By Rick Aristotle Munarriz (TMF Edible)
June 19, 2000

MP3.com Inc.

Ticker: (Nasdaq: MPPP)
Phone: 858-623-7299
Website: www.mp3.com
Price (6/16/2000): $17 3/16

How Did It Double?

Two months ago, MP3.com was on the verge of becoming unplugged. After launching a renegade music listening service on the Internet, the Recording Industry Association of America (RIAA) was suing for billions.

But after settlements with at least two of the five major record labels, the company has turned the beat around. With the company's balance sheet trending towards a cash hoard of $250 million after all the labels have nodded, investor attention has turned away from the company's survival to the prospects of how much favorable traffic the case's publicity will eventually generate at the site. Does crime pay? Who knows? But these shares are amping up.

Like a repeat sign at the measure, things have gone full circle for the San Diego Internet content provider. Back in July the company went public at $28 a share. With the lure of digital music and the perfect Web domain, the company drew in investors and musicians alike.

While the company started last year with just 10,000 freely available song titles on its site, that sum grew to 250,000 by year's end. Today it is closing in on half a million selections. But sector apathy and lawsuit liability soon clouded the prospects. The once celebrated IPO found itself trading as low as $6 1/2 in late April. But, clouds pass, and for MP3.com it came on the heels of record companies looking to hook up licensing deals with one of the few companies with a system for monetizing digital airplay and exchange.

Business Description

What is this MP3 thing anyway? Well, it's a form of digital compression. It allows for a near-CD quality recording to consume just an eighth of the original storage space. Given the popularity of uploading and downloading digital music, the MP3 files (which average about a meg for every minute of audio) make the swaps easier on your hard drive and your modem.

MP3.com has more than 10 million registered users who come to tune into the music of more than 74,000 artists -- most of them unsigned. The musicians, singers, and comedians receive more than exposure. MP3.com has a Payback for Playback program that pays artists based on airplay. The artists can also create CDs that consist of the uploaded MP3 files. MP3 outsources the fulfillment to Cinram and the artist keeps half of the gross sale receipts.

While the content is free, the company recently launched the Classical Music Channel where subscribers pay $9.99 a month for unlimited online access to the selected works of artists like Luciano Pavarotti and The Royal Philharmonic.

In January, MP3.com rolled out its My.MP3.com service. Using proprietary Beam-It technology, registered users would insert their CDs in their computers and MP3.com would verify if the CD was an original, and if so, the user would be able to access MP3.com's own copy of the same CD from any Internet connection. Under the same principle, the company teamed up with CD retailers to offer Instant Listening. If a user bought a CD, Instant Listening would allow My.MP3.com access to the CD immediately -- even though the physical CD would be shipped and received a few days later.

Financial Facts

Income Statement
12-month sales: $38.7 million
12-month income: ($59.2 million)
12-month EPS: ($1.01)
Profit Margin: N/A
Market Cap: $1,110.3 million

Balance Sheet
Cash: $369.3 million
Current Assets: $391.2 million
Current Liabilities: $55.3 million
Long-term Debt: None

Ratios
Price-to-earnings: N/A
Price-to-sales: 28.7

How Could You Have Found This Double?

One issue that has dogged the music industry is how to monetize airplay and distribution in the digital world. Secure transaction sites like EMusic (Nasdaq: EMUS) and Liquid Audio (Nasdaq: LQID) have given it a shot, but the reality is that MP3.com's advertisement-based model outgrossed all other digital delivery players combined last quarter.

Threatened by the popularity of exchange sites like Napster and MP3.com, the recording industry decided to sue both. There was a major difference though. Napster users are able to download files from the hard drives of fellow Napster users -- naturally, these are MP3 files that they don't own. The Beam-It aspect of My.MP3.com provided a password-secure solution for users to listen only to CDs they already owned.

While both treaded loosely on the grounds of copyright infringement, MP3.com's heart was in the right place -- encouraging the purchase of more CD titles to take the site up on its enhancements.

In May, when MP3.com began to pay artists based on My.MP3.com airplay, it provided a revenue stream for the recording industry that it had yet to capitalize on -- the ability to generate residuals beyond the one-time purchase. But that came to a halt as the court sided with the RIAA.

So the major labels had plenty to gain from MP3.com if some form of revenue-sharing or licensing deal could be struck. But what about the lawsuit claiming billions of dollars in damages? Well, last month, with the stock price still stuck in the pre-teens, the New York Post reported that the RIAA was willing to settle the lawsuit for just $100 million. Even more intriguing were claims that the major labels were actually bypassing RIAA and instead looking to broker their own deals directly with the company.

It made sense, and that was exactly what happened. Investors had two weeks before the Post article and the news of Time Warner and BMG coming to terms with MP3.com -- at which point the shares promptly pumped up the volume.

Where to From Here?

So, what exactly is MP3.com now? Is it a haven for the unsigned artist or a new digital revenue stream for established artists? Both. While it is the strong roster of independent artists that is drawing more than a million daily listens on the site, it is the more widely recognized signed artists who will now cement MP3.com's role as the original "Music Service Provider."

Teaming up with the majors couldn't come at a better time. While the number of artists and songs continue to grow (to the tune of 200 new bands and 1500 new songs a day), page views on the site have fallen over the past two months.

The artist community has also grown a bit restless on the site's message boards after MP3.com began publicly broadcasting individual artist Payback earnings last month and then tweaked the Payback payout formula last week without notice. The latter seems to cut against the grain of Payback's own Terms and Conditions, but MP3.com's renegade ways have ultimately worked out favorably in the past.

Looking ahead, beyond the recent pullback in traffic, the company is well positioned for the future in many ways. For starters, revenues will continue to climb. Groupe Arnault has committed $70 million in advertising for next year -- almost twice what the company as a whole has generated over the past twelve months.

The company has also used its huge cash reserves in ways that might be best termed as venture capital. Is this the CMGI (Nasdaq: CMGI) of the digital music world? The company has invested in upstarts like Visitalk, Voquette, FreeInternet, and Cinram -- all prominent sponsors now on the site. The label settlements and operating expenses might curtail future investments, although it's not out of the realm of possibilities for the company to eventually buy out one of the smaller secured delivery niche players for pennies on their IPO dollar.

So, like a well-paced tune, MP3.com keeps marching forward. The company plans to branch out with new genres for its paid music channels, especially after the popular reception the Classical debut has found overseas. The company has also launched syndicated radio and retail music licensing featuring its roster of unsigned artists.

In the realm of music, MP3.com is all over the bar. Like a catchy melody -- or its catchy namesake domain -- it's a tune investors may not be able to keep out of their heads.

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