On June 1, 1999, Shawn Fanning launched Napster, a service that allowed computer owners to easily share music files across the internet. Within a few months of its launch, 4 million songs were in circulation and in less than a year, more than 20 million people had downloaded the program. Napster’s rapid growth is not typical, especially given the need to establish a community of users before there was any real value. Napster exhibited strong direct network effects and had the potential to create very strong indirect network effects.
Napster was in the distribution business. If potential music customers wanted to purchase new songs or albums, they would have to leave the comfort of their homes, drive to a record store, and pay for a physical object that stored digital content. Napster completely flipped that model on its head by taking advantage of relatively new technologies including MP3 music files and Peer 2 Peer (P2P) networks. Individuals would download the Napster program and tell it where to find music files on their computers. The program would then make those files available to everyone on the network and also provide the new user with the ability to easily search for and download music content not on his/her computer.
Chicken or the Egg
Unlike other community-based products/applications that struggle to add value when usage is low, Napster’s music service provided significant value in its early stages. You could imagine being connected with only one or two friends and still finding the service to be incredibly useful, assuming you didn’t have identical music libraries. Also, users did not only serve as consumers, but they were simultaneously the suppliers (ignoring musicians for a moment). Napster was able to take advantage of two factors that reduced significantly reduced friction for new users. The first is that users either already had digital music on their computers or could easily convert their physical media to digital format. The second is that users could quickly reap the benefits of the application without contributing anything.
Napster provided a service that was superior to the alternatives is almost every way. Users could access their music quicker. Users could also choose from a larger catalogue of music relative to what was available at their favorite music store. And probably most important, the music was free (for those who weren’t sued). Incumbents did not anticipate this movement and to this day struggle with illegal downloads. The Napster service was so radically different than what the music business had become accustomed to that it was difficult for them to adapt. Looking back, it’s not clear what incumbents could have done other than worked with Napster to monetize the content. They, instead, chose the legal route.