The music's over at HMV

by Richard Crump

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22 Jan 2013

  • Financial Director
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THE NATION MOURNS. The demise of HMV, the digital entertainment giant that entered administration this month, has led to an outpouring of national grief and much fond recounting of early music purchases and the subsequent profound and lasting influence such purchases had.

For the record my first purchase was Nevermind by Nirvana. However, I must confess that I do not share the same emotional attachment to the chain that many seem to be exhibiting. And spare a thought for Blockbuster. The DVD rental chain also entered administration but will unlikely be mourned in the quite the same way.

Yet for finance directors the failure of two household names - not to mention Comet and Jessops, which also entered into insolvency processes - delivers a salutary lesson about what happens if business models do not adapt to changing market forces.

In both cases the troubles are largely the result of the business not moving with the times and competition. The current recession merely brought these failings into stark relief. Both have struggled in the face of the digital revolution - music downloads and video streaming services changed the market in a fundamental way.

The consensus is that the failure of HMV was inevitable because the way we consumer music has been transformed by the internet. The current generation purchase much - if not all - of their music online. Much the same can be said about how we consume film. But I don't think it was inevitable.

Neither downloads or streaming is particularly new. The types of services pioneered by Apple and LoveFilm have been around since the turn of the century. Given their dominant market position - HMV accounted for 38% of all physical CD sales in the UK - both HMV and Blockbuster were uniquely placed to capitalise on the evolving buying habits. Thirteen years offers plenty of time to get the house in order.

Where the FD comes in is to ensure the business has the market analysis, and strategic and management information necessary to support and shape company strategy. Where are customer sales coming from? What is the cost of investment in driving online sales? What is the ROI? What is the cost of sale of online versus physical?

Companies that successfully adapted to online sales have been able to cut distribution costs and slash the high rental cost of floor space. Other retailers - though not in the digital entertainment space - have done just that. John Lewis is a prime example of a company that has successfully combined online sales with a traditional bricks and mortar operation.

Electrical goods are increasingly being purchased online, and more people are happy to buy their groceries without 'squeezing' the product. Neither of these changes have been anywhere near as dramatic as that of digital downloads, yet businesses have had to change their models to capitalise on the convergence of technology

The growth in online retail creates some challenges specific to the finance function. On the plus side, online is not very capitally intensive and is potentially higher returning whereas stores require a lot of working capital investment.

In an interview with Financial Director, John Lewis CFO Rachel Osborne predicted that 33% of John Lewis's markets will go online, with customers used to shopping instore migrating across. Whether money comes through the front door or from a click of mouse should not matter but, according to Osborne, the migration online matters for the finance function.

"It matters because the financials are different; they are different business models," she says. "One is high fixed cost, high marginal contribution; one is low fixed cost but lower marginal contribution because the variable costs associated with online are higher," she said.

Richard Crump is deputy editor of Financial Director

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