Swedish based music streaming service Spotify’s listing on the New York Stock Exchange (NYSE) has been a muted success and left potential investors concerned that the business model of the company may not be robust enough to last long term. While the stock was up on the predicted reference price of US$132, closing at US$149, this was down on its daily peak of US$165.90. Not bad news, but certainly not the exciting IPO everyone was hoping for.
When a stock fails to meet expectations, questions start getting asked. In the case of Spotify, those questions have been asked for some years, but now are getting the coverage that many argue they always deserved.
In the centre of concerns is how Spotify makes money. The answer is that it doesn’t. Even with annual revenues of just over US$5 billion, the streaming service loses approximately US$1.3 billion every year.
How?
Because Spotify is beholden to major record labels including Universal and Sony who swallow up just under three-quarters of that revenue in royalty payments. To say that Spotify has US$5 billion in annual revenue, and is deserving of its US$26.5 billion valuation is simply misguided. Remember, even removing three-quarters of the annual revenue doesn’t allow you to estimate profitability – there are still the usual costs associated with doing business to take into account.
And that bottom line, as mentioned, is an annualised loss of US $1.3 billion, an extraordinary sum, and not one that looks likely to improve. Despite Spotify having 88 million subscribers on its free service, advertiser revenue to those users only accounts for 9.3% of revenue. The ability of the company to generate revenue through advertising is absolutely crucial, and so far the company has been happy to point to its subscriber base on the optimistic pretence that everything will work out fine.
Today, Wall Street is still excited about Spotify, but once the sheen wears off, and the realities of this competitive market- including Apple Music destroying market share- come into play, it will become more apparent as to whether the company has some more cards up its sleeve, or is destined to be the next SnapChat.