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What does Bertelsmann see in Napster?
Is Bertelsmann CEO Thomas Middelhoff digital music's biggest believer, or a misguided sugar daddy?
April 10, 2002: 1:39 PM EDT
By Eric Hellweg, CNN/Money Contributing Columnist

NEW YORK (CNN/Money) - I gotta admit: I don't know what to make of this one. On April 5, Bertelsmann CEO Thomas Middelhoff told the German newspaper Die Welt, "Our solution now is to completely take over Napster. We want to buy out the original shareholders. We have made them an offer, because we believe that our strategy is the right one for the future of the company."

Bertelsmann reportedly has offered $15 million to buy out the online music-swapping service, in which it has already invested more than $80 million since October 2000. My first reaction: What is Middelhoff thinking? The only logical conclusion is that he believes he can recoup and grow what he has already sunk into Napster. But for that to happen, so many twists and turns need to come together that even Rube Goldberg would likely throw in the towel.

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Before we map out that rocky road to success, I must confess that I can see some of the short-term logic behind the announcement. Right now, Napster's board of directors is a mess, with two competing forces embroiled in a power struggle that has shut down the service since July 2001 and stalled the company direction. On one side stands the venture capital firm Hummer Winblad, which sank $13 million into Napster in the late 1990s. On the other side is John Fanning -- uncle of Napster co-founder Shawn Fanning -- who also invested in the company during its early days. The two sides are now involved in a nasty lawsuit over control of the board.

I can understand Bertelsmann's desire to clean house and regain control of the company. But after that, its strategy gets murky. If Bertelsmann wants to resuscitate Napster and turn it into a legitimate online music service (one that won't be sued again the instant it flips the "on" switch), the first thing it needs to do is rehabilitate the Napster brand.

"Napster's value in the past has meant free music and not being copyright friendly," says P.J. McNealy, research director at GartnerG2. "The Napster brand still has some value, but every day the service is down, that value declines." Changing the image of Napster from erstwhile cool web site for downloading free music to record-label-friendly, fee-based service will not be easy.

Bertelsmann's first step (besides, say, turning the Napster icon's frown upside down) must be to lock up a few licensing agreements from the other major labels so it can offer a broader selection of music. That won't be easy, especially given the ongoing lawsuit between Napster and the major labels (including BMG, a subsidiary of Bertelsmann). But I'm betting that this case will eventually settle out of court. The judge in the case recently gave Napster 10 months to prove its copyright dispute against the labels, but hinted that the labels' efforts "smelled bad" -- suggesting possible collusion. I'll hazard a guess that the labels will reach a settlement with Napster before they'll throw more lawyers and money at yet another thorny legal issue.

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But even if the case is settled, Napster would still need the labels to grant it more sweeping licensing rights. The digital music licenses other labels have previously issued to Napster and its competitors are hardly compelling. Consumers aren't exactly flocking in droves to "rent" music from MusicNet (an online music service with content supplied by BMG, EMI Group, and Warner Music Group) or Pressplay (a similar service with content supplied by Sony Music Entertainment and Universal Music Group). Users of those services not only have to pay for songs but also aren't allowed to burn tunes onto CDs or transfer them to portable music devices. For Napster -- the former bane of the record industry's existence -- to score a license granting it unrestricted use would be unprecedented and hardly likely.

So there you have it. If I were a computer programmer trying to map out this scenario, I'd be stuck with so many lines of "if/then" code, my system would surely crash. Maybe, with BMG in his court, Middelhoff knows something we all don't about the labels' willingness to play ball with Napster. Or maybe his insistence on sinking more money into the company can be explained as simple hubris. But unless all of the above scenarios play out in Bertelsmann's favor -- and, I'll admit, in the world of digital music, some mighty strange things have been known to happen -- throwing more money at Napster just doesn't seem like a winning proposition.

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