Can Spotify's free music pay off?
Spotify's digital music service has been hailed as the future of online music. But can its business model hold up?
Despite having spent less than £5,000 marketing itself since its launch three years ago, Spotify is fast becoming a household name, pulling in the punters with an offer that looks too good to be true: all the online music anyone could want, for nothing except the bother of having to listen to an advert rather less frequently than on radio. And it's legal.
But the trouble with things that look too good to be true is they often turn out to be exactly that. Questions are being raised about the financial viability of the Stockholm-based business and the nature of the ties it has with the music labels whose content it showcases.
The world of digital music is littered with failures and also-rans, with names that would not look out of place at the bottom of the bill for a college rock festival. Spiralfrog and Ruckus both collapsed earlier this year. Both had backers among the labels but neither managed to build a profitable long-term business on the idea of using online advertising to subsidise a free music service. Rival Qtrax, meanwhile, hit the headlines after a glitzy launch last year, only for it to emerge that it did not have the rights to the tracks it was offering. It has still not launched.
It is clear that relying on advertising to back up your online service is tough. The UK has its own ad-backed streaming music service, We7, which is more advertising-heavy than Spotify, playing quick "blipverts" before most songs. Even so, the going is hard, admits chief executive and founding investor Steve Purdham. "The only thing we have to do now is to get the final piece of the puzzle working, which is to get enough advertising sales that actually cover the fact that when you fancy listening to Robbie Williams we can actually pay for that. That is starting to happen," he said.
We7 is backed by singer Peter Gabriel, whose last foray into digital music – OD2 – is now part of Nokia. It hopes to break even in the UK towards the end of 2010, but that is by no means a certainty.
"We7 is the business challenge of climbing Everest – if you think about survival on the face of Everest, it's not very nice," Purdham said. "So running a business that is just scrimping and scraping and not really growing is actually not survival, it's death. In my terms, there are only really two outcomes. Either we will grow or we will die. At the moment everything is going the right way but it's still a very challenging business."
Spotify is trying to build a hybrid business model, looking to generate revenues not just from advertising but by persuading people to sign up for a monthly subscription to an ad-free service which can also be used on a host of mobile phone handsets including the iPhone. Music industry sources suggest that in some of its markets Spotify has a conversion rate – people moving from the free service to a subscription – of about 12%. Spotify says it has more subscribers in the UK than anywhere else. It is also partnering with internet service providers who bundle it with their residential broadband packages – it already has a deal in Scandinavia with TeliaSonera.
But last week the blogosphere was alight with speculation about Spotify's model, fuelled by reports in its home market that it paid Lady Gaga – through the Swedish performing rights society STIM – a mere 1,150 kronor (£100) for a million streams of her song 'Poker Face'. Spotify stresses that payments to STIM only represent a fraction of the money received by rights holders and the figure is only for one country. But those reports have raised questions about how much money the music labels are making from Spotify and whether they have an ulterior motive for supporting the firm.
To make a service such as Spotify legitimate, two groups must get a cut: the owner of the copyright in the composition – the publisher – and the owner of the copyright in the sound recording – the record company. Traditionally the payment to the record company is far higher than to the publisher, the assumption being that music publishing enjoys steadier earnings over a longer time. For the UK's radio industry, these two groups are looked after by PRS and PPL. PRS has moved into the licensing of online streaming services on behalf of publishers, charging 0.085p per track. But rather than collective bargaining through PPL, the companies have decided to do their own deals with most streaming sites.
As part of that process all four music majors – Universal, Warner, Sony and EMI – plus Merlin, which looks after a host of independent labels, have taken a stake in Spotify. This has raised speculation that the labels have accepted a lower than usual return, to let Spotify get itself established and allow them to use it as proof of their willingness to work with online companies. Spotify has been very useful in persuading politicians involved in legislating against unlawful peer-to-peer file-sharers that the industry is willing to work with legitimate services.
It has more than 6 million users, roughly half in the UK, and the more than 6.5 million tracks are creating over a billion streams a month. When he announced plans to sever the broadband connections of pirates, Lord Mandelson mentioned Spotify as an example of the commercial alternatives to piracy. "In the context of government there is no doubt that Spotify does provide the labels with the chance to say 'here's the carrot, now give us a stick please'," said one music industry insider. But Spotify's PR man dismissed this as "That's one heck of a conspiracy theory! We've come a long way in a short period but we know we're far from perfect. That's what drives us."
There is embryonic evidence in Sweden that the rise of legal, free music services are helping switch people away from pirate sites. According to industry body IFPI Sweden, music sales are up 18% in the first nine months of this year.
Rob Wells, head of digital at Universal Music Group International and the man who negotiated the Spotify deal on behalf of the label, denies the industry is using Spotify as a Trojan horse. "We don't do these deals because of government pressure," he said. "We do these deals because we are strategically excited about selling more music to more people. It's as simple as that and the side effect of that is it's great the government looks at these deals and says Universal is doing something."
Taking a stake is a commercial decision, he adds, which also ensures labels can benefit from any potential sale or flotation, and is not a return for taking a smaller cut in revenues. "We have standard terms for any service like this and it's a 'greater of' model," he explained. "It's the greater of three things: there will be a per play minimum, so in the event they have huge volumes of consumers playing tracks, they pay us on a per-play minimum; or they pay us on a share of advertising revenue; or they pay us on a per-subscriber minimum, whichever is the greater of those three things," he says.
And the revenues are flowing, he stresses. In revenue terms, Spotify Sweden is now Universal Music Group International's eighth largest business partner, out of 1,400. "Watch this space. Those guys are absolutely on fire, you are going to see some amazing developments over the next three to six months." The labels are certainly excited about Spotify but it is going to take time before the rest of the industry is convinced that the Swedes really have changed the tune.
Katie Allen and Richard Wray
The Observer, Sunday 29 November 2009
guardian.co.uk © Guardian News and Media Limited 2009
Spotify's digital music service has been hailed as the future of online music. But can its business model hold up?
Despite having spent less than £5,000 marketing itself since its launch three years ago, Spotify is fast becoming a household name, pulling in the punters with an offer that looks too good to be true: all the online music anyone could want, for nothing except the bother of having to listen to an advert rather less frequently than on radio. And it's legal.
But the trouble with things that look too good to be true is they often turn out to be exactly that. Questions are being raised about the financial viability of the Stockholm-based business and the nature of the ties it has with the music labels whose content it showcases.
The world of digital music is littered with failures and also-rans, with names that would not look out of place at the bottom of the bill for a college rock festival. Spiralfrog and Ruckus both collapsed earlier this year. Both had backers among the labels but neither managed to build a profitable long-term business on the idea of using online advertising to subsidise a free music service. Rival Qtrax, meanwhile, hit the headlines after a glitzy launch last year, only for it to emerge that it did not have the rights to the tracks it was offering. It has still not launched.
It is clear that relying on advertising to back up your online service is tough. The UK has its own ad-backed streaming music service, We7, which is more advertising-heavy than Spotify, playing quick "blipverts" before most songs. Even so, the going is hard, admits chief executive and founding investor Steve Purdham. "The only thing we have to do now is to get the final piece of the puzzle working, which is to get enough advertising sales that actually cover the fact that when you fancy listening to Robbie Williams we can actually pay for that. That is starting to happen," he said.
We7 is backed by singer Peter Gabriel, whose last foray into digital music – OD2 – is now part of Nokia. It hopes to break even in the UK towards the end of 2010, but that is by no means a certainty.
"We7 is the business challenge of climbing Everest – if you think about survival on the face of Everest, it's not very nice," Purdham said. "So running a business that is just scrimping and scraping and not really growing is actually not survival, it's death. In my terms, there are only really two outcomes. Either we will grow or we will die. At the moment everything is going the right way but it's still a very challenging business."
Spotify is trying to build a hybrid business model, looking to generate revenues not just from advertising but by persuading people to sign up for a monthly subscription to an ad-free service which can also be used on a host of mobile phone handsets including the iPhone. Music industry sources suggest that in some of its markets Spotify has a conversion rate – people moving from the free service to a subscription – of about 12%. Spotify says it has more subscribers in the UK than anywhere else. It is also partnering with internet service providers who bundle it with their residential broadband packages – it already has a deal in Scandinavia with TeliaSonera.
But last week the blogosphere was alight with speculation about Spotify's model, fuelled by reports in its home market that it paid Lady Gaga – through the Swedish performing rights society STIM – a mere 1,150 kronor (£100) for a million streams of her song 'Poker Face'. Spotify stresses that payments to STIM only represent a fraction of the money received by rights holders and the figure is only for one country. But those reports have raised questions about how much money the music labels are making from Spotify and whether they have an ulterior motive for supporting the firm.
To make a service such as Spotify legitimate, two groups must get a cut: the owner of the copyright in the composition – the publisher – and the owner of the copyright in the sound recording – the record company. Traditionally the payment to the record company is far higher than to the publisher, the assumption being that music publishing enjoys steadier earnings over a longer time. For the UK's radio industry, these two groups are looked after by PRS and PPL. PRS has moved into the licensing of online streaming services on behalf of publishers, charging 0.085p per track. But rather than collective bargaining through PPL, the companies have decided to do their own deals with most streaming sites.
As part of that process all four music majors – Universal, Warner, Sony and EMI – plus Merlin, which looks after a host of independent labels, have taken a stake in Spotify. This has raised speculation that the labels have accepted a lower than usual return, to let Spotify get itself established and allow them to use it as proof of their willingness to work with online companies. Spotify has been very useful in persuading politicians involved in legislating against unlawful peer-to-peer file-sharers that the industry is willing to work with legitimate services.
It has more than 6 million users, roughly half in the UK, and the more than 6.5 million tracks are creating over a billion streams a month. When he announced plans to sever the broadband connections of pirates, Lord Mandelson mentioned Spotify as an example of the commercial alternatives to piracy. "In the context of government there is no doubt that Spotify does provide the labels with the chance to say 'here's the carrot, now give us a stick please'," said one music industry insider. But Spotify's PR man dismissed this as "That's one heck of a conspiracy theory! We've come a long way in a short period but we know we're far from perfect. That's what drives us."
There is embryonic evidence in Sweden that the rise of legal, free music services are helping switch people away from pirate sites. According to industry body IFPI Sweden, music sales are up 18% in the first nine months of this year.
Rob Wells, head of digital at Universal Music Group International and the man who negotiated the Spotify deal on behalf of the label, denies the industry is using Spotify as a Trojan horse. "We don't do these deals because of government pressure," he said. "We do these deals because we are strategically excited about selling more music to more people. It's as simple as that and the side effect of that is it's great the government looks at these deals and says Universal is doing something."
Taking a stake is a commercial decision, he adds, which also ensures labels can benefit from any potential sale or flotation, and is not a return for taking a smaller cut in revenues. "We have standard terms for any service like this and it's a 'greater of' model," he explained. "It's the greater of three things: there will be a per play minimum, so in the event they have huge volumes of consumers playing tracks, they pay us on a per-play minimum; or they pay us on a share of advertising revenue; or they pay us on a per-subscriber minimum, whichever is the greater of those three things," he says.
And the revenues are flowing, he stresses. In revenue terms, Spotify Sweden is now Universal Music Group International's eighth largest business partner, out of 1,400. "Watch this space. Those guys are absolutely on fire, you are going to see some amazing developments over the next three to six months." The labels are certainly excited about Spotify but it is going to take time before the rest of the industry is convinced that the Swedes really have changed the tune.
Katie Allen and Richard Wray
The Observer, Sunday 29 November 2009
guardian.co.uk © Guardian News and Media Limited 2009
