elasticity, branding, strategic pricing (Game
Theory) and profit/sales forecasting. Essentially, EMI needs to examine these factors and decide
whether it should match UMG’s new pricing structure, maintain its current pricing structure, or
create a new pricing structure. From a marketing perspective, UMG introduced their new
pricing structure as a means to gain market share in a shrinking record industry and to induce
sales with an end goal of increasing demand for CDs. CD sales peaked in 2000 and forecasted
sales for 2007 are projected to decrease by 30% as a result of increasing online music purchases.
UMG believes that reducing prices, in accordance with Game Theory and competitive strategy,
will allow it to gain market share and, as a result, increase profits; and, UMG is making the
assumption that consumers are price sensitive and lack brand loyalty, i.e., artists loyalty in this
case. In order to clearly understand which pricing method to follow, EMI’s marketing team
needs examine the aforementioned aspects of pricing (this type of information was not included
in this case) in order to understand “how customers process perceptions of prices and price
changes…to know how prices will be received, affecting demand” (Iacobucci, 99). Pricing, like
marketing, should be about the customer. EMI must determine “what does the customer want
and what are they willing to pay for it?” With three pricing strategies available to marketers,
EMI must determine how to price its CDs: low, medium, or high. Currently, EMI prices it CDs
in relation to the industry in order to be competitive.
III. ALTERNATIVES
Alternative 1
EMI does not adopt UMG’s new pricing plan (See Appendix 1) in order conflict with
Strategic Pricing and Game Theory. Under the original pricing plan, EMI to maintain market
share because the consumers of EMI CDs are price insensitive and their demand is inelastic.
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Under the original pricing plan, EMI will maintain three separate CD categories – superstars
(50% of sales), other artists 1 (35%), and other artists 2 (15%). The superstars category will be
priced at $18.78. The gross profit margin is 36.7%, which equals $6.89. This results in a $12.01
sales price to the retailers. In addition, artist’s royalties, which equal 18.5% or $2.22. Total
costs, which include manufacturing, distribution, shipping, variable costs, and artist royalties will
deduct $4.99 from the $7.02 profit per CD before advertising costs are subtracted. Based on
projected sales of 71,442,000 units, advertising per CD will be $0.001 or 1/10 of a cent. Given
this data, the superstars category will provide EMI with a profit of $7.02 profit per CD. Bare in
mind that advertising and marketing costs under the original plan will remain at $734,000 and
provide EMI with 3.22% market share. Under the other artists 1 CD sales category, which
comprises 35% of EMI’s sales, the profit per CD will stand at $6.51. Under the other artists 2
category, EMI profits per CD will be $5.99. As stated, the original pricing plan grants retail
outlet with a 36.7%. This gives retailers substantial pricing and promotional flexibility. In
addition, the original pricing plan gives artists an average of $2.10 in royalties per CD instead of
$1.77 under the new pricing plan. Finally, the original plan results in $478 million in profits for
EMI. The 2007 forecasted profits resulting from a 30% decrease in sales produce $431 million
sales.
Alternative 2
EMI adopts UMG’s new pricing plan (See Appendix 2) in order accordance to Strategic
Pricing and Game Theory. This allows EMI to maintain its market share by assuming that the
new pricing will allow EMI to maintain market share. Under the new pricing plan, EMI will
create two separate CD categories – superstars and other artists. Each category will comprise
50% of total CDs sold. The superstars category will be priced at $12.98. The selling cost per
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CD will be $10.10. The gross profit margin for retailers will be $2.88. This results in a $10.10
sales price to the retailers. Fixed costs, which include manufacturing, distribution, and shipping
will deduct $1.92 from the $10.10 distributor price. In addition, artist’s royalties, which equal
18.5% or $1.87, will be subtracted from the distributor price. Under the superstars category,
EMI will receive $6.31 profit per CD. If sales remain constant under the new pricing plan, then
advertising costs will equal 3,572,100 divided by advertising costs of $2.2 million. Keep in
mind that advertising costs under this plan have been tripled from $734,000 to $2.2 million.
EMI currently has 3.22% of the market. It is unknown whether tripling advertising and
marketing to $2.2 million will result in a tripled market share of 9.66%. This results in a
significantly increased advertising and marketing expense for EMI. The other artists category
will be priced at $9.99. The selling cost per CD will be $9.09. The gross profit margin for
retailers will be $1.92. This results in a $9.09 sales price to the retailers. Fixed costs, which
include manufacturing, distribution, and shipping will deduct $1.92 from the $9.09 distributor
price. In addition, artist’s royalties, which equal 18.5% or $1.68, will be subtracted from the
distributor price. Advertising costs per CD will remain the same - $0.31. The total profit per
other artists CDs will be $5.48. Overall, this plan will reduce the retail outlets gross margin to
$2.88 per superstar CD and $0.90 per other artist CD. This limits retail outlet pricing flexibility
and forces to retail outlets to sell an increase number of CDs in comparison with the original
pricing plan. In addition, the new pricing plan significantly reduces artists royalties from $2.22
to $1.87 for superstar CDs and the average of $2.05 for other artists to $1.92 under the new
pricing plan. Finally, the new plan results in $432 million in profits for EMI. The 2007
forecasted profits resulting from a 30% decrease in sales produce $370 million sales.
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IV. DECISION
Given the facts of the case, demand for EMI’s CDs is inelastic because consumers
heavily demand certain artists due to their musical tastes. In addition, EMI product consumers
appear to be price insensitive, with only 87% of sales derived from CDs, sales growing amongst
those 45 and over. Demand is barely affected by price and heavily driven by an artist’s
popularity. The standard methods used to indicate price – price sensitivity, demand elasticity,
branding, and strategic pricing (Game Theory) – do not appear to be relevant to EMI CD sales.
It appears that each EMI’s artists comprise brands with “associations that go beyond the basic
assessment of the value obtained for the raw product features to the benefits experienced through
the brand umbrella” (109). As a result, customers will pay higher prices for the EMI artist’s CDs.
If artists stand as brand extensions of EMI and artists are in the business to earn a profit, then
EMI maintains a competitive advantage in the original pricing structure because this method
pays higher royalties to EMI artists. Furthermore, the original pricing structure allows retail
distribution outlets to competitively price CDs at greater profit margins. The new pricing plan
squeezed distribution outlets by reducing the potential profit per CD from $6.97 for superstars to
$2.88 and from $6.60 for other artists to $0.90. In addition the margins for retail outlets, the
profit difference between the original pricing structure and the new, UMG-based pricing
structure results in a $58 million difference in profit for EMI. Research indicates that prices
discounts are not profitable (117). This case indicates the same theory.
Admittedly, competitive strategy and Game Theory indicate that EMI may lose market
share by failing to adopt the new pricing strategy; however, EMI’s marketing and advertising
costs are 3.22% of the total amount spent by the top five record companies and EMI has
currently has 9.8% of the total sales volume (in dollars) of the market. Clearly, EMI sells
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recording artist’s music that consumers assigned a high monetary value; EMI CD consumers
cannot simply substitute EMI’s music with another company’s music. Consumers demand
music from “superstars” and EMI has numerous top-selling superstars who comprise 50% of
EMI’s profit. As stated, if EMI maintains its pricing plan, it will earn $58 million more in profits
than the UMG pricing plan. If industry sales decline to the 2007 projected levels, EMI’s original
pricing plan will still yield a profit of $53 million over the new pricing plan (Appendix 3 & 4).
Contrary to Game Theory, EMI will retain its competitive advantage in CD sales. Thus, EMI’s
marketing and artist brands will allow the firm to maintain market share and yield higher profits
under the original pricing plan. EMI should maintain its current price structure.
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