WHY DVDs WON'T BE DRIVING OUT CDs JUST YET

Compact disks are dead.

As early as 1995, the most prominent seers in the computer industry began to repeat that mantra so often that it soon became the conventional wisdom. Faster access to the Internet and a dazzling new technology called digital videodisks (DVD) were going to turn CDs into the 1990s equivalent of the vinyl record.

That will almost certainly be true by early in the next century. But for the moment, predictions of the demise of CDs, and even CD-ROM drives, have been greatly exaggerated. For instance, Wolfgang Schlichting, an analyst with International Data Corp., figures that sales of CD-ROM drives for computers peaked last year, at 72.65 million units. But he puts demand for that seemingly ancient product at 66.5 million units this year, vs. just 8.2 million DVD-ROM drives. Not for another two years will DVDs slide past CDs in what by then may be a 100 million-unit-market for drives. And long after that happens, sales of compact disks -- the software in the CD-ROM world -- may continue to outstrip those of digital videodisks.

That's a slower timetable than many experts envisioned a couple of years ago, when the consumer-electronics industry introduced DVDs as a revolutionary replacement for CDs that could offer eight gigabytes of storage space per disk, vs. 650 megabytes for the older technology. According to InfoTech Inc., a market researcher in Woodstock, Vt., only 500,000 DVD players were sold worldwide last year. Meanwhile, only 333,123 DVD-ROM drives for computers were sold worldwide. Even more dismal was the lack of software. By InfoTech's accounting, only 732 movies and 59 titles for the PC were produced last year for the very early DVD markets. While analysts and market watchers blame conflicting standards and the resulting consumer confusion for the poor acceptance of DVD last year, the outlook for growth this year is still a mixed bag.

Ted Pine, president of InfoTech, notes that with rival standards no longer sowing confusion and consumers and computer users exposed to in-store DVD demonstrations, overall sales of the DVD drives and players are expected to increase more than twentyfold worldwide by the end of this year. And if sales of DVD-ROM drives for the PC do hit the projected nearly 6.7 million units, that year-to-year growth rate would surpass even that of CD-ROMs back in the early 1990s (chart), when nearly every $2,000 "high-end" multimedia PC came equipped with such a CD drive. Pine also notes that compared with the evolution of CD-ROM drives, DVD-ROM drives are getting cheaper and better at a much quicker pace. So-called third-generation DVD drives, which are three times as fast as last year's drives, are expected to be released by the end of this year. By contrast, Pine notes that there is no more research and development being done for CD-ROM drives. "It's a mature, end-of-life category," said Pine.

Still, despite the rosy outlook for the hardware, even Pine admits that this year won't be the Year of the DVD. One reason is that while many PC makers are adding DVD-ROM drives to machines priced around $2,000 and up, PC sales growth has occurred in the new sub-$1,000 category -- from which DVD is notably absent. "With the free-fall in PC prices, DVD-ROMs are chasing a moving target," said Pine. And while manufacturer prices for DVD drives have come down to nearly $100, CD-ROM drives are considerably less than half that. So for many PC makers -- especially those looking to save costs in order to build a profitable sub-$1,000 machine -- DVD-ROM drives are still treated as an "upgrade" option and as "standard equipment" in high-priced systems -- used as an enticement to move consumers away from the cheap machines.

But perhaps the most important reason why DVDs will still be a relatively slow starter by this holiday season is lack of software created specifically for DVD-ROM disks. While InfoTech predicts that nearly 500 DVD-ROM titles will be produced, that's just a drop in the ocean compared with the thousands of CD-ROM titles consumers can choose from today. And "more titles are being created for corporations than shrink wrap," said Pine. Many of the DVD-ROM titles still address company- or industry-specific needs for massive data storage -- every single credit-card transaction handled by a bank in one month or the White Pages listings for the entire nation on a single DVD disk rather than multiple CD-ROMs, for example. And even the handful of DVD-ROM titles that will be geared toward consumers this fall aren't new or ground-breaking. Some of the better-known DVD-ROM titles out now, such as Microsoft's Encarta encyclopedia and Riven, Broderbund's long-awaited game sequel to Myst, are also just single DVD versions (with some slight enhancements) of earlier multi-CD-ROM disk titles. "A lot of the stuff on the shelf is just repurpose or upgrades from the CD-ROM versions," says Pine. And the flood of DVD-ROM titles isn't expected until next year, when DVD titles break into the thousands rather than just the hundreds of units. And by InfoTech's reckoning, it won't be until after the turn of the century that the number of DVD-ROM-specific titles will break the tens-of-thousands mark.

Most big software makers, such as Microsoft, are taking it slow. "Right now, we think the DVD market is still in its very early stages," said Robert J. Bach, vice-president for learning, entertainment, and productivity at Microsoft's consumer software division. As such, Microsoft plans on releasing only one or two DVD titles, such as Encarta, for the PC this year. These are what Bach calls the "first wave" products -- titles that are easy to convert from multidisk products to a single disk. But it will take time for Microsoft's programmers to learn how to put DVD-ROMs to good use. "Now that I'm not constrained to one disk, what can I add" to the title to make it more compelling? asks Bach. And while he claims that production costs for DVD aren't much higher than for CD-ROM, Bach does note that marketing costs for a DVD-ROM title are just as high as for a CD-ROM title. And since the DVD-equipped PCs are still such a small segment of the overall market, it means there's not much chance of creating a profitable title. That's why he believes that the really innovative DVD titles for consumers, the so-called second- and third-wave products, won't arrive for another 6 to 12 months, when DVD drives are in every PC sold.

Still, others are convinced that DVD is set to take off -- especially now, while the bigger software publishers like Microsoft wait. "We think there's a real nice opportunity with DVD," said Paul Bader, president of Multimedia 2000, a software publisher in Seattle. Bader, who was formerly a principal at Compton's New Media, the software publisher that developed one of the first successful CD-ROM encyclopedias, believes that the only reason there isn't a viable DVD-ROM market today is that big software publishers are unwilling to forgo the CD-ROM market. With development costs for a hot PC software title rising to millions of dollars and nearly a year of production time (but only a few months of retail life on store shelves), it's no wonder that giant software publishers like Microsoft aren't rushing to develop DVDs. "They have a vested interest in protecting all that CD inventory in the warehouses," said Bader. "I would be very concerned if my CD inventory had to be written down every quarter based on the increasing velocity of DVD sales." That's why Bader believes small software houses such as his Multimedia 2000 could take the DVD-ROM software market by storm, much like Compton's did in the early 1990s with CD-ROMs. As such, Bader and his company hope to have five or six new DVD titles by this Christmas. They will be mostly reference works, such as a Home Improvement, an electronic guide book with full-motion video to walk do-it-yourselfers through common household tasks, but "we think it's good stuff for the consumers," said Bader.

But it's hard to say if the DVD-ROM market will be a replay of the CD market, where the small and quick publishers often won against the big and slow software developers. For one thing, DVD isn't the complete technological and conceptual revolution that multimedia CD-ROMs were in the early 1990s. Most software companies see DVD as an evolution, or a way to do multimedia better than with CD-ROM. So rather than rush into developing a new DVD title that doesn't work well or take into account all of the new technological capabilities, many believe taking their time works in their favor. After all, the memories of scores of early multimedia CD-ROM flops that were rushed to market in the early 1990s are still pretty fresh in many publishers' -- and consumers' -- minds. In this case, the slow and steady pace of the software giants may well win out in the end. And slow and steady means that the plain old cheap CDs will be around for quite a while.

By Paul Eng, Senior Correspondent, Business Week Online