Examination of Witnesses (Questions 360
TUESDAY 27 APRIL 1999
360. I am still puzzled as to why that should
affect the price. The process is the same. In fact, you are actually
cutting out the middleman, are you not? If you are delivering
direct, you are cutting out the wholesaler and his profit. So
why should the fact that you are direct selling and direct delivering
actually affect the price, particularly if you are cutting out
(Mr Kennedy) They have physical costs. You actually
pay out cash to deliver to John o'Groats. It is more expensive
to deliver there.
361. Then so would the wholesaler. If you were
selling via a wholesaler he would be doing the same process except
that he would be adding a bit of margin on the top for the service,
would he not?
(Mr Kennedy) Right, but if I were delivering direct
to the wholesaler I would have one-drop deliveries.
362. But we are talking about how it impacts
on the consumer at the end of the day. Presumably the wholesaler
is making a delivery, as you are doing, and he is going to charge
his profit on top of the costs he is paying you before the customer
(Mr Kennedy) The bit in the report that referred to
extra services included the services in delivering through the
supply chain rather than particularly services to the consumer.
363. I am obviously being a bit thick but I
think if you cut out the middleman you usually make some savings,
but there we are. Let us move on from that. Just comparing United
Kingdom prices with United States prices, you say in evidence
that "it is not surprising that, given the average volume
sale in the US is much greater than a typical sale in the UK,
prices are lower in the US", which seems to be logical and
rather concurs with my personal experience looking at CD prices
in the United States, but elsewhere you state that "there
are lower than average prices across the wide range of recordings
available in the UK". Which is correct? Whose prices are
lower, ours or the US?
(Mr Mills) May I answer that, speaking as somebody
who travels to America a lot. Obviously there are economies of
scale in the American market in records as in everything else,
and, as I said, I travel to America a lot and I am used to treating
the dollar and the pound as having the same value in the real
world. The difference is that in America there is a much lower
range of mid-price and budget range goods than there is here.
Here the vast majority of the market is mid-price and budget price.
In America the product comes down in price much more slowly than
it does here, so across the board it is much more similar to here,
if you like.
364. So it is a different market, is what you
(Mr Mills) It is structured differently. The average
price is much closer than the list price.
(Mr Kennedy) And that was borne out by the NERA report,
which showed the average market prices in the United Kingdom,
even including VAT at 17.5 per cent. rather than sales tax at
8 per cent., which showed a lower per CD price than the United
States and lower than other European countries.
365. Is this because they do not buy all the
compilation products and the second time round or third time round?
(Mr Kennedy) It is not so much because of the compilation
products. They are sold at full prices because, as Mr Mills said,
there is a much better mid-price and low-price market in the United
Kingdom and Europe.
(Mr Mills) It should also be said that retail mark-ups
are actually lower in America. The differential between wholesalers
and retailers is less in America than it is here.
366. That is despite the fact that they have
a middleman operating somewhere in the wholesale market? That
seems very strange.
(Mr Mills) That is the case.
367. "For the domestic market, UK independent
record companies price on a full average cost basis," but
for your export markets you price on a marginal cost basis. Does
that mean that we are actually subsidising your exports?
(Mr Mills) No, it has two different effects. Firstly,
generally speaking, when we talk about exports in the record business
we are generally not talking about physical goods moving from
one country to another. We are generally talking about sub-licensing
and separate manufacturing sources. So for multinationals this
problem is not so great as it is for independents, because for
Universal, if they sell a record in the United Kingdom or if they
sell a record in Spain or if they sell a record in Poland they
still have a company there which is making the full margin. For
independents, we sub-license and, therefore, we only get a smaller
slice of the royalty, so the impact on us of an overseas sale
coming back into the United Kingdom would be much greater.
368. It would be manufactured locally?
(Mr Mills) Yes, generally.
369. How do you control that coming back into
the United Kingdom?
(Mr Mills) Within Europe we are used to that and that
is fine. I have quite a good current example actually, which is
Russia. We all know what state Russia is in at the moment. My
Russian licensee is telling me that if it is going to be able
to sell my CDs at all it has to price them at $6. I can think,
is that a discount I can live with. Would I rather develop my
Russian market and would I be happy to have those sales rather
than not have them? The answer is probably yes, but if there is
free movement of goods between us and Russia and those cheap Russian
CDs are going to come back here, I am simply not going to make
it, therefore I am not going to exploit that market.
370. Are they on the same cost basis?
(Mr Mills) Close enough. They are not the same, you
are right, but it is not that different.
371. Just coming back to the domestic market
again, if we look around the United Kingdom some retailers are
actually selling CDs quite a bit cheaper than others. Why is that?
Is it just because they have more volume, they are more efficient?
Where is the disparity?
(Mr Mills) Different retailers are able to negotiate
different standard discounts and also different one-off discounts,
and all of us as record companies will do individual discounts.
372. You will do individual deals with the retailers?
(Mr Mills) Yes.
373. And it depends on their power in the market
as to what they can negotiate?
(Mr Kennedy) And volume really.
(Mr Mills) Yes, volume, and it is also what they will
give us, if they will front-rack our products, then an increased
(Mr Kennedy) Also a number of retailers find music
a very attractive product asnot quite a loss-leader but
to bring people in.
374. Still going on with that, but on counterfeit
goods, how many counterfeit CDs are domestically produced, do
(Mr Deacon) Not a lot domestically produced, I think.
The majority of counterfeit goods come into this country from
abroad and mainly at this moment anyway, I can tell you, because
it changes, Bulgaria was the biggest problem. Indeed, Bulgaria
was actually manufacturing one in eight of every counterfeit records
in the world at one time. They have now been, if you like, chased
out and it is the Ukraine that we are getting the biggest problem
with, the Ukraine, Russia and China. Chris Smith is over in China
at the moment, so we hope he will be able to do something about
375. Could you tell us a bit about the SID,
the source identification code you have suggested?
(Mr Deacon) Yes. I cannot tell you a lot about this
because, frankly, I am not a technical expert, but what it is
is a source identification code that is actually inserted, as
it were, in the production and what it enables investigators to
do is to know where that particular CD has been manufactured and
who by. What is happening at the moment internationally is that
our investigators, together with countries, local authorities,
are actually going around and seeing as many factories around
the world as they can, and they are getting, one has to say, a
fair amount of co-operation in that respect. The difficulty is,
of course, another statistic which is pretty frightening, which
is that, in fact, one in three CDs and tapes manufactured around
the world are counterfeit, so it gives you some idea of the massive
problem that the industry is faced with.
376. Do you think that this SID code is crackable
and that if someone can reproduce one aspect of a CD could they
also produce a legitimate Universal stamp, as it were?
(Mr Deacon) Yes, I am afraid to say that it is beginning
to happen and with the SID code, we are now trying, I think, internationally
to be one step on. You will always have this problem, I have to
say, with counterfeiters, which is that if you can keep ahead
of the game by up to a year you are doing pretty well but you
will always, I regret to say, have that problem. Could I very
quickly say on the domestic side in a way we have had some success
here. Four years ago we were losing around £34 million a
year to piracy, counterfeiting, bootlegging, etc. By working very
closely with the customs officers and the trading standards officers
we have actually now managed to reduce that to something like
£15.7 million, so we have actually had some success. I think
my problem hereand we can come on to thisis the
problem of allowing parallel imports in. It is not that we are
accusing parallel importers of being pirates. The problem is that
if you get a substantial volume of records coming into the country
via parallel import, the biggest problem you are getting is that
customs officers, who are working overtime at the moment to try
and find these highly sophisticated counterfeits, which our own
forensic expert finds great difficulty findingif you get
that vast volume coming in then you are going to have very considerable
problems and particularly where you get mixing, i.e. you get counterfeit
goods in with, if you like, legitimately pressed goods and that
we see as a very big problem.
(Mr Kennedy) In addition, many of the main offenders
in piracy are sitting on the doorstep of the EEA, so our fear
would be their proximity in these circumstances.
377. Are you suggesting then that if one in
three CDs has been pirated, a number of our mainstream retailers
are flogging pirated goods, by accident or design?
(Mr Deacon) No, I am not. We do find occasionally
that some retailers may have some counterfeit goods, but by and
large one has to say that I do not think that is a massive problem.
I think the main concern that we have is that it is not so much
the retailer because the retailer actually works closely with
us in many respects. Where they see something that is suspect
they will let us have it. The concern I have is that those countries
which are producing the mostand mainly we are talking of
the CIS countries here really, the Ukraine, Russia, etc.that
is where we are going to start seeing them coming, and ironically,
of course, the two countries that we were talking about where
imports are coming into Australia are two countries in which we
are particularly finding difficulty with pirated stuff coming
378. The Consumers in Europe group said to us
in evidence that they "do not accept that there is a link
between the protection of copyright against fraud and the prevention
of grey imports". How do you react to this? They are suggesting
that you are scaremongering by putting the two alongside each
(Mr Deacon) I cannot see why we are scaremongering
because, after all, piracy is our biggest problem. Music is probably
the easiest product which can be copied. Motor cars cannot be
copied yet; motor cycles cannot be copied. Records can be copied
so very easily. That is why really I think we have a perfect right
to be extremely concerned about it. Also, of course, you have
to bear in mind that in terms of transport, you can fit a great
many records in. It is very simple.
(Mr Kennedy) If I may add, you asked the question,
would any of our retailers be currently selling pirate products.
We are fairly confident that they are not because they would source
their product from Europe. My own company manufactures only in
the United Kingdom, France and Germany. We would be pretty certain
that all of the Universal product on sale in Europe has come from
one of these three factories. It becomes a much more difficult
audit trail once the records start coming from Asia and the experience
of Australia and New Zealand is very much mixed consignments where
customs officers have found that some are genuine and some are
pirate and they have thrown up their hands in horror as to how
they can police that.
379. Mr Deacon, you have expressed your concern
about the problems with parallel imports and a moment ago in particular
about sifting counterfeit CDs out of those. But let us be blunt
about it. The whole advent of the Internet is something that you
can go down all this process, express all your concerns, etc.,
but Internet sales of CDs imported in at considerably cheaper
prices from the United States, for example, do make a whole mockery
of that process. In fact, Mr Mills, there is some indicationI
do not know how accurate it isin the media that, for example,
your company are looking at selling into Internet sales, because
of the competition presumably from across the Atlantic?
(Mr Mills) Yes. If I may answer that, first, I think
the Internet is the broader picture and I think personally we
welcome the Internet. My personal beliefthough it is only
a personal beliefis that the Internet is going to have
the effect of levelling global prices. I suspect that within five
years our prices, everyone's prices, will be within 10 per cent.
either way of American prices. So I suspect this is a natural
process, which personally I welcome. Obviously there is also the
issue of digital sales and sales by non-physical means, which
again will be a different price structure, and I welcome that.
So I suspect that this global levelling of prices is a natural
process in any event.
(Mr Deacon) I tend to agree with that. I think in
the longer term with digital diffusion and music being fed, as
it were, down the Net, we are going to find probably that many
things will even out in the longer term.
(Mr Kennedy) You mentioned that prices were obviously
cheaper in America. I am not sure that is correct in terms of
380. I am not asking for evidence. I am just
speaking with some direct experience.
(Mr Kennedy) But the price you see quoted is net of
sales tax, net of postage and net of import duties.
381. I am talking prices I have paid, thank
you very much, in the States that are considerably cheaper. Next
time I am over there I shall take advantage of it.
(Mr Kennedy) Sorry, when you are over there, are you
talking about the Internet
382. Over there?
(Mr Kennedy) In terms of prices over there I think
we indicated that if you look at the basket of sales we are actually
cheaper, and I completely understand that you would take advantage
of the records that you want at the best prices, but in terms
of Internet prices there is this misconception that it is much
cheaper to order from America. You then have to add on sales tax,
you have to add on import duties and you have to add on postage
costs, and you always have to take into account at the moment
that nobody is making a profit trading on the Internet. By the
time it all settles down I believe, as Mr Mills does, that prices
will settle down more globally and I would like to think in Europe
we were going to try and be the trading source for products around
the world rather than opening up areas for everyone else.
Chairman: Thank you very much, gentlemen, that
has been very helpful. I should warn you that the Committee is
going out to the States later next month and we may well end up
testing your ideas and your claims against our own experience,
which will be highly selective but extremely intense, as you can
383. If I might make a caveat to that, being
the male of the species I am not someone who goes around shopping
all over the place looking for the cheapest price. I know what
I want, I go for it. I shall tell you when I go for it in the
States I will buy each CD in Britain. Contrary to what you said,
I find that the prices are considerably cheaper, irrespective
of which state you are in and the differential in sales tax.
(Mr Deacon) I do not want to prolong this but I know
a lot will depend on probably the exchange rate and if you had
an exchange rate coming down, a cheaper exchange rate, I think
you would find it could go either way.
Chairman: I think it depends on the tastes of
the purchaser and we are not convinced that Mr Laxton buys all
his Tammy Wynnette records in Nashville, but we will leave it
at that for this morning. Thank you very much.