I came, I saw, I botched – How MySpace was given away for a song

On Wednesday June 29 2011 Reuters reported that News Corporation had sold MySpace for $35 million to Justin Timberlake and Specific Media Inc. - an Irvine, CA based advertising company. Justin Timberlake?! I’ll get to that in a minute. This sale represents a return on investment to News Corp of –94%. 

This deal comes on the heels of a long auction process originally expected to raise hundreds of millions of dollars for News Corp’s exit strategy. In the end, Justin Timberlake emerged as the only white knight. Well, him and Specific Media. In an era where internet companies are commanding ridiculously high valuations in the billions of dollars, it’s hard to imagine the lackluster appetite investors have shown in MySpace's bidding process. Not to downplay Timberlake, but in 2011 where we’ve seen Groupon and Zynga file to go public; and LinkedIn, Pandora and Yandex already go public (all of which are expected to have valuations in the billions) if Timberlake was the best MySpace could do then something must have seriously gone wrong.

News Corporation acquired MySpace for $580 million by outbidding Viacom Inc. in 2005 at a time when MySpace had tremendous potential and was poised for triple digit returns. Or so they thought. However, what actually happened has been a totally different story. News Corp’s management of MySpace has been characterized by one execution flaw after another. I’d like to address one of those – how MySpace handled (or mishandled) its 2009 acquisition of San Francisco, CA based social media company Imeem.

Imeem started in 2003 as a social media website where users could legally share, upload  and stream music and music videos. Imeem was a pioneer of a revolutionary business model – free, advertising supported online music. Imeem generated revenue through online advertising, MP3 downloads, sale of tickets and ring tones, and subscription fees from premium account users. Unlike Pandora where free accounts get only 40 hours of internet radio and are also unable to create their own playlists; Imeem users had unlimited access to stream content online and customize  playlists from different users. It was a daring model and Imeem would have been an explosive success if they had achieved their break-even number of users before the credit crunch hit. They hoped to generate enough critical mass from the free online model in order to raise advertising revenue to pay for music royalties. In 2007, Imeem became the first online music site to acquire licenses from all four major US record labels - Universal Music Group, Sony Music Entertainment, Warner Music Group and EMI Group. However by December 2009, the credit crunch had forced Imeem into solvency problems as it was hard to generate sufficient ad revenue to pay for royalties. MySpace acquired it in a fire-sale for an undisclosed amount.

MySpace's integration of the newly acquired firm was executed horrendously. They botched the migration of Imeem’s data onto their servers in a monumental manner. Within days of the acquisition, MySpace decided to import everything from Imeem onto MySpace servers and shutdown the Imeem website. As an Imeem user, I remember receiving an email from MySpace telling me to create a MySpace account and import my playlists within seven days. With MySpace's convoluted website architecture and its own restrictions on music offerings, many users either ignored the email and lost their playlists as a result; or those that created MySpace profiles, couldn’t find their playlists.

Within a few weeks, MySpace had managed to single handedly alienate millions of Imeem users; effectively making the acquisition worthless. The strategic rationale for the acquisition was to attract more users onto the MySpace site in order to increase web traffic, bolster ad revenue and rival Facebook. MySpace had failed to achieve all three.

Instead of trying to migrate Imeem “overnight”, MySpace should have proceeded with the integration on a phased time table. Just like Google did with YouTube when they acquired it in 2006, MySpace should have maintained Imeem as a subsidiary (while maintaining the Imeem site) and then figure out a way to address royalty payments -  perhaps by making the subscription service more attractive and limiting free users to say X hours of streaming, like Pandora does.

They could have figured out creative ways of generating additional revenue such as bundling the free streaming with other services to attract more traffic to the site. The free streaming would serve as a “loss leader” to attract more profitable complementary services. The idea is once you bundle the free service with other attractive services, you tie your users and increase their switching costs. Over time you limit the complementary services to only premium accounts by which time users’ switching costs would be so high it would make sense for them to buy a premium subscription. It’s been proven empirically that products with high switching costs tend to be inelastic (i.e. less price sensitive). At this point the premium accounts could be tied with “free” file conversion software, online games, messaging service and so on and so forth. These would make premium very attractive, thereby having a consistent fee service plus ad revenue to pay for royalties.

They could also have opened up the Imeem platform to open-source developers to design additional services to complement Imeem’s core offerings. Such a penetration pricing strategy would probably have succeeded in making Imeem a dominant platform. In the technology space, free and open source platforms tend to dominate through network effects. Think of how Google’s Android OS is rapidly gaining market share from Apple’s iPhone iOS.

Once Imeem became the dominant platform thereby increasing the switching costs of users, MySpace could then gradually migrate users on a pilot basis until all Imeem users had MySpace accounts. Once their playlists remained intact, it would almost be guaranteed that Imeem users would visit MySpace in a phased migration. However MySpace lacked the vision, strategy, creativity and execution to stay committed to a working plan that would probably have taken many months (perhaps a few years) but could have been successful.

One can point anecdotally to Former IBM CEO Lou Gerstner who noted that a corporate strategy is only as good as its execution. Think of how GE integrates its subsidiaries – on a gradual basis. Or how Oracle integrated Sun Micro Systems after its acquisition. Or how Google allowed Google voice users to send free international text messages for months before introducing a billing service. It’s all about tying and bundling packages for users.

Instead, MySpace destroyed any potential of accreting value from the Imeem deal and eventually had to cut its losses and exit. Such is the difference between success and failure – having the vision and commitment to work out a gradual plan. In the end MySpace has become a poster child of how NOT to integrate an acquired company.