“[All the music-streaming services] are looking for that sweet spot where they have a large enough subscriber base … that they can be profitable,” said Don Gorder, founder and chairman of Berklee College of Music’s music business and management department. “Will we get there? I’m still optimistic.”
Spotify, the wildly popular music-streaming service, has some bold corporate moves in the works, but users may have to kiss their free tunes goodbye if the firm doesn’t get its finances in order.
The company announced the beta test of its upcoming web player on March 7, with the promise of a full version coming later this year. Beginning Monday, it aired commercials during NBC’s The Voice as part of its first television advertising campaign. And though they’ve been denied by Spotify’s CEO, rumors are circulating that the company may soon challenge the likes of Netflix and Hulu by providing on-demand video services, including original content.
Yet all this may amount to nothing if the London-based corporation fails to correct its floundering business model. Although it boasts more than 24 million active users, including 6 million who pay for ad-free, mobile-accessible premium accounts, Spotify — valued at $3 billion by Business Insider — posted a net loss of $56.6 million in 2011.
It’s a problem plaguing its competitors as well. Fellow music-streaming service Pandora hasn’t netted a yearly profit in its more than ten years of existence.
“It’s a very expensive business to be in,” said Don Gorder, founder and chairman of Berklee College of Music’s music business and management department.
The reason? Few users of these music services choose to pay for ad-free listening and other perks, preferring to suffer through the occasional commercial versus receiving a monthly bill.
In the future, Spotify hopes to convert its free service users — currently about 80 percent of its user base — to paid subscribers, Gorder said.
“That’s the one thing, I think, where they could reach scale … that they get enough paid subscribers such that they can be profitable,” he said. “But they’re not there yet, and none of these services are there yet.”
While users who do elect to purchase premium accounts supplement significant advertising dollars, that revenue fails to cover Spotify’s costs. About 70 percent of the corporation’s revenue funnels into royalty payments to record companies, which charge Spotify for every play of their artists’ tracks. Of the remaining 30 percent, 20 is spent on attracting customers, leaving just one-tenth of its total revenue to cover all remaining costs.
The company is currently attempting to renegotiate its royalty rates with big-name labels such as Warner Music, Sony and Universal, which would go a long way toward rectifying its financial issues. Given the growth Spotify has stimulated in the digital music market, it’s difficult to believe those invested in the industry would allow it to fail. As a result, many expect Spotify to leave the negotiating table with some form of a deal.
“I think they are gaining some leverage with the labels,” Gorder said. “The labels know that they have to be there.”
However, record labels’ contractual obligations to their artists will most likely affect any bargaining attempts. Many artists are disgruntled with Spotify’s low payouts, which fail to amount to significant revenue, even if their songs receive heavy play. Patrick Carney, outspoken drummer for The Black Keys, went so far as to call Spotify board member Sean Parker “an asshole” for “steal[ing] royalties from artists.”
Despite this point of contention, Gorder believes artists will ultimately need to accept Spotify’s existence.
“Spotify says, ‘You can’t blame us for this paltry amount that the artists are getting, because we don’t pay artists; we pay labels,” he said. “So the real point of conflict there is those deals with the labels and the artists.”
For each play of an individual track, Spotify pays less than a cent to a record company, which receives a cut before paying the song’s creator. These payments rarely amount to a substantial sum for individual musicians, but they certainly take a toll on Spotify’s finances. Since its 2008 launch, the company has returned more than $500 million of its total revenue to record labels, illustrating the complexities of developing a viable business model in the digital music industry.
The likelihood of its web player and advertising initiatives generating the profit Spotify requires is seemingly slim. Users can already access the service on their computers, and premium account holders can use Spotify on their mobile devices. A universal web player may be convenient for nonpaying users, but it’s unlikely to result in much additional advertising. In addition, Spotify’s rapid growth hasn’t been able to overcome royalty fees thus far, so new users enticed by TV advertising won’t necessarily improve profit margins.
Incidentally, the one move Spotify purportedly isn’t considering could prove to be the real solution. If it chooses to follow in Netflix’s footsteps and stream television shows and original content, it may manage to cover more of its current losses. While Netflix posted disappointing losses in the international streaming market in 2012, its domestic DVD and television offerings more than made up for its woes outside the U.S. If Spotify chooses to begin providing video streaming services to a limited market, it could conceivably grow into a Netflix competitor and turn around its poor profit margins.
For now, though, the corporation appears content with its current business model, though Gorder believes Spotify will ultimately be forced to abandon its free service due to its lack of profitability. But even with cutting its most costly offering, he remains skeptical that the business will meet with financial success in the long run.
“I think the jury, quite frankly, is still out whether Spotify can make it,” Gorder said.
Even if the company goes under, another music-streaming service could still succeed where Spotify failed, Gorder said.
“They’re all looking for that sweet spot where they have a large enough subscriber base … that they can be profitable,” Gorder said. “Will we get there? I’m still optimistic.”
