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The company's path has been difficult, but its position indicates that independent digital music companies may still have a role to play online.

SAN FRANCISCO--Like a junkie pulling through rehab, is glad to be alive.

Echoes of wilder days still ring through the company's hip, brick- and glass-walled offices here in San Francisco's once hot multimedia gulch. Black-and-white photos of snarling punk and new wave musicians still hang on the lobby wall. Music still floats through the air, and a trio of framed Fillmore concert posters hangs on the office walls of the company's 33-year-old chief executive.

But the dot-com blowout has clearly left its mark. Most of the local musicians who once dotted its payroll are gone, the victims of three rounds of layoffs; employees no longer gather around beer kegs for Friday night jam sessions; and sponsorships of local bands and concerts are history. In hushed halls that once pounded with live guitar riffs, the message comes through loud and clear: is on the dot-com 12-step program.

"I told people, it's like Cortez saying the first thing you do when you get there is burn the boats," says CEO Sean Ryan, looking back on a year of painful transformation. "There's no going back."'s forward march will help define a new industry. As one of the last start-ups standing in the once-crowded digital music business, the company is poised to carve out a role apart from the major recording labels that have quashed most of their competitors.'s success or failure will be a measure of the control wielded by the massive entertainment conglomerates online--and the room that remains for outsiders.

Not that there's space for many independents. Many of's peers disappeared after their dreams of revolutionizing the music world vanished along with their venture funding. Most of those that haven't died are now owned by a technology giant or a major music label.

By contrast, appears to have righted itself for the long haul. It has struck a string of deals with three of the five major record labels--including Sony Music Entertainment, which hadn't previously licensed its music to an independent service. Rhapsody,'s recently launched music subscription service, has won positive reviews from industry analysts in bake-offs with its primary competitors: music industry-backed services MusicNet and Pressplay.'s path has been difficult and looks even rockier ahead. But the company's position indicates that independent digital music companies may still have a role to play online.

"They're facing the same challenges everyone else is: getting content and working to drive the word out to subscribers," said P.J. McNealy, research director with GartnerG2, a division of the Gartner research firm. "There will be room for a couple different players...but this race has barely started."

A game of musical chairs was conceived in late 1998, when music files began flowing onto the Net in volume but Napster hadn't yet made its appearance. In founder Rob Reid's mind, people needed a way to navigate the fragmented MP3 sites, much in the way that Yahoo provided a road map to the broader Web.

The company initially toyed with categorizing songs using some kind of technological recommendation engine, much like the one that helps recommend purchases similar to what a customer has previously bought. But they quickly decided that human ears, and the kind of uber-geeky music knowledge John Cusack and his co-workers displayed in the recent movie "High Fidelity," would be more satisfactory.

The company became a hybrid, hiring enough good engineers to create a Yahoo-like directory while scooping up dozens of San Francisco musicians and music writers to listen to, describe and write about virtually every band on the Web. They created a directory that broke music into micro-niches ranging from Blip, Bleep (also known as "Drill 'n' Bass") to the venerable polka, and divided the Web music world accordingly.

The company was successful in drawing financing, even capturing money from all five major recording labels, although this totaled less than 2 percent of the company's funds. It made a series of promising distribution deals with major portals including Yahoo, and The future looked good, even if profits weren't yet rolling in.

Then Napster arrived.

In the blink of an eye, the online music world was turned upside down. Where the Web had been a bewildering maze of music, it was now a one-stop, all-you-can-eat giveaway through Napster's file-swapping application. With practically any song imaginable at a listener's fingertips,'s justification for existence suddenly diminished, and the company's focus began to stray.

It wasn't immediately clear how big the problem was. Executives thought courts would shut down Napster quickly and that they could move on with their plans. Ryan tells of a white board in his company's headquarters that mapped out a post-Napster strategy--a diagram that maddeningly stayed on that board for a year or longer while the file-swapping company's popularity grew.

As the underground became mainstream, temptation rose. The company toyed with the idea of doing its own peer-to-peer service. Many in the music industry faced the same defining decision: Follow Napster toward member lists in the tens of millions--and risk crippling lawsuits--or stay low-profile and on the right side of the record companies?

We asked ourselves, "Do we need to be in this business? Are we being too white hat?" Ryan recalled. "Maybe copyright didn't matter." didn't go down that path, but it began experimenting. Watching Napster's rise, executives decided they needed to distribute music themselves instead of just pointing to others' sites. They bought WiredPlanet, a distressed Net radio station, and turned it into Listen Radio.

Internally, they created a demonstration of a "celestial jukebox" application, which would let people stream any song on demand. They took it to the major labels to see if they would participate in trials. The labels said no. tried to buy Napster-like file-swapping technology from bankrupt Scour in November 2001. But tiny CenterSpan Communications outbid them in bankruptcy court.

The picture began to clear a few months later, when bought a little-known streaming media company called TuneTo. That company had technology that substantially decreased the amount of network bandwidth needed to stream music to personal computers. For the first time, a large-scale subscription service using streaming media started looking financially feasible, Ryan said.

By August, when executives were clear about their technology, they had made their decision: Rhapsody was the future.

Two rounds of layoffs earlier that year had helped stabilize the company without focusing it. But now virtually everyone in the company not directly related to Rhapsody was let go, from sales staff to most of the musicians and music writers who had staffed the music directory service.

For an online music start-up in a crumbling industry, it was a bold step. wasn't bringing in a lot of cash, but it had spent several years building an advertising business and syndication deals for its music directory and online radio service.

In one swoop--and that painful third round of layoffs--the company cut off these few moneymaking sources. Though a risky gamble, that decision now appears to have bought the company a second life.

"When I was making the pitch to the board...part of me was thinking, 'Jesus, this segment is tough,'" Ryan said. "But we couldn't make the numbers work" otherwise.

In for the long play
Rhapsody is far from a sure bet. It launched late last month within days of similar services from Pressplay and MusicNet, each of which is owned by a consortium of major music labels. Those services also are distributed by Net giants such as America Online, Microsoft's MSN, Yahoo and RealNetworks, while is still seeking partners.

None of the services has access to music from all five major recording labels, a step most analysts say is critical in convincing mainstream consumers to spend money. But with three now onboard, rivals MusicNet and is catching up to Pressplay. Signing Sony Music last week, which had yet to license its catalog to any unaffiliated services, was something of a coup.

The services may also appeal to different people. MusicNet and Pressplay each offer a limited number of streamed and downloaded songs per month. Pressplay also offers a limited ability to burn songs to CD.'s Rhapsody offers unlimited use of songs but only through steaming media, requiring a listener to be connected to the Internet.

But it's in its early days. Analysts say digital music subscription revenue will be barely a blip on the industry's radar screen for years to come, reaching roughly $1 billion by 2006, according to Jupiter Media Metrix forecasts. Next year will be the first time such subscription services will have any appreciable revenue, reaching about $200 million, the research firm predicts.

Ryan says he's not betting on substantial revenue from Rhapsody at least until next year. His company can last on its accumulated cash for another few years, he says, giving it time to improve the service and find distribution partners.

In the meantime, the various subscription services are racing to put themselves in a position where consumers will see them once the market matures.

The major music labels' services already have an edge, with the Web's biggest names signed up. Independent competitor FullAudio, which also has been successful in signing deals with major music labels, has linked hands with radio giant Clear Channel for online distribution. Meanwhile, RioPort's PulseOne service, which will be the first to allow subscribers to move songs to portable MP3 players, will be carried by MTV and House of Blues, among others. PulseOne announced its first major licensing deal for portable devices with BMG on Monday.

At least initially, is after different fruit. It sees Internet service providers, particularly broadband services, as its best distribution partners and doesn't plan to market directly to consumers. It's already signed on and is pitching Rhapsody as one of the best ways for ISPs to justify higher subscription fees for faster service to customers.

It's an idea that has been floating in the broadband world for some time. SBC Communications has even spent considerable time and money changing the way its DSL (digital subscriber line) network supports subscription services of exactly this kind.

"ISPs are looking for cheap and easy programming that's going to help them upgrade their customers to broadband," says Jupiter analyst Aram Sinnreich.'s "timing is good."

It's also an open question whether stays independent in an environment where virtually every other prominent digital music firm has been snapped up by a larger company with designs on the digital music business.

Ryan says there are advantages to staying solo. MusicNet and Pressplay, for example, each have had a difficult time licensing music from labels that back just one of those services. Some potential distribution partners might prefer an independent music wholesaler to stepping into turf battles fought between the labels, he adds.

Thus, while he does take calls from potential suitors, Ryan says his company is likely to stay unaffiliated.

"We still see the space as a good space," Ryan said. "We're on an independent path."