Digital music in buying spree mode

An increasingly competitive digital music sector could pave for mergers and acquisitions this year.

Think last year's acquisitions of iLike, imeem and Lala marked the end of consolidation for digital music services? Think again. Gradually thawing credit markets and an increasingly competitive digital music landscape could make this year a great one for mergers and acquisitions in the sector. Apple's purchase of Lala last month lends a greater degree of legitimacy to the "cloud-based", or internet access model for music distribution.

This deal, along with MySpace's purchase of iLike and imeem, will consolidate innovative features into a single, well financed service, which is surely better for the recording industry than watching them die on the vine individually. "I see it as a positive sign," says David Ring, the executive vice president of business development and business affairs for Universal Music Group's eLabs. "If they cannot or choose not to go it alone, that's OK. Maybe they need more economic backing in order to make something into an enterprise of great worth. I'm encouraged by the interest in the acquisition of various music services."

Expect to see Apple and News Corp's MySpace continue their respective buying sprees. MySpace Music wants to expand quickly into areas such as merchandise sales and concert ticketing, and has more cash than it has developers. And Apple, for all its dominance in the a la carte download space, is playing catch-up in areas such as social media, discovery and recommendations. Meanwhile, Google is said to be eyeing a stronger digital music presence, not only to beef up its music search results features but potentially to expand into additional music services for devices based on its smartphone operating system, Android.

In fact, Google reportedly considered buying Lala before Apple snatched it away. Microsoft is not only relaunching elements of its MSN portal to improve its search and social networking features, but may also be seeking ways to jump-start its struggling Zune service with an acquisition in perhaps the mobile or internet radio space. Amazon's MP3 store is emerging as a strong, if still distant, second to iTunes in the digital download market, but it doesn't have streaming or social networking capabilities. And Facebook remains curiously absent from digital music outside of a partnership with Lala for virtual gifting.

Other potential buyers include device makers such as the Finnish mobile giant Nokia, which may want to replace its Comes With Music subscription service with an on-demand streaming option, and Sony, which may want a music access solution to add to the range of media services it plans to launch on the PlayStation Network this year. Even the big-box retailer Best Buy may aim to add to the stable of entertainment services it seeks to bundle into devices sold at its stores beyond Napster, which it acquired in 2008, with an internet radio or music recommendation technology.

Likely acquisition targets include technologies and services that address specific areas of the digital music business that a would-be contender would otherwise have to build on its own to be successful. At the top of this list? Search and recommendation features. "In the world of on-demand, all you can eat streaming services, what to listen to is even more meaningful than getting access to the music," says Tim Chang, a principal at Norwest Venture Partners in Palo Alto, California.

A particularly tempting takeover target for companies seeking this kind of functionality is Pandora, the customisable internet radio service that built its own music recommendation engine called the Music Genome. Having finally sorted out a years-long royalty dispute with SoundExchange, the company has clarity on music expenses until 2014 and expects to turn a profit this year through audio ads and premium subscription options.

Other companies mentioned in the search and discovery space include the Echo Next and Blip.fm. Kleiner Perkins's iFund, meanwhile, invested an undisclosed amount in music ID service Shazam in hopes of building it into a mobile music powerhouse, which makes it both a potential acquirer and acquiree. Portability is another area of great interest, mostly driven by accessing music through mobile phones. MySpace Music, for example, cited imeem's mobile application - or app - as one of the reasons it wanted to acquire the company.

But today's collection of iPhone app developers are not seen as likely acquisition targets. Not many have revenue of more than a few million dollars a year and their technology is not seen as particularly compelling, providing little incentive to buy them out except to acquire personnel and executive expertise. However, such mobile streaming music services as Slacker, which last year shifted from offering its own portable device to focusing fully on mobile phones as its core strategy, and the highly praised Spotify are another story. As smart phones become more advanced and wireless networks more reliable, the concept of streaming music to a phone rather than downloading and transferring it is becoming an area of great interest and likely one that will result in several acquisitions this year, although Spotify's estimated valuation of US$250 million (Dh918.25m) may be too pricey for potential buyers.

Another company to watch is Melodeo, which offers the nuTsie service that lets users stream their personal computer's music library to their mobiles. Currently, users can access only a random stream of their library, in order to comply with webcaster licensing rules, but an on-demand version is in the works. Sources say Melodeo is in negotiations with at least two companies that lost the bidding war over Lala, along with other potential suitors.

As for social music services, there is no shortage of speculation about MOG, a relatively newer entrant that launched a $5 per month streaming service last month. MOG would give a potential buyer not only a well received on-demand streaming music service, but also an established music-focused social network and advertising network integrated into more than 300 other music-related blogs. * Reuters