Digital Movies Are Crushing DVDs As We Speak

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Are you waiting for digital movies to crush discs and tapes, once and for all? According to the analysts at IHS Screen Digest, that day is already here.

Much as when Apple (NAS: AAPL) and its iTunes store passed the largest CD sellers back in 2008, a new breed of movie services is passing physical-format sales and rentals for the first time ever, and there's no going back:

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That graph shows online films coming out of nowhere to totally obliterate the traditional distribution methods in just a few short years. Last year was a turning point where the new market matured, but 2012 will see the official changing of the guard. The S-curve then flattens out somewhat. By 2016, online movie purchases and rentals will outpace physical ones by about 2-to-1.

We're not talking about short-form YouTube videos here, or else the numbers would skew even further to the digital side. These are full-length theatrical features, the kind you'll find at Netflix (NAS: NFLX) and Amazon.com (NAS: AMZN) Instant Video.

Trouble in paradise?
It's not all wine and roses for the up-and-comers, though. IHS also notes that physical media still collects the lion's share of the dollars spent on filmed entertainment. In 2012, IHS predicts a $1.7 billion market for digital movies but $11.1 billion in DVD and Blu-ray sales.

That's because the average digital view costs just $0.51, versus $4.72 for your average purchased or rented disc.

Of course, pure digital delivery comes with just about zero overhead costs while discs cost a lot to press, pack, and ship. That's why Netflix and Amazon Prime can afford to give you unlimited viewing for a low monthly fee. Don't expect your local video store (if you still have one) to let you fill a shopping cart with DVDs for a few bucks. The two halves of the home-entertainment industry work under very different business models.

Furthermore, IHS predicts that rental plans will wipe out the market for buying digital media online in short order. That's good news for Netflix, bad for Apple -- which likes to sell videos in its iTunes store -- and a mixed bag for Amazon, which dabbles on both sides of the buy-or-rent fence.

Yes, but ...
These findings seem reasonable enough, though I expect the physical sales to dip further and digital to rise higher in the long term than what IHS believes. And let me just point out that digital-music sales passed CD sales in 2011, as measured in dollars collected, for the first time ever. Commenting on the music industry, Brian Zisk of the SF MusicTechSummit says that digital "is a much healthier ecosystem for folks to be selling digital formats instead of physical formats." He continued, "That's the future, and the way it's going." And I'd argue that the movie industry is walking down the same path.

If anything, I'm pretty sure that the conversion to digital will be even faster this time around. Have you noticed how many smartphones and tablets you see in the wild these days? Movies in digital format are perfect for mobile consumption, and Netflix integration in particular has been a major selling point of pretty much everything Apple makes these days. That trend goes hand-in-hand with the Wi-Fi broadband access points that are springing up across the map like the dollar weeds in my lawn.

But when was the last time you saw a tablet with a built-in DVD drive? My guess is, "never." If smartphones and iPads had been around when digital music first arrived, they'd have fueled an even quicker rise in that market -- and hastened the demise of CD sales.

The physical-media market is breaking down fast and is no place for a serious investor. Real Fools should leave this outdated business model behind and take a look at The Motley Fool's Top Stock for 2012 instead.

At the time this article was published Fool contributorAnders Bylundowns shares of Netflix but holds no other position in any of the companies mentioned. Motley Fool owns shares of Amazon.com and Apple.Motley Fool newsletter serviceshave recommended buying shares of Netflix, Apple, and Amazon.com and creating a bull call spread position in Apple. Try any of our Foolish newsletter servicesfree for 30 days. We Fools don't all hold the same opinion, but we all believe that considering a diverse range of insights makes us better investors. Check outAnders' holdings and bio, or follow him onTwitterandGoogle+. We have adisclosure policy.

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