Steve Jobs owns your living room
Investors think there is a battle raging for control of the digital home. They're wrong -- Apple has already won.
By Fred Vogelstein, FORTUNE senior writer

NEW YORK (FORTUNE) - On Wednesday night, Gene Munster was thinking about going to the movies; but he did something else instead. He spent $1.99 to watch a campy 1960s TV show on his laptop. The first season of the Munsters -- a comedy about a family of monsters and their struggles to lead an all-American life -- was available for download on iTunes. Munster, for obvious reasons, couldn't resist.

The experience reaffirmed something for Piper Jaffray's Apple Computer analyst as he pondered the impact of Disney's plans to buy Pixar (Research) -- Apple CEO Steve Jobs' other company: Most investors think there is a battle raging for control of the digital home, pitting the cable companies, the phone companies, Google, Apple, Yahoo (Research), Microsoft (Research) and the entire consumer electronics industry against one another in a fight to the death. They're wrong. In Munster's view, Apple has already won.

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It already is the defacto front end for our digital music experience, making it easy to listen on our iPod, computer speakers and increasingly our home stereo. Now, he says, with the access Apple will no doubt get to Disney (Research)'s vast library of movies and TV shows, iTunes is about to get a huge boost toward becoming the front end for our digital TV and movie experience too.

"What happens when you can beam shows from your computer or iPod wirelessly to your TV?" he asks. "You have a Tivo (and a music player) that you can take anywhere." IPods and TVs don't have that ability yet but they will soon, he believes. "iTunes will be the software that runs your living room."

It's tempting to dismiss Munster as just another analyst touting the stock he covers. (Apple (Research) is up 87 cents to $73.20 today and has doubled in the last six months.) There are so many new relationships being formed right now between technology and entertainment companies that it seems too early to call a winner. CBS just announced a huge deal to distribute big chunks of its television library on Google (Research), for example. Microsoft just announced a music deal with MTV and is working with AT&T (Research) (formerly SBC) on an Internet TV offering. And cable companies increasingly are starting to offer video-on-demand services and Tivo-like record and playback functions in their set top boxes.

Indeed, it's not even clear yet that there will be that much to watch, at least legally. Most of Hollywood is still decidedly hostile to the idea of distributing anything over the Internet. Jobs and Disney CEO Bob Iger may have grand plans. But the theatre chains and retailers like Wal-Mart (Research) that distribute studios' DVDs hate the idea; and they still account for virtually all of the studios' profits.

True enough. But the new partnerships are all incomplete solutions. Right now you can't research, download, organize and listen/watch music and TV shows at home or on the road with anything else but iTunes. Meanwhile, its lead as the Windows of digital entertainment is only growing. Despite a raft of challenges last year, including a very credible push by Yahoo, the iPod and by extension, Apple and iTunes, had its biggest year ever. Thirty two million of the 42 million iPods ever sold were sold in 2005.

Even competitors privately acknowledge that in online music, at least, iTunes has almost unstoppable Microsoft/Ebay-like network effects. With, by Munster's count, 50 million copies in circulation and songs now selling at a rate of 3 million a day, artists, labels and advertisers want to be on iTunes because everyone else is on iTunes. (See correction.)

As for getting enough movies and TV shows on iTunes to rival the draw of the music, Munster says that when entire library of Disney movies and television shows is available there, "that will be a big enough slug of content to create a domino effect."

Still skeptical? Talk to Jeff Zucker, the new CEO of NBC/Universal. In an interview with Newsweek he said that iTunes had generated $2.5 million in download revenues just in the last three months. He also said it was helping him decide what to air. Because of the unexpected popularity of one show, "The Office," on iTunes, TV viewership shot up and it won a coveted Thursday night prime time slot.

The one catch for Apple, of course, is that being the control panel of our digital entertainment experience is not in itself a business right now. It might become one if Jobs can translate all the eyeballs he has into significant online advertising dollars. But at the moment, iTunes' main function is to drive hardware sales -- be they iPods, Macs or any other device Jobs has up his sleeve, like as many believe, a PVR.

At the moment, Apple makes no more than a few pennies on the music and videos it sells through iTunes. This puts Jobs in territory that has not been charted for a while -- making 20 percent margins in what is in effect, consumer electronics -- a business that for a long time has come to expect single digit margins.

But his critics have been leveling that broadside every year for the past four, and he has proven them wrong at every turn. It's becoming hard to bet against a track record like that.

Correction: An earlier version of this story understated the number of songs iTunes sells each day. regrets the error. (Return to story.) Top of page

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